Sun Life Financial Inc. (SLF) Q3 2012 Earnings Report, Transcript and Summary

Philip G. Malek - Vice President of Investor Relations Dean A. Connor - Chief Executive Officer, President and Director Colm Joseph Freyne - Chief Financial Officer, Chief Auditor and Executive Vice President Kevin Patrick Dougherty - President of Sun Life Global Investments Robert James Manning - Chairman of MFS Investment Management and Chief Executive Officer of MFS Investment Management Westley V. Thompson - President of Sun Life Financial United States Stephen C. Peacher - Chief Investment Officer and Executive Vice Preside Nt Claude Alam Accum - Chief Risk Officer and Executive Vice-President of Corporate Actuarial & Risk Management

Robert Sedran - CIBC World Markets Inc., Research Division Gabriel Dechaine - Crédit Suisse AG, Research Division Steve Theriault - BofA Merrill Lynch, Research Division Michael Goldberg - Desjardins Securities Inc., Research Division Doug Young - TD Securities Equity Research Andre-Philippe Hardy - RBC Capital Markets, LLC, Research Division Peter D. Routledge - National Bank Financial, Inc., Research Division Tom MacKinnon - BMO Capital Markets Canada Mario Mendonca - Canaccord Genuity, Research Division

Ladies and gentlemen, thank you for standing by. Welcome to Sun Life Financial's Third Quarter 2012 Earnings Conference Call. [Operator Instructions] As a reminder, this conference call is being recorded today, Thursday, November 8, 2012, at 10 a.m. Eastern Time. And I would now like to turn the conference over to Phil Malek, Vice President, Investor Relations. Please go ahead, sir.

Thank you, Luke, and good morning, everyone. Welcome to Sun Life Financial’s earnings conference call for the third quarter of 2012. Our earnings release and the slides for today's call are available on the Investor Relations section of our website at sunlife.com. We will begin today's presentation with an overview of our third quarter results by Dean Connor, President and Chief Executive Officer of Sun Life Financial. Following those remarks, Colm Freyne, Executive Vice President and Chief Financial Officer, will present the third quarter financial results. Following Colm's presentation, Kevin Dougherty, President, SLF Canada will provide an update on our Canadian business. Following the prepared remarks, we will have a question-and-answer session. Other members of management are also available to answer your questions on today's call. Turning to Slide 2. I draw your attention to the cautionary language regarding the use of forward-looking statements and non-IFRS financial measures, which form a part of this morning's remarks. As noted in the slides, forward-looking statements may be rendered inaccurate by subsequent events. And with that, I'll now turn things over to Dean.

Thank you, Phil, and good morning, everyone. Yesterday, Sun Life reported results for the third quarter of 2012 with operating income of $401 million or $0.68 per share on a fully diluted basis. The net impact of market experience was not material to earnings this quarter with operating income excluding the net impact of market factors of $405 million, up from $379 million last quarter. Operating return on equity was 11.6% for the quarter. Our businesses performed well, and I'm pleased with the progress we're making in executing on our 4-pillar strategy as demonstrated by the strong top line momentum in a number of our key businesses. Adjusted premiums and deposits grew 43% over -- year-over-year to $26.7 billion, helping to drive assets under management to $515 billion. This strong top line growth reflects the continued momentum in asset management, most notably, mutual fund and managed fund sales at MFS. MFS reported another exceptional quarter with growth sales of US$21.1 billion with strength in both institutional and retail flows. Assets under management reached an all-time high of US$304 billion. On the institutional side, MFS received $3.9 billion in net flows from new clients, including a large mandate from an Asian sovereign wealth fund and $2.4 billion in additional mandates from existing clients. These mandates were spread across 14 different styles, demonstrating strength across multiple categories. In retail, strong relationships and performance led to net flows of $4 billion, including strong inflows in both U.S. and international funds through distribution in North America, Latin America and Europe. In our Asian business, insurance sales in the Philippines were up 46%, benefiting from both agency expansion, as well as the successful integration of the Grepalife acquisition and bancassurance joint venture. Sales in China continue to expand well, and were up 48% over Q3 of 2011. In the United States, we're achieving the key milestones we set for ourselves both in Employee Benefits and Voluntary Benefits. Combined sales were up 56% over the prior year with the voluntary segment up 167%. We increased long-term disability rates for renewals and new business by 8% in the quarter, and that follows an increase in short-term disability rates of 3% to 7% from last December. We continue to build distribution in our group business, and have added 27 experienced hires year-to-date, bringing us to 170 sales reps, close to our year-end target of 173. Growth in voluntary benefits sales is coming as the distribution team added in the first half of the year is gaining positivity, aided by the launch of 6 new products this year. We completed the first enrollment test, using iPads to enroll employees. This distinctive capability, leveraged in part from our Canadian Group Retirement business, led to a significant increase in enrollment volumes. Scale and the ability to leverage leading technology platforms across our group businesses is truly a key competitive advantage for Sun Life. And as you can see from Slide 22 in the appendix to our presentation, our combined group businesses in Canada and the United States had $9.8 billion of business in force at the end of Q3. This ranks Sun Life Group's businesses #2 in North America. And it really is a reasonable way to think about the business given that we do leverage technology, product expertise and process both ways across the border. Our Canadian operations performed strongly across all businesses. And in a few minutes, Kevin Dougherty will provide more detail on some of the significant achievements and milestones, but let me just start with a few highlights. Individual life and health sales grew 25%. Group Benefits sales were up 20%. Group Retirement sales were up 18% and assets under administration finished the quarter at $53 billion, up $6 billion from a year ago. Client Solutions wealth rollover sales were up 21% and insurance rollover sales were up 25%. Sun Life Global Investment Mutual Fund sales continued their rapid growth, and assets under management reached $6 billion. Our people continue to look for ways to add value for our customers and our shareholders, and we had some notable successes in the quarter. In our U.S. business, we arranged to transfer $6.5 billion of assets under management on our variable annuity platform to MFS, which we anticipate will be finalized in the fourth quarter. This will provide our customers with high-quality investment choices from MFS with lower fees and expenses, and will add to the assets under management at MFS. This transfer also benefited our U.S. annuity operations, which recorded a gain of $14 million as a management action this quarter. In our Canadian business, we made a number of product design and pricing changes to continue to adopt our products for this low interest rate environment, and we expect to see the benefit of these changes in the fourth quarter and beyond. In our U.K. business, we reported very strong results for the quarter, reflecting significant benefits from harmonizing the actuarial models for the Lincoln U.K. business purchased in 2009 with the Sun Life business as part of our Solvency II work. Sun Life continues to be a strong and well-capitalized company with a minimum continuing capital and surplus requirements ratio of 213% at Sun Life Assurance as at September 30, remaining well in excess of regulatory requirements. I'm pleased to announce that the Board of Directors of Sun Life Financial has approved a quarterly shareholder dividend of $0.36 per common share, maintaining the same level as the previous quarter. As our results demonstrate, we continue to take action to meet our financial objectives, and execute on our growth strategy. We remain very focused on executing our key priorities, which are driving profitable growth, improving return on equity and reducing the volatility in our results. And with that, I will ask our Chief Financial Officer, Colm Freyne, to walk you through the results in more detail.

