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Edited Transcript of COFA.PA earnings conference call or presentation 25-Jul-19 4:00pm GMT

Half Year 2019 Coface SA Earnings Call

BOIS-COLOMBES Jul 30, 2019 (Thomson StreetEvents) -- Edited Transcript of Coface SA earnings conference call or presentation Thursday, July 25, 2019 at 4:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Carine Pichon

COFACE SA - Chief Financial & Risk Officer

* Xavier Pascal Durand

COFACE SA - CEO & GM

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Conference Call Participants

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* Benoit Petrarque

Kepler Cheuvreux, Research Division - Head of Benelux Equity Research

* Hadley Cohen

Deutsche Bank AG, Research Division - Research Analyst

* Michael Igor Huttner

JP Morgan Chase & Co, Research Division - Senior Analyst

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Presentation

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Operator [1]

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Ladies and gentlemen, welcome to the conference call for the presentation of Coface's results for the period ending 30th of June. (Operator Instructions). As a reminder, this call is being recorded.

Your host for today's call are Xavier Durand, CEO; and Carine Pichon, CFO.

I'd like to turn the call over to Xavier Durand. Sir, please begin.

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Xavier Pascal Durand, COFACE SA - CEO & GM [2]

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Thank you, and good evening, everybody. Thank you for joining this call. We're announcing our first half 2019 results. As you can see from the headlines, the second quarter turned out to be another strong quarter for Coface. Our net income for the first half is up 25% at EUR 78.5 million. The return on average tangible equity comes in at 9.6%. In fact, these numbers happen to set a record for the business. The other important news is that we've submitted, earlier today, our partial internal model to the French regulator, and they now have 6 months to provide us with their comments and decisions.

So just a few words on Page 4 on the headlines. Turnover comes in at EUR 732 million. It's up 6.6% at the similar perimeter and FX versus last year. And just to note, Q2 was up 7.6%. It's probably the strongest growth quarter I think we've had -- we've known in the business. The net loss ratio for the first half is up by 0.8% at 44%. The net combined ratio comes in at 76%, which is 1% better. The gross loss ratio was down 1.5 in what continues to be a riskier economy. We've seen pretty good past claims management and recoveries with a relatively low level of new claims. Our net cost ratio has improved at 32% versus 33% last year, and this is driven by continued cost control and obviously through positive operating leverage coming from the growth. As I said, the net income at EUR 78.5 million, of which EUR 42.2 million in the second quarter. We benefited this quarter from a EUR 3 million purchase gap on the acquisition of PKZ. Beyond that, it turns out to be a good acquisition for us. The solvency comes in at first half using the standard formula at 162%. That's above our usual target range of 140% to 160%. It's a bit lower than we were at the end last year. That's due to the growth that we've had in the period. And then finally, Fit to Win continues to deliver for us. We've recruited a proven senior management team for our factoring business in Germany. It's probably one of the best teams in the country. The integration, as I said, of PKZ, is going pretty well. And then finally, the business returned to the SBF120 index on the 24th of June, I think that's a form of recognition for the team and the work that's taken place over the last 3 years in the business.

So going on to Page 5. I just wanted to highlight here where we are versus the key Fit to Win targets we set out for ourselves in 2016. You remember that there's one goal that's not on this page, which is the savings program, we've set up initially, which targeted EUR 30 million savings in 2018. And we had exceeded that number by about 30% last year. But for the other metrics, the return on average tangible equity, we said would be superior or equal to 9% after benefiting from capital model optimization. It stands at 9.6% for the first half. The combined ratio the target is 83% through the cycle, it comes in at 76% for the first half. Solvency, we wanted to be above our target range -- or close to the upper range of the target range, sorry. So we've really improved the solvency from 150% in '16 to 162%, actually, in the first half. And then the other goal was to be focused on value creation through the cycle and to generate growth that would be profitable. I think as I said earlier, this has been probably the best growth first half that we've had in the business. And at the same time, as you can see, it's also been a very strong risk quarter and first half. So I think we're really on our way to deliver on the different pillars of Fit to Win.

