Allianz SE (AZ: chart)
Q2 2008 Earnings Call
August 7, 2008 5:00 PM ET

Executives

Oliver Schmidt – Head, Investor Relations
Helmut Perlet – Chief Finance Officer and Member of the Board of Management.

Analysts

Spencer Horgan – Deutsche Bank
Michael Huttner – JP Morgan
James Quin – Citigroup
Marc Thiele – UBS
Fabrizio Croce – Landsbanki Kepler
Nick Holmes – Lehman Brothers
William Hawkins – Keefe Bruyette Woods
Brian Shea – Merrill Lynch
Michael Haid – Cheuvreux
Stefan Kalb – Sal Oppenheim
Andrew Broadfield – Morgan Stanley

Presentation

Helmut Perlet – Chief Finance Officer and Member of the Board of Management

Thanks Oliver. Have you reduced my presentation time now to zero? Okay but I’ll try to do it quickly. Good afternoon, ladies and gentlemen. It’s a pleasure to have you here. Let’s go right into the presentation. I think the headline really is there is a tough environment and Allianz has been affected as the rest of the industry as well. We see main impact on lower revenues, and unit-linked trading income banking, and obviously lower net harvesting. We have revised our mid-term outlook for 2009 but we still believe that our underlying fundamentals remain healthy. The headline numbers, page 3, operating profit 2.1 billion, you’ll see that the swing on a year-to-year basis is mainly driven by banking. Apart from that we’d have been almost on the same level as in 2007 and net income is also down 28% to 1.5 billion, which overall gives us 4 billion operating profit for the first six months and 2.7 billion of net income.

If you look at the revenues then I think what you’ll see in the yellow purple is the major impacting Q2 from the crisis. On our revenue development we are 2.3 billion down and that is more than then is driven by FX impact and lower trading income 1.1 billion and the shortfall in unit linked business of 1.4 billion whereby half of that is the special bank assurance issue in Italy , which all of you are familiar with. Let’s not forget about the positives. I think 3.1% of the P/C is a good mark and our traditional life business which is slightly less than 50% of total grew by 8%. On the operating profit side segments on page 4 that by and large I think fits into the overall picture.

The non-banking segments more or less stable over the course of those two or three years where the CM rate was fruitful on the banking side. Non-operating, 82 million of positive contribution, I want to concentrate on the right hand box which is group harvesting. You’ll see that we’ve harvested about a billion, which is 500 million or 600 million more than in 2007. 50% of that billion basically is based on forward sales which have been already locked in anywhere between 12 and 24 months ago and the reminder is kind of day-to-day investment and performance management activity. We’ve of course higher impairments against the background of the capital markets development, 500 million. If you see this because Q2 in itself might a bit misleading or is transparent piece of the total on a year-to-date basis our net harvesting I.E realized gain and losses net of impairment is down from 2.5 billion in 2007, to 0.8 billion in 2008, I.E that’s a swing of 1.7 billion minus the balance of our unrealized gains at 6.4 billion which gives us still some room for maneuver and harvesting going forward.

Now you are probably specifically interested in an outlook. What does that mean? If market corrections are still expected down the road and on page 8, we’ve given you some kind of scenarios. The spread out first was a zero scenario because and the reason for that is just to recall our impairment policy is made up out of three components, 20% down, we take an impairment, right away. If a single position has been down less than 20% but down for 9 months then we take an impairment and as a third component we’ve the rule once impaired always impaired, meaning whenever we’ve taken impairment, the stock goes further down, we impair it right away regardless whether it is less than 9 months or more than 20% or what have you.

