The past few years have been humbling ones for Europe’s once-proud insurers. The combination of the September 11 terrorist attacks and the three-year equity bear market caused red ink to flow and prompted almost every company of note, including the Netherlands’ Aegon, the U.K.'s Aviva, Munich Re and Swiss Re, to go begging, bowls in hand, to shareholders for fresh capital. Luminaries like Rolf Hüppi at Zurich Financial Services and Manfred Zobl at Swiss Life lost their jobs; others saw their reputations sink like stock market indexes.
So it’s a sign of his supreme Gallic self-confidence, n’est-ce pas, that Henri de Castries, the chief executive of France’s AXA, can talk with seeming relish of this stormy period. “I think this is what our industry needed,” he says of the shakeout. “It’s been a challenge, of course, but that is what a CEO gets paid for.”
The 50-year-old CEO has certainly earned his pay. Although most European insurers posted record losses during the downturn, AXA managed to grow revenues and earnings throughout. Underlying earnings -- aftertax earnings excluding exceptional items, goodwill amortization and capital gains -- grew at a compounded annual rate of 19 percent a year from 2000 to 2003; the company is expected to post a 13 percent rise in operating earnings this year, to E2.26 billion, according to a consensus of analysts surveyed by Thomson Datastream. That’s almost double what AXA achieved in 2000, de Castries’ first year as CEO.
Unlike his legendary predecessor, chairman Claude Bébéar, who built AXA through a series of swashbuckling acquisitions during the 1980s and ‘90s, de Castries is generating growth the old-fashioned way: through ruthless efficiency and a sharp focus on basics. He has slashed costs by 14 percent since 2001, strengthened his distribution network by retraining sales agents as financial planners, ramped up the production of innovative new products like guaranteed annuities and strengthened the firm’s property/casualty insurance underwriting by raising rates and cutting unprofitable business lines. AXA, de Castries insists, must generate organic growth from its core insurance and asset management products rather than rely on excess investment returns, as many insurers did during the bull market.
“The genius of Claude Bébéar was to recognize the unreality of the 1990s and to use AXA’s paper to create a unique global insurance platform,” says de Castries. “What has changed in this industry is that the rigorous industrial execution of strategy will win the day.”
Now de Castries is looking to quicken the pace of growth. The controversial $1.48 billion acquisition of MONY Group earlier this year has strengthened AXA’s position in the U.S. market, where AXA is the third-largest provider of variable annuities. Tough restructurings have begun to restore profits at troubled subsidiaries in the U.K. and Japan. And de Castries’ efficiency efforts are generating accelerated earnings growth in core areas like French insurance and European asset management.
“There has been a sea change between the era of Bébéar and de Castries,” says Markus Engels, senior analyst at Frankfurt-based Cominvest, which with 8 million shares is one of AXA’s biggest shareholders. “Bébéar created AXA by acquisition, but de Castries has fitted those pieces together and is creating an operating company driven by organic growth. In a way it is the harder job, and de Castries has done it well.”
This is not to say de Castries lacks ambition worthy of his mentor. In fact, he longs to cast AXA as a truly global force in insurance markets, with the heft and punch to rival the dominant American International Group for industry leadership. “Just look at what Citigroup, HSBC and Royal Bank of Scotland have done in banking. They are the clear global leaders, way ahead of the pack,” de Castries explains. “In insurance there is AIG and the rest. I want AXA to be a global leader in financial protection.”
AXA is well on its way to fulfilling that lofty goal. The company began this decade with a market capitalization less than two thirds that of Allianz and roughly on a par with Aegon’s. Since then investors have punished insurers across the board, but AXA has withstood the pressure better than most, maintaining a clear focus on insurance and related investment products while its rivals stumbled or pursued ill-fated expansion strategies. Today AXA has a market cap of E30 billion, just behind Allianz’s E31 billion and well ahead of Fortis (E19 billion), Zurich (E16 billion) and Aegon (E16 billion).
In addition to generating strong organic growth -- revenues have grown at a compounded annual rate of 12 percent since 2000, to E72 billion last year -- AXA also has largely avoided the pitfalls of collapsing equity prices that whipsawed most other insurers. The firm’s exposure to equities today is virtually unchanged from 2000, with 10 percent of life funds and 20 percent of p/c funds invested in stocks. Though the company wrote down the value of its equity portfolio by E614 million in 2002, it still managed to boost earnings that year by 10 percent, to E1.69 billion, and it maintained its single-A credit rating by slashing its dividend by 40 percent, to E0.34 a share. Allianz, by contrast, has sold E20 billion of German equities since 2002, a year when it posted a loss of E1.17 billion and saw its treasured triple-A credit rating downgraded to double-A-minus; Swiss Life has slashed the equity portion of its portfolios from nearly 22 percent to 2 percent.
