Loews Corporation
Q3 2014 Earnings Call Transcript

Published: 4 Nov 2014

[Operator:]

Ladies and gentlemen, thank you for standing by and welcome to the Loews Q3 2014 Earnings Conference Call. (Operator instructions.) It is now my pleasure to turn the floor over to Mary Skafidas, Vice President of Investor and Public Relations. You may begin.

[Mary Skafidas:]

Thank you, Paula, and good morning everyone. Welcome to the Loews Corporation Q3 2014 Earnings Conference Call. A copy of our earnings release and earnings snapshot may be found on our website www.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 projections made in any forward-looking statement. Forward-looking statements reflect circumstances at the time they are made and 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 for reconciliation to the most comparable GAAP measures. I will now turn the call over to Loews’ Chief Executive Officer Jim Tisch.

[Jim Tisch:]

Good morning and thank you for joining us on our call today. In Q3 Loews had net income from continuing operations of $179 million or $0.47 per share compared to $318 million or $0.82 per share for Q3 2013. The main causes of this decline were results at CNA and at the parent company’s investment portfolio. Our CFO David Edelson will provide more detail in his remarks. Before reviewing key developments in our businesses I want to take a moment to focus on our share repurchases. Year-to-date we have repurchased 13.6 million shares of Loews common stock for $581 million. In Q3 we repurchased 5.1 million shares and since October 1st we have repurchased an additional 4.0 million shares. At the holding company level share repurchases are one of the key levers we use to increase shareholder value. The other levers are investing in our subsidiaries and acquiring new businesses. Additionally as I like to say, if there’s nothing to do, do nothing. We are comfortable letting our portfolio of cash and investments build if we don’t see near-term opportunities. One of the metrics we consider when thinking about Loews share repurchases is the sum of the parts calculation and especially the sum of the market values of our publicly traded parts compared to the price of Loews shares. Importantly we also assess the sum of the parts based on our own view of the intrinsic value of each of our publicly traded subsidiaries rather than just the market price. The lower our share price relative to these valuations the more excited we are about repurchasing our shares. We try to look beyond today’s market sentiment and consider the longer-term prospects for each of our businesses when we repurchase shares. We’ve always believed that repurchasing our shares at prices below intrinsic value enhances the long-term value of Loews common stock. Our share repurchases have greatly contributed to the significant long-term outperformance of our stock versus the S&P 500. Now let’s take a look at the performance of our subsidiaries. At CNA the company remains focused on improving underwriting results even as rate increases become less robust across the commercial property/casualty market. Both CNA Specialty and CNA Commercial improved their underlying loss and combined ratios versus the prior year, although operating income decreased for reasons David Edelson will explain shortly. CNA’s management team continues to take underwriting actions to improve profitability in CNA Commercial, with the goal of CNA eventually becoming a top quartile underwriter. CNA Specialty, which represents almost half of CNA’s P&C net premiums continues to perform quite well. CNA’s balance sheet reflects its financial strength and stability. With $11.4 billion of statutory surplus and $13.0 billion of GAAP equity the company’s capital position has never been stronger. Turning to Diamond, the offshore drilling market continues to be challenging with day rates well off their peaks and long-term contracts few and far between. The difficult market conditions are reflected in Diamond’s operating results and its decision to scrap six mid-water floaters. That being said there is good news to report from Diamond. On October 23rd the company announced a contract with Hess Corporation for the last two of Diamond’s new build drill ships – the Ocean Black Rhino and the Ocean Black Lion. The Hess contract, which was a result of Herculean efforts by Diamond’s new management team, are expected to generate combined total revenue of about $1 billion and represent seven years of contract billing backlog. With this agreement all of Diamond’s new builds have been awarded long-term contracts. In addition, all four new build drill ships will be working in the US Gulf of Mexico where they will have lower operating costs than in international ultra-deepwater markets. Equally important, Diamond recently announced that Petrobras has extended the contracts on three ultra-deepwater semi-submersibles. These contracts are expected to generate a maximum total revenue of $1.4 billion and represent an additional nine years of contract drilling backlog. And finally during the quarter Diamond increased its revolving credit facility to $1.5 billion, adding flexibility to its already strong balance sheet. The goal is to position Diamond to take advantage of opportunities that may arise from the difficult conditions in the offshore drilling market. Moving on to Boardwalk, the company continues to make headway on securing long-term commitments from customers to utilize new build pipelines connecting to end use markets. Boardwalk’s pipeline project that will supply natural gas to the Freeport LNG terminal is a great example of this strategy in action. Boardwalk has entered into a twenty-year firm agreement with shippers to transport approximately 1.4 billion cubic feet a day of natural gas to the planned liquefaction terminal in Freeport, Texas. The company anticipates starting operations in 2018 and expects to earn a double-digit unlevered return on assets. Boardwalk is seeing more opportunities like the Freeport project with attractive rates of return that ultimately should position the company for growth over the long term. Last but not least, let’s turn to Loews Hotels. Loews Hotels continues to focus on building its brand and broadening its customer base through the addition of new properties in gateway cities and resort destinations. The financial results are improving nicely although that’s tough to discern from our reported segment information as David will highlight. During the quarter Loews Hotels announced that in partnership with Universal Studios, it will develop its fifth hotel in Orlando, the Loews Sapphire Falls. With this project Loews will build on its very successful 15-year partnership with Universal Studios. When the 1000-room Sapphire Falls opens in the second half of 2016 it will bring the total number of on-site hotel rooms at Universal Orlando to 5200. As a reminder, the 400-room Loews Chicago Hotel is scheduled to open during Q1 2015. As I like to say, make your reservations now. With the addition of the Loews Chicago Hotel and the new resort in Orlando, our network will have grown from 18 hotels in 2012 to 23 hotels by the end of 2016; and in that same period the number of rooms will have increased 50% from just over 8000 to more than 12,000. Now I’d like to turn the call over to David for more details on our Q3 results.