Now so the zero scenario, gives you an idea what is still in the pipeline if the market stays stable and that is a 100 million in Q3 and 200 million, which should then come in Q4 and Q1 2009. If the markets correct, same logic, if the market corrects by 10% we see net income impact of 600 million and in case of a 20% correction we expect a net income impact of 1.4 billion and you’ll see on the right hand side the corresponding development of our remaining unrealized gains. Now, net income I think we can jump over this page. There’s not really a lot to be explained. Other than that maybe on the side we might still continue with our policy not to take effect credit related losses, in particular mark downs on the training portfolio survey which has no effects capitalized on those losses. If we then move on to page 10, capital position, now, we still feel very comfortable. We show a solvency ratio of 145% maybe I should give you a few remarks first with respect to the numbers. The reduction in shareholders equity from end of March 4.5 billion is driven by the dividend we paid out in May of 2.5 billion on one hand and on the other hand of course by the further reduction of unrealized gains. Now, you might want to ask as in the shareholders equity the reduction is 4.5 billion, why is it only 1.4 billion on the available funds for solvency calculations? The explanation is that obviously the 2.5 billion dividend payment has already been accrued for solvency calculations by the end of 2007 and as of today we’ve only accrued for half a dividend and then secondly here we are certainly we have recently issued a US $2 billion subordinated bond.

Now, having said this with a level of 145 and I’ll come to that in a minute, our real, economic risk is further down to an equity position. From an interest point of view we’ve more or less fully matched those. That is economically not a risk with 145 even if we had an overnight stock of 20% in our stock positions that would get us to something like 128 in the solvency ratio. It is not nice but still manageable. If that shortfall kind of emerges over longer period of time then obviously we’ve more time to manage and react to that and we’ve a plan, obviously a contingency plan in place to either hedge or further reduce our exposure. Now, there have been some discussions lately, about the comparability of solvency ratios within Europe. That is more favorable, even so in theory this should be all the same. In fact it is not. There are more favorable rules and regulations in the Benelux and in France and other countries. If we were to apply the same rules then our solvency ratio would be 160 and that will be comfortably within our defined range of 150 to 170 and actually we are in pretty promising discussions with the boffins. I’m somewhat optimistic that we’ll get the same applications or rules as our main competitors going forward.

Now, we should be even more comfortable if you look at the numbers from an economic point of view and based on our internal models on page 11. There is 184 coverage ratio and that is a much better reflection of what the economic reality is and that of course is what I’d assume you want us to manage again of course with the constraint of the financial conglomerate directive. If you look at the left hand side then you’ll see what I’ve just stressed. Our interest risk is only 1.2 billion. So, was in that total of that is only 4% of our total risk-based capital requirements and we are cautiously positioned for our equity risk which is included in the 13.8 market risk and accounts for more than 10 billion and you’ll see that this 10 billion risk capital is well below the excess capital I.E the difference on the right hand side between the 58 and the 31. We have to base on our internal model and so again that makes us pretty comfortable and to give you finally the number what is our real equity exposure, net of policy holder and tax. It is about 22 billion. Of this 22 billion, 5 billions are hedged. So, what we are really left with is 17 billion and coming back to what I’ve said earlier I think that is a manageable amount to keep our solvency ratio where it needs to be, to be on the safe side.

On page 12, you know this picture I think there is not a lot to add other than what I’d like to point your attention to is that our equity gearing has come further down. It’s at 0.57 and that is within our predetermined range where we said we’d like to have a gearing of less than 0.6. If you then move on to the segments, on operating profit, operating profit is down from on a quarter-on-quarter basis. Here-to-date it is exactly 3.2 billion. It is exactly in line with our 2007 and if we simple had the combined ratio in the mind on a year-to-date basis, the combined ratio is down from 94.8 to 94.1. Now, that is obviously needless to repeat, we put a lot of emphasis on underwriting discipline and the guys out there in out various markets still execute very rigorously. If you look at the profit drivers there is a small reduction in underwriting income. That is entirely driven by NatCat development in Q2. We’ll come to that in a second. There is a major deviation in terms of investment income. There are two causes to that. Point number 1 is we have upstream 3 billion plus of excess capital in the last 12 months from the operating companies to the holding company which in turn from the holding company has been used to finance the minority buy outs. That of course drives investment income down at the operations and that’s the impact from the AGF health business reclassification from non-life to life. If we look at the revenue development then you see that it was 3.1%. We are pretty happy. That’s actually slightly better than expected and that is only two countries recording no growth. So, negative growth, that’s Germany and Italy. That’s likely driven in both countries by the motor business and in addition in Italy by the impact of the famous Personnel law and you see as the third country. Credit insurance was -2%. I think that’s actually pretty good result because our friends in Paris started very early to get themselves fit and ready for the impact for the credit crisis. They started increasing prices by 10% but more importantly cut out a lot of the high level risks that was a notional of more than 15 billion and that helped us as you’ll see in a second also in terms of combined ratio.