The only insurer to stand head and shoulders above is AIG, which posted a 30 percent rise in first-half net, to $5.52 billion, and enjoys a market cap of $191 billion. But even the mighty AIG is fallible: the U.S. Securities and Exchange Commission is investigating one of its subsidiaries for allegedly helping PNC Bank conceal bad loans, and it faces a $1 billion bill from the four Florida hurricanes.
AXA also boasts a more diversified and truly global business than its rivals. Whereas AIG and Allianz rely heavily on their domestic markets, France and the U.S. each generate about a fifth of AXA’s revenues, with the U.K. and Japan accounting for 14 percent and 9 percent, respectively. AXA is France’s biggest insurer, Europe’s largest life insurer, the third-largest seller of annuities in the U.S. and the world’s fourth-biggest asset manager, with E750 billion under management, including a majority stake in the U.S.'s Alliance Capital Management, the world’s largest publicly listed money manager. In 2003 life insurance and investment products generated 65 percent of revenues, p/c insurance 24 percent and asset management 8 percent. The company is the world’s largest insurer in terms of gross written premiums, with $84 billion, compared with $79 billion for Allianz and $71 billion for AIG.
De Castries faces plenty of challenges to his global ambitions. In the U.S. he must shake up MONY and prove that the tired former mutual insurer can deliver strong revenue growth. In Europe he needs to accelerate the turnaround at AXA’s troubled U.K. subsidiary, Guardian Royal Exchange, and increase the group’s feeble presence in profitable southern markets like Italy and Spain. And he needs to find ways of tapping into Asia’s rapid economic growth and keeping pace with AIG, which is leading the way in China’s nascent retail market. AXA’s announcement in August that it would spend E1.8 billion to buy out the 48.34 percent minority interests in AXA Asia Pacific Holdings, its Melbourne-based subsidiary covering Asia ex-Japan, suggests that de Castries is preparing to expand in the region.
AXA certainly can’t afford to be complacent. The European insurance industry has seen market caps tumble as investors derated the sector following the collapse of the equity bull market, which slashed insurers’ investment returns. AXA and Allianz trade today at price-earnings multiples of about 10, compared with P/Es of 20 in 1999. Rivals have regrouped; new managers like Michael Diekmann at Allianz and James Schiro at Zurich are cutting costs and moving to rebuild revenues.
“I don’t think we can or should be arrogant,” acknowledges de Castries. “Our share price and price-earnings multiple have halved. The management at the competition has changed, and we don’t underestimate the new people at the top.”
Though few people underestimated de Castries when he became CEO four years ago, Bébéar, who chairs AXA’s supervisory board but leaves day-to-day control to his protégé, certainly was a tough act to follow. A larger-than-life figure, he had the vision and market instincts to build AXA by swallowing up a string of major insurers, including Compagnie du Midi and Union des Assurances de Paris in France, Equitable Cos. in the U.S., Guardian Royal Exchange in the U.K. and Nippon Dantai in Japan. Bébéar’s office at AXA’s sleek headquarters, an 18th-century château graced with a modern glass façade in the heart of Paris’s Right Bank, is decorated with antique rifles and stuffed animal heads, testimony to his predatory instincts.
De Castries has an illustrious pedigree. His ancestors include Louis XVI’s navy minister, a lover of the 19th-century realist novelist Honoré de Balzac, and Colonel Christian de Castries, the commander of French forces at Dien Bien Phu who famously named his hill fortresses after his mistresses. The CEO’s style, however, is distinctly understated. His office, separated from Bébéar’s by the AXA boardroom, is simple and businesslike. Though he is every bit as keen a hunter as Bébéar, he favors photographs of his wife, Anne, and three children, rather than hunting trophies. He has an affable manner and a love of homespun analogies. But behind his friendly demeanor lies a steely core.
