As ever, our customers remain our key priority. We help customers make plans for the future by reducing the risks they face. Whether they are saving for the family, protecting their health or managing their retirement, Prudential enables them to manage uncertainty. We also turn their capital into a source of stable investment in companies and countries across the world, driving economic growth and improving infrastructure. Changing the structure of our business will not reduce our commitment to delivering on these promises.
Our customer focus means actively engaging with the critical issues facing both our businesses and the wider world. In 2017, the Group published its first environmental, social and governance (ESG) report, demonstrating how we approach all our stakeholders, from our suppliers and employees to the wider communities in which we operate, with the same sense of responsibility and commitment that we apply to our customers, and how we engage with investors and regulators around the risks and impact of issues such as climate change. We will publish our next ESG report in May 2018.
Conclusion Prudential has announced a significant change that we believe will secure the future success of both M&G Prudential and our international business. This decision has been made from a position of strength, with a well balanced 2017 performance driven by every part of our business. The Board has confidence in the creation of two valuable businesses that will continue to deliver for our shareholders, customers and other stakeholders.
Group at a glance We meet the long-term savings and protection needs of a growing middle class and ageing population. We focus on three markets – Asia, the US and UK and Europe – where the need for our products is strong and growing and we use our capabilities, footprint and scale to meet that need. In recent years, we have expanded into Africa, taking advantage of the emerging demand for our products in the region.
Premier retirement income player 6.8x premium growth since 1995 market share of US variable annuities1 £3.5bn separate account net inflows £669bn total funds under management
2 The Cerulli Report Adviser Metrics 2017 and Jackson research. 3 ©2018 Morningstar, Inc. All Rights Reserved. The information contained herein: (1) is proprietary to Morningstar and/or its content providers; (2) is not warranted to be accurate, complete, or timely. Neither Morningstar nor its content providers are responsible for any damages or losses arising from any use of this information. Past performance is no guarantee of future results. Morningstar www.AnnuityIntel.com. Total Sales by Company & by Contract 3Q YTD 2017. Jackson ranks #1 out of 735 VA contracts with reported sales in the Independent Channel in 3Q YTD 2017.
Overall underlying free surplus generation decreased by 1 per cent on a constant exchange rate basis (increased 2 per cent on an actual exchange rate basis), reflecting a one‑off benefit in the prior year in our US business and higher restructuring costs within the Group, offsetting higher contributions in Asia and the UK and Europe.
4 Underlying free surplus generated comprises underlying free surplus generated from the Group’s long‑term business (net of investment in new business) and that generated from asset management operations. Further information is set out in note 11 of the EEV basis results. Free surplus generation represents ‘underlying free surplus’ based on operating movements, including the general insurance commission earned during the period and excludes market movement, foreign exchange, capital movements, shareholders’ other income and expenditure and centrally arising restructuring and Solvency II implementation costs. Further information is set out in note 11 of the EEV basis results.
10 LIMRA/Secure Retirement Institute, US Individual Annuity Participants Report 3Q YTD 2017.
— Announcement of merger of M&G and Prudential’s UK and European business
We offer a range of investment and saving propositions to different customer groups.
Our performance in 2017 was also supported by favourable equity markets, which lifted average investment balances on which we earn fees. During the year the S&P 500 index increased 19 per cent, the FTSE 100 index 8 per cent and the MSCI Asia excluding Japan index 39 per cent. Long‑term yields showed little movement in 2017 and therefore have had no material impact on 2017 performance versus 2016.
Tax charge attributable to shareholders' returns (906) (354) (156) (360) (152)
Tax strategy In May 2017 the Group published its tax strategy, which in addition to complying with the mandatory UK (Finance Act 2016) requirements, also included a number of additional disclosures, including a breakdown of revenues, profits and taxes for all jurisdictions where more than £5 million tax was paid. This disclosure was included as a way of demonstrating that our tax footprint (ie where we pay taxes) is consistent with our business footprint. An updated version of the tax strategy, including 2017 data, will be available on the Group’s website before 31 May 2018.
EEV operating profit includes new business profit from the Group’s life business, which increased by 12 per cent (up 17 per cent on an actual exchange rate basis) to £3,616 million. It also includes in‑force life business profit of £3,247 million, which was 20 per cent higher than prior year (up 25 per cent on an actual exchange rate basis), primarily reflecting the growth in our in‑force business. This is most evident in the profit from the unwind of the in‑force business, which was 10 per cent higher at £2,166 million (2016: £1,962 million). Experience and assumption changes were positive at £1,081 million (2016: £751 million), reflecting our ongoing focus on managing the in‑force book for value.
Risk governance, culture and our risk management cycle Prudential defines ‘risk’ as the uncertainty that we face in implementing our strategies and objectives successfully, which are outlined on page 10. This includes all internal or external events, acts or omissions that have the potential to threaten the success and survival of the Group. Accordingly, material risks will be retained selectively when we think there is value to do so, and where it is consistent with the Group’s risk appetite and philosophy towards risk‑taking.
Risk appetite, limits and triggers The extent to which we are willing to take risk in the pursuit of our business strategy and objective to create shareholder value is defined by a number of qualitative and quantitative expressions of risk appetite, operationalised through measures such as limits, triggers, thresholds and indicators. The Group Risk function is responsible for reviewing the scope and operation of these risk appetite measures at least annually to determine that they remain relevant. The Board approves all changes made to the Group’s aggregate risk appetite, and has delegated authority to the Group Risk Committee to approve changes to the system of limits, triggers and indicators.
