Q4 2023 Lincoln National Corp Earnings Call

Participants

Christopher Michael Neczypor; Executive VP & CFO; Lincoln National Corporation

Ellen R. Gail Cooper; Chairman, President & CEO; Lincoln National Corporation

Tina Madon; Senior VP & Head of IR; Lincoln National Corporation

Joel Hurwitz

John Bakewell Barnidge; MD & Senior Research Analyst; Piper Sandler & Co., Research Division

Michael Augustus Ward; Research Analyst; Citigroup Inc., Research Division

Ryan Joel Krueger; MD of Equity Research; Keefe, Bruyette, & Woods, Inc., Research Division

Taylor Alexander Scott; Equity Analyst; Goldman Sachs Group, Inc., Research Division

Thomas George Gallagher; Senior MD; Evercore ISI Institutional Equities, Research Division

Wilma Carter Jackson Burdis; Research Analyst; Raymond James & Associates, Inc., Research Division

Presentation

Operator

Good morning and thank you for joining Lincoln Financial Group's Fourth Quarter 2023 Earnings Conference Call. (Operator Instructions)
Now I would like to turn the conference over to the Senior Vice President, Head of Investor Relations, Tina Madon. Please go ahead.

Tina Madon

Thank you. Good morning and welcome to Lincoln Financial's Fourth Quarter and Full Year 2023 Earnings Conference Call. We appreciate your participation today and invite you to visit Lincoln's website, www.lincolnfinancial.com where you can find our press release, statistical supplement and supplemental investor outlook presentation. These documents include reconciliations of the non-GAAP measures used on our call, including adjusted income from operations or adjusted operating income and adjusted income from operations available to common stockholders to their most comparable GAAP measures.
Before we begin, I have an important reminder. Any comments made during the call regarding future expectations, actions or trends in our businesses, prospective services or products and future performance or financial results including those regarding expenses, income from operations, share repurchases and liquidity and capital resources as well as any statements relating to our 2024, 2026 and longer-term outlook and the expected timing and impacts of our strategic initiatives are forward-looking statements under the Private Securities Litigation Reform Act of 1995.
These forward-looking statements involve risks and uncertainties that could cause actual results to differ materially from current expectations. These risks and uncertainties include those described in the cautionary statement disclosures in our earnings release issued this morning as well as those detailed in our 2022 annual report on Form 10-K, most recent quarterly reports on Form 10-Q and from time to time in our other filings with the SEC.
These forward-looking statements are made only as of today and we undertake no obligation to correct, update or revise any of them to reflect events or circumstances that could occur after this date. Presenting on today's call are Ellen Cooper, Chairman, President and CEO; and Chris Neczypor, Chief Financial Officer. After their prepared remarks, we will move to the question-and-answer portion of the call.
Let me now turn the call over to Ellen.