[David Edelson:]

Thank you, Jim, and good morning. For Q3 2014 as Jim reported, Loews reported income from continuing operations of $179 million or $0.47 per share compared to $318 million or $0.82 per share last year. Net income which includes a gain from discontinued operations of $29 million was $208 million for this year’s Q3. For the nine months ended September 30, 2014, income from continuing operations was $747 million or $1.94 per share as compared to $901 million or $2.31 per share in the prior-year period. Our earnings this quarter were negatively affected by declines at CNA, Diamond and Boardwalk as well as by lower parent company investment results. CNA’s contribution to income from continuing operations including net realized gains was $188 million in Q3 2014 versus $245 million last year. The decline was primarily attributable to lower income from LP investments, adverse prior-year development in CNA Commercial, underwriting losses at Hardy, and a loss on an annuity coinsurance transaction related to the sale during the quarter of Continental Assurance Company. These negatives were only partially offset by improved calendar year underwriting results at CNA Specialty, lower year-over-year catastrophe losses, and higher realized gains. Diamond Offshore’s contribution to income from continuing operation for Q3 2014 was $25 million compared to $44 million in the prior-year quarter. An impairment charge impacted Diamond’s Q3 earnings as the company decided to retire and scrap six mid-water semi-submersible rigs. This impairment charge reduced Loews’ Q3 earnings by $55 million. As a reminder, during last year’s Q3 Diamond’s earnings were impacted by lost revenue and bad debt expense as two Diamond customers experienced financial difficulty. This reduced Diamond’s contribution to Loews’ after-tax income in Q3 2013 by $35 million. Diamond’s Q3 2014 net income also reflected higher depreciation and interest expense and an increased effective tax rate as the rig impairments did not provide a tax benefit, and separately a change in UK tax laws resulted in additional taxes. As a partial offset Diamond benefited from settling uncertain tax positions related to several foreign jurisdictions. Boardwalk Pipeline’s contribution to income from continuing operations was $8 million I this year’s Q3 as compared to $19 million in Q3 2013. The main drivers of the decline in Boardwalk’s income were lower storage and parking and lending revenues as the market for these services was weak, and higher operating expenses. Additionally the gains on the sale of storage gas that were booked in Q3 2013 did not recur in Q3 2014. Loews Hotels and Resorts contributed a diminutive amount to income from continuing operations in both Q3 2014 and the comparable quarter in 2013. Underlying earnings improvements were masked by various nonrecurring items such as costs connected to the purchase of the Loews Minneapolis and Loews Chicago O’Hare properties and mortgage defeasance costs from the refinancing of Loews Miami Beach. Additionally Q3 2013 included a one-time gain in the sale of equity interest in the Loews Madison and Loews Boston Hotels. Stripping out these and other nonrecurring items in both years, pretax income was up almost $11 million over Q3 2013. The $51 million decline in after-tax parent company investment income during Q3 was largely attributable to equity investments including gold-related equities as well as LP investments. As you recall during Q2 2014 we reported within discontinued operations a net impairment charge of $167 million related to the announced sale process for HighMount. During Q3 we recognized a $30 million positive adjustment to the previously-booked impairment charge to reflect the actual sales proceeds. HighMount’s operating results for Q3 are also included in discontinued operations. Holding company cash and investments at quarter end totaled $5.2 billion as compared to $4.9 billion at the end of June. We received $135 million in dividends from our subsidiaries in Q3 which breaks down as follows

