Transformation in Canadian Financial Services

Head Table Guests

Bill Laidlaw, Director, Government Relations, Glaxo Wellcome and Third Vice-President, The Empire Club of Canada; Dr. Diane Bridges, D.Min., J.P., Director of Religious and Spiritual Care, Peel Memorial Hospital; Paul L'Archeveque Sr. Vice-President, Commercial Relations, Glaxo Wellcome; Mark Daniels, President, Canadian Life and Health Insurance Association Inc.; Alex Wilson, Chairman and Managing Principal, Perigee Investment Counsel Inc.; David Ward, Managing Director, Mergers and Acquisitions, Nesbitt Burns; John Curtin, Chairman and CEO, Goldman Sachs Canada; Dina Palozzi, Superintendent and CEO, Financial Services Commission of Ontario; Steve Aldersley, Partner, Ernst & Young; Michael Wenban, Senior Consultant, The Monitor Company; and Jocelyn Cote-O'Hara, Telecommunications Consultant and a Director, The Empire Club of Canada.

Introduction by George L. Cooke

Our guest speaker today is Robert Astley, President and Chief Executive Officer, The Mutual Life Assurance Company of Canada. Mr. Astley is speaking to us today at a time which must be one of the most interesting and challenging, by any objective description, for those firms operating in what has become known as "the financial services sector." Not only are government-appointed groups looking at how this sector ought to be defined and what rules should govern the operation of companies within it, but capital markets are establishing new standards and rules almost daily--and ownership change through mergers, acquisitions, consolidation, demutualisation and the like is topical and plentiful.

I consider Mr. Astley a brave man to step forward at this time to offer his views. Mr. Astley's career, with the exception of three years as a pension consultant, has been with Mutual Life of Canada. He is a Fellow of the Canadian Institute of Actuaries and a graduate of the University of Manitoba with an Honours degree in Science. He holds an honorary Doctor of Laws degree from Wilfrid Laurier University.

Mr. Astley is an active participant within his industry association and is currently serving as Chairman of the Canadian Life and Health Insurance Association.

He also finds time for non-work-related commitments with community organisations and is currently a member of the Wilfrid Laurier University Foundation and a former Chair of the Dean's Advisory Council of the School of Business and Economics and a former Chair of the Board of Governors of the University. He has also served as Chair of the Corporate Division for Campaign K-W, the fundraising Campaign for K-W Health Centre.

Bob we welcome you here today and look forward to the insight that you can provide to us at this most interesting time.

Robert Astley

Thank you for the opportunity to speak about the transformation we are seeing in Canadian financial services. This is a pivotal time in the history of this industry. What will happen in the next couple of years will have a marked impact on the shape and texture of all financial services. As we enter this new phase, uncertainty is at an all-time high. We need to be clear on the principles we use as a compass to guide us through the fog.

Speaking for Mutual, our guiding principle for setting strategic direction is that of creating and delivering value through service: to customers, owners, and the public at large. My conviction is that this principle can be used to help make the fundamental choices and public policy decisions that are facing the broader industry today.

The financial services industry has never been so carefully or openly or publicly scrutinized. If you scan the newspapers on any given day, you'll see new stories breaking, columns being written and speculation being offered up regularly about what is happening in financial services. It's not only the banks grabbing banner headlines. Until recently, if the top business story featured an insurance company, that was a sure sign of a slow news day! These days we're in the business sections of papers on a regular basis.

From where I stand in the insurance business, becoming a news-maker is all about becoming a change-maker, and that's a change for the good. Last December 8, Mutual made headlines as the first major mutual life insurer to announce its intention to seek policyholder and regulatory approval to demutualise or become a stock company. Not long after that, we beat out other bidders to become the successful buyer of Metropolitan Life's Canadian operations. This acquisition, when approved, will solidify our strong second place in the domestic insurance market. Then, we participated in the successful IPO by Perigee Investment Counsel. And we turned a few heads again when we became the first major Canadian life insurer to raise a subordinated debt issue in the public market worth $400 million.

The changes making headlines today are words that a year ago many people barely knew how to pronounce! Demutualisation, for instance. Other changes are not so new, but have certainly intensified of late: consolidation, mergers and acquisitions, globalisation.

There is yet another issue that is absorbing most companies these days: the need to understand and capture the loyalty of the consumer and satisfy the shareholder--fast-moving targets, both. Ultimately, this is the top business imperative of our times: the need to create and deliver value to all stakeholders, beginning with service to the customer.

Let me at this point address the principle of value creation through service. In a nutshell, I believe that we are entering a time when the services part of financial services will take on a renewed level of importance. Serving customers on their terms according to what they value is the only sustainable competitive advantage today. It is also the only way to create value for all stakeholders--shareholders, communities, Canada as a whole. The ability to partner with these stakeholders will also become key if we are to enhance our ability to create value together.

