(a) Uncertainty over claims provisions Note 38 gives details of the estimation techniques used by the Group to determine the general business outstanding claims provisions and of the methodology and assumptions used in determining the long-term business provisions. These approaches are designed to allow for the appropriate cost of future policy-related liabilities, with a degree of prudence, to give a result within the normal range of outcomes. To the extent that the ultimate cost falls outside this range, for example where experience is worse than that assumed, or future general business claims inflation differs from that expected, there is uncertainty in respect of these liabilities.
(d) Pensions mis-selling The pensions review of past sales of personal pension policies which involved transfers, opt outs and non-joiners from occupational schemes, as required by the Financial Services Authority (FSA), has largely been completed.
A provision of some £16 million at 31 December 2009 (2008: £18 million, 2007: £23 million) remains to meet the outstanding costs of the very few remaining cases, the anticipated cost of any guarantees provided, and potential levies payable to the Financial Services Compensation Scheme. It continues to be the directors’ view that there will be no material effect either on the Group’s ability to meet the expectations of policyholders or on shareholders.
A key conclusion was that, on average, holders of mortgage endowments had enjoyed returns such that they had fared at least as well as they would have done without an endowment. Nevertheless, following the FSA review, all of the Group’s UK
In May 2002, in accordance with FSA requirements, the Group commenced sending out the second phase of endowment policy update letters, which provide policyholders with information about the performance of their policies and advice as to whether these show a projected shortfall at maturity. The Group will send these updates annually to all mortgage endowment holders, in accordance with FSA requirements. The Group has made provisions totalling £25 million at 31 December 2009 (2008: £38 million, 2007: £96 million) to meet potential mis-selling costs and the associated expenses of investigating complaints. It continues to be the directors’ view that there will be no material effect either on the Group’s liability to meet the expectations of policyholders or on shareholders.
In August 2004, the Group confirmed its intention to introduce time barring on mortgage endowment complaints, under FSA rules. The Group now includes details of its endowment policyholders’ time bar position within the annual re-projection mailings. Customers will be given at least 12 months’ individual notice before a time bar becomes applicable – double the six months’ notice required by the FSA.
Aviva plc Notes to the consolidated financial statements continued Annual Report and Accounts 2009 51 – Contingent liabilities and other risk factors continued (f) Regulatory compliance The Group’s insurance and investment business is subject to local regulation in each of the countries in which it operates. The FSA regulates the Group’s UK business and in addition monitors the financial resources and organisation of the Group as a whole. The FSA has broad powers including the authority to grant, vary the terms of, or cancel a regulated firm’s authorisation, to investigate marketing and sales practices and to require the maintenance of adequate financial resources. The Group’s regulators outside the UK typically have similar powers but in some cases they operate a system of “prior product approval” and hence place less emphasis than the FSA on regulating sales and marketing practices.
(h) Payment protection insurance (PPI) mis-selling In September 2009, the FSA launched an investigation into sales practices for payment protection insurance. As at 3 March 2010, no ruling has been issued by the FSA and, as a result, it is not possible to determine whether, and if so to what extent, any liability exists. The directors continue to monitor the situation.
(j) Other In the course of conducting insurance and investment business, various Group companies receive liability claims, and become involved in actual or threatened related litigation. In the opinion of the directors, adequate provisions have been established for such claims and no material loss will arise in this respect.
Contractual obligations for future repairs and maintenance on investment properties are £1 million (2008: £1 million, 2007: £nil). The Group has capital commitments to its joint ventures of £nil (2008: £nil, 2007: £nil) and to other investment vehicles of
(b) Operating lease commitments (i) Future contractual aggregate minimum lease rentals receivable under non-cancellable operating leases are as follows: Within 1 year Later than 1 year and not later than 5 years Later than 5 years
(ii) Future contractual aggregate minimum lease payments under non-cancellable operating leases are as follows: Within 1 year Later than 1 year and not later than 5 years Later than 5 years
The total of future minimum sub-lease payments expected to be received under non-cancellable sub-leases. 83 89 159
Aviva plc Notes to the consolidated financial statements continued Annual Report and Accounts 2009 53 – Statement of cash flows This note gives further detail behind the figures in the statement of cash flow.
(a) The reconciliation of profit/(loss) before tax to the net cash inflow from operating activities is: £m £m
Adjustments for: Share of losses/(profits) of joint ventures and associates 504 1,128
Premium or discount on debt securities 303 (12) Premium or discount on loans (19) (20) Premium or discount on borrowings 3 2 Premium or discount on participating investment contracts 15 13 Financial instruments (77) (245) Acquired value of in-force business and intangibles 376 433 601 171 Change in unallocated divisible surplus 1,547 (4,482) Interest expense on borrowings 1,327 1,547 Net finance income on pension schemes 125 (121) Foreign currency exchange losses/(gains) (155) 327 Changes in working capital Decrease in reinsurance assets (124) 1,543 (Increase)/decrease in deferred acquisition costs (567) (328) Increase/(decrease) in insurance liabilities and investment contracts 15,134 (15,320) Increase/(decrease) in other assets and liabilities 2,359 (381)
Performance reviewAviva plc Notes to the consolidated financial statements continued Corporate responsibilityAnnual Report and Accounts 2009 Governance Shareholder information Financial statements IFRS Financial statements MCEV Other information 53 – Statement of cash flows continued (c) Cash flows in respect of the disposal of subsidiaries, joint ventures and associates: Cash proceeds from disposal of subsidiaries, joint ventures and associates 1,738 396 Net cash and cash equivalents divested with subsidiaries (607) (43)
Financed by Equity shareholders’ funds 13,035 13,162 Minority interests 4,237 3,080 Direct capital instrument 990 990 Preference shares 200 200 Subordinated debt 4,637 4,606 External debt 852 919 Net internal debt2 1,293 2,110
Total capital employed 25,244 25,067 1. The “corporate” net liabilities represent the element of the pension scheme deficit held centrally. 2. In addition to our external funding sources, we have certain internal borrowing arrangements in place which allow some of the assets that support technical liabilities to be invested in a pool of central assets for use across the group. These internal debt balances allow for the capital allocated to business operations to exceed the externally sourced capital resources of the group. Net internal debt represents the balance of the amounts due from corporate and holding entities, less the tangible net assets held by these entities. Although intra-group in nature, they are included as part of the capital base for the purpose of capital management. These arrangements arise in relation to the following: — Certain subsidiaries, subject to continuing to satisfy stand alone capital and liquidity requirements, loan funds to corporate and holding entities. These loans satisfy arms length criteria and all interest payments are made when due. — Aviva International Insurance (AII) Ltd acts as both a UK general insurer and as the primary holding company for our foreign subsidiaries. Internal capital management mechanisms in place allocate a portion of the total capital of the company to the UK general insurance operations. These mechanisms also allow for some of the assets backing technical liabilities to be made available for use across the group. Balances in respect of these arrangements are also treated as internal debt for capital management purposes.
At 31 December 2009 we had £25.2 billion (2008: £25.1 billion) of total capital employed in our trading operations, measured on an MCEV basis. Over the period the benefit of operating profits and investment gains have been offset by foreign exchange losses and actuarial losses on staff pension schemes.
Aviva plc Notes to the consolidated financial statements continued Annual Report and Accounts 2009 55 – Capital statement This statement sets out the financial strength of our Group entities and provides an analysis of the disposition and constraints over the availability of capital to meet risks and regulatory requirements. The capital statement also provides a reconciliation of shareholders’ funds to regulatory capital.
Total liabilities 3,115 23,447 19,508 46,070 53,319 99,389 — 263,643 1. Other sources of capital include Subordinated debt of £4,637 million issued by Aviva and £451 million of other qualifying capital issued by Dutch, Italian, Spanish and US subsidiary undertakings. 2. Including an adjustment for minorities (except for other sources of capital that are reflected net of minority interest). 3. Includes the Provident Mutual with-profit fund. 4. Other operations include general insurance and fund management business. 5. Goodwill and other intangibles includes goodwill of £587 million in JVs and associates.
CGNU CULAC Old with- New with- UKLAP Total UK Other UK Overseas with-profit with-profit profit sub- profit sub- with-profit life with- life Total UK life life Total life fund fund fund fund fund profit funds operations operations operations operations £m £m £m £m £m £m £m £m £m £m
Available capital resources at 1 January restated 714 727 — — 1,247 2,688 2,823 5,511 7,181 12,692 Effect of new business (20) (36) — — (22) (78) (87) (165) (477) (642) Expected change in available capital resources 93 94 (4) 4 139 326 35 361 (8) 353 Variance between actual and expected experience (289) (93) 23 143 158 (58) 7 (51) 3,218 3,167 Effect of operating assumption changes 60 (5) (1) — 6 60 — 60 40 100 Effect of economic assumption changes (59) 12 (15) (110) 49 (123) — (123) 45 (78) Effect of changes in management policy 12 17 (2) (17) (2) 8 — 8 291 299 Effect of changes in regulatory requirements — — — — — — — — 191 191 Transfers, acquisitions and disposals (543) (753) 150 1,128 — (18) — (18) (66) (84) Foreign exchange movements — — — — — — — — (587) (587) Other movements 32 37 48 (20) 15 112 83 195 (861) (666)
Available capital resources at 31 December — — 199 1,128 1,590 2,917 2,861 5,778 8,967 14,745
As detailed in note 44(b), on 1 October 2009 the with-profit funds of CGNU Life Assurance Limited (CGNU) and Commercial Union Life Assurance Company Limited (CULAC) were reorganised. This reorganisation was achieved through a reattribution to shareholders of the inherited estates of these funds. As part of the reorganisation the two funds were merged and transferred to Aviva Life & Pensions UK Limited (UKLAP).
The negative shareholders’ funds balance within the UK with-profit funds arises in NWPSF as a result of regulatory valuation and admissibility differences in the reattributed estate which is valued on a realistic regulatory basis compared to the disclosure on an IFRS basis.
Commercial property returns have been negative, and this has had adverse impact, less so in UKLAP WP as the risk had been partially hedged. However, credit risk is largely unhedged, and the reduction in spreads on corporate bonds through 2009 contributed to increases in the estate/RIEESA. Stabilisation in financial markets saw implied volatility reduce significantly through 2009, from near 35% at start of year to 25% at year end. This has significantly reduced the market consistent cost of guarantees and hence increased estate/RIEESA.
In aggregate, the Group has at its disposal total available capital of £17.1 billion (2008 restated: £13.7 billion), representing the aggregation of the solvency capital of all of our businesses.
This capital is available to meet risks and regulatory requirements set by reference to local guidance and EU directives. After effecting the year end transfers to shareholders, the UK with-profit funds' have available capital of £2.9 billion (2008: £2.7 billion) (including amounts held in RIEESA). Subject to certain conditions, the RIEESA capital can be used to write new non-profit business, but the primary purpose of this capital is to provide support for the UK with-profit business. The capital is comfortably in excess of the required capital margin, and therefore the shareholders are not required to provide further support.
For the remaining life and general insurance operations, the total available capital amounting to £14.2 billion (2008 restated: £11.0 billion) is significantly higher than the minimum requirements established by regulators and, in principle, the excess is available to shareholders. In practice, management will hold higher levels of capital within each business operation to provide appropriate cover for risk.
Aviva plc Notes to the consolidated financial statements continued Annual Report and Accounts 2009 55 – Capital statement continued As the total available capital of £17.1 billion is arrived at on the basis of local regulatory guidance, which evaluates assets and liabilities prudently, it understates the economic capital of the business which is considerably higher. This is a limitation of the Group Capital Statement which, to be more meaningful, needs to evaluate available capital on an economic basis and compare it with the risk capital required for each individual operation, after allowing for the considerable diversification benefits that exist in our Group.
The available capital of the Group’s with-profit funds is determined in accordance with the “Realistic balance sheet” regime prescribed by the FSA’s regulations, under which liabilities to policyholders include both declared bonuses and the constructive obligation for future bonuses not yet declared. The available capital resources include an estimate of the value of their respective estates, included as part of the unallocated divisible surplus. The estate represents the surplus in the fund that is in excess of any constructive obligation to policyholders. It represents capital resources of the individual with-profit fund to which it relates and is available to meet regulatory and other solvency requirements of the fund and, in certain circumstances, additional liabilities may arise.
Under the FSA regulatory regime, UK life with-profit business is required to hold capital equivalent to the greater of the regulatory requirement based on EU Directives (‘regulatory peak’) and the FSA realistic bases (‘realistic peak’) described above.
For fund management and other businesses, the relevant capital requirement is the minimum solvency requirement determined in accordance with the local regulator’s requirements for the specific class of business.
Performance reviewAviva plc Notes to the consolidated financial statements continued Corporate responsibilityAnnual Report and Accounts 2009 Governance Shareholder information Financial statements IFRS Financial statements MCEV Other information 55 – Capital statement continued The available capital resources in each regulated entity are generally subject to restrictions as to their availability to meet requirements that may arise elsewhere in the Group. The principal restrictions are: — (i) UK with-profit funds – (NWPSF,OWPSF and existing UKLAP WP funds) – any available surplus held in each fund can be used to meet the requirements of the fund itself, be distributed to policyholders and shareholders or in the case of NWPSF and OWPSF, transferred via the capital support arrangement explained above (for OWPSF only to the extent support has been provided in the past). In most cases, with-profit policyholders are entitled to at least 90% of the distributed profits while the shareholders receive the balance. The latter distribution would be subject to a tax charge, which is met by the fund.
— (ii) UK non-participating funds – any available surplus held in these is attributable to shareholders. Capital in the non-profit funds may be made available to meet requirements elsewhere in the Group subject to meeting the regulatory requirements of the fund. Any transfer of the surplus may give rise to a tax charge subject to availability of tax relief elsewhere in the Group.
(a) Risk management framework Aviva has established a risk management framework to protect the Group from events that hinder the sustainable achievement of its performance objectives, including failing to exploit opportunities.
Responsibility for risk management resides at all levels within the Group with appropriate risk related objectives embedded within performance measurement plans. As part of our risk management framework we employ a three lines of defence model that encourages close working relationships between line management and the risk function whilst facilitating independent assurance by internal audit. Primary responsibility for risk identification and management lies with business management (the first line of defence). Support for and challenge on the completeness and accuracy of risk assessment, risk reporting and adequacy of mitigation plans are performed by specialist risk functions (the second line of defence). Independent and objective assurance on the robustness of the risk management framework and the appropriateness and effectiveness of internal control is provided by group audit (the third line of defence).
