We have a balanced portfolio that benefits from diversification of distribution, products and geography. We continue to focus on managing the business to create value for shareholders and customers. We have delivered another strong performance from our international long-term savings businesses. Bancassurance goes from strength to strength, with total sales up 22%. The acquisition of RAC has created a powerful new force in insurance and motoring services. Commitment to new combined operating ratio target of 98% demonstrates our confidence in sustaining our excellent general insurance results.
Useful contact details Detailed below are various addresses that shareholders may find useful if they have a query in respect of their shareholding. Please quote Aviva plc, as well as the name and address in which the shares are held, in all correspondence.
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The Aviva brand is about life and vitality – helping our 30 million customers worldwide to make the most of their lives.
We are a progressive company with a 300-year heritage – one that creates better ways to understand and meet people’s needs. And it’s this insight – this ability to think beyond the immediate and the everyday – that makes us who we are.
This is what we call forward thinking. It’s at the heart of everything we do: the company’s business model, how we behave as employees, and how we treat our customers, partners and the communities in which we operate.
* On an EEV basis. **Present value of new business premiums plus investment sales. † From continuing operations.
Our credentials We aim to grow this business aggressively and profitably by building strong positions in our chosen markets. Aviva is one of the leading life and pensions providers in Europe, and we are developing businesses with strong long-term potential in Asia.
Our credentials A disciplined and efficient core operation, increased access to our customers, excellent service and innovative propositions are central to our general insurance business. We aim to deliver sustainable earnings from market-leading positions in personal insurance and selected commercial lines.
Market position Norwich Union Insurance is a leading general insurer in the UK, with a market share of 15%. We are the largest general insurer in Ireland and second-largest in Canada and have established businesses in France and the Netherlands.
Market developments The European Commission has described the state pension deficits in the European Union (EU) as its major structural economic challenge. Although the impact varies between member states, governments across the EU are increasingly focussed on strategies to address the consequences of an ageing population.
Share performance Our end of year share price rose to 705 pence (2004: 628 pence), an increase of 12% during 2005. When adding in dividends paid during 2005, this represents a total shareholder return of 21.2%* for the year. While this is a strong stand-alone performance, it is below average for our sector. It is always difficult to explain share price performance, but there is little doubt the share issue supporting the acquisition of RAC dampened our share performance during the first half of 2005.
Dividend I am pleased to announce that the board has recommended a final dividend of 17.44 pence per share, which brings the total dividend for the year to 27.27 pence. This represents an increase of 7.5% on the 2004 full year dividend and exceeds the group’s previous policy of seeking to grow the dividend by approximately 5% per annum.
Good governance and an understanding of the impacts of our international business operations are important aspects of the way we conduct business.
Additionally, we recognise the importance of our responsibilities to all of Aviva’s stakeholders. Consequently, we have introduced a corporate social responsibility committee to enable our pioneering work in this area to be recognised and regularly reported to the board. I am grateful to Wim Dik for chairing this committee.
Brand October 2005 saw the launch of our first pan-European advertising campaign to promote “Aviva: Forward thinking”. I firmly believe that Aviva is in the business of building better tomorrows, and is a progressive company in all that it does. This campaign seeks to communicate our “Forward thinking” message to key decision makers across Europe.
The Aviva brand earned further exposure during the year through sport. We are supporting yachtswoman Dee Caffari as she attempts to sail solo, non-stop around the world against the prevailing winds and currents in the Aviva Challenge.
We sponsored two major badminton tournaments in Asia, the Aviva-COFCO China Masters in Beijing and the Aviva Open in Singapore, and we continued our sponsorship of the Aviva Ballkids at the Australian Open tennis tournament. All these sponsorships generated a huge amount of interest around the world.
Recognition It is gratifying when our hard work is noticed and recognised. For the third consecutive year, Norwich Union Insurance was named general insurer of the year by Insurance Times. Commercial Union Poland was named life insurance company of the decade by Home & Market magazine, reflecting the consistently high quality of our products and services. Further success was achieved by Morley Fund Management, named as property manager of the year at the UK Pensions Awards, and by our French business Aviva Gestion d’Actifs, which once again secured a number of awards for fund management.
More than £700,000 was committed by Aviva to tsunami relief work in Asia, including over £200,000 given by staff. Part of this funding has been directed towards building schools and replacing fishing boats to help families in India rebuild their lives. This, and numerous other unheralded examples, illustrates the commitment of staff to making a positive difference to the communities in which we operate.
Growth in our international businesses During the year, we continued to grow our international long-term savings portfolio and it now generates over 60% of our worldwide gross new business contribution.
This sustainability, allied to confidence in our operating model, has allowed us to announce a worldwide Combined Operating Ratio (COR) target of 98% for the forseeable future.
Group results Our pre-tax operating profit* of £2,904 million (2004: £2,224 million) reflected another strong performance as most businesses reported increased profit. Our return on capital employed was 15%* (2004: 13.7%). Worldwide long-term savings new business sales were £24.6 billion (2004: £22.3 billion), reflecting strong international sales growth and continued success in the bancassurance channel.
Pre-tax life operating return on a European embedded value (EEV) basis was £1,814 million (2004: £1,611 million).
Our general insurance operating profit of £1,551 million (2004: £1,259 million) is another excellent result in a year were we have also acquired and integrated the RAC.
We have achieved a combined operating ratio** of 95% (2004: 97%), beating our target of 98%.
On an IFRS basis, the group operating profit before tax was £2,128 million (2004: £1,669 million). The group delivered an overall profit before tax attributable to shareholders of £2,528 million (2004: £1,642 million).
Capital and financial strength Shareholders’ funds† increased to £14.9 billion (2004: £11.7 billion) as a result of the strong operational performance and the impact of investment markets in 2005.
Net asset value per share* was up by 22% to 622 pence (2004: 511 pence).
The solvency position in our main trading operations remains robust. Excess capital measured according to the Insurance Groups Directive is £3.5 billion (2004: £3.6 billion). The orphan estate of our UK life businesses was £5.2 billion (2004: £4.6 billion), based on a realistic assumption of liabilities.
Reporting developments The 2005 financial statements are our first full set that have been produced using International Financial Reporting Standards. This is a change to the reporting and presentation of our results; however, it does not reflect a change to the underlying economics of our business.
In Europe, the Solvency II Directive will play a key part in setting out the future framework for the allocation of insurers’ capital.
The starkest messages were that young people are not sufficiently aware of the need to save and that there is a lack of trust in the savings industry. It was also clear that employers have a key role to play in encouraging savings in the workplace and that the current pensions system in the UK is seen as being too complex. In response, the ABI set out a five-point programme of action to address the main concerns. It is clear that many of the issues raised are equally applicable to our other markets, particularly in Europe. There is no single, simple solution and much remains to be done. However, I am determined that Aviva will play a full part in improving products and services, and restoring confidence in long-term savings.
Across Aviva, we recognise the importance of listening and responding to our customers. In addition to the ongoing work in our business units, we undertake an annual survey across many countries to track consumers’ changing needs and attitudes to savings. The findings provide valuable insights that underpin our strategic thinking and support new product development in our businesses.
Our international long-term savings operations continue to grow strongly, and we have a positive outlook on our competitive position in the UK. We continue to deliver sustainable profits from our general insurance businesses and are creating significant momentum in our asset management operations. Across all businesses, we have a track record of delivering on our commitments.
We continue to focus on managing our business for value, have laid strong foundations to achieve further growth with improving profitability, and continue to explore value-driven inorganic growth opportunities.
* On an EEV basis. **Combined operating ratio (COR) broadly expresses the total of claims costs, commissions and expenses as a percentage of premiums. † On an EEV basis, excluding preference shares, direct capital instrument and minority interests.
Generating growth in Ireland We have created a new bancassurance joint venture in Ireland between Hibernian and Allied Irish Banks. This partnership will bring further opportunities for growth in the Irish life and pensions market, where we have an ambition to be the leading player by 2010. The agreement creates a new channel for business that is complementary to Hibernian’s highly successful intermediary distribution network. It will provide exclusive access to Ireland’s largest retail bank, with more than 280 retail outlets and 1.6 million customers.
Our businesses in the mature markets of the UK, France and the Netherlands benefit from balanced product offerings and distribution channels. This benefit has been demonstrated by our robust performance in 2005. Increasing our presence in high-growth markets
We have won approval to sell life insurance products in a total of 9 Chinese cities. Aviva-COFCO is the first international insurer to open an office in some of these cities. China is an important long-term market for Aviva, and we are pleased to be able to continue our expansion.
New property funds Morley Fund Management has bolstered its focus on Europe with a commitment to growing and expanding its European property portfolio and expertise. Morley’s property team manages in excess of £22 billion of UK and European property assets, making us one of the largest property fund managers in Europe. We have been at the forefront of innovation in property fund management. We also teamed up with Barclays Capital, the investment banking arm of Barclays, to create the Woolwich Global Distribution Bond. The bond uses derivatives to generate higher income for customers than could normally be expected from a standard investment portfolio.
£1,814m £19.5bn * The present value of new premiums (PVNBP) is equal to total single premium sales received in the year plus the discounted value of annual premiums expected to be received over the term of new contracts, and is expressed at the point of sale.
**On an achieved profits basis. † On a European Embedded Value (EEV) basis. ‡ Single premiums, regular premiums and investment sales.
Our worldwide general insurance and health business reported an operating profit of £1,551 million (2004: £1,259 million),an increase of 22%, reflecting our sustained underwriting discipline, cost-cutting initiatives and innovative use of technology. New distribution channels
In the UK, we have signed a deal with Barclays to become its sole provider of homeowner, motor and travel insurance and extended our existing deal to be Asda’s sole provider of general insurance. Our online sales have increased by over 200%, making Norwich Union Direct one of the UK’s largest online insurance brands. In Canada, we extended our deal with Loblaws, the country’s largest supermarket chain, with product launches in Quebec and Alberta. In Ireland, our corporate partnership with Tesco moved from pilot stage into full roll-out.
Raising the bar on customer service Customer service is vital to the success of our business. In 2005, 92% of UK customers were satisfied with the sales service they received, and 83% with the handling of their claim. While these scores represent a significant achievement, we’re aiming higher in 2006 and are looking to set industry-leading standards. To achieve this we are implementing initiatives to understand, direct from customers, what they see as key elements of good service.
+5% Growth in net written premiums >200% Growth in online sales in the UK
Developing our Autograph™ proposition Aviva Canada is rolling out Autograph™, an innovative motor product that allows customers to take more control of the premiums they pay. Autograph™ was developed last year and is now offered through a select team of 12 brokers in Ontario. Its technology allows drivers to track their driving patterns and, if they choose, submit the data to Aviva for a discount on their premiums. Autograph™ offers customised insurance for the individual and we are confident that there will be a person in every household who can benefit from this unique programme. For example, mothers who are driving a second car with low mileage, or who have younger drivers living at home on their policy, are ideal candidates. The Ontario test will provide us with the information and feedback we need to develop a national rollout plan.
Promoting good CSR performance in others As a member of the global community, Aviva has a responsibility to encourage and influence the behaviour of others in the promotion of responsible business practice. We do this through our supplier management and investment activities. For example, our established socially responsible investment funds continue to grow and now have over £800 million in funds under management. Through our supplier management programme, over 75% of Aviva businesses worldwide now include CSR aspects in supplier tendering and review processes.
Climate change and Aviva’s response We are committed to reducing our own CO2 impact through, for example, increasing energy efficiency, reducing wastage and switching to renewable sources of electricity. In the UK, we use 100% zero emission electricity, while our businesses in Ireland and the Czech Republic also use renewable sources of electricity. We further seek to achieve positive influence on others through products such as Pay As You Drive™.
Our CSR policy embraces performance in respect of standards of business conduct, the environment, human rights and health and safety as well as the promotion of good and fair relations with our employees, our suppliers, our customers and the broader community. Looking after our customers
Our businesses are focused on looking after our customers. For example, Norwich Union Life has taken a market-leading approach to protecting policyholders’ interests. It is restructuring its pension strategy by writing all new pensions policies under a single scheme thereby enabling customers to move seamlessly between products and tailor their retirement planning to their own needs.
Further details of our CSR programme can be found on pages 42 to 44. Alternatively a printed summary copy of our annual CSR report is available from the group company secretary and the full report may be viewed on www.aviva.com/csr.
Recognition of our performance in 2005 Our performance in developing and managing our CSR programme has been recognised by a range of external parties. We are the only UK insurer included in both the Dow Jones Sustainability World and STOXX indexes. We are a member of the FTSE4Good Index Series and ranked 2nd among financial services companies, and 23rd out of the Fortune Global 100TM
Diversity Our diversity vision is, “Diversity is about everyone. We believe in a working culture that respects, celebrates and harnesses our differences to the benefit of customers, employees, shareholders, business partners and the wider community. Our competitive advantage depends on business teams that include people with different backgrounds, experiences and perspectives, who feel valued for the positive contribution they can make to Aviva’s success”. During 2005, we achieved the gold award for progress in providing an inclusive environment for women from Opportunity Now. We were one of only 12 FTSE 100 companies to be included in Stonewall’s Corporate Equality index, moving from 71st to 39th in the index during 2005, and achieved a bronze award for efforts in creating a racially inclusive workforce from Race for Opportunity.
Our worldwide workforce is made up of people from diverse cultural backgrounds. Developing a flexible and adaptable workforce is a key element in our determination to meet the changing needs of our business. Listening to our employees
In 2005, we introduced our first global employee opinion survey to enable us to compare and contrast employee engagement between businesses worldwide. Over 41,000 employees have now participated and the results will enable us to identify and share good practice across the group. 2006 will see the first complete coverage. Developing future leaders
Making a difference In Morley, a programme has been introduced to help non-investment employees to understand better, think proactively about and anticipate industry issues. In our corporate office, staff have a quarterly opportunity to nominate a colleague or a team who have exemplified one or more of the Aviva values. Providing the tools to help employees make a difference and measuring progress is very important. Financial reward schemes now recognise those employees who really make a positive difference to our customers’ experiences.
Leadership and care In Norwich Union Insurance (NUI), our “leadership and care” programme exemplifies the links we make between our customers and our employees. The programme continues to work towards the goal of maximising engagement and performance of all employees and putting the customer at the heart of decision making. In 2005, 82% of NUI employees considered themselves to be “passionate about delivering a great customer experiences”, up 8% on the beginning of 2004. This successful programme is being adopted by other business units worldwide.
Management also use a variety of Other Performance Indicators (OPIs) in both running and assessing the performance of individual business segments, rather than the group as a whole. OPIs include measures such as present value of new business premiums, new business margins, combined operating ratio and underwriting profit.
From 2006, non-financial performance indicators covering customer service and employee satisfaction will also be disclosed. We see both as being important to the ongoing success of our business. Additionally, performance against customer and employee measures will be incorporated into executive and senior management remuneration.
This business review contains “forward-looking statements” with respect to certain of Aviva’s plans and its current goals and expectations relating to its future financial condition, performance and results. By their nature, all forward-looking statements involve risk and uncertainty because they relate to future events that are beyond Aviva’s control. For example, certain insurance risk disclosures are dependent on our choices about assumptions and models, and by their nature are only estimates. As a result, actual future gains and losses could differ materially from those that have been estimated. Other factors that could cause actual results to differ materially from those estimated by the forward-looking statements include, but are not limited to: – UK domestic and global economic business conditions
– The timing and impact of acquisitions or business combinations in relevant industries
– Building profitable businesses in selected areas where we have, or can achieve, market leading positions
– Working closely with business partners to deliver efficient and effective distribution channels
– Attracting, motivating and retaining talented people who are committed to Aviva’s values and ambitions.
These strategies set out the overall high-level direction of the group. Individual business units subsequently select those strategic options that are relevant to their individual markets. Details of the strategies adopted by each of the business units, and the effectiveness of those strategies, are set out in the business segment performance reviews on pages 24 to 35.
In everything that we do, we are mindful of our brand values. They inform not only what we do, but the manner in which we do it. Our values are set out below: Progressiveness Being progressive is having a vision of the future, encouraging innovation and improvement, and championing continuous learning. It is about leading the industry by listening and responding to customers and keeping ahead of the competition.
Integrity Integrity is behaving in a way consistent with professional and ethical standards. It is being open, honest and keeping commitments, taking personal responsibility for what we say and do. It is about earning trust and respect through honesty and fairness.
Performance Performance-driven is having clear goals and achieving them by everyone working towards them in an efficient manner.
Long-term savings and fund management – Offering a superior range of long-term savings, investment and protection products in markets that offer significant opportunities for growth
Our previous target was to grow the dividend by 5% per annum whilst looking to sustain a target dividend cover in the range of 1.5 to 2.0 times operating earnings after tax on an IFRS basis. Our future intention is to increase the dividend on a basis judged prudent using a dividend cover in the 1.5 to 2.0 times range** as a guide, while retaining capital to support future business growth. Our dividend has grown by 7.5% during 2005 (2004: 5.0%). Dividend cover is 2.17 times (2004: 2.11 times).
In 2005, the group’s strategy was underpinned by focusing on a number of key financial performance measures. The key measures that are used to assess performance at a group level are set out below.
† Group EEV operating profit is calculated using long-term savings operating profit on an EEV basis before amortisation of goodwill. The group EEV operating profit in 2001 and 2002 incorporates long-term savings profit that is calculated on an achieved profits basis, and has not been restated. Group IFRS operating profit is calculated using long-term savings operating profit on an IFRS basis before amortisation of goodwill. The group IFRS operating profit in 2001, 2002 and 2003 incorporates long-term savings profit that is calculated on a modified statutory solvency basis, and general insurance and health business on a UK GAAP basis has not been restated.
£2,904m The group aims to achieve steady and sustainable growth in its operating profit, both on an EEV and IFRS basis. In seeking to achieve this growth Aviva continues to adopt strict financial management disciplines underpinned by strong corporate governance.
Our EEV operating profit grew by 29% to £2,904 million (2004: £2,224 million). On an IFRS basis, we achieved growth of 25% to £2,128 million (2004: £1,669 million), reflecting strong operation performance and strong equity market performance.
The operating results of our life, fund management and general insurance and health businesses are discussed in detail in the business segment performance reviews on pages 24 to 35. Other components of our operating profit are discussed below.
The result of our other operations on an IFRS basis improved to a loss of £8 million (2004: loss of £121 million). This improvement reflects the inclusion of the results of RAC non-insurance operations, including RAC Services and RAC Auto Windscreens of £30 million. Additionally, there were lower losses from NU Life services Ltd of £66 million (2004: loss of £80 million) and an improved performance from the non-insurance operations in the Netherlands, including the banking division result, of £39 million (2004: loss of £5 million). The 2005 result also includes a loss of £14 million relating to the development of the Lifetime platform, while in 2004, the results were depressed by a £40 million vacant property provision, which has not recurred.
On an EEV basis, operating profit for our other operations was £60 million (2004: loss of £41 million) as this excludes the majority of NU Life Services Ltd losses that are incorporated in the life EEV operating return.