Thank you, Dean and good morning, everyone. Turning first to Slide 5. Yesterday, the company reported operating earnings of $401 million or $0.68 per share. The net impact of market factors on operating income in the quarter was modest at a positive $4 million. Our capital position remains strong as Dean noted, and we ended the quarter with a minimum continuing capital and surplus ratio of 213% at Sun Life Assurance up from the 210% in the second quarter. On Slide 6. Operating net income excluding the impact of market factors was $405 million in the third quarter. Positive equity market movements resulted in a net after-tax gain of $89 million. This impact includes gains from outperformance of underlying variable annuity investments versus their benchmarks of $19 million, a $12 million contribution from positive basis risk from the outperformance of underlying investments versus the relevant hedging instruments and a $5 million contribution from lower than expected volatility. The negative after-tax impact of $64 million from interest rates was driven by unfavorable credit spread movements and the impact from the decline of the ultimate reinvestment rate of $44 million. As I noted last quarter, we reflect changes to the ultimate reinvestment rate as they are realized in each reporting period similar to other market-based experience. Income in the third quarter included after-tax net gains of $13 million for increases in the fair value of real estate classified as investment property. Actuarial assumption changes driven by capital market movements had a negative impact of $42 million on this measure. These changes are primarily related to methodology refinements made as part of the annual updates to our economic scenario generator. The company's earnings sensitivity to a 100 basis point downward shock in interest rates reduced by $150 million as of Q3 due to additional hedging activity in the quarter, as well as modeling enhancements made as part of the third quarter assumption review. Turning to Slide 7, we have broken out other notable impacts to this quarter's results. The impact of investing activity on insurance contract liabilities resulted in a charge of $9 million. The net favorable mortality and morbidity experience of $15 million was driven by improved experience in our group businesses in Canada and the U.S., resulting from improved experience and a number of management actions over the last several quarters. Credit experience is a positive $17 million after tax. This favorable impact is attributable to our reduction in the mortgage sectorial provision of $6 million after tax, as well as the release of best estimate reserves in excess of downgrades and impairments in the quarter of $11 million after tax. Lapse and other policyholder experience did not have a material impact on the results this quarter with a net negative impact of $8 million, primarily related to our U.S. corporate-owned life insurance. Other negative experience of $29 million is the net impact of a number of factors, including data updates on our runoff reinsurance business in our corporate segment and modeling impacts related to our runoff variable annuity business. Other assumptions changes and management actions are composed of nonmarket-related items that have not been called out on the previous slide. The overall impact of other assumption changes and management actions in the third quarter was a positive $47 million after tax. Last quarter, we commented on the potential impact in the third quarter from assumption changes related to variable annuity policy holder behavior. Based on the third quarter review, we had a negative $49 million charge related to a reduction in variable annuity lapse assumptions in our U.S. business, reflecting recent company and industry experience. However, all other assumption changes and management actions more than offset this impact, resulting in a net positive in this line item. The final item on this slide, other items of $7 million after tax is primarily due to a charge to correct an overstatement of premiums receivable of our U.S. Employee Benefits Group. Moving to Slide 8, we provide details on our sources of earnings for operating income. Expected profit of $489 million represents a net increase of $72 million from a year ago. This increase was primarily due to higher assets under management at MFS and the change in methodology at the end of 2011 whereby hedge costs are now reflected in the reserves. New business strain of $46 million was flat to the third quarter of 2011, but improved by $10 million over last quarter due to lower strain in our U.S. and Asia businesses. Experience losses of $27 million reflect a pretax net impact of market movements and other experienced items described previously as notable items. Assumption changes and management actions resulted in reserve increases totaling a negative $19 million on a pretax basis, with charges for mortality and morbidity, policyholder behavior and methodology updates to the economic scenario generator being largely offset by improved expense assumptions, management actions and modeling enhancements. Earnings on surplus of $93 million were $7 million lower than the third quarter of 2011, primarily due to a lower level of securities gains in the quarter as compared to last year, partially offset by the net gains from increases in the fair value of real estate, classified as investment property, as described earlier. Turning to Slide 9, you can see the third quarter results by business group. Canada reported operating earnings of $221 million, an improvement over the $5 million reported a year ago. The current quarter results reflect the net favorable updates to actuarial assumptions and management actions, partially offset by the negative impact of credit spreads and changes to the ultimate reinvestment rate. Our U.S. business reported operating income of $18 million compared to a loss of $569 million reported a year ago. Results in the quarter reflect the positive impact from equity market movements and management actions in the runoff variable annuity business, offset by the unfavorable impact of updated actuarial assumptions and the negative impact of credit spreads. Operating earnings from MFS were $80 million, an increase over the $65 million reported a year ago, primarily due to higher assets under management and lower seasonal expenses. Pretax operating margin was 36%, up from the 32% reported last quarter. Operating income from our Asian operations was $35 million, up from the $26 million reported in the third quarter of 2011 due to the favorable impact of assumption changes and management actions, as well as higher earnings from the Philippines. Our U.K. operations reported operating income of $107 million compared to a loss of $14 million a year ago. The strong earnings this quarter reflect the modeling enhancements described earlier relating to the Solvency II preparation in the U.K. Also as a result of higher income in the quarter, previously unrecognized tax losses were recognized, resulting in a tax benefit of $10 million. Corporate support, included under the corporate segment, reported an operating loss of $60 million compared to a loss of $85 million a year ago. The reduced loss relative to the third quarter of 2011 reflects lower expenses and lower losses in our runoff reinsurance business. I'll now turn the call over to Kevin Dougherty.