The Group sets limits to manage material risks to ensure the risks stay within risk appetite (the amount of risk the Group is willing to accept). The Group assesses the size and scale of a risk by considering how likely it is that the risk will occur and the potential impact the risk could have on our business and our stakeholders. Where risks are outside appetite actions are agreed to mitigate the exposure.
The Group’s risk management framework is designed to manage, rather than eliminate, the risk to business objectives and mitigates the risk of material financial misstatement or loss. New and emerging risks, or risks we currently deem as immaterial may also pose a risk to business objectives.
The Group recognises the critical importance of maintaining an efficient and effective risk management framework. To this end, the Group has an established governance framework, which has the following key elements: — Defined terms of reference for the Board, its committees, and the associated executive management committees. — A clear organisational structure with documented delegated authorities and responsibilities from the Board to Board committees, executive management committees and senior management. — A risk management function operating across Group centre, regions and business units, with clear responsibilities and objectives; — A Group policy framework that defines risk appetite and sets out risk management and control standards for the Group’s worldwide operations. The policies also set out the roles and responsibilities of businesses, regions, policy owners and the risk oversight committees; and
— Risk oversight committees that review and monitor aggregate risk data, assess whether the risk profile is within appetite and take overall risk management decisions. The committees monitor adherence to the risk management policies and oversee mitigating actions being taken where risks are outside of appetite.
The financial impact from changes in market risk (such as interest rates, equity prices and property values) is examined through stress tests adopted in the Individual Capital Assessments (ICA) and scenario analysis which consider the impact on capital from variations in financial circumstances on either a remote scenario, or to changes from the central operating scenario. Both assessments consider the management actions that may be taken in mitigation of the change in circumstances.
The management of market risk is undertaken in businesses, regions and at Group level. Businesses manage market risks locally using the Group market risk framework and within local regulatory constraints. Businesses may also be constrained by the requirement to meet policyholders’ reasonable expectations and to minimise or avoid market risk in a number of areas. The Group Assets Committee is responsible for managing market risk at Group level, and a number of investment-related risks, in particular those faced by shareholder funds throughout the Group.
Equity risk is also managed using a variety of derivative instruments, including futures and options. Businesses actively model the performance of equities through the use of stochastic models, in particular to understand the impact of equity performance on guarantees, options and bonus rates.
The Group Assets Committee actively monitors equity assets owned directly by the Group, which may include some material shareholdings in the Group’s strategic business partners.
Sensitivity to changes in equity prices is given in section (i) below.
Property price risk The Group is subject to property price risk due to holdings of investment properties in a variety of locations worldwide. Investment in property is managed at regional and business level, and will be subject to local regulations on asset admissibility, liquidity requirements and the expectations of policyholders as well as overall risk appetite. The Group Assets Committee also monitors property assets owned directly by the Group.
A number of policyholder participation features have an influence on the Group’s interest rate risk. The major features include guaranteed surrender values, guaranteed annuity options, and minimum surrender and maturity values. Details of material guarantees and options are given in note 40.
In short-term business such as general insurance business, the Group requires a close matching of assets and liabilities to minimise this risk.
The Group operates internationally and as a result is exposed to foreign currency exchange risk arising from fluctuations in exchange rates of various currencies. Approximately half of the Group’s premium income arises in currencies other than sterling and the Group’s net assets are denominated in a variety of currencies, of which the largest are euro, sterling, and US dollars. The Group does not hedge foreign currency revenues as these are substantially retained locally to support the growth of the Group’s business and meet local regulatory and market requirements.
The Group’s foreign exchange policy requires that each of our subsidiaries maintains sufficient assets in its local currency to meet local currency liabilities. Therefore, capital held by the Group’s business units should be able to support local business activities regardless of foreign currency movements. However, such movements may impact the value of the Group’s consolidated shareholders’ equity which is expressed in sterling. This aspect of foreign exchange risk is monitored and managed centrally, against pre-determined limits. The Group’s foreign exchange policy is to manage these exposures by aligning the deployment of regulatory capital by currency with the Group’s regulatory capital requirements by currency. Limits are set to control the extent to which the deployment of capital is not aligned fully with the Group’s regulatory capital requirement for each major currency. Currency borrowings and derivatives are used to manage exposures within the limits that have been set.
Aviva plc Notes to the consolidated financial statements continued Annual Report and Accounts 2009 56 – Risk management continued At 31 December 2009, the Group’s total equity deployment by currency was: Sterling £m
in sterling/ euro rate in sterling/ euro rate in sterling/ US$ rate in sterling/ US$ rate £m £m £m £m
Net assets at 31 December 2009 Net assets at 31 December 2008 restated Net assets at 31 December 2007 restated
The changes arise from retranslation of business unit statements of financial position from their functional currencies into sterling, with above movements being taken through the currency translation reserve. These movements in exchange rates therefore have no impact on profit. Net assets are stated after taking account of the effect of currency hedging activities.
Correlation risk The Group recognises that identified lapse behaviour and potential increases in consumer expectations are sensitive to and interdependent with market movements and interest rates. These interdependencies are taken into consideration in the ICA in the aggregation of the financial stress tests with the operational risk assessment and in scenario analysis.
(c) Credit risk Credit risk is the risk of financial loss as a result of the default or failure of third parties to pay on their obligations to Aviva. Our credit risks arise through exposures to debt investments, structured asset investments, derivative counterparties, mortgage lending and reinsurance placement counterparties. We hold these investments for the benefit of both our policyholders and shareholders.
— The accurately and timely reporting of detailed exposure information, and their aggregation by counterparty, exposure types, sectors, geography and ratings.
— The employment of risk mitigation techniques where and when deemed appropriate. These are utilised where possible to remove residual unwanted risks, as well as bring limits within appetite, and include methods such as collateralisation, purchase of credit protection and diversification strategies.
A detailed breakdown of Aviva’s current credit exposure by credit quality is shown below.
Speculative position At 31 December 2008 AAA AA A BBB grade Not rated £m
Speculative position At 31 December 2007 AAA AA A BBB grade Not rated £m
Debt securities 45.6% 19.7% 20.4% 9.0% 1.1% 4.2% 121,312 Reinsurance assets 14.7% 67.8% 7.4% 0.4% 1.2% 8.5% 8,054 Other investments 1.7% 2.3% 2.3% 2.3% — 91.4% 36,269 Loans 3.4% 17.6% 1.0% 0.7% 1.3% 76.0% 36,193
Aviva plc Notes to the consolidated financial statements continued Annual Report and Accounts 2009 56 – Risk management continued Other investments Other investments include: — £29, 944 million of unit trusts and other investment vehicles. The underlying credit ratings of these assets are not reflected in this analysis. — Derivative financial instruments of £2,078 million, representing positions to mitigate the impact of adverse market movements. — Other assets of £2,804 million, which are primarily deposits with credit institutions and investments in hedge funds.
Derivatives Derivative transactions must comply with Group guidance on the quality of counterparties used and the extent of collateralisation required. The counterparty must have a minimum credit rating from rating agencies (S&P, Moody's and Fitch) and the collateral process must meet certain minimum standards as set out by Group guidelines.
The largest shareholder notional positions are exchange traded, rather than over the counter (OTC), with the added protection that provides (ie the credit risk is mitigated significantly through regular margining and protection offered by the exchange, and is controlled by the Group’s local asset management operations).
Other assets The vast majority (over 90%) of the investments in deposits and credit institutions is with an individual financial services counterparty which benefits from both implicit and explicit backing of AAA rated governments as a function of its ownership structure.
Performance reviewAviva plc Notes to the consolidated financial statements continued Corporate responsibilityAnnual Report and Accounts 2009 Governance Shareholder information Financial statements IFRS Financial statements MCEV Other information 56 – Risk management continued Loans The majority of the Group loans portfolio is unrated. However, we use the following metrics to internally monitor our exposure: — Property collateralisation — Interest service cost — Diversity of the tenant base — Lower risk nature of loans made to the UK healthcare sector; and — Existence of government guarantees for some residential mortgages.
Credit concentration risk The long-term businesses and general insurance businesses are generally not individually exposed to significant concentrations of credit risk due to the regulations, applicable in most markets, limiting investments in individual assets and asset classes supplemented by the Group credit policy and limits framework. In cases where the business is particularly exposed to credit risk (eg in respect of defaults on mortgages matching annuity liabilities) this risk is translated into a more conservative discount rate used to value the liabilities, creating a greater capital requirement, and this credit risk is actively managed. The impact of aggregation of credit risk is monitored as described above. With the exception of Government bonds the largest aggregated counterparty exposure is approximately 0.8% of the Group’s total shareholder assets.
The Group’s largest reinsurance counterparty is Swiss Reinsurance Company Ltd (including subsidiaries). At 31 December 2009, the reinsurance asset recoverable from Swiss Reinsurance Company Ltd was £1,433 million. This exposure is monitored on a regular basis. In the event of a catastrophic event, the counterparty exposure to a single reinsurer is estimated not to exceed 4.6% of shareholders’ equity.
Securities finance The Group has significant securities financing operations within the UK. The risks within this business are mitigated by over collateralisation which is designed to result in minimal residual risk. The Group operates strict standards around collateral management and controls.
Derivative credit exposures The Group is exposed to counterparty credit risk through derivative trades. This risk is mitigated through collateralising almost all trades (the exception being certain FX trades where it has historically been the market norm not to collateralise). The Group operates strict standards around collateral management and controls including the requirement that all “Over the Counter” derivatives are supported by credit support annexes and ISDAs.
Aviva plc Notes to the consolidated financial statements continued Annual Report and Accounts 2009 56 – Risk management continued Impairment of financial assets The following table provides information regarding the carrying value of financial assets that have been impaired and the ageing of financial assets that are past due but not impaired.
Neither Financial the past due Greater assets that statement nor 0-3 3-6 6 months- than have been of financial impaired months months 1 year 1 year impaired position
Carrying Neither Financial value in the past due Greater assets that statement nor 0-3 3-6 6 months­ than have been of financial impaired months months 1 year 1 year impaired position At 31 December 2008 £m £m £m £m £m £m £m
Debt securities 150,284 — — — — 114 150,398 Reinsurance assets 7,867 25 — — — 2 7,894 Other investments 36,509 1 — — — 1 36,511 Loans 41,091 227 658 13 11 237 42,237 Receivables and other financial assets 8,932 539 293 33 6 13 9,816
Carrying Neither Financial value in the past due Greater assets that statement nor 0-3 3-6 6 months­ than have been of financial impaired months months 1 year 1 year impaired position At 31 December 2007 £m £m £m £m £m £m £m
Credit terms are set locally within overall credit limits prescribed by the Group Credit Committee and within the framework of the Group Credit Policy. The credit quality of financial assets is managed at the local business unit level. Where assets have been classed as “past due and impaired”, an analysis is made of the risk of default and a decision is made whether to seek collateral from the counterparty.
Performance reviewAviva plc Notes to the consolidated financial statements continued Corporate responsibilityAnnual Report and Accounts 2009 Governance Shareholder information Financial statements IFRS Financial statements MCEV Other information 56 – Risk management continued (d) Liquidity risk At Group level, we maintain a prudent level of liquidity which meets the expectations of the financial services authority (FSA) and the wider investment community. We maintain a buffer of liquid assets, determined by liquidity stress tests, which is designed to cover unforeseen circumstances in any of our businesses.
The Group market risk policy sets out the minimum principles and framework for matching liabilities with appropriate assets, the approaches to be taken when liabilities cannot be matched and the monitoring processes that are required. The Group has criteria for matching assets and liabilities for all classes of business to minimise the impact of mismatches between the value of assets and the liabilities due to market movements. The local regulatory environment for each business will also set the conditions under which assets and liabilities are to be matched. The Asset Liability matching (ALM) methodology develops optimal asset portfolio maturity structures for our businesses which seek to ensure that the cash flows are sufficient to meet the liabilities as they are expected to arise.
ALM modelling is based on a projection of both assets and liabilities into the future. Stochastic models are used to set ALM policy where fund particulars contain a range of outcomes.
Almost all investment contracts may be surrendered or transferred on demand. For such contracts, the earliest contractual maturity date is therefore the current statement of financial position date, for a surrender amount approximately equal to the current statement of financial position liability. We expect surrenders, transfers and maturities to occur over many years, and the tables reflect the expected cash flows for non-linked investment contracts. However, contractually, the total liability for nonlinked investment contracts of £59,504 million (2008: £60,264 million, 2007: £45,492 million) would be shown in the “within 1 year” column below. Unit-linked contracts are repayable or transferable on demand and are therefore shown in the “within 1 year” column.
Long-term business Insurance contracts – non-linked 123,933 10,139 38,549 45,181 30,064 Investment contracts – non-linked 59,504 4,304 12,562 24,119 18,519 Linked business 80,206 80,206 — — —
On demand No fixed or within Over term Total 1 year 1-5 years 5 years (perpetual)
The assets above are analysed in accordance with the earliest possible redemption date of the instrument at the initiation of the Group. Where an instrument is transferable back to the issuer on demand, such as most unit trusts or similar types of investment vehicle, it is included in the “On demand or within 1 year” column. Debt securities with no fixed contractual maturity date are generally callable at the option of the issuer at the date the coupon rate is reset under the contractual terms of the instrument. The terms for resetting the coupon are such that we expect the securities to be redeemed at this date, as it would be uneconomic for the issuer not to do so, and for liquidity management purposes we manage these securities on this basis. The first repricing and call date is normally 10 years or more after the date of issuance. Most of the Group’s investments in equity securities and fixed maturity securities are market traded and therefore, if required, can be liquidated for cash at short notice.
As explained in note 2(a)(ii), comparative information for the disclosures required by the IFRS 7 amendments is not needed in the first year of application and so no table for 2008 is presented above.
The impact of life insurance risks is monitored by the business units as part of the control cycle of business management. Exposure is monitored through the assessment of liabilities, the asset liability management framework, profit reporting (under both IFRS and MCEV), and the ICA process. Significant insurance risks will be reported through the Group risk management framework and overseen by the Life Insurance Committee. At Group level the overall exposure to life insurance risk is measured through the ICA and other management reporting.
Aviva plc Notes to the consolidated financial statements continued Annual Report and Accounts 2009 56 – Risk management continued Management of life insurance risks The individual life insurance risks are managed as follows: — Mortality and morbidity risks are mitigated by use of reinsurance. The Group allows business units to select reinsurers, from those approved by the Group, based on local factors, but assesses the overall programme to manage group-wide risk exposures and monitor the aggregation of risk ceded to individual reinsurers is within appetite for credit risk.
