Loews Corporation (NYSE:L) Q2 2020 Earnings Conference Call August 3, 2020 10:00 AM ET

Company Participants

Mary Skafidas - Investor Relations
Jim Tisch - Chief Executive Officer
David Edelson - Chief Financial Officer

Operator

Ladies and gentlemen, thank you for standing by and welcome to Loews Corporation’s Second Quarter 2020 Earnings Conference Call. [Operator Instructions] Thank you. It is now my pleasure to turn the call over to Mary Skafidas to begin. Please go ahead, ma’am.

Mary Skafidas

Thank you, Maria. Good morning, everyone. And as Maria said, welcome to Loews Corporation’s second quarter earnings conference call. A copy of our earnings release, earnings supplement and company overview maybe found on our website, loews.com. On this call this morning, we have our Chief Executive Officer, Jim Tisch and our Chief Financial Officer, David Edelson. Following our prepared remarks this morning, we will have a question-and-answer session from that has questions from our shareholders.

Before we begin however, I will remind you that this conference call might include statements that are forward-looking in nature. Actual results achieved by the company may differ materially from those made or implied in any forward-looking statements due to a wide range of risks and uncertainties, including those set forth in our SEC filings. Forward-looking statements reflect circumstances at the time they are made. The company expressly disclaims any obligation to update or revise any forward-looking statements. This disclaimer is only a brief summary of the company’s statutory forward-looking statements disclaimer, which is included in the company’s filings with the SEC. During the call today, you may also discuss – we may also discuss non-GAAP financial measures. Please refer to our security filings and earnings supplement for reconciliation to the most comparable GAAP measures.

In a few minutes, our CFO, David Edelson, will walk you through the key drivers for the quarter. But before he does, Jim Tisch, CEO will kick off the call. Jim, over to you.

Jim Tisch

Thank you, Mary and good morning everyone. Rather than get into specifics about the quarter, I want to use this call today as an opportunity to get something off my chest. I am beyond frustrated with where the low – where the stock market has been pricing Loews and CNA and I can’t believe how undervalued the stocks are. Loews’ market capitalization, as of this morning, is about $9.8 billion and our stake in CNA plus net cash alone, account for more than $9.4 billion of that number. That leaves the market’s valuation of our non-publicly traded subsidiaries, Boardwalk, Loews Hotels and Altium at less than $500 million, which to my mind is patently absurd. I also think CAN’s value is patently absurd, but more on that later.

Let’s look at each of Loews’ privately held subsidiaries to see if I can demonstrate to you that collectively, they are worth dramatically more than $500 million. First, let’s look at Boardwalk pipelines. In July of 2018, Loews purchased the outstanding common units of Boardwalk that we didn’t already own for $1.5 billion, putting the total equity value of Loews’ ownership stake in Boardwalk at $3 billion. Keep in mind that Loews is in litigation over Boardwalk with a trial date set for January of 2021, so we can’t get into too much detail. However, since the time of our purchase of Boardwalk’s remaining public float, nothing has occurred with the performance of the company that would lead us to reconsider that purchase. Boardwalk has successfully made it through the challenge of re-contracting and since going private has reinvested a majority of its distributable cash flow in order to reduce the risk and volatility of future earnings.

And since July of 2018, EBITDA for the business is essentially flat despite the significant re-contracting headwinds the company has experienced. While future growth projects have become more difficult to complete in the current regulatory environment, Boardwalk benefits from its base of 14,000 miles of pipe in the ground. Boardwalk also benefits from stable fixed fee contracts. The company has over $9 billion of contractual backlog or 7x Boardwalk’s annual revenues. Essentially, I am comfortable with the guidance I gave last quarter for Boardwalk. The company is currently tracking slightly better than forecast for the first half of the year. Its flow volumes are up, the pipes are doing well and storage revenues are strong. At the end of 2020, Boardwalk should continue to have a debt to EBITDA ratio below 5x. For all the reasons I’ve just outlined, I am very disappointed by the markets implied value of Boardwalk. Clearly, the company is worth much more than the market gives us credit for.