Ellen R. Gail Cooper

Thank you, Tina and good morning, everyone. I want to start my remarks today by looking back on 2023 and reflecting on the significant progress we've made in repositioning Lincoln for long-term value creation. We're entering 2024 in a much stronger position compared to 12 months ago as we advanced on our key initiatives, which were to: one, repair and rebuild our balance sheet; two, deliver organic growth while shifting new business to more capital efficient and higher risk-adjusted return products; three, position our Group business to become a larger part of our overall business mix; and four, continue to build our leadership team, putting the right people in the right roles to produce results-driven outcomes and lead the organization forward.
We have a powerful franchise, a trusted brand, distribution prowess and a broad product portfolio that meets customer needs across our 4 businesses. These attributes will continue to serve as a solid foundation for our future growth. Our primary focus last year was to strengthen our balance sheet. And as you'll hear from Chris in more detail, this will remain a top priority. We closed a major reinsurance transaction with Fortitude Re, which marked a big step forward in our efforts to derisk our balance sheet and improve our capital position and ongoing free cash flow.
We also announced an agreement to sell our wealth management business to Osaic. This transaction is expected to provide a capital benefit of at least $700 million upon closing, which we anticipate in the first half of this year with no expected material impact on ongoing free cash flow or earnings.
We ended 2023 with an estimated RBC ratio above our target of 400%, which includes the impact of the Fortitude Re transaction and represents a substantial increase from the 375% to 385% range at the end of the third quarter. And when the sale of our wealth management business is finalized, we expect this will further improve our RBC ratio and provide us with additional financial flexibility. We also made good progress last year in shifting our new business to a more capital-efficient mix with higher risk-adjusted returns and we are doing this across all 4 of our businesses.
While a shift like this takes time, both our product and distribution teams are executing on this transformation. Our Group Protection business delivered substantial year-over-year margin expansion, while also generating solid premium growth. A larger and more profitable Group business is a core tenet of our long-term strategy to achieve a balanced mix of earnings from businesses and products with higher stable cash flows.
Lastly, I'd like to acknowledge our leadership team. Not only did the team execute at a high level to achieve our 2023 results, they are also refining our strategy and processes, creating the framework for further transformation. We are continuing to invest in our technology and infrastructure to support future profitable growth, including digital platforms to enhance the customer experience and innovative tools to drive more production for our distribution force.
Next, I'll briefly touch on our results for the fourth quarter and full year. I am pleased with our overall performance and the progress we are making to transform our company. In the quarter, we delivered improved operating performance led by our Group Protection business, record sales in Annuities and more stable Life earnings. In Retirement Plan Services, we delivered our ninth consecutive year of positive flows. Elevated expenses remained a company-wide headwind and as I mentioned last quarter, we are actively addressing this along with exploring a range of additional strategic initiatives to continue growing the franchise, which you'll hear more about later on.
Turning to our retail solutions businesses, Annuities and Life Insurance. In Annuities, we had a record sales quarter, driven by strength in fixed annuities, which surpassed the $2 billion mark in the quarter for the first time. While variable sales, including our RILA product, were flat sequentially, we have several product enhancements launching in 2024, focused on increasing our addressable market and expected to grow sales. Total annuity sales for the year increased by 8% with a well-balanced mix across product categories and strong growth driven by our strategic positioning across fixed product categories and with select distribution partners.
We also continue to achieve our objectives for capital efficiency and product returns while providing customers with a broad range of product solutions to meet their evolving needs. We expect further momentum in our annuity business as we head into 2024. In Life Insurance, sales declined in the fourth quarter and full year, driven by our intentional strategic realignment to products with more stable cash flow profile and risk-adjusted returns, such as accumulation Life products.
We anticipate that this sales shift will continue to take time and entails optimizing the product portfolio by deemphasizing long-term guarantees such as guaranteed variable universal life or GVUL and commoditized lower-margin products such as Term. We expect to further support this shift with go-to-market strategies, including product actions and expanded distribution channels.
Next, turning to Workplace Solutions, which comprises our Group Protection and Retirement Plan Services businesses. In Group, we had a compelling 2023 as we delivered record full year earnings and strong top line growth. This reflects our progress executing on our new segment strategies and our actions to drive margin expansion. Premiums grew more than 5% for the full year and 3% versus the prior year quarter. Our deep relationships and positive customer experience enabled us to achieve strong persistency while executing on the pricing actions that are core to our margin expansion.
In what is typically our highest sales volume quarter of the year, sales were up 12% versus the prior year quarter and up 3% for the full year, as we achieved significant momentum across all market segments and products. We saw continued strength in supplemental health, where sales more than doubled in 2023, helping to build a more balanced and diversified book of business.
Strong claims execution and a favorable external environment helped improve risk results in 2023 and when combined with pricing actions were drivers of the substantial progress we made toward our goal of sustainable 7% margins. We are also taking the necessary strategic actions to position this business for future growth with investments to build out our infrastructure, including technology and digital platforms, enhancements to our customer experience delivery and segment-specific offerings that we believe will provide differentiation. We're confident that our strategy will deliver further profitable growth and margin expansion.
Lastly, Retirement Plan Services. While 2023 results were below our expectations, we are taking actions to regain momentum and drive long-term sustainable growth. First year sales were down for the quarter and full year, driven in part by a lower volume of stable value sales as higher interest rates drove lower demand for this product category and also contributed to participant-driven stable value outflows. Our employer retention remained excellent, which we attribute to our differentiated service model.
Total deposits in the quarter were in line with the prior year quarter and recurring deposits were up year-over-year, driven in part by higher participant contribution rates. We are focused on the actions and initiatives necessary to move this business forward. We are already seeing some positive results as we have a larger pipeline of known sales wins than we had a year ago, although this growth will take time to emerge in our financial results.
Looking ahead, we're optimistic about our strategy to grow and improve the profitability of the retirement business. Before I turn the call over to Chris, I want to set the stage for our outlook discussion. As we progress on our multiyear journey to reposition Lincoln and restore value, we remain focused on 3 strategic priorities: one, to further strengthen our balance sheet; two, to improve free cash flow; and three, to grow our franchise profitably, which includes advancing the optimization of our business model. As a market leader in our at-scale businesses, we have the opportunity to expand our footprint by utilizing 3 key foundational competitive advantages, which include leveraging our distribution strength to grow our addressable market, target specific segments and deepen existing partnerships, emphasizing products in our core markets that have higher risk-adjusted returns and more stable cash flows, while expanding into adjacent product categories and offering a differentiated customer-centric service model with enhanced digital delivery.
Over time, we expect to grow and diversify our Group business across products, inside segments, our annuity business to evolve with a well-balanced product mix that includes expansion of spread-based product lines, our Life business to emphasize more accumulation products and deemphasize products away from long-term guarantees and our retirement business to grow its core recordkeeping segment. This longer-term mix is expected to provide more balanced, stable cash flows and higher risk-adjusted returns that over time will support our financial objectives that Chris will cover during his remarks.
Our businesses are in different stages of their strategic realignments and as I mentioned previously, it will take some time for these changes to manifest in our financial results. While we are taking the necessary steps within each business, we are also continuing to actively evaluate a series of strategic initiatives expected to further contribute to building a stronger capital foundation and optimizing our operating model. Chris will provide further details on these initiatives in his remarks.
To sum up, I believe we're at an important inflection point for our company. Today's outlook provides the first glance into our future as we proceed on our journey to create increasing shareholder value. I am confident in the path ahead and look forward to updating you on our progress.
With that, I'll turn it over to Chris.