— Persistency risk is managed at a business unit level through frequent monitoring of company experience, benchmarked against local market information. Generally, persistency risk arises from customers lapsing their policies earlier than has been assumed. Where possible the financial impact of lapses is reduced through appropriate product design. Businesses also implement specific initiatives to improve retention of policies which may otherwise lapse. The Group Life Insurance Committee has developed guidelines on persistency management.
— Product Design and Pricing risk arises from poorly designed or inadequately priced products and can lead to both financial loss and reputation damage from the Group. Guidelines have been developed to support the businesses through the complete cycle of the product development process, financial analysis and pricing.
When looking at concentrations of risk, for example market risk, the risk within Aviva staff pension schemes is also considered. ICA analysis and MCEV sensitivity testing help identify both concentrations of risk types and the benefits of diversification of risk.
Performance reviewAviva plc Notes to the consolidated financial statements continued Corporate responsibilityAnnual Report and Accounts 2009 Governance Shareholder information Financial statements IFRS Financial statements MCEV Other information 56 – Risk management continued (ii) General insurance risk Types of risk General insurance risk in the Group arises from: — Fluctuations in the timing, frequency and severity of claims and claim settlements relative to expectations — Unexpected claims arising from a single source — Inaccurate pricing of risks or inappropriate underwriting of risks when underwritten — Inadequate reinsurance protection or other risk transfer techniques — Inadequate reserves
Reinsurance strategy Significant reinsurance purchases are reviewed annually at both business unit and Group level, to verify that the levels of protection being bought reflect any developments in exposure and the risk appetite of the Group. Reinsurance purchases must be in line with the strategy set out in our Group General Insurance Reinsurance policy. The basis of these purchases is underpinned by extensive financial and capital modelling and actuarial analysis to optimise the cost and capital efficiency benefits from our reinsurance program. For the larger business units, this involves utilising externally sourced probabilistic models to verify the accumulations and loss probabilities based on the Group’s specific portfolios of business. Where external models are not available, scenarios are developed and tested using the Group’s data to determine potential losses and appropriate levels of reinsurance protection.
Concentration risk Processes are in place to manage catastrophe risk in individual business units and at a Group level. The Group cedes much of its worldwide catastrophe risk to third party reinsurers but retains a pooled element for its own account gaining diversification benefit. The total Group potential loss from its most concentrated catastrophe exposure (Northern European windstorm) is approximately £335 million, for a one in ten year annual loss scenario, compared to approximately £620 million when measured on a one in a hundred year annual loss scenario.
The Group Operational Risk Committee (ORC) oversees the Group’s aggregate operational risk exposure on behalf of the Group Executive Committee and reports to the Board Risk & Regulatory Committee. It makes recommendations on the risk appetite that the Group can work within for operational risk, assesses and monitors overall operational risk exposures, identifying any concentrations of operational risk across the Group, and in particular verifies that mitigating action plans are implemented. The ORC operates a number of sub-committees which focus on specific areas of strategic and operational risk including customer, brand, business protection, IT, people, legal and regulatory compliance.
We closely monitor regulatory, legal and fiscal developments as well as actively engaging with external bodies to share the benefit of our expertise in supporting responses to emerging risks to challenge developments that could be damaging to our business and the industry as a whole.
One of the FSA’s strategic objectives is to help customers get a fair deal through its “treating customers fairly” principle. Examples of “treating customers fairly” include: products and services targeted to meet customers’ needs and which perform in line with what customers have been led to expect; clear information (and advice where relevant); good service; and making sure there are no unfair barriers that prevent customers from getting access to their money, changing products or making a successful insurance claim. The FSA regularly checks that we are meeting the requirement to treat our customers fairly and we make use of various metrics to assess our own performance, including customer advocacy, retention and complaints. Failure to meet these requirements could also impact our brands or reputation.
Performance reviewAviva plc Notes to the consolidated financial statements continued Corporate responsibilityAnnual Report and Accounts 2009 Governance Shareholder information Financial statements IFRS Financial statements MCEV Other information 56 – Risk management continued (i) Risk and capital management Sensitivity test analysis The Group uses a number of sensitivity test-based risk management tools to understand the volatility of earnings, the volatility of its capital requirements, and to manage its capital more efficiently. Primarily, MCEV, ICA, and scenario analysis are used. Sensitivities to economic and operating experience are regularly produced on all of the Group’s financial performance measurements to inform the Group’s decision making and planning processes, and as part of the framework for identifying and quantifying the risks that each of its business units, and the Group as a whole are exposed to.
Insurance participating Insurance non-participating Investment participating Investment non-participating Assets backing life shareholders’ funds
Interest Interest Equity/ Equity/ Assurance Annuitant rates rates property property Expenses mortality mortality +1% -1% +10% -10% +10% +5% -5%
Insurance participating (40) (235) 20 (40) (15) (5) (40) Insurance non-participating (380) 535 220 (220) (25) (40) (280) Investment participating (65) (15) 20 (30) (15) — — Investment non-participating (80) 125 20 (20) (5) — — Assets backing life shareholders’ funds (65) 85 215 (215) — — —
Insurance participating (10) (165) 85 (90) (20) (5) (10) Insurance non-participating (280) 525 65 (50) (20) (25) (310) Investment participating (35) (55) 25 (20) — — — Investment non-participating (10) 10 20 (20) (5) — — Assets backing life shareholders’ funds (20) 30 180 (180) — — —
Total (355) 345 375 (360) (45) (30) (320) 1. The comparative 2008 economic sensitivities for insurance non-participating business have been restated to reflect modelling enhancements in Delta Lloyd.
Insurance participating (30) (135) 85 (90) (20) (5) (10) Insurance non-participating (440) 660 290 (270) (20) (25) (310) Investment participating (50) (40) 30 (25) — — — Investment non-participating (210) 230 20 (20) (5) — — Assets backing life shareholders’ funds (80) 95 190 (190) — — —
The sensitivities to economic movements relate mainly to business in the UK, US and the Netherlands. In general a fall in market interest rates has a beneficial impact on non-participating business and shareholders’ funds, due to the increase in market value of fixed interest securities and the relative durations of assets and liabilities; similarly a rise in interest rates has a negative impact. In the US most debt securities are classified as available-for-sale, which limits the overall sensitivity of IFRS profit to interest rate movements. The sensitivity to movements in equity and property market values relates mainly to holdings in the Netherlands, although the impact on IFRS profit is moderated by the classification of equities as available for sale.
Changes in sensitivities between 2008 and 2009 reflect movements in market interest rates, portfolio growth, changes to asset mix and the relative durations of assets and liabilities, asset liability management actions, and reattribution of inherited estate in the UK.
As a result of the reattribution, movements in the value of assets and liabilities in the New With-Profit Shareholders Funds (NWPSF) and in the reattributed assets will lead to increased volatility of IFRS profit as the result will be borne by shareholders. The main drivers of this increased volatility will be investment returns, the effect of writing new with-profit business in the fund, changes in the cost of guarantees and changes in assumptions. This increase in potential volatility is the primary driver of the change in IFRS long-term business sensitivities between 2008 and 2009.
General insurance and health business Sensitivities as at 31 December 2009 Impact on profit before tax (£m)
Interest Interest Equity/ Equity/ Gross loss rates rates property property Expenses ratios +1% -1% +10% -10% +10% +5%
Fund management and non-insurance business Sensitivities as at 31 December 2009 Impact before profit before tax (£m)
The Group uses a variety of derivative financial instruments, including both exchange traded and over-the-counter instruments, in line with our overall risk management strategy. The objectives include managing exposure to price, foreign currency and/or interest rate risk on existing assets or liabilities, as well as planned or anticipated investment purchases.
Aviva plc Notes to the consolidated financial statements continued Annual Report and Accounts 2009 57 – Derivative financial instruments continued
Contract/ notional Fair value Fair value amount asset liability £m £m £m
Forwards 9,594 24 (106) Interest and currency swaps 859 57 —
(ii) The contractual undiscounted cash flows in relation to non-hedge derivative liabilities have the following maturities: Within one year 1,238 1,001 151 Between one and two years 155 285 100 Between two and three years 66 32 20 Between three and four years 74 43 20 Between four and five years 51 69 21 After five years 657 611 516
Managed by: Aviva Investors 249,630 236,178 235,309 Other Aviva fund managers 109,332 111,532 99,906
Total Aviva fund managers 358,962 347,710 335,215 379,411 359,429 * Third-party fund under management has been adjusted as a result of a double count of £6,782 million in 2008.
The Group receives income from related parties from transactions made in the normal course of business. Loans to related parties are made on normal arm’s-length commercial terms.
Income from associates predominantly relates to our investments in the Royal Bank of Scotland (RBS) life and collective investment companies listed in note 19(b). Under management service agreements with these associates, our UK life insurance companies provide administration services, the cost of which is recharged to the RBS companies. In addition, our fund management companies provide fund management services to these associates, for which they charge fees based on the level of funds under management. Movements in loans made to our associates may be found in note 19.
Transactions with joint ventures relate to the property management undertakings. At 31 December 2009, there were four such joint ventures, the most material of which are listed in note 18(b). Our interest in these joint ventures comprises a mix of equity and loans, together with the provision of administration services and financial management to many of them. Our UK life insurance companies earn interest on loans advanced to these entities to fund property developments, including shopping, business and distribution centres, and properties in Europe, as well as a film studio development in the UK, movements in which may be found in note 18(a). Our fund management companies also charge fees to these joint ventures for administration services and for arranging external finance.
The related parties’ receivables are not secured and no guarantees were received in respect thereof. The receivables will be settled in accordance with normal credit terms. Details of guarantees, indemnities and warranties provided on behalf of related parties are given in note 51(j).
Key management compensation The total compensation to those employees classified as key management, being those having authority and responsibility for planning, directing and controlling the activities of the Group, including the executive and non-executive directors is as follows: Salary and other short-term benefits 39 38 Post-employment benefits 5 3 Equity compensation plans 16 9 Termination benefits 1 3
Where applicable, the accounting policies of the Company are the same as those of the Group on pages 130 to 142. The notes identified alphabetically on pages 278 to 282 are an integral part of these separate financial statements. Where the same items appear in the Group financial statements, reference is made to the notes (identified alphabetically) on pages 151 to 274.
Financial statements of the Company continued Aviva plc Annual Report and Accounts 2009
Current assets Loans owed by subsidiaries Other amounts owed by subsidiaries Other assets Cash and cash equivalents
Equity Ordinary share capital 28 692 664 655 Preference share capital 31 200 200 200 Called up capital 892 864 855 Share premium account 28b 1,207 1,234 1,223 Merger reserve E 735 735 735 Investment valuation reserve E 6,653 5,770 13,883 Equity compensation reserve E 109 113 89 Retained earnings E 3,360 3,287 3,207 Direct capital instrument 32 990 990 990
Performance reviewAviva plc Financial statements of the Company continued Corporate responsibilityAnnual Report and Accounts 2009 Governance Shareholder information Financial statements IFRS Financial statements MCEV Other information
Where applicable, the accounting policies of the Company are the same as those of the Group on pages 130 to 142. The notes identified alphabetically on pages 278 to 282 are an integral part of these separate financial statements. Where the same items appear in the group financial statements, reference is made to the notes (identified alphabetically) on pages 151 to 274.
Staff costs and other employee related expenditure (see below) Other operating costs Net foreign exchange losses/(gains)
(ii) Staff costs Total staff costs were: Wages and salaries 85 49 Social security costs 9 7 Post-retirement obligations
(iii) Pension costs The Company is one of a number of UK companies being charged for its employees participating in the Aviva Staff Pension Scheme, and its contributions are affected by the financial position of the scheme. There is no contractual agreement or policy for charging the net defined benefit cost for this scheme across the participating Group entities but, instead, this cost is recognised in the financial statements of the main UK employing company. The Company therefore recognises a pension expense equal to its contributions payable in the year for its staff, together with the service cost of any unfunded benefits, within staff costs above. Full disclosure on the Group’s pension schemes is given in the Group consolidated financial statements, note 47.
(iv) Equity compensation plans All transactions in the Group’s equity compensation plans involve options and awards for ordinary shares of the Company. Full disclosure of these plans is given in the Group consolidated financial statements, note 29. The cost of such options and awards is borne by all participating businesses and, where relevant, the Company bears an appropriate charge. As the majority of the charge to the Company relates to directors’ options and awards, for which full disclosure is made in the Directors’ remuneration report, no further disclosure is given here on the grounds of immateriality.
Current tax: For this year 151 362 Prior year adjustments 7 5
(ii) Tax charged to other comprehensive income No tax was charged or credited to other comprehensive income in 2008 or 2009.
The Company has unrecognised other temporary differences of £nil (2008: £30 million). The taxation of foreign profits and worldwide debt cap rules were enacted in the Finance Act 2009. Under the foreign profits rules, a dividend exemption was introduced which largely exempts dividends received on or after 1 July 2009 from UK corporation tax. The Company has applied this legislation in arriving at its tax results for 2009. The worldwide debt cap rules apply from 1 January 2010 and are not expected to apply to the Company due to an exemption for qualifying financial services groups.
Aviva plc Notes to the Company’s financial statements continued Annual Report and Accounts 2009
Investment Equity Restated Merger valuation compensation Retained reserve reserve reserve earnings £m £m £m £m
Balance at 1 January 2008 735 13,883 89 3,207 Arising in the year: Profit for the year — — — 858 Fair value losses on investments in subsidiaries — (8,113) — — Actuarial gains on pension schemes — — — 2 Dividends and appropriations — — — (975) Reserves credit for equity compensation plans — — 39 — Shares issued in lieu of dividends — — — 170 Trust shares distributed in the year — — — (6) Issue of share capital under equity compensation scheme — — (15) 15 Aggregate tax effect — — — 16 Balance at 31 December 2008 735 5,770 113 3,287 Arising in the year: Profit for the year — — — 571 Fair value gains on investments in subsidiaries — 883 — — Actuarial losses on pension schemes — — — (3) Dividends and appropriations — — — (853) Reserves credit for equity compensation plans — — 56 — Shares issued in lieu of dividends — — — 299 Trust shares distributed in the year — — — (18) Issue of share capital under equity compensation scheme — — (60) 60 Aggregate tax effect — — — 17
Tax of £17 million (2008: £16 million) is deductible in respect of coupon payments of £61 million on the direct capital instruments.