Following the successful completion of our global finance transformation programme (GFTP) in the first half of the year, GFTP costs were £28 million (2004: £85 million), lowering our corporate costs to £136 million (2004: £188 million). Other corporate costs amounted to £108 million (2004: £103 million).
On an EEV basis, our profit before tax was substantially higher at £5,283 million (2004: £2,469 million). The increase includes positive investment return variances of £2,805 million (2004: £662 million) and the adverse impact of economic assumption changes of £406 million (2004: £318 million).
2005 saw a return to strong equity market performance, particularly during the second half of the year. In the UK, the FTSE All Share Index rose by 18% from the end of 2004 levels, in France the CAC 40 by 23% and in the Netherlands the AEX by 25%. The variance from the longer-term investment return reflects the higher than assumed overall equity returns during the year following these improvements in the equity markets, and increased market values of fixed income securities following the fall of 50 basis points and 40 basis points in UK and Eurozone bond yields, respectively.
Long-term economic assumption changes, which are set by reference to long-term bond yields, were revised downwards at 31 December 2005 and these lower assumptions have reduced the expected value of future profits from in-force life contracts, reducing profits by £406 million. The non-life short-term fluctuations of £517 million (2004: £161 million) are principally due to higher equity market returns compared to our longer-term investment return assumptions.
The tax charge for the period was £1,601 million (2004: £650 million) on an EEV basis and includes a charge of £927 million (2004: £618 million) in respect of operating profit. The tax charge equates to an effective rate of 31.9% (2004: 27.8%). On an IFRS basis, the effective tax rate on operating profit was 25.2% (2004: 19.1%).
The increase in our effective tax rate in 2005, reflects the combination of the non-recurrence of one-off items in 2004 that reduced the tax charge, offset by the release of current tax provisions following agreements reached with tax authorities on a number of issues around the group.
The directors are recommending a final dividend of 17.44 pence net per share (2004: 16.00 pence) which, together with the interim dividend of 9.83 pence per share (2004: 9.36 pence), produces a total dividend for the year of 27.27 pence per share (2004: 25.36 pence).
The total cost of dividends for 2005, including preference dividends and direct capital instrument appropriation, will amount to £598 million (2004: £553 million), leaving £1,123 million to be transferred to reserves (2004: £705 million).
The final dividend for 2005 will be paid on 17 May 2006 to all holders of ordinary shares on the Register of Members at the close of business on 10 March 2006. The company’s Scrip Dividend Scheme will be available to shareholders in respect of the payment of the final dividend. In addition, a local currency payment service will be available to shareholders residing in certain participating countries outside the UK. Further details of these arrangements can be found in the shareholder information on page 223.
Assets Acquired value of in-force business and intangible assets 803 516 803 516
Liabilities Gross liability for insurance and investment contracts 209,911 193,677 209,911 193,677
At 31 December 2005, our total assets were £263.4 billion (2004: £239.3 billion) on an IFRS basis. Under EEV principles, our total assets are £6,454 million (2004: £5,018 million) higher. The difference relates to the recognition as an asset under EEV of internallygenerated additional value of in-force long-term business. The growth in total assets was substantially through an increase of £16.0 billion in financial investments. This growth is related to strong new business sales and investment market performance and is mirrored by an increase of £16.2 billion in gross liabilities for insurance and investment contracts.
AVIF and intangible assets includes goodwill, which has increased by £1,090 million during 2005 primarily as a result of the acquisition of RAC. The growth in other assets is predominantly driven by a £2,489 million increase in loan balances.
Should this level of deficit funding be agreed, shareholders' funds will improve by approximately £120 million (pre-tax), and this will be accounted for in 2006.
We commenced regular deficit funding contributions in 2004 that amounted to £52 million during 2005. Given our strong capital and cash flow position, the board will propose to the pension scheme trustees that the group makes an additional deficit funding contribution to both the Norwich Union and RAC pension schemes of £700 million over the next two years. It is expected that 12% of the payments to the Norwich Union scheme will be made from the UK with-profit funds, and the remainder will be paid from the Group's internal resources. In anticipation that these proposals will be accepted, shareholders contributed an additional £160 million at the end of 2005.
Net cash from operating activities 1,365 1,044 2,409 1,855 Net cash from investing activities (736) (567) (1,303) (242) Net cash flow from financing activities 453 (570) (117) 1,458 Net increase in cash and cash equivalents 1,082 (93) 989 3,071 Cash and cash equivalents at 1 January 9,087 3,039 12,126 9,023 Effect of exchange rate changes (62) 14 (48) 32 Cash and cash equivalents at 31 December 10,107 2,960 13,067 12,126
Business review Business segment performance 24 Long-term savings and fund management 32 General insurance, health and related services
IFRS profit IFRS EEV New New before operating operating business business tax profit profit PVNBP* contribution margin £m £m £m £m £m %
We aim to be the leader in the UK long-term savings market, achieving profitable growth while maintaining our leading positions in our chosen sectors. We will achieve this objective by differentiating ourselves from our competitors, continuing to earn the trust of our customers, using a broad range of products and distribution partners to give a full service and further increasing our efficiency and effectiveness. In addition, we are committed to helping our people enjoy their work while maximising the value they create for the company.
In April, we launched a ”wrap” proposition through Lifetime, which enables financial advisers to manage all of a client’s portfolio. More than 100 firms and 800 advisers have signed up to this. The popularity of this product underlines the desire for innovation in the market and our view is that demand for wraps will be significant. Increased focus and awareness in the RBS retail branch network and upgrading our protection and investment products has resulted in improved bancassurance performance. We have also made significant progress in the collective investment sales market, which we see as a growth area.
We are committed to delivering excellent service to our customers and therefore a recent financial adviser service rating of 1 star is very disappointing. In 2005, we put in place a customer feedback programme that has given us regular insights into all aspects of our service and has enabled us to carefully target and track improvements. Customer service standards to policyholders have increased throughout 2005 and to financial advisers, standards have increased over the final quarter. Plans are in place for further improvement during 2006, with an emphasis on service to financial advisers. We have continued to develop our “process excellence” capability, which has reduced both end-to-end service times and costs. Our Indian operation continues to develop successfully. We have around 1,000 employees in India, covering a full range of processes. These activities have quickly achieved or exceeded the target performance levels based on UK standards. We are also seeing further benefits in cost, quality and operational flexibility.
Our total sales, including investment sales were up by 2% to £10,213 million (2004: £10,031 million). Our fourth quarter sales were the highest of the year, and reflected the actions taken in the second half to improve performance and volume growth in our key markets. We took strong and appropriate pricing actions to generate medium and long-term profitable growth.
Our new business contribution was £265 million (2004: £269 million) reflecting the change in product mix during the second half of 2005.
We shall continue to focus on profitable growth for shareholders, while maintaining market-leading positions in our chosen sectors. We constantly monitor market developments and will exploit opportunities as they arise.
Success through bancassurance Our distribution strategy is to offer choice and excellent service to customers through a mix of distribution channels. This includes bancassurance, in addition to other channels such as independent advisers, direct sales and partnerships with non-banking organisations.
Why distribute through banks? Banks typically have large customer bases, well-established and trusting relationships with their customers and well-known brands. Banks also have financial knowledge of their customers and are in a good position to identify financial needs and appropriate products, including insurance solutions. This leads to a cost effective form of distribution for insurance products.
During 2005, we have had continued success with limited-period savings offers. We had strong growth in unit-linked sales through AFER and achieved healthy growth in unit-linked sales across other distribution channels. The regulatory environment is entering a period of change, including tighter regulations surrounding the sales process and the “Fourgous” amendment, which will enable conversion from earlier generation euro funds to unit-linked funds without the loss of tax benefits. We have anticipated these changes and we are well placed to respond to customers wishing to convert. Greater use of intranet and extranet tools to communicate with the sales network has produced service improvements and cost savings. Additionally, efficient administration procedures supporting our Crédit du Nord partnership are being introduced to other distribution channels.
Our life EEV operating return rose to £321 million (2004: £286 million) including £33 million from our bancassurance partnership with Crédit du Nord (2004: £4 million). This performance primarily reflects the increased contribution from new business sales.
Delta Lloyd is a top-five financial services group based in the Netherlands, with operations in Belgium, Luxembourg and Germany, which is reported in Other Europe. We offer a comprehensive range of life and savings products in both the group and individual markets and have a multi-channel distribution strategy. We have a bancassurance joint venture with ABN AMRO, sell products directly to customers under our OHRA brand and via independent financial advisers under our Delta Lloyd brand.
Our vision is to be a trusted financial services provider by excelling in customer service, innovation efficiency and financial position and challenge for the number one position in the Dutch life market.
Our EEV operating return of £318 million (2004: £277 million) included favourable operating assumption changes and a higher contribution from new business. Our life and pension sales grew to £2,407 million (2004: £2,168 million) with a 9% increase in sales through the bancassurance joint venture with ABN AMRO to £543 million (2004: £493 million), in a market characterised by low investment returns. We generated a new business contribution of £88 million (2004: £80 million), reflecting strong sales with a steady new business margin of 3.7% (2004: 3.7%).
Aviva Italy is the seventh-largest life insurer, with a market share of 5.5% at the end of December 2005. We sell profit-sharing, unit-linked and structured investment bond products predominantly to individuals but we also sell group business. Our distribution is principally through our bancassurance partnerships and we have significant relationships with UniCredit Group, Banca delle Marche, Banche Popolari Unite and Banca Popolare Italiana. Our agent network and financial sales force currently trade under the Commercial Union brand but will re-brand as Aviva during 2006.
Our main goal is to increase profitability by strengthening our position in the life insurance market. To achieve our goal, we continue to work with our bancassurance partners and aim to increase customer penetration. We also seek to improve value for customers through product innovation, and to maintain a cost-efficient operation.
During 2005, our agreement to expand the number of Banche Popolari Unite branches in which our products are sold generated strong growth. In all, we introduced or improved 50 products during the year.
Our life EEV operating return increased to £96 million (2004: £79 million), reflecting the new business growth and the return on our additional investment in the BPU Group at the start of 2005. We outperformed the local market by achieving sales growth of 27% to £2,294 million (2004: £1,799 million), benefiting from product innovation and the extension of our bancassurance agreement with Banche Popolari Unite to a further 380 branches. New business contribution increased to £59 million (2004: £48 million) due to significantly higher sales, representing a new business margin of 2.6% (2004: £2.7%).
The long-term savings market has significant medium-term growth potential. The prospects for continuing growth in 2006 are good and we expect to increase our access to the UniCredit Group branch network.
Our other European operations are based in the Czech Republic, Germany, Hungary, Lithuania, Romania, Turkey and NUIL in Dublin. Our Turkish life and pensions business is ranked second and fourth in the life and pensions markets respectively. We have top-10 businesses in Lithuania, Hungary and Romania, and are ranked 12th in the Czech Republic.
We have opened a representative office in Moscow while we continue to evaluate opportunities in the Russian market.
We aim to become Poland’s market leader in long-term savings by improving new business sales while maintaining our in-force portfolio. Specifically, we intend to increase the size of our direct sales force while improving productivity, reposition our existing products and build a significant bancassurance distribution channel.
Our life EEV operating return increased to £128 million (2004: £93 million) due to increased experience profits and operating assumption changes including mortality profits of £23 million (2004: £6 million). Our new business sales grew, in local currency terms, by 4% to £285 million (2004: £241 million). New business contribution was £14 million (2004: £11 million), resulting in a margin of 4.9% (2004: 4.6%).
During 2006, we expect the Polish life market to continue the favourable trend shown in the latter part of 2005 and we are well placed to benefit from this development.
Hibernian is the third-largest life and pensions provider in Ireland, with a 10% market share. We provide a broad product range, with a strong emphasis on pension products. We distribute primarily through brokers but are seeking to develop sales through financial institutions.
We will have exclusive access to Ireland’s largest retail bank, with over 280 branches and 1.6 million customers. Additionally, the management of the investments of the current Ark Life policyholders, totalling a3.0 billion at 30 September 2004, will transfer to a wholly owned subsidiary of Morley Fund Management.
Our USA operation has adopted a niche-based strategy, based on retirement and estate planning with distribution through independent agents and banks. During 2005, six new products were launched, including two fixed-indexed annuities and a deferred annuity tailored for the bank channel. During 2006, we expect sales growth through our existing lines of business supported by the recent ratings upgrade to A+ from A.M. Best. We expect favourable demographic trends for the life industry in the USA.
Aviva Australia provides wealth management services through the Navigator platform, and life products. Both operations are ranked ninth in their respective markets. Growth will be achieved through expanding independent adviser distribution and will be supported by our recent alliances with key adviser groups and institutions. Aviva Australia was awarded the prestigious Money Management DEXX&R 2005 risk company of the year.
We aim to broaden and deepen business opportunities with DBS whilst developing the independent financial adviser and international financial solutions market.
In China, our joint venture, Aviva-COFCO, operates a multi-channel, multi-product strategy. We distribute individual products through direct sales force, agencies, brokers and bancassurance; and sell group business both directly and through intermediaries. We now have the fourth largest foreign joint venture (out of a total of 22), based on first year premiums. We seek to obtain “first mover” advantage in new cities wherever possible, supported by a centralised back office function. During 2005, Aviva-COFCO increased the total number of major cities where it is licensed to four, with sales offices in a further five cities. We have recently been granted permission to apply to open a branch in Jinan, the capital city of Shandong province, and are looking forward to the rapid development of this new market.
Overall, the life EEV operating return from our international businesses was £99 million (2004: £83 million). We generated life and pension sales growth of 21% to £1,260 million (2004: £1,024 million) with encouraging performances in Asia and the USA. Our new business contribution increased by 33% to £49 million (2004: £36 million) with a new business margin of 3.9% (2004: 3.4%), benefiting from improved business mix and volumes.
Continued economic growth in both China and India offers high potential returns in the longer term. New products, branches and sales offices will cater for the anticipated high growth rates.
On 1 February 2006, we acquired a 51% interest in Eagle Insurance Limited (Eagle), the third-largest insurer in Sri Lanka, for a cash sum of £15 million. At the same time, Eagle entered into a bancassurance agreement with National Development Bank Limited, Sri Lanka’s biggest development bank and Eagle’s other major shareholder.
IFRS EEV IFRS EEV profit before operating profit before operating tax profit tax profit £m £m £m £m
We aim to compete against the best in the areas of investment management and client service, with a focus on repeatable outperformance in our core areas of fixed income, pan-European equities, property and tactical asset allocation. We are also developing a small number of specialist asset classes. By increasing the level of specialist, higher-margin business and actively managing our cost base, we aim to deliver sustainable and profitable growth. Our strategy is primarily one of organic growth, while considering acquisitions where synergies and strategic alignment are compelling. Developing innovative products to meet the needs of our clients remains a priority. We continue to work actively with our distribution partners to identify such opportunities.
During 2005, we launched a number of new institutional and retail funds, sold under the Morley and Norwich Union brand names in the UK, and under the Aviva Funds brand name overseas. To meet high demand for new property-related investments, we launched a number of new funds, including the £800 million Airport Property Partnership (a joint initiative with BAA), the Central European Industrial Fund and the Central European Property Fund. Other fund launches included the Central European Long Short Fund and the Norwich Active Protector Fund, a fund that offers protection against adverse equity market movements. Together with Barclays Capital, we launched the Woolwich Global Distribution Bond, which uses derivatives to deliver higher income than could normally be expected from a standard investment portfolio.
Corporate social responsibility is integral to the way Morley runs its business. We are an acknowledged leader in socially responsible investment (SRI) and were named SRI provider of the year at the Global Pension Awards 2006. We continue to build on Morley's reputation as a responsible investor.
We are regulated by the FSA and maintain a constructive working relationship. We have responded to a number of consultation papers during 2005 and anticipate further engagement in 2006, particularly in respect of the Markets in Financial Instruments Directive.
In 2005, our new business wins included £2.8 billion of new funded external mandates from UK retail and institutional investors, £1.8 billion in property partnership vehicles and £1.0 billion through overseas operations.
Following the decision to outsource our fund administration to JPMorgan in 2004, all staff and systems have now transferred and the new platform and service are operating effectively. We will seek opportunities to develop this strategic relationship further. The joint venture in Ireland between Aviva and Allied Irish Banks will result in the transfer of the investment management of Ark Life's policyholder funds (a3 billion at 30 September 2005) to HIM in 2006.
Operating profit from Norwich Union's retail investment business amounted to £9 million (2004: £4 million), while our collective investment business with RBSG benefited from lower new business strain from sales of regular premium investment products to report a loss of £1 million (2004: loss of £6 million).
Aviva Gestion d’Actifs is widely recognised in the French market as a leading asset manager. At the end of December 2005, 94% of our managed funds were ranked in the top half for returns over five years. Our continued strong performance was recognised through a number of awards. For the second year running we were named best provider of an extended fund range over one, three and five years by La Tribune/Standard & Poor’s, and as the best performing insurer in the 2005 fund management awards by Le Revenu, a leading French investment magazine. Additionally, we were the only fund manager to win two group categories in the Lipper Fund Awards 2005.
Our other Europe and International fund management businesses consist primarily of Navigator, operating in Australia and Singapore, and small fund management operations in Poland and Canada.
In Singapore, Navigator is a fund supermarket that allows customers to buy and sell a range of mutual funds from different fund managers through one product wrapper. The business has grown substantially during 2005 through developing stronger relationships with key brokers and by increasing the number of funds offered.
Our other Europe and International businesses reported operating profits of £9 million (2004: £9 million). New business sales through Navigator grew 37% to £938 million (2004: £661 million). In this total, sales in Australia increased by 26% to £848 million (2004: £648 million), benefiting from continuing improvements in product offerings and customer service. Singapore reported significantly higher sales of £90 million (2004: £13 million) reflecting strong distribution relationships with key brokers and an increased fund choice.
Independent research undertaken by industry body Investment Property Databank shows, over the last three years, that Morley has enjoyed the highest rate of growth in property funds under management in the UK.
Our growing size has worked to our clients' advantage and has given us reach and the ability to deliver significant deals. The Airport Property Partnership, the £800 million joint venture with BAA that we announced in February 2005, is a good example.
NUI delivered an excellent set of results, with an operating profit of £970 million (2004: £788 million) and COR of 96% (2004: 97%). This performance reflects the success of our balanced portfolio, supported by our disciplined approach to underwriting and pricing, and focus on efficiency. We have achieved net written premium growth of 15% in our direct operation, including an increase of 200% in online sales. Weather costs in the period were broadly in line with long term averages (2004: £50 million benefit). We have delivered £268 million annualised savings in claims costs through effective supply chain management, an additional £40 million in the year. Our expense ratio (excluding the impact of RAC) improved to 10.5% (2004: 10.6%); including RAC the expense ratio was 10.9%.
The excellent performance in both RAC and our UK general insurance operation has enabled us to commit to a worldwide combined operating ratio (COR) target of 98% or below across the insurance cycle.