Christopher Michael Neczypor

Thank you, Ellen and good morning, everyone. Overall, we reported solid results for the fourth quarter, capping a year of consistent progress across our business. We are executing well against our strategic priorities, strengthening our balance sheet, improving free cash flow and focusing on profitable growth. I'm going to focus on 3 areas this morning. First, I'll recap our full year and fourth quarter results, including a review of our segment level financials. Second, I'll briefly touch on our investment portfolio. And then third, I'll discuss our financial outlook, touching on capital, free cash flow conversion and expected growth. We've also posted an investor outlook presentation on our website that provides you with these details.
So let's start with a recap of the quarter and the full year. This morning, we reported fourth quarter adjusted operating income available to common stockholders of $246 million or $1.45 per share. There are 2 items to call out as it relates to our results. First, while alternative investments delivered a 7% annualized return in the quarter or $58 million, after tax, this was $20 million below our target or $0.12 per share.
Second, our Annuities business had a onetime favorable item of $14 million or $0.08 per share associated with a model refinement. Excluding the impacts of our annual assumption review in each year, full year 2023 adjusted income from operations was $1.1 billion, a slight improvement compared to 2022 as growth in our Group business more than offset expense pressures faced across the enterprise.
Now turning to net income for the quarter. We reported a net loss available to common stockholders of $1.2 billion or $7.35 per diluted share. The difference between net and adjusted operating income for the quarter was predominantly driven by 2 factors. First, there was an unfavorable noneconomic impact within nonoperating income, driven by the negative movement in market risk benefits as the impact of lower interest rates more than offset the benefits from higher equity markets. Of note, we remain pleased with the performance of our VA hedge program. The performance of the program throughout 2023 has the block well positioned for the year ahead.
Second, there was a change in the fair value of the GAAP embedded derivative related to the Fortitude Re reinsurance transaction with the corresponding offset to this change flowing through AOCI. So now let's turn to the segment results, starting with Group Protection. Group reported operating income of $52 million compared to $26 million in the prior year quarter. The progress was broad-based as both disability and life loss ratios showed improvement compared to the prior year quarter. And while fourth quarter earnings tend to be lower due to seasonality, excluding the impacts of the assumption review, results increased $8 million sequentially as improved life mortality more than offset the seasonal headwinds.
For the fourth quarter, the Group, Life loss ratio was 67%, decreasing over 7 percentage points versus the prior year quarter and roughly 10 percentage points sequentially. The improvement was driven by declining severity from the elevated levels experienced in the third quarter. For disability, the loss ratio was 83%, decreasing by 260 basis points versus the prior year quarter driven by fewer LTD claims incurred. Sequentially, excluding the impacts of the assumption review, the disability loss ratio increased over 7 percentage points reflecting higher claim severity and seasonal trends we've experienced in the past.
Now briefly touching on full year results. Excluding assumption reviews, Group reported full year operating income of $275 million and a margin of 5.5% compared to $53 million and a margin of roughly 1% in 2022. The improvement reflected continued progress in our margin expansion efforts through the execution of our strategy, including diversifying our book of business across market segments and products, maintaining pricing discipline on new and renewing business and operational investments we have made to support claimants in their return to work journey.
As we look towards 2024, the Group business will continue to drive growth in both our operating earnings and free cash flow. As I noted last quarter, we remain focused on achieving a sustainable margin of 7%. And as we progress towards that goal, we would expect continued execution of our strategy to drive another 50 to 100 basis points of margin expansion in 2024.
Turning to Annuities. Annuities reported operating income of $279 million, which, as I noted earlier, includes a onetime favorable impact of $14 million from model refinement compared to $275 million in the prior year quarter. Excluding the onetime impact, the decrease was primarily due to higher expenses. Sequentially, excluding the impacts of the assumption review and the onetime item, results improved by approximately $5 million, primarily due to improvements in spread income, partially offset by lower average account balances. However, ending account balances were up 4% for the same period, which will be a tailwind for first quarter results. As we look to 2024, we expect the spread improvement we experienced in the fourth quarter to continue throughout the year and the Annuities business to remain a key driver of earnings and free cash flow for the company.
Now shifting to Retirement Plan Services. Retirement reported operating income of $38 million compared to $52 million in the prior year quarter. For the full year, earnings were $171 million compared to $211 million in the prior year. The declines were primarily driven by higher expenses and participant-driven stable value outflows, resulting from higher interest rates throughout 2023. Average account balances for the quarter increased 9% versus the prior year quarter and end-of-period account balances were over $100 billion for the first time, driven by strength in the equity markets and a ninth consecutive year of positive net flows.
Lastly, turning to Life Insurance. Life reported an operating loss of $6 million compared to an operating loss of $9 million in the prior year quarter, with the run rate impacts from both the Fortitude transaction and our annual assumption review, being offset by an improvement in alternatives investment income. Of note, the impact from the Fortitude transaction this quarter was approximately $15 million, slightly less than the expected quarterly run rate of $25 million due to the timing of the close of the transaction.
At the same time, we experienced slightly higher mortality severity in the quarter, largely offsetting the favorable impact in the quarter from the timing of the close of the transaction. Sequentially, excluding the impacts of the assumption review and onetime items, earnings declined by $29 million, driven primarily by higher expenses and the run rate impacts from the Fortitude transaction.
Taking a step back, as I previously highlighted, there are a number of headwinds facing the Life business but we continue to expect some of these to lessen over the next few years. In 2024, we anticipate the Life business to have modestly positive earnings, driven in part by lower expenses, improving spreads and higher alternative investment income. We view the actions that we took in 2023 to be foundational to our efforts to deliver earnings growth in this business over time with continued progress being made in 2024.
Moving to investments. Following the close of the reinsurance transaction, our total invested assets decreased $28 billion. The portfolio shift is in line with our investment strategy of maintaining both a high-quality and well-diversified portfolio. The portfolio remains 97% investment grade, with an average credit rating of A. Credit performance was solid during the quarter with negligible credit-related losses. Additional details on our investment portfolio can be found on Pages 14 and 15 in our outlook presentations.