Liquidity The objective is to ensure that the Group is able to generate sufficient cash resources to meet financial obligations as they fall due in business as usual and stressed scenarios. Risk appetite with respect to liquidity risk is measured using a Liquidity Coverage Ratio which considers the sources of liquidity against liquidity requirements under stress scenarios.
The Group Risk Committee is responsible for reviewing the risks inherent in the Group’s business plan and for providing the Board with input on the risk/reward trade‑offs implicit therein. This review is supported by the Group Risk function, which uses submissions from our local business units to calculate the Group’s aggregated position (allowing for diversification effects between local business units) relative to the aggregate risk limits.
Ri sk id en tif ica tion Risk measurem ent and assessm ent
Market risk Is the potential for reduced value of our investments resulting from the volatility of asset prices as driven by fluctuations in equity prices, interest rates, foreign exchange rates and property prices. Certain market risks are considered more material for specific business units.
M&G Prudential invests in a broad range of asset classes and its income is subject to the price volatility of global financial and currency markets.
Without an effective operational risk framework, such risks could cause significant disruption our systems and operations, resulting in financial loss and/or reputational damage. We consider operational risk to be material at the level of the Group.
Further risk information In reading the sections below, it is useful to understand that there are some risks that our policyholders assume by virtue of the nature of their products, and some risks that the Company and its shareholders assume. Examples of the latter include those risks arising from assets held directly by and for the Company or the risk that policyholder funds are exhausted. This report is focused mainly on risks to the shareholder, but will include those which arise indirectly through our policyholder exposures.
— An operational risk appetite framework that articulates the level of operational risk exposure the business is willing to tolerate and sets out escalation processes for breaches of appetite.
Global regulatory and political risk Our risk management and mitigation of regulatory and political risk includes the following: — Risk Assessment of the Business Plan which includes consideration of current strategies; — Close monitoring and assessment of our business environment and strategic risks; — The consideration of risk themes in strategic decisions; and
Our approach to ESG Our relationships with our customers are long term, so it is vital that our strategy and its execution ensure that we are a sustainable business. Our success in delivering for our customers and shareholders depends on effective engagement with our stakeholders. Our business model is set out on pages 12 to 13.
People At Prudential we encourage an inclusive working environment where we continually develop our talent, reward great performance and value our differences in order to deliver outstanding service and products for our customers, shareholders and communities. This is achieved through our continued focus on diversity and inclusion, talent development, performance and reward and health and safety.
— Anti Bribery and Corruption Policy, outlining the value we place on our reputation for ethical behaviour and for financial probity and reliability, our prohibition of corruption and the payment or receipt of bribes for any purpose and how we limit our exposure to this.
UK and Europe Growing customer demand for comprehensive financial solutions was at the heart of our announcement in August 2017 that we were combining our asset manager, M&G, and Prudential UK & Europe to form M&G Prudential, a leading savings and investments business. The combined business manages £351 billion of assets for more than six million customers, both in the UK and internationally, and will leverage its scale, financial strength and complementary product and distribution capabilities to enhance the development of capital‑light, customer‑focused solutions.
Managing our direct environmental impact Managing the climate‑related risks facing our business is crucial to creating long‑term value for our customers, shareholders and the communities of which we are part. As an occupier of approximately 400 properties worldwide, we recognise the importance of our own internal environmental targets and decarbonisation goals in reducing our direct footprint. In 2017, we decreased our absolute greenhouse gas (GHG) emissions (scope 1 and 2) from our occupied estate and company‑owned vehicles by 5 per cent to 70,723 tCO2e (2016: 74,315 tCO2e). This was driven by consolidation of our property portfolio and continued investment in energy efficiency initiatives through our mechanical and electrical life cycle replacement programmes to ensure that we occupy efficient buildings. When normalised against net lettable floor area, our GHG emissions efficiency metric improved by 2 per cent to 148 kgCO2e/m2 in 2017 (2016: 151 kgCO2e/m2).
Chairman’s introduction 82 Board of Directors 83 How we operate 88 Further information on Directors 98 Risk management and internal control 99 Committee reports 101 Statutory and regulatory disclosures 120 Additional information 121 Index to principal Directors’ report disclosures 122
www.prudential.co.uk Annual Report 2017 Prudential plc 83 01 G roup overview 02 Strategic report 03 G
Executive Directors Tony Wilkey stepped down as a member of the Board and as Chief Executive of Prudential Corporation Asia and Nic Nicandrou succeeded him in this position. Mark FitzPatrick was appointed to the Board to succeed Mr Nicandrou as Chief Financial Officer. The effective date for these changes was 17 July 2017.
Penny James stepped down from the Board and as Chief Risk Officer with effect from 30 September 2017. James Turner was appointed as an Executive Director and as Group Chief Risk Officer with effect from 1 March 2018. Pat Casey held the role of Group Chief Risk Officer on an interim basis until 1 March 2018.
Relevant skills and experience John spent over 20 years at Hill Samuel & Co, where he worked in every division of the bank, culminating in senior roles in risk, capital markets and treasury of the combined TSB and Hill Samuel Bank. Before joining Prudential, John spent three years as general manager, global capital markets at National Australia Bank.
Other appointments — International Insurance Society — American Council of Life Insurers
From 1993, she led teams of analysts specialising in property‑casualty insurance as a managing director at CIBS Oppenheimer, PaineWebber (now UBS) and Morgan Stanley. Alice was also an independent board member of the Cetera Financial Group.