Let’s take a look at Loews Hotels. At the risk of stating the obvious, this year will be a washout for the entire hotel and travel industry and Loews Hotels is no exception to the rule. During my first quarter remarks, I made note of the fact that there were only 4 Loews Hotels open at the time. Today, many more of our hotels are operational, but occupancy rates remain abysmally low, especially for our properties located in city centers. Our resort hotels are doing a bit better, but since many of them are located in COVID hotspots, there is plenty of room for improvement. I believe that over time, whether through a vaccine or other mitigants, the travel industry will recover. And Loews Hotels will once again be a growth engine for Loews.

One last thought on hotels. As I mentioned, the market currently values our privately held subsidiaries at about $500 million. We make available on the parent company website, Loews Hotels’ adjusted EBITDA and adjusted mortgage debt. When looking at these numbers, however, keep in mind that the hotel company has invested equity in projects that have recently opened or have yet to open and the true earning power of these hotels has never been reflected in Loews Hotels’ historical EBITDA. It’s clear that even if you did a back of the envelope valuation for Loews Hotels, you would see that in any sort of hotel industry recovery, the equity we have in Loews Hotels would be measured in the billions of dollars.

Before getting to CNA, let me address our privately held subsidiary Altium. Altium became a Loews subsidiary in 2017. At the time, Loews paid $1.2 billion for Altium, consisting of $600 million in equity and $600 million in subsidiary debt. When we acquired the company, Altium’s net sales were about $800 million, now Altium’s net sales have grown to about $1 billion, driven mostly by six accretive acquisitions funded with internally generated cash flow and additional debt at the subsidiary level. With everything we are seeing, we think this will be a good year for Altium as year-to-date organic EBITDA has grown by about 13% and total EBITDA has grown about 35%. Judging from the increase in sales and improved earnings, it’s clear that our equity value in Altium is worth more than what we paid for it a few years ago. After the survey of our privately held subsidiaries and the description of how we think about each of them, hopefully, you will understand why I feel the market is asleep at the switch when it comes to Loews stock.

Last but certainly not least, I want to talk about our publicly held subsidiary, CNA. So far, I have focused my remarks on how wrong the market has been in valuing our privately held subsidiaries. But that doesn’t mean the market has gotten CNA's valuation right. CNA trades at a substantial discount to its peers despite its stellar underwriting performance. And while CNA trades at a discount, I believe the commercial property and casualty insurance industry itself is undervalued by the market. While the S&P trades at around 20x next year’s earnings, the commercial P&C industry trades in the high single to low double-digits. And a show of support for CNA and its management team and to signal our displeasure with the market’s valuation of the company, Loews bought about $0.5 million shares of CNA in the second quarter.

And speaking of the second quarter, I want to take a moment to commend CNA's management team on delivering strong underlying results, especially considering the challenging economic environment. When you strip out all the noise in the quarter, the company’s underlying combined ratio was 93.4%. CNA continues to benefit from a strong premium rate environment. Rates increased by 3 percentage points from the first quarter of 2020 to about 11% in the second quarter and the company is actively managing its long-term care business taking actions to reduce risk now and into the future.

CNA's investment portfolio also had a good quarter, reflecting the market’s rebound. The CNA investment portfolio had $4.4 billion in unrealized gains. At the end of the second quarter, the portfolio has bounced back nicely and its unrealized gain was near its prior high. The downside of such large unrealized gains is that the market yields are low. The yield on 10-year Treasury notes is currently below 60 basis points for entities like insurance companies that make money on float, such low rates can become a drag on earnings. All else being equal, a 100 basis point increase in market yields would reduce CNA's unrealized gains by about $2.7 billion. However, investment income would go up dramatically. In short, CNA would have lower unrealized gains or would have higher earnings in the intermediate to long-term.

Finally, I want to talk about capital allocation at Loews. Over the last quarter, we bought a little under 1 million shares of Loews stock and as I mentioned, about 0.5 million shares of CNA. We bought the CNA shares because we wanted to send a signal to the market that we think the company is trading at too steep the discount, with over $3.6 billion in cash and investments on our balance sheet. We are willing to continue to highlight how egregiously our shares and CNA's shares are being priced. That means that share repurchase purchases are certainly not off the table, but we won’t be buying in shares at the pace set over the last 2 years. Right now, as we experienced so much uncertainty in the world and the financial markets, our focus is on maintaining a substantial cash position as our rainy day fund. At Loews, we are constantly reevaluating our capital allocation strategy and making adjustments accordingly. And 2020 is no different.