Today I will highlight this principle of customer service and value creation in three areas that are radically reshaping financial services:

• Demutualisation and the birth of new stock companies;

• Ownership of converted mutual companies; and

• Consolidation and the question of scale in financial services.

Demutualisation

Many of the business decisions Mutual is making these days revolve around demutualisation--an ungainly term for converting a company owned by its participating policyholders into a stock company owned by shareholders. Demutualisation has erupted in the past few years around the world, though only recently in Canada.

Regulations to enable demutualisation are not finalised. We expect them in the near future, as we continue to work co-operatively with federal officials to create the framework for demutualisation.

The essence of demutualisation is to clarify the ownership rights of the participating policyholders who own the company by giving them shares in the company. They will be able to realise fully the value of their ownership in the company either by holding the shares or selling them.

Some observers expressed surprise that Mutual was first off the mark to announce its intention to demutualise after 128 years as a mutual company. These people thought that we were wedded 'til death to the mutual concept. This was a misconception because our real commitment has not been to the form of mutuality but to provide the best value we can to customers and owners whom we regard as partners in the company. We have been considering the possibility of demutualisation for some time as we sought different ways over the past decade to optimise the balance between customer value and owner value. We achieved that by being the only insurance company to pay Ownership Dividends of $70 million--over and above experience dividends. Finally it became clear that the best way to recognise the owner's value in the company is through demutualisation.

We wanted to be the first to announce our intentions--to lead not follow--and we did that. As a result, we have set the standard and helped shape the course of this important structural change.

Once conversion is complete, Mutual will distribute 100 per cent of the value of the company--no holdbacks, no windfalls for executives. The big winners will be the par policyholders, people who bought their ticket a long time ago and held on to it--a form of investment and a statement of faith in us.

As the four large mutuals convert to stock ownership, what's the impact on the economy? To some degree, we are entering uncharted waters with few navigational aids.

Let me offer you a personal preview of what we're likely to see as the future of financial services unfolds.

To begin with, if policyholders approve, Canada is about to experience a tidal wave of share ownership. Over the next 18 months, the demutualisation of the four major mutual insurance companies will place some $10 billion into the hands of two million Canadian policyholders who will become shareholders--an average of approximately $5,000 per eligible policyholder. Mutual Life will initially have the largest number of new Canadian shareholders with over 900,000.

This may well represent the largest distribution of wealth in Canadian history. Billions of dollars of share capital will be in the hands or the control of individuals who will wield considerable purchasing power and investment clout. That will have tremendous positive impact on the economy. The projection is there will be real economic growth of 0.3 per cent. This could create 10,000 to 12,000 new jobs in the first 18 months following demutualisation. Tax revenues will increase by over a billion. This is good economic news for Canada!

A recent article in The Globe and Mail talked about the economic boon to Australia from the just-completed demutualisation of insurance giant AMP Ltd. Economists hailed the initial offering as a valuable aid to the Australian economy at a time when it faces a slowdown in growth.

This injection of wealth into the economy does raise public policy issues. While demutualisation will create wealth for many Canadians, it will also carry tax consequences and other financial implications for social assistance benefits that have yet to be fully addressed in public policy terms. It is important to ensure the appropriate treatment of individual consumers, particularly lower-income Canadians, who will be the beneficiaries of share ownership. A speedy resolution of these matters will ensure Canadians reap the benefits of demutualisation--as they should.

Four sizable companies going public--all of whom will be listed on the TSE--will undoubtedly have a significant impact on the market. There will be heightened investment activity and many new opportunities opening up. Industry watchers and investment analysts will be closely eyeing the newly-converted companies.

At Mutual, we are ready to be a stock company and are prepared for that scrutiny. In fact, we are already behaving like a stock company. We have been a reporting issuer under Canadian securities law since 1995. We just published our fourth Annual Information Form. As a result, when we needed to issue subordinated debt to finance part of the purchase of MetLife Canada, we were able to implement the filing process in less than three weeks. We issued $400 million in subordinated debt, which included a noteworthy 30-year tranche.

Perhaps the best evidence of our readiness to perform as a stock company is the MetLife deal. The opportunity to offer more choice to customers and create value for future shareholders was too great to pass up.

Demutualisation and acquiring MetLife Canada are both grounded in the desire to serve customers' interests and create value. The prevailing wisdom on the street is that being accountable to shareholders is different--tougher--than being accountable to policyholders. Accountability to shareholders is different because we will have to focus more on delivering shareholder value, but remaining customer focused and serving them effectively will in turn generate value for shareholders.

Ownership

I want to turn now to the subject of ownership rules for converted mutual companies--an important public policy issue.

The Insurance Companies Act has two sets of rules for life insurance companies: one for shareholder-owned companies and another for mutual companies that have become shareholder-owned companies. Shareholder-owned life insurance companies do not have to be widely held. By contrast, demutualised companies do have to be widely held.

Let me tell you where Mutual stands. We feel that the rules should, in time, be harmonised for all shareholder-owned companies whether they were converted from mutuals or not. We also feel that legislation need not provide for life insurance companies to be widely held.