Thanks, Colm, and good morning, everyone. I'm pleased to have an opportunity this morning to update you on the progress that we are making towards our 2015 targets and towards our goal of becoming the best performing life co in Canada. As Dean and Colm said, SLF Canada delivered very strong performance in the third quarter and this was across all of our lines of business. I'd like to take you a little deeper into our results, and show you how we are driving sales momentum, increasing our profit margins, reducing operating cost and fulfilling our pledge to deliver strong earnings growth to investors. Let's start with the top line on Slide 11. As you can see from our results in the third quarter, we are firing on all cylinders in Canada and have excellent momentum for continued growth. Our Individual Insurance business has been steadily gaining market share in the sale of life and health insurance products. We remain #1 in the health insurance market and in the second quarter of this year, overtook our next competitor to become the second largest writer of life insurance in Canada. Our success is then underpinned by our proprietary career sales force. We grew our career sales force by over 100 new advisers since this time last year while at the same time helping our existing advisers to become even more successful and productive. On the wealth side, Sun Life Global Investments or SLGI, our new mutual fund company, launched only 24 months ago, grew to almost $6 million of assets under management with over $700 million of sales this quarter. SLGI generated sales through our career sales force, third-party advisers, our Group Retirement Services business and our Rollover business. A key element of SLGI's growth is sales by our career sales force advisers, which nearly tripled over last year and where we are already attracting 14% of flows, well ahead of where we've expected to be at this time. We have the #1 Group Benefits and Group Retirement Services business in the country and they both continued to perform strongly with 20% and 18% sales increases, respectively, in Q3. And we are capitalizing on our unequaled access to group plan members through Client Solutions where rollover sales grew 21%, and we've generated over 33,000 leads for our career sales force advisers in year-to-date, an important example of how we're helping them to be more successful and productive. While we've been building on this great top line momentum, we’ve also successfully increased our profit margins in both individual insurance and individual wealth through product mix and pricing action. On Slide 12. You can see how we have reduced the percentage of universal life sales from 41% in 2007 to 21% in 2012, while at the same time growing overall sales at an annual rate of almost 8%. This year, we also took pricing action on our universal life and critical illness products to reset them for the current interest rate environment. Slide 13 shows a similar story on the Wealth side of the business where we have been replacing income class segregated process with growing sales of SLGI mutual funds, as well as GICs and payout annuities where we are the industry leader. Sun Life was the first company in Canada to begin de-risking our income class segregated fund products in 2008. This year we again adjusted our income class product and have recast to fund lineup to allow for even more effective risk management of the product. The sum total of these changes has been to shift the mix of our insurance and wealth sales to higher-margin and lower capital intensive businesses. Turning to Slide 14. In addition to strengthening the profitability of many of our existing lines, we’ve made a great progress in developing new, highly profitable revenue streams. As I mentioned, SLGI Canada is growing strongly and will allow us to retain a greater share of fees from asset management across many of our lines of business, including GRS and the Retail business. Defined benefit solutions offers a range of de-risking solutions to Canadian companies looking to remove pension risk and volatility from their balance sheets. We're the only Canadian insurer offering a full range of solutions. In the last 12 months, we have done almost $1 billion of this kind of business. Client Solutions is unique to Sun Life. Here we are able to leverage our top market positions and Group Benefits, GRS, our Career Sales Force and our sophisticated call center and data analytics capabilities to provide products and services to group plan members at the work site. SLF Canada also has the goal of becoming the most productive and efficient insurance operation in Canada. As you can see on Slide 15, we have already achieved over $20 million of productivity savings so far in 2012, and we have done this while providing better service to our customers. Better customer service through things like straight-through processing of claims, web and mobile access and one and done call center service actually saves us quite a lot of money. It all adds up to delivering value for shareholders. On Slide 16. You can see that our earnings growth over the last year has been strong. SLF Canada is well diversified and is proven to be very resilient in the face of even the most adverse economic conditions. Looking forward, we are well positioned for continued earnings growth with building sales momentum, increasing profit margins, new sources of revenue and reducing operating cost. We are confident in our ability to deliver on our 2015 objectives. And with that, I'd like to turn the call back to Phil for Q&A.