Anthony joined the Board in June 2013 as a Non‑executive Director and member of the Remuneration Committee. He became Chair of the Remuneration Committee and a member of the Nomination & Governance Committee in May 2015.
Managing Board business — Responsible for setting the Board agenda, ensuring the right issues are brought to the Board’s attention through collaboration with the Group Chief Executive and the Group General Counsel and Company Secretary
— Facilitating open, honest and constructive debate among Directors. When chairing meetings, ensuring there is sufficient time to consider all topics, all views are heard and all Board members, and in particular Non‑executive Directors, have an opportunity to constructively challenge management
— Ensuring the Board is aware of the necessary resources to achieve the strategic plan
— Representing the Board externally at business, political and community level. Presenting the Group’s views and positions as determined by the Board
Key areas of focus – how the Board spent its time The Board held 10 meetings during 2017. In addition to those meetings set out in the table below, the Board held a separate three‑day strategy event in June. In addition to meetings, the Board receives monthly update reports from management.
— Company financial reporting overview on key Group issues including US GAAP differences, IFRS Insurance Performance Management, IFRS contracts and tax
A full description of all Board and role changes during 2017 are set out on page 83.
Continuing development of knowledge and skills During 2017, the Board and its Committees received a number of technical and business updates as part of their scheduled meetings, providing information on external developments relevant to the Group and on particular products or operations. Below is an overview of how Directors are kept up to date: — The Board holds an annual strategy session, which allows for detailed updates on each of the business units and deep dives on strategic direction and objectives for the Group; — The Board receives updates on brand and corporate responsibility activities, usually once a year; — The Board receives updates at each of its full Board meetings on corporate governance, political and regulatory developments, and the dynamics of equity and currency markets. In 2017, this included updates on the political environment, such as Brexit and tax reform in the USA. The Board also considered MiFID II, the General Data Protection Regulation, the Modern Slavery Act, and the review of the FRC’s UK Corporate Governance Code; — In December 2017, the Group ran a focused cyber training session for members of the Risk and Audit Committees, which was open to all Directors; — The Board reviews each business unit at least once a year and conducts periodic site visits as part of this. In 2017, the Board met in Jakarta, Indonesia and Craigforth, Scotland. Details of the activities undertaken on these visits are set out above; — The Board and the Risk Committee receive regular updates on market developments and key risks, including updates on Solvency II and cyber risk. The Risk Committee reviews top risks on an annual basis and deep dives into specific topics in response to the identification of key risks. This review covers the financial, operational and strategic risks, whilst also identifying and addressing business environment and insurance risks within the Group. The identification of such risks inform the risk reporting provided to the Committee and the Board; — The Audit Committee receives updates on developments affecting financial reporting and the role of audit committees generally. In 2017, this included updates on MiFID II, audit matters for consideration, and financial reporting disclosures as well as forward looking consideration for IFRS 17; and
As part of the Board’s effectiveness review, described in more detail on pages 93 and 94, the Committee was found to be operating effectively and given action points around developing its skills map and considering Committee membership, both of which are ongoing tasks.
An important part of the Committee’s duties is to monitor the relationship with the Group’s external and internal auditors. The Committee reviewed the activities of KPMG as external auditor and made a recommendation to the Board concerning their continuing appointment (subject to shareholder approval) which took into account a number of factors including independence and objectivity, the level of remuneration, effectiveness, and tenure. The Committee also approved non audit work that was considered appropriate and in line with the Group’s policy. During the year, KPMG scored highly in our effectiveness review which included feedback from senior finance personnel across all our business units. It remains the Committee’s current view that, without exceptional circumstances, change to auditors should not occur prior to the adoption of the new accounting standards on insurance contracts (IFRS 17). A plan to identify their successors to ensure a smooth transition has been developed.
The Committee also works closely with the Risk Committee to make sure both Committees are updated and aligned on matters of common interest. Where responsibilities are perceived to overlap between the two Committees, I work with Sir Howard to agree the most appropriate Committee to consider the matter. In December we held a joint informational session on cyber security, to which all Directors were invited.
In 2017, Deloitte performed an EQA of GwIA, which assessed that GwIA generally conforms with the Institute of Internal Audit (IIA) Standards and Code of Ethics (the highest rating under the IIA’s framework), and displays an overall level of adherence to the principles set out in the UK Chartered IIA Code. The assessment also considered GwIA’s purpose, position, processes and reporting in the context of Group’s wider systems of governance. In addition, to ensure GwIA skill sets and resourcing levels align to the approved audit plan, a skills and resource gap analysis was undertaken to highlight any resource shortfall or required change in available skill sets to support the delivery of the plan. The analysis concluded that resources were sufficient to execute the plan.
Having considered the findings of the EQA, and the 2017 internal effectiveness review, the Committee concluded that GwIA had continued to operate in compliance with the requirements of GwIA policies, procedures and practice standards in all material respects and had remained aligned to mandated objectives during 2017.
In respect of our principal risks, we continued to focus on those arising from the products we offer our customers, those inherent in our investment portfolios and the risks that arise from the operation of our businesses. We regularly reviewed the strength of our capital and liquidity positions, and the significant ongoing changes to the regulatory framework and environment. In addition, we closely monitored risks arising from the macroeconomic environment and the pace of regulatory developments across the globe.
The Financial Stability Board (FSB) announced on 21 November 2016 that the Group continues to be designated as a Global Systemically Important Insurer. In 2017, the Group was required to consider and approve updated deliverables associated with the designation. These included the Systemic Risk Management Plan, Recovery Plan and Liquidity Risk Management Plan.