Now briefly turning to an update on our commercial mortgage loan portfolio. The portfolio continues to be conservatively positioned and performed extremely well. Throughout 2023, we had no material loan modifications or losses, no delinquencies and no forced extensions. Within our office portfolio, we have future maturities of $133 million and $178 million coming due in 2024 and 2025, respectively, which represents less than 2% of our commercial mortgage loan portfolio. The near-term maturing office loans continue to perform well and are conservatively positioned with an average debt-to-service coverage ratio of 3.5x.
Lastly, on alternative investment performance. As mentioned previously, alternative investments generated an annualized return of 7% this quarter and for the full year delivered an 8% return. Our alternatives portfolio continues to benefit from our diversified investment approach, delivering strong risk-adjusted long-term returns. I will turn to the outlook in a moment but first, I want to highlight the information that we've provided today.
The outlook presentation posted on our website is intended to address 3 areas of focus. First, as Ellen referred to, is more detail on our strategic priority for the company. Second, we have laid out a number of guideposts around fundamental financial metrics for the company and our businesses. We recognize the importance of increased disclosures and metrics and we view today as a solid step in that direction. However, this is a starting point as we progress along our journey to reposition our business.
Third, in the appendix, we provide an outlook for adjusted operating earnings for 2024. We felt it was necessary to provide a grounding for both the full year ranges of outcomes for the businesses and some of the quarterly seasonality to level set after the Fortitude transaction and its impact on our financial statements. Given the time allotment today, our intention is not to go through every slide but to hit the major highlights.
Turning to the outlook itself. There are 3 main points. The first is that we see substantial opportunity to continue to transform Lincoln. Our foundation is one built upon at-scale retail and workplace businesses with leading distribution and a large strength in the balance sheet. The opportunity, however, is to leverage those competitive advantages to evolve our business into one characterized by more stable cash flows, foundational capital strength and a focus on maximizing risk-adjusted returns. And doing this will require us to first hold more capital than we have previously.
Second, further optimize our operating model; and third, grow profitably, which for us entails increasing the size and scale of our Group business, expanding our spread and spread-like products inside our retail businesses and generally decreasing our sensitivity to equity markets. Our ability to execute will require strategic, financial and operational initiatives many of which we began in the last year.
In the outlook presentation, we provide examples of these initiatives, along with an illustrative time line as can be seen on Page 8. We felt it was important to show the time line to help you understand the journey we're on and to also provide context for the growth in our free cash flow over the next few years rather than simply focusing on 2024 as a number of these initiatives will have onetime costs or some inherent uncertainty around timing.
For example, last quarter, I discussed the expense headwinds we are facing and the opportunity to continue rightsizing our expense base. Earlier this week, we took action to remove organizational complexity. With this headcount reduction, we're working to optimize our organizational structure and continue to set Lincoln on a more efficient and agile path. While these actions will be additive to the run rate value of the company, there is a cost associated with this reduction that will impact us in the first half of the year.
Additionally, as we continue to diversify our product strategy, we see opportunity to optimize our general account. Our multi-manager sourcing model provides us that flexibility and we're exploring the optimal way to strategically achieve the goals of adding incremental risk-adjusted yields. This initiative will begin to show value in the upcoming quarters but it will take some time to reposition the portfolio and fully capture the run rate value. Another strategic initiative being explored to optimize our operating model, is an expanded use of affiliated reinsurance.
As you know, we have utilized LNBar effectively for years to manage our VA guarantees. However, going forward, we are exploring the potential to establish additional domiciles such as Bermuda as a tool to deliver profitable growth across a variety of our other products. We are actively working on this and expect it to be a meaningful positive to free cash flow over the next few years, given our increased focus on our capital framework.
Ultimately, we expect the outcomes of these initiatives to result in substantial progress over the next few years and drive improvement in our free cash flow conversion. On Page 9, we show that by 2026, we expect free cash flow conversion to improve from roughly 35% in 2023 to a range of 45% to 55%. At the same time, our operating income is expected to continue to grow. The enterprise growth in both operating income and free cash flow conversion will be driven by improvement across all our business segments.
Some examples of the drivers within each segment can be found on Page 10 with 3 main dynamics to point out. First is that we expect Annuities and Retirement Plan Services to grow low single digits, consistent with recent historical growth rates as account balances grow and we experience some continued lift from spread expansion. It is also worth noting, we are only assuming 6% market appreciation in our estimates. The more material driver to earnings growth will come from our less market-dependent businesses with Group executing on its path to a 7% margin, while retail Life benefits from some headwinds turning to tailwinds with improving mortality and spreads helping along with a more normalized alternatives return and a focus on expense rationalization.
The second key message is that we will be working to sustain RBC above 420% going forward. We ended the year above 400% RBC, an estimated increase of more than 20 percentage points from the third quarter. Note, this does not include the significant benefit expected from the closing of the Osaic transaction in the first half of this year. We view a 420% RBC level as allowing enough buffer to maintain a minimum 400% RBC during a normal recessionary environment and are committed to taking additional steps to further minimize our capital volatility. The combination of higher free cash flow generation and the rebuild of capital above our target levels should provide a significantly greater capital flexibility over the next few years.
The last key point is that these 2026 metrics should not be construed as long-term targets. Over time, our free cash flow conversion should continue to increase, really driven by 2 dynamics. The first is the natural timing of reserve building for the legacy Life portfolio, which becomes less of a drag over time. The second dynamic is the mix shift as we evolve our mix and allocate capital to higher risk-adjusted returning businesses, the overall free cash flow conversion will trend higher and we would expect long term to see free cash flow conversion closer to 65% to 75%.
As Ellen mentioned, this is a multiyear journey but the actions taken in 2023 to solidify the foundation of the company, coupled with our confidence in executing against the initiatives we've outlined today, will enable Lincoln to deliver sustainable growth in the years ahead.
I will now turn the call back over to Tina.