Thank you, Kevin. We'd like to ensure that all of our participants have an opportunity to ask questions on today's call so I'd ask each of you to please limit yourself to 1 or 2 questions and then to re-queue with any additional question. With that, I'll now ask Luke to please poll the participants for their questions.

[Operator Instructions] Your first question comes from the line of Robert Sedran of CIBC.

Just a couple of questions on MFS, actually. The margin moved nicely higher both quarter-over-quarter and year-over-year to a level that I -- well, I haven't seen. I'm not sure if it's been there before. Is that just the benefits of scale with the higher AUM or was there something else in that number, and how high do you think that -- it can go? I mean, can the margin cross 40%, sustainably?

Robert, we have Rob Manning on the line so we'll ask Rob to answer that question.

The margin that was reported for the quarter excluded the private Wealth sales that we had, which was about $8 million. The margin was actually a little over 37% for the quarter. So we backed that out to just give you what a run rate would look like. We did have spending a little bit lower than what we usually expect because we were launching a new brand campaign, so we pulled back on advertising. That will kick back in, in the fourth quarter. But the business is sustaining itself at around a 34.5% pretax margin, and we expect that number to be consistent with what you'll see in the fourth quarter. But as we move into next year with higher assets under management, given the strong flows we've had this year, we're expecting the margins to tick up about 100 to 150 basis points. And as I've described in the past, we think a sustainable margin for MFS is in the mid to high 30s, and we're strategically spending a lot of money because of the strong performance that we have. So we're spending the margin a little bit in this year, as well as going into next year just to keep the marketing program strong at the firm. But we think that the margin in the mid to high 30s is what you can expect going forward.

Okay. And Colm, just a quick question. The strain came down a touch this quarter. How much lower can that strain number go, and have we seen the full benefit of some of the pricing action that you've taken?

Yes. Rob, we talked a little bit about that last quarter, and we indicated that at the level last quarter of $56 million, we did expect it to come down and we said that we thought it could come down over a couple of quarters to more in the $40 million range. At the moment, it's sitting at $46 million. So I think we would still hold with that. It is on a trajectory, I think, to come down to somewhat lower than the current level, and we're hoping to get to that 40 level -- $40 million level by the end of the year. Of course, it can bounce around a bit so if it doesn't land exactly there in the quarter, you'll understand, but that's kind of where we see it heading toward.

Your next question comes from the line of Gabriel Dechaine of Crédit Suisse. Gabriel Dechaine - Crédit Suisse AG, Research Division: Just a bit of a follow-up on Robert's question there. You touched upon some of the pricing actions in the U.S. group and then in individual insurance in Canada, so that's expected to push the strain down below $40 million, if I'm hearing that correctly. But then there's other items like some management actions you've taken in the U.S. annuity's business, some expense management. I'm just wondering these are all items that are on a combined basis going to generate positive core earnings growth momentum. Do you have more in the works for next year? Just very curious because it's very positive to hear Sun Life with such a strong bottom line focus now.

Yes. Well, I think you've touched on quite a bit there, Gabriel, and I think you're right that we continue to look for opportunities on the in-force to optimize the in-force block. And some of that comes through in one-time earnings release and reserve release, and other parts of it come through on the run rate. So Dean mentioned earlier the transfer of funds to MFS. So you'll see that happen later this year, and that will obviously give rise to additional benefits at MFS in the run rate. So we're looking at all of these areas. On the strain, I said, around $40 million. I don't think I'd be committing to below $40 million at this point. And I think you touched on business activities and pricing activities in both Canada and the United States. And both Wes and Kevin are here to comment further if necessary but those types of actions are being taken to respond to low interest rates to make sure that we do preserve the right balance and mix between shareholder profitability and customer value. Gabriel Dechaine - Crédit Suisse AG, Research Division: I guess to be more specific, are you going to be taking more price -- additional pricing action next year or -- because of the low rate environment? Anything on the capital management front to reduce the negative carry in the surplus account, things like that? I'm just wondering what you have in mind. And then, I've got a follow-up, actually.

Well. Maybe I'll ask Wes to comment on actions in the U.S. around price activity.

Yes, so we did take, as Dean indicated, pricing action on our U.S. LTD product in the quarter, early this quarter. And what we'll see there, to your question, is really that action going both through new business, on average 8%, over time. So new business and as the business renews, we will, on average, be seeing that pricing action going to those cases going forward. So yes, we would see and anticipate seeing that impact our results over time.