You go to Page 7, and you'll see more details on the growth. As I mentioned, we're up 6.6% in premiums or in internal versus last year at the same FX. What's interesting is trade credit insurance, within that, it's growing 7.5%. Actually, it's even 8.5% in the second quarter. The growth, as you'll see, it's still driven by the same factors we've talked about over in the past few quarters, which is past client activity and a very high retention rate. We're still being disciplined and prudent when it comes to writing new business and I'll talk more about this. Our services revenues are up 2.1%, so less than the premiums. We're also seeing some growth in fees, but obviously, not at the same rhythm as the other pieces of the business.

When you look on Page 8, at the split by geography. You see that Western Europe is growing a little bit faster. We're getting closer to the 3% mark. That's on the back of large transactions, better retention, bonding and services. In Northern Europe, the good news is that, if you remember, this has historically been one of the tougher markets for us, we're now growing at, again, close to 3%. But the good news is Germany insurance business is growing close to 4% within that, with still some slow activity on factoring. Central Europe is a bit slower this quarter, this first half at 2%. We've been more prudent on risk in that part of the world and a little bit more demanding on price. Med and Africa continues to grow steadily. Pretty competitive markets and -- but I think the business continues to execute. North America is picking up speed. We're growing 10% over the first half year, mainly large deals and better retention. Asia Pacific, underneath the headline of 21.2%. Real growth here if you exclude the one-offs that we had in the first half last year, it's more like 11.5%. So again, some nice growth out of that part of the world. And then Latin America is growing an underlying 27.2%. It sounds high, but it's not a surprise. It comes from -- on the back of the large deals we signed last year. As you remember, these are global deals, for which Latin America has a disproportionate size of the pie versus the size of Latin America in our total business.

When you go to Page 9, we look at the usual charts on how growth is made up. And you see that it's -- new business is actually better than last year, although it's lower than in '16 and '17. It just reflects that our efforts are paying off. But we're also remaining prudent. And our underwriting policy hasn't changed through the period. Retention remains at a record level at 93%. On pricing, it's the best year we've had in the last 4. We see more opportunities than the past. We've tactically repriced in certain countries and marketplaces, and I think that reflects also an increasing risk environment in the economy. And then on volume, it's a year that's still pretty positive, but not as much as '17 and '18. Actually, when you look at the underlying volume from our clients, it has reached the peak in Q1 '18, which is consistent with the growth we saw in the economy in 2017. And since then, it has been declining regularly I think in line with the environment, the global economic environment. So that's something to keep in mind as we think about the business.

Looking at Page 10, you can see that Q2 turned out to be a pretty good quarter on losses. The loss ratio before reinsurance and including claims came in at 41.9%. That's to be compared with the numbers in the white that you see on the columns to the left, so 43.6%, 46.3%, 42.2%. So another good quarter. And I guess, if you look at the bottom right-hand side of the page, you see that we opened the current underwriting year at 76%, which is higher than we usually did in the prior years. This is driven by 2 things: one, a large filed in France, which happened quite soon after the underwriting; and the fact that we've acquired PKZ, which -- it is now part of our numbers, and they have a policy of opening their new business at a higher rate than Coface does. On the other hand, we also had good recoveries at 37.8% on the prior years. They're again driven by a large filed in France in the period.

When you go to Page 11, at the split between the different regions. I got to say that it's almost a perfect scorecard, I guess, in the first half. You see the large markets at the bottom, which are traditionally more stable. So they are stable and also declining somewhat. If you look at Central Europe, at 42%; Western Europe, pretty flat at 31%; Northern Europe, coming down quite a bit over the last 3, 4 years; Med and Africa pretty stable, just below the 50% line. And then the 3 markets at the top that have been more volatile, traditionally, have also performed pretty well, with the U.S. at 40%; Asia Pacific, stable versus last year at 24%; and then Latin America, the most volatile of all of our markets, coming in at 50%. So pretty much in line there as well.