Tina Madon

Thank you, Chris. (Operator Instructions). With that, let me turn the call over to the operator to begin Q&A. Operator?

Question and Answer Session

Operator

(Operator Instructions) We'll go first to Alex Scott at Goldman Sachs.

Taylor Alexander Scott

First one I had for you is on the free cash flow and I know you're not giving a '24 specific guide but wanted to see if you can expand on the severance costs and how we should consider that in the context of 2024 cash flow? As well as helping us think through some of the year-over-year puts and takes.

Christopher Michael Neczypor

Alex, sure. So look, I think the -- if you step back, right, the goal of the outlook is really to think about over the next couple of years, the growth in income and then what we see is ultimately 2 to 3 years from now what the free cash flow conversion will look like. And then longer term, what do we think the mix of business should support. So what I would say about 2024, is that it will improve relative to 2023 and 2025 will improve relative to 2024. I think when you look at the slides we've put out as an example on the -- on Page 8 what you see is that there's a number of initiatives that are embedded in the way that we're thinking about next couple of years. And so there's some uncertainty around timing, right? Affiliated reinsurance is a good example where it's something we're working on that could land in '24, could land in '25. The expense initiative that I mentioned to your question, I mean that's another great example where the run rate impact from that will be a meaningful lift to free cash flow.
But the onetime cost this year will be a negative to free cash flow in 2024. So it's -- we think focusing on 2026 gets you to the point where you can understand the steady state. I think if you look at 2023, where we landed somewhere close to $400 million in terms of free cash flow and we would expect that continue to improve. But there's just some uncertainty around timing for some of the initiatives and then for some of the other initiatives, there's just a degree of onetime cost that will be required.

Ellen R. Gail Cooper

And Alex, just one additional point, just as it related to expenses in particular and your question about severance. So as we think about expenses going forward, it is really critical to us that once we get through the initial upfront costs here that ultimately G&A expenses that you'll see a downward trend. And the action that we took and the severance that we noted in our outlook, what you can see there is that it's about a 5% reduction in our overall workforce. And as Chris commented in his script, this is really intended to remove the organizational complexity and just put us on a more efficient and agile path as we go forward.

Taylor Alexander Scott

Got it.

Christopher Michael Neczypor

And to your specific question. It will be about a $40 million after-tax onetime item in first quarter.

Taylor Alexander Scott

Okay. All right. And when you guys are defining free cash flow, is that before or after interest expense at the holdco?

Christopher Michael Neczypor

So that is after interest expense at the holdco.

Taylor Alexander Scott

Got it. Okay. And if I could sneak 1 more in. I noticed affiliate reinsurance was mentioned, I think, 5 times in your outlook slides. So it seems like that's something you're pretty focused on. Can you help us think through, what are the inefficiencies on the balance sheet today that you're looking at?

Christopher Michael Neczypor

So look, I think if you step back, we've utilized Barbados, as I mentioned and as you know, effectively to manage some of our guarantees in the annuity block. I think that if you look across the industry, we're one of the few that haven't utilized other domiciles and so we mentioned Bermuda as an example. Ultimately, as we continue to move towards optimizing the capital framework and really thinking about economic capital, Bermuda makes a lot of sense, there is a lot to like about the regulatory regime. There's a lot to like about the U.S., obviously, as well. But it's prudent to have multiple tools in the toolkit as we look out the next couple of years.

Operator

We'll move next to Tom Gallagher at Evercore ISI.

Thomas George Gallagher

First, a question on capital plan and then I had a follow-up on free cash flow. Just on the capital. So I just want to make sure I understand the moving pieces here. So I heard you on the 420% RBC, so that would imply an extra 10 or 20 points of RBC. How much debt reduction, Chris, is embedded in your 2026 plan when I see the delevering, I assume part of that is growth of equity, part is debt reduction. So how much incremental debt reduction? And then would you look to be changing the holding company cash from the current $458 million? Are you looking to grow that? And if so, by how much? That's -- sorry, long-winded first question. I'll stop there.

