Good day, and welcome to the Horace Mann Educators Q2 2021 Investor Call. Please note this event is being recorded. I would now like to turn the conference over to Heather Wietzel, Vice President of Investor Relations. Please go ahead.

Thank you, and good morning, everyone. Welcome to Horace Mann's discussion of our second quarter results. Yesterday, we issued our earnings release, investor supplement and investor presentation. Copies of all 3 are available on the Investors page of our website. On today's call, Marita Zuraitis, President and Chief Executive Officer; and Bret Conklin, Executive Vice President and Chief Financial Officer, will give the formal remarks. With us for the Q&A, we have Matt Sharpe on business development and distribution, Mark Desrochers on P&C, Tyson Sanders on Supplemental and Mike Weckenbrock from Life and Retirement with Ryan Greenier available on Investment. Before turning it over to Marita, I want to note that our presentation today includes forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. The company cautions investors that any forward-looking statements include risks and uncertainties and are not guarantees of future performance. These forward-looking statements are based on management's current expectations and we assume no obligation to update them. Actual results may differ materially due to a variety of factors, which are described in our news release and SEC filings. In our prepared remarks, we use some non-GAAP measures. Reconciliations of these measures to the most comparable GAAP measures are available in our news release. Now I'll turn the call over to Marita.

Thanks, Heather, and good morning, everyone. Last night, we reported second quarter core earnings of $1.02, our highest second quarter result ever. We benefited from particularly strong Investment income in our alternatives portfolio and lower than guided catastrophe losses. As previously announced, this led us to raise our full year core EPS guidance to a range of $3.50 to $3.70, with an expected return on equity above 10%. We saw strong earnings growth in each segment in the second quarter and solid sales momentum in the retirement line. Annuity contract deposits increased by double digits over the prior year. Bret will go over the quarterly results in more detail later in the call. I want to focus on our progress towards our long-term objectives of a sustainable double-digit ROE and significant expansion in the education market. Over the past 1.5 years, through unprecedented disruption in all aspects of our day-to-day life, Horace Mann has continued to be successful. I attribute this success to 2 factors. First, our unwavering dedication to the deserving education market. We know our customers, we know them well, and we respond to the issues they face. Second, our multiline model. We have the premium and earnings risk diversification that enables us to remain focused on our long-term objectives throughout occurrences of weather volatility, market volatility, and mortality and morbidity trend changes. While the COVID-19 pandemic added an extra year to the transformational stage of our growth journey, it also gave us time to analyze and improve the ways we can fulfill our value proposition for the education market. Examples of the outcomes of this focus include an accelerated integration of NTA agents, initiating key improvements in infrastructure, and expansion of our student loan solutions program nationwide. It also set the stage for the entry into the…

Thanks, Marita, and good morning, everyone. Second quarter core EPS was $1.02, up 52% over last year and our third consecutive record quarter. 6-month core EPS was $2.12, more than halfway to the increased full year EPS guidance of $3.50 to $3.70. And as we said last quarter, our outlook has always presumed a gradual recovery from the effects of the COVID-19 pandemic on results and that's largely what we've seen so far this year. In that context, we're encouraged by the signs of momentum we are seeing with the vaccine rollout and continued strong performance across the business. As a result, on July 1, we brought guidance to a level that aligned with the strong second quarter net investment income returns in the lower than historical average level of second quarter catastrophe losses. As I talk through the segments, I will address the changes we've made to align full year segment outlooks with the updated guidance. I'll finish up with a recap of how we continue to think about allocating capital to maximize value for our shareholders. When we raised EPS guidance, we also raised our expectation for 2021 core return on equity to greater than 10% for the year. Core return on equity for the second quarter was 11.7% and it was 12.1% for the 12 months, up from 9% for the prior 12 months. Although the pandemic and other unusual factors continue to contribute to the improvement, our strategic initiatives are equally as important and we remain on track to our long-term target of a sustainable double-digit ROE. And as we look ahead, the Madison National transaction will be a strategic use of capital to accelerate our shareholder value creation. In addition to the strong fit of Madison National, this is another business with predictable and stable…

Thanks, Bret, and operator, we're ready for questions.