F – Borrowings The Company’s borrowings comprise: Subordinated debt 9.5% guaranteed bonds 2016 Commercial paper
Where subordinated debt is undated, the interest payments have not been included beyond 15 years. Annual interest payments for these borrowings are £74 million (2008: £77 million).
The business of the Company is managing its investments in subsidiary and joint venture operations. Its risks are considered to be the same as those in the operations themselves and full details of the risk management policies are given in the Group consolidated financial statements, note 56. Such investments are held by the Company at fair value in accordance with accounting policy D.
The Company faces exposure to foreign currency risk through some of its borrowings which are denominated in euros and US dollars. However, most of these borrowings have been on-lent to a subsidiary which holds financial investments in these currencies, generating the net investment hedge described in the Group consolidated financial statements, note 57(a)(iii).
IFRS and MCEV bases 287 Reconciliation of IFRS total equity to MCEV
Condensed consolidated income statement – MCEV basis For the year ended 31 December 2009 €m £m £m
(197) Other operations and regional costs2 (173) (163) (123) Corporate centre (108) (141) (723) Group debt costs and other interest (636) (379)
3,957 Operating profit before tax attributable to shareholders’ profits 3,483 3,367 Adjusted for the following: 862 Economic variances on long-term business 759 (12,469) 108 Short-term fluctuation in return on investments on non-long-term business 95 (819)
(153) Amortisation and impairment of intangibles (135) (108) 82 Profit on the disposal of subsidiaries and associates 72 7
3.Exceptional items of £(248) million for the year ended to 31 December 2009 are £175 million in relation to the reattribution of the inherited estate in the UK, the £261 million adverse impact of legislation changes on pensions in Poland, an increase in the latent claims reserves in North America of £60 million and expenses of £102 million for the migration of all remaining local brands, with the exception of Delta Lloyd and RAC, to the single global Aviva brand.
Operating earnings per share on an MCEV basis after tax, attributable to ordinary shareholders of Aviva plc 89.5c Basic (pence per share) 78.8p 83.4p 88.8c Diluted (pence per share) 78.1p 82.7p
Condensed consolidated statement of comprehensive income – MCEV basis For the year ended 31 December 2009 €m £m £m 3,335 Profit/(loss) for the year 2,935 (7,707)
(1,295) Actuarial losses on pension schemes (1,140) (929) 27 Actuarial gains on pension schemes transferred to unallocated divisible surplus and other movements 24 78 101 Impairment losses 89 81 (1,125) Foreign exchange rate movements (991) 3,052 54 Aggregate tax effect – shareholder tax 48 66
(2,370) Other comprehensive income, net of tax (2,086) 2,062 965 Total comprehensive income for the year 849 (5,645)
Attributable to: 1,103 Equity shareholders of Aviva plc 971 (6,298) (138) Minority interests (122) 653
(969) Dividends and appropriations (853) (975) 1 Issues of share capital 1 20 340 Shares issued in lieu of dividends 299 170 7 Capital contributions from minority shareholders 6 36 1,057 Net increase to total equity following Delta Lloyd IPO 930 — (124) Minority share of dividends declared in the year (109) (106)
(2) Minority interest in (disposed)/acquired subsidiaries (2) 43 (126) Changes in minority interest in existing subsidiaries (111) (65)
Reconciliation of shareholders’ equity on IFRS and MCEV bases For the year ended 31 December 2009 2009 IFRS Adjustment MCEV £m £m £m £m
Ordinary share capital 692 — 692 Capital reserves 4,478 — 4,478 Other reserves 1,829 213 2,042 Shares held by employee trusts (68) — (68) Retained earnings 3,425 — 3,425 Additional retained earnings on an MCEV basis — 2,466 2,466
Ordinary share capital 664 — 664 Capital reserves 4,505 — 4,505 Other reserves 2,141 1,429 3,570 Shares held by employee trusts (33) — (33) Retained earnings 3,902 — 3,902 Additional retained earnings on an MCEV basis — 554 554
MCEV net worth 12,213 10,809 MCEV value of in-force 6,226 5,770
MCEV1 18,439 16,579 1.Comprises embedded value of £15,001 million (31 December 2008: £14,212 million) and minority interest in long-term business assets of £3,438 million (31 December 2008: £2,367 million).
Opening group MCEV 14,212 2,639 16,851 (2,499) 140 14,352 Opening adjustments — — — — — —
Operating MCEV earnings 2,178 — 2,178 15 15 2,193 Non-operating MCEV earnings 1,215 (99) 1,116 (496) (595) 620
Other movements in IFRS net equity — (266) (266) (839) (1,105) (1,105) Capital and dividend flows (250) — (250) (283) (283) (533) Foreign exchange variances (743) (218) (961) 224 6 (737) Acquired/divested businesses (1,611) (1) (1,612) 1,047 1,046 (565)
Equity attributable to ordinary shareholders of Aviva plc on an MCEV basis 13,035 1.Covered business represents the business that the MCEV calculations cover, as detailed in the Basis of preparation note. The embedded value is presented net of minority interests and tax. 2.Non-covered but related to life business represents the adjustments to the MCEV, including goodwill, to calculate the long-term business net assets on an MCEV basis. An analysis of net assets on an MCEV basis gross of minority interests is provided on page 298. 3.Net assets for the total life businesses on an MCEV basis presented net of minority interests.
Covered to life Total life relating to covered Restated business1 business2 business3 non-life business Total 2008 £m £m £m £m £m £m £m A B A+B C B+C A+B+C
Opening group MCEV 18,389 2,059 20,448 977 3,036 21,425 Opening adjustments — — — — — —
Other movements in IFRS net equity — (28) (28) (994) (1,022) (1,022) Capital and dividend flows (63) — (63) (712) (712) (775) Foreign exchange variances 2,717 567 3,284 (895) (328) 2,389 Acquired/divested businesses 87 94 181 (181) (87) —
Covered business includes the group’s share of our joint ventures including our arrangement with The Royal Bank of Scotland Group (RBSG) and our associated undertakings in India, China, Turkey, Malaysia, Taiwan and South Korea. In addition, the results of group companies providing significant administration, fund management and other services and of group holding companies have been included to the extent that they relate to covered business. Together these businesses are referred to as “Life and related businesses”.
New business premiums New business premiums include: — premiums arising from the sale of new contracts during the period; — non-contractual additional premiums, including future Department of Work and Pensions (DWP) rebate premiums; and — expected renewals on new contracts and expected future contractual alterations to new contracts.
The group’s definition of new business under MCEV includes contracts that meet the definition of “non-participating investment” contracts under IFRS.
Life and pensions operating earnings For life and pensions operating earnings, Aviva uses normalised investment returns. The use of asset risk premia reflects management’s long-term expectations of asset returns in excess of the swap yield from investing in different asset classes.
Within the 2008 results, the normalised investment returns were calculated by reference to the one year swap rate in the relevant currency plus an appropriate risk premium for bonds, equities and properties. For 2009, the group considers that the return over the typical duration of the assets held is more appropriate and is more consistent with the group’s expectation of longterm rates of return.
Therefore, the expected return on equities and properties has been calculated by reference to the 10 year swap rate in the relevant currency plus an appropriate risk premium. The expected return on bonds has been calculated by reference to the swap rate consistent to the duration of the backing assets in the relevant currency plus an appropriate risk premium.
This assumption does not impact the embedded value as asset risk premia are not recognised until earned.
MCEV methodology Overview Under the MCEV methodology, profit is recognised as it is earned over the life of products defined within covered business. The total profit recognised over the lifetime of a policy is the same as under the IFRS basis of reporting, but the timing of recognition is different.
The embedded value is calculated on an after-tax basis applying current legislation and practice together with future known changes. Where gross results are presented, these have been calculated by grossing up post-tax results at the full rate of corporation tax for each country based on opening period tax rates, apart from the US, where a nil tax rate has been used in the post-tax results, and consequently for ‘grossing up’.
Net worth The net worth is the market value of the shareholders’ funds and the shareholders’ interest in the surplus held in the non-profit component of the long-term business funds, determined on a statutory solvency basis and adjusted to add back any nonadmissible assets, and consists of the required capital and free surplus.
This methodology reflects the level of capital considered by the directors to be appropriate to manage the business, and includes any additional shareholder funds not available for distribution, such as the reattributed inherited estate in the UK. The same definition of required capital is used for both existing and new business.
Value of in-force covered business (VIF) The value of in-force covered business consists of the following components: — present value of future profits; — time value of financial options and guarantees; — frictional costs of required capital; and — cost of residual non-hedgeable risks.
M1 – Basis of preparation continued Time value of financial options and guarantees (TVOG) The PVFP calculation is based on a single (base) economic scenario. However, a single scenario cannot appropriately allow for the effect of certain product features. If an option or guarantee affects shareholder cash flows in the base scenario, the impact is included in the PVFP and is referred to as the intrinsic value of the option guarantee.
Stochastic modelling typically involves projecting the future cash flows of the business under thousands of economic scenarios that are representative of the possible future outcomes for market variables such as interest rates and equity returns. Under a market consistent approach, the economic scenarios generated reflect the market’s tendency towards risk aversion. Allowance is made, where appropriate, for the effect of management and/or policyholder actions in different economic conditions on future assumptions such as asset mix, bonus rates and surrender rates.
Stochastic models are calibrated to market yield curves and volatility levels at the valuation date. Tests are performed to confirm that the scenarios used produce results that replicate the market price of traded instruments.
The methodology includes a cost of non-hedgeable risk equivalent to a charge of 2.5% applied to group-diversified capital. The cost has been calculated as a 1.5% charge applied to business unit-level capital that is, allowing for diversification within a business unit, but not between business units. The charge was set so as to give an aggregate allowance that was in excess of the expected operational risk costs arising from the in-force covered business over its remaining lifetime.
In addition to the operational risk allowance, financial non-hedgeable risks and other product level asymmetries have been allowed for. These allowances are not material as significant financial non-hedgeable risks and product level asymmetries are either modelled explicitly and included in the TVOG or are included in the PVFP through the use of appropriate best estimate assumptions.
Asymmetric risks allowed for in the TVOG or PVFP are described earlier in the Basis of preparation. No allowance has been made within the cost of non-hedgeable risk for symmetrical risks as these are diversifiable by investors.
For profit sharing business in continental Europe, where policy benefits and shareholder value depend on the timing of realising gains, the apportionment of unrealised gains between policyholders and shareholders reflect contractual requirements as well as existing practice. Under certain economic scenarios where additional shareholder injections are required to meet policyholder payments, the average additional cost has been included in the TVOG.
As the MCEV methodology incorporates the impact of profits and losses arising from subsidiary companies providing administration, investment management and other services to the group’s life companies, the equivalent profits and losses have been removed from the relevant segment (non-insurance or fund management) and are instead included within the results of life and related businesses. In addition, the underlying basis of calculation for these profits has changed from the IFRS basis to the MCEV basis.
The capitalised value of the future profits and losses from such service companies are included in the embedded value and value of new business calculations for the relevant business, but the net assets (representing historical profits and other amounts) remain under non-insurance or fund management. In order to reconcile the profits arising in the financial period within each segment with the assets on the opening and closing statement of financial positions, a transfer of IFRS profits from life and related business to the appropriate segment is deemed to occur. An equivalent approach has been adopted for expenses within our holding companies. The assessments of goodwill, intangibles and pension schemes relating to life insurance business utilise the IFRS measurement basis.
Restatements (i) Following a review, the scope of business using adjusted swap rates has been increased to cover all contracts that contain features similar to immediate annuity contracts. Prior year results have been restated to include the effect of adjusting the risk free rates on paid-up and single premium group deferred annuity business in Delta Lloyd and immediate annuities in France and Spain. At 31 December 2008, this increased the embedded value by £467 million and increased total earnings by £234 million in 2008. The impact of these changes by country at 31 December 2008 was Delta Lloyd (£352 million), France (£48 million) and Spain (£67 million).
(iii)The 2008 embedded value has been restated for the US, primarily reflecting modelling corrections in the valuation of assets on a market consistent basis identified in 2009.
(v) During 2009, the Group’s Dutch subsidiary, Delta Lloyd, carried out a review of the way it had been applying IAS 19, Employee Benefits, in its own financial statements where the corridor method of smoothing actuarial gains and losses in its pension schemes is followed; in accounting for its self-insured pension obligations and intercompany eliminations; and in its reporting to Group where the corridor accounting is reversed. The review concluded that errors had been made locally in applying IAS 19 on the transition to IFRS and in subsequent years, such that gains on certain assets had been reported in provisions, to be released over time, rather than through other comprehensive income. The impact of correcting these errors is to reduce provisions by £129 million as at 1 January 2008, increase deferred tax liabilities by £33 million and increase retained earnings at that date by £96 million.
The results and cash flows of these operations have been translated at the average rates for that period and the assets and liabilities have been translated at the period end rates. Please refer to note 1 on page 151 of the IFRS financial statements.
M2 – Geographical analysis of MCEV operating earnings Gross of tax and minority interests Other Aviva Delta North Asia 2009 UK France Ireland Italy Poland Spain Europe Europe Lloyd Europe America Asia Australia Pacific Total £m £m £m £m £m £m £m £m £m £m £m £m £m £m £m £m
Value of new business 247 169 12 124 55 151 10 521 (103) 418 16 11 18 29 710 Earnings from existing business – expected existing business
– expected existing business contribution (in excess of reference rate) 402 282 18 5 4 119 — 428 270 698 249 15 1 16 1,365
Experience variances – maintenance expense1 37 — 6 (2) 14 (10) 5 13 (3) 10 — 6 (1) 5 52 – project and other related expenses1 (34) (1) (7) — — (7) (7) (22) (42) (64) (35) — — — (133) – mortality/morbidity2 6 50 8 2 12 (6) 8 74 (22) 52 5 5 8 13 76 – lapses3 (30) 53 (23) (46) 17 (52) (17) (68) 13 (55) (17) (38) — (38) (140) – other4 (8) (80) 1 116 7 1 1 46 51 97 (40) — (3) (3) 46
Expected return on shareholders’ net worth 138 66 16 57 8 26 7 180 88 268 89 11 6 17 512
Earnings before tax and minority interests 787 785 64 216 499 113 27 1,704 531 2,235 266 45 56 101 3,389 1.Maintenance expense experience in the UK relates to profits from existing business administration. Project and other related expenses in the UK reflect project costs associated with strategic initiatives, including developments designed to offer a wider range of products to customers, and the simplification of systems and processes. Project and other related expenses in Delta Lloyd relate to integration costs in Belgium.