Gabriel, it's Kevin Dougherty speaking. We don't see -- in Canada we've gone through a number of pricing actions on the individual side of the business, both with regard to seg funds, as well as life and health insurance products. And so we feel we've got them priced really well for the current interest rate environment. We'll continue to monitor that but they're producing very good returns now and are well positioned for this environment. Gabriel Dechaine - Crédit Suisse AG, Research Division: Okay. Just the other one. On the U.S. annuities business, you've got $1.6 billion of stat capital, at least that's what -- the figure from your Investor Day. What's the amount of additional capital, if any, at the holding company to kind of get it to a 200% MCCSR? And just for the sake of argument, you were able to sell that business and you got 1/2 book, what could we expect -- or .5x book multiple, let’s say. What could we expect in terms of a capital liberation post-sale?

Gabriel, it's Dean. Well, as you know, we don't comment on rumors like that. We continue to believe that the decision to stop selling variable annuity and life insurance last December was a very good decision. The annuity business as you know is not one of our 4 pillars of growth, but we are focused on optimizing the business, and that means doing a great job for our policyholders and continuing to look for ways to improve our results, and a great example, as we talked about earlier, the decision to map $6.5 billion of assets from third-party advisors to MFS. It's good for policyholders, good for MFS, good for Sun Life. So our main focus is to continue to de-risk the business, optimize it for all of the parties focusing on the cash flow, both in terms of earnings and repatriation of capital, as we discussed at Investor Day. Gabriel Dechaine - Crédit Suisse AG, Research Division: No comment on the additional capital at the holding company?

Gabriel, it's Colm here. You're really heading down the path of what's the potential loss, if there was a transaction, so I think has Dean has responded, we're not commenting on the transaction.

Your next question comes from the line of Steve Theriault of Bank of America Merrill Lynch

Much -- couple questions, please. First, for Steve Peacher, I noticed the cash balance has moved down about $1.5 billion this quarter. It doesn't look to me like there was any noticeable impact from yield enhancement, so can you talk about that a bit? Is there an issue of timing coming down the pipe, or something else there?

Yes, you're right. The cash did come down in the quarter for a couple of different reasons. One, where we just had some operational outflows, we had some collateral that was pulled away from us as our derivatives contracts moved and the collateral changed, but we did have net investment of about $1.2 billion out of cash and short-term bonds into longer-term securities or private placements. How that will show up in the financial statements is largely a function of the yields on those assets relative to what we already assume in the liabilities. And so that will show up over time. So -- and to some extent, some of that yield has already been assumed.

But no material amount came through the P&L this quarter.

I think that's right. I don't think there was a material impact this quarter. And, of course, that net investment was happening over the course of the quarter.

Okay. I think I understand that. I may follow up, though.

Listen, I -- But I will say that we are trying to -- in this environment with low yields, we are looking at our levels of cash and liquidity and want to be as invested as we can be to maximize the amount of yield we can garner.

I wasn’t under the impression it was that smooth of an outcome through the P&L. I thought I recalled last quarter there was a bit more of a lumpy item from that, but I can follow up. My second question was for Wes. Wes, can you give us a bit of an update as to where you are in your voluntary offering and initiative? How many products are you at, have you introduced so far, and maybe remind us of the runway? Also, I count about $60 million of year-to-date voluntary sales. I know the business is lumpy and skewed towards Q4, but can we still hold you to $115 million for the year?

So I'll answer the last part of the question first. Yes, very confident that we'll continue to see good growth in our group business overall. As you can see in the results, we had strong growth -- continue to have strong growth in Q3. And I would say that there really are 3 drivers of the growth in our group business and our voluntary business overall. One is the investment that we are making in group, particularly in the expansion of our sales force. As Dean indicated, we added 17 new experienced group reps and managers through the third quarter. In addition to that, we added 23 external and internal voluntary specialists, who are now working in collaboration with our very extensive group sales professional network that includes about 170 nationally. So that combination has really been very powerful in the marketplace. Second is that we're seeing an increase in productivity overall. So we've been working on this over the last couple of years and it's coming to fruition, partly because we have shifted our focus in hiring experienced representatives, and we have pulled back a bit on what has been traditionally a big rookie program here at Sun Life. So while we still do that, we've had much more focus on bringing in experienced people and that is beginning to show in the productivity of our sales force and then, therefore, reflected in the increase in sales. And the third, to your early question, we're expanded our capabilities across the board, so it isn't just product. While we have rolled out a record number of products in our group business this year, including critical illness, cancer, enhanced life and disability capabilities, we've also done a number of additional things in terms of just expanding how we go to market in the group and voluntary space, which is, quite frankly in some cases, leading edge in the marketplace. And I would say that we're taking learnings from our Canadian operation, as Dean pointed out, with the iPad enrollment, but we're also taking a lot of learnings from our experiences in the individual business. We had a great capability in individual things like customer relationship management tools that we’re now leveraging in group, internal sales desks so more to come on that front.

Okay. Great. And just as a quick follow-up, we talked, the better part of a year ago, I think, Wes, about some changes to the retention programs for the wholesalers. Has that come down the pipe yet?

Yes. We -- I think one of the keys to retention for wholesalers, quite frankly, is providing an opportunity for them to succeed. And what we're seeing is as we've expanded our capabilities and wholesalers, not only the ones that we have already but those in the marketplace, are seeing Sun Life as a great place to be right now for the group business.

Your next question comes from the line of Michael Goldberg of Desjardins Securities.