Our first question comes from Gary Ransom with Dowling & Partners.

I wanted to dig a little deeper into the inflation topic and the labor material costs you're talking about that affect auto and home. And I just wondered if you could talk a little bit about how your -- how you've seen it emerge. I mean is it still accelerating? Are we at a point where it seems more persistent as opposed to everyone talking about transitory or your views on that? And I guess I was also wondering if I could get a sense of how much your homeowners' automatic inflation increases. How much more of that has been ticked up versus what it might be over the long run?

Yes, Gary, it's Marita. You're right, there's been an awful lot of industry discussion on the topic. Lots of questions asked and answered, and I think it's clear that we're all seeing it because it's there. I'll turn the call over to Mark in a minute. But at a real high level to a degree, it's a reflection of a healthy economy and therefore, a shortage in supply that's somewhat likely to be temporary. And to the extent that it could drive interest rates up, that would obviously favorably impact our investment yields. But I assume you really want to hear more about its effect on P&C. And obviously, we've been spending an awful lot of time digging through the numbers and looking at this, not just this quarter but for many quarters. So I'll turn it over to Mark to talk about that as well as the effect on rate actions that we might take to address the inflation. So Mark?

Sure. As you pointed, consistent with what the broader industry is seeing, we've certainly seen the impact of inflation on both the auto and property lines. I think digging first into auto, it's primarily been cost of labor, cost of parts, maybe a lesser extent some return to normalization in social inflation and attorney involvement. One additional thing I'd point out on the auto side with severity is we have continued to see a little bit less impact of fender benders. So that phenomenon of less fender benders driving kind of just the math of it in causing increased severity is still there. When switching over to property, and I think more of your question was focused on the property side, we -- again we've seen the cost of labor, cost of materials. I'd say that one other thing that we've seen is losses are more severe because customers are slower to mitigate some of the losses either because they aren't reacting and getting folks in to fix issues or they're having trouble finding contractors or water mitigation companies to come in and deal with the mitigation, and therefore, some of the losses are growing from that. In terms of the transit for re-impact, I mean I think some of it clearly is -- I don't think lumber prices will remain double or triple forever. But we're seeing really increases in that kind of mid- to high single digit, low double digit across many aspects of the various components of materials and labor. So while it may be transitory in nature for some factors, some things I think I do see continuing longer into the future. And I'm also not sure that once something comes up in cost, how much will it come down, and we need to be able…

Well said. And I think that thinking about the absolute loss ratios that we have as a starting point, the book has historically and continues to be very profitable. So when I think about our current auto loss ratios being even better than what they were in 2019 before the pandemic started, it's a good place to start, and our property book has been historically profitable. So as Mark said, we did anticipate and this just means that the normal rate increase environment happens a little sooner.

Could I get a little bit of a sense of the automatic homeowners increases if -- and I'm kind of guessing here, maybe it's usually 3% or 2% or 3%. Is that going to be 5% or 6% now? Or just sort of the order of magnitude, how much is that changing?

Yes. So at the beginning of the year, we actually increased to about 5%. And now we're looking at potentially pushing into that 7% to 8% range is what we're seeing more recently in some of the replacement costs estimates we're seeing in claims.

Interesting. Okay. And I just -- you mentioned along the way also on the -- a little bit of the social inflation and lawyers getting involved a little bit more. There was at least one other auto company talking about lawyers getting more interested in smaller limits and maybe getting involved in more auto claims, even though the limits are not as high as elsewhere. Is that something you're seeing as well?