IFRS IFRS Combined profit operating operating Net written Underwriting before tax profit ratio* premium result £m £m % £m £m
Norwich Union Insurance (NUI) is the leading general insurer in the UK, with a market share of 15%. We underwrite a wide range of personal and small commercial risks, including personal motor, homeowner, commercial motor, commercial property and liability.
Our goal is to deliver consistent earnings. We adhere to a clear underwriting strategy, supported by our aim to achieve continuous improvement in the efficiency, effectiveness and simplicity of our processes and structures. We are investing to improve further the quality and breadth of our customer offering, and increase retention and cross-selling opportunities.
We are Canada’s second-largest general insurer, with an 8.9% market share. Around 80% of our business is written through brokers with the remainder split between groups, affinity schemes and corporate partners. At a time of stability and consolidation in the personal and commercial insurance market, we are experiencing exceptional retention rates (greater than 90%) and have achieved 4.1% growth in the number of policies written.
Our ambition is to increase progressively our market share in order to leverage economies of scale. To achieve this goal, we continue to expand our distribution channels. Our corporate partnership with Loblaws, under the President’s Choice brand, continues to play an important role in producing growth, with launches in Quebec and Alberta in 2005. We have also had considerable success developing our group insurance business, agreeing contracts with the Ontario Medical Association and the Public Services Association of Canada.
We continue to lead the market in developing innovative new products. Premiere Healthcare was launched in October to provide the best healthcare outcomes for our customers, through timely, effective and high quality healthcare services. The Autograph motor insurance product, providing pay-as-you-drive cover, has been successfully piloted. Significant investment in supply chain initiatives and development of our offshore operations in India will allow us to improve customer and broker satisfaction as well as leverage scale benefits.
Into 2006, we anticipate market growth in personal lines in terms of both volume and rating. Our market-leading position in Ontario will allow us to continue to grow sales of our motor insurance products particularly through our traders and corporate partnership businesses. In the commercial market, we will maintain our underwriting discipline to protect our business as rates continue to soften.
How are we doing with the integration? We will spend £130 million (£109 million to date) to achieve annualised cost savings of £130 million by 2008. Savings have been achieved by removing duplication, achieving operational efficiencies and through cost benefits arising from the purchasing power of the enlarged group. We have simplified the business model, applied the group’s financial disciplines and re-focused on profitable growth areas. To this end, we have created the following operational divisions: – RAC Rescue (incorporating the previous roadside business)
We have also commenced the disposal of non-core businesses including Hyundai Cars (UK) and Lex Vehicle Leasing.
We continue to focus on growing our personal and small commercial lines business. Efficient claims handling and continuous cost management remain core elements of our strategy.
The Irish general insurance market remains highly competitive, leading to a reduction in our net written premiums to £499 million (2004: £545 million). However, personal motor rates stabilised in the second half of the year. Our operating profit increased to £171 million (2004: £135 million) while the COR improved to 78% (2004: 87%). Our underwriting result increased to £116 million (2004: £82 million) reflecting our focus on disciplined underwriting, lower average claim costs and frequency. Weather-related claims were below long-term averages and benefited operating profit by £7 million (2004: neutral impact).
We expect to see a decline in market profitability until late in 2007 for personal business and until at least 2008 for small commercial business but we still anticipate good returns from the Irish market. Uncertainty regarding the Personal Injuries Assessment Board’s impact on the cost of settling claims continues. In addition, pressure continues from media and lobby groups to curb the current level of general insurance profits. However, the RAC acquisition gives us the opportunity to grow our revenues in this currently under developed market.
+22% Increase in worldwide operating profit >2million claims settled in the UK alone
During 2005, we reviewed our small commercial risks book, resulting in the repricing of some contracts and the cancellation of other higher-risk policies. Our pricing and selection of household risks has been upgraded to take account of exposure to flooding.
During November, we completed the disposal of our Asian general insurance businesses to Mitsui Sumitomo Insurance for a total of US$450 million (£256 million) in cash. These businesses comprised operations in Singapore, Malaysia (including our branch in Brunei), Thailand, Indonesia and Hong Kong. Additionally, we sold branch operations in Hong Kong, the Philippines, Marianas, Macau and Taiwan.
Our aim is to achieve profitable growth in the selected markets we operate in and contribute cash generation in support of our life businesses.
The operating profit from our other general insurance businesses was £87 million (2004: £73 million).
Business review Other corporate information 38 Group capital structure 39 Group capital strength and solvency 42 Corporate social responsibility 44 Employees 46 Financial reporting 47 Risk and risk management
In managing our capital, we seek to: – Match the profile of our assets and liabilities, taking into account the risks inherent in each business
– Maintain financial strength to support new business growth whilst still satisfying the requirements of policyholders, regulators and rating agencies
– Retain financial flexibility by maintaining strong liquidity, access to a range of capital markets and significant unutilised committed credit lines
– Manage exposures to movements in exchange rates by aligning the deployment of capital by currency with our capital requirements by currency.
We set target risk-adjusted rates of return for individual business units that are aligned to performance and incentive targets in order to focus management on the creation of value for shareholders.
Total capital employed 23,019 19,297 Financed by Equity shareholders’ funds and minority interests 16,356 12,821 Direct capital instrument 990 990 Preference shares 200 200 Subordinated debt 2,808 2,847 External debt 1,002 1,452 Net internal debt 1,663 987
We aim to maintain financial leverage and fixed charge cover ratios at a level consistent with our AA/Aa rating. Financial leverage, the ratio of the Group’s external senior and subordinated debt to EEV capital and reserves was 22% (2004: 31%). Fixed charge cover, which measures the extent to which external interest costs, including subordinated debt interest and preference dividends, are covered by EEV operating profit was 9.6 times (2004: 8.7 times).
Financing of group capital 1 Equity 2 Direct capital instrument 3 Debt
We measure our capital using a number of different bases which include measures that comply with the regulatory regime and measures that the directors consider appropriate for the management of the business. The measures which we use are: Accounting bases
We are required to report our results on an International Financial Reporting Standards basis. However, the directors consider that the European Embedded Value (EEV) methodology provides a more accurate and meaningful reflection of the value of the group’s life operations. Accordingly, we analyse and measure the net asset value and total capital employed for the group on an EEV basis.
We have developed a framework using ICA principles for identifying the risks that business units and the group as a whole are exposed to and quantifying their impact on economic capital. The ICA estimates the capital required to mitigate the risk of insolvency to a 99.5% confidence level over a one year time horizon against financial and non-financial tests.
Currently, our ICA uses a mixture of scenario based approaches and risk-based capital models. The Financial Services Authority (FSA) will use the results of our ICA process when discussing the target levels of capital it believes the UK regulated businesses should maintain. We have been discussing our ICA with the FSA over the past six months and we expect to conclude discussions shortly.
At 31 December the group as a whole had £23.0 billion (2004: £19.3 billion) of total capital employed in its trading operations, financed by a combination of equity shareholders’ funds, preference share capital, subordinated debt and borrowings.
Shareholders’ funds – EEV basis £17.5bn £14.0bn Total capital employed £23.0bn £19.3bn Net asset value per share 622p 511p
Shareholders’ funds have increased to £17.5 billion (2004: £14.0 billion), reflecting strong operational performance in the year and the capital raised as part of the acquisition of RAC in May. Accordingly, our net asset value per ordinary share, based on equity shareholders' funds, was higher at 622 pence per share.
The FSA introduced further changes to the valuation rules which applied during 2005. From 1 January 2005, our valuations of noninsurance subsidiaries were restated from market value to net asset value reducing IGD by £0.6 billion. Furthermore, the FSA introduced the rules for accounting for pension fund deficits under IAS with effect from April 2005. The impact of this is to reduce our excess solvency by £0.4 billion. The impact of these valuation changes has been offset by our strong solvency capital generation in the period which amounted to £1.5 billion while the acquisition of RAC reduced our excess regulatory capital by a further £0.8 billion. As previously announced, completion of the sale of our Asian general insurance in the period improved the IGD excess solvency by £0.2 billion. The revised FSA rules do not incorporate the full value of our pension fund deficit. Including the full value of the deficit would have the effect of reducing the IGD by £0.5 billion.
– Minimum capital requirements (i.e. level of solvency capital at which the local regulator is empowered to take action).
Having undertaken an assessment of the level of operational, demographic, market and currency risk of each of our life business, the required level of capital required for each business is quantified and expressed as a percentage of the EU minimum. The required capital across our businesses varies between 100% and 150% of the EU minimum. In the UK, the required capital for the annuity book is set at 150% of the EU minimum and the remainder of the non-participating portfolio has been set at 100% of the EU minimum. The weighted average level of required capital for the whole of our non-participating life business, expressed as a percentage of the EU minimum solvency margin is 128% (2004: 135%). This is a blended rate and is expected to change over time with changes in the product mix.
The required capital levels discussed above are used in the calculation of our embedded value to evaluate the cost of locked-in capital. At December 2005, the aggregate regulatory capital, based on the requirements of the EU minimum test, amounted to £3.9 billion (31 December 2004: £3.7 billion). As at this date, the actual net worth held in our long-term business was £7.2 billion (31 December 2004: £6.3 billion), which represents 183% (31 December 2004: 168%) of these minimum requirements.
The 2005 realistic results have been prepared in accordance with the Prudential Source Book for insurers. The results make allowance for all the liabilities of the with-profit funds, including provision for future bonuses, the fair value of guarantees, options and promises on a market consistent basis, the cost of shareholder transfers and tax associated with future bonuses. The calculations also make allowance for how the with-profit funds are expected to be run (eg investment policy) and how policyholders are expected to behave (eg persistency).
The equity backing ratios, including property, supporting with-profit asset shares are 72% in CGNU Life, 60% in CULAC and NUL&P. With-profit new business is mainly written through CGNU Life.
Regulated asset value (£bn) 1.0 8.7 9.7 Required minimum margin (£bn) 0.4 3.9 4.3 Excess solvency margin (£bn) 0.6 4.8 5.4
Regulated asset value (£bn) 1.0 8.8 9.8 Required minimum margin (£bn) 0.4 3.7 4.1 Excess solvency margin (£bn) 0.6 5.1 5.7
Successful interaction with customers is vital to the future development of our business. We comment here on progress with particular reference to three of our largest business units, representing our core business activities: our long-term savings, fund management and general insurance businesses in the UK.
Long-term savings 2005 saw Norwich Union create a three-year vision, which focuses on building the trust and confidence of our customers. Our aim is to provide a high level of trust, value and support to customers – listening to and understanding their needs, meeting our promises and treating them fairly.
We are committed to the Financial Services Authority’s (FSA) Treating Customers Fairly (TCF) initiative. A Customer committee, chaired at executive level, monitors adherence to the principles of TCF and our approach is to embed these principles across the company. We will be judged on our success in this area during regular visits undertaken by the FSA. We openly share data with the media and consumer groups regarding customer complaints on request.
Fund management Morley is committed to openness and dialogue with clients because it is important in enhancing client understanding, trust and confidence in our services. By way of example, in 2005 we introduced two new client communication tools for sharing information and developing client investment knowledge: the Trustee Tutor website which helps to enhance pension trustees’ industry knowledge and the Morley Client Informer, an on-line newsletter which gives clients up-to-date news about us. We also run regular training sessions for clients, including trustee training, aimed at enhancing trustees’ investment knowledge.
In deciding upon the CSR elements that should be included in our business review, we have worked with the FORGE group; a CSR focused UK industry body for the financial services sector. Following a rigorous process, we concluded that four CSR elements should be included, covering our performance in respect of Standards of Business Conduct, Customers, Environment and Employees. The latter is dealt with in a separate report on pages 44 and 45.
Our general guidance on Standards of Business Conduct has been reinforced by particular measures to take account of the challenge of financial crime. Each year this costs industry billions of pounds and we, like other companies, are not immune to its effects. To meet this challenge, we have implemented policies that meet the requirements of applicable legislation, regulatory guidance and industry best practice regarding fraud management, anti-money laundering and malpractice reporting.
We have also introduced a single financial crime network across the group, bringing together expertise on fraud and anti-money laundering. Significant progress has been made in raising awareness of, and understanding, financial crime risk around the group.
General insurance Norwich Union Insurance has embarked on a journey to be recognised by customers and non-customers as a great service provider. Since 2002, all employees have been engaged in a programme entitled “Leadership & Care”. This has created a culture where the customer is front of mind in all interactions. Consequently, blockages to services have been greatly reduced.
Our focus is now shifting to providing infrastructure below our people to support great customer experiences in a consistent and deliberate manner. Major programmes are underway to improve processes and technology, including e-enablement and operating platforms. We are also changing how we target, measure and reward our people to better reflect the customer service aspect.
In terms of our direct impacts on the environment, our total carbon dioxide emissions have reduced by 11.0% during 2005. This has been achieved by increasing energy efficiency, reducing wastage and securing a progressive move to purchasing 100% zero emission electricity for the UK. Our Irish business purchases 20% of zero emission electricity and this year, for the first time, so did our business in the Czech Republic.
Our business units regularly review their CSR performance and undertake an annual self-assessment. This assessment is subject to an external review, performed as part of the overall assurance of our summary CSR report. In 2005, this work was performed by Ernst & Young LLP.
Additionally, we duly respect the disclosure guidelines issued by the ABI. Governance of the programme is subject to both a regular schedule and continual review. The board is presented with plans and a progress report annually. CSR forms a segment in the induction programme for all new directors upon joining the board. In the past two years, the chairman has presented to the annual meeting of our CSR Review Group, which brings together representatives from corporate office, business units, partner non-governmental organisations and auditors. The meeting reviews performance, considers developments, exchanges ideas and initiatives and sets the programme for the year ahead. Quarterly reviews are also carried out by a CSR steering group; the group includes senior management from our principal businesses.
Aviva has a presence in over 25 countries across Europe, North America, Asia and Australia. In each location that we do business, our relationship with our employees is governed by our people strategy, our values and the group’s human resources policies. These policies relate to reward, management development and training, diversity, recruitment and health and safety.
– Enable the delivery of excellent customer service through our employees.
Talent management was a focus in 2005, and will remain so in 2006. We continue to build on embedded processes such as the Organisation and Development Review (ODR) complemented by the Aviva Leadership Academy. The ODR is our succession and development planning framework through which approximately 80% of our top 140 roles have internal succession cover. The Aviva Leadership Academy is a suite of development programmes with international business schools, focused on preparing current and emerging leaders for our business’s challenges.
Great customer service and operational efficiency are both central to our success. We care about the morale of our employees not just as a responsible employer, but also because we know that satisfied and engaged employees deliver a higher standard of service to our customers. Measurements of both customer and employee satisfaction will be part of the business measures used in the annual bonus awards for senior managers from 2006 onwards.
More than 4,300 people are now servicing Aviva general and life insurance customers in the UK and Canada from these facilities. By the end of 2007, approximately 7,800 people will be employed in these centres and, over a period of five to seven years, the majority will become employees of the Aviva Group.
We strive to ensure that access to employment, training and promotion is free from discrimination on the grounds of gender, sexual orientation, marital status, creed, colour, race, age, ethnic origin, union status, religion or disability. We are also constantly trying to anticipate the changing nature and needs of our workforce. Employee demographics are shifting, as are employees’ needs and expectations. For example, responding to the needs of an ageing population in the UK, work will take place to encourage older workers to remain with the organisation.
Additionally, acknowledging the difficulties our employees face in balancing their home and working lives has resulted in flexible working arrangements being implemented in over 65% of our business units, covering over 90% of our workforce.
Longer-term investment return The long-term nature of much of our operations means that shortterm realised and unrealised gains and losses on general insurance and health business are shown as an adjustment to operating profit. We focus instead on operating profit incorporating a longerterm investment return (LTIR). During 2005, we changed our LTIR methodology to align the equity and property rates used in the calculation with the rates used under EEV principles. We have also changed the LTIR calculation for fixed interest securities to include the amortisation of premiums or discounts arising on purchase, thereby producing an LTIR that is equivalent to the gross redemption yield. The change in LTIR methodology meant that the 2004 operating profit before tax was reduced by £97 million but there was no overall impact on the profit for the year or shareholders’ funds. Further details are contained in note 1 on pages 93 to 106.
The preparation of financial statements requires us to make estimates and assumptions that affect items reported in the consolidated income statement, balance sheet and the disclosure of contingent assets and liabilities. Estimates are based on management’s current knowledge, assumptions and predictions of future events and actions. However, actual results can always differ from estimates, possibly significantly. Items that are particularly susceptible to changes in estimates and assumptions include, but are not limited to, long-term insurance reserves, general insurance reserves and pension provisions.
We actively engage in the development of new accounting standards, via industry forums and working parties, reviewing and providing comment on proposals from the IASB.
We support the IASB’s efforts to develop a comprehensive global accounting standard for insurance and we are engaging with stakeholders in Europe and the US. We are aiming for a final standard that reflects the underlying economics of the business and provides relevant information for investors on value added capital adequacy and cash flow. Whilst the standard is under development we will continue to focus on EEV as the best measure of value added for long-term savings business.
International Financial Reporting Standards (IFRS) For the first time, our 2005 consolidated financial statements have been prepared under IFRS, rather than under UK GAAP. The change from UK GAAP to IFRS is driven by the European Union (EU) requiring all European listed companies to prepare consolidated financial statements using standards issued by the International Accounting Standards Board (IASB) and endorsed by the EU with effect from 1 January 2005. Where applicable, the financial statements have also been prepared in accordance with the revised Statement of Recommended Practice (SORP) on accounting for insurance business issued by the Association of British Insurers (ABI) in December 2005.
Following the successful completion of our IFRS conversion programme, we restated our 2004 results in accordance with IFRS and presented these to the market on 5 July 2005. The impact of IFRS on the 2004 results was to reduce statutory operating profit before tax by 5% to £1,766 million, increase statutory profit before tax by 10% to £1,642 million and reduce statutory shareholders’ funds by 3% to £8,083 million. Note 1 to the financial statements on pages 93 to 106 provides further detail on the financial reporting impact of adopting IFRS.
We continue to believe that: – IFRS represents a technical accounting change and does not represent a material change to the economics of our business
– IFRS will have no significant impact on our solvency calculations
We have established a number of policies dealing with the management of both financial and non-financial risks. The adoption of these policies throughout the group enables a broadly consistent approach to the management of risk at business unit level. Additionally, we operate a number of oversight committees that monitor aggregate risk data and take risk management decisions.
We also monitor specific risks on a regular basis through our risk monitoring framework. Business units are required to disclose all material risks along with information on the likelihood and severity of risks and mitigating actions taken or planned. The framework enables us to assess the overall risk exposure of the group, to develop a group-wide risk map identifying concentrations of risk and to define the risks that we are prepared to accept. The risk map is continually monitored and refreshed quarterly.
Life insurance risk Life insurance risk arises through our exposure to mortality, morbidity and experience factors such as persistency and unforeseen expenses.