Christopher Michael Neczypor

That's right. That was a solid first 5 questions, Tom. But we're happy to answer them. So I think you laid it out correctly, the -- we're ending the year somewhere between 400% and 410%. As a reminder, we started the year at 377%, right? So we told you the focus for the year was going to be on rebuilding capital. We worked to get back to the 400% target. So we feel really good about that. I would also remind you that this is before the capital that we'll receive when the Osaic deal closes. So that will be a nice lift and should get us within the ballpark of the buffer that we're looking to hold. As we mentioned, when we put the press release out for that, we will look to use some of those proceeds to delever and opportunistically repurchase some debt.
So as it relates to the 2026, what I would say is, I think you're exactly right that some of the leverage will naturally come down as equity grows. And what we're looking at right now is what are the options as it relates to actually opportunistically bringing down debt. So given where spreads are in the markets and so forth, that -- it seems prudent to take a deep look at the liability management.
At the end of the day, Tom, the other point that I think is worth making is that the preferred comes due in a couple of years, and that is an expensive cost of capital. So net-net, when you step back, if you think about the free cash flow that is implied in 2026 and you think about the fact that we're paying a $300 million dividend, there's just a lot of financial flexibility. So we think that there's going to be a number of things that we're going to be able to do depending on market conditions and where we see our debt trading and so forth.

Thomas George Gallagher

Got you. And then just on -- 1 question on Life Insurance free cash flow. By the '26 free cash flow guide by segment, I noticed Life still doesn't have any. I think the 1 concern that's still out there on your stock is that you had obviously a reserve strengthening for SGUL. And when I look at '26 free cash flow, there's none coming from Life Insurance. Is that signaling that the reserves still need to be strengthened there since there's effectively no free cash flow? Or do you think you're out of the woods as it comes to balance sheet risk in Life Insurance reserves?

Christopher Michael Neczypor

Yes. And look, at the end of the day, if you think about free cash flow at a business segment level, there's lots of ways to define it. But at the end of the day, it's really the capital generation that's coming out of that business, less the amount of money that we're investing for new business, right? So what I would say is that, rest assured that over the next couple of years, we are continuing to invest in the Life business. And sales in that segment obviously require capital strain in any given year.
So we are, by 2026, more comfortable with the capital generation coming from that block. Obviously, the Fortitude deal last year took a big step forward in terms of derisking the GUL block. But at the end of the day, we do still invest a significant amount of money into new business capital in the Life business. One of the things that we highlight though is -- and Ellen has talked a lot about the move to a more capital-efficient product portfolio that will help -- and then obviously, to Alex's question, as we look at different jurisdictions and domiciles from an economic framework, that should be able to help with the new business capital as well.
So at the end of the day, we feel increasingly better, obviously after the deal. But I would just remind you that when you think about free cash flow, it's not just the reserve build and the capital that you're generating, it also takes into account any new business capital that you're investing in the business. Does that help?

Operator

We'll go next to Ryan Krueger at KBW.

Ryan Joel Krueger

My first question was on the affiliated reinsurance. Is this something that you're thinking about primarily as using for new business to improve free cash flow and improve capital efficiency? Are you also of the view that, that could also release capital from the in-force upfront?

Christopher Michael Neczypor

So Ryan, it's a good question. What I would say is we're looking at everything, right? I think to go back to the earlier point, we are one of the few that haven't worked to build out multiple tools in the toolkit. I think it would be fair to say that, at the end of the day if you're going to stand up an affiliated reinsurance subsidiary that you would see that initially with some liabilities. So I would imagine that there would be an element of current in-force that would go to start the reinsurance affiliate. And then more importantly, over time, it would absolutely be a tool in the toolkit and a thoughtful way of us deploying for new business.

Ryan Joel Krueger

Got it. And then I don't think you talked too much yet about the optimization of legacy Life liabilities that you listed, which I think policy buyouts could maybe be 1 option but also probably require capital to do so. So I was just hoping you could expand a little bit on what you're looking to do there and how we should think about the potential, I guess, cost of doing something like that?

Christopher Michael Neczypor

Yes. Right. So we put it on the page to basically make the point that this is -- continues to be a significant focus for us, as you would expect. But I think when you're thinking about a legacy Life block, right, it runs the gamut. There's the transactions that -- the transaction that we did last year, right, with Fortitude. That obviously helped to optimize the results for the block that we ceded. I think at the other end of the spectrum, you could think about something around the affiliated reinsurance. But really in between, there's all the other dynamics that you can work towards thinking about hedging, you can think about different asset allocations within that block. So the point is that we're looking at everything, as you would expect. We took a big step forward last year. But we think that there's a lot of upside over the next 2 years there.

Operator

We'll take our next question from Mike Ward at Citi.

Michael Augustus Ward

I was just wondering, is there any kind of metric that we or you are tracking? It's probably early for this but in terms of like a buyback resumption, should we think about that as like maybe a 2026 target or longer-term target than that?

Ellen R. Gail Cooper

So Mike, I think importantly, first of all, just to reiterate the fact that every action that we took last year and everything that we have, as we contemplate our path to go forward are all focused on the strategic objectives around strengthening the balance sheet, improving free cash flow and profitable growth. And so importantly, that as we are growing our earnings, as we are improving our free cash flow over time those things obviously are going to support are increasing in terms of overall shareholder returns. So we're not today going to provide any specific timing as it relates to buybacks. But it goes without saying that as we are improving and growing our free cash flow, as we're growing our earnings, as we're shifting the overall earnings mix and everything that you've heard about today that, that will also just increase our overall financial flexibility.