Going concern In accordance with the requirements of the guidance issued by the Financial Reporting Council in September 2014 ‘Guidance on Risk Management, Internal Control and Related Financial and Business Reporting’, after making sufficient enquiries the Directors have a reasonable expectation that the Company and the Group have adequate resources to continue their operations for a period of at least 12 months from the date that the financial statements are approved. In support of this expectation, the Company’s business activities, together with the factors likely to affect its future development, successful performance and position in the current economic climate, are set out in the Strategic report on pages 10 to 80. The risks facing the Group’s capital and liquidity positions and their sensitivities are referred to in the Strategic report on pages 48 to 63 and note II(c) ‘Solvency Capital Position at 31 December 2017’ within Additional Unaudited Financial Information. The Group’s IFRS financial statements include the details of the Group’s borrowings in Note C6 on page 257, the market risk and liquidity analysis associated with the Group’s assets and liabilities can be found in Note C3.4(a) on pages 225 to 227, policyholder liability maturity profile by business units in Notes C4.1(b), (c) and (d) on pages 233, 235 to 237 respectively, cash flow details in the consolidated statement of cash flows and provisions and contingencies in Notes C11 and D2. The Directors therefore consider it appropriate to continue to adopt the going concern basis of accounting in preparing the financial statements for the year ended 31 December 2017.
Future developments of the business of the Company Group Chief Executive’s report 4 to 8
Post‑balance sheet events Note D3 of the Notes on the Group financial statements
The following sections were subject to audit: Table of 2017 and 2016 Executive Director total remuneration (the ’single figure’) and related notes, salary information table in section entitled Remuneration in respect of performance in 2017, Pension entitlements, Long-term incentives awarded in 2017, Chairman and Non-executive Director remuneration in 2017, Statement of Directors’ shareholdings, Outstanding share options, Recruitment arrangements and Payments to past Directors and payments for loss of office.
Anthony Nightingale, CMG SBS JP Chairman of the Remuneration Committee 14 March 2018
Above stretch target level A cash flow measure was used to determine 20 per cent of the Group financial bonus targets
Prudential Corporation Asia. 5 Anne Richards was appointed Chief Executive, M&G on 7 June 2016. The annualised 2016 salary above was paid in respect of her service as Chief Executive, M&G. 6 Tony Wilkey stepped down from the Board on 17 July 2017.
The Committee seeks advice from the Group Risk Committee on risk management considerations to be applied to remuneration architecture and performance measures to ensure risk management culture and conduct is appropriately reflected in the design and operation of Executive Directors’ remuneration.
— Delivered various customer experience enhancements including askPRU, an insurance chatbot with real time information, and roll‑out of myDNA, our DNA‑based health and nutrition programme that enables customers to take a more personalised approach to their wellbeing; — Launched PRU Fintegrate, an initiative that enables us to collaborate with fintech start‑ups; — Eastspring was chosen by IFC, part of the World Bank, as its first Asian partner in a programme that mobilises funds from institutional investors into projects in emerging markets; and
Remuneration in respect of performance periods ending in 2017 Long-term incentive plans with performance periods ending on 31 December 2017 Our long‑term incentive plans have stretching performance conditions that are aligned to the strategic priorities of the Group. In deciding the portion of the awards to be released, the Committee considered actual financial results against these performance targets. The Committee also reviewed underlying Company performance to ensure vesting levels were appropriate, including an assessment of whether results were achieved within the Group and business units’ risk framework and appetite. The Directors’ remuneration policy contains further details of the design of Prudential’s long‑term incentive plans.
Prudential Long Term Incentive Plan (PLTIP) In 2015, all Executive Directors were granted awards under the PLTIP. The awards were subject to challenging targets. The weightings of these measures are detailed in the table below.
Chairman and Non-executive Director remuneration in 2017 Chairman’s fees The Chairman’s fee was reviewed by the Committee during 2017 and increased by 2 per cent to £734,000 with effect from 1 July 2017 in order to reflect inflation.
Penny’s deferred bonus awards will be released in accordance with the plan rules and remain subject to malus and clawback provisions.
Other share awards The table below sets out Executive Directors’ deferred bonus share awards.
Total comprehensive income for the year – – 1,828 1,161 31 3,020 – 3,020
Deferred acquisition costs and other intangible assets C5(b) 11,011 10,807 Property, plant and equipment C13 789 743 Reinsurers' share of insurance contract liabilities C4.1(a)(iv) 9,673 10,051 Deferred tax assets C8.1 2,627 4,315 Current tax recoverable C8.2 613 440 Accrued investment income C1 2,676 3,153 Other debtors C1 2,963 3,019 Investment properties C14 16,497 14,646 Investment in joint ventures and associates accounted for using the equity method D6 1,416 1,273
Structural borrowings of shareholder‑financed operations 6,798 565 (751) (341) 9 6,280
Prudential plc (the Company) together with its subsidiaries (collectively, the Group or Prudential) is an international financial services group. The Group has operations in Asia, the US, UK and Europe and Africa. Prudential offers a wide range of retail financial products and services and asset management services throughout these territories. The retail financial products and services primarily include life insurance, pensions and annuities as well as collective investment schemes.
Asia insurance operations The policyholder liabilities for businesses in Asia are generally determined in accordance with methods prescribed by local GAAP adjusted to comply, where necessary, with the modified statutory basis. Refinements to the local reserving methodology are generally treated as changes in estimates, dependent on their nature. In some operations, Taiwan and India, US GAAP principles are applied.