We have exposure to the full range of life insurance risks, including a significant exposure to annuity business and the associated longevity risk. Longevity statistics are monitored in detail and the results are used to inform the reserving for, and pricing of, annuities. Inevitably, there remains uncertainty about future longevity that cannot be removed.
Group policies exist for underwriting, claims management, reinsurance and reserving and operate within the group risk-management framework. The General Insurance Risk committee has been established to oversee management of these risks.
Governance framework We have established a risk and financial management framework whose primary objective is to protect the group from events that hinder sustainable achievement of our objectives and financial performance, including failing to exploit opportunities. Additionally, we have an established governance framework, details of which are given in the Corporate Governance section on pages 57 to 61. The framework has three key elements: – Clear terms of reference for the board, its committees and the associated executive management committees
– A clear organisation structure with documented delegated authorities and responsibilities from the board to executive management committees and senior management
Regulatory impact on risks and risk assessments A significant proportion of our longer-term savings business involves insurance products where the majority of the risk is borne by the policyholder. Risks attributable to policyholders are prudently managed to satisfy the policyholders’ risk and reward objectives. In addition, our worldwide insurance operations are subject to numerous local regulatory requirements that help to inform the acceptable level of risk in each of the jurisdictions in which we operate.
On certain categories of long-term business, interest rate risk is reduced through close matching of assets and liabilities. On short-term business such as general insurance business, we require a close matching of assets and liabilities by duration to minimise this risk.
Foreign currency exchange risk We operate internationally, meaning we are exposed to foreign currency exchange risk arising from changes to the exchange rates of various currencies. Our financial results and competitiveness are also affected indirectly by the domestic currencies of our main competitors, principally sterling and euros. Over half of our premium income arises in currencies other than sterling and net assets are denominated in a variety of currencies.
We do not hedge foreign currency revenues as they are substantially retained locally to support the growth of our business and meet local and regulatory market requirements. Our foreign currency exchange policy requires that each of our subsidiaries maintain sufficient assets in the local currency to meet local currency liabilities. Therefore, capital held by business units should be able to support local activities regardless of foreign currency movements. However, such movements may affect the value of consolidated shareholders’ equity, which is expressed in sterling.
Mechanisms are in place in each of the business units to identify, quantify and manage accumulated exposures within the limits of our risk appetite. Reinsurance is used to assist in reducing the financial impact of a catastrophe and to reduce the volatility of earnings. Reinsurance purchases are reviewed annually at both business unit and group level to check that the levels of protection being purchased match developments in exposure. The basis of these reinsurance arrangements is underpinned by extensive financial modelling and actuarial analysis to optimise the cost and risk management benefits. Reinsurance arrangements are only placed with providers who meet our counterparty security standards.
Operational risk arises from inadequately controlled internal processes or systems, human error and from external events. This definition is intended to include all risks that we are exposed to, other than the financial risks described above and the strategic and group risks considered below. Operational risks include, for example, information technology, information security, human resources, project management, outsourcing, tax, legal, fraud and compliance.
In accordance with group-wide policies, line management in business units has primary responsibility for the effective identification, management, monitoring and reporting of operational risks to the business unit executive management team and to group. Business unit risk management and governance functions are responsible for implementing the group-wide risk management methodologies and frameworks to assist line management in this work. They also provide support and independent challenge on the completeness, accuracy and consistency of risk assessments and the adequacy of mitigating action plans. As a result, business unit executive management teams satisfy themselves that material risks that fall outside pre-set appetite levels are being mitigated and reported to an acceptable level.
More detail of the operational and financial risks we face and the frameworks, processes and controls in place to mitigate those risks are given in note 50 on pages 178 to 187. Note 50 also contains data on significant financial risks we face and the sensitivity of the result to those risks.
Property price risk We are subject to property price risk through fluctuations in the value of investment properties that we hold in a variety of locations worldwide. Property price risk is managed at business unit level and is subject to local regulations on asset admissibility and liquidity requirements.
Equity price risk We are subject to equity price risk due to changes in the market values of equity securities. The equity price risk is actively managed by the use of derivative instruments, including futures and options, to lessen anticipated unfavourable market movements. The Asset Liability Management committee actively monitors directly owned equities and material shareholdings in our strategic business partners. Business units model the performance of equities using stochastic models, in particular to understand the impact of equity performance on guarantees, options and bonus rates. We do not have material holdings of unquoted securities.
Derivatives risk We are subject to derivatives risk due to the use of derivative contracts for efficient investment management, risk hedging purposes or structuring specific retail-savings products. We have a derivatives policy that sets out the minimum standards for the use and approval of derivatives. The Derivatives committee exists to maintain and monitor an appropriate control environment, monitor exposures and approve any proposed derivative transactions that fall outside the control framework.
Governance 52 Board of directors 54 Directors’ report 57 Corporate governance 62 Audit committee report 64 Nomination committee report 65 Directors’ remuneration report 75 Independent auditors’ report
1. Richard Harvey FIA (55) Group chief executive Appointed to the board in May 2000 and became group chief executive in April 2001. Joined Norwich Union in 1992, holding senior positions in New Zealand and the UK before joining the Norwich Union board in 1995 and becoming group chief executive of Norwich Union in 1998. Former chairman of the Association of British Insurers.
2. Andrew Moss (47) Group finance director Appointed to the board in May 2004 upon joining the company. Previously director – finance, risk management and operations in Lloyd’s (insurance) and formerly held a number of senior management positions at HSBC plc (banking).
4. Patrick Snowball (55) Executive director Appointed to the board in March 2001. Joined the group in 1989, holding a number of senior positions before joining the board of Norwich Union in 1999. Currently responsible for the group’s United Kingdom businesses namely Norwich Union Insurance, Norwich Union Life and RAC. A member of the Financial Services Authority’s Practitioner Panel.
7. Wim Dik (67) Independent non-executive director Appointed to the board in December 1999, having served as chairman of Nuts Ohra, a Dutch insurer acquired by the group in 1999. Currently chairman of the supervisory board of Casema Holding B.V. (telecommunications) and Tele Atlas N.V. (information systems), a non-executive director of Unilever N.V. and Unilever plc (consumer) and of LogicaCMG plc (computer services). Former Minister for Foreign Trade in the Netherlands. A former chairman of Nederlandse Unilever Bedrijven B.V. (consumer) and former chairman and chief executive officer of KPN Royal Dutch Telecom (telecommunications). A former chairman of the supervisory board of Holland Casino (gaming) and a former member of the supervisory boards of TNT Post Group (mail services), Vos Logistics (transport) and ABN AMRO N.V. (banking).
8. Mary Francis CBE (57) Independent non-executive director Appointed to the board in October 2005. Currently a non-executive director of Centrica plc (utilities), St Modwen Properties plc (property development), a director of the Bank of England and Fund Distribution Limited. A member of the advisory board of the National Consumer Council and Governor of the Pensions Policy Institute. A former Director General of the Association of British Insurers and senior civil servant.
11. Derek Stevens (67) Independent non-executive director Appointed to the board in August 1995. Currently non-executive chairman of The Airline Group Limited (transport) and non-executive director of NATS Holdings Limited (transport). A member of the financial sector committee of the Accounting Standards Board, chairman of The Royal Academy of Arts Pension Scheme Board, a trustee of the Rothschild pension funds, a member of the Council of the Institute of Education at the University of London and chairman of The Travel Foundation (charity). A former director and chief financial officer of British Airways Plc (transport), a former finance director of TSB Group plc (banking) and a former chairman of the trustees of British Airways pension schemes.
Details of material acquisitions and disposals made by the Group during the year are contained on pages 106 to 111.
Results The Group results for the year are shown in the consolidated income statement on page 87.
Dividends The directors are recommending a final dividend of 17.44 pence per share (2004: 16.00 pence), which together with the interim dividend of 9.83 pence (2004: 9.36 pence), produces a total dividend for the year of 27.27 pence per share (2004: 25.36 pence). The total cost of ordinary dividends for 2005, will amount to £598 million (2004: £553 million), leaving £1,123 million to be transferred to reserves (2004: £705 million to reserves).
The final dividend for 2005 will be paid on 17 May 2006 to all holders of ordinary shares on the Register of Members at the close of business on 10 March 2006. The Company’s Scrip Dividend Scheme will be available to shareholders in respect of the payment of the final dividend. In addition, a local currency payment service will be available to shareholders residing in certain participating countries outside the UK. Further details of these arrangements can be found within the shareholder services on page 223.
Share capital At the Annual General Meeting, held on 26 April 2005, shareholders approved an increase in the Company’s authorised share capital from £950 million to £1.45 billion and a700 million by the creation of 500 million preference shares of £1 each and 700 million preference shares of a1 each.
Authority to purchase own shares At the Annual General Meeting held on 26 April 2005, shareholders renewed the Company’s authority to make market purchases of up to 228 million ordinary shares, up to 100 million 83⁄4% preference shares and up to 100 million 83⁄8% preference shares. This authority was not used during the year and at the forthcoming Annual General Meeting shareholders will be asked to renew these authorities for another year. Details are contained in the Notice of Meeting. The Company held no Treasury shares during the year.
Directors The following persons served as directors of the Company during the year: Guillermo de la Dehesa Wim Dik Mary Francis (appointed 1 October 2005) Richard Karl Goeltz Pehr Gyllenhammar (retired 31 December 2005) Richard Harvey Andrew Moss George Paul (retired 31 December 2005) Carole Piwnica Philip Scott Lord Sharman of Redlynch (appointed 14 January 2005) Derek Stevens Patrick Snowball Elizabeth Vallance (retired 31 December 2005) André Villeneuve Russell Walls
In accordance with the Company’s Articles of Association, directors appointed during the year by the Board are required to retire at the first Annual General Meeting following their appointment and stand for election by shareholders. On 14 January 2005 Lord Sharman was appointed as an independent non-executive director of the Company. He retired at the 2005 Annual General Meeting and was subsequently elected by the shareholders. On 1 October 2005, Mary Francis was appointed by the Board as an independent non-executive director. Mrs Francis will retire at the forthcoming Annual General Meeting and, being eligible, will offer herself for election by shareholders. Mrs Francis does not have a service contract with a Group company.
The Company’s Articles of Association require one-third of the directors to retire by rotation each year. At the forthcoming Annual General Meeting Richard Harvey, Carole Piwnica, Philip Scott and Patrick Snowball will retire and, being eligible, will offer themselves for re-election. Richard Harvey, Philip Scott and Patrick Snowball are executive directors and each has a service contract with a Group company, details of which can be found on page 69.
Pehr Gyllenhammar, the chairman of the Board since 1998, retired on 31 December 2005 and was succeeded as chairman by Lord Sharman on 1 January 2006. George Paul and Elizabeth Vallance, both independent non-executive directors, also retired from the Board on 31 December 2005 in line with the Company’s succession plans.
Directors’ interests and indemnity arrangements At no time during the year did any director hold a material interest in any contract of significance with the Company or any of its subsidiary undertakings other than a third party indemnity provision between each director and the Company and service contracts between each executive director and a Group company.
The Company has purchased and maintained throughout the year directors’ and officers’ liability insurance in respect of itself and its directors. The directors also have the benefit of the indemnity provision contained in the Company’s articles of association. The Company has executed deeds of indemnity for the benefit of each director of the Company, and each person who was a director of the Company during the year, in respect of liabilities which may attach to them in their capacity as directors of the Company or of associated companies. These provisions, which are qualifying third party indemnity provisions as defined by s.309B of the Companies Act 1985, were in force throughout the year and are currently in force.
Details of directors’ remuneration, service contracts and interests in the shares of the Company are set out in the Directors’ Remuneration Report on pages 65 to 74.
Substantial shareholdings The Company’s register of substantial shareholdings is maintained in accordance with the provisions of s. 211 of the Companies Act 1985. At 1 March 2006, the register showed that the holdings exceeding the 3% disclosure threshold were those of Barclays Plc which held 109,751,163 ordinary shares (4.57%) and Legal & General Group Plc which held 81,072,340 ordinary shares (3.38%) of the issued ordinary share capital of the Company.
Financial instruments Group companies use financial instruments to manage certain types of risks including those relating to credit, foreign currency exchange, cash flow, liquidity, interest rates, equity and property prices. Details of the objectives and management of these instruments are contained in the Business Review on pages 16 to 49 and an indication of the exposure of the Group companies to such risks is contained in note 51 to the accounts on page 188.
Political donations It is the Company’s policy not to make donations to political organisations or for political causes, and it does not intend to change this policy. Accordingly, no political donations were made in the United Kingdom or elsewhere during the year (2004: nil).
In summary, the Group’s commitment to communication and dialogue with employees continues. A strong emphasis is placed on the provision of news through a variety of media, including intranets (both a Group-wide intranet, Arena, and local business unit intranets), Aviva radio, which can be accessed via mobile phone or computer, and poster campaigns. Employees have opportunities to voice their opinions and ask questions through intranet sites and climate surveys. Face to face briefings and team meetings are actively encouraged and are held in all business units across the Group. During 2005 the Group’s businesses in the United Kingdom established employee consultative forums.
Employee practice Aviva Group companies are committed to providing equal opportunities to all employees, irrespective of their sex, sexual orientation, marital status, creed, colour, race, ethnic origin or disability. The commitment extends to recruitment and selection, training, career development, flexible working arrangements and promotion and performance appraisal. In the event of members of staff becoming disabled, every effort is made to ensure that their employment with the Group continues and to provide specialised training where this is appropriate.
The Combined Code on Corporate Governance The Combined Code on Corporate Governance sets out guidance in the form of principles and provisions on how companies should be directed and controlled to follow good governance practice. The Financial Services Authority requires companies listed in the United Kingdom to disclose, in relation to Section 1 of the Combined Code, how they have applied its principles and whether they have complied with its provisions throughout the accounting year. Where the provisions have not been complied with companies must provide an explanation.
It is the Board’s view that the Company has been fully compliant throughout the accounting period with the provisions set down in Section 1 of the Combined Code, save that as the Chairman would be retiring on 31 December 2005 no performance review of the Chairman was carried out during the year. This report sets out details of how the Company has applied the principles and complied with the provisions of the Combined Code during 2005.
The Board The Board of directors meets regularly to determine the Group’s strategic direction, to review its operating and financial performance, to oversee that it is adequately resourced and effectively controlled. The specific duties of the Board are clearly set out in terms of reference which address a wide range of corporate governance issues and list those items that are specifically reserved for decision by the Board. Matters requiring Board approval include: – Strategy and business plans; – Acquisitions, disposals and other transactions outside delegated limits; – Financial reporting and controls; – Capital structure; – Dividend policy; – Shareholder documentation; – The constitution of Board committees; – Key business policies including the remuneration policy.
Matters which are not specifically reserved to the Board and its committees under its terms of reference, or to shareholders in General Meeting, are delegated to the Group Chief Executive. The Board’s terms of reference also set out those matters which must be reported to the Board, such as significant litigation or material regulatory breaches, and cover how matters requiring consideration by the Board that arise between scheduled Board meetings are dealt with.
The Board and its committees operate in line with a work plan agreed prior to the start of each year. At Board meetings, directors receive regular reports on the Group’s financial position, risk management, regulatory compliance, key business operations and other material issues. Directors are fully briefed in advance of Board and committee meetings on all matters to be discussed.
The Group Company Secretary is responsible for following Board procedures and advising the Board, through the Chairman, on governance matters. All directors have access to his advice and services.
The Chairman and the non-executive directors met on two occasions in the absence of the executive directors during 2005 to discuss the executive directors’ performance and succession planning.
Against the above background the Board appointed two new independent non-executive directors in 2005, Lord Sharman of Redlynch in January and Mary Francis in October. The biographical details of these directors are set out on pages 52 and 53. Lord Sharman brought to the Board a strong financial background having spent his career at KPMG, becoming its international chairman, and has served on the boards of a number of listed companies in the United Kingdom and Europe. Lord Sharman was elected by shareholders at the Company’s 2005 Annual General Meeting and in August 2005, it was announced that he would succeed Pehr Gyllenhammar on 1 January 2006 as the chairman of the Board. Mary Francis has held a number of senior positions in HM Treasury and more recently served as the Director General of the Association of British Insurers until March 2005, during which time she gained a detailed knowledge of the insurance industry, its issues and regulation. Mrs Francis will retire and seek election by shareholders at the Company’s 2006 Annual General Meeting.
Carole Piwnica is an independent non-executive director who joined the Board in 2003. She is a non-executive vice-chairman of Tate & Lyle plc, practices law in the United States and Europe and is a member of the Company’s Audit, Remuneration and Corporate Social Responsibility committees.
All the directors being proposed for re-election have been subject to a formal performance evaluation and took part in a peer assessment review during 2005, other than Mary Francis who was not a director at the time.
The Chairman The respective roles of the Chairman and Group Chief Executive are set out in the Board’s terms of reference. The Chairman’s priority is the management of the Board and the Group Chief Executive’s priority is the management of the Company.
Board effectiveness The effectiveness of the Board is vital to the success of the Group. The Company undertakes an annual performance review to assess how well the Board, its committees and directors are performing. Directors complete a confidential questionnaire on the Board and committees’ processes, their effectiveness and areas where they may be improved. The process also includes a peer review in which directors assess their own and their fellow directors’ performance against set criteria, including the skills which they bring to the Company and the contribution they make. This process is complemented by separate meetings between each director and the Chairman. The Board discussed the feedback from the 2005 process when it met in October and a number of actions were agreed. The review was conducted by the Chairman with the assistance of the Group Company Secretary.
The performance of the Chairman is also reviewed annually using a peer review process. Directors are asked for their views on the Chairman’s performance against the key aspects of the role. At a subsequent Board meeting, the Chairman leaves the meeting whilst a summary of the views expressed by the directors is used as an introduction for discussion. This process is managed by the senior independent director who subsequently provides feedback to the Chairman. It has become the Board’s practice to undertake the Chairman’s review in December each year. However, because Pehr Gyllenhammar would be retiring from the Board at the end of December, no review was performed in 2005.
Training and development The Board believes strongly in the development of all its employees, including its directors and it is a requirement of directors’ appointments that they commit to continue their development. The form of this development is subject to each director’s requirements and the quality and relevance of the training available. During the year individual directors attended a number of external courses on issues ranging from an international directors’ forum to a seminar on pensions simplification. In addition, directors received two tailored training sessions outside of the formal Board meetings regarding international financial reporting standards and the assessment of the Group’s capital requirements. Further tailored training sessions have been built into the Board’s work plan for 2006. The Board made two site visits during the year to gain a closer understanding of the Group’s businesses.
During 2005 Lord Sharman and Mary Francis each completed detailed induction programmes. The initial programme, which was undertaken over a number of months, comprised 13 separate sessions, including discussions with key members of senior management, visits to the Group’s main operating businesses and meetings with the external auditor and one of the Company’s corporate brokers. Subsequently, both directors arranged follow-up sessions in areas where they felt that a deeper understanding would be beneficial.