It's been rumored that you might sell your U.S. annuity business. If you did, is it reasonable to conclude that you'd have a big gain, that your MCCSR would improve meaningfully, and the impact on future earnings would be relatively small? And if these things are true, why would you not sell this business considering that it's now in run-off mode?

Michael, it's Dean. As I said earlier, we don't comment -- as you know, we don't comment on rumors. And so where I go to is talking about the fact that we decided to stop selling the product last December; continue to see that as a good decision. We're working hard on optimizing the business, and I won't repeat what I said earlier. But that's really our primary focus. Our focus is on optimizing the business. And as we said at Investor Day and as we've demonstrated, we think there's a lot to do there. There's a lot of opportunity to optimize it for policyholders and for shareholders, and that's what we're working hard on. So specific to your question, as I said, we won't comment, as you know, on rumors per se.

Without commenting on the rumor, can you at least clarify that the potential impacts that I've described are true or not?

Michael, no, we're not going to comment on, or speculate on questions of the kind you've answered -- or asked this morning.

Your next question comes from the line of Doug Young at TD Securities.

Just the first question on the U.S. business, again, Dean or Wes, I'm not sure who this is for, but -- and just a big picture question. You, obviously, when you decided to close down the Individual Insurance and annuity businesses, gave out targets that you thought that would free up capital above $100 million on an RBC basis and roughly add to earnings about $10 million to $15 million per quarter. And I guess I'm just looking for kind of an update in terms of how things have evolved on those 2 fronts relative to those targets that you talked about initially. And as you're running off those 2 businesses, I guess, the big concern always is, is there any issues that materialized, and we have haven't seen -- haven't really seen any big bumps. And I'm just wondering if there's anything that's concerning you as you're running those businesses down.

Yes, so, Doug, it's Colm here, and I'll comment a little bit around what we said at Investor Day and how we think about the value creation there. And in terms of the specifics around the business, Wes can comment. But I would say that we have, in the past, taken a dividend from Sun Life U.S. when its capital ratio permits that and we took one at the end of 2011. And the way we look at Sun Life U.S., which has, just to remind everybody, has the variable annuity and the fixed annuity business and that we look at that on a U.S. RBC basis, and at the end of 2011, it had a ratio of just over 400% and it's tracking along in that region as we speak today at the end of Q3. So we do look at taking a dividend when the opportunity presents itself, and we continue to optimize the business as we've talked about earlier, and to manage that. And then, of course, the individual life business, which is in run-off in the U.S. is in the branch. So that's outside of Sun Life U.S. And there's nothing, in particular, to comment on. The impacts that we talked about in the quarter around market impacts, interest rates and then largely, credit spread tightening this quarter, that did impact the results. But as we've noted, we adjust for those, and coming back to a market-adjusted earnings number, and that's what you see. So it's behaving in accordance with our expectations.

I would only add, Colm, that one of the other items that we pointed out was the need to significantly reduce the expenses associated with the U.S. So we set a target to achieve $170 million of expense reductions and we're right on track to achieve that, and we'll see that ongoing in the run rate as we go into 2013.

Your next question will come from the line of Andre Hardy of RBC Capital Markets.

I have 2 questions that are similar in nature. The first is for Kevin. On the Slide 16, you show your operating net income in the last 12 months and for your 2015 target, that implies a rate of growth of 3% a year, so are you truly expecting growth that low? Is the target conservative? Or did you over-earn in the last 12 months? And then the other question that's similar in nature is probably for Dean. You had 11.6% ROE in the quarter and you're targeting 12% to 13% in 2015. It feels to me like you're progressing fast on your ROE improvements. At this point, would you say that you're ahead of where you thought you'd be or that your target is conservative?

Andre, it's Kevin speaking. So when you look at the last 12 months' earnings, we've got a very, very robust underlying increase in earnings. At the same time, included in those numbers is some ACMA [ph] and some AFS gains. And so I think the way I would say it is we're on a good trajectory to 900 when you kind of factor those things in, and that's where we're headed.

And Andre, on your second question, we're pleased with the progress this year on return on equity, as I said, 11.6% in the quarter and year-to-date, 11.7%. But as we look ahead, we still believe that 12% to 13%, the targets we put out at Investor Day, which, just to remind everybody was only 8 months ago, continue to be suitably ambitious. And the one thing I'd call out here is the persistent impact of low interest rates. And as we indicated, we expect that impact to show up in terms of a headwind of circa-$150 million a year for each of the next 3 years, something like that. And we saw that in the third quarter. We expect to see that, I think the number was $50 million in the fourth quarter, and that certainly factors into our thinking about our 2015 plans.

And so those targets include URR revisions. I was under the impression they didn't.

Yes, but the targets that Dean mentioned are before the URR revisions. But I think Dean's point is really, the broader point about the very low interest-rate environment, which continues to provide a headwind. We didn't, for example, comment on the impact of lower rates on the earnings on surplus, and that clearly has an impact as investments mature and we reinvested at lower rates. Now as Steve mentioned, there's areas that we can pursue there to try to overcome that, but the general headwinds of a low-rate environment, as Dean mentioned, do make the 2015 objectives suitably ambitious.

Your next question comes from the line of Peter Routledge of National Bank Financial.