[Jim Tisch:]

Thank you, David. Before we open up the call to questions I wanted to summarize the highlights at Loews. For CNA it’s slow and steady wins the race. CNA has posted consistent underwriting improvement and maintains a very strong capital position. At Boardwalk we are seeing growth prospects because of the increased demand for natural gas transportation as natural gas production looks to grow almost 20% by the end of the decade. And finally at Diamond trouble is opportunity. With day rates declining in the offshore drilling market hopefully Diamond will have occasion to grow its fleet by purchasing rigs at a discount to new build prices. Overall there is tremendous change happening in the industries in which are businesses are operating, and we are focused on turning that change into growth opportunities that will benefit our shareholders well into the future. Now I’d like to turn the call back to Mary.

[Mary Skafidas:]

Thank you, Jim. This concludes our prepared remarks and we’d like to open up the call for questions. Paula?

[Operator:]

The floor is now open for questions. (Operator instructions.) Your first question comes from the line of Josh Shanker of Deutsche Bank.

[Josh Shanker:]

Yeah, thank you very much. Jim, I’m going to tell one of your stories and I’m going to tell it wrong so you can fix the story and fill it in I guess. When you look at maybe it was the Majestic tankers once upon a time or the early days before Diamond was Diamond, and you saw it and you said “I get all this for $10 million,” or I can’t remember if the number was really $25 million or whatever it was. Where are we in terms of the offshore drilling business or the natural gas pipeline business, did you look at that and say “Oh my God, I can’t believe that you can buy this business for this cheap right now?”

[Jim Tisch:]

No, it wasn’t $10 million, it wasn’t $25 million – it was $5 million. And it really was a jaw-droppingly low price considering the assets we were buying. I don’t anticipate that in the offshore drilling business that we’re going to get to those $5 million levels, but I do see that there are new build drill ships that are scheduled to come out of the yard that don’t have contracts. There are also a number of very highly levered also drilling contractors in the industry and it would not surprise me to see some of our competitors get into financial trouble where they are put into a position or where their lenders are put into a position that they have to sell rigs. And what Diamond has done is it has prepared itself for that possibility. Diamond has done this before, most recently in ’09 when we bought two rigs out of bankruptcy court – The Courage and The Valor. Those rigs are both working profitably for Petrobras and just had their contracts renewed. So we’re taking a wait and see attitude. Right now there’s nothing to be done but it is very possible in the next six months to one, two, or three years depending on what happens to a lot of different things – there could be very interesting opportunities for Diamond. With respect to natural gas pipelines it’s a different story. We don’t see the possibility at all of buying existing assets at cheap valuations. But what we do see is that there are very interesting opportunities to build new pipes to accommodate the significant increase in gas production that has to flow from the areas where the gas is being produced to the areas where the gas is actually being consumed – so that the Freeport LNG project that we actually announced this quarter is such a case where we’re actually able to earn what we think will be a very attractive rate of return on assets. And with typical MLP leverage of say 50% the rate of return on equity can be significantly higher.