Page 12, on cost. I think the story here is one that we've remained very disciplined on cost, but the total cost of the business is up 3.4% ex FX. It's just slightly above the inflation line if you combine different parts of the world. At the same time, top line grew 6.6%. So we get good operating leverage in the period. The internal costs are up EUR 3 million from the first quarter. That's driven in good part by PKZ, which now we integrate into our business. The commissions are slightly lower as we purchased our North American distribution, so that reduces commission and increases internal costs. So some of the same effects you saw in the prior quarters. During the period, we've continued to look for ways to save money, and we've continued to invest thoughtfully in the business. We made a total of EUR 3.3 million of investment in strategic and regulatory projects across the business. And net-net, the cost ratio goes down in the quarter from 35.3% last year to 33.9% in the first half of '19. And you see the walk here on the bottom right of the chart, which shows that a good chunk of this is driven by the premium growth and combined with a strict cost discipline.

So with this, I'm going to turn it over to Carine to talk about the rest of the presentation.

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Carine Pichon, COFACE SA - Chief Financial & Risk Officer [3]

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Good evening, everybody. So let's look now on reinsurance results, Page 13, which has impacted results in price by low loss ratio. Our premium cession rate has been stabilized compared with last year at around 29%. We have a lower claims cession rate at 23.5% when we compared with the 27.5% of the previous year, coming from high recoveries and higher reinsurance facultatives. Also high recovery in older claims, which were reinsured at a higher cession rate. All in, reinsurance results for this first 6 months of the year amounted at a little less than EUR 50 million.

Looking now Page 14. Our net combined ratio stands at 76%, which is below through the cycle average. It corresponds to a decrease by 1 point on a 6-month basis driven by quite stable net loss ratio and a decrease in cost ratio. If we have a look on a quarterly view, which is on the bottom of the page, you see that we have had combined ratio of the quarter at 77.5%, which is down by 4 points to the Q2 '18, which was at 81.5%. So a decrease coming both from reduction of cost ratio and also reduction of loss ratio.

Coming now to our financial portfolio and its results, Page 15. We have been able to continue to stabilize yields despite the low rate environment. As you may see on the right, our accounting yield on average investment portfolio has been at 1.1%, and 0.9% if we exclude gains on sale, which is quite similar to the level of the first 6 months 2018. Our net investment income grew from around EUR 13 million to EUR 17 million this quarter -- this half year, mainly coming from the fact that last year, we have had some negative FX effect that we don't have this -- in the beginning of the year.

Page 16, current operating income is very robust at EUR 116.1 million. We have had very limited restructuring charges by around EUR 1.3 million. Other operating income and expenses is mainly impacted by gains on Italian building disposal, which was one of the last buildings that we owned, and then we decided to sell it. Financial costs are quite stable, and we have booked a badwill of EUR 3 million linked to the integration of Coface PKZ in Q2. Tax rate also continued to improve to 29%. And so Q2 '19 results that we got net profit in the launch of Fit to Win and net income grew by 25%.

The return on average tangible equity, Page 17, is in the bottom at 9.6%, related to loss coming from last year at 7.7%. The improvement in combined ratio plus growth led to 2.1 points of technical result improvement. Some decrease coming from financial results, mainly due to FX of last year and tax improvement is to an additional and incremental 0.6 point of percentage on the return. All in, it leads to the 9.6%.

So that was a review on the performance from a P&L point of view. You know that we are used to also show you what is also balance sheet position every 6 months. So that's what we have starting Page 19. Just reviews (inaudible) things that you know as in old companies, we have implemented IFRS 16 on lease contracts. Impact on equity, we already used to tell you, it's very immaterial and just, we have increased our assets and liability by EUR 85 million. That's all in, a few impact on office leases. Also, maybe you have seen that both rating agencies have reaffirmed their rating: AA- for Fitch; and A2 for Moody's.