Just a question on the assumption changes. Looking at Page 22, the sub-PAC, it looks like you have a pretax $152 million charge for assumption changes in the United States. That's not a small number but it's certainly quite low, relative to certain peers if you look at it in relation to your liability in the U.S., for example. So obviously there's some VA lapse assumptions in that. I wonder if you could sort of unpack that a little bit further and quantify what other drivers may be pushing that up to $152 million. Are there any withdrawal assumptions, bond parameter changes, that sort of thing?

Yes, so it's Colm here, and I'm going to look to Claude Accum here, our Chief Risk Officer, maybe to give us a little more perspective around this. But the way the assumption changes broke out is complex, so that you had some positives, for example in the United Kingdom, and you had, as you quite rightly point out, some negatives in the United States. And we've called out a couple of the items, the big items, the updates to the economic scenario generator would be coming through there. We commented on the policyholder behavior, the U.S. policyholder behavior of $49 million. So I think those are the big items, but perhaps I'd ask Claude if he's got any additional comments.

Yes, Peter, if I was to look at the pretax number which we reported, it's $152 million charge. After tax, it's $114 million. And so maybe I could unpack the $114 million for you. The 3 largest items would be the $49 million on update to the lapse of VA assumptions, which Colm talked about, and which brings us in line with our recent experience and industry experience. We did some updates to the economic scenario generator in the VA business. That's perhaps in the $25 million range. And then there were some updates to commercial mortgage assumptions, with respect to ratings and defaults, and that was about $25 million charge.

Okay. I think the question behind the question is this block of business doesn't appear to me to be as costly in terms of actuary reserve changes, as we've seen elsewhere in the industry. Is that better product design going back a decade, or better hedging? Or is there still a downside risk that you'll get some behavior or other data that will all of a sudden lead to a larger charge somewhere down the line? That's a question I just -- I'm trying to get my head around.

Well, Peter, I think you might be looking at a fairly small population of companies here that report under Canadian GAAP as you think about some of these changes. So taking too much inference from that small population I think would be difficult. We think that we are keeping up-to-date with all of the actuarial assumption changes required, and we're not signaling that there's some further charges to come on these items. But clearly, we have to take account of the relatively modest policyholder experience that exists for variable annuity. So that's a journey we're on and we'll be monitoring what's happening both in our own block and with industry experience. So I really -- that's how I would see it, that we have to -- each company has to look at its own set of facts and circumstances.

You're not seeing anything that says – that’s flashing red, saying look out, bad news coming.

No, we've just gone through a very comprehensive process, as we do every year in our third quarter, and we continue to look at other items during the other off quarters. But the big effort does land largely in the third quarter so that was a comprehensive review. And we believe brings us up-to-date with our experience and the other reviews that have taken place.

Your next question comes from the line of Tom MacKinnon of BMO Capital.

I'm surprised we have gone this long without a question on the goodwill. If I take a look at the business units that you mentioned, there's about $1.1 billion in goodwill for those business units. I think we saw Manulife take a 50% goodwill hit to their Canadian individual insurance business. Can you talk about the potential that you flagged here for a goodwill hit in the fourth quarter?

Tom, it's Colm here. So after hearing Kevin talk this morning about all of the good things that are going on in the Canadian business, you might wonder why we would even be having a conversation about goodwill. And I remind you little bit around the history of goodwill charges under Canadian IFRS or Canadian GAAP, as it now incorporates IFRS, and prior to the adoption of international standards, goodwill is, as you know, assessed at a business group level and it's now done on a more granular cash-generating unit. And when we think about Canada, the individual wealth business, we did take a charge last year in the fourth quarter to reflect the more challenging environment, the lower interest rates, et cetera, and that left a residual goodwill for individual wealth of $158 million. So that would be the piece of goodwill that would be, I think, most at risk in this continued low-rate environment. And for the individual business in Canada, the individual insurance business, that has a goodwill balance of $900 million. That is a very large business. And I think the way to think about it is that we go through this exercise every year in the fourth quarter. We do an appraisal of the businesses where goodwill is associated with those cash-generating units. It's a fair amount of work. We don't ignore goodwill during the rest of the year. We continue to monitor the goodwill-carrying values against a set of indicators to see if there's any indication of impairment, and none of those have been tripped. So we're not suggesting to you that we have some major concern. We’d just point out that the goodwill impairment test is a big exercise because it requires an appraisal of the business and we need to think about the in-force, we need to think about the sales, we need to think about distribution. And as Kevin has mentioned, we're doing very well on many of those measures. And that's not to say, however, that in a low-rate environment, with the kind of pressures that we've seen, that we won't be taking a very close look at it in the fourth quarter. But we're not signaling to you that our own assessment is telling us that there's a problem at this point. We're simply, as we do under our disclosure obligations, bringing it to your attention that it's an exercise we go through in the fourth quarter.

You had mentioned in the Individual Insurance, the excess of the fair value over the carrying value was relatively small at the end of 2011 for the individual insurance in Canada. Presumably, you've got some sort of different discount rates for that right now. I guess we'll just to wait until the quarter to see if it...

Yes, that's right. I mean, I wouldn't try to get into a preliminary view of where we're at on that. It's -- as I mentioned, there's a lot of work that goes into this assessment every year. It's rather unfortunate because the way many of us would think about goodwill was under the old method where you assess goodwill at the business group level. And as we know, when goodwill is increasing in certain businesses because of the positive actions that are taking place, that does not get reflected on the books. But when you have the more granular approach to goodwill assessment, you are inevitably in a world where some businesses are under pressure and it's a one-way ratchet. When it goes down, it doesn't get rewritten. It doesn't get written back up again. So that's how we think about it, and we'll go through the exercise.