[Josh Shanker:]

Those are great answers, I appreciate it. And one other answer which I imagine you’re going to tell me that you’re not going to tell me

[Jim Tisch:]

So I guess what you’re talking about is our hotel properties because that’s pretty much all of the real estate that we have on our balance sheet. And I would say that you have to look at that on a property-by-property basis. Starting next quarter we are going to significantly improve the disclosures with respect to our hotel company, and that may be able to give you a bit of an indication of the valuations of our properties. Additionally if you want to think about what the valuation is, get on a plane, go down to Florida, look at our Miami Beach hotel, look at what we’ve put in place at Universal Studios, remembering that we have a 50% interest. And my guess is that any good hotel person should be able to give you a good ballpark estimate of what those properties are worth.

[Josh Shanker:]

Well I might just do that – the winter’s coming so it doesn’t sound like such a bad idea. Thank you very much.

[Jim Tisch:]

My pleasure.

[Operator:]

Your next question comes from Bob Glasspiegel at Janney Capital.

[Bob Glasspiegel:]

Yeah, Josh is a smart fellow there. On the HighMount sale, can you give me the pieces we should think about as it affects the sort of asset value? You’ve got some cash; you’ve got some deferred tax assets and you kept some properties ex the divestiture. So what are the key balance sheet items for the (q)?

[Jim Tisch:]

Bob, the key balance sheet items are we sold HighMount in its entirety – we got cash for that. We have no properties and I don’t think we booked anything in terms of taxes. We do have a tax loss carry forward that should benefit us over the next several years.

[Bob Glasspiegel:]

I thought there was a deferred tax asset, David. Didn’t we talk through that or am I misremembering that?

[David Edelson:]

Yeah, that was transferred to the Loews level.

[Bob Glasspiegel:]

And how much is that?

[David Edelson:]

I’m recalling I think it was about $500 million or thereabouts.

[Bob Glasspiegel:]

Okay, and the cash is how much?

[David Edelson:]

Well, the net proceeds we disclosed were $794 million and we disclosed that out of that we repaid debt of $480 million.

[Bob Glasspiegel:]

Okay.

[Jim Tisch:]

So the net amount is the difference between those two - $314 million.

[Bob Glasspiegel:]

Right. And tax loss carry forwards, how big?

[David Edelson:]

We have not disclosed that, Bob.

[Bob Glasspiegel:]

Can I read that off the (q) when it comes out or that’s not disclosed in the (q)?

[David Edelson:]

No.

[Bob Glasspiegel:]

Okay. Second thing – trading losses you said in the quarter were gold and what was the other contributor?

[David Edelson:]

LP investments.

[Bob Glasspiegel:]

Okay. Go ahead, I’m sorry?

[David Edelson:]

That was all of it. That really accounted for the delta between last year’s Q3 and this year’s Q3.

[Bob Glasspiegel:]

$79 million, that’s a pretty big swing just on gold and LPs.

[David Edelson:]

Yep.

[Bob Glasspiegel:]

Okay, and just finally gold, I mean oil going below $80 a barrel, Goldman saying $75. How should we think about that on your sort of portfolio of companies?

[Jim Tisch:]

Well, we’re not in HighMount anymore so it doesn’t affect us there. It may have an impact in offshore drilling but I don’t really think so because in offshore drilling typically oil companies are thinking three and four years out and not thinking about tomorrow. That’s the mindset of those that are drilling for shale oil because in shale number one, you can turn the spigot on and off with respect to drilling very quickly. Number two, in the shale oil production you get a big burst of production initially and then it trails off rather quickly so that you want to make sure if you’re producing shale oil, that when you frac the well and turn it on it is producing at a time when oil prices are relatively attractive. My guess for what it’s worth is that oil prices between $75 and $80 a barrel are going to have a rather significant effect on US oil production. Right now the numbers call for US oil production to increase next year by 750,000 to 1 million barrels a day – somewhere in that region. My guess, my fearless forecast is that if oil prices stay where they are you will see US production increasing by a significantly smaller amount and that’s due to the fact that for shale oil producers that are not hedged in terms of their oil prices. They will see a very dramatic decline in their free cash flow, and to the extent that so many of them are below investment grade it’ll be difficult for them to get new financing to actually pay for the cost of drilling. So I would not be surprised at all to see the [Bakers use oil drilling rig count] decline rather significantly in the coming months if oil prices stay at this level.