Since taking over from Bébéar as CEO four years ago, de Castries has been instilling intellectual and operational rigor throughout the AXA empire. In 2000 he moved quickly to sharpen AXA’s focus by buying out minority shareholders in AXA Financial, the group’s U.S. subsidiary, and in Sun Life and Provincial Holdings in the U.K. He sold AXA’s 70 percent stake in Donaldson, Lufkin & Jenrette to Credit Suisse for a cool $8 billion at the peak of the bull market and bought value manager Sanford C. Bernstein & Co. for $3.5 billion to bolster his U.S. asset management business.
With the group pared down to its insurance and asset management core, de Castries turned his attention to improving operating performance. He began by reshaping AXA’s five-person management board in his own image, replacing all of Bébéar’s lieutenants. His team includes CFO Denis Duverne, who worked with de Castries on acquisitions in the late ‘90s; Christopher (Kip) Condron, the former Mellon Bank Corp. president who runs AXA Financial; Claude Brunet, the onetime Ford Motor Co. executive who oversees technology, among other things; and François Pierson, who runs the group’s French business. The management board rules AXA’s sprawling empire with the sort of authority rarely seen in companies that have grown by acquisition, setting strict financial targets while leaving considerable operating autonomy to local managers.
“What Henri has introduced at AXA is true discipline,” says Robert de Metz, head of M&A and divestitures at Vivendi and an old friend of de Castries’ who advised on the UAP takeover while a banker at Paribas. “He is turning AXA into a functioning global company.”
AXA uses nine key performance indicators to drive the group’s performance, including net inflow of assets under management, customer satisfaction, market share, the combined ratio for p/c companies, and new business contribution for life insurance. Each year CFO Duverne sends a letter on a single side of paper to each of the 14 members of AXA’s executive committee, which runs the company’s businesses across the globe, setting out their goals for key performance indicators for the next 12 months. “It is a difficult balance,” says Duverne of the goals. “They should challenge; they need to be set in the overall context of group ambitions; but they also need to be realistic.”
Every Monday at 1:30 p.m. in Paris, the management board holds a meeting in English that can last more than three hours. “These are very detailed discussions with a tremendously experienced group of people,” says AXA Financial’s Condron. “It isn’t just strategizing. Last week we spent two hours on how to develop distribution for Japan.”
Condron is a big fan of de Castries’ management style. “I know friends who work for the subsidiaries of large Swiss or German financial firms, and ultimately they grow frustrated and quit. The bureaucracy kills them,” he says. “At AXA I can get things done. It’s a nimble and responsive organization, and that is a big competitive edge.”
Take AXA Financial’s acquisition of MONY, which was completed in July. Condron did all the groundwork, making an overture to MONY’s chairman and CEO, Michael Roth, in December 2002 and then wooing the company’s board before going back to de Castries and CFO Duverne, who approved the idea and set the price AXA was willing to pay.
Condron also used his autonomy to reach a quick, if expensive, $600 million settlement with the Securities and Exchange Commission over the market timing scandal at Alliance Capital.
Alliance had allowed market timers, particularly Las Vegasbased hedge fund manager Daniel Calugar, to trade in and out of the group’s mutual funds to the detriment of long-term investors. The publicity hurt Alliance, but Condron decided to bite the bullet and settle quickly, while overhauling the firm’s executive ranks. Last December, Alliance agreed to pay $100 million in fines and $150 million in restitution to investors and to reduce mutual fund fees by $70 million a year for five years. The fines are the biggest imposed on any firm involved in the mutual fund scandal. But being the first firm to settle improper-trading charges with the SEC appears to have paid off: Alliance’s assets under management have actually risen since the settlement, to $483 billion, while other firms caught up in the scandal, such as Janus Corp. and Putnam Investments, which delayed reaching settlements, have seen large outflows (see box, page 40.)
“We did the right thing, and we did it quickly,” explains Condron. “We were able to do that because this is a well-managed company.”
De Castries’ team also has been effective in rooting out costs. CFO Duverne took urgent action in the wake of the September 11 attacks, launching a cost-cutting initiative that slashed 10 percent of AXA’s global workforce of 80,000. Brunet also plays a key role on the cost front. A former chairman of Ford Motor Co.'s French subsidiary, he was recruited by de Castries in April 2001 for his industrial expertise. He has delivered cost savings of E250 million over the past two years by rationalizing information technology spending across the group and centralizing procurement. For example, he slashed the group’s phone bill by 30 percent by negotiating a single global contract with France Télécom, replacing contracts with more than 50 telecommunications suppliers around the world.
Brunet also has expanded a business services unit in Bangalore, India, to process claims for its U.K. and Australian operations. AXA employs 1,000 people there today, up from 250 three years ago, and Brunet expects to hire 2,000 more.