No, I wouldn't say that. I'd call it more of returning to close to what we saw pre-pandemic. So obviously during the pandemic course we shut down, lawyers were anxious to settle things. There wasn't as much of that happening. That was a kind of positive phenomenon during the pandemic and we've certainly seen things start to normalize this course of open and so forth. The other thing I'd point out is some of the states where these -- this is more significant, like a Florida, our market position has deliberately reduced over the last 4 to 5 years. And so I think it's a factor for us, but it's not a big factor. It's just something we are noticing that that's starting to return more towards normal.

Very true. And the other thing that I would add is we do tend to have a pretty standard book. So as far as limits coverages, I think that's another place where our homogeneous market segment, certainly not, as we say, not immune but somewhat insulated is helpful. And as Mark said, the underwriting actions we took and drove prior to this timing worked out really well. We started at a really good place. And as it relates to Florida, very intentional, very clear, saw that one coming, if you will.

Just one last question on inflation. Is there any product within Supplemental where rising medical costs might have to be a factor? Or are those all controlled by the daily limits and other things you might have in place there?

Yes. I'll turn it over to Tyson to answer that question. Go ahead, Tyson.

Yes. I don't believe that -- I think previous comment that we're not completely insulated or immune but insulated I think is appropriate here. We're not impacted by the inflationary measures that are in place right now with the Supplemental products.

Yes. And I'd add to that as we said in the script and as we've said all along, the margin improvement that we're seeing in Supplemental is certainly aided by folks being a little more reluctant to seek treatment and to be out there in some of the places where we would see those expenses come through. We're not seeing them. We do expect that to begin to return. So we have an interesting offsetting maybe less propensity for our agents out there because of school closures, but we're getting the benefit of not seeing it on the claims side. We would expect that to begin to reverse a little bit where the claims would start to come through as sales begin to increase. And as we said in the script, we are seeing some nice momentum in Supplemental quarter-over-quarter and month-over-month. So we are starting to see sales increase and we would expect claims to begin to come back as the world opens up a little bit. So pretty much as we thought it would come through.

Our next question comes from Matt Carletti with JMP.

Just wanted to follow up on some of kind of Gary's questions there and Mark's commentary on particularly property. Can you help us in a quarter of the elevated losses you guys cited, both frequency and severity of fire and water losses? Was it particularly one or the other? I'm thinking the severity side is more of these loss cost issues, inflation you're talking about will be dealt with price, whereas frequency can bounce around a bit. Was it much more one or the other or fairly evenly both?

Yes. I'll start and then I'll turn it over to Mark. Starting with fire, remember this is very lumpy for us due to the size of the book. A few fire losses one way or another can have an usually good quarter or an unusually lumpy quarter from a fire perspective. But from a water perspective, you obviously have people at home using their plumbing and their water more frequently. I don't know what you might want to add to that, Mark.

Yes. I think Marita's got it right. I'd say that the fires are kind of that normal lumpiness, if you will, from quarter-to-quarter, a few big fires can make a significant difference. But the water losses are certainly the one that's the new phenomenon. And that's part of what I was referring to in my earlier response with -- we believe that some of those are getting worse because it's -- customers are slower to mitigate them. And if you're slow to mitigate them, the problem just gets worse. And that I think is partly a factor of the demand out there and the supply of the labor to come in and do that whether you -- you know get some of the water mitigation companies in to stop the problem. And that's something that we've seen in that. I'd say it's one bigger than the other, probably not. But I would again reiterate that the fires are lumpy and the water losses are the thing that is kind of a new phenomenon that we're seeing.

Yes. And when you look at fire on an annual basis, and we do year over year-over-year, again very profitable for that portion of that line of business. But when we look at the water, you are seeing an uptick and I think it's similar to what the industry is seeing. And I think Mark explained it well.

And then, Marita, I just want to go back to your comments, you gave some good numbers on kind of the growth in the number of household relationships. I was hoping -- obviously, you guys get PIF by segment, and I think that obviously can skew things, right? I mean when you look at P&C or auto, and it's been going down, but I know you guys have a relationship with, I believe it's is progressive, where it doesn't capture that, right? It's more of a household level. So I was hoping, can you give us any color on taking out those acquisitions over even a few year period, we're going to exclude last year? What sort of organic growth would you estimate even ballpark you guys have been achieving in household relationships, not a particular lines PIF, but the broader Horace Mann relationship with an educator?