[Bob Glasspiegel:]

Okay, that sort of sets the backdrop for the opportunities that you’re maybe seeing in buying drilling rigs down the line?

[Jim Tisch:]

No, no – when I talk about shale I’m talking about land drilling. My guess though is that oil prices, current oil prices will not affect offshore drilling nearly as much as it affects the land drilling, because the horizon for a company drilling offshore prospects – the horizon is say two to five years. The horizon for somebody drilling a shale well onshore is six months to a year. So it’s a dramatically different mindset between the two oil companies.

[Bob Glasspiegel:]

Right, thank you.

[Jim Tisch:]

My pleasure.

[Operator:]

Your next question comes from Andy Baker of Barclays Capital.

[Andy Baker:]

Thank you, good morning guys. Just a question for you

[Jim Tisch:]

You know, like everybody else it’s really tough. With respect to stocks they are high although as I’m sure you know, when you parse through the indexes you see that there are some stocks making new highs, but there are also a lot of stocks that are well below their highs and well below their intermediate-term moving averages. So the guys that are managing our equity portfolio are still finding opportunities in which to invest. In terms of fixed income, I would say that generally we are decidedly bearish about interest rates and we’re generally pretty bearish about most of the markets within the interest rate market. For example, investment-grade bonds and below-investment-grade bonds – we’re not excited at all about that. We think that interest rates on these securities should be higher as should interest rates on government bonds, and it’s our guess that over time that will in fact happen. So right now for CNA we’re generally keeping our fixed income portfolio in our non-matched accounts as short as we can. We’re playing the roll down in the yields and we’re actually hoping for a time when interest rates go higher and when we can get excited about investing in fixed income.

[Andy Baker:]

And in terms of, obviously your primary use of cash is either make investments or buy back your own shares and buying back your own shares at a discount to its NAV is generally a very good, a big positive for NAV in general. I mean when you look forward do you develop sort of expected returns across your portfolio, across your equity portfolio and then compare the opportunity that you see externally with the opportunity you see in your own stock?

[Jim Tisch:]

So when I think about my job description, I would say there are two words that best describe it, and that is “asset allocator.” And what we tend to do here at Loews all the time is think about where to invest cash. We have lots and lots of different opportunities to do that. We can do that in our subsidiaries from time to the extent that they have projects that need help from us. We can invest in reinvesting fixed income for CNA. We’re constantly looking at equity prices; we’re constantly looking at rates of return that can be had on one type of investment versus another. And in fact we got out of the, the reason that we sold HighMount is because we saw the rates of return that we could achieve by putting more money into HighMount was insufficient compared to the rates of return that we could see in other areas of investment. So we’re constantly monitoring markets. We’re constantly looking at corporate transactions to buy a new business. We’re constantly assessing the value of Loews; we’re constantly assessing the value of the stock market and the rates of return that can be available in other investments – and putting that into our heads and every day coming to decisions as to where the most attractive investments are. And share repurchases are just one part of that larger puzzle.

[Andy Baker:]

Thanks, Jim. And then just lastly in the past you’ve talked about maybe some broader themes that you’ve sort of been inspired by or that have guided some of your investment. Anything out there that you see maybe longer-term or not so long-term that you think is an interesting sort of thesis for you to be looking at, or an investment thesis?

[Jim Tisch:]

You know, there’s nothing that really grabs me right now. I was thinking the other day, Josh previously mentioned the Jim Tisch $5 million test. And I was, separately and apart from Josh the other day I was thinking about the early ‘80s when we got into super tankers and when we were able to buy seven- or eight-year-old super tankers that had cost $15 million apiece when we were able to buy them for $5 million apiece. The difference then and now is that the financial markets and the investment markets are dramatically more crowded. When we bought super tankers there was nobody else looking at buying super tankers, and I contrast that to today when a few years ago when super tankers and shipping took just a little dip there were lots and lots of investors, asset managers looking to go into the market. So the main thing that I see right now is very crowded investment markets – meaning that most of the things that we see are either fully priced or fairly priced. That’s the situation today. There isn’t an enormous amount of fear. There’s a sense that growth will generally continue and there’s just a lot of money coming into investment managers. I promise you at some point in time that will change. I just don’t know or have any idea when that will be. But when we invest, we think about that possibility, we think about the downsides and we try to manage accordingly.