For Brunet, cost-cutting is only a part of the picture. He wants to apply his knowledge of manufacturing to deliver de Castries’ vision of industrial-strength execution. In Germany, for example, AXA had one of the worst records in Europe for converting quotes into insurance policies. Brunet’s team found that the German subsidiary was taking more than a week to respond to customer queries. The quotation process was redesigned to ensure that all clients got quotes from AXA within three days. The result? The conversion rate improved to 27 percent from 16 percent.
“This industry has not been under the same sort of competitive pressure as manufacturing, but that has been changing,” says Brunet. “My job is to push quality up and costs down.”
The rigorous approach of de Castries’ team delivered impressive results in the teeth of the bear market. AXA cut costs by E1.3 billion, or 14 percent, between 2001 and 2003. In 2002 alone, a year when Zurich Financial Services reported a net loss of E2.8 billion, Allianz lost E1.2 billion and Assicurazioni Generali lost E754 million, AXA was in the black, posting net income of E949 million, up from E520 million in 2001 (a result that was impacted by the September 11 terrorist attacks).
“Taking out 14 percent of costs without hurting your franchise is a pretty impressive achievement,” says Blair Stewart, an insurance analyst at Merrill Lynch & Co. in Edinburgh. “The question is, how much more can they do? The low-hanging fruit has certainly gone.”
The efficiency drive helped boost operating profit margins on new life business to 16.3 percent last year from 14.5 percent in 2002. In p/c insurance, AXA lowered the combined ratio, or the cost of writing business compared with premiums received, to 101 last year from 114 in 2000. The ratio continued to fall to 99.4 in the first half of this year.
That number is not as impressive as those of Allianz or Munich Re, which boast combined ratios of 92 and 96, respectively. AXA’s business is more heavily weighted toward retail customers, however, and premium rates for those clients tend to increase more gradually during the favorable or so-called hard part of the underwriting cycle than for corporates, explains Merrill Lynch’s Stewart. AXA aims to keep its combined ratio between 98 and 102 across the underwriting cycle. That may sound unambitious, but even with a combined ratio of 101 and modest investment returns of 6 percent, the p/c business would achieve a return on equity of 15 percent. In the first half of this year, the business generated 39 percent of AXA’s earnings, or E562 million.
“De Castries isn’t exactly analyst-compliant in that he doesn’t necessarily follow what the fashionable line is,” says Nicholas Byrne, an analyst at J.P. Morgan Securities in London. “We all told him to sell p/c, for example. But he does have a clear vision that AXA should be a diversified company, and that has worked out well in the past few years.”
Cost-cutting is all well and good, of course, but to truly thrive, AXA needs to generate growth in top-line revenues. On that score, AXA Financial, the U.S. subsidiary, is leading the way.
At the start of the decade, the U.S. business was struggling. The company had a strong brand name in Equitable, but its product lineup was tired, and its proprietary network of agents was underperforming. De Castries eased out Edward Miller as chief executive after AXA bought out minority shareholders at the end of 2000, and he hired Condron, the executive who had been instrumental in building Mellon’s asset management business, first as CEO of asset manager Boston Co. and then as head of Mellon’s mutual fund arm, Dreyfus Corp. Condron, then 54, had little prospect of being named to Mellon’s top job, which continues to be held by Martin McGuinn.
After arriving in 2001, Condron began pruning his network of agents, many of whom were semiretired and focused on collecting renewals rather than signing new business. Over the next two years, he pruned 2,500 agents and hired 1,000 new ones, giving him a leaner and more productive corps of 6,000.
Condron also accelerated the introduction of new products, launching 16 new products in the 12 months through July 2004, compared with eight in the previous 12-month period. The biggest growth has come in variable annuities, where AXA Financial is the third-largest player in the U.S. market; last year it sold $16 billion worth. The company offers products with returns linked to 37 different mutual funds, including ones run by Alliance Capital, Fidelity Investments and Putnam American Funds. AXA also is a leader in providing annuities with guarantees, such as minimum income or minimum death benefits. In essence, these guarantees transfer some of the risk associated with the underlying investments from the investor to the insurer, making the product more attractive.
“One of the main attractions of AXA at the moment is the U.S. business and the innovative products it has developed there,” says Michael Kohler, head of research at Deka Investments in Frankfurt, one of AXA’s top ten shareholders, with 22 million shares. “I think these guarantees will in time offer AXA a good opportunity to sell more unit-linked insurance policies in Europe.”