For the purposes of local regulations, segregated accounts are established for linked business for which policyholder benefits are wholly or partly determined by reference to specific investments or to an investment‑related index.
To ensure that the methodology in extreme market movements produces future expected returns that are realistic, the mean reversion technique has a cap and floor feature whereby the projected returns in each of the next five years can be no more than 15 per cent per annum and no less than 0 per cent per annum (both gross of asset management fees and other charges to policyholders, but net of external fund management fees) in each year.
When adopted IFRS 9 replaces the existing IAS 39, ’Financial Instruments – Recognition and Measurement’, and will affect the following three areas: — The classification and the measurement of financial assets and liabilities Under IFRS 9, the classification of financial assets is redefined. Based on the business model in which the assets are held and their contractual cash flow characteristics (whether the cash flows represent ‘solely payments of principal and interest’), financial assets are classified into one of the following categories: amortised cost, fair value through other comprehensive income (FVOCI) and fair value through profit or loss (FVTPL). An option is also available at initial recognition to irrevocably designate a financial asset as at FVTPL if doing so eliminates or significantly reduces accounting mismatches.
IFRS 16, ‘Leases’ In January 2016, the IASB published IFRS 16 ‘Leases’ effective for periods beginning on or after 1 January 2019, with earlier adoption permitted if IFRS 15 ‘Revenue from Contracts with Customers’ has also been applied. The new standard brings most leases on‑balance sheet for lessees under a single model, eliminating the distinction between operating and finance leases. For lessee accounting, this has the effect of requiring most of the existing operating leases to be accounted for in a similar manner as finance leases under the existing IAS 17, ‘Leases’. The only optional exemptions are for short‑term leases and leases of low‑value assets. Lessor accounting however remains largely unchanged from IAS 17.
Amortisation of acquisition accounting adjustmentsnote (iv) (63) (76) (79) 17% 20% Profit (loss) attaching to disposal of businesses D1 162 (227) (244) n/a n/a Cumulative exchange gain on the sold Korea life business recycled from other comprehensive income D1 61 – – n/a n/a
Benefits and claims and movements in unallocated surplus of with‑profits funds, net of reinsurance (18,291) – – (18,291) (11,442)
Acquisition costs and other operating expenditure B2 (3,911) (249) 108 (4,052) (3,684) Disposal of Korea life business: D1
The costs of employment were: Business operations: Wages and salaries 1,774 1,483 Social security costs 129 110
(b) US insurance operations Changes in the policyholder liabilities held for variable and fixed index annuity guarantees are reported as part of non‑operating profit and are as described in note B1.2.
www.prudential.co.uk Annual Report 2017 Prudential plc 199 01 G roup overview 02 Strategic report 03 G
Movements in the current period included in: Tax charge attributable to shareholders (44) Other movements* (6)
Based on profit for the year 3,296 (906) (1) 2,389 93.1p 93.0p
Equity securities and portfolio holdings in unit trusts 29,976 130,630 62,670 115 – 223,391
Obligations under funding, securities lending and sale and repurchase agreements – 4,304 4,304 – – 4,304 3,534 Net asset value attributable to unit holders of consolidated unit trusts and similar funds – – – – – – –
Total financial investments, net of derivative liabilities 247,043 122,764 8,327 378,134 Investment contract liabilities without discretionary participation features held at fair value – (16,425) – (16,425) Net asset value attributable to unit holders of consolidated unit trusts and
Accruals, deferred income and other liabilities 14,185 10,088 469 68 85 106 320 3,267 14,403
Borrowings attributable to with‑profits funds C6.2 1,349 475 748 32 20 10 60 144 1,489
For the reasons provided above, an analysis of the Group’s assets by contractual maturity is not considered appropriate to evaluate the nature and extent of the Group’s liquidity risk.
Other collateral At 31 December 2017, the Group had pledged collateral of £3,412 million (2016: £3,384 million) in respect of other transactions. This principally arises from Jackson’s membership of the Federal Home Loan Bank of Indianapolis primarily for the purpose of participating in the bank’s collateralised loan advance programme with short‑term and long‑term funding facilities.
www.prudential.co.uk Annual Report 2017 Prudential plc 233 01 G roup overview 02 Strategic report 03 G
(ii) Duration of liabilities The table below shows the carrying value of policyholder liabilities and maturity profile of the cash flows on a discounted basis for 2017 and 2016: Fixed annuity and other business
The liability for Guaranteed Minimum Death Benefit (GMDB) is determined each period end by estimating the expected value of benefits in excess of the projected account balance and recognising the excess ratably over the life of the contract based on total expected assessments. At 31 December 2017, these liabilities were valued using a series of stochastic investment performance scenarios, a mean investment return of 7.4 per cent (2016: 7.4 per cent) net of external fund management fees, and assumptions for policyholder behaviour, mortality and expense that are similar to those used in amortising the capitalised acquisition costs.
Benefits that are payable at the end of a specified period (guaranteed minimum accumulation benefit).
For universal life and variable universal life a retrospective deposit method is used to determine the liability for policyholder benefits. This is then augmented by additional liabilities to account for no‑lapse guarantees, profits followed by losses, contract features such as persistency bonuses, and cost of interest rate guarantees.