And now, I would like to hand the call over to our CFO, David Edelson.

David Edelson

Thank you, Jim and good morning everyone. For the second quarter, Loews reported a net loss of 835 million or $2.96 per share compared to net income of $249 million or $0.82 per share in last year’s second quarter. This year’s second quarter included a net investment loss related to the deconsolidation of Diamond Offshore caused by its bankruptcy filing in late April. This loss totaled $957 million after-tax. Two other items furthered the year over year decline, catastrophe losses at CNA and losses at Loews Hotels stemming from the severe impact of the pandemic on travel. On a positive note, CNA's underlying underwriting results were excellent. Investment results were favorable at both CNA and the parent company and operations at both Boardwalk Pipelines and Altium Packaging were strong.

Before I jump into the quarter and the ongoing impact of the COVID-19 pandemic, let me remind you what gave rise to the Diamond related net investment loss. Up to the bankruptcy filing date of April 26, we accounted for Diamond on a consolidated basis, just as we have historically. These results are shown on Page 4 of our earnings release on the Diamond Offshore line. Once Diamond filed for bankruptcy, Loews no longer control Diamond for GAAP purposes. As such, we seized consolidating Diamond and began accounting for Diamond at fair value. Our net GAAP carrying value of Diamond was $988 million as of the bankruptcy date. At quarter end, the carrying value of our stake was $31 million based on the fair value of our shares and a related deferred tax asset. The difference between these two values, are $957 million is included in the corporate segment as the net investment loss.

Now, let me turn to the performance of CNA, Boardwalk, Loews Hotels and Altium Packaging. CNA's contribution to our net income declined 46% year-over-year to $135 million. The P&C business performed well, posting an underlying combined ratio of 93.4% and an average rate increase of almost 11%. As a reminder, CNA’s underlying combined ratio for full year 2019 was 1.4 points higher at 94.8%. However, as pre-announced on July 15, CNA booked $300 million of pre-tax – $301 million of pre-tax catastrophe losses in Q2, up from $38 million in last year’s second quarter, 60% of these cat losses related to the COVID-19 pandemic, with civil unrest and weather related events accounting for about 20% each. CNA's $182 million of Q2 COVID related cat losses, combined with a $13 million booked in Q1, represent the company’s current best estimate of its ultimate insurance losses and loss adjustment expenses, including defense costs resulting from the pandemic in the consequent economic crisis.

Second quarter cat losses in total added 17.5 points to CNA's loss ratio and reduced our net income by $212 million. Last quarter, we discussed how COVID induced volatility in the financial markets reduced CNA's net investment income, caused significant net investment losses and materially shrunk the unrealized gain in the company’s investment portfolio. In Q2, net investment income benefited from a strong quarter for equities and alternatives and net investment gains were significant, largely thanks to the market appreciation on CNA’s holdings of non-redeemable preferred stock. Moreover, as Jim described, CNA’s net unrealized gain increased more than 100% from March 31 to $4.4 billion, surpassing the year end level of $4.1 billion.

Moving on to Boardwalk, the company contributed $34 million to our net income in Q2, down from $53 million last year. Last year’s second quarter included a $19 million net benefit from a customer bankruptcy and related contract cancellation. Excluding this non-recurring item, Boardwalk’s net income contribution was flat year-over-year. As we have discussed previously, Boardwalk has experienced contract expirations and restructurings over the past few years related to pipelines placed into service between 2008 and 2010. The net effect has been for contracts to be renewed or replaced at lower rates. This re-contracting activity essentially concluded by year end 2019. This year’s second quarter results fully reflect the re-contracting activity.

Net operating revenue in Q2, excluding last year’s non-recurring item, was down less than 2% year-over-year with pipeline growth projects, park and loan and storage and other items almost fully offsetting the revenue loss from contract expirations and restructurings. Natural gas throughput and liquid volumes increased more than 7% year-to-date in 2020 versus 2019. Boardwalk management is actively monitoring the credit quality of its customers, given the declines in crude oil and natural gas prices. Thus far, the impact has been de minimis. Boardwalk will have spent approximately $2 billion on growth projects during the 2016 to 2020 period. These investments have helped the company compensate for the re-contracting pressures faced over the last 2 years. These investments have also allowed the company to execute on its strategy to diversify its revenue stream by increasing the percent of revenues coming from end user demand pull customers.