Directors’ attendance The Company requires directors to attend all meetings of the Board and the committees on which they serve and to devote sufficient time to the Company in order to perform their duties. On occasions it may be necessary to call or rearrange meetings at short notice and it is recognised that in such circumstances it may be difficult for all directors, particularly those based overseas, to attend. The attendance of the directors at the Board and committee meetings held in 2005 was as follows: Board and Board committee attendance 2005 Audit Remuneration Nomination
Board committees The Board has established a number of standing committees to oversee and debate important issues of policy and oversight outside the main Board meetings. The Chairmen of each committee provide the Board with a summary of the key issues considered and the minutes of their meetings are circulated to the Board. The committees operate within defined terms of reference, copies of which are published on the Company’s website www.aviva.com or are available from the Group Company Secretary upon request. Board committees are authorised to engage the services of external advisers as they deem necessary, at the Company’s expense.
Membership of the Corporate Social Responsibility Committee comprises Wim Dik (chairman), Guillermo de la Dehesa, Richard Harvey, Carole Piwnica, Lord Sharman and Derek Stevens.
Risk identification, assessment and management The Group’s risk management and control framework is designed to support the identification, assessment, monitoring, management and control of risks that are significant to the achievement of the Group’s business objectives. The Group has a number of policies relating to the management and control of both financial and non financial risks. The adoption of these policies throughout the Group enables a broadly consistent approach to the management of risk at business unit level. Group policy owners are responsible for Group-wide aggregation and oversight of their specific risks. In addition, the Group operates a number of oversight committees that monitor aggregate risk data and take overall risk management decisions. In particular, the aggregation of financial risks, including the capital impact of non-financial risks are monitored by a Group Asset and Liability Committee, chaired by the Group Chief Executive.
Local business unit boards, audit committees and management also consider local risk reports in a similar way. Regular reports are supported by escalation procedures for new or deteriorating risks that are classified at the highest impact levels. In addition, all business unit heads and Group functional heads provide a certificate every six months to confirm compliance with the Group’s governance and risk management frameworks and the terms of their delegated authority. They must also specify any risk or control issues not already reported through the regular risk management processes.
Control procedures and monitoring systems The Group has a well-developed system of planning and monitoring, incorporating Board approval of a rolling three-year Group plan. Performance against the plan is subsequently monitored and reported to the Board each time it meets. This report also includes reports on risk, audit, compliance, solvency and liquidity. Performance is also reported through the half-yearly publication of Group results based on accounting policies that are applied consistently throughout the Group. Operational management reports frequently to the Executive Committee and the Board receives regular representations from the senior executives responsible for each principal business operation.
The Audit Committee, and going forward the Governance and Regulatory Committee, receives regular reports on control processes on behalf of the Board. In addition, the Audit Committee performs an annual review of the effectiveness of the internal audit function and the framework for the Group’s systems of internal control. Throughout 2005, the Audit Committee received quarterly reports from the Group Audit Director on issues arising, and updates on previously reported items.
Internal audit The Group’s internal audit function advises management on the effectiveness of internal control systems, the adequacy of these systems to manage business risk and to safeguard the Group’s assets and resources. Through the Group Audit Director, the internal audit function provides objective assurance on risk and control to the Audit Committee.
The effectiveness of the Group’s internal audit function is reviewed each year by the Audit Committee.
The Group has an ongoing programme of dialogue and meetings between the executive directors and institutional investors, fund managers and analysts. At these meetings, a wide range of relevant issues including strategy, performance, management and governance are discussed within the constraints of the information already made public.
The Company’s Investor Relations Department is dedicated to facilitating communication with institutional investors. The directors consider it important to understand the views of shareholders and in particular any issues which concern them. The Board receives reports on the issues which have been raised with management at the regular meetings held with the large investors. During the year the Chairman and the senior independent director held a meeting with the major institutional investors. In addition, the senior independent director is available to meet with major shareholders to discuss any areas of concern which cannot be resolved through normal channels of investor communication and arrangements can be made to meet the senior independent director through the Group Company Secretary.
Directors’ responsibilities The directors are required to prepare accounts for each accounting period that comply with the relevant provisions of the Companies Act 1985 and of the International Financial Reporting Standards (IFRS) as adopted by the European Union, and which present fairly the financial position, financial performance and cash flows of the Company and the Group at the end of the accounting period. A fair presentation of the financial statements in accordance with IFRS requires the directors to: – select suitable accounting policies and verify they are applied consistently in preparing the accounts, on a going concern basis unless it is inappropriate to presume that the Company and the Group will continue in business; – present information, including accounting policies, in a manner that provides relevant, reliable, comparable and understandable information; – provide additional disclosures when compliance with the specific requirements in IFRS is insufficient to enable users to understand the impact of particular transactions, other events and conditions on the Company and the Group’s financial position and financial performance; and
– state that the Company has complied with applicable IFRS, subject to any material departures disclosed and explained in the accounts.
Going concern After making enquiries, the directors have a reasonable expectation that the Company and the Group as a whole have adequate resources to continue in operational existence for the foreseeable future. For this reason, they continue to adopt the going concern basis in preparing the accounts.
The purpose of the Committee is to assist the Board in discharging its responsibilities for the integrity of the Company’s financial statements, the assessment of the effectiveness of the systems of internal control and monitoring the effectiveness of the internal and external auditors and the objectivity of the external auditor. The full terms of reference for the Committee can be found on the Company’s website www.aviva.com and are available from the Group Company Secretary.
There were no changes to the membership of the Committee during 2005. The Committee met on five occasions in 2005 and each member attended every meeting. The Group Company Secretary acts as the secretary to the Committee.
For the past three years a major programme has been in place to manage the transformation of the Group’s financial reporting framework and the Committee has received quarterly reports on the progress being made. In August 2005, the Committee agreed that with the successful introduction of the European Embedded Value as the basis for the supplementary reporting of the Group’s life assurance results and the publication of the Group’s 2005 interim results on an IFRS basis, the programme had achieved its major objectives. Accordingly, the programme was terminated and the remaining developments are being managed in business units as part of their normal operations.
Internal audit The Group’s internal audit function advises management on the effectiveness of internal control systems, the adequacy of these systems to manage business risk and to safeguard the Group’s assets and resources. Through the Group Audit Director, the internal audit function provides objective assurance on risk and control to the Committee. The plans and level of resources of the internal audit function are reviewed each year by the Committee. The Committee also undertakes an annual review of the effectiveness of the Group’s internal audit function against guidance criteria provided by the Institute of Chartered Accountants in England and Wales. This guidance recommends that an independent review of the internal audit function be performed at least every five years. Accordingly, the Committee’s 2006 review will be conducted by an independent third party.
External auditor Ernst & Young LLP was appointed auditor of the Company in 2001 having previously been the auditor of Norwich Union plc. The audit signing partner changed as part of a rotation process in 2002. Ernst & Young LLP audits the whole of the Group other than Delta Lloyd (the Group’s subsidiary operating in the Netherlands, Belgium, Luxembourg and Germany), which is audited by PricewaterhouseCoopers LLP (PwC) and part of the RAC group which remains audited by KPMG LLP. To fulfil its Group reporting responsibilities Ernst & Young LLP reviews the work of PwC and KPMG LLP in accordance with standard auditing practices.
The Group paid £10.0 million to Ernst & Young LLP for audit services in 2005, relating to the statutory audit and the audit of other regulatory and supplementary reporting (2004: £10.1 million). In addition the Group engaged Ernst & Young in relation to certain assurance work including verification of its Corporate Social Responsibility Report. The fees for other services which included advice on accounting and regulatory matters, restatement of supplementary reporting, reporting on internal controls, and corporate governance matters, and due diligence work were £3.1 million giving a total fee to Ernst & Young LLP of £13.1 million (2004: £14.9 million). Further details are provided in note 11 on page 124.
The purpose of the Committee is to assist the Board by conducting a rigorous and transparent process when making, or renewing appointments of directors to the Board. It also advises the Board on issues of directors’ independence. The full terms of reference for the Committee can be found on the Company’s website www.aviva.com and are available from the Group Company Secretary.
Pehr Gyllenhammar was a member of the Committee and its chairman throughout the year, until his retirement on 31 December 2005. Lord Sharman joined the Committee in January 2006. There were no other changes in the membership of the Committee during the year save that George Paul, as the senior independent director, joined and chaired the Committee for discussions relating to the succession of the Chairman. The Committee met on three occasions in 2005 and the members’ attendance record is set out on page 59. The Group Company Secretary acts as the secretary to the Committee
The Committee reviews the skills, experiences and independence of the directors and, as appropriate, identifies and assesses potential new directors. It also reviews those directors retiring by rotation in accordance with the Company’s articles of association with a view to making recommendations to the Board regarding their re-election.
As part of the planning process for the smooth replacement of current non-executive directors, including refreshing the skill set with a view to the future, the Committee identified a number of potential candidates. During the year the Board accepted the Committee’s recommendations that Lord Sharman and Mary Francis join the Board. In respect of Lord Sharman’s appointment the Committee engaged a search agency to help it identify suitable candidates and assist with the preparation of an interview list. Mrs Francis, due to her industry profile, was known to many members of the Board and therefore a search agency was not used in connection with this appointment.
The appointment of five new non-executive directors over the past two and a half years facilitated the retirement of George Paul and Elizabeth Vallance at the end of 2005 and supports the Board’s intention that Derek Stevens and André Villeneuve will retire at the end of 2006.
This report sets out the remuneration policy for the Company’s directors and senior executives, outlines the elements of their remuneration and discloses the amounts paid to the directors in 2005.
The Remuneration Committee comprises the following independent non-executive directors appointed by the Board: Richard Karl Goeltz (chairman) Mary Francis Carole Piwnica André Villeneuve
Mike Pemberton, the Group Human Resources Director, provided material assistance to the Committee during the year, advising on market trends, practices and appropriate levels of remuneration.
Under this broad policy, the Committee sets the content of the senior executives’ total remuneration by reference to a variety of factors, including market practices for companies of similar size, type and standing. It also considers the current prevailing operating conditions in both the Group and the financial services industry generally. Additionally, it considers the skills and management capabilities that the Group must have so that it can attain its strategic objectives, and the level of remuneration required to secure individuals with those skills.
It is the Company’s policy that an executive director’s total potential remuneration for a target performance would be positioned at broadly median levels, compared with similar target performance levels of the Company’s peers (its comparator group), whilst also acknowledging the size and complexity of the Company.
The Board’s philosophy is that the senior executives’ own interests should be aligned with those of the Company’s shareholders. It therefore believes that, whilst paying a competitive basic salary, a substantial proportion of the targeted total remuneration package should be closely linked to the performance of the business and delivered in the form of shares.
The remuneration policy is reviewed by the Committee on a regular basis to ensure that it remains appropriate within the market and for the achievement of its objectives. A major review was undertaken in 2004 which became effective in 2005. In respect of the share schemes the review included all aspects of their operation including the discretions exercised, levels of grant, performance criteria and vesting schedules. New share incentive plans arising from the review were put to, and approved by, shareholders at the Company’s 2005 Annual General Meeting. Full details of the review and the proposed changes were fully described in last year’s Directors’ Remuneration Report and therefore this report sets out the remuneration policy and packages which applied from the beginning of the 2005 financial year.
The Company’s articles of association provide that the total aggregate remuneration paid to directors will be determined by the Board within the limits set by shareholders. The current aggregate limit of £1.5 million was approved by shareholders at the Company’s 2005 Annual General Meeting. The fees paid to the non-executive directors are made under that authority. Executive directors are remunerated under their service contracts and receive no additional fee for serving as directors. As a consequence, the limit of £1.5 million relates to the fees paid to the Chairman and non-executive directors.
In recognition of the growing accountabilities, time commitments and the demand for independent non-executive directors, the level of fees paid in the market has increased over recent years. The Company last reviewed its directors’ fees in 2003 and to keep the fees competitive, a review was performed during the year. The review considered the level of fees paid to FTSE30 companies and the financial services sector and took into account international scope, regulatory oversight and the complexity of the business. As a result, the following changes were made from 1 April 2005: – The Board fee was increased from £42,000 pa to £50,000 pa; – Committee membership fees of £10,000 pa were introduced for membership of the Audit and Remuneration committees and £5,000 for membership of the Nomination Committee; – The fee paid to the Chairman of the Audit Committee was increased from £25,000 pa to £35,000 pa (inclusive of the £10,000 membership fee); and
– The fee paid to the Chairman of the Board was increased from £300,000 pa to £360,000 pa.
From 1 January 2006, the fee paid to the Chairman increased from £360,000 to £375,000 but the car allowance of £18,000 ceased from that date.
Annual bonuses Senior executives participate in a discretionary annual bonus plan that provides for the payment of an annual bonus. For executive directors the bonus for “Target” performance is 75% of basic salary and for achieving “Stretch” performance a payment of up to 150% could be awarded.
For 2006, employee morale and customer service measures have been included.
If an executive leaves service during the vesting period for reasons of ill-health or redundancy, the shares are released in full at the end of the vesting period. Upon retirement the shares are released in full at the date of retirement. If an executive resigns prior to the end of the year in which the shares are awarded all the shares would be forfeited. If resignation took place in the following year 50% of the shares would be forfeited with 25% being lost if resignation took effect in the third year. All the shares would be forfeited if a director was dismissed for cause during the vesting period.
The first performance condition compares the Total Shareholder Return (TSR) produced by the Company over a three-year period with the TSR of companies in a chosen comparator group. 50% of the award is subject to this measure. The achievement of median TSR performance in the comparator group triggers the vesting of 15% of the shares. This rises to 50% if the Company’s performance is in the top 20% of the group. The comparator group for this part of the plan comprises 15 European financial services companies (including Aviva) that trade similar products in similar geographic markets, namely, AEGON, Allianz, AXA, Fortis, Friends Provident, Generali, HBOS, ING, Legal & General, Lloyds TSB, Prudential, Royal Bank of Scotland, Royal & Sun Alliance and Zurich.
The second performance condition measures the Company’s Return on Capital Employed (ROCE) over a three-year period against a target return. 50% of the award is subject to this measure. ROCE is measured against the context of the Company’s three-year business plan, which takes into account the trading conditions and shareholder expectations at the time each award is made. At threshold performance 15% of the awards vest moving to 50% at higher levels of performance. For awards granted for the threeyear performance period commencing 1 January 2005 the Company’s ROCE over the period must exceed 33% for 15% of the shares to vest, with the full 50% vesting if the ROCE exceeds 39% over the three-year period.
The Committee believes that this combination is an appropriate way to incentivise executives because it takes into account both the comparative returns to shareholders and the Company’s actual performance.
The Committee decides whether, and to what extent, the performance conditions have been met. The rules of the plan require the Committee to request an independent consultant to determine the relevant TSR positions. The Committee requests that the Group’s external auditor expresses a formal opinion on the basis of the ROCE calculation used.
Dec 00 Dec 01 Dec 02 Dec 03 Dec 04 Dec 05
Aviva 5-year TSR performance against the FTSE 100 Index and the median of the comparator group
As a result from April 2006, executives will continue to accrue pension benefits on their current basis under the Scheme up to the lifetime allowance, the amount of which is determined by HMRC. From April 2006, the lifetime allowance will be £1.5 million, equating to an annual pension of c. £75,000 pa. The contribution of 5% paid by the executives will continue. Once the value of the executive’s pension benefits reaches the lifetime allowance, further accrual in the Scheme will cease and no pension will be provided in excess of this. However, the death in service benefit of four times a member’s salary will continue.
Long-term benefits In order to provide a long-term savings opportunity for those senior executives whose pensions benefits from the Aviva Staff Pension Scheme are restricted by the lifetime allowance, the Company will consider making discretionary contributions into a capital accumulation plan. The level of any contribution will vary depending upon seniority but will not exceed 50% of the executive’s basic salary. Executives leaving the Company, either by resignation or breach of contract, would forfeit any contribution for the year in which they left.
The benefits paid from the Scheme are subject to HM Revenue and Customs (HMRC) limits . An Unapproved Unfunded Retirement Benefit (UURB) exists in order to provide executives with the benefits promised to them by the Scheme, notwithstanding a limit relating to their level of earnings which, in some cases caps the amount of pension which can be paid from a tax approved scheme. Where this limit applies, the benefits that cannot be paid from the Scheme are provided from the UURB. Richard Harvey and Andrew Moss are both affected by this limit. At retirement, they will receive some of their pension benefits from the UURB.
Major changes to the legislation governing the provision of pensions in the UK (known as “pension simplification”) will come into effect from April 2006. In anticipation of the changes, and as part of an holistic review of senior executive remuneration, the Committee undertook a review of the pension provisions for its executives and how they relate to the total remuneration package. The review was set against a number of design principles which included: – The need to continue attracting and retaining top quality management; – Keeping the employee retention element that is built into an occupational pension scheme; – Future pension arrangements for senior executives were not to cost the Company more than its current arrangements; – The Company would not pay or compensate managers in respect of any increased tax liability arising from pensions simplification.
Guillermo de la Dehesa 30 May 2005 30 May 2008 Wim Dik 7 December 2005 7 December 2008 Mary Francis 1 October 2005 1 October 2008 Richard Goeltz 3 May 2004 3 May 2007 Carole Piwnica 8 May 2003 8 May 2006* Lord Sharman 14 January 2005 14 January 2008 Derek Stevens 31 May 2005 31 May 2006* André Villeneuve 31 May 2005 31 May 2006* Russell Walls 3 May 2004 3 May 2007 *Carole Piwnica, Derek Stevens and André Villeneuve will stand for re-election at the Company’s 2006 Annual General Meeting. However, it is the Board’s intention that, if re-elected, Derek Stevens and André Villeneuve will retire on or before 31 December 2006.
Notes 1. “Bonuses” include the value of shares granted under the free share part of the Aviva All-Employee Share Ownership Plan (maximum £3,000) and the total amounts earned in respect of the 2005 performance under the Annual Bonus Plan (i.e. including the amounts deferred and granted in the form of shares). The Annual Bonus Plan which was approved by shareholders in 2005, came into effect for the 2005 financial year replacing the Deferred Bonus Plan which operated in 2004. The disclosure of the awards made under these plans differs. Under the Deferred Bonus Plan participants were encouraged to defer their cash bonuses (35% of salary for “Target” performance) into shares by the Company providing matching shares on a 1 for 1 basis, thus effectively doubling the value of the bonus. The bonus awarded was disclosed in the table showing directors’ remuneration and the matching shares were disclosed in the table showing the share awards. Under the Annual Bonus Plan, a larger cash bonus is awarded (75% of salary at “Target” performance). Recipients are required to defer two thirds of their bonus into shares. However, under the Annual Bonus Plan, the deferred shares are not matched. As explained at the time the Annual Bonus Plan was introduced, at “Target” performance the Annual Bonus Plan would provide a bonus broadly 5% higher than that provided by the Deferred Bonus Plan when the value of the matching shares was taken into account. However, to encourage and incentivise outperformance the Annual Bonus Plan provides the potential to pay out significantly higher bonuses at Stretch level of outperformance. (see page 69 regarding the operation of the Annual Bonus Plan).