Condron’s efforts to strengthen distribution and develop new products are paying off handsomely. AXA Financial’s leaner sales force generated a 29 percent increase in revenues last year, to $15.5 billion. Net earnings from new life business improved 68 percent, to $302 million, in 2003. Including Alliance Capital, AXA Financial contributed 31 percent of group profits last year. Condron has also administered the group’s fiscal discipline, slicing $350 million out of a cost base of $1.5 billion since 2001 and cutting AXA Financial’s head count by 1,100, to 4,600.
The acquisition of MONY Group adds muscle to AXA’s U.S. franchise and indicates how important distribution is to AXA when it’s assessing potential targets. MONY gives AXA Financial an additional 700 agents and a range of new products, including a thriving empiric-risk business, which insures people with medical problems. AXA expects the acquisition will generate cost savings of $175 million annually and boost underlying aftertax earnings by as much as $195 million a year.
The acquisition also shows that de Castries’ nose for a bargain is every bit as keen as Bébéar’s. MONY, the oldest U.S. life insurer, founded in 1842, had languished since it was demutualized in 1998 owing to weak management and a lack of scale. The company’s return on equity was close to zero in 2002 and 2003. That poor performance enabled AXA to pitch its bid of $31 a share, or just 75 percent of book value, compared with an average of 1.7 times book for insurance acquisitions made over the past two years. The September 2003 bid prompted a furious response by a group of shareholders led by Southeastern Asset Management, a Memphis, Tennesseebased fund manager, which sued MONY to block what it considered a lowball bid. The suit failed, however, and AXA was able to count on the support of MONY policyholders, who held 46 percent of the company and regarded the offer as a windfall on the shares they had received for free at demutualization. AXA won acceptances from 53 percent of shareholders.
Elsewhere in the world AXA is beefing up its proprietary distribution and enhancing the skills of its sales force. In France, where AXA has 8,000 agents, the company runs two programs that have trained 550 financial planners over the past four years; de Castries aims to have 800 by 2007. This advice-led distribution should help AXA compete for new tax-advantaged pension products such as the PERP, or plan d’epargne retraite populaire, which was introduced in April. French net earnings from life and savings increased 4 percent in the first half, to E240 million, while the net profit margin on new life and savings business rose to 14.1 percent from 8.4 percent a year earlier.
De Castries is committed to developing third-party distribution through banks and brokers. AXA has signed distribution agreements with the likes of BNP Paribas in France, BBVA in Spain and 11 banks in Japan. “The key to nonproprietary distribution is to have products that distributors want,” says de Castries. “In an open-architecture environment, if you are selling commodity products, your margin disappears.”
AXA also is generating organic growth in asset management. AXA Investment Managers, its London-based fund management arm, has built assets under management to E310 billion from E250 billion in 2001. Sixty percent of revenues come from external clients, up from just 20 percent in 1999 and fast approaching the target of 70 percent by 2005 that de Castries set back in 2000.
AXA’s emphasis on nonequity products -- it has E170 billion in fixed income, E22 billion in real estate and E20 billion in structured products (up from nothing four years ago) -- leaves it well positioned to benefit from a shift away from equity allocations as Europe’s pension funds mature. In May, AXA Investment Managers won the biggest share of the E16 billion Fonds de Réserve pour les Retraites, the French state pension reserve fund, when it was awarded E1.8 billion in three mandates: European large-cap equities, European small caps and European fixed income.
AXA still has its problem areas -- most notably, Britain and Japan. The acquisition of Guardian Royal Exchange in 1999 gave AXA a firm foothold in the U.K., the world’s second-largest insurance market. AXA today is the country’s No. 3 p/c insurer and its No. 8 life insurer. But even though Britain generates 14 percent of the group’s revenues, profits have been elusive.
CFO Duverne admits that AXA moved too slowly to absorb its British business. “For a company that prides itself on acquisitions, we did a bad job in integrating Guardian,” he says. “Our competitors have benefited more from the positive cycle in p/c than we have. We need to start to punch our weight in the U.K.” AXA returned to the black in British p/c insurance last year and reported profits of E130 million in the first half of 2004, compared with E188 million for all of 2003 and a loss of E233 million for all of 2000. The company has pulled back from the highly competitive retail market, selling its AXA Direct auto insurance subsidiary to RAC Financial Services, and concentrated on commercial lines, particularly in the small-business sector. It also has slashed 700 jobs in the past two years, or 7 percent of its U.K. workforce.
