Prudential Financial Earnings Call Nuggets: Gibraltar and Non-Bank SIFI

Prudential Financial Inc (NYSE:PRU) recently reported its second quarter earnings and discussed the following topics in its earnings conference call.

Gibraltar

Ryan Krueger – Dowling & Partners: First question on Gibraltar. You mentioned a few factors that benefit earnings this quarter, but even if I normalize for the good alternative performance surrender fees and as well as seasonality, the result does seem quite strong. Are there any other factors we should think about going forward, maybe expense timing or anything like that that could affect Gibraltar going forward or if I adjust for those things, is that a good run rate to think about?

John R. Strangfeld – Chairman and CEO: Well, I think you fairly pointed out that a lot of things went in the right direction for Gibraltar this quarter. You’re right. On the investment side, it was higher than we would normally expect, certainly not all of it, but a portion of it was higher than I think you would want to assume is going to continue going forward. There is a certain seasonality factor as a result of the annual premium mode. Let me explain that. On annual premiums we book the earnings consistent with the timing in which book the premium. On POJ that’s in the first quarter, but in Gibraltar because they lag by a quarter that shows up primarily in the second quarter. And then in the third side, there – actually on the benefit side was a little better than normal, not so much because of mortality, but because there were surrenders that took place, primarily around the Aussie dollar which netted against the mortality produced a little better benefit ratio than would be normally assumed. So, if you put the three together, you’re right, you need a discount to some degree. But even after you’ve done that there is very strong performance result there; one being the factor that Mark highlighted, which is that consistent with the original plan, the costs have come down steadily. We’ve expensed about 80% of the $400 million ballpark that we had originally estimated for the expenses and that’s come down nicely. And similarly, we are getting increased gains on the expense savings. So the combination of those two produced about a $50 million swing over the quarter, and as Mark pointed out, those are stable in contrast to the one-timers that you just covered. So net-net, very strong, but I wouldn’t book the whole thing on a going forward basis.

Ryan Krueger – Dowling & Partners: If I take into consideration all the factors that you mentioned, it still seems like the earnings were running above $400 million, is that a fair assessment?

Robert Falzon – EVP and CFO: I’m not sure I want to stick a number on it. I would more or less stick with what I just said in terms of how you might want to adjust it.

Ryan Krueger – Dowling & Partners: Then I have one on non-bank. It seems like there’s been some increased discussion lately, including some comments from Ben Bernanke that language in the Colin Amendment may limit the Fed’s ability to tailor capital rule to insurance companies in a way from a bank methodology. So I just appreciate any thoughts there or perspectives you might have on that matter?

Mark B. Grier – Vice Chairman: This is Mark. I guess the main thought is that that’s an issue that’s out there. It’s something that does come up when we talk about the consideration of what we consider to be appropriate capital and solvency regimes for an insurance company, and at this point I would say, it’s just something that we have to work through.

Ryan Krueger – Dowling & Partners: I know there’s a proposed bill out there to modify that. You’ve seen that gaining – have you seen that gaining any traction?

Mark B. Grier – Vice Chairman: Well, there is legislation out there and there also are different opinions about the specific legal interpretation. The more general issue is a reluctance to reopen Dodd-Frank at all, and that’s kind of the hurdle that we’d have to get over to start looking at changes and I would have to say the outlook for that is highly uncertain.

Non-Bank SIFI

Suneet Kamath – UBS: Just to follow-up on Ryan’s question on non-bank SIFI. So, I guess since the last time we spoke, you were designated, you have decided to contest. So I was just wondering if you can kind of take us through the process of what actually happens as you contest the designation. You had given us in the past, I think, some color around stage 1, stage 2 and stage 3, so what actually happens in this contest Asian process?