When calculating the level of bonus under the Annual Bonus Plan, 70% is based on financial measures and 30% is based on personal targets. The constitution of the financial measures varies between directors. For example, in respect of the Group Chief Executive and the Group Finance Director the performance measures used are those relating to the Group, whereas for the other executive directors bonuses are based partly on the Group’s performance and partly on the performance measures relating to the business units for which the directors have responsibility. Performance measures are reviewed in order to determine the financial bonuses for all the executive directors. For 2005, the performance measures for the Group included new business contribution, operating profit, combined operating ratio (COR), total expenses and the return on capital employed. Overall performance against these measures in 2005 was better than the targets set. In addition to the Group and business unit performance measures, the directors were set individual personal targets.
All the numbers disclosed include the tax charged on the benefits. No directors received an expense allowance during the year.
3. Non-executive directors. The benefit disclosed for Pehr Gyllenhammar refers to a car allowance. The fee for George Paul reflects his duties as deputy chairman, chairman of the Remuneration Committee and for acting as the senior independent director. The fee for Derek Stevens includes an additional amount for serving as the chairman of the Board’s Audit Committee and of the trustee of the Aviva Staff Pension Scheme. The fee for Guillermo de la Dehesa includes an amount for serving as the non-executive chairman of the Group’s operations in Spain. No non-executive director accrued retirement benefits during the year.
4. No compensation payment for loss of office was made to any director, or former director, during the year.
7. No executive director served on the board of an external company in a personal capacity during the year for which he was remunerated.
Pension benefits During the year, each of the executive directors accumulated pension benefits under the defined benefits section of the Aviva Staff Pension Scheme, the Group’s pension scheme for its United Kingdom employees. For Mr Harvey and Mr Moss, who are subject to the earnings cap, any benefits that cannot be provided through the Scheme are provided via an Unfunded Unapproved Retirement Benefit (UURB).
Executive directors’ defined benefit pension arrangements Richard Andrew Philip Patrick Harvey Moss Scott Snowball £’000 £’000 £’000 £’000
Employee contributions during the year3 35 24 23 22 Transfer value of accrued pension at 31 December 20044 6,900 53 3,715 2,702 Transfer value of accrued pension at 31 December 20054 7,681 166 4,357 3,465 Change in transfer value during the period less employee contributions4 746 89 619 741
No former directors received any increase in retirement benefits in excess of the amount to which they were entitled on the later of the date when the benefits first became payable or 31 March 1997.
Incentive plans Details of the directors who held executive office for any part of the financial year, and hold or held options to subscribe for ordinary shares of the Company or hold or held awards over shares in the Company, pursuant to the Company’s share-based incentive plans, are as follows: (a) Share options At Options Options Options At 1 January granted exercised lapsing 31 December Exercise 2005 during year during year during year 2005 price
The mid-market price of an ordinary share in the Company on 30 December 2005 ie the last business day of the year, was 705 pence, and the mid-market prices during the year ranged from 577.5 pence to 709.5 pence.
(b) Share awards Details of the performance conditions relating to these awards are set out in the notes below: At Awards Awards Awards At Market price Market price 1 January granted vesting lapsing 31 December at date awards at date awards 2005 during year during year during year 2005 granted vested Number Number Number Number Number p p Vesting date
The Aviva Long-Term Incentive Plan was approved by shareholders at the 2001 Annual General Meeting and awards were made on an annual basis up to and including 2004. Awards are subject to the attainment of performance conditions over a three-year performance period. The performance condition relating to the awards granted in March 2002 fell due for testing during the year. For any awards to vest under the TSR condition, the Company’s TSR, when compared with the TSR of a comparator group of European financial services companies would need to match at least median performance when 20% of the awards become exercisable. At upper decile performance, 70% of the awards would vest. Between median and upper decile the number of awards vesting is determined on a straight-line basis. For any awards to vest under the ROCE condition, the Company’s ROCE would have to exceed 24% in excess of RPI over the three-year performance period when 24% of the awards would vest, rising to 30% if the ROCE exceeded 30% over the same period. At the end of the performance period relating to the awards granted in 2002, the Company was ranked 10 out of the 20 companies in the comparator group and the ROCE was 26.2%. Accordingly, 23% of the awards vested based on the TSR part of the Plan and 17.2% of the awards vested under the ROCE condition. The 59.8% of the awards, which did not vest, lapsed.
The Aviva Long-Term Incentive Plan 2005 was approved by shareholders at the 2005 Annual General Meeting and is described on page 67. This “2005 Plan” replaced the Aviva Long-Term Incentive Plan described above.
Guillermo de la Dehesa 144 144 – – – – – – – – Wim Dik 200 200 – – – – – – – – Mary Francis* 1,000* 1,000 – – – – – – – – Richard Goeltz – 2,500 – – – – – – – – Pehr Gyllenhammar 28,378 29,539 – – – – – – – –
Lord Sharman* –* – – – – – – – – –
Derek Stevens 2,032 2,989 – – – – – – – – Elizabeth Vallance 830 830 – – – – – – – – André Villeneuve 640 640 – – – – – – – – Russell Walls 1,500 1,500 – – – – – – – –
*At appointment – Lord Sharman (14 January 2005); Mary Francis (1 October 2005).
Notes 1. “Shares” are the directors’ beneficial holdings in the ordinary shares of the Company and in respect of the executive directors include shares held in trust under the Company’s All Employee Share Ownership Plan (AESOP) being shares purchased by them under the partnership element and shares granted under the free share element of the AESOP. Executive directors are required to build and maintain a beneficial interest in the Company’s shares equal in value to 1.5 times their annual salary (1.75 times annual salary in the case of the Group Chief Executive). The requirement was introduced as part of the revised remuneration arrangements from 2005; the holding must be attained within five years.
2. ”Bonus Plan Awards” relates to entitlements to shares arising through the current, or former, Aviva Bonus Plans. Under these plans some of the earned bonuses are paid in the form of shares and deferred for three years. The transfer of the shares to the director at the end of the period is not subject to the attainment of performance conditions but a proportion of the shares can be forfeited if the executive leaves service before the end of the period.
4. “Options” are options over shares granted under the Save As You Earn share scheme.
The following changes to directors’ interests during the period 1 January 2005 to 1 March 2006 have been reported to the Company. The changes in interests relate to shares acquired each month under the partnership element of the AESOP: Number of shares
Respective responsibilities of directors and auditors The directors are responsible for preparing the Annual Report, the Directors’ Remuneration Report and the financial statements in accordance with applicable United Kingdom law and International Financial Reporting Standards (IFRSs) as adopted by the European Union as set out in the Statement of Directors’ Responsibilities.
We review whether the Corporate Governance Statement reflects the company’s compliance with the nine provisions of the 2003 FRC Combined Code specified for our review by the Listing Rules of the Financial Services Authority, and we report if it does not. We are not required to consider whether the board’s statements on internal control cover all risks and controls, or form an opinion on the effectiveness of the group’s corporate governance procedures or its risk and control procedures.
Opinion In our opinion: – The financial statements give a true and fair view, in accordance with IFRSs as adopted by the European Union, of the state of the group’s and the parent company’s affairs as at 31 December 2005 and of the group’s and the parent company’s profit for the year then ended; and
– The financial statements and the part of the Directors’ Remuneration Report to be audited have been properly prepared in accordance with the Companies Act 1985 and Article 4 of the IAS Regulation.
In our opinion the group financial statements give a true and fair view, in accordance with IFRSs, of the state of the group’s affairs as at 31 December 2005 and of its profit for the year then ended.
The Group is managed using reportable segments based on the above activities. These are long-term business, fund management, general insurance and health, further details of which are given in
In August 2005, the IASB issued IFRS 7, Financial Instruments: Disclosures, and amendments to IAS 1, Capital Disclosures, and IAS 39/IFRS 4, Financial Guarantee Contracts. Their requirements are applicable for accounting periods beginning on or after 1 January 2007 for the first two and, for the third, 1 January 2006. In addition, IFRIC Interpretation 8, Scope of IFRS 2, was issued in January 2006 and is effective for accounting periods beginning on or after 1 May 2006. The Group has decided not to adopt any of the standards early in these financial statements but the impact of adopting them is not expected to have a material effect on its results. IFRS 7 will result in amendments to the disclosure of financial assets and liabilities, whilst the amendments to IAS 1 bring the capital disclosures into line with IFRS 7. The amendments to IAS 39 and IFRS 4 will not affect the manner in which the Group accounts for financial guarantee business. In addition, IFRS 6 and IFRIC Interpretations 5, 6 and 7 have been issued during 2005 but are not relevant to the activities of the Group.
(B) Use of estimates The preparation of financial statements requires the Group to make estimates and assumptions that affect items reported in the consolidated balance sheet and income statement and the disclosure of contingent assets and liabilities at the date of the financial statements. Although these estimates are based on management’s best knowledge of current facts, circumstances and, to some extent, future events and actions, actual results ultimately may differ from those estimates, possibly significantly.
From 1 January 2004, the date of first time adoption of IFRS, the Group is required to use the purchase method of accounting to account for the acquisition of subsidiaries. Under this method, the cost of an acquisition is measured as the fair value of assets given up, shares issued or liabilities undertaken at the date of acquisition, plus costs directly attributable to the acquisition. The excess of the cost of acquisition over the fair value of the net assets of the subsidiary acquired is recorded as goodwill (see policy M below).
Investment vehicles Investment vehicles such as OEICs, where a Group company owns more than 50%, are consolidated. The interests of parties other than Aviva in such vehicles are classified as liabilities and appear as “Net asset value attributable to unitholders” in the consolidated balance sheet.
When the Group’s share of losses in an associate or joint venture equals or exceeds its interest in the undertaking, the Group does not recognise further losses unless it has incurred obligations or made payments on behalf of the entity.
(D) Foreign currency translation Income statements and cash flows of foreign entities are translated into the Group’s presentation currency at average exchange rates for the year while their balance sheets are translated at the year-end exchange rates. Exchange differences arising from the translation of the net investment in foreign subsidiaries, associates and joint ventures, and of borrowings and other currency instruments designated as hedges of such investments, are taken to the currency translation reserve within equity. On disposal of a foreign entity, such exchange differences are transferred out of this reserve and are recognised in the income statement as part of the gain or loss on sale.
As noted in policy A above, insurance contracts and participating investment contracts in general continue to be measured and accounted for under existing accounting practices at the date of transition to IFRS. Accounting for insurance contracts is determined in accordance with the Statement of Recommended Practice issued by the Association of British Insurers in December 2005. However, in certain businesses, the accounting policies have been changed, as permitted by IFRS 4, to remeasure designated insurance liabilities to reflect current market interest rates.
General insurance and health premiums written reflect business incepted during the year, and exclude any sales-based taxes or duties. Unearned premiums are those proportions of the premiums written in a year that relate to periods of risk after the balance sheet date. Unearned premiums are computed principally on either a daily or monthly pro rata basis. Premiums collected by intermediaries, but not yet received, are assessed based on estimates from underwriting or past experience, and are included in premiums written.
(G) Other investment contract fee revenue Investment contract policyholders are charged fees for mortality, policy administration, investment management, surrenders or other contract services. These fees are recognised as revenue in the period in which they are collected unless they relate to services to be provided in future periods. Amounts are considered to be assessed when the policyholder’s balance has been adjusted for those fees. If the fees are for services to be provided in future periods, then they are deferred and recognised as the service is provided.
Initiation and other “front-end” fees (fees that are assessed against the policyholder balance as consideration for origination of the contract) are charged on some non-participating investment and investment fund management contracts. Where the investment contract is recorded at amortised cost, these fees are deferred and recognised over the term of the policy by an adjustment to the effective yield. Where the investment contract is measured at fair value, the front-end fees that relate to the provision of investment management services are deferred and recognised as the services are provided.
(H) Other fee and commission income Other fee and commission income consists primarily of investment fund management fees, distribution fees from mutual funds, commission revenue from the sale of mutual fund shares, and transfer agent fees for shareholder record keeping. Revenue from investment management fees, distribution fees and transfer agent fees is recognised when earned. Reinsurance commissions receivable and other commission income are recognised on the trade date.
The long-term business provisions are calculated separately for each life operation, based on local regulatory requirements and actuarial principles consistent with those applied in the UK. Each calculation represents a determination within a range of possible outcomes, where the assumptions used in the calculations depend on the circumstances prevailing in each life operation. The principal assumptions are disclosed in note 35(b). For liabilities of the UK with-profit fund, FRS 27 requires liabilities to be calculated as the realistic basis liabilities as set out by the UK’s Financial Services Authority, adjusted to remove the shareholders’ share of future bonuses.
Present value of future profits (PVFP) on non-participating business written in a with-profit fund For with-profit life funds falling within the scope of the FSA realistic
(ii) Provision for unearned premiums The proportion of written premiums, gross of commission payable to intermediaries, attributable to subsequent periods is deferred as a provision for unearned premiums. The change in this provision is taken to the income statement in order that revenue is recognised over the period of risk.
(iii) Liability adequacy At each reporting date, the Group reviews its unexpired risks and carries out a liability adequacy test for any overall excess of expected claims and deferred acquisition costs over unearned premiums, using the current estimates of future cash flows under its contracts after taking account of the investment return expected to arise on assets relating to the relevant general business provisions. If these estimates show that the carrying amount of its insurance liabilities (less related deferred acquisition costs and additional value in force) is insufficient in light of the estimated future cash flows, the deficiency is recognised in the income statement by setting up a provision in the balance sheet.
Provisions Deposits collected under non-participating investment contracts are not accounted for through the income statement, except for the investment income attributable to those contracts, but are accounted for directly through the balance sheet as an adjustment to the investment contract liability.
The majority of the Group’s contracts classified as non-participating investment contracts are unit-linked contracts and are measured at fair value. Liabilities for non-linked non-participating contracts are generally measured at amortised cost.
(M) Goodwill, AVIF and intangible assets Goodwill Goodwill represents the excess of the cost of an acquisition over the fair value of the Group’s share of the net assets of the acquired subsidiary, associate or joint venture at the date of acquisition. Goodwill on acquisitions prior to 1 January 2004 (the date of transition to IFRS) is carried at its book value (original cost less cumulative amortisation) on that date, less any impairment subsequently incurred. Goodwill arising before 1 January 1998 was eliminated against reserves and has not been reinstated. Goodwill arising on the Group’s investments in associates and joint ventures since that date is included within the carrying value of these investments.
Acquired value of in-force business (AVIF) The present value of future profits on a portfolio of long-term insurance and investment contracts, acquired either directly or through the purchase of a subsidiary, is recognised as an asset. In most cases, this is classified as AVIF but, for non-participating investment contracts, it is included within intangibles. If this results from the acquisition of an investment in an associate, the AVIF is held within the carrying amount of that associate. In all cases, the AVIF is amortised over the useful lifetime of the related contracts in the portfolio on a systematic basis. The rate of amortisation is chosen by considering the profile of the additional value of in-force business acquired and the expected depletion in its value. The value of the acquired in-force long-term business is reviewed annually for any impairment in value and any reductions are charged as expenses in the income statement.
Intangible assets Intangibles consist primarily of access to distribution networks and customer lists. These are amortised over their useful lives in each case, using the straight-line method. The amortisation charge for the period is included in the income statement under “Other operating expenses”.
All borrowing costs are expensed as they are incurred. Repairs and maintenance are charged to the income statement during the financial period in which they are incurred. The cost of major renovations is included in the carrying amount of the asset when it is probable that future economic benefits in excess of the most recently assessed standard of performance of the existing asset will flow to the Group and the renovation replaces an identifiable part of the asset. Major renovations are depreciated over the remaining useful life of the related asset.
(O) Investment property Investment property is held for long-term rental yields and is not occupied by the Group. Completed investment property is stated at its fair value, which is supported by market evidence, as assessed by qualified external valuers or by local qualified staff of the Group in overseas operations. Changes in fair values are recorded in the income statement within net investment income.
Listed AFS securities: The Group performs an objective review of the current financial position and prospects of the issuer on a regular basis, to identify whether any impairment provision is required. This review takes into account the likelihood of the current market price recovering to former levels.
(S) Derivative financial instruments and hedging Derivative financial instruments include foreign exchange contracts, interest rate futures, currency and interest rate swaps, currency and interest rate options (both written and purchased) and other financial instruments that derive their value mainly from underlying interest rates, foreign exchange rates, commodity values or equity instruments. All derivatives are initially recognised in the balance sheet at their fair value, which usually represents their cost. They are subsequently remeasured at their fair value, with the method of recognising movements in this value depending on whether they are designated as hedging instruments and, if so, the nature of the item being hedged. Fair values are obtained from quoted market prices or, if these are not available, by using valuation techniques such as discounted cash flow models or option pricing models. All derivatives are carried as assets when the fair values are positive and as liabilities when the fair values are negative. Premiums paid for derivatives are recorded as an asset on the balance sheet at the date of purchase, representing their fair value at that date.
The FV category has two sub-categories – those that meet the definition as being held for trading and those the Group chooses to designate as FV (referred to in this accounting policy as “other than trading”). Fixed maturities, purchased loans and equity securities, which the Group buys with the intention to resell in the near term (typically between three and six months), are classified as trading. All other securities in the FV category are classified as other than trading.
Purchases and sales of investments are recognised on the trade date, which is the date that the Group commits to purchase or sell the assets, at their fair values less transaction costs. Debt securities are initially recorded at their fair value which is taken to be amortised cost, with amortisation credited or charged to the income statement. Investments classified as trading, other than trading and AFS are subsequently carried at fair value.
Impairment The Group reviews the carrying value of its investments on a regular basis. If the carrying value of an investment is greater than the recoverable amount, the carrying value is reduced through a charge to the income statement in the period of impairment. The following policies are used to determine the level of any impairment:
Accounting policies continued exchange of payments calculated as the difference between the fixed and floating rate interest payments. Currency swaps, in their simplest form, are contractual agreements that involve the exchange of both periodic and final amounts in two different currencies. Exposure to gain or loss on both types of swap contracts will increase or decrease over their respective lives as a function of maturity dates, interest and foreign exchange rates, and the timing of payments.
Interest rate futures, forwards and options contracts Interest futures are exchange-traded instruments and represent commitments to purchase or sell a designated security or money market instrument at a specified future date and price. Interest rate forward agreements are OTC where two parties agree on an interest rate and other terms that will become a reference point in determining, in concert with an agreed notional principal amount, a net payment to be made by one party to the other, depending what rate in fact prevails at a future point in time. Interest rate options, which consist primarily of caps and floors, are interest rate protection instruments that involve the obligation of the seller to pay the buyer an interest rate differential in exchange for a premium paid by the buyer. This differential represents the difference between current rate and an agreed rate applied to a notional amount. Exposure to gain or loss on all interest rate contracts will increase or decrease over their respective lives as interest rates fluctuate.
Hedge accounting is used for derivatives designated in this way, provided certain criteria are met. At the inception of the transaction, the Group documents the relationship between the hedging instrument and the hedged item, as well as the risk management objective and the strategy for undertaking the hedge transaction. The Group also documents its assessment, both at inception and on an ongoing basis, of whether the hedge is expected to be, and has been, highly effective in offsetting the risk in the hedged item.