Institutional products are: guaranteed investment contracts (GICs), funding agreements (including agreements issued in conjunction with Jackson’s participation in the US Federal Home Loan Bank programme) and Medium Term Note funding agreements. At 31 December 2017 institutional products accounted for 1 per cent of contract liabilities (2016: 1 per cent).
Regular bonuses are typically declared once a year, and once credited, are guaranteed in accordance with the terms of the particular product. Final bonuses rates are guaranteed only until the next bonus declaration.
The policyholder liabilities reported for the WPSF are primarily for two broad types of business. These are accumulating and conventional with‑profits contracts. The policyholder liabilities of the WPSF are accounted for in accordance with the requirements of FRS 27.
For with‑profits business a market consistent valuation is performed. Additional assumptions required are for persistency and the management actions under which the fund is managed. Assumptions used for a market‑consistent valuation typically do not contain margins, whereas those used for the valuation of other classes of business do.
Unlike traditional with‑profits contracts no regular or final bonuses are declared. Policyholder return is determined by an Expected Growth Rate (EGR) which is declared quarterly. A different EGR is applied for each of the different PruFund funds within the range, each relating to the individual asset mix of that fund. The relevant EGR is applied to increase the unit value of policyholder funds, calculated daily.
Surplus for distribution allocated as follows: – 90% policyholders' bonus (as shown above) 2,071 1,934
C6.3 Maturity analysis The following table sets out the remaining contractual maturity analysis of the Group’s borrowings as recognised in the statement of financial position: Shareholder-financed operations With-profits operations
i Sensitivity to risks other than foreign exchange risk Interest rate risk Excluding its with‑profits and unit‑linked businesses, the results of the Asia business are sensitive to the movements in interest rates.
Net effect on profit and shareholders' equity (471) (235) (382) (190)
www.prudential.co.uk Annual Report 2017 Prudential plc 265 01 G roup overview 02 Strategic report 03 G
C8.2 Current tax Of the £613 million (2016: £440 million) current tax recoverable, the majority is expected to be recovered in one year or less. The current tax recoverable includes £112 million in relation to the ongoing litigation relating to the historic tax treatment of dividends received from overseas portfolio investments of life insurance companies. The Prudential Assurance Company Limited (PAC) is the test case for this litigation. In April 2016, the UK Court of Appeal found in PAC’s favour on all substantive points in the litigation. HM Revenue & Customs’ appeal against the Court of Appeal’s judgment was heard by the Supreme Court in February 2018. A decision is expected later in 2018.
Consolidation adjustment against policyholder liabilities for investment in Prudential insurance policies – – (151) – (151) – – (134) – (134)
Risks to which the defined benefit schemes expose the Group Responsibility of making good of any deficit that may arise in the schemes lies with the employers of the schemes, which are subsidiaries of the Group. Accordingly, the pension schemes expose the Group to a number of risks and the most significant of which are interest rate and investment risk, inflation risk and mortality risk.
Less: amount attributable to PAC with‑profits fund (425) 10 (39) (19) (473)
Notes (i) Maturity profile of the benefit obligations The weighted average duration of the benefit obligations of the schemes is 18.6 years (2016: 19.5 years). The following table provides an expected maturity analysis of the undiscounted benefit obligations as at 31 December: All schemes £m 1 year or less
For Asia subsidiaries, the amounts retained within the companies are at levels that provide an appropriate level of capital strength in excess of the local regulatory minimum. For ring‑fenced with‑profits funds, the excess of assets over liabilities is retained with distribution tied to the shareholders’ share of bonuses through declaration of actuarially determined surplus. The businesses in Asia may, in general, remit dividends to UK parent entities, provided the statutory insurance fund meets the local regulatory solvency targets.
The Group has provided other guarantees and commitments to third‑parties entered into in the normal course of business but the Group does not consider that the amounts involved are significant.
At 31 December 2017, UK and Europe’s insurance operations had unfunded commitments of £3,225 million (2016: £2,269 million) to private equity and infrastructure funds. These commitments were entered into in the normal course of business and no material adverse impact on the operations is expected to arise.
During 2016, following its listing and consequent amendments to the shareholder agreement, the Group ceased to exercise joint control over the insurance business in India, therefore the investment was re‑classified as an associate, and continued to be accounted for using the equity method.
Eastspring Investments Berhad OS 100.00% 16th Floor, Wisma Sime Darby, Jalan Raja Laut, 50350 Kuala Lumpur, Malaysia
Eastspring Securities Investment Trust Co., Ltd. OS 99.54% 4th Floor, No.1 Songzhi Road, Taipei 110, Taiwan
Hyde Holdco 1 Limited OS 100.00% Laurence Pountney Hill, London, EC4R 0HH, UK
Infracapital (AIRI) GP Limited OS 100.00% 50 Lothian Road, Festival Square, Edinburgh, EH3 9WJ, UK
M&G Investments (Hong Kong) Limited OS 100.00% 6th Floor, Alexandra House, 18 Chater Road, Central, Hong Kong
M&G RED GP Limited OS 100.00% Dorey Court, Admiral Park, St. Peter Port, Guernsey, GY1 2HT
PPM America Capital Partners II, LLC MI 63.45% 874 Walker Road, Suite C, Dover, DE 19904, USA
PPM Capital (Holdings) Limited OS 100.00% Laurence Pountney Hill, London, EC4R 0HH, UK
Prudential Capital (Singapore) Pte. Ltd. OS 100.00% 10 Marina Boulevard, #32‑01, Marina Bay Financial Centre, Singapore 018983
Prudential Equity Release Mortgages Limited OS 100.00% Laurence Pountney Hill, London, EC4R 0HH, UK
Prudential International Assurance plc OS 100.00% Montague House, Adelaide Road, Dublin 2, D02 K039, Ireland
Prudential Investment (Luxembourg) 2 SARL OS 100.00% 34‑38, Avenue de la Liberté, L‑1930, Luxembourg
PT. Eastspring Investments Indonesia OS 99.95% 23rd Floor, Prudential Tower, JI. Jendral Sudirman Kav. 79, 12910, Jakarta Selatan, Indonesia
Randolph Street LP LPI 100.00% 2711 Centreville Road, Suite 400, Wilmington, DE 19808, USA
(d) Investment return Investment return included in the income statement principally comprises interest income, dividends, investment appreciation/ depreciation (realised and unrealised gains and losses) on investments designated as fair value through profit or loss, and realised gains and losses (including impairment losses) on items held at amortised cost and Jackson’s debt securities designated as available‑for‑sale. Movements in unrealised appreciation/depreciation of Jackson’s debt securities designated as available‑for‑sale are recorded in other comprehensive income. Interest income is recognised as it accrues, taking into account the effective yield on investments. Dividends on equity securities are recognised on the ex‑dividend date and rental income is recognised on an accrual basis.