I believe Mutual can compete in the market and the market will primarily decide what ownership is right. The ability to serve customers and create sustainable value is, and should always be, the guiding principle. We stand by that. We have the financial strength, market presence in Canada and a distinctive customer-focused strategy that will create continuing value for owners.

However, I do not recommend that the walls come tumbling down immediately.

Though I know we can and will rise to the market challenges, I believe that a transition period is necessary for the protection of the policyholders who will be the initial shareholders. It may take some time after the shares become publicly listed for the value of the company to normalise in the market, particularly given that four companies will be demutualising in the same general timeframe.

I recommend that this transition period be not less than two years. During this period, both takeovers and amalgamations should be prohibited. This transition phase--which others have recommended be as long as five years--will allow time to show what we can do to create shareholder value.

Whatever regime is put in place by the federal government following the review of financial sector policy, the rules must be transparent and even-handed. Institutions should neither be given undue advantages nor subjected to unfair restrictions. The rules must also foster a vibrant, competitive financial services sector that serves Canadian consumers and the Canadian economy. I know that the MacKay task force, the Liberal caucus task force and federal officials will be sensitive to the implications of any new rules that are introduced or current rules that are left in place.

Consolidation and Scale Issues

Now let's consider consolidation in financial services and the global debate over scale. Simply put: How big is big enough for a financial services company? Once again, the question must be answered from the perspective of service and value for customers.

At Mutual, we recognise the benefits of scale--up to a point. We have made strategic acquisitions in order to increase our sales force, reduce unit costs, invest in technology, provide more choice to customers and increase value for owners. I consider this growing bigger to be smarter--not growth for growth's sake. In itself, getting bigger does not equate to getting better. In fact, smart growth has as much to do with effective integration plans and the issues of fit, culture and effective partnering as it does with the acquisition or merger itself.

To state the obvious, the scale issues in the insurance sector are not in the same ballpark in terms of size, weight and global reach as the bank mergers now being contemplated. You are all familiar with the serious issues that public policy makers are now weighing--the potential benefits and risks to consumers, small businesses and Canadian communities; the dangers of over-concentration of power in a particular market; and the issue of global and domestic competitiveness.

The debate has become increasingly intense and filled with facts and much rhetoric. With industry giants and public policy officials clashing over the merits of scale, it is important for all of us to recall that the interests of Canadian consumers should come first. I am reminded of an African proverb that goes: "When elephants fight, it's the grass that suffers." Let's 'protect the grass,' so to speak, and ensure that the consumers' interests are not flattened or neglected in this process.

In the tangle of arguments and counter-arguments, one thing is clear. If the mergers are approved, a one-way door slams behind us. We will see four large banks become two giant banks, owning between them 70 per cent of Canada's banking assets, an enormous concentration of power. The massive restructuring and the fallout that brings will change the landscape of financial services in Canada forever. There's no going back if we get it wrong.

Let me reiterate that the guiding principle for decisions around mergers and scale must be to serve customers effectively and create value for them and other stakeholders. From the evidence presented to date, I cannot be persuaded that Canadian consumers stand to benefit. I do not see increased choice or access. I do not see new and better ways to provide service. I do see decreased competition.

I do not buy the argument that time is running out, that we have to act now or all will be lost. That's a stampede argument. Threat of oligopoly in the marketplace and the unanswered questions about consumer impact have serious implications for the public interest. On that basis, to the proposed bank mergers, I feel compelled to say: "Not at this time." If at a future point, there are new issues and new information to consider, the proposals can be put forth again.

Creating and Delivering Value through Service

This takes me full circle to where I began, by discussing the business imperative in light of understanding and satisfying the consumer, and creating value for shareholders--the people we serve.

At the end of the day, financial services businesses are people businesses. The changes that are rocking financial services affect more than bottom lines and share prices. They affect people--consumers and shareholders, employees and communities, investors and policymakers.

As a financial institution, Mutual is in the business of making and keeping promises of financial security and safe stewardship of our customers' resources. As a public company, that accountability and stewardship we have provided to our policyholders will carry into our dealings with a wider and more public circle of investors.

Our ability to serve consumers and broader public interests depends on our own actions and having wise public policy decisions to guide us:

--a regulatory framework for demutualisation.

--fair tax rules to protect the rights and interests of the beneficiaries of stock ownership.

--harmonised ownership rules for life insurance companies, with a transition period of not less than two years for converted mutual companies that would prohibit takeovers and amalgamations. decisions on consolidation in financial services that serve the shareholders and the public interest well.

To sum it up, financial services are as much a privilege as a right. Our purpose--our obligation--is to create and deliver value to those who put their trust in us. The changes underway in financial services, done properly, will help us achieve that goal of serving Canadians--the ultimate shareholders.

Thank you.

The appreciation of the meeting was expressed by Bill Laidlaw, Director, Government Relations, Glaxo Wellcome and Third VicePresident, The Empire Club of Canada.