Now, turning to Loews Hotels. The second quarter was tough for Loews Hotels, as almost all its rooms were out of service for most of the quarter. Operations were not suspended at only 4 properties. The company posted a net loss of $72 million in Q2 as compared to net income of $12 million last year. GAAP operating revenue was just $9 million, down 94% from last year’s second quarter. Revenue at the company’s JV properties, which is not included in GAAP consolidated operating revenue, declined a similar percentage. Adjusted EBITDA, which is defined in our earnings supplement and excludes non-recurring items decreased $122 million year-over-year to a loss of $54 million. 13 properties resumed operations in Q2, spread out from May 29 through June 26 and the Loews Kansas City opened on June 1, after its grand opening was delayed by COVID. 5 more properties resumed operations during July. As of today, 4 properties plus the yet to be opened Endless Summer Dockside property in Orlando, are not operational. We stated last quarter that during each month of suspended operation – of fully suspended operations, the hotel company was expected to generate negative cash flow of about $25 million. We explained that this amount should decline as properties resume operations since Loews Hotels’ management intended to restart operations of properties only when doing so improve cash flow. This has thus far proven to be the case as the hotel company is effectively and aggressively managing property level and management company expenses.

Turning to Altium Packaging, Altium continued to experience strong revenue and EBITDA growth as it benefited from its recent acquisitions, namely its pharmaceutical packaging business as well as increased demand for such core products as household chemicals, water and beverages. Conversely, demand weakened somewhat in segments, including automotive, commercial foodservice, and institutional dairy. Altium contributed a slight net loss despite its robust EBITDA increase. Depreciation and amortization were up from their prior year driven by the recent acquisitions and by the accelerated amortization of the CCC trade name. All-in-all, Altium is performing above plan and has been very successful in winning new business by demonstrating reliability and customer focus. Across the board, we remain focused on ensuring that our subsidiaries implement effective policies and procedures to protect the safety and health of their employees. Loews’ long-term success rests on the success of our subsidiaries. So the well-being of their employees is our foremost concern.

Finally, a few words about the parent company. As always, we are focused on maintaining a strong and highly liquid balance sheet. At quarter end, the parent company portfolio of cash and investments totalled $3.6 billion, with about 80% in cash and equivalents and the remainder mainly in marketable equity securities and a small portfolio of limited partnership investments. The parent company investment portfolio generated pre-tax income of $110 million in Q2, up from $33 million in Q2 2019 and well ahead of the $166 million loss in Q1. Equities drove the parent company investment results. We received $90 million in dividends from CNA during the second quarter. As a reminder, Boardwalk has adopted an annual dividend policy and we expect to receive a dividend in the fourth quarter approximating last year’s $100 million.

I will now hand the call back to Mary.

Question-And-Answer Session

A - Mary Skafidas

Thank you, David. As is our practice, we have received several questions from shareholders that we will answer. Every quarter we encourage shareholders to send us questions that they would like us to answer and we have received several for this quarter. First question has to do with CNA. Loews has more privately held subsidiaries and publicly held subsidiaries. What is the benefit of CNA as a public company?

Jim Tisch

So, we have always believed that having a public marker for CNA is beneficial for Loews, especially for our shareholders. And I dare say that if CNA wasn’t public, there would be clamoring for us to take it public. However, it’s really rare for CNA to be trading as drastically undervalued as it is now. The public – my sense is that the public market today doesn’t make much sense and is certainly not an accurate reflection of the value of CNA. Also, all P&C companies, as I said in my remarks, are undervalued. Of course, there are lots of good reasons for keeping CNA as a public company and those outweigh what I consider to be the short-term problem of the undervaluation. Number one, it’s important to regulators and credit rating agencies. It’s important for attracting talent to be able to give them long-term incentive that is based on the stock and it’s also important just for transparency. And as for the added expense of keeping CNA public in the context of the size of Loews and of CNA there really aren’t any significant expenses that could be saved.