[Andy Baker:]

Great, thanks a lot, Jim.

[Operator:]

(Operator instructions.) Your next question comes from Michael Millman of Millman Research Associates.

[Michael Millman:]

Hi. I wanted to go back to when you were talking about oil-related investments and then hotels. Wouldn’t you think that the offshore drillers would be concerned that the on-land frackers would basically create a ceiling for prices?

[Jim Tisch:]

That is an issue but the amount of oil that is produced from onshore shale formations is relatively low compared to the amount of oil that’s produced worldwide. So just rough order of magnitude there’s 100 million barrels of oil a day that are produced in the world and the amount that comes from shale formations is less than 5% of that. If you look back a few years it was dramatically lower, and the question I think you’re asking is whether in the next five years, instead of being 5% that amount can be 10%, 15% or 20%. And my guess is that that will not happen, that shale is a significant factor here in the United States but it’s not a significant factor in the rest of the world. And that has to do with a lot of things that we have here in the United States that don’t obtain in the rest of the world – it has to do with the legal regime; it has to do with the fact that mineral rights are owned by the landowner, not by the state. It has to do with the entrepreneurial drive. It has to do with the fact that there is an oil service industry here that is very, very highly developed. It has to do with pipelines in place and transportation and roads, and population density. And again, all of those have come together here in the United States and for one reason or another tend not to exist on nearly the same scale in the rest of the world. So for the time being my guess is, my strong guess is that the shale revolution that we’re seeing here in the United States will not occur in the same scale internationally; and therefore won’t be a significant factor with respect to the offshore drilling markets.

[Michael Millman:]

Or will occur at a much higher price I guess you’re saying.

[Jim Tisch:]

Yes, that’s right, that’s exactly right. If you had the same shale prospects in a foreign country, instead of the breakeven price being $75 a barrel it could easily be $150 a barrel. And those countries would have the chicken and egg problem of being able to get to the scale so that the cost of producing shale oil in those countries could come down to attractive prices. My guess is that it’s going to be very hard though for them even with scale to get down to where we are here in the United States.

[Michael Millman:]

Okay, thank you. On the hotels on an adjusted basis what was the pretax for nine months?

[Jim Tisch:]

When you say “adjusted basis” what do you mean?

[Michael Millman:]

Taking out nonrecurring items – you know…

[David Edelson:]

I don’t have that right in front of me. I’ll have to get back to you.

[Michael Millman:]

Okay, and maybe looking at this another way, of the 12,000 rooms what’s low-share?

[Jim Tisch:]

We’ll also have to get back to you on that because not only is there the Universal partnership but there are also partnerships with respect to a number of other hotels. So we’ll get back to you.

[David Edelson:]

When we enhance our disclosure in Q4 we will attempt to address that issue because our accounting is difficult because of the JV accounting and because one quarter a hotel may be wholly owned and the next quarter it may be a JV hotel. And that makes it difficult to compare across quarters.

[Michael Millman:]

I see. And maybe what’s the debt that you have on the books for your hotel properties?

[David Edelson:]

Well, we have some mortgage debt on a couple of our properties, the most significant being the Loews Miami Beach Hotel where I mentioned a refi that we put $300 million on that property – previously it had $125 million on it. There’s debt on the Orlando – I believe that’s in the neighborhood of, and we only have a 50% ownership there; I believe that’s around $350 million or $450 million but I’ll have to get back to you on that. And then there’s really essentially a little bit on Philadelphia, so it’s dribs and drabs after that.

[Michael Millman:]

As you recognized the whole purpose is to try to backdoor the value.

[David Edelson:]

That’s why we’re enhancing our disclosure, Mike, in Q4.

[Michael Millman:]

Appreciate it, thank you.

[Operator:]

This concludes the allotted time for the question-and-answer portion of today’s conference. I would now like to turn the floor back over to Mary Skafidas for any additional or closing remarks.

[Mary Skafidas:]

Thanks, Paula. I just wanted to remind everyone that a replay will be available on our website in approximately two hours on www.loews.com. That concludes our call.

[Operator:]

Thank you. This does conclude today’s teleconference. Please disconnect your lines at this time and have a wonderful day.