Looking now, Page 20. On our solvency ratio, still under standard model formula. You see that it continues to be very robust over time. We started in '16 around 150%, and we have been able to make -- increase that ratio. It's at 162% for the first half year. Main reason of the gap between end of '18 and the end of June '19 is linked to the growth, knowing that the change here also is less than the growth rate, thanks to the very good underwriting discipline we have and the good performance on profitable growth we have. Same also shocks, we are used to propose to you to see what will be a shock on either market or on a loss ratio. On market as we know and because of the way we have structural financial assets, you may see that it's not the highest shock we may have because coming from 162%, either increased by 100 basis point of interest rate or spread or decrease of the equity value. The shock represents between 2 or 3 points. Rather, when you compare with the loss ratio evolution, which is on the bottom right of the slide, you may see that the 2008 crisis would have led to go from 162% to 123%, but which is -- still showed a very robust solvency over time.

Page 21 was the detail of this ratio. Coming from the right, you have the total amount for eligible own funds in EUR 2.1 billion, mainly Tier 1 plus hybrid debt, which has to cover solvency capital requirement or for pricing insurance activities and also for factoring, which was -- which has been EUR 1.3 billion at the end of June.

So that was for the capital management update.

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Xavier Pascal Durand, COFACE SA - CEO & GM [4]

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So I'm just going to finish this formal presentation by Page 23, just to wrap it up. Q2, and as a result, the total of H1 have been very strong for Coface. Operating income is up 17%, net income up 25%. The top line is up 6.6%. The cost ratio was down 1.4% and the losses are contained, which brings the combined ratio to 76%. The fact though this sets a record for the business. Our solvency at 162% is strong. It's above the range. But I think more importantly, we have submitted our internal model for validation to the regulator just this afternoon. In my mind, that confirms targets that we've set for the second pillar of capital management. And I'll remind everyone, it was a 1% ROE improvement target on top of the 8% operational ROE that we had set out for ourselves on the operational pillars for the business.

So when you look at the full year here. I guess we talked a little bit about the environment here. As you know, we're in a slowing economy. I think the latest discussions, whether it's the IMF or the ECB or whoever, they kind of concur with that view. So we expect the current trends to continue with the slowing global growth, a continued rise of insolvencies and political uncertainties. On the one hand, this creates some opportunities. On the other hand, it requires us to remain very disciplined in terms of underwriting and execution. So we do expect to continue with the same strategy and the same execution discipline, which we've deployed over the last couple of years and which I think works well for us.

We think Fit to Win overall is on track to meet all of its targets. And as you know, we're in the last stretch here of implementing the plans as it goes through the end of 2019, and we're obviously working on what's going to be next. But it's still for later.

So that's where we stand. And with that, we're happy to take any questions as usual.

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Questions and Answers

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Operator [1]

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(Operator Instructions) We have first of line of Michael Huttner at JPMorgan.

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Michael Igor Huttner, JP Morgan Chase & Co, Research Division - Senior Analyst [2]

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And apologies for the delay. I'm coming up from the way to the airport. Fantastic results, really well done. And well done sort of for fully achieving your 2019 targets. So that's fantastic. And 3 questions. On the partial internal model, can you give us a feel for what the flex is there? The second question is on tax. What -- how much kind of tax loss have you got left? Because I don't think you capitalized it, particularly in Asia? And on the third, there was on Bloomberg a statement that Apollo -- statement -- Reuter saying that Apollo was in talks with Coface, not from Natixis, not for funded, if there's anything you can say about that?

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Xavier Pascal Durand, COFACE SA - CEO & GM [3]

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Well, thanks. Michael, this is Xavier here. So maybe I'll address the Apollo question first and then I'll pass it on to Carine for the other 2. As you know, Natixis says for the last 10 years, expressed that Coface was a financial participation, which at some point, they would like to dispose of. So I guess, there's no news on our front from -- we have no particular comment to make on any name or any possible transaction, but I think it's no surprise to us that Natixis is looking at some other options in the context of their view of Coface's financial holding versus a strategic holding. Carine, you want to talk about the tax and...