Michael Augustus Ward

Got it. Totally. It makes sense. And then just on the wealth management sale. It seems like a pretty solid deal for you guys. Just kind of wondering if you could sort of elaborate kind of on what exactly you're giving up in that transaction?

Ellen R. Gail Cooper

Sure, Mike. So if I take a step back and there are -- there was one transaction that we closed last year, the Fortitude Re transaction, I am going to spend a moment talking about that. So as you all know, complicated transaction, $28 billion of liabilities, 40% of our GUL. And as part of that transaction, we were able to really stick to our overall strategic objectives. So we reduced our balance sheet risk. We improved our capital and we also improved and increased our ongoing free cash flow. So in the announcement of the wealth management transaction and as we thought about that broadly and we really looked at the overall opportunity for wealth management and we evaluated the fact that; a, we did not believe that we had scale in that business but it was a very good business.
We made the decision to divest of it and recognize that in the comments of a net capital benefit of $700 million, we are improving our capital position and we have also communicated that there are no material earnings or free cash flow impacts as well. So again, really sticking as we think about these overall transactions, importantly to maximizing relative to the strategic objectives that we've laid out for you.

Michael Augustus Ward

Okay. I guess just -- it seems like it's very solid proceeds for wealth management. Is it just -- is it, I guess, other competitors being on the same platform for distribution and wealth. It just seems like really solid deal. Wondering what the puts and takes are?

Ellen R. Gail Cooper

Yes. So Mike, these are -- so the wealth management business is a very attractive business. And in particular, it has profitable growth with scale. And so it really gets to this point around the fact that as we evaluated our wealth management business, which is a great business that we really determined that unlike the other businesses that we're in, where we have significant scale, where they're very mature, where we have all the levers that we need around competitive advantages around our distribution strength, our product manufacturing, our customer-centric delivery, et cetera, that there was quite a bit that we ourselves would need to do to really build out the business to be at that same level. And that it would really be and best for us and best ultimately for this business to be in the hands of an organization that does this as part of what they do, 24/7 each and every day, that has the ultimate scale to really drive the profitable growth that we know can come out of this business.

Operator

We'll go next to Wilma Burdis at Raymond James.

Wilma Carter Jackson Burdis

Could you talk a little bit about the Life segment earnings outlook? We were expecting in our model loss in the segment but the '24 guidance was better than we anticipated. Is there anything that changed? Or is there -- is this just kind of what shook out after the deal?

Christopher Michael Neczypor

Wilma, if you step back, the Life business for Lincoln, it used to earn about $600 million a year, if you go back a couple of years. And over the course of the year in 2023, we tried to lay out the drivers of the degradation over time and how we went from $600 million to basically flat for 2023.
And embedded in that were a number of things that we've highlighted that actually turned from headwinds to tailwinds over the next couple of years. So if you step back, right, part of the lost earnings are for the Life business, so it was obviously tied to the assumption reset in 2022. Part of it was due to significant prepay income that we used to earn when interest rates were lower, part of it was reinsurance related. And so there's a number of those dynamics that were not -- when you look out the next couple of years, obviously, don't recover. Prepay income maybe a question mark depending on what happens with rates. But generally speaking, are not what we would expect.
However, there's a number of dynamics that ultimately do reverse. And so one example that we've highlighted just at a high level is our alternatives income. We had a great year for alts from a relative perspective and relative to markets. But at the end of the day, it was still below our long-term target. When we look out to 2024, we see that recovering. We also see the opportunity to be more efficient as it relates to expenses. I think the Life business is one of the examples when you think about some of the longer-term expense ratio dynamics that we've highlighted that we see opportunity there.
And then the last thing I would say is, we've spent some time over the past couple of quarters, making this point. We really haven't seen spread expansion in the Life business despite higher rates from the past couple of years. And the point that we've made is that we had a duration extension program in place, which as short rates went up became a headwind. And so as that program has run down, you would now expect to see spread expansion move through that portfolio.
And obviously, it's a big portfolio even after the transaction with Fortitude. So you put all that together -- on Page 10 of the outlook, we have a relatively high earnings CAGR expected over the next 3 years so it's obviously off of a very low base. So if you think about what the math is implied, when you look at the starting point and then the growth numbers, it gets you back to a number that is not where we used to be but certainly accounts for a number of the headwinds turning a little bit to tailwinds over the next 2 or 3 years.

Wilma Carter Jackson Burdis

And then just second question on Group. 13% to 16% annual CAGR is a pretty strong target. I know that this is a business that you guys have been trying to improve for a while now, probably even before you had some issues with Life. So maybe just talk about that and the confidence in that outlook there.

Christopher Michael Neczypor

Sure. Wilma. And really, this ties into the conversation we've been having all year around the change in strategy, the investments that we're making in the business and the recovery in the margins. So if you go back a couple of years, really even 1 year or 2 years, I mean, this was a business that for Lincoln generated a 1% margin, right? And so we're going to end the year over 5%. So significant work being done over the past 5, 6 quarters to begin to turn the business around, that's a 400-basis point increase in margins year-over-year.
And our peers are north of 10%. So part of that is mix, part of that is operational improvement. We have a lot of work to do to get back to a margin level that would be on par with some of our peers but the improvement is already there. You're seeing it year-over-year. And there's a lot of investment that's gone into the business. There's been significant action from a strategy perspective.
And so if you step back, the growth rates for Group over the next 2 or 3 years, basically get you to the target level that we've been saying that we're targeting and have already shown substantial progress. So I feel pretty good about the growth rates there. There are certainly more wood to chop, so we're not done. But the investment that's being made in the business and the success we've seen so far gives us some confidence there.