And then one quick follow-up. There's modeling enhancements here, and I believe you said they were in the U.K. and they related to Solvency II. I'm not sure how that translates into Canadian IFRS actuarial reserve releases but I assume that accounts for the bulk of the $78 million in terms of other that you note in terms of reserve releases on Page 7. So maybe you can help understand.

Yes -- no. Great question, Tom, and perhaps it's a little bit of our own way of thinking about what's been going on. When we talk about the Solvency II initiative, we're not talking about the -- adopting a different way of reserving or considering capital for the business. Under Solvency II, there's a lot of work that has to be done to make sure that the models are fit for purpose and refined, et cetera, to reflect the latest regulatory requirements there. They’re still absolutely in accordance with Canadian accounting requirements. And as part of the Lincoln block of business, which was migrated this quarter over to the Solvency II-ready models, there was a refinement that gave rise to the release.

The release -- I don't understand. This is all done to report Solvency II, it's not -- is it an expense save? I'm trying -- I'm a little bit confused still, sorry.

Yes, sorry, Tom. It's not focused on changing it to a Solvency II regime; it still continues to be under a Canadian accounting regime. The Solvency II references the fact that under Solvency II, there is a lot of work required to migrate to models that are proved for Solvency II purposes. They're still -- those models are still absolutely in accordance with our accounting requirements on a Canadian GAAP basis. And that work is what gave rise to the migration, and the migration gave rise to the release.

…Cormark Securities.

I just wanted to drill down into one thing, not killer important but I do kind of want to ask you, on Page -- of your supplemental, I'm looking at Page -- sorry, Page 13, the U.S. annuities business. I was hoping maybe you can help understand the shift of the assets, the $6.5 billion to MFS to manage. So if I'm looking at this correctly, can you just help understand the -- currently how much of the assets under management here are being managed by MFS? And secondly, what's the governor -- I mean, what stops you from going 100% managed by MFS? And if you can just provide some more color around why it produces a $14 million gain, that would be good for me.

Well, let me start with the $14 million gain. So as a part of this particular transaction, there is a fee discussion and the reduction in the fee represents a reduction in expense and that provides us with the ability to recognize the reserve reduction as the account values will grow at a faster rate. So that's good for policyholders as well, and it results in a benefit here, and it still all works for MFS. The governors are around the -- ensuring that policyholders’ interests are preserved in all of these types of transactions, to ensure that the fund transfers meet all of the regulatory requirements. And we've managed to achieve that with the change that will take place. I don't have the specifics on the MFS and the amount of the funds that are managed by MFS. They do manage a portion of the business, but I don't have those numbers to hand.

But it's safe to say that it's higher than $6.5 billion, but we don't know...

The total funds managed by MFS in our VA block is about 25% of the overall assets under management.

And your next question comes from the line of Mario Mendonca of Canaccord.

A bit of a broad question. If you start with the notion that Sun Life generates, say, between $350 million and $400 million in core or, call it operating earnings each quarter. It would be helpful to understand what proportion of that, and in a typical quarter relates to businesses that you would call run-off, like the parts of your U.S. business, the U.K., or parts of your reinsurance business, what proportion of that would you say is essentially run-off businesses?

Mario, it's Colm here. I don't have that percentage. It obviously is not trivial, and as the business -- as we migrate the business to those -- the 4-pillar strategy that Dean commented on earlier, we'll be focusing more of the profitability on businesses that are in growth mode. But nonetheless, we do have businesses that are not part of that 4-pillar strategy, going forward, that represent a significant contribution.

Would I be correct in saying that it's about 1/3 of that -- of your core earnings are essentially run-off businesses?

Mario, that sounds a little high. I'd like to go and check percentages before I had to confirm or deny.

Okay. So assuming we're somewhere between, say, 25%, make it something less than 33%. Where I'm going with this is you talk about a business that these businesses can extend out, I think you said 5 to 8 years, in various forms. How do you grow these 4 pillars fast enough? Like what kind of growth do you need to see in these 4 pillars to offset sort of the natural decline in those other businesses going forward? I mean -- and I understand what your overall objectives are, but what are you telling us about the growth potential on the pillars such that they're sufficient to offset the natural decline in the other businesses?

Well, Mario, I think the best way to think about that is to go back to our Investor Day material where we -- when we set the targets for 2015, they reflect all of those various moving parts. Now I appreciate, over the 4 years from 2012 to 2015 inclusive, that the run-off of the both the U.K. closed book, which is a very gradual run-off and the run-off of the U.S. closed businesses, are pretty gradual over that timeframe. And so what you see, and what we modeled and projected at -- back in March, was the net of all those moving parts was an ambitious plan to grow the earnings to $2 billion. And as I say, that reflects all the various moving parts. What we haven't done and put out there is, what does life look like in 2016 and beyond. And right now from where we sit, that's a long ways away, and we're focused on our 2015 targets.

And Mr. Malek, there are no further questions at this time. Please continue.

Thank you, Luke. I'd like to thank all the participants on our call today and if there are any additional questions, we'll be available after the call. Should you wish to listen to a rebroadcast, it should be available on our website later today. And with that, I'll say thank you and good day.

Ladies and gentlemen, this does conclude the conference call for today. We thank you for your participation, and you may now disconnect your lines.