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Carine Pichon, COFACE SA - Chief Financial & Risk Officer [4]

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Yes. So on tax rate, you know we have quite, let's say, I would say, prudent approach in terms of deferred tax assets based on tax proceed. So in Asia, every time that we are taking some positive results, we don't have any tax and similar effects. That's the reason why you may see that we have the tax rate, which is around 29%, which is quite low. So every time we are making progress in Asia and also in some other part of the world, let's say mainly in emerging markets where we were used to have past loss yields. We are using that [liberty] to avoid to pay tax on difficult profits, but a huge change compared with what we did previous quarters.

On the partial internal model, so now the process is that the regulators should give you in the 6-month period, so we have to wait on that. We'll see what they will say. Just to reconfirm, I think the target we have, and maybe I remind you we say that in September '16 that we plan to have 9% return on average tangible equity, about 1% coming from capital management. If you look backwards, you already have used ratios mainly to improve our capital management. We already have been able to have a sales ratio of 100% and 110%, which is in average 42 basis points. So we reconfirmed based on that, that we plan to achieve a 100 basis point, so in that year-over-year down at 42. So that's where we are. We can't comment more because it's now in the hand of the French regulator.

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Michael Igor Huttner, JP Morgan Chase & Co, Research Division - Senior Analyst [5]

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Excellent. And just on the tax, how -- just to give again a feel, how many more years of this favorable average tax rate could we have?

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Carine Pichon, COFACE SA - Chief Financial & Risk Officer [6]

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I will say we have had huge losses in Asia. So we have some years in front of us.

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Operator [7]

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We now go to the line of Benoit Petrarque of Kepler Cheuvreux.

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Benoit Petrarque, Kepler Cheuvreux, Research Division - Head of Benelux Equity Research [8]

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Benoit Petrarque from Kepler Cheuvreux. 3 questions on my side. So the first one was on the Solvency II. We've got a pretty large impact from growth on the SCR this quarter. So now it seems that the growth is so strong that, while the Solvency II actually goes on, so organic capital generation regarding...

(technical difficulty)

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Xavier Pascal Durand, COFACE SA - CEO & GM [9]

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I think we lost Benoit here.

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Carine Pichon, COFACE SA - Chief Financial & Risk Officer [10]

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Benoit?

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Operator [11]

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We still got Benoit's line, but there seems to be some issue with it. Benoit, can you please repeat the question?

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Benoit Petrarque, Kepler Cheuvreux, Research Division - Head of Benelux Equity Research [12]

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Can you hear me?

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Operator [13]

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Yes, we can hear you now.

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Benoit Petrarque, Kepler Cheuvreux, Research Division - Head of Benelux Equity Research [14]

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Yes. Yes. Okay. Sorry, sorry. Okay. So the first question is on the Solvency II ratio. So the growth has been strong and the SCR is going up a lot over the first half year. So it's growing faster than the own funds and the capital generation. So what is your thought? Because I think consensus has about 100% payout ratio, which means that Solvency II goes down on this basis because of the strong growth? Or do you see the sustainable payout ratio for Coface, looking at your growth prospects? And I was wondering, in the 10 percentage point negative on SCR -- coming from the SCR increase, is there anything else than just revenue growth in that figure or something special?

And second one is on the Solvency II ratio. So again, so speaking about partial internal models, and I think in this standard from where you are the 160% level, at which you think you are overcapitalized. Do you had a thought about kind of the ultimate level you have in mind to distribute more, if any, to distribute the excess capital under the partial internal model? So will the 160% move up? Or will that stay at 160% on the partial internal model? And then the final one was on the combined ratio. I think you've been getting for -- 83% across the cycle. Obviously, you post some of the very strong combined ratio now. Is the 83% really across the cycle average? Or do you see now, looking at all the risk management measures and all the things you have done, actually, the 83% might be a bit too high, actually?

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Xavier Pascal Durand, COFACE SA - CEO & GM [15]

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Maybe on the solvency, I guess, the decreased spending on the growth, right? I mean, on the standard formula?