AXA’s U.K. life and savings business also has moved into the black, posting a profit of E53 million in the first half of 2004, compared with a loss of E27 million for all of 2003, when revenues declined by 11.2 percent. De Castries blames the U.K. regulatory environment for the company’s poor performance in Britain. On the one hand, regulators have increased solvency requirements, which forced many life companies to sell equities at the bottom of the market in 2003; AXA had to strengthen its reserves to the tune of E218 million. On the other hand, the government has been pushing insurers to offer low-cost products such as stakeholder pensions for lower-income savers, which cap fees at 1 percent.
“The regulator seems to be taking a strangely French, even Colbertist, approach,” de Castries says bluntly, clearly enjoying the irony. “Regulation is killing the U.K. life industry.”
Japan is showing clearer signs of a turnaround. One of AXA’s rising stars, Philippe Donnet, who returned the group’s reinsurance business to profit in 2003, is coming to grips with Nippon Dantai, the Japanese life insurer that AXA acquired in 1999. Dantai posted a profit of E103 million last year, compared with a loss of E45 million in 2002, and new business is very profitable, with a margin of 29 percent. The company contends that it is the second-most-profitable foreign insurer in Japan, trailing Aflac but ahead of AIG, ING Group, Manulife Financial Corp. and Mass Mutual Financial Group.
AXA also has some strategic weak spots, most notably in Italy. The country is Europe’s most profitable insurance market but one where AXA is hardly represented. A deal between AXA and market leader Generali would be highly complementary but also highly unlikely, given the protective instincts of Italy’s financial establishment. A more likely target, analysts believe, would be Mediolanum. The Italian life insurer is small, with 3 percent market share, but its network of 4,000 financial advisers would give AXA the clout to sell high-margin products like unit-linked life insurance and mutual funds.
“I think acquisitions of the UAP size are out of the question in the next couple of years,” says J.P. Morgan’s Byrne. “Generali would be very interesting, but it isn’t going to happen. I see AXA doing smaller deals in countries where it should be aiming to build a presence, such as Spain and Portugal.”
Don’t expect de Castries to discourage such speculation. He may have shifted the emphasis at AXA to efficiency and organic growth, but he hasn’t lost his appetite for deal making.
As he puts it in his down-to-earth style: “If you live in a village in Africa and all the men do is hunt, and the only thing they hunt are white elephants, the village will not thrive. You need farmers to tend the fields to feed the village every day. And a good hunter should always be prepared to take small game as well. That is how you stay strong and healthy, and when the white elephant comes along, you are ready.”
The vision of Henri de Castries
The tough environment the insurance industry has faced in the past four years hasn’t exacted much of a toll on Henri de Castries. The 50-year-old executive retains his youthful good looks, easy charm and ready smile and punctuates his conversation with hearty laughter. Henri René Marie Augustin de la Croix de Castries spends his weekdays at AXA’s elegant Paris headquarters, where a modern façade conceals an 18th-century house fit for someone of his noble lineage. On weekends he usually joins his family at his estate near Angers in the Loire Valley southeast of Paris, where he maintains the family tradition of horsemanship and the AXA tradition of love of la chasse. He spoke recently with Institutional Investor Senior Editor Andrew Capon.
What have been the biggest changes during your tenure as CEO?
De Castries: The strategy at AXA remains the same, to build leadership in a business that we call financial protection. What we offer are solutions through the life cycle of an individual. Probably the first major purchase a young man or woman makes is a car. We are there with p/c insurance. Then he may get married and buy a house, and we offer life insurance and house insurance. Then this couple goes through the savings accumulation stage of their life, and AXA offers a range of investment products, from traditional pensions to unit-linked life insurance to mutual funds. Finally, people retire, and they transfer their accumulated wealth into an income. AXA offers products at every stage of this life cycle. That has not changed.
What has changed is the tactics of how we exploit this growing market. This sector overall has created enormous equity, not because of ability or skill of management but because of the prevailing easy environment. In the 1990s equity markets doubled and interest rates fell. This created odd behavior in the industry, which led to irrational and unsustainable business models. That is very true in reinsurance and also true in general insurance and even life. This meant that the earnings of the industry looked good, but fundamentally the quality of the earnings just wasn’t there.
Was the same true of AXA?