Yes, Matt, it's a great question. We would love to be able to report on a household basis. And I'm looking at the team in the room smiling at me because they know how I feel about this. And eventually, we will be able to give you some decent household staffs. What I know, and I think Gary actually said this in a question on the last call, the total addressable market for us has increased pretty substantially over the last 24 months. I mean I'm proud of the place when you think about our work site drill closed up pretty dramatically. And instead of having that affect our success as a company, it really propelled us to address the things we could address during that time period, and that was completing the integration of the NTA agents, working really hard on closing the agreement with Madison National. And what that did for us is both the increase in households that we saw from NTA, and we had estimated that to be approximately 150,000 households with the additional districts from Madison National, which was 1,200 districts and 350,000 households, that's more folks under the umbrella where rather than just being leads, now they're customers. And when we think about our cross-sell history, when we think about our persistency and retention, getting them in the house and then cross-selling them, we tend to keep them. So I feel really good about what we did during this 1.5 years was increase the opportunity to do what we're really good at, and that is cross-sell households and retain households. So for me, that addressable market really did change substantially during this time period. So we do know we have an increase in households. And for us, I think the work that we did to improve our profitability in P&C, some of that was sticking to our knitting, maybe using progressive for some of the non-educators using progressive for what they're good at in some of the nonstandard areas of our book, and that allowed us to come from a place of strength. So I think you're right. For us, it is about the households. It is about penetration of the household. And I look at the significant increase in retirement deposits, and we saw it again this quarter. I see the success in our Life business, and we're selling Life business through the pandemic, and I know that will translate to an increase in the other lines over time. So I feel very optimistic about where we are.

Great. And one last question, if I could. Marita, I appreciate your comments on hopeful with delta and everything, we don't go -- the school systems don't go back to hybrid. And I think that's probably the case. I guess my question is, as we came out of the pandemic last year or any point during the school year in the pandemic, did you see school districts that were physically in session, maybe still not let kind of outsiders or your agents in? They might hold school and the educators are there, but have more strict practices on visitors coming in? Or generally would you expect that it would be back to fairly business as usual?

Yes. I think we saw a little bit of that during the lockdowns, right? And for our business, there are some districts where we've never been in, where they don't allow anyone in. And I would imagine that would continue and in those places, there's different ways for us to conduct our business. I am excited about our back-to-school efforts and what our agents are seeing and reporting. This is the annual time where from a sales perspective we do our rallies. Our agents have been engaged in the school districts. Many of them have physical appointments where they didn't have physical appointments last year. We're seeing some very encouraging signs from our agents. And I think that comes from the fact that as a population, educators are more highly vaccinated than the rest of the population. The NEA reports that -- and this was as of a couple of weeks ago and I'm sure the numbers have increased -- 86% of their members are vaccinated, 89% of the AFT members are vaccinated, and that compares to a much lower number in the 60s for the general population. I think the efficacy of vaccines, kids 12 and over, whether they'll be able to do that for all elementary school kids in this school year, I think will be important as well. A lot of discussion on masks or no masks, but not a lot of discussion about not coming back. It's almost to the point where everyone realizes and the studies have been done that in-classroom learning is the best way to go. So folks are saying we're going to be back, what's the best way to be back and whether that's staggered, whether that's with masks, whether that's with appropriate social distancing, depending on what the school districts can do. So our agents feel like this is much more normal, not completely normal. There will still be some access issues, but we feel very good about the efforts that we've put into this back-to-school and our agents seem quite optimistic.

Our next question comes from John Barnidge with Piper Sandler.

You've had meaningfully better Supplemental claims utilization trends for probably longer than anticipated. It's not something that it's simply only Horace Mann, but have you been starting to think through maybe some of these claims trends? Could they be somewhat semi-permanent in nature that people's just behaviors are changing and how they use some of the products?