Mark B. Grier – Vice Chairman: Well, I guess the short answer is that I can’t give you a lot more color around the process. We are in the works, timing-wise probably somewhere around two months from late July we will have a final determination. As you mentioned, we have been working on our concerns about the preliminary designation, but I can’t add a lot more than that in terms of discussion of the process. I would reiterate that we don’t believe that we satisfy the quantitative criteria to be a SIFI as is contemplated in Dodd-Frank, and we continue to make that case…

Suneet Kamath – UBS: Right, I get that. I mean, I guess I’m trying to figure out if there is a difference between this process and the whole process going through stage 1, stage 2 and stage 3. Clearly in those stages you presented your arguments and the FSOC decided to make its own decision. So, I’m trying to figure out what’s different about this next process that we go through?

Mark B. Grier – Vice Chairman: Well, again, without getting into a lot of detail, we did have a specific preliminary designation to discuss in the context of the last stage of the process, so that would have been different. But otherwise, I would add again, we’ve had high quality discussions around the nature of our business models and the issues that both we and the counsel think are important.

Suneet Kamath – UBS: And then just moving to the capital position. If I go back to, not at the beginning of the year, but maybe the first quarter call, I think you talked about $1.5 billion of sort of redeployable capital. I think in the quarter you did the $250 million of buyback, the roughly $200 million of dividend, some capital debt reduction. So that probably adds up to something like $575 million. And then you said that the redeployable right now is $1 billion. So, I’m just trying to figure out what was the actual capital generation in the quarter, because if I just kind of run the math, it doesn’t seem like it was a very sizable number.

Robert Falzon – EVP and CFO: Suneet, this is Rob. First, the (message you did), I think all adds up. As we look at the overall capital capacity on balance sheet, we’d characterize it as not having changed materially. One change there was, was more of a timing issue than an absolute issue. What did change is the composition of that capital and the way that you articulated it, we used our redeployable capital to pay dividends, buy back stock and delever and that brought the redeployable component down with regard to the overall pie. The total capital capacity remained relatively unchanged as a result of earnings coming in, funding our business growth and then the items that you mentioned…

Suneet Kamath – UBS: So, the strain I guess is what – is the piece that I’m missing in here, further strain from business growth?

Robert Falzon – EVP and CFO: Yeah, if you look at our sort of the earnings adjusted for things like NPR and FX remeasurement which are non-economic, you took out those items and you took out financing the growth of our business, you’d find that that leaves us with the total capacity that’s relatively unchanged.

Suneet Kamath – UBS: And then just the last one on this topic. If I think about the total capital capacity, I guess the $2.5 billion to $3 billion and back out the redeployable, I’d get $1.5 billion to $2 billion of excess capital capacity that’s not redeployable and I’d just like to get a sense of what that is, because I thought some of that stuff was going to get chewed up by the PRT deals as well as The Hartford Life deal, but it seems like that number is still pretty sizable in terms of excess capital capacity that cannot be redeployed. So any detail on that would be helpful?

Robert Falzon – EVP and CFO: Yeah, so a couple of thoughts on that. First, recognize that that’s a number that cycle through during the course of the year. So we do, as you noted, and have used the non-monetizable capital, can absorb risk for writing new business so we can also absorb risk and things go bump in the night. So that, while it’s non-monetizable, it doesn’t mean that it’s not usable, it means that there are different ways in which it can get applied. And what happens in any given year is that things like (DTAs) burn off and then get added as a result of activities during the course of the year. So, when we define non-monetizable, what we mean by that is that in the course of the next 12 months, that’s the portion of our capital capacity that exists down in operating subsidiaries that we don’t see coming up to the holding Company in a way that it would allow us to immediately redeploy it. So, that’s an ongoing process during the course of any given year. We’ll be taking capital out of the subsidiaries but they’ll be building capital back up again. And as a result of that, the non-monetizable piece – well, there’ll be a component of it, I don’t think you ever see it go away, although it is reduced over time as a result of writing new business and doing things like pension risk transfer.

Mark B. Grier – Vice Chairman: Suneet, it’s Mark, Maybe just to emphasize one point that Rob made. The amount of DTA that is eligible that counts as an asset for statutory purposes will roll over. So, as some of that is monetized more will meet the test and be accepted as an admitted asset. So, there’s a little dynamic there that – the first part of what you said is right, it does get chewed up, but the second part is, it gets replaced.

A Closer Look: Prudential Financial Earnings Cheat Sheet>>