Certain mortgages, which back long-term business, have been classified at fair value through profit or loss in order to match the movement in those liabilities. These loans are revalued to fair value at each period end, with movements in valuation being taken to the income statement.
To the extent that a loan is uncollectible, it is written off as impaired. Subsequent recoveries are credited to the income statement.
Deferred acquisition costs are reviewed by category of business at the end of each reporting period and are written off where they are no longer considered to be recoverable.
(V) Cash and cash equivalents Cash and cash equivalents consist of cash at banks and in hand, deposits held at call with banks, treasury bills and other short-term highly liquid investments with less than 90 days’ maturity from the date of acquisition. For the purposes of the cash flow statement, cash and cash equivalents also include bank overdrafts, which are included within payables and other financial liabilities on the balance sheet.
(X) Provisions and contingent liabilities Provisions are recognised when the Group has a present legal or constructive obligation as a result of past events, it is probable that an outflow of resources embodying economic benefits will be required to settle the obligation, and a reliable estimate of the amount of the obligation can be made. Where the Group expects a provision to be reimbursed, for example under an insurance contract, the reimbursement is recognised as a separate asset but only when the reimbursement is more probable than not.
Contingent liabilities are disclosed if the future obligation is probable and the amount cannot be reasonably estimated.
For defined benefit plans, the pension costs are assessed using the projected unit credit method. Under this method, the cost of providing pensions is charged to the income statement so as to spread the regular cost over the service lives of employees, in accordance with the advice of qualified actuaries. The pension obligation is measured as the present value of the estimated future cash outflows using a discount rate based on market yields for high quality corporate bonds. The resulting pension scheme surplus or deficit appears as an asset or obligation in the consolidated balance sheet. The Group has early adopted the December 2004 amendment to IAS 19, Employee Benefits, with the result that all actuarial gains and losses are recognised immediately in equity through the Statement of recognised income and expense.
Deferred tax related to fair value re-measurement of available-forsale investments, owner-occupied properties and other amounts taken directly to equity is recognised in the balance sheet as a deferred tax asset or liability.
In addition to paying tax on shareholders’ profits, the Group’s life businesses in the UK, Ireland and Australia pay tax on policyholders’ investment returns (“policyholder tax”) on certain products. Policyholder tax is accounted for as an income tax and is included within the total tax expense. The Group has decided to show separately the amounts of policyholder tax to provide a more meaningful measure of the tax the Group pays on its profits. Current policyholder tax is tax paid at policyholder tax rates. Deferred policyholder tax is the tax expected to be paid at policyholder tax rates when temporary differences unwind in future periods. In the pro forma reconciliations, operating profit has been calculated after charging policyholder tax.
(AA) Borrowings Borrowings are recognised initially at their issue proceeds less transaction costs incurred. Subsequently, most borrowings are generally stated at amortised cost, and any difference between net proceeds and the redemption value is recognised in the income statement over the period of the borrowings using the effective interest rate method. All borrowing costs are expensed as they are incurred.
(AB) Share capital and treasury shares Equity instruments An equity instrument is a contract that evidences a residual interest in the assets of an entity after deducting all its liabilities. Accordingly, a financial instrument is treated as equity if: (i) there is no contractual obligation to deliver cash or other financial assets or to exchange financial assets or liabilities on terms that may be unfavourable; and
Treasury shares Where the Company or its subsidiaries purchase the Company’s share capital or obtains rights to purchase its share capital, the consideration paid (including any attributable transaction costs net of income taxes) is shown as a deduction from total shareholders’ equity. Gains and losses on sales of own shares are charged or credited to the treasury share account in equity.
Earnings per share has also been calculated on the operating profit before impairment of goodwill and other adjusting items, after tax, attributable to ordinary shareholders, as the directors believe this figure provides a better indication of operating performance. Details are given in note 13.
36,738 Premiums written net of reinsurance 24,982 23,351 (181) Net change in provision for unearned premiums (123) (176)
36,557 Net premiums earned F 24,859 23,175 2,716 Fee and commission income G&H 1,847 1,268 34,886 Net investment income I 23,722 15,733 526 Share of profit after tax of joint ventures and associates C 358 242 225 Profit on the disposal of subsidiaries and associates 153 34
5,074 Profit before tax 3,450 2,025 (1,356) Tax attributable to policyholders’ returns 12 (922) (383)
The accounting policies (identified alphabetically) on pages 78 to 86 and notes (identified numerically) on pages 93 to 189 are an integral part of these financial statements.
Pro forma reconciliation of Group operating profit to profit before tax For the year ended 31 December 2005 1m Note £m £m
– – long-term business subsidiaries – (18) (63) – non-long-term business subsidiaries (43) (23)
Amortisation and impairment of acquired value of in-force business (81) – long-term business subsidiaries 16 (55) (64) (26) – long-term business associates 18 (18) (21) (66) Amortisation and impairment of intangibles 16 (45) (7)
– Financial Services Compensation Scheme and other levies – (49) Short-term fluctuation in return on investments backing 760 general insurance and health business 8b 517 161 225 Profit on the disposal of subsidiaries and associates 3b 153 34
General Long-term Fund insurance business management and health Total Year ended 31 December 2004 £m £m £m £m
Assets 1,164 Acquired value of in-force business and intangible assets M & 16 803 516 3,086 Investments in joint ventures C&17 2,129 1,255 1,283 Investments in associates C&18 885 873 1,283 Property and equipment N&19 885 812
Financial investments Q,R&23 1,475 Deferred tax assets Z&40 1,018 908 126 Current tax assets 40a 87 – 11,168 Receivables and other financial assets 24 7,706 7,509 5,458 Deferred acquisition costs and other assets U&25 3,766 3,189 3,425 Prepayments and accrued income 25d 2,363 2,307 19,900 Cash and cash equivalents V 13,732 12,779 670 Assets of operations classified as held for sale AE&3c 462 –
Liabilities 192,177 Gross insurance liabilities J&35 132,602 124,122 112,042 Gross liability for investment contracts K&37 77,309 69,555 13,012 Unallocated divisible surplus J 8,978 7,549 4,546 Net asset value attributable to unitholders C 3,137 2,247 3,562 Deferred tax liabilities Z&40 2,458 1,543 1,497 Current tax liabilities 40a 1,033 922 13,746 Payables and other financial liabilities Q&44 9,485 7,240 210 Liabilities of operations classified as held for sale 3c 145 –
The accounting policies (identified alphabetically) on page 78 to 86 and notes (identified numerically) on pages 93 to 189 are an integral part of these financial statements.
– Fair value gains/(losses) transferred to retained earnings on disposal of owner-occupied properties 32 – 18 3 Share of fair value changes in joint ventures and associates taken to equity 32 2 – (804) Actuarial (losses) on pension schemes 42 (547) (145)
(3) Foreign exchange rate movements (2) 59 32 Reserves credit for equity compensation plans 32 22 21 4 Aggregate tax effect – policyholder tax 12b 3 –
94 Net income recognised directly in equity 64 50 2,791 Profit for the year 1,898 1,371 2,885 Total recognised income and expense for the year 1,962 1,421
The cash flows presented in this statement cover all the Group’s activities and include flows from both policyholder and shareholder activities.
Net increase/(decrease) in cash and cash equivalents 1,082 (93) 989 3,071 Cash and cash equivalents at 1 January 48d 9,087 3,039 12,126 9,023 Effect of exchange rate changes on cash and cash equivalents (62) 14 (48) 32
Cash and cash equivalents at 31 December 48d 10,107 2,960 13,067 12,126
Of the total cash and cash equivalents shown above, £25 million has been classified as held for sale (see note 3c).
In general, a company is required to determine its IFRS accounting policies and apply these retrospectively to determine its opening balance sheet under IFRS. However, International Financial Reporting Standard 1, First time adoption of International Financial Reporting Standards, (IFRS 1) allows a number of exemptions to this general principle upon adoption of IFRS. The Group has taken advantage of the following transitional arrangements.
Business combinations The Group has elected not to apply retrospectively the provisions of IFRS 3, Business Combinations, to business combinations that occurred prior to 1 January 2004. At the date of transition, no adjustment was made between UK GAAP and IFRS for any historical business combination.
Equity compensation plans The Group has elected not to apply the provisions of IFRS 2, Share-based Payment, to options and awards granted on or before 7 November 2002 which had not vested by 1 January 2005.
Comparatives The Group has not taken advantage of the exemption within IFRS 1 that allows comparative information presented in the first year of adoption of IFRS not to comply with IAS 32, Financial Instruments: Disclosure and Presentation, IAS 39, Financial Instruments: Recognition and Measurement and IFRS 4, Insurance Contracts.
Estimates Where estimates had previously been made under UK GAAP, consistent estimates (after adjustments to reflect any difference in accounting policies) have been made for the same date on transition to IFRS (ie judgements affecting the Group’s opening balance sheet have not been revisited for the benefit of hindsight).
Held for sale The requirements of International Financial Reporting Standard 5, Non-current Assets Held for Sale and Discontinued Operations, have been applied prospectively from 1 January 2005.
Notes to the consolidated financial statements 1 – First time adoption of International Financial Reporting Standards continued (b) The following tables show the effect of adopting IFRS on the statements that have previously been reported under UK GAAP for the year ending 31 December 2004. They also show the effect of implementing FRS 27, Life Assurance, and of changing the methodology for the Group’s longer term investment return.
Acquired value of in-force business and intangible assets 488 – 488 Investments in joint ventures and associates 1,912 69 1,981 Property and equipment 320 563 883
Financial investments and loans 129,032 40,518 169,550 Assets held to cover linked liabilities 40,665 (40,665) –
Equity Share capital 764 – 764 Capital reserves 3,859 – 3,859 Shares held by employee trusts (1) – (1) Revaluation and other reserves – 543 543
Investment Insurance Employee Dividend Borrowings/ valuation changes benefits Goodwill recognition Deferred tax cash Other items Total (note 1) (note 2) (note 3) (note 4) (note 5) (note 6) (note 7) (note 9) adjustments £m £m £m £m £m £m £m £m £m
Acquired value of in-force business and intangible assets – Investments in joint ventures
Equity Share capital – Capital reserves – Revaluation and other reserves 543 543
Notes to the consolidated financial statements 1 – First time adoption of International Financial Reporting Standards continued (ii) Summarised consolidated balance sheet at 31 December 2004
Liability for investment contracts – 69,555 69,555 Unallocated divisible surplus 9,218 (1,669) 7,549 Net asset value attributable to unitholders – 2,247 2,247
1 – First time adoption of International Financial Reporting Standards continued Analysis of adjustments to the balance sheet at 31 December 2004 as a result of the transition to IFRS
Investment Insurance Employee Dividend Borrowings/ valuation changes benefits Goodwill recognition Deferred tax cash FRS 27 Other items (note 1) (note 2) (note 3) (note 4) (note 5) (note 6) (note 7) (note 8) (note 9) Total £m £m £m £m £m £m £m £m £m £m
Equity Share capital – – Capital reserves – – Revaluation and other reserves 736 – 736
Notes to the consolidated financial statements 1 – First time adoption of International Financial Reporting Standards continued (iii) Notes to the analysis of adjustments to the balance sheets as at 1 January and 31 December 2004 as a result of the transition to IFRS The UK GAAP balance sheet has been presented in a format consistent with IFRS. The only significant change in heading is that the Fund for Future Appropriations is now renamed the Unallocated Divisible Surplus.
The basis for the material adjustments between UK GAAP and IFRS is as follows: (1) Investment valuation The adjustments in respect of investment valuation arise from the following: 1 January 31 December £m £m
Separate revaluation reserves are created for: – Changes in the fair value of securities classified as available for sale; – Changes in the value of owner-occupied property; – Exchange differences arising from the translation of the net investment in foreign subsidiaries, associates and joint ventures and from borrowings designated as hedges of such items; and
Derecognition of claims equalisation provision 364 388 Change in the value of reinsurance treaties (48) (34) Application of an active liability valuation basis in the Netherlands (7) (52) Change in value of non-participating investment contracts and other sundry items (67) (136)
1 – First time adoption of International Financial Reporting Standards continued a) Product classification IFRS 4, Insurance Contracts, requires all products issued to be classified for accounting purposes as either insurance or investment contracts, depending on whether significant insurance risk exists. In the case of a life contract, insurance risk exists if the amount payable on death differs from the amount payable if the policyholder survives. The Group has deemed insurance risk to be significant if the difference exceeds 5% of the policy value, although the classification would be similar if a 10% test had been used.
c) Reinsurance treaties Following a full review of all our reinsurance contracts, a small number of the Group’s long-term reinsurance treaties have been revalued under IFRS, leading to reductions in the value of reinsurance assets of £134 million and £108 million at 1 January 2004 and 31 December 2004 respectively. The majority of these changes relate to participating contracts and so these value changes principally affect the unallocated divisible surplus rather than shareholders’ funds.
d) Application of an active liability valuation basis in the Netherlands The conversion to IFRS has been a particular issue in the Dutch industry where, traditionally, both bond investments and associated insurance liabilities have been held at amortised cost. IAS 39 requires bonds to be held at fair value and hence, to prevent an equity mis-match, the Group has chosen to move to a more active liability valuation basis for its insurance liabilities within the Netherlands. As a result of this change, gross liabilities increased by £41 million and £213 million at 1 January 2004 and 31 December 2004 respectively.
The net impact on shareholders’ funds of the above changes and of other sundry items is a reduction of £67 million at 1 January 2004 and of £136 million at 31 December 2004.
In addition to the above, IFRS now requires that any front end fees received on non-participating investment contracts are included within an explicit deferred income reserve within creditors. Under UK GAAP, any deferred acquisition cost asset created would have been net of these fees. This has led to increases in “Other assets” and “Other liabilities” of £100 million and £114 million at 1 January 2004 and 31 December 2004 respectively.
The Group has assumed that substantially all of the pension deficit will fall to be borne by the shareholders. This is particularly relevant to the UK pension scheme deficit, which forms the majority of the deficit recognised by the Group. Costs, including pension costs, are charged to the UK Life companies and with-profit funds on the basis of a pre-determined Management Services Agreement (MSA). As reported at the time of the conversion to EEV, where similar assumptions have been made in connection with deficit funding, under the MSA, NU Life Services Limited can renegotiate the terms relating to the recharging of the costs to the UK with-profit fund in 2008, subject to regulatory approval. In evaluating the impact on IFRS, Aviva has not sought to pre-empt the outcome of this renegotiation. Any changes to the recharges in respect of the pension deficit will be credited to equity in the period agreement is obtained.
Provisions as stated under IFRS 1,922 2,125 b) Equity compensation plans Under UK GAAP, the costs of awards to employees under equity compensation plans, other than the Save As You Earn plans, are recognised immediately if they are not conditional on performance criteria. If the award is conditional upon future performance criteria, the cost is recognised over the period to which the employee’s service relates. The minimum cost for the award is the difference between the fair value of the shares at the date of grant less any contribution required from employee or exercise price. The cost is based on a reasonable expectation of the extent that the performance criteria will be met. Any subsequent changes in that expectation are reflected in the income statement as necessary.
Under IFRS 2, Share-based Payment, compensation costs for equity compensation plans that were granted after 7 November 2002, but had not yet vested at 1 January 2005, are determined based on the fair value of the share-based compensation at grant date, which is recognised in the income statement over the period of the expected life of the share-based instrument.
(6) Deferred tax Under UK GAAP, provision is made for deferred tax assets and liabilities, using the liability method, arising from timing differences between the recognition of gains and losses in the financial statements and their recognition in a tax computation. No provision is made for tax that might arise on undistributed earnings of subsidiaries unless a binding arrangement for distribution exists. Deferred tax is recognised as a liability or asset if the transactions or events that give the entity an obligation to pay more tax in future or a right to pay less tax in future have occurred by the balance sheet date. The Group policy is to discount its deferred tax balances.
The changes to deferred tax arise from the removal of discounting, changes to the valuation of the Group’s assets and liabilities under IFRS and presentational changes to disclosure of tax assets and liabilities. The main net increases in deferred tax that reduce shareholders’ funds are: 1 January 31 December £m £m
Deferred tax impact of the removal of the equalisation provision 108 117 Deferred tax impact of other changes to technical provisions, valuation of investments and other sundry adjustments 133 (10)
(8) FRS 27 Life Assurance In December 2004, the UK’s Accounting Standards Board (ASB) issued Financial Reporting Standard 27, Life Assurance (FRS 27). In accordance with the Memorandum of Understanding (MoU) signed by the Group along with other major insurance companies, the Association of British Insurers (ABI) and the ASB, the Group has adopted FRS 27 in its 2004 IFRS balance sheet. FRS 27 requires insurance companies to measure their liabilities on with-profit business, on a “realistic basis” (ie the FSA’s definition of a “realistic” valuation). The use of the “realistic” basis to measure liabilities for with-profit business does not impact reported profits, as an offsetting adjustment is made to the unallocated divisible surplus.
(i) Assets held to cover linked liabilities of £40,665 million at 1 January 2004 and £51,144 million at 31 December 2004 are no longer disclosed in a single line but have been reported in the various asset classifications. Of this amount, assets of £3,343 million at 1 January 2004 and £4,965 million at 31 December 2004 have been netted off technical liabilities, reducing the gross assets and investment contract liabilities of the Group. There is no impact on profit or shareholders’ funds as a result of this change.
(iii) Owner-occupied properties have been reclassified from “investment property” to property and equipment. We continue to hold these properties at fair value.
Earnings per share based on operating profit after tax attributable to ordinary shareholders 57.2p 56.9p 53.9p
2. Calculated as operating profit net of tax, minorities and preference dividend over interim and final ordinary dividends declared in respect of the financial year.
Notes to the consolidated financial statements continued 1 – First time adoption of International Financial Reporting Standards continued Analysis of IFRS adjustments to the pro forma operating profit statement for the year ended 31 December 2004 as a result of the transition to IFRS
Fund management (3) (3) General insurance and health business 5 (33) (28) Non-insurance operations (3) (10) (13) Corporate costs (10) (10) Unallocated interest charges – Unallocated income 28 28
Amortisation/impairment of goodwill 79 79 Amortisation of AVIF and intangibles 37 (3) 34 Financial Services Compensation Scheme and other levies – Short-term investment fluctuation (67) (67) Change in equalisation provision 23 23 Net loss on the disposal of subsidiaries and associates 169 1 170 Exceptional costs for termination of operations 10 10
Profit before tax attributable to shareholders’ profits 44 (49) (48) 248 (56) 15 154
Tax attributable to shareholders’ profits – (7) 15 – 56 20 84
(v) Notes to the Analysis of adjustments to the pro forma operating profit statement for the year ended 31 December 2004 as a result of the transition to IFRS (1) Investment valuation The main investment valuation change upon conversion to IFRS is that assets, which are not classified as being held to maturity, are required to be held at fair value. Under UK GAAP, certain of the Group’s bonds were held at amortised cost. This change in valuation of debt securities resulted in a £2,459 million increase in the valuation of securities at 31 December 2004. Most of this change was offset by corresponding movements in the unallocated divisible surplus and technical liabilities. However, there was a residual uplift which resulted in a positive increase in the Group’s shareholders’ funds, and the year-on-year movement in respect of those investments classified as “at fair value through profit and loss account” is reported as an increased profit in the 2004 income statement.