Mary Skafidas

Okay, great. The next question has to do with the deal environment. Jim, is Loews is looking to add another subsidiary right now?

Jim Tisch

No, we are not. We are not actively looking at any deals right now in these uncertain times. As I said in my remarks, our focus is on conserving cash. Both CNA and Loews are so cheap that when we think the time is right, we will continue to buy in Loews shares. But as I say all the time, we like to keep an open mind. And if the relative values of Loews and the deal markets change, then it is very possible that we could switch from repurchasing our own shares to hunting for new businesses to buy.

Mary Skafidas

Jim, you said in your remarks that this year is probably a washout for the hotel travel industry can you talk a little bit about what recovery in the hotel industry looks like?

Jim Tisch

Washout, it certainly is. First, let me start by saying something that was told to me when I was in college, it’s an old expression. He who lives by the crystal ball must learn to eat ground glass. And with that as a caveat, let me add that I think 2020 will be the bottom of the hotel industry in terms of the effects of the pandemic and I believe that 2021 will be dramatically better than 2020 and if I am going to forecast longer than that, I think that ‘22 will even be better than ‘21. Currently, we are seeing more of a pickup in driving leisure type travel at our resorts destinations. The business travel and hotels and city centers are lagging the resorts at this point in time. My guess is that this will persist for some time as companies weigh employee safety and security as well as reassess their travel budgets. But I believe that in the fullness of time, those – that travel and those budgets will be come back at similar levels to where they were before this all began. Keep in mind that we are seeing a pickup in occupancy from a few months ago, but occupancy is still very, very low measured at 10%, 20%, 30% or 40% most of the time. We opened the hotels, because we found that we lose less cash by keeping the hotel hotels open rather than keeping them closed, but we are still losing money in those hotels.

Mary Skafidas

Okay. The next question has to do with capital allocation. Loews has plenty have cash on its balance sheet. And with Loews’ stock trading where it is, why not use $1 billion or $2 billion towards share repurchases?

Jim Tisch

So, that’s a very good question. We keep – as you all know, we keep our level of cash and investments above our debt levels, because it’s important for the company to maintain its bond ratings and the rating agencies like to see us have more cash and investments than debt. The Loews rating provides an uplift to some of our subsidiary ratings giving them among other things, access to cheaper debt. So under exceptional circumstances, we would certainly consider allowing our cash and our investment balances to go below our debt levels, but buying in Loews’ shares at an exceptional price isn’t yet included in my definition of an exceptional circumstance. Currently, given the ongoing uncertainty in the world, we think it makes a lot of sense to be cautious and maintain ample liquidity. But as Loews shares continue to be remarkably undervalued, my calculus on this is very possible to change.

Mary Skafidas

Okay. And the last question we have is we just received this question even though you answered this topic earlier in the call, we wanted to ask it again. The question is the market is giving Loews almost no value for its privately held subsidiaries. How should investors think of Loews’ debt value?

Jim Tisch

Well, you are right, I did cover it in my opening remarks and for people that are just reading a transcript, I’d recommend that you go back – sorry, just reading the Q&A of the transcript, I recommend that you go back and read those remarks. But I will just go over this briefly. Over the – our purchase say 2 years ago of the outstanding common units of Boardwalk, not placed an equity valuation of about $3 billion on Boardwalk. And as I said previously, nothing has occurred in the performance of the company that would lead us to reconsider that purchase at all. Prior to the COVID pandemic devaluation of our hotel business was measured in the billions of dollars and I still feel comfortable that in the recovery from the pandemic, which I see coming, certainly in the next year or so, we will see that valuation again. And finally, our equity check for Altium was $600 million, as we said in my remarks. And due to the good results and the good investments at Altium, I believe the valuation should be higher now. So, when you add all that up, in my mind, the market valuation of $500 million for all of our non-publicly traded subsidiaries is to me ludicrous when they are clearly worth dramatically more than that.

Mary Skafidas

Okay, great. Thank you, Jim. Thank you, David and thank you everyone for listening. That concludes the Loews call. Please feel free to reach out to me with any additional questions at mskafidas@loews.com and a replay will be available on our website, loews.com in approximately 2 hours.

Operator

And thank you, ladies and gentlemen. This does conclude today’s conference call. You may now disconnect.