The genius of Claude Bébéar was to recognize the unreality of the 1990s and to build AXA using equity. He developed a unique platform and never overpaid for acquisitions. We went into the crisis well positioned. What we have been doing since then is improving the technical position of AXA, consolidating the acquisitions we made and changing the earnings structure so that growth in the future will be driven internally and not necessarily through acquisitions. That might seem paradoxical, given that our share price has halved from its peak, but I do think the group is now stronger on an absolute basis. If you look at operating earnings, they have gone from about E500 million ($615 million) post the UAP [Union des Assurances de Paris] merger to more than E2 billion today, in spite of the turmoil the industry has been through in the past three years.
How has that been achieved?
By managing the platform better. At the same time, we have tried to extract the benefits of being a global company. We have cut costs to the tune of E1.3 billion since September 11, 2001, and we have accelerated organic growth. If a company is operating on a sound basis, organic growth has to be the first leg it puts forward. If you cannot grow and gain market share with existing operations, then you should not be acquiring new businesses.
Is AXA a predatory company by instinct?
[Laughter] People say that because they know that Claude and I like to hunt. If you live in a village in Africa and all the men do is hunt, and the only thing they hunt are white elephants, the village will not thrive. You need farmers to tend the fields to feed the village every day. And a good hunter should always be prepared to take small game as well. That is how you stay strong and healthy, and when the white elephant comes along, you are ready. Our top priority is to manage our resources as best we can to generate organic growth.
How do you manage a global company? Are you a feudal king or an absolutist monarch?
It’s a good analogy. If you want to manage well, you need to get the right balance between feudalism, where there is a strong decentralization of power, and control from the center. If there is going to be decentralization, then you need to have a high degree of transparency over goals and objectives and a way of constantly monitoring performance. There also needs to be a few but very strong common principles that bind the group together. Decentralization without common values and with low transparency just won’t work.
Is bancassurance a better distribution model than AXA’s mix of agents and third-party agreements?
Developing nonproprietary distribution is our way to do bancassurance without wasting money on buying a bank or having the worry of owning a bank balance sheet. It is clear that open architecture is taking hold, and competing in that environment is all about having first-class products. I think we have the products and the brands to compete. We were owners of a very successful business in Donaldson, Lufkin & Jenrette. It generated high rates of return, and we could have leveraged its position by acquiring another investment bank. But we sold it because it wasn’t part of our core business. Banking is not part of our core business, either. We don’t follow fashions. In 2000 I was being told to sell out of property/casualty insurance at what turned out to be the bottom of the cycle and write a huge check for a bank. Nobody is telling me to do that now. We have a core vision, and we stick to it.
Hail the new Puritan at Alliance
Lewis Sanders, chief executive of Alliance Capital Management, is a soft-spoken man who doesn’t resort to theatrics to make a point. But his voice betrays more than a hint of righteous anger as he describes his firm’s involvement in the U.S. mutual fund scandal, which forced Alliance to agree to pay a record $600 million in fines, restitution and fee reductions last December.
“Alliance Capital had a decentralized model. It was successful but inherently weak,” he says tersely. “Bernstein was the opposite, highly centralized and very structured. We have moved toward the Bernstein model.”
Sanders, of course, is a Sanford C. Bernstein & Co. man to his fingertips. He joined the firm in 1968, fresh out of Columbia University, and rose from research analyst to chairman and CEO. When Bernstein merged with Alliance Capital in June 2000 to create the largest publicly traded fund management company in the world, Sanders was appointed chief investment officer. He ascended to the CEO suite in April 2003, replacing Bruce Calvert, who moved up to chairman. Sanders hasn’t been tainted by the market-timing scandal -- investors are convinced he wasn’t aware of the practice and believe he has been ruthless in rooting out misconduct. Although the California Public Employees’ Retirement System stripped a $1.2 billion mandate from Putnam Investments, the fund kept $1.4 billion in assets at Alliance after executives personally interviewed Sanders.
In the wake of the scandal, Sanders has purged Alliance’s top management. Some staff have been dismissed. The most high-profile victims: Alliance stalwarts like chief operating officer John Carifa and mutual fund boss Michael Laughlin, who allegedly were aware of the market timing. Their respective replacements, Gerald Lieberman and Marc O’Mayer, are both Bernstein veterans. Lieberman joined the firm in 1998 from Fidelity Investments, where he was chief financial officer; O’Mayer, like Sanders, rose through the research ranks, starting as a pharmaceuticals analyst. Says Sanders dispassionately: “The purging of the firm was appropriate. We did have a problem.”