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Carine Pichon, COFACE SA - Chief Financial & Risk Officer [16]

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On the ratio, yes. Mainly, just maybe because I think Benoit you're estimating also evolution of the volume of solvency's acceleration, capital and not only the ratio. You just have in mind and I think it's interesting, if you look back Page 20, on the left part, you see the trend third quarter between the H1 and end of the year. And there is a seasonal -- sort of seasonality effects in the way it is calculated. And then you may see, for instance, in H1 '18, we're at 163% then we went to 169%. Same thing also in '17. So we have a part also of the evolution, which will lead to some seasonality plus growth. Having said that I think it's exactly the proof that this external model is not adequate to our business model because whatever the quality of the growth is, you have a change in the capital requirements. In fact, one of the reasons why we want to switch to the internal model because it will be a more focus on our business and more into the quality of our group than just on the group by itself.

In terms of comfort scale, I think to your second question, too early to tell at this stage. Firstly, we need to wait the approval of the French regulator. And it's clear that we will come back based on that on what will be our new comfort scale. Well, we -- it is early, a little early for us to tell, and we'll come back most probably at the end of the year when we will establish a new plan.

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Xavier Pascal Durand, COFACE SA - CEO & GM [17]

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Then on the combined ratio, we haven't changed our guidance, which is, as you point out, the one we issued in Fit to Win. And I guess, we'll -- as we said, we'll come back with a new plan towards the end of the year.

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Operator [18]

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(Operator Instructions) We go to the line first of Hadley Cohen at Deutsche Bank.

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Hadley Cohen, Deutsche Bank AG, Research Division - Research Analyst [19]

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Most of my questions are asked and been answered, but I just had one question around the loss in Western Europe. I think you mentioned it was related to something in France. If you could give us any more specifics around what industry it was? What happened?

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Carine Pichon, COFACE SA - Chief Financial & Risk Officer [20]

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Okay. It's -- okay, you know we are not supposed to give names, but let's say that yes, we have, in -- mainly in sectors of distribution some names, which comes now, knowing that we were in towards -- in the past also some provisions that we have because of. So net-net, it's more or less stable in -- when we were last year from 1 quarter to the other one. It's mainly in distribution sector, but you're correct.

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Operator [21]

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So we have a final question. It's back to the line of Michael Huttner at JPMorgan.

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Michael Igor Huttner, JP Morgan Chase & Co, Research Division - Senior Analyst [22]

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I was just asking, when are you going to publish or -- the next strategic plan? Have you got a date for that? And also, what is it going to be called? SCOR has also already given us the name of their next 3-year plan. That's why I'm asking.

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Xavier Pascal Durand, COFACE SA - CEO & GM [23]

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Well, it's not like children. We don't look for names before we know what they look like. So we're more focused on building a plan than finding a name for it, right now.

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Michael Igor Huttner, JP Morgan Chase & Co, Research Division - Senior Analyst [24]

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Okay. Okay. And then date?

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Xavier Pascal Durand, COFACE SA - CEO & GM [25]

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Well, I mean in terms of date, we, again, I mean, what is really important for us to have a consistent plan is to have some visibility on the internal models. So we're looking at the end of year, but exactly when I think it's still a bit early for us to say. We're working under a pretty tight schedule. We just submitted the model today. As you know, the regulator has 6 months to get back to us. So we would like to have visibility on the plan before we -- on the internal model before we could put out a plan.

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Operator [26]

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Okay. With that, that is all the questions for today. Can I please pass the call back to you for any closing comments at this stage?

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Xavier Pascal Durand, COFACE SA - CEO & GM [27]

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Well, I think that we're breaking another record, which is how short the call is here. I think it's a positive. So I just want to thank you all for logging in. Our next call is going to be in October. I think -- what is it, 23? October 23. As I said, I mean, it turned out to be a good first half, and we're now focused on the last stretch of Fit to Win, which carries us through the next 6 months. And then, well, as you said, we'll have to come up with a new plan and a new name. So thank you all for logging in.

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Operator [28]

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This now concludes today's call. So thank you all very much for attending, and you can now disconnect your lines.