For shareholder‑backed UK annuity business the derivatives are held to contribute to the matching as far as practical, of asset returns and duration with those of liabilities to policyholders. The carrying value of these liabilities is sensitive to the return on the matching financial assets including derivatives held.
(m) Goodwill Goodwill arising on acquisitions of subsidiaries and businesses is capitalised and carried on the Group statement of financial position as an intangible asset at initial value less any accumulated impairment losses. Goodwill impairment testing is conducted annually and when there is an indication of impairment. For the purposes of impairment testing, goodwill is allocated to cash generating units. For further details see note C5(a).
alue (EEV ) basis results 07 A dditional inform ation 4 Reconciliation from the FRS 101 parent company results to the IFRS Group results
The last completed triennial actuarial valuation of the Scheme was as at 5 April 2014, which was finalised in 2015. The triennial valuation for the Scheme as at 5 April 2017 is ongoing and expected to be finalised in the second quarter of 2018. Further details on the results of this valuation and the total employer contributions to the Scheme for the year are provided in note C9 of the Group financial statements, together with the key assumptions adopted, including mortality assumptions.
— The statement of financial position, statement of changes in equity, and the related notes, including the significant accounting policies in note 3 of the parent company financial statements.
For the UK component, the valuation of the policyholder liabilities in relation to the annuity business requires significant judgement over the setting of mortality, expenses and credit risk assumptions. This includes the use of complex modelling in order to determine the policyholder liabilities.
Control operation Our procedures included testing of the design, implementation and operating effectiveness of key controls over the valuation process including assessment and approval of the methods and assumptions adopted over the calculation of policyholder liabilities as well as appropriate access and change management controls over the actuarial models.
— Utilising the results of our industry benchmarking of assumptions and actuarial market practice to inform our challenge of assumptions in relation to policyholder behaviour, including the likely responses to projected changes in investment performance.
Tests of details We performed an inspection of files for loan securities on a sample basis by critically evaluating the performance of the loans and comparing this to the carrying value held. This included examining the existing and prospective investee company cash flows in order to assess whether the loans could be serviced or refinancing may be required, and to identify any potential impairment in relation to the loans.
DAC represents 2 per cent of the Group’s total assets. The DAC associated with the US component, which represents 89 per cent of the total DAC, involves the greatest judgement in terms of measurement and recoverability.
Corporate governance disclosures We are required to report to you if: — We have identified material inconsistencies between the knowledge we acquired during our financial statements audit and the Directors’ statement that they consider that the annual report and financial statements taken as a whole is fair, balanced and understandable and provides the information necessary for shareholders to assess the Group’s position and performance, business model and strategy; or
6 We have nothing to report in respect of the matters on which we are required to report by exception Under the Companies Act 2006 we are required to report to you if, in our opinion: — Adequate accounting records have not been kept by the parent company, or returns adequate for our audit have not been received from branches not visited by us; or
Analysed as profit (loss) from: Business in force 4 3,247 2,600
Note The movement in operating profit from business in force of £647 million from £2,600 million for 2016 to £3,247 million for 2017 comprises: £m
(v) The additional retained loss on an EEV basis for other operations represents the mark to market value adjustment for holding company net borrowings of a cumulative charge of £(682) million (2016: £(357) million), as shown in note 8.
www.prudential.co.uk Annual Report 2017 Prudential plc 341 01 G roup overview 02 Strategic report 03 G
(i) Underlying free surplus generated – insurance and asset management operations The 2016 comparative results are shown below on both actual exchange rates (AER) and constant exchange rates (CER) bases. The 2016 CER comparative results are translated at 2017 average exchange rates.
Net movement in free surplus 328 (490) 1,174 1,012 126 1,138 Balance at beginning of year 2,142 2,418 2,006 6,566 1,648 8,214
Notes (a) Free surplus invested in new business primarily represents acquisition costs and amounts set aside for required capital. (b) Non‑operating items include short‑term fluctuations in investment returns and the effect of changes in economic assumptions for long‑term business operations and the effect of business disposals. In addition, for 2017 this includes the impact of US tax reform. (c) Net cash flows to parent company for long‑term business operations reflect the flows as included in the holding company cash flow at transaction rates. (d) Exchange rate movements, timing differences and other items represent: 2017 £m
www.prudential.co.uk Annual Report 2017 Prudential plc 345 01 G roup overview 02 Strategic report 03 G
(v) Level of required capital In adopting the EEV Principles, Prudential has based required capital on its internal targets, subject to it being at least the local statutory minimum requirements.