The CEO is doing more than just changing personnel. He is embarking on a mission to drive the best of Bernstein’s values and investment philosophy through the organization. He has instituted a compliance committee, implemented new risk management procedures and appointed a chief conflicts officer. He also has established an ethics group composed of all 17 senior managers to draw up rules for the firm.
The firm’s ethics certainly needed some bolstering. When the office of New York State Attorney General Eliot Spitzer first approached Alliance officials in August 2003 with questions about late trading in mutual funds, the firm’s independent directors launched an investigation that uncovered serious connivance with market timers.
One hedge fund, run by Las Vegasbased Daniel Calugar, had rapidly moved $220 million in and out of Alliance funds, making gains at the expense of other fund investors. In what appeared to be a quid pro quo, Calugar was the leading investor in three high-fee Alliance hedge funds.
On December 17, Alliance settled with both Spitzer and the Securities and Exchange Commission, agreeing to pay $250 million in fines and restitution and to reduce mutual fund management fees by $350 million over five years. “We did wrong, but we acted fast to put things right and put this behind us,” says Christopher (Kip) Condron, CEO of AXA Financial, which owns 56 percent of Alliance Capital.
Alliance settled three months ahead of Putnam and Janus Corp., the other big mutual fund companies named in the scandal. Putnam and Janus settled for less -- $110 million and $100 million, respectively -- but Alliance’s willingness to take its painful medicine first is paying off. At the end of June, the firm reported assets under management of $483 billion, up 12.8 percent from a year ago, largely because of higher markets. By contrast, Putnam saw its assets fall from $277 billion to $213 billion in the same period, and they have continued to decline.
Even more impressive, Alliance hasn’t lost a single institutional client, unlike Putnam, which has been fired by scores of customers. In fact, Alliance enjoyed net institutional inflows of $1.1 billion in the 12 months ended June 30, and a further $4.9 billion of inflows from high-net-worth clients. The firm has a total of $271 billion in institutional assets and $55 billion in high-net-worth client assets.
Much of the growth is coming from outside the U.S. Assets from non-U.S. clients reached $94 billion at the end of June, after growing 61 percent in 2003. Most of those assets are in global equity and bond mandates, which attracted 80 percent of new accounts in the first half of 2004. “Plan sponsors across the world are beginning to understand that country boundaries are increasingly artificial and that the best way to optimize performance and information ratio is by empowering managers, if they have skill, to see the world in its totality,” says Sanders.
To take advantage of that trend, Sanders is betting heavily on Alliance Capital’s research platform. The firm has 200 analysts in 11 countries across the world. Their performance so far speaks for itself: International value accounts have bested the MSCI EAFE value index by 5 percentage points over three years, while international growth accounts have outperformed by 2.5 points in the same time period. “The terms of the competition in the global arena are far stiffer because the research resources required to execute those mandates competently are higher,” says Sanders.
The biggest shift has been in Alliance’s equity business, which now has $165 billion in value strategies and $126 billion in growth. That’s the reverse of the situation just two years ago and reflects the wisdom of the Bernstein merger, which has let Alliance capitalize on the return to favor of value-oriented investing. Alliance’s retail business, however, has taken a hit from the market-timing scandal. The group’s 101 U.S. mutual funds suffered an outflow of $5.1 billion in the 12 months through June. Global retail assets are an impressive $153 billion, but in the U.S., Alliance only ranks 22nd among mutual fund providers.
Sanders doesn’t mince words. “Our mutual fund business is doing poorly. It has lost brand equity,” he acknowledges.
To fix the retail business, he has refreshed Alliance’s product range with so-called wealth strategy funds. Based on a successful suite of funds offered to Bernstein’s private client customers, these are balanced funds that combine elements of growth and value equities and fixed-income securities, and invest in the U.S. and international markets. The funds are designed to achieve absolute returns and are actively rebalanced each quarter.
“The retail world, sadly, has been dominated by trend following. That is destructive because in a mean reverting world, that dooms you to invest in failure,” explains Sanders. “These funds are very different. They actively counter trend following.”
For Alliance’s CEO, the new funds are testimony to the firm’s determination to rebuild its reputation with retail investors. And determination is critical -- even Sanders admits it will take years for Alliance to restore its reputation. “We need to win over one financial adviser at a time, but we will persevere,” he says. -- A.C.