5.Favourable expense assumption changes reflect the impact of cost reductions in Delta Lloyd and Poland, together with the impact of revisions to expense allocations in Delta Lloyd. The adverse impact in Spain relates to the capitalisation of certain governance costs in respect of bancassurance joint ventures.
Aviva plc MCEV financial statements continued Annual Report and Accounts 2009
– expected existing business contribution (in excess of reference rate) 210 38 8 6 8 22 — 82 78 160 53 4 2 6 429
Experience variances – maintenance expense 20 2 (2) (6) 6 (1) (1) (2) (35) (37) — (2) — (2) (19) – project and other related expenses2 (62) (10) (7) — — (6) (6) (29) (26) (55) (14) — — — (131) – mortality/morbidity3 18 42 2 2 20 4 1 71 19 90 — 5 2 7 115 – lapses4 (23) (8) (7) (15) 26 (24) (10) (38) (11) (49) (5) (4) 3 (1) (78) – other5 7 (45) (42) (15) (8) 2 (1) (109) 34 (75) (31) (1) (11) (12) (111)
Expected return on shareholders’ net worth 166 107 34 63 13 23 8 248 204 452 61 14 8 22 701
M2 – Geographical analysis of MCEV operating earnings continued Net of tax and Other Aviva Delta North Asia minority interests UK France Ireland Italy Poland Spain Europe Europe Lloyd Europe America Asia Australia Pacific Total 2009 £m £m £m £m £m £m £m £m £m £m £m £m £m £m £m
– expected existing business contribution (in excess of reference rate) 289 170 12 2 3 44 — 231 171 402 249 12 — 12 952
Operating assumption changes: – maintenance expense5 — (14) 3 (10) 38 (69) 7 (45) 197 152 (9) (9) 6 (3) 140 – project and other related expenses — — — — — (5) — (5) — (5) — — — — (5) – mortality/morbidity6 4 42 4 4 42 (3) 1 90 1 91 (20) — 3 3 78 – lapses7 (36) (13) (6) (12) 58 (24) (5) (2) (25) (27) (105) (6) 3 (3) (171) – other8 (16) 2 8 1 (1) — (3) 7 (48) (41) 96 (5) (3) (8) 31
Expected return on shareholders’ net worth 100 38 11 18 6 10 6 89 57 146 89 7 4 11 346
Earnings after tax and minority interests 567 470 41 68 351 (2) 23 951 324 1,275 266 30 40 70 2, 178 1.Maintenance expense experience in the UK relates to profits from existing business administration. Project and other related expenses in the UK reflect project costs associated with strategic initiatives, including developments designed to offer a wider range of products to customers, and the simplification of systems and processes. Project and other related expenses in Delta Lloyd relate to integration costs in Belgium.
5.Favourable expense assumption changes reflect the impact of cost reductions in Delta Lloyd and Poland, together with the impact of revisions to expense allocations in Delta Lloyd. The adverse impact in Spain relates to the capitalisation of certain governance costs in respect of bancassurance joint ventures 6.Favourable mortality assumption changes in France, Poland reflecting recent experience. The adverse impact in the Delta Lloyd reflects the net impact of using updated mortality tables in the Netherlands, Germany and Belgium, following the issuance of revised advice from the respective actuarial associations.
M2 – Geographical analysis of MCEV operating earnings continued Net of tax and Other Aviva Delta North Asia minority interests UK France Ireland Italy Poland Spain Europe Europe Lloyd Europe America Asia Australia Pacific Total 2008 Restated £m £m £m £m £m £m £m £m £m £m £m £m £m £m £m
– expected existing business contribution (in excess of reference rate) 151 24 5 2 6 9 — 46 56 102 35 2 1 3 291
Experience variances – maintenance expense 15 1 (1) (2) 4 — (1) 1 (22) (21) — (3) — (3) (9) – project and other related expenses2 (45) (7) (5) — — (4) (5) (21) (18) (39) (9) — — — (93) – mortality/morbidity3 13 26 1 1 15 — 1 44 12 56 — 4 1 5 74 – lapses4 (17) (4) (5) (5) 18 (10) (9) (15) (1) (16) (2) (3) 2 (1) (36) – other5 5 (29) (27) (6) (6) 1 (1) (68) 29 (39) (20) (1) (8) (9) (63)
Expected return on shareholders’ net worth 119 66 23 20 10 10 6 135 145 280 39 8 6 14 452
(pre tax £20 million) to reflect rising unemployment. In France, persistency assumptions have been weakened following continual favourable experience on AFER products. 9. In the UK, other operating assumption changes include the impact of the with-profit special distribution. In Ireland, other assumption changes reflect a reduction in the assumed future tax charges. In Poland, other assumptions reflect a change in the pattern of future mortality charging structure. 10. Other operating variances in France are mainly in respect of the impact of the mutualisation of funds following the merger of two legal entities. In Delta Lloyd, changes are mainly in respect of aligning the profit sharing policy for existing group business in Belgium, following the acquisition of Swiss Life Belgium.
M3 – Geographical analysis of fund management operating earnings The summarised consolidated income statement – MCEV basis, includes earnings from the group’s fund management operations as analysed below. This excludes the proportion of the results of Aviva Investors fund management businesses and other fund management operations within the group that arise from the provision of fund management services to our Life businesses. These results are included within the Life MCEV operating earnings.
M4 – Analysis of other operations and regional costs Where subsidiaries provide services to our life business, that proportion has been excluded. These results are included within the Life MCEV operating return.
Regional Other Regional Other costs operations Total costs Operations Total £m £m £m £m £m £m
United Kingdom — (28) (28) — (12) (12) Aviva Europe (36) (41) (77) (28) (37) (65) Delta Lloyd — (30) (30) — (51) (51) Europe (36) (71) (107) (28) (88) (116) North America (19) 3 (16) (14) 2 (12) Asia Pacific (20) (2) (22) (23) — (23)
M5 – Segmentation of condensed consolidated statement of financial position Restated
Total assets before acquired value of in-force long-term business 307,117 45,880 352,997 305,562 46,634 352,196
Acquired additional value of in-force long-term business 1,394 — 1,394 2,366 — 2,366
Total assets included in the IFRS statement of financial position 308,511 45,880 354,391 307,928 46,634 354,562
Liabilities of the long-term business (291,194) — (291,194) (291,347) — (291,347) Liabilities of the general insurance and other businesses — (48,111) (48,111) — (48,642) (48,642)
Net assets on a statutory IFRS basis 17,317 (2,231) 15,086 16,581 (2,008) 14,573 Additional value of in-force long-term business1 3,376 — 3,376 2,859 — 2,859
IFRS basis retained earnings 3,425 3,902 Additional MCEV basis retained earnings 2,466 554
Equity attributable to ordinary shareholders of Aviva plc on an MCEV basis 13,035 13,162
MCEV basis total equity 18,462 17,432 1.The analysis between the group’s and minority interests’ share of the additional value of in-force long-term business is as follows: £m
Additional value of in-force long-term business 2.Analysis of net assets on an MCEV basis is made up as follows: £m
Performance reviewAviva plc MCEV financial statements continued Corporate responsibilityAnnual Report and Accounts 2009 Governance Shareholder information Financial statements IFRS Financial statements MCEV Other information
Expected existing business contribution (in excess of reference rate) — — 952 952
Closing MCEV 2,204 7,546 5,251 15,001 1.Required capital is shown net of implicit items permitted by local regulators to cover minimum solvency margins. 2. Included within capital and dividend flows is the transfer to Life and related businesses from other segments consisting of service company profits and losses during the reported period that have emerged from the value of in-force. Since the “look through” into service companies includes only future profits and losses, these amounts must be eliminated from the closing embedded value.
We have reported other non operating variances of £264 million for 2009 (2008: loss £232 million). This represents the impact on the Life MCEV of the reattribution of the inherited estate in the UK and the adverse impact of legislation changes relating to the capping of management changes on pension funds in Poland. In 2008 the impact related to the settlement agreed by Delta Lloyd for its unit-linked policyholders, following an industry-wide challenge on the level of fees. Acquired/divested businesses consist of the disposal of our Australian life and pensions business and the IPO of Delta Lloyd in 2009.
Expected existing business contribution (in excess of reference rate) — — 291 291
MCEV financial statements continued Aviva plc Annual Report and Accounts 2009
M7 – Life MCEV operating earnings FY 2009 FY 2008 £m £m
Net of Gross of Net of Gross of minorities minorities minorities minorities and tax and tax and tax and tax £m £m £m £m
Value of new business 375 710 416 772 Life and pensions operating return 2,178 3,389 1,760 2,810 Life and pensions earnings 3,393 4,512 (6,918) (9,988)
MCEV financial statements continued Performance review Corporate responsibility Governance Shareholder information Financial statements IFRS Financial statements MCEV Other information
United Kingdom 660 4.8 3,180 8,678 11,858 France 95 6.9 651 3,229 3,880 Ireland 129 4.3 557 742 1,299 Italy 132 6.0 796 1,535 2,331 Poland 106 11.2 1,183 659 1,842 Spain1 174 6.0 1,042 1,447 2,489 Other Europe 117 7.7 906 108 1,014 Aviva Europe 753 6.8 5,135 7,720 12,855 Delta Lloyd 197 9.0 1,775 2,322 4,097 Europe 950 7.3 6,910 10,042 16,952 North America 68 8.8 600 5,115 5,715 Asia 174 5.4 941 410 1,351 Australia 60 3.6 217 152 369 Asia Pacific 234 5.0 1,158 562 1,720
Total life and pensions 1,912 6.2 11,848 24,397 36,245 1. The restatement in Spain of £38 million in 2008 is due to the reclassification of incremental premiums on annual renewable term contracts from new business to existing business.
United Kingdom 8,914 11,858 247 204 2.8% 1.7% France 4,891 3,880 169 135 3.5% 3.5% Ireland 1,072 1,299 12 15 1.1% 1.2% Italy 3,607 2,331 124 71 3.4% 3.0% Poland 1,079 1,842 55 65 5.1% 3.5% Spain1 2,454 2,489 151 202 6.2% 8.1% Other Europe 420 1,014 10 29 2.4% 2.9% Aviva Europe 13,523 12,855 521 517 3.9% 4.0% Delta Lloyd 3,665 4,097 (103) (47) (2.8)% (1.1)% Europe 17,188 16,952 418 470 2.4% 2.8% North America 4,545 5,715 16 55 0.4% 1.0% Asia Pacific 1,356 1,720 29 43 2.1% 2.5%
United Kingdom 8,914 11,858 177 147 2.0% 1.2% France 4,111 3,281 94 79 2.3% 2.4% Ireland 804 974 8 10 1.0% 1.0% Italy 1,614 980 38 21 2.4% 2.1% Poland 933 1,604 39 46 4.2% 2.9% Spain1 1,326 1,357 51 68 3.8% 5.0% Other Europe 420 1,014 8 24 1.9% 2.4% Aviva Europe 9,208 9,210 238 248 2.6% 2.7% Delta Lloyd 3,235 3,868 (78) (48) (2.4)% (1.2)% Europe 12,443 13,078 160 200 1.3% 1.5% North America 4,545 5,715 16 36 0.4% 0.6% Asia Pacific 1,348 1,713 22 33 1.6% 1.9%
Total life and pensions 27,250 32,364 375 416 1.4% 1.3% 1. The restatement in Spain of £38 million in 2008 is due to the reclassification of incremental premiums on annual renewable term contracts from new business to existing business.
United Kingdom 14% 109 133 242 8 France 9% 53 169 222 9 Ireland 6% 56 23 79 10 Italy 10% 27 156 183 7 Poland 22% 20 9 29 5 Spain 26% 25 72 97 3 Other Europe 12% 43 7 50 8 Aviva Europe 13% 224 436 660 7 Delta Lloyd 6% 116 140 256 33 Europe 11% 340 576 916 15 North America 7% 162 376 538 14 Asia 6% 58 25 83 25 Australia 11% 2 34 36 8 Asia Pacific 8% 60 59 119 20 Total 10.0% 671 1,144 1,815 14
Total Internal rate Initial Required invested Payback of return capital capital capital period 31 December 2008 % £m £m £m years
United Kingdom 14% 157 136 293 8 France 9% 35 118 153 9 Ireland 8% 53 24 77 9 Italy 14% 9 48 57 6 Poland 21% 31 12 43 4 Spain 37% 28 75 103 3 Other Europe 13% 57 9 66 6 Aviva Europe 17% 213 286 499 7 Delta Lloyd 5% 277 244 521 n/a Europe1 11% 490 530 1,020 7 North America 11% 124 489 613 6 Asia 13% 64 23 87 8 Australia 12% 3 30 33 8 Asia Pacific 12% 67 53 120 8
M11 – Free surplus emergence Existing New Total business business business
Impact of experience Reduction variances Release of Total in free and required existing surplus Total new
Transfer assumption capital to business from business Total free from VIF to Return on changes on free surplus Impact on required surplus surplus net worth net worth net worth surplus generation net worth capital generation generation 2009 £m £m £m £m £m £m £m £m £m
Europe 619 280 (92) 325 1,132 (438) (422) (860) 272 North America 194 39 (24) 197 406 (118) (475) (593) (187) Asia Pacific 73 14 1 (12) 76 (55) (53) (108) (32)
M12 – Maturity profile of business (a) Total in-force business To show the profile of the VIF emergence, the value of VIF in the statements on financial position has been split into five year tranches depending on the date when the profit is expected to emerge.
United Kingdom 289 629 490 288 369 2,065 2,065 Aviva Europe 1,613 1,149 656 350 342 4,110 3,271 Delta Lloyd 36 99 118 101 (156) 198 68
Europe 1,802 1,444 779 460 408 4,893 3,847 North America (66) (245) (238) (211) (342) (1,446) (1,446) Asia Pacific 108 71 47 28 16 270 262
Total gross of Total net of 2009 minority minority £m 0-5 6-10 11-15 16-20 20+ interest interest
United Kingdom 107 30 34 19 40 230 230 Aviva Europe 286 126 80 37 43 572 414 Delta Lloyd (20) 45 49 38 (70) 42 35
Europe 266 171 129 75 (27) 614 449 North America 20 6 64 52 66 208 208 Asia Pacific 46 14 8 4 5 77 76
3.Aviva USA’s holding company debt amounting to £1,128 million at 31 December 2008 has been included within non-covered business.
M14 – Risk allowance within present value of in-force (VIF) Within the VIF in the tables, there are additional allowances for risks not included within the basic present value of future profits calculation.