For shareholder‑backed business, the following capital requirements for long‑term business operations apply: — Asia: the level of required capital has been set to an amount at least equal to the higher of local statutory requirements and the internal target. For China operations, the level of required capital as at 31 December 2017 follows the approach for embedded value reporting issued by the China Association of Actuaries (CAA), reflecting the C‑ROSS regime; — US: the level of required capital has been set at 250 per cent of the risk‑based capital (RBC) required by the National Association of Insurance Commissioners (NAIC) at the Company Action Level (CAL); and
Weighted average total: New business 6.7 6.8 In‑force business 6.5 6.5
Long‑term business operating profit based on longer‑term investment returns 1,503 2,052 799 4,354
— Margin on revenues has increased by £93 million on a constant exchange rate basis from £2,004 million in 2016 to £2,097 million in 2017, primarily reflecting growth of the in‑force book and higher regular premium income recognised in the year.
— Administration expenses including renewal commissions have increased by 11 per cent at a constant exchange rate basis (AER: 15 per cent increase) in 2017 as the business continues to expand. On a constant exchange rate basis, the administration expense ratio has decreased from 284 basis points in 2016 to 273 basis points in 2017, the result of changes in country and product mix.
Analysis of US operating profit drivers: — Spread income has decreased by 10 per cent at constant exchange rates (AER: decreased by 6 per cent) to £751 million during 2017. The reported spread margin decreased to 193 basis points from 217 basis points in 2016, due to lower yields in the investment portfolio. Spread income benefited from swap transactions previously entered into so that asset and liability duration can be more closely matched. Excluding this effect, the spread margin would have been 144 basis points (2016 CER: 152 basis points and AER: 153 basis points).
Analysis of pre-tax operating profit before and after acquisition costs and DAC adjustments 2016 CER £m note (iii)
Insurance margin 55 63 Margin on revenues 189 207 Expenses: DAC adjustments 4 (2)
Longevity reinsurance and other management actions to improve solvency 276 332 Changes in longevity assumption basis 204 – Provision for review of past annuity sales (225) (175)
(ii) In 2017, the IFRS operating profit based on longer‑term investment returns for Asia insurance operations included a net credit of £75 million (2016: £67 million) representing a small number of individually minor items.
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Closing shareholders’ funds (£ million) 16,087 14,666 Number of issued shares at year end (millions) 2,587 2,581 Shareholders’ funds per share (pence) 622 568
Non‑operating experience (including market movements) (0.6) (1.1) Other capital movements Subordinated debt issuance / redemption (0.2) 1.2 Foreign currency translation impacts (0.7) 1.6 Dividends paid (1.2) (1.3) Model changes (0.1) (0.3) Estimated Solvency II surplus at end of period 13.3 12.5
IFRS shareholders’ equity 16.1 14.7 Restate US insurance entities from IFRS onto local US statutory basis (3.0) (2.2) Remove DAC, goodwill and intangibles (4.0) (3.8) Add subordinated debt 5.8 6.3 Impact of risk margin (net of transitionals) (3.9) (3.4) Add value of shareholder transfers 5.3 4.0 Liability valuation differences 12.1 10.5 Increase in net deferred tax liabilities resulting from liability valuation differences above (1.6) (1.3)
IFRS unallocated surplus of UK with‑profits funds 13.5 11.7 Adjustments from IFRS basis to Solvency II
The undiscounted expected free surplus generation from all in‑force business at 31 December 2017 shown below can be reconciled to the amount that was expected to be generated as at 31 December 2016 as follows: Group £m £m £m £m £m £m Other £m Total £m 2016 expected free surplus generation for years 2017 to 2056 3,441 3,195 3,111 3,070 3,030 2,865 45,321 64,033
Add: Expected free surplus to be generated in year 2057* – – – – – – 540 540
All options were granted at £nil consideration. No options have been granted to substantial shareholders, suppliers of goods or services (excluding options granted to agents under the non‑employee savings‑related share option scheme) or in excess of the individual limit for the relevant scheme.
Operating earnings per share (in pence) 145.2p 131.3p 124.6p 95.7p 90.4p
Operating earnings per share (in pence) 257.0p 214.7p 189.6p 161.2p 165.8p
Closing EEV shareholders' funds (£ million) 9 44,698 38,968 Less: Goodwill attributable to shareholders (£ million) 9 (1,458) (1,475)
Risk factors continued action. The Common Framework (ComFrame) for the Supervision of Internationally Active Insurance Groups will more generally establish a set of common principles and standards designed to assist regulators in addressing risks that arise from insurance groups with operations in multiple jurisdictions.
Scottish Amicable Insurance Fund (SAIF) SAIF is a ring‑fenced sub‑fund of the Prudential Assurance Company’s long‑term fund following the acquisition of the mutually owned Scottish Amicable Life Assurance Society in 1997. The fund is solely for the benefit of policyholders of SAIF. Shareholders of Prudential plc have no interest in the profits of this fund although they are entitled to asset management fees on this business.
Annual General Meeting The 2018 Annual General Meeting (AGM) will be held in the Churchill Auditorium at The QEII Centre, Broad Sanctuary, Westminster, London SW1P 3EE on 17 May 2018 at 11.00am.