Ellen R. Gail Cooper

And Wilma, I'll add a little bit more as it relates to strategy and why we have confidence as well. So -- and to Chris' points, we're seeing everything as it relates to margin expansion improvement. And we're also seeing really strong top line growth as well. So we had year-over-year premiums increased by 5%. And what we are doing as we move forward and we highlighted this really as our strategic realignment as it relates to the Group business is, we have tailored our strategy going forward, our profitable growth strategy into 3 distinct business segments across small business, regional and national.
And just to give you a sense of why we have confidence here. So when we look, last year, for example, at sales, they grew in each of the business segments and the places where we are the most focused, which are the small market and also supplemental health. So small market sales increased by 15%. And in our regional and in our national where we already have large existing books, there what we're really looking to do, is to drive sales through existing customers. And so 42% of our sales were represented there. And supplemental health, which is a big strategy for us and also will drive some of the margin and earnings expansion that you see in the outlook. We had a more than 100% increase there in sales in 2023. So -- and then exactly, as Chris said, we're continuing to make all the investments that we need to really have a differentiated experience for customers and tailor the overall strategy at these various different employer levels.

Operator

We'll take our next question from Joel Hurwitz at Dowling Partners.

Joel Hurwitz

So you guys mentioned that the '23 free capital generation was close to $400 million. So it looks like the pace accelerated in the fourth quarter. Can you just talk about what drove the stronger Q4 capital generation?

Christopher Michael Neczypor

Sure, Joel. I would say it was tracking relatively close to what we've been seeing all year, maybe a little bit of an improvement as you had some tailwinds in the fourth quarter, markets were a little bit higher. And so I don't think there was anything game changing as it relates to Q4 relative to the first 2 or 3 quarters. We did have a couple of credit losses in the first quarter, which would have dragged it down if you're looking at it quarter-over-quarter. But generally speaking, I don't think there was anything materially different in fourth quarter other than what you had seen sort of your normal operating income, so market is a little bit higher and so forth.

Joel Hurwitz

Was there any dividend taken from LNBar again in the fourth quarter?

Christopher Michael Neczypor

There was not. We don't take dividends from LNBar every quarter and we took 1 in the third quarter. That being said, we obviously now have a year of the new VA hedge program and we feel really good about where we landed that at the end of the year.

Joel Hurwitz

Okay. And then just maybe expectations for LNBar dividends in '24 now that you're more comfortable with the hedge program?

Christopher Michael Neczypor

Yes. So what I would say is that we are increasingly comfortable but it's only been a year. And so we felt good at the third quarter of 2023 and we're able to take a dividend out. But if you think about overall in 2023, there was some volatility in markets but it was relatively supportive overall. Rates were probably the bigger driver overall of reserves and the hedge program. But generally speaking, it was a very supportive backdrop. So I don't want to get in front of how we're thinking about LNBar for 2024 and 2025. But I would say it should continue to improve, assuming that markets are supportive and we just want to watch and see. It's only been a year with the new hedge program and so we're just trying to be prudent.

Operator

We'll move next to John Barnidge at Piper Sandler.

John Bakewell Barnidge

Great. Lots of weighting of Group Protection distribution to fourth quarter and some good sales growth there. Can you maybe talk about the opportunities set for the products and product development pipeline for that business?

Ellen R. Gail Cooper

Sure. So in the Group Protection business and again, we are a $5-plus billion premium Group Protection business. And we really have historically been in the Group life and in the Group disability areas. And as we are looking to overall grow and I mentioned earlier the business segment specific strategy, we are also looking to further increase our overall voluntary business. And you actually can see that year-over-year that our employee contributions continued to increase year-over-year from '22 to '23. And additionally, the supplemental health overall benefits as well. And we've got 3 different products there that are very important to our customers and ultimately to their employees. And as I mentioned earlier, we saw a doubling there of the overall sales year-over-year and we expect that to continue.
The other thing that I will add is that I referenced earlier the small market segment. And what's important and different about the small market segment is that there were really tailoring holistic offerings there. Smaller employers, as you can imagine, are looking for a one-stop shop with overall bundled offerings. So part of what we're uniquely able to offer there is, yes, differentiated customer service and all the technology and the infrastructure that they need but also bundling the various different products together. And we believe that that's part of our value proposition as well.

John Bakewell Barnidge

A follow-up question. With the call out of use of affiliate reinsurance a number of times, how should we think also about third-party opportunities within that?

Christopher Michael Neczypor

Yes, John, I think what I would say is, as you would expect, we're looking at all options. Obviously, the affiliated reinsurance is distinct from, I think, the opportunity that you're describing. But rest assured, when we think about the next 2 or 3 years, we would have all the different strategic opportunities on the table.

Operator

And that concludes the question-and-answer session. For those left in the queue, we will follow up with you later this afternoon. I would like to turn the conference over to Tina Madon for closing remarks.

Tina Madon

Thanks, Audra, and thanks again to everyone on the call for joining us this morning. We're happy to take any follow-up questions you have. Please e-mail us at investorrelations@lfg.com. Thank you.

Operator

This concludes today's conference call. Thank you for your participation. You may now disconnect.