United Kingdom 2,572 (285) (197) (25) 2,065 France 2,048 (144) (155) (497) 1,252 Ireland 517 (9) (21) — 487 Italy 189 (22) (11) (27) 129 Poland 1,050 (17) (74) (9) 950 Spain 326 (16) (28) (17) 265 Other Europe 198 (3) (5) (2) 188 Aviva Europe 4,328 (211) (294) (552) 3,271 Delta Lloyd 487 (129) (80) (210) 68 Europe 4,815 (340) (374) (762) 3,339 North America 80 (9) (45) (420) (394) Asia 324 (19) (30) (34) 241 Australia — — — — — Asia Pacific 324 (19) (30) (34) 241
M14 – Risk allowance within present value of in-force (VIF) continued Within the VIF in the tables, there are additional allowances for risks not included within the basic present value of future profits calculation.
The cash flows projected are the expected future cash flows including expected investment cash flows from equities, bonds and properties earning a risk premium in excess of risk free, statutory reserves and required capital. The risk premiums used are consistent with those used in the expected existing business contribution within operating earnings. As the risk premiums are positive, a discount rate higher than risk-free is required to give a value equal to the market-consistent embedded value.
United Kingdom 10.6% France 10.8% Ireland 4.8% Italy 9.2% Poland 7.1% Spain 8.4% Other Europe 8.9% Aviva Europe 8.9% Delta Lloyd 8.1% Europe 8.6% North America 41.2% Asia 9.2% Australia — Asia Pacific 9.2%
The “look-through” value attributable to fund management is based on the level of after-tax profits expected to be earned in the future over the outstanding term of the covered business in respect of services provided to the group’s life operations. The MCEV basis income statement excludes the actual statutory basis profits arising from the provision of fund management services to the group’s life businesses. The MCEV income statement records the impact on new business, experience profit or loss compared to the assumed profitability, the expected return on the in-force value and the effect on the in-force value of changes to economic assumptions.
M17 – Summary of minority interest in life and related businesses’ MCEV results Share-
Value of new business, after tax 16 2 47 5 56 126 3 129 — 129 375 504 Life MCEV operating earnings after tax 45 14 79 53 81 272 64 336 1 336 2,178 2,515 Life MCEV (loss)/earnings after tax 51 1 64 17 57 190 (90) 100 — 100 3,393 3,493 Closing covered businesses’
Restated France Ireland Italy Poland Spain Europe Lloyd Europe Pacific Total interest Group 2008 £m £m £m £m £m £m £m £m £m £m £m £m
Value of new business, after tax 9 3 27 7 73 119 12 131 — 131 416 547 Life MCEV operating earnings after tax 29 17 50 24 102 222 5 227 — 227 1,760 1,987 Life MCEV (loss)/earnings after tax 18 (21) (30) 20 (36) (49) (22) (71) — (71) (6,918) (6,989) Closing covered businesses’
The minority interest for Delta Lloyd has increased due to the IPO in 2009.
Required capital is shown as a multiple of the EU statutory minimum solvency margin or equivalent. The adjustments made to swap rates to derive a risk-free rate for immediate annuity type contracts and all US contracts are shown below the reference rate table. The principal economic assumptions used are as follows: Reference rate (spot, swap rates) and expense inflation United Kingdom
Expense inflation 2.4% 2.5% 3.0% 1.The economic assumptions used in Delta Lloyd differ from those in the Eurozone as the Dutch bank swap rate is used by Delta Lloyd.
Reference rate 1 year 4.5% 4.4% 6.2% 5 years 5.8% 4.3% 5.8% 10 years 5.8% 4.2% 5.5% 15 years 5.7% 4.1% 5.4% 20 years 5.5% 4.0% 5.4%
Reference rate 1 year 0.7% 1.3% 4.2% 5 years 3.1% 2.2% 4.2% 10 years 4.2% 2.6% 4.7% 15 years 4.6% 2.9% 4.9% 20 years 4.8% 2.9% 5.0%
M18 – Principal economic assumptions continued For service companies, expense inflation relates to the underlying expenses rather than the fees charged to the life company.
UK 0.90%/0.45% 1.10%/0.95% 1.50% 1.45% 0.85% 0.55% 1.00% 1.50% France n/a n/a n/a n/a n/a n/a 0.30% 1.00% Spain 0.30% 0.75% 1.00% 0.95% 0.55% 0.35% 0.30% 1.00% Delta Lloyd 0.20% 0.40% 1.50% 0.75% 0.45% 0.30% 0.15% 0.80% US immediate annuities 1.05% 1.50% 3.00% 2.00% 0.65% 0.55% 0.65% 3.00% US deferred annuities and all other contracts 0.90% 1.25% 2.50% 1.50% 0.65% 0.55% 0.55% 2.50%
The use of asset risk premia only impacts operating earnings as expected returns reflect management’s long-term expectations of asset returns in excess of the reference rate from investing in different asset classes. This assumption does not impact the embedded value or value of new business as asset risk premia are not recognised until earned. The asset risk premia set out in the table below are added to the ten year swap rate to calculate expected returns.
2.Required capital in Italy under MCEV is 184% of the EU minimum for Eurovita and 115% for other companies.
4.This capital level is the aggregate capital required for Delta Lloyd.
Model – Delta Lloyd In Delta Lloyd, yield curves are based on De Nederlandsche Bank (DNB) yield curve data.
For many businesses, including US, France and Delta Lloyd, the most important assets are fixed rate bonds of various durations.
Summary statistics Swaption implied volatilities The implied volatility is that determined by Black-Scholes’ formula to reproduce the market price of the option. The following table sets out the model swaption implied volatilities.
Option length 10 years 15 years 20 years 25 years 10 years 15 years 20 years 25 years
Equity implied volatilities The implied volatility is that determined by the Black-Scholes’ formula to reproduce the market price of the option. The following tables set out the model equity implied volatilities.
Non-hedgeable risk A charge of 2.5% has been applied to the group-diversified capital required on a 1-in-200 one-year basis over the remaining lifetime of in-force business.
(c) Other assumptions Valuation of debt Borrowings in the MCEV consolidated statement of financial position are valued on an IFRS basis, consistent with the primary financial statements. At 31 December 2009 the market value of the group’s external debt, subordinated debt, preference shares including General Accident plc preference shares of £250 million (classified as minority interests) and direct capital instrument was £6,634 million (31 December 2008: £4,911 million).
Market value of external debt, subordinated debt, preference shares and direct capital instrument 6,634 4,911
M19 – Sensitivity analysis (a) Economic assumptions The following tables show the sensitivity of the embedded value and the value of new business to: — 10 basis point increase in the adjustment to risk free rates for immediate annuity type contracts and all US contracts; — one and two percentage point increase and decrease in the risk-free rate, including all consequential changes (including assumed investment returns for all asset classes, market values of fixed interest assets, risk discount rates); — 10% increase and decrease in market values of equity and property assets; — 25% increase in equity and swaption volatilities; — 50 basis point increase and decrease in credit spreads; and — decrease in the level of required capital to 100% EU minimum (or equivalent).
For new business, the sensitivities reflect the impact of a change immediately after inception of the policy. In general, the magnitude of the sensitivities will reflect the size of the embedded values, though this will vary as the sensitivities have different impacts on the different components of the embedded value. In addition, other factors can have a material impact, such as the nature of the options and guarantees, as well as the types of investments held.
The credit spread sensitivities assume that the change relates to credit risk and not liquidity risk; in practice, credit spread movements may be partially offset due to changes in liquidity risk.
Sensitivities will also vary according to the current economic assumptions, mainly due to the impact of changes to both the intrinsic cost and time value of options and guarantees. Options and guarantees are the main reason for the asymmetry of the sensitivities where the guarantee impacts to different extents under the different scenarios. This can be seen in the sensitivity of a 1%–2% movement in the interest rate for Delta Lloyd and US, where there is a significant amount of business with investment return guarantees.
Embedded value Interest rates 10bp increase in adjustment 2009 As reported to risk-free 1% 2% 2% Embedded value on page 304 rates 1% increase decrease increase decrease (net of tax and minority interest) £m £m £m £m £m £m
Swaption EU implied minimum 2009 As reported volatilities 50bps 50bps capital or Embedded value on page 304 25% increase increase decrease equivalent (net of tax and minority interest) £m £m £m £m £m
United Kingdom 177 11 (7) 7 (14) 13 France 94 — 7 (6) 19 (10) Ireland 8 — 1 (2) 2 (2) Italy 38 — (2) 2 (4) — Poland 39 — (2) 3 (5) 6 Spain 51 1 (2) 2 (3) 2 Other Europe 8 — (1) 1 (2) 3 Aviva Europe 238 1 1 — 7 (1) Delta Lloyd (78) 5 37 (85) 60 (223) Europe 160 6 38 (85) 67 (224) North America 16 23 (5) 37 (65) (12) Asia 9 — 3 (5) 5 (17) Australia 13 — (1) 1 (2) 2 Asia Pacific 22 — 2 (4) 3 (15)
reported volatilities minimum 2009 on page 25% 50bps 50bps capital or Value of new business 295 increase increase decrease equivalent (net of tax and minority interest) £m £m £m £m £m
2009 As reported maintenance decrease in rates – life annuity Value of new business on page 295 expenses lapse rates assurance business (net of tax) £m £m £m £m £m
United Kingdom 177 12 13 6 (10) France 94 2 2 1 — Ireland 8 1 2 — — Italy 38 2 1 1 — Poland 39 2 3 2 — Spain 51 1 8 2 — Other Europe 8 1 4 1 — Aviva Europe 238 9 20 7 — Delta Lloyd (78) 11 3 2 (3) Europe 160 20 23 9 (3) North America 16 10 (11) 13 — Asia 9 3 2 1 — Australia 13 1 2 1 — Asia Pacific 22 4 4 2 —
Statement of directors’ responsibilities in respect of the Market Consistent Embedded Value (MCEV) basis When compliance with the European Insurance CFO Forum Market Consistent Embedded Value Principles (MCEV Principles), published in October 2009, is stated, those principles require the directors to prepare supplementary information in accordance with the methodology contained in the MCEV Principles and to disclose and explain any non-compliance with the guidance included in the MCEV Principles.
Our responsibilities, as independent auditor, in relation to the MCEV financial statements, are set out in our engagement letter dated 5 August 2009. We report to you our opinion as to whether the consolidated MCEV financial statements have been properly prepared in all material respects in accordance with the MCEV Principles and the basis of preparation set out on pages 289 to 292. We also report to you if we have not received all the information and explanations we require for our audit of the consolidated MCEV financial statements.
We read other information contained in the Annual Report and Accounts and consider whether it is consistent with the consolidated MCEV financial statements.
Opinion In our opinion the consolidated MCEV financial statements for the year ended 31 December 2009 have been properly prepared, in all material respects, in accordance with the MCEV Principles and the basis of preparation set out on pages 289 to 292.
Bonds and savings These are accumulation products with single or regular premiums and unit-linked or guaranteed investment returns. Our product ranges include single premium investment bonds, regular premium savings plans and mortgage endowment products.
SICAVs Société d’investissement à capital variable (variable capital investment company). This is an open-ended investment fund, structured as a legally independent joint stock company, whose units are issued in the form of shares.
Product Definitions cont. Single premium A single lump sum is paid by the policyholder at commencement of the contract.
Term assurance A simple form of life insurance, offering cover over a fixed number of years during which a lump sum will be paid out if the life insured dies.
With profits A type of long-term savings and insurance product sold in the UK Under with profits policies premiums are paid into a separate fund. Policyholders receive a return on their policies through bonuses, which “smooth” the investment return from the assets which premiums are invested in. Bonuses are declared on an annual and terminal basis. Shareholders have a participating interest in the with-profit funds and any declared bonuses. Generally, policyholder and shareholder participation in with-profit funds in the UK is split 90:10.
Deferred acquisition costs (DAC) The cost directly attributable to the acquisition of new business for insurance and participating investment contracts (excluding those written in the UK) are deferred to the extent that they are expected to be recoverable out of future margins in revenue on these contracts.
General insurance Also known as non-life or property and casualty insurance. Casualty insurance primarily covers losses arising from accidents that cause injury to other people or damage property of others. Property insurance covers loss or damage through fire, theft, flood, storms and other specified risks.
Market Consistent Embedded Value Aviva’s Market Consistent Embedded Value (MCEV) methodology which is in accordance with the MCEV Principles published by the CFO Forum in June 2008 with the exception of the use of an adjusted risk-free yield due to current market conditions for immediate annuities in the UK and the Netherlands and for immediate annuity, deferred annuity and other contracts in the US.
“Soft” insurance market A term used to describe the state of the general insurance market. A “soft” insurance market is characterised by low levels of profitability and market competition driving premium rates lower. Soft insurance markets generally occur when there is excess capital and are the opposite of “hard” insurance markets.
CFO Forum The CFO Forum www.cfoforum.nl is a highlevel group formed by the Chief Financial Officers of major European listed and non-listed insurance companies. Its aim is to discuss issues relating to proposed new accounting regulations for their businesses and how they can create greater transparency for investors. The Forum was created in 2002, the Market Consistent Embedded Value principles were launched in June 2008 and CFO Forum members across Europe have agreed to adopt these for their 2009 published accounts. The principles are a further development of the European Embedded Value principles first launched in May 2004.
Performance reviewAviva plc Glossary continued Corporate responsibilityAnnual Report and Accounts 2009 Governance Shareholder information Financial statements IFRS Financial statements MCEV Other information
Market Consistent Embedded Value (MCEV) terms cont. Cost of non-hedgeable risks This is the cost of undertaking those risks for which a deep and liquid market in which to hedge that risk does not exist. This can include both financial risks and non-financial risks such as mortality, persistency and expense.
EU solvency The excess of assets over liabilities and the worldwide minimum solvency margins, excluding goodwill and the additional value of in-force long-term business, and excluding the surplus held in the group’s life funds. The group solvency calculation is determined according to the UK Financial Services Authority application of EU Insurance Groups Directive rules.
Free surplus The amount of any capital and surplus allocated to, but not required to support, the in-force covered business.
Funds under management Represents all assets actively managed or administered by or on behalf of the group including those funds managed by third parties.
Implicit items Amounts allowed by local regulators to be deducted from capital amounts when determining the EU required minimum margin.