Yes. Potentially, I mean like all of this, who knows the psyche, who knows whether it's changed, what people will do, how they'll do it, how often they'll do it, are there lifestyle changes will return to office, working from home versus being in the work site, will that change potentially some of accidents or those types of things, you might see some semi permanency, but we are anticipating that the majority of this would come back. I don't know if you have anything to add, Tyson.

Yes. I think if you think about the different product lines, there are some where have been more drastically impacted in the pandemic environment. An accident is a really easy example. Folks have avoided those optional activities that they would have done in the pre-pandemic environment. I fully expect that those types of claims will come back in full force in a post-pandemic environment, but there is going to be a behavior change. And I think that is indicative of the society that we're in right now.

Yes, John, this is Bret. I would also add that you saw in our guidance change page that's in the investor presentation. We did take the guidance up for the year, about $8 million. And to your point, the experience through the first half was better than planned. In the second half of the year, we actually did anticipate the claims activity -- claims activity going up, but certainly not to the level of our original plan for the year. So there is some built-in favorable experience in the second half below what our original plan was. But I would agree with Marita, there's probably going to be potentially some permanent benefit.

It fits in with our conservative nature for sure.

I would think one other thing to add, there was -- the educators are going to be back in the classrooms. They're not going to have the option to work remotely. So the behavior that we've seen over the last 18 months is not going to be long term for our niche.

That's a very good point. Within that vein, obviously, educators have spouses that are not educators. Is there any way to capture the size of the Supplemental PIF market that's actually ensuring people that actually are spouses of educators and not educators themselves?

It's not necessarily an easy thing to do. A lot of our products are built on covering the entire family. There are measures that we could get to there. I don't have it handy, but it's something that we could certainly present in the future.

Yes. I mean we would know that across our whole book for auto, for home, for life. We clearly quote it that way. So I mean if you're interested, we can get you that breakdown.

Yes, that would be interesting. And then my last question, on alternative investment income, it's been remarkably strong. Can you talk a little bit about real-time reporting versus 1-quarter lag within that $330 million of alternative investments you have?

Sure, John. This is Bret. To your question, almost all of our alts report on a quarter lag. And certainly, we've had outsized performance in the first quarter to the tune of a return of about just south of 11%. I think the second quarter was just south of 20%. So year-to-date -- and I think it's in the investor presentation -- we had a return of almost 15%, which is certainly outsized in comparison to a typical plan of about high-single digits. But as it relates to the second quarter, let me turn it over to Ryan and he can provide some color on specifically what drove the outperformance for the quarter.

Sure, John. This is Ryan. As Bret mentioned, a lot of that outperformance was really episodic and tied to IPO realizations and a handful of private equity funds. So obviously a rising equity market does bode well for continued strong performance. But I'll flag that if we isolate for just the LP component of the alternatives, the return was over 30% on an annualized basis for the quarter. So we'll absolutely take it. But we certainly didn't reflect that level of continued performance into the updated guidance.

Our next question comes from Greg Peters with Raymond James.

I want to pivot back to the Madison National acquisition. I'm looking at your slide deck, Page 6. And one of the points to highlight here is that you're able to leverage longstanding relationships with K-12 districts and effectively cross-sell this product into your relationships. So -- and then I also listened to your comments about AssuredPartners and the new relationship or the reaffirmation of the relationship there. So 2 questions on this. First, is -- as you go in the cross-sell, is it -- is there a big switching cost as it relates to getting your product in replacing whoever the legacy provider is? And then secondly, with Assured, are there other distribution partners out there that you think you can bring into the fold and strike similar deals with going forward?

