Christopher Neczypor
Executive Vice President and Chief Financial Officer at Lincoln National
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 three 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 two 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 two factors. First, there was an unfavorable non-economic impact within non-operating 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 claims 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 basis points 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've 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 3.5 times.
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 three areas of focus. First, as Ellen referred to, is more detail on our strategic priorities 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 three 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 strengthened 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 timeline as can be seen on Page 8. We felt it was important to show the timeline 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 were 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 three 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 two 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 multi-year 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.