Inherited estate The assets of the long-term with-profit funds less the realistic reserves for non-profit policies, less asset shares aggregated across the withprofit policies and any additional amounts expected at the valuation date to be paid to in-force policyholders in the future in respect of smoothing costs and guarantees.
Life MCEV operating earnings Operating earnings on the MCEV basis relating to the lines of business included in the embedded value calculations. From continuing operations and is stated before tax, impairment of goodwill and exceptional items.
Long-term savings Includes life and pension sales calculated under MCEV and retail investment sales.
Net worth The market value of the shareholders’ funds and the shareholders’ interest in the surplus held in the non-profit component of the longterm business funds, determined on a statutory solvency basis and adjusted to add back any non-admissible assets, and consists of the required capital and free surplus.
Market Consistent Embedded Value (MCEV) terms cont. New business margin New business margins are calculated as the value of new business divided by the present value of new business premiums (PVNBP), and expressed as a percentage.
Risk-free rate (reference rate in CFO Forum terminology) In stable markets, including the period from 31 December 2006 to 30 June 2007, the riskfree rate is taken as the swap curve yield. In current markets, including the period from 1 July 2007, the risk-free rate is taken as swaps except for all contracts that contain features similar to immediate annuities and are backed by appropriate assets, including paid up group deferred annuities in the Netherlands, and deferred annuities and all other contracts in the US. The adjusted risk-free rate is taken as swaps plus the additional return available for products and where backing asset portfolios can be held to maturity.
Solvency cover The excess of the regulatory value of total assets over total liabilities, divided by the regulatory value of the required minimum solvency margin.
Symmetric risks Risks that will cause shareholder profits to vary where the variation above and below the average are equal and opposite. Financial theory says that investors do not require compensation for non-market risks that are symmetrical as the risks can be diversified away by investors.
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Chairman’s introduction In good shape for the new decade Group chief executive’s review A year of signifi cant progress Group strategy One Aviva, Twice the Value Key performance indicators Delivering consistent performance Board and executive team 10 Regional overviews Global presence, local understanding — UK — Europe — North America — Asia Pacifi c — Aviva investors
Aviva today In 2007 we set our strategy to grow and transform Aviva to compete on a global scale. Nearly three years on, despite difficult market conditions, every day around the world we continue working to realise our vision ‘One Aviva, Twice the Value’. By working together closely, we are transforming our business, optimising our performance and maximising the value we generate for all our stakeholders.
In our online Corporate Responsibility Report you can find out more about our commitment to acting as a responsible member of the international business community.
— General insurance: personal: motor, home, travel, breakdown (RAC), commercial: motor, property, liability
Distribution — Bancassurance — IFAs — Direct (phone/online) — Direct sales force
Aviva plc Annual Review 2009 Financial summary Aviva is the world’s fifth largest insurance group providing insurance, savings and investment products to 53 million customers across Europe, North America and Asia Pacific. We are the largest insurance services provider in the UK and one of the leading providers of life and pension products in Europe.
UK 32 UK 42 Europe 48 Europe 43 North America 14 North America 8 Asia Pacific 6 Asia Pacific 3
Changes to the Board I would like to thank Philip Scott, who retired from his role as chief financial officer (CFO) at the end of 2009 with an impressive 36 years’ service with Aviva. With his knowledge of the insurance industry, he has successfully navigated us through some difficult market conditions. In February 2010, we welcomed Patrick Regan as our new CFO. He joined us from Willis Group Holdings in the US where he was group chief operating officer and CFO.
Aviva has delivered a strong return to profit with IFRS total profit after tax at £1,315 million. On an MCEV basis, which takes into account the long-term nature of life insurance business, the total profit after tax was £2,935 million compared to a loss of £7,707 million in 2008. This rebound in total profits reflects the combined effects of a recovery in equity markets, together with our disciplined business management and cost control. Operating profit is 12% lower at £2,022 million on an IFRS basis and up 3% on an MCEV basis to £3,483 million.
We have made excellent progress in the delivery of our strategy, including our move to a single brand, the IPO of our Dutch business, the reattribution of the inherited estate in the UK and the restructuring of our cost base.
Several months into 2010, we have made great progress in transforming our UK business under one team. We are also starting to see positive results from the creation of our ‘one Europe’ operating model. In North America, the life market has been really challenged and it’s good to see that coming back. In Asia Pacific, despite customers being cautious, we have continued to grow our business, particularly in China and South Korea. Aviva Investors’ investment performance has radically improved along with solid earnings.
Q.Do you remain committed to your ‘One Aviva, Twice the Value’ strategy?
We have made good progress towards our target this year. If you compare earnings per share of 37.8 pence in 2009 with those of 2008 (a loss of 36.8 pence), it’s a great improvement.
Our senior management team is committed to this target and it remains our focus in 2010.
What’s really pleasing is that during this period our customer satisfaction has improved, with nearly 70% of our businesses at or above the local market benchmark and 50% are in the upper quartile.
Q.Looking forward – how would you sum up your priorities for 2010?
Aviva plc Our purpose is to deliver prosperity and peace of Annual Review 2009 Group strategy mind to our customers. We will do this by realising our vision: ‘One Aviva, Twice the Value’
Allocate capital rigorously Capital management remains a key focus with funds allocated to provide the highest sustainable returns. We continuously seek improvements in capital structure and efficiency.
Multi-channel customer reach We sell our products in 28 countries in the ways that our customers choose to buy them. We will continue looking for the right distribution in the right markets.
— Strengthened position in Asia: growth in China [15%] and Korea [93%]; withdrawal of capital intensive products in Hong Kong and Taiwan
— Positive net flows of £2.4 billion from third party clients in difficult market conditions
— Top quartile ranking in the most recent UK Greenwich Quality Index
— IPO of Delta Lloyd in the Netherlands — Sale of Australian business — Reattribution of inherited estate in UK
— Implemented initiatives to improve the customer experience and support the Aviva brand promise and rebrand campaign in the UK
— Further value from bancassurance with sales growth of 14% in Aviva Europe
European regulators to develop an appropriate outcome for Solvency II regulations
— Continue to invest in our brand and improving customer experience to increase customer advocacy and consumer demand for our products
— Continue executing our tailored shared services strategy including: – regional service centres, centres of excellence and shared processes
– globally consistent operating models for IT, HR, finance, risk, procurement and marketing
Aviva plc In 2009, the group’s strategy was underpinned byAnnual Review 2009 Key performance focusing on a number of key financial performanceindicators measures. The key measures that are used to assess performance at a group level are set out below: Our key performance indicators
Worldwide sales* Sales were lower in both long-term and savings and general insurance mainly reflecting the tough economic environment and our focus on writing for profit rather than volume in general insurance.
Employee engagement and leadership Employee KPIs are now based on more robust scale and against stronger benchmarks. As we’ve changed our supplier, historical data is not comparable and has therefore been removed.
Customer advocacy 24 businesses took part in our 2009 Net Promoter Score ® survey (2008: 12). 16 met or exceeded the benchmark with 12 in the upper quartile. The ratio beating benchmark is the same as 2008; however, more businesses are in the upper quartile rankings.
Our intention is to pay a dividend on a basis judged prudent using dividend cover of 1.5 – 2.0 times, while retaining capital to fund future growth.
We aim to achieve steady sustainable growth in our operating profit, both on a MCEV and IFRS basis. In seeking to achieve this growth, we continue to adopt strict financial management disciplines underpinned by strong corporate governance.
Chairman since Jan 2006. Currently an independent non-executive director of BG Group plc (utility)
For full biographies visit Aviva at www.aviva.com/2009ara 2. Andrew Moss Group chief executive (Age 52) Appointed May 2004 Group chief executive since July 2007. Previously group finance director and has held senior finance positions at Lloyd’s of London (insurance) and HSBC (banking).
3. Patrick Regan Chief financial officer (Age 44) Appointed Feb 2010 Previously group chief financial officer and group chief operating officer at Willis Group Holdings Ltd (insurance broking). Has also held senior finance and management positions at RSA plc, Axa Insurance (insurance) and GE Capital (financial services).
5. Andrea Moneta Executive director, Chief executive Aviva Europe, Middle East and Africa (Age 44) Appointed Sep 2009 Chief executive Aviva Europe since July 2008 and currently chief executive officer, Aviva Europe, Middle East and Africa. Previously managing director of Dubai Financial Group (financial services) and formerly held senior executive positions with UniCredit, the European Central Bank (banking) and Accenture (consulting).
2. Amanda Mackenzie Chief marketing officer (Age 46) Appointed Mar 2008 Joined the Group in 2008. Currently a member of the Government Strategic Marketing Advisory Board, a fellow of the Marketing Society and a governor of the National Youth Orchestra. Previously commercial and marketing director for British Gas.
6. Richard Karl Goeltz Senior independent nonexecutive director (Age 67) Appointed May 2004 Currently non-executive director of the Warnaco Group Inc (clothing) and several investment trusts. Has held senior executive and finance positions at American Express Company (financial services) and NatWest Group plc (banking). Former member of the Accounting Standards Board (UK).
8. Russell Walls Independent non-executive director (Age 66) Appointed May 2004 Currently non-executive director of Signet Jewelers Ltd (retail); treasurer and trustee of The British Red Cross. Former group finance director of BAA plc (transport), Wellcome plc (pharmaceuticals) and Coats Viyella plc (textiles). Held non-executive roles in several other industries.
10. Euleen Goh Independent non-executive director (Age 54) Appointed Jan 2009 Currently non-executive director of Singapore Airlines Limited (transport), DBS Bank Limited, DBS Group Holdings Ltd (banking) and the Singapore Exchange Limited. Former chief executive officer of Standard Chartered Bank in Singapore (banking).
5. Robin Spencer Chief risk officer (Age 40) Appointed Jan 2010 Joined the Group in 1995. Formerly chief executive officer of Aviva Canada and has held various senior finance and management positions in the UK and Canada. Former chairman of Canada’s Property and Casualty Insurance Compensation Corporation.
Financial discipline and a focus on profitability in our businesses remain key for 2010. However, markets are expected to remain challenging in the short term.
From 1 January 2010 we have brought together the Aviva UK life and general insurance businesses, creating a new organisation led by one chief executive officer. In 2009, in addition to completing the rebranding to Aviva, both businesses have continued their extensive transformation programmes, which will make significant improvements to customer service, and they have delivered combined cost savings of £450 million, a year ahead of plan.
UK long-term and savings business Market environment During 2009 the overall long-term savings market declined by 17%. This contraction, for the second consecutive year, was primarily driven by falls in the pension and bond markets as lower consumer confidence, limited salary increases and higher unemployment reduced customers’ propensity to save and invest for the future. Specific regulatory events, such as the cessation of sales of single premium creditor business, also impacted the market. Despite this, we have maintained a disciplined focus on profitability, significantly improving our new business margin
We have continued to invest in our e-commerce offerings with the launch of further new propositions to help our customers and distribution partners. ‘Customer Portal’ and ‘Aviva for Advisers’ provide secure on-line access to over 4.5 million policies, enabling customers and advisers to manage their Aviva Life products quickly and easily at a time convenient to them. We were also the first in the industry to offer a virtual online guide as part of our innovative ‘Pension Tracker’, making it possible for almost 1.5 million customers to manage their Aviva pension plans online. This approach contributed to Aviva winning the Personal Finance ‘Pension Provider of the Year’ award voted for by customers and judged on proposition quality, brand, service and sustainability.
Overall business volumes have fallen reflecting the action we have taken to exit unprofitable business and the challenging market conditions. We continue to support independent brokers through a range of initiatives including customised networks (such as the Broker Independence Group and Club 110) as well as providing easy and fast access to our best prices. In addition, we were delighted to renew the Barclays homeowner account.
We’re making a Quantum Leap, integrating operations across Europe. There are significant growth opportunities in the region and with our ability to operate across distribution channels we will be able to respond favourably to market developments as customer confidence begins to return.
By balancing profit generation and investment opportunities across our portfolio, we are confident that we can benefit from the growth potential within Europe.
As elsewhere, the slowdown in economic growth has impacted customer behaviour in the majority of the region with customers favouring deposit bank accounts or guaranteed insurance products. Customer confidence is beginning to return particularly in France, Italy and Poland where customers are starting to re-invest in more attractive insurance products such as unit-linked bonds.
Ireland: Hibernian Aviva promotes better healthcare for less It was Hibernian Aviva’s television advertising that first caught Anne’s* eye. The campaign slogan ‘Looking out for you’ made her realise that moving her health insurer could be easier than switching her electricity or phone supplier – and the promise that with just one phone call you could be covered immediately also appealed to her. When she did phone, the simplicity and clarity of what was covered by the plan made it easy to make a decision. With a young family, Anne always worried about how they would manage if she or her husband became ill. The Aviva Hibernian
Aviva Europe performance Aviva Europe operates in 12 businesses across Europe (excluding the UK) with substantial operations in France, Italy, Ireland, Poland and Spain. We also have a presence in the developing markets in Central and Eastern Europe of Czech Republic, Hungary, Lithuania, Romania, Russia, Turkey and Slovakia. As part of our strategy, we are transforming our 12 federated businesses through our ’Quantum Leap’ programme into one market leading pan-European business.
We achieved total sales of £16,258 million during 2009, up 8% on 2008. IFRS operating profit for the year decreased 4% to £797 million, reflecting exceptional weather losses in France and Ireland. For full details of our financial reporting visit www.aviva.com/reports
In 2009, we announced our new strategy to make a ‘Quantum Leap’ in performance by integrating the operations of our 12 separate Aviva Europe businesses. We are creating a single pan-European organisation which will create significant value for Aviva’s customers and shareholders.
Our two pan-European distribution channels, bancassurance and retail, supported by pan-European product development, operations and governance will enable us to take full advantage of the significant growth potential and opportunities in Europe and contribute fully to the ‘One Aviva, Twice the Value’ target. Visit Aviva at www.aviva.com
Being there for customers in times of need is crucial: following flooding and storms in France during 2009, we paid out 90% of claims in the year. And to reinforce this, 94% of our customers in France who were hit by Hurricane Klaus were happy with the way we handled their claims.
Outlook Market conditions will continue to vary considerably between countries: the recession is still challenging in Ireland, Spain and Hungary but we are seeing signs of recovery in France, Italy and Poland. By continuing to carefully balance profit generation and investment opportunities across our broad and diverse portfolio and by enhancing innovative customer focused offerings, we are confident that we can benefit from the growth potential within Europe.
A steady market recovery expected in 2010. Continue to grow life insurance portfolio and our contribution to total 07 5,058 Aviva profits. Further enhance general insurance underwriting processes in Canada.