(2) Insurance changes Insurance changes consist of: – The removal of the claims equalisation provision, improving profit before tax by £23 million but with no impact on operating profit; – The revaluation of liabilities and deferred acquisition costs on those contracts classified as non-participating investment contracts, reducing operating profit by £91 million; – The revaluation of certain life reinsurance treaties, increasing operating profit by £14 million; – Other sundry changes to our general insurance business reserves, increasing operating profit in 2004 by £5 million.
1 – First time adoption of International Financial Reporting Standards continued The overall impact on annual profits arising from this accounting change is dependent upon levels of new business, product mixes, the ageing profile of the existing in-force business and reserving policies. Additional new business strain under IFRS would be expected to be mitigated by the emergence of higher IFRS basis profits of the in-force book of business. Until mid-2003, unit-linked bond business sold by Norwich Union in the UK contained a guaranteed minimum death benefit, and hence contained significant insurance risk, and accordingly, as permitted by IFRS Phase 1, the UK GAAP basis profit profile has been retained. After mid-2003, this benefit was removed and business written since this time has been classified as non-participating investment business. The existing in-force business is therefore small and profits are insufficient to offset the new business strain. A significant conversion effect on profit therefore arises.
(4) Goodwill Goodwill is no longer amortised under IFRS but is subject to annual impairment review. Impairment charges of £41 million were incurred in 2004, relating to sundry small overseas businesses, which had been fully reflected within the UK GAAP amortisation charge of £120 million. No additional impairment arose as a result of the transition to IFRS.
A further £169 million credit arises to profit before tax, as goodwill previously charged directly to reserves was deducted from profit upon disposal of subsidiaries under UK GAAP. Under IFRS no such deduction is required. This change has no impact on operating profit or shareholders’ funds.
(5) Policyholder tax Operating profit before tax has fallen relative to the UK GAAP result by £93 million as a result of a change in the allocation of the tax charged to the life funds between policyholders and shareholders. This presentational change has no impact on operating profit after tax or the tax suffered by the life funds but merely represents how the tax charge is presented in the financial statements. The increase in tax costs charged to operating profit arises principally in the UK, but has been partly offset by a change in allocation in the Netherlands, where all tax is now deemed to be shareholder tax.
It is a feature of the UK tax regime that the tax attributable to life business operations is a single charge in respect of policyholder income and shareholder profits. Under UK GAAP, the difficulty of allocating this charge between policyholders and shareholders is generally acknowledged and hence, under UK GAAP, the total tax charge is deducted from life operating profit in the long-term technical account, the net result of which is then grossed up at the effective shareholder tax rate. Traditionally, Aviva has grossed up at 30% which represents its view of the long-term effective rate. We remain of the view that this will be the rate suffered by shareholders over the longer term.
Notes to the consolidated financial statements continued 1 – First time adoption of International Financial Reporting Standards continued (6) Longer-term investment return The Group has chosen to revisit its longer-term investment return (LTIR) methodology from 2005 as part of a discretionary change not required by IFRS. In order to provide suitable trend analysis, the 2004 comparatives are presented in accordance with this new methodology. The key changes are as follows: – For properties and equity, we have applied lower start of year long-term rates of investment return consistent with those adopted for reporting life operating returns under EEV principles. This would have reduced operating profit in 2004 by £25 million; – For fixed income securities, we have included the amortisation of the premium or discount arising upon acquisition of a bond within our LTIR calculation. This would have reduced operating profit before tax by £72 million in 2004; – The LTIR is only being applied to general insurance and health business.
For the year ended 31 December 2004, the only material differences between the cash flow statements prepared under the two bases were the inclusion of cash flows from the Group’s long-term businesses and from newly-consolidated securitisation vehicles and investment vehicles, together with changes arising from the different definitions of cash and cash equivalents under these bases.
2 – Exchange rates The Group’s principal overseas operations are located within the Eurozone. The results and cash flows of these operations have been translated into sterling at an average rate for the year of 1 euro = £0.68 (2004: 1 euro = £0.68) and their assets and liabilities have been translated at the year-end rate of 1 euro = £0.69 (2004: 1 euro = £0.71).
3 – Subsidiaries continued The assets and liabilities at the date of acquisition were: Fair value and Pension accounting
Goodwill (including £118 million arising from the creation of the deferred tax liability on intangibles) 1,139
Total value of goodwill and intangible assets net of associated tax included on balance sheet 1,413
A deferred tax liability of £118 million has been provided against these intangible assets, resulting in an increase in residual goodwill by this amount. Although this liability has been recognised in accordance with IAS 12, and a proportion will be amortised to the income statement as the related intangible asset is amortised, this liability is only payable if the intangible asset is sold separately and this is not expected to happen.
The pension scheme valuation adjustment and associated deferred taxation represents the effect of aligning the assumptions of the RAC plc schemes to those of Aviva. The fair value of the RAC pension deficit at the date of acquisition amounted to £313 million (£219 million after deferred tax).
£109 million of integration costs for the restructuring of the combined Norwich Union Insurance and RAC businesses has been included in the results to 31 December 2005.
(ii) Gresham Insurance Company Limited On 31 March 2005, the Group acquired 100% of the share capital of Gresham Insurance Company Limited. The cash consideration including purchase costs was £75 million. The fair value of the net assets acquired, including intangibles of £14 million, was £75 million, giving rise to no goodwill on acquisition.
(iii) Solus Automotive Limited On 11 May 2005, the Group acquired 100% of the share capital of Solus Automotive Limited. The cash consideration including purchase costs was £20 million, including £12 million of cash and £8 million of deferred consideration. The fair value of the net assets acquired was nil, giving rise to £20 million of goodwill on acquisition.
Of the above pre-tax profit, £21 million has arisen since acquisition.
Under the terms of the agreement, Hibernian Life Holdings Limited (HLH), the parent company of Hibernian Life & Pensions Limited, has acquired all the shares of Ark Life Assurance Company Limited (Ark Life) from AIB in exchange for a 24.99% stake in the enlarged HLH and a balancing cash payment of a195.4 million which also reflects the management of Ark Life funds by Hibernian Investment Managers Limited, part of the Group’s fund management business. A further deferred cash payment of up to a10 million is payable, subject to the fulfilment of certain performance criteria.
AIB calculate embedded value on a different basis to that used by the Group and, in particular, do not use EEV principles. In view of the very recent timing of completion, it is currently impractical to comply with the requirements of paragraph 67 of IFRS 3, Business Combinations, and to state with any certainty the fair values of the assets and liabilities acquired, and therefore to estimate the goodwill arising on this acquisition and the unrealised gain on disposal of the Group’s 24.99% interest in HLH.
The gain on disposal of this interest in HLH will be calculated in accordance with SIC 13, Jointly Controlled Entities – Non-Monetary Contributions by Venturers, and will be recognised in 2006.
Acquisition in Sri Lanka On 1 February 2006, the Group acquired a 51% interest in Eagle Insurance Limited (Eagle), the third largest insurer in Sri Lanka, by buying a majority shareholding in Eagle’s immediate holding company, NDB Finance Lanka (Pvt) Limited, for cash of £15 million. At the same time, Eagle has entered into a bancassurance agreement with National Development Bank Limited (NDB), Sri Lanka’s biggest development bank and Eagle’s other major shareholder. In view of the very recent timing of completion, it is currently impractical to comply with the requirements of paragraph 67 of IFRS 3, Business Combinations, and to state with any certainty the fair values of the assets and liabilities acquired, and therefore to estimate the goodwill arising on this acquisition.
General insurance businesses United Kingdom 10 28 France – 6 Asia (see below) 122 –
The transaction completed in two phases. Phase I completed on 28 February 2005 and included all businesses above except for Malaysia, Indonesia, Macau, Marianas, Taiwan, Dah Sing and the Philippines. Phase II completed in December 2005, when the last of these businesses was sold, with the exception of Taiwan which completed in February 2006. Due to its immateriality, this last disposal has been treated as a 2005 transaction.
The total sale proceeds were fixed by reference to the net assets of the businesses as at 31 December 2003 and were not adjusted to reflect the results in the period from 1 January 2004 to completion. The Group therefore hedged its exposure to the sale proceeds of US$450 million through the purchase of foreign currency forward contracts. The Group did not bear any continuing operating risk from
The results of the Asian general insurance business have been consolidated with those of the Group’s ongoing operations until the completion of each transaction. Although the Group retained no economic interest in the operations of this business beyond 31 December 2003, the post-tax operating profits have been incorporated in the Group’s consolidated income statement from 1 January 2004 to the date of completion. This has been offset by a corresponding change to the final profit on sale. The total pre-tax profit on sale was £165 million (£122 million after tax) and is summarised below: £m
Net assets as at 31 December 2003 60 Post-tax operating profit to disposal 14 Dividends paid (5) Foreign exchange rate movements on net assets 4
(c) Operations classified as held for sale The assets and liabilities of operations classified as held for sale as at 31 December 2005 were as follows: £m £m
In October 2005, the Group announced its decision to sell its 50% stake in Lex Vehicle Leasing (Holdings) Limited (LVL), a joint venture with HBOS, as a result of HBOS exercising an option under the JV shareholders agreement. LVL provides vehicle leasing, supply, management, maintenance and incident support for companies who outsource the day-to-day operations of their fleets, and was acquired as a part of the Group’s acquisition of RAC. Completion of the sale of the investment in LVL is expected in the second quarter of 2006 and so the relevant assets and liabilities have been classified as Held for Sale in the consolidated balance sheet.
Other Other activities not related to the core business segments or which are not reportable segments due to their immateriality, such as the RAC non-insurance operations, our banking businesses and service companies, are included as “Other”, in the following tables. Head office expenses, such as Group treasury and finance functions are also reported as “Other”, together with eliminations and other reconciling items. Certain financing costs and taxes are not allocated among the segments.
Segment assets and liabilities comprise operating assets and liabilities, being the majority of the balance sheet but excluding items such as tax and borrowings.
Notes to the consolidated financial statements continued 4 – Segmental information continued (ii) Segmental results – business segments
Net written premiums 14,671 – 10,311 – 24,982 Change in unearned premium reserve – – (123) – (123)
Impairment of goodwill 14 – – 29 43 Amortisation and impairment of acquired value of in-force business 73 – – – 73 Amortisation and impairment of intangibles 24 – 5 16 45
Short-term fluctuation in return on investments backing general insurance and health business – – (517) – (517) (Profit)/loss on the disposal of subsidiaries and associates 10 – (41) (122) (153)
Operating profit before tax attributable to shareholders’ profits 1,065 92 1,551 (580) 2,128
Claims and benefits paid, net of recoveries from reinsurers (12,015) – (5,784) – (17,799) Change in insurance liabilities, net of reinsurance (5,393) – (711) – (6,104) Change in investment contract provisions (5,635) – – – (5,635) Change in unallocated divisible surplus (1,330) – – – (1,330)
Segment result before share of profit/(loss) of joint ventures and associates 1,150 33 1,368 (522) 2,029 Share of profit/(loss) of joint ventures and associates 235 (6) – 13 242
Unallocated costs Finance costs on central borrowings (see below) (246) Tax attributable to policyholders’ returns (383) Tax attributable to shareholders’ profits (271)
Impairment losses, and reversal of such losses, recognised directly in equity were £nil and £138 million respectively in long-term business.
General Long-term Fund insurance business management and health Other Total For the year ended 31 December 2004 £m £m £m £m £m
Acquired value of in-force business and intangible assets 424 – 265 114 803 Investments in joint ventures and associates 2,815 46 39 114 3,014
Liability for investment contracts 77,309 – – – 77,309 Unallocated divisible surplus 8,978 – – – 8,978 Net asset value attributable to unitholders 3,137 – – – 3,137
Acquired value of in-force business and intangible assets 451 – 19 46 516 Investments in joint ventures and associates 1,995 40 13 80 2,128
(b) Secondary reporting format – geographical segments (i) Reporting segments Although the Group’s business segments are managed on a worldwide basis, they operate in five main geographical areas. These are United Kingdom, France, Netherlands (including Belgium and Luxembourg), Other Europe and International.
Notes to the consolidated financial statements continued 4 – Segmental information continued (iii) Life and pensions and investment sales – new business and total income For the purpose of recording life and pensions new business premiums, the Group’s policy is to include life insurance, long-term health and accident insurance, savings, pensions and annuity business written by our life insurance subsidiaries, including managed pension fund business and our share of the other life and related business written in our associates and joint ventures, as well as the equity release business written in the UK. This includes both insurance and investment contracts as defined under IFRS 4, Insurance Contracts, and is consistent with the definition of covered business used for our supplementary embedded value reporting.
New single premiums New regular premiums Total income £m £m £m £m £m £m
Total life and pensions (including share of associates and joint ventures) 15,926 14,441 1,151 1,154 14,932 13,861
Gross written premiums Long-term: Insurance contracts 9,916 10,038 Participating investment contracts 5,366 4,178
Less: premiums ceded to reinsurers 4a (1,317) (1,427) Gross change in provision for unearned premiums 35e (216) (232) Reinsurers’ share of change in provision for unearned premiums 36c 93 56 Net change in provision for unearned premiums (123) (176)
Fee income from investment contract business 288 349 Fund management fee income 274 176 Other fee income 921 211 Reinsurance commissions receivable 274 512 Other commission income 99 28 Net change in deferred revenue (9) (8)
Expenses relating to these properties (19) (8) Gains on disposal 41 89 Fair value gains on investment properties 1,571 1,154
Gains on loans 38 34 Foreign exchange gains and losses on investments other than trading (207) 43 Other investment (expense)/income (14) 5
Claims and benefits paid to policyholders on general insurance and health business 6,523 6,131
Claims and benefits paid, net of recoveries from reinsurers 19,706 17,799
Change in insurance liabilities Change in insurance liabilities 9,673 6,434 Less: Change in reinsurance asset for insurance provisions 703 (330)
Change in investment contract provisions Investment income allocated to investment contracts 3,633 2,192 Other changes in provisions
Less: Change in reinsurance asset for investment contract provisions 582 –
Commission expenses for insurance and participating investment contracts 2,700 2,443 Change in deferred acquisition costs for insurance and participating investment contracts (208) 340 Deferrable costs for non-participating investment contracts 165 134 Other acquisition costs 1,245 1,213 Changes in deferred acquisition costs for non-participating investment contracts (258) (92)
Other net foreign exchange (gains)/losses (4) 12 Other expenses 973 347
Finance costs Interest expense on: Subordinated debt 169 169 Debenture loans 41 37 Amounts owed to credit institutions 37 10 Commercial paper 24 34 Securitised mortgage loan notes 183 174 Banking customer deposits 79 71
Notes to the consolidated financial statements continued 7 – Analysis of investment return (a) The total investment return reflected in profit before tax comprises: £m £m
Share of result after tax of joint ventures 326 234 Share of result after tax of associates 32 8 Net rental income from investment properties 728 720 Interest, dividend and similar income 8,174 7,546 Foreign exchange gains and losses on investments designated as at fair value through profit or loss (207) 43 Realised investment gains on financial investments, loans, investment property and owner occupied property 4,657 2,068 Net impairment losses on investments designated as available for sale and on loans (57) (3) Other investment (expenses)/income (14) 5 Finance costs
Allocated costs (361) (276) Unallocated interest charges: Subordinated debt (169) (169) Other borrowings (79) (77)
The investment liabilities in relation to long-term business valued at amortised cost represent only 0.4% of the total liabilities relating to long-term business. On grounds of materiality, their effective interest rate has not been calculated.
8 – Longer term investment return (a) The longer-term investment return, net of expenses, attributable to the general insurance and health business result was £1,046 million (2004: £988 million).
Net investment income (note 4a) 1,603 1,176 Less: Internal charges reflected in other headings (40) (27)
Longer term investment return 1,046 988 Short-term fluctuation in investment return 517 161
The above rates are consistent with the economic assumptions for equities and properties used under EEV principles.
Equities 1% higher/lower Group operating profit 29 25 Properties 1% higher/lower Group operating profit 4 3 9 – Employee information The average number of persons employed by the Group during the year was: Number Number
Defined benefit schemes (note 42b) 158 158 Defined contribution schemes (note 42b) 47 47
Notes to the consolidated financial statements continued 9 – Employee information continued These costs are charged within: £m £m
Acquisition costs 600 339 Other operating expenses 1,640 1,815 10 – Directors Information concerning individual directors’ emoluments, interests and transactions is given in the Directors’ Remuneration Report on pages 65 to 74.
In addition to the above amounts payable to the principal auditors, fees for audit services of £2.9 million (2004: £2.0 million) were payable to other firms. The total fees payable for audit services were therefore £12.9 million (2004: £12.1 million).
Deferred tax Origination and reversal of timing differences 881 272 Changes in tax rates or tax laws (5) (1) Write down of deferred tax assets 89 –
(ii) The Group, as a proxy for policyholders in the UK, Ireland and Australia, is required to record taxes on investment income and gains each year. Accordingly, the tax benefit or expense attributable to UK, Irish and Australian life insurance policyholder returns is included in the tax charge. The tax expense attributable to policyholders’ returns included in the charge above is £922 million (2004: £383 million).
12 – Tax continued (iii) The tax charge can be analysed as follows: £m £m
Operating profit attributable to ordinary shareholders 2,128 1,415 60.5 1,669 1,221 54.1 Adjusted for the following: – Amortisation and net impairment of acquired additional value of in-force business (note 16 & 18) (73) (73) (3.1) (85) (85) (3.8) – Amortisation and net impairment of intangibles (note 16) (45) (42) (1.8) (7) (7) (0.3) – Financial Services Compensation Scheme and other levies – – – (49) (29) (1.3) – Short-term fluctuation in return on investments backing general insurance and health business (note 8b) 517 430 18.2 161 195 8.7 – Profit on the disposal of subsidiaries and
– Integration costs (note 3a(i)) (109) (76) (3.2) – – – – Exceptional costs for termination of operations (note 3d) – – – (40) (30) (1.3)
Coupon payments in respect of direct capital instrument (net of tax) (29) – (29) – – –
Profit attributable to ordinary shareholders 1,415 306 1,721 1,221 37 1,258
13 – Earnings per share continued (iv) The calculation of basic earnings per share uses a weighted average of 2,340 million (2004: 2,256 million) ordinary shares in issue, after deducting shares owned by the employee share trusts. The actual number of shares in issue at 31 December 2005 was 2,396 million (2004: 2,282 million).
(b) Diluted earnings per share Diluted earnings per share is calculated as follows: Weighted Weighted average average number number