Yes, great question. First, on the switching cost, the answer is no. But what I would say as it relates to Madison National Life right out of the get-go is -- and we made this very clear on our initial call -- is that this is completely complementary for us. So what's really exciting is when we go back to our PDI strategy, building products that are relevant to educators, growing our distribution, having educators find us any way they choose, building our infrastructure, Madison National checked all 3 of those boxes. And what's interesting about the distribution for us is whether educators get individual products from REAs or they get it at school in a benefits package from their school district through Madison National, we can cover the whole educator. And what's interesting about having be the provider with the district and the superintendent is that builds credibility, it builds reputation, it builds purpose. So if you're an educator and you're getting Horace Mann products at school and then you're approached by a local trusted adviser at the point-of-sale with other Horace Mann products, that connectivity, that reputation I think really does help that individual sale as well. So we're really excited about that. Madison National has been working with NIS who is, as you mentioned, a division, if you will, of AssuredPartners for over 30 years. This is a relationship that's been built where together, they go into the school and they do what they do and they do it very well. For us, taking that relationship that they've built over 30 years with 1,200 districts and expanding around that relationship with what we do and how we do it is one thing. But then there's also the other side of the house where we've got relationships with many more districts where we can introduce Madison National and NIS and their offerings to those districts. So for us, I really do think it's back to that total addressable market. It's back to our homogeneous market niche where it's focusing on bringing educators everything they need, whether they buy it themselves or they get it at work. And we are very excited about it working both ways and the fact that it's completely complementary. As far as going anywhere beyond the relationship with NIS, we don't need to at this point. The relationship is strong. They're good at what they do, and I'd like to spend some time harvesting that and seeing together what we can do because we think it's pretty powerful.

The other question I had is based off of Slide 31, and you spoke about the lift you had for net investment income from the alternative portfolio. And I think you also mentioned that you plan to allocate more towards the alternatives going forward. And so I'm looking at this slide in 14.97% return year-to-date and all I'm thinking is statistics and reversion to the mean. And I look at the rest of the year or results are less profound. And I'm just wondering, going forward, certainly the first half of next year, it seems like the setup for some headwinds just for less really strong performance certainly seems very real, but maybe you could comment there.

Sure. Let me start, Greg, this is Bret. And then if Ryan wants to chime in, he can do so. But I guess a couple of things. Certainly, that would not be our long-term yield assumption or return for that asset class. However, we are going to have a larger number of dollars invested. So that contribution to net investment income, let's call it, between $25 million and $30 million prior to this year. That was kind of our plan from this asset class. So we're at 8% of our invested assets in this asset class as is contained on that slide, we are targeting to take that up to 15%. Yes, this asset class can be lumpy from time to time. But from a pure contribution standpoint, alts will be a larger contributor to the bottom line even though the yield may be less. And as you saw on our ROE slide, this is a strategic lever of our growth in the ROE, not just today, but certainly in the future. Ryan, I don't know if you wanted to add anything there.

Yes. The only additional commentary I'd provide is that long-term target is in line with many of our other larger life peers. And when I think about it, I'd break it into 2 pieces, 10% allocation to commercial mortgage loan and Investment-grade infrastructure funds. Those have a much steadier, less volatile return and we're targeting a mid-single-digit return for that asset class, performed well during the pandemic. It's a good source of cash flow. In addition to that, the other 5%, again, is in line with life peers, but that is more volatile, but that is where you'll see more outsized returns in periods like we just saw this quarter. I'll point out, we have about $600 million in commitments in the pipeline right now and we expect to put that capital to work over the next 12 to 24 months. So the contribution, the absolute dollar contribution of alternatives should ramp up meaningfully over the next few years. And the majority of that capital commitment is in the commercial mortgage loan space. We think it's a very attractive time to put money to work there.

This concludes our question-and-answer session. I would like to turn the conference back over to Heather Wietzel for any closing remarks.

Thank you, Sarah. Thank you, everyone, for joining us today. We expect to be available to meet with investors ramping back up into the fall, looking forward to being at the KBW conference in particular. Feel free to reach out. Love to schedule a time to talk. And thank you all again.

The conference is now concluded. Thank you for attending today’s session. You may now disconnect.