Now, when we come to the combined ratio it was 93.5 for the quarter at target. If you look at the right hand side you’ll see that loss ratio is up 1.2%. That’s basically the impact of Natcat. NatCat accounted for 1.3. When I say NatCat it is more weather related, storms in particular. We had a lot of hailstorms in Germany in the month of June which are also the explanation for the high combined ratio of Germany and then we’ve on the expense ratio, an improvement of 0.6% to 27.4%. Year-to-date again as I’ve said combined ratio is 94.1, maybe two comments on the United States, or three comments, one United States combined ratio is going up with 90.9% for the quarter and some 94% for the first six months, I think still a very good rate compared to our competitors in the US and against the background of very strong price decreases in the US market. Credit as I’ve mentioned, I’d assume the 87% combined ratio in the light of the recent credit crisis is a good mark, AGCS special development based on reserve analysis there was some significant run of in the first quarter and that is the explanation for this surprisingly low 81.8.

If we move on to the next page and look at the development of loss rate accident, your loss ratio, then you’ll see including NatCat and excluding NatCat, that NatCat had a pretty significant impact, 2.3% points in the second quarter. What you’ll see also what I’ve basically said that all the time and also in Q1, that if you look at the longer term rolling average of the loss ratio that this is slightly trending up. Now, if you put this a little bit different, then frequency in the business adjusted for NatCat. Obviously when frequency is stable it is around 2.7% for the quarter. Severity is slightly up 1%. Now, you might argue against expected claims inflation and obviously if you look at, you can have a long academic discussion how to exactly define claims inflation but if you look at the price development of spare part and all the other things, claims inflation is supposed to be around 3% to 3.5% in the portfolio, whereas average on severity is going up by only 1% and I trust can continue to repeat that this is obviously an outcome and a result of our on going efforts in terms of pricing to reduce underwriting leakage and to improve claims management and reduce claims leakage. At 4.8% the run off ratio at the lower part of this slide is slightly above previous years levels. Previous year we had 4.5%. For those of you who might worry about our reserve adequateness let me just reassure you we do regular detailed analysis and that show that our reserve strength is stable and if you look at the numbers we continue to build up those reserves at a faster rate than the sum of prior payments and run off.

Now on the expense side here I’ve given you a six month development because I think that’s more representative than just three months. On a six months basis you’ll see that our admin expenses are going down by 400 million. Yes, there is some accounting issues like reclassifications. There is some issues where we do not want to claim the benefit of our own activities and measures I E, FX and the fair value movement of the stock options we have granted to our employees but the run rate is down 120 million and is supposed to become bigger or larger throughout the reminder of the year. So, I think by and large we are in fact geared to improve our efficiency in the organization.

Finally for P/C investment income, investment income as we’ve said is down by 123 million. You see the development on the right hand side. You see on the left hand side that the assets on the management are lower partly driven by what I’ve just said, up streaming of excess capital but also by the fact that obviously market developments and market movements had some strong impact in particular also on equities. Where the rate was huge, the lower left box, you see that there is improvement both in terms of debt yield and equity returns. Now before we move on to life let me just say I think it is certainly true that you see claims inflation, that we do see soft markets probably less than longer than originally expected but if you look at our total portfolio and combined ratios across all countries and regions there is not a single risk factoring case in this portfolio which gives us a lot of comfort that if markets and rates pick up again that we are in a very, very good position to take advantage of this upturn.

Now then lets move on to life health. We are quite pleased with 700 million of operating profit in a pretty tough environment. Of course there was some impact from the ongoing crisis and you can best see this from the breakdown of profit sources where there is a reduction in investment reserve by more than 10% or 12% minus 63 million whereas technical result and expense result have been more or less stable. Now, moving on to the revenue development, top line development in 2008, is weak. No doubt in the second quarter is weak, no doubt about that, but not entirely unexpected. We’ve talked about the impact of the financial markets on unit links.