Jane knew that she could count on Sherri to encourage her to move forward: “I have never had a claim before, I didn’t know what to do and I wasn’t sure where to go. Sherri turned this around for me, she gave me strength, human kindness and dispelled any previous concepts I had about insurance companies.” She’s now planning a trip to meet Sherri in person and give her a thank-you hug. * Pseudonym
Sherri of Aviva’s London, Ontario, office was assigned as Jane’s adjuster. She herself had been a victim of a home robbery and understood the shock and fear that Jane was experiencing. Sherri listened and consoled Jane, who was afraid to stay in her home because she no longer felt safe or protected. Sherri arranged for a contractor to
In the Canadian business we have successfully implemented an innovative approach to the pricing of personal property business known as ‘Rate by Peril’. We have used a detailed and sophisticated mapping approach combined with proprietary and public information to deconstruct the blended approach to pricing used for multi-peril household policies. Using this approach we are able to determine a unique rate for each individual property reflecting its unique exposure to the perils covered by the policy including fire, water damage, wind-storm, sewer back-up, theft and liability. The increased pricing precision that we are able to apply enables us to ‘right-price‘ each property.
Performance Total sales were £6,345 million in 2009, down 13% on 2008. IFRS operating profit for the year improved 43% to £213 million reflecting the improved long-term and savings result. For full details of our financial reporting visit www.aviva.com/reports
In our US business we have deliberately moderated annuity sales in comparison to the prior year and centred on capital management. We have grown our life insurance portfolio, outperforming in a market that contracted by 19% in the first nine months of the year.
‘ Life assurance outperforms in contracting market’ As part of the ‘One Aviva, Twice the Value’ strategy, we are consolidating each of our non-market-facing functions into single North American business areas giving us improved capability at lower cost.
Outlook A number of economic indicators are starting to point to a steady recovery in 2010. We will continue to grow our life insurance portfolio in the US, building on 2009 successes. We await the outcome of the SEC151A debate concerning the future regulation of annuity products and will respond appropriately. In Canada we will further enhance our underwriting processes to improve risk selection, profitability and capital efficiency.
We’ve identified India and China as our ‘must-win’ markets, expected to generate a significant proportion of our future expansion within Asia. Throughout the rest of the region, our focus is on developing the strength of our bancassurance business with joint venture partners.
www.aviva.com widely held belief in China that insurance generally is ‘easy to buy, but hard to claim’ and is one that Aviva has been working hard to overcome. Since starting this project over five years ago, Aviva’s health angels have not only made a positive impact in changing people’s views about the insurance industry but have also improved customer loyalty, retention rates and helped to trigger repurchasing of products by customers. * Pseudonym
Performance Total sales were £2,712 million in 2009, down 22% on 2008. IFRS operating profit for the year improved 114% to £77 million reflecting the improved longterm and savings result. For full details of our financial reporting, please visit www.aviva.com/reports
* On a MCEV basis from 2007. Prior years presented on an EEV basis.
Aviva Investors manage funds for Aviva’s insurance operations as well as for a growing range of external clients. With our new business model coming together in 2009 we saw a number of positive trends emerging to support our strategic objectives.
The loss of confidence in financial markets has meant that clients are increasingly looking for risk-aware investment options and we are well placed to capitalise on that trend.
Focused on clients, focused on performance Aviva Investors combines the group’s asset management components into a single, globally-integrated business. We manage internal funds for Aviva, as well as for a growing range of institutional and retail third party clients. Our focus on client service has brought external recognition and contributed to a strong performance in 2009.
The key strategic imperatives central to our success are: — our commitment to client focus, delivering investment solutions that fully meet their requirements — delivering strong investment performance to underpin product sales activity — finalising the roll-out of a global business development function with a footprint in mature and emerging markets — a high performance culture that rewards those who make the strongest contribution to the achievement of our goals
However, Aviva Investors were not put off by this and really worked at it, coming up with a specific global credit mandate and setting out how it would be implemented. They really convinced our consultant and the trustees were also persuaded.” – Pensions Director, FTSE 100 company pension scheme.
Global credit – addressing customer needs The pensions director of a FTSE 100 company pension scheme was happy to endorse his experience of working with Aviva Investors: “A tangible example is how they helped us analyse our investment requirements when we were considering going from UK to global credit. Our investment consultant was not that comfortable with using Aviva Investors on global credits.
Performance IFRS operating profit was in line with the prior year at £115 million while funds under management increased 6% to £250 billion as markets recovered. For full details of our financial reporting please visit www.aviva.com/reports
We have made significant progress in developing a global marketing, sales and distribution capability, re-engineering our global business development function to facilitate sales to external clients and underpin our client-centric approach. This was enhanced by group-led PR and advertising for the global rebrand, which helped to cement trust in, and recognition of, the Aviva name in both established and new markets and by our own marketing efforts which helped to raise Aviva Investors’ profile in a competitive market.
Aviva Investors also received a number of external accolades in Austria, Singapore, Australia and the UK. In November we were proud to work alongside the United Nations for the launch of their report on ‘sustainable stock exchanges’, a programme that is continuing in 2010.
For full details of our CR activities, including an independent assurance statement, please see our online CR report www.aviva.com/corporate-responsibility/reports
Governance and strategy “By acting responsibly for the long term in how we do business we will meet our ambition to provide prosperity and peace of mind to our customers.” This is our core purpose. Our people and CR strategies play an important part in meeting this, in maintaining our reputation as a preferred employer and responsible corporate citizen, and in managing our resources and in reducing costs.
Business ethics and financial crime We aspire to the highest standards of conduct and set out our principles in our business ethics code. This stipulates fairness, honesty and transparency in all we do. Our financial crime policy reinforces our zero tolerance approach and ensures that risks relating to fraud, money laundering, market abuse and bribery and corruption are adequately controlled.
People Delivering on our strategic plans and commitments requires strong leadership and the energy, dedication and belief of all our employees. Over the past three years, we have built a strong global human resources function to lead our culture transformation. We have a clear purpose: to drive a talent leadership and culture-led transformation to deliver exceptional business performance.
Community In 2009 we invested £8.0 million (2008: £9.6 million) in line with our strategic focus to support community and charitable initiatives in education, life trauma and financial literacy. We launched ‘Street to School’, our five-year global charitable initiative which aims to get children and young people off the street and into education.
Environment Our established and proven strategy focuses on controlling our own impacts and resources, including gas, water, electricity and waste – and by pursuing this long-term policy we have reduced our carbon emissions by a further 5.2% this year, on a like-for-like basis, compared to a 6.6% reduction in 2008. Overall, we achieved a group-wide reduction in carbon emissions of 15% (2008: 3.3%)
Customers With the effects of the global economic downturn continuing to affect customers’ confidence in financial institutions, it was as important as ever to remain true to our purpose of providing prosperity and peace of mind.
UNGC Principles for Responsible Investment and Caring for Climate working groups
External benchmarking and recognition Our achievements in 2009 were recognised by our inclusion in some of the world’s leading external benchmarks: — Dow Jones Sustainability World and STOXX Indices — SAM Sustainability year book — FTSE4GOOD Index Series — FTSE KLD Europe, Asia Pacific and Global Sustainability indices (excluding the US Index) — ECPI Ethical Index Euro and Ethical Index Global indices — Building Public Trust award for clear and transparent reporting of our executive remuneration policy — Gold status in Business in the Community’s Corporate
and general insurance and Canadian business to adopt NPS metrics in 2009
Water consumption (m³) – absolute 851,070 843,750 751,750 Reduce water use (11)% Reduce water use by 4% by 4%
Proportion of recycled waste 88% 84% 69% 80% or above (15)% 80% or above
CR Indicator 2007 2008 2009 2009 target Change over 2010 target year
Number of detailed CR assessments — 30 in 138 globally 100 globally +108 200 globally of Aviva’s major suppliers the UK
Number of business units that have — 5 11 10 +6 18 implemented and embedded use of ‘Supplier Hospitality register’ and ‘Register of Interests’
Community Amount of community investment £6.8m £9.6m £8.0m Establish and report (17)% At/above previous year in line with group community strategy
% of employees participating — — 16% New KPI Increase the % of employee in volunteering participation in volunteering
Number of employee hours spent — 67,700 79,900 Increase the % of +18% Increase the % of employee volunteering employee participation participation in volunteering in volunteering
% of investment in Aviva Street — — — New KPI 50% to School
These statements are aimed at giving shareholders a summary of the position and performance of Aviva. They do not however, contain all the information to allow as complete an understanding of the group as would be provided by the full audited Annual Report and Accounts.
2009 financial statements The summary financial statements on page 32 and 33 have been prepared on the basis of accounting policies set out in the Aviva Group’s (the Group) 2009 Annual Report and Accounts. The consolidated income statement has been presented on both a Market Consistent Embedded Value (MCEV) basis and an International Financial Reporting Standards (IFRS) basis. The Group continues to believe that the MCEV basis provides a useful measure of the performance of the life business alongside the statutory IFRS basis. Results of an insurance business in any particular year can be affected by significant movements in investment values, which influence the reported profits before tax. Therefore, to measure the underlying business performance, operating profit before tax based on longer term rates of investment return is used, eliminating the volatility caused by movements in investment values. As a result, managers are encouraged to focus on operational performance and aspects of the business that are under their control.
Summarised directors’ report Annual general meeting The 2010 Annual General Meeting of the Company will be held on Wednesday 28 April 2010 at The Barbican Centre, Silk Street, London EC2Y 8DS at 11am. A separate document accompanying this Annual Review contains the Notice convening the Annual General Meeting and a description of the business to be conducted thereat.
Dividend The directors are recommending a final dividend of 15.00 pence per share (2008: 19.91 pence), which together with the interim dividend of 9.00 pence paid on 17 November 2009 (2008: 13.09 pence), produces a total dividend for the year of 24.00 pence per share (2008: 33.00 pence). The total cost of ordinary dividends paid in 2009, was £775 million (2008: £902 million). The final dividend for 2009 will be paid on 17 May 2010 to all holders of ordinary shares on the Register of Members at the close of business on 26 March 2010 (and approximately five business days later for holders of American Depositary Receipts).
The Company’s Articles of Association require one-third of the directors to retire by rotation each year and also require each director to retire at intervals of not more than three years. At the forthcoming Annual General Meeting, Lord Sharman, the Chairman, and Scott Wheway, a non-executive director, will retire and, being eligible, will offer themselves for re-election. Andrew Moss, the Group Chief Executive will also retire and offer himself for re-election. Leslie Van de Walle, Andrea Moneta, Michael Hawker and Patrick Regan will offer themselves for election by shareholders at this year’s Annual General Meeting being the first such meeting after their appointment to the Board. Leslie Van de Walle and Michael Hawker are non-executive directors and were appointed to the Board on 6 May 2009 and 1 January 2010 respectively. Andrea Moneta and Patrick Regan are executive directors (EDs) and have service contracts with a Group company, details of which can be found in the Directors’ Remuneration Report. Wim Dik retired from the Board at last year’s Annual General Meeting in line with the Board’s plans to renew and refresh its composition, while Philip Scott retired from the Board on 26 January 2010 following a 36 year career with the Group, which began with Norwich Union.
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 an 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 that may attach to them in their capacity as directors of the Company or of associated companies. These indemnities were granted at different times according to the law in place at the time and where relevant are qualifying third-party indemnity provisions as defined by Section 234 of the Companies Act 2006. These indemnities were in force throughout the year and are currently in force.
Notes 1. ‘Shares’ are the directors’ beneficial holdings in the ordinary shares of the Company and in respect of the EDs include shares held in trust under the Company’s All Employee Share
3. Awards granted under the LTIP which vest only if the performance conditions are achieved. 4. OATTV Plan awards are granted as a match to the bonus plan awards under the ABP and vest only if the performance conditions are achieved. 5. ‘Options’ are options over shares granted under the SAYE. 6. The interests of connected persons to the directors are included in the directors’ interests above. 7. Andrea Moneta was appointed as a director on 29 September 2009. On this date, he held 394 shares, 159,375 ABP awards, 249,023 LTIP awards, 119,531 OATTV Plan awards and 0 options.
This statement is made solely to the company’s members, as a body, in accordance with Section 428(4) of the Companies Act 2006. Our audit work has been undertaken so that we might state to the company’s members those matters we are required to state to them in an auditor’s statement and for no other purpose. To the fullest extent permitted by law, we do not accept or assume responsibility to anyone other than the company and the company’s members as a body, for our audit work, for this statement, or for the opinions we have formed.
Respective responsibilities of directors and auditors The directors are responsible for preparing the Annual Review in accordance with applicable United Kingdom law.
Balance at 1 January as reported 14,573 15,931 Equity attributable to ordinary shareholders Prior year adjustment — 96 of Aviva plc – IFRS basis 10,356 11,179 Balance at 1 January restated Total comprehensive income for the year
Dividends and appropriations (853) (975) Equity attributable to ordinary shareholders Issue of share capital 1 20 of Aviva plc – MCEV basis 13,035 13,162 Shares issued in lieu of dividends 299 170 Preference share capital and direct capital instrument 1,190 1,190 Capital contributions from minority shareholders 6 36 Minority interests 4,237 3,080 Transfers to minority interests following
Delta Lloyd IPO 930 — Total equity – MCEV basis 18,462 17,432
Minority share of dividends declared in the year Minority interest in acquired subsidiaries
Operating earnings per share – Basic MCEV basis2 78.8p Operating earnings per share – Diluted MCEV basis2 78.1p Total earnings per share – Basic MCEV basis3 101.7p Total earnings per share – Diluted MCEV basis3 100.8p basis, after tax, minority interests and preference dividends. 3. Total earnings per share is based on the MCEV or IFRS profit for the year attributable to equity shareholders. 4. Net asset value per ordinary share is calculated based on equity shareholders’ funds.
Operating earnings per share – Basic IFRS basis2 45.1p Operating earnings per share – Diluted IFRS basis2 44.8p 62.9p 62.3p Summary directors’ remuneration report
Below is a summary of the information contained in the Directors’ remuneration report which shareholders will be asked to approve at the forthcoming Annual General Meeting (AGM). The Directors’ remuneration report, contained in
Summarised consolidated statement the Company’s Annual Report and Accounts 2009, provides of financial position – IFRS basis 2009 £m £m full details of the Company’s remuneration policy, practices, pension arrangements and share incentive plans, including a description of the performance conditions which apply to the
— The Remuneration Committee (the Committee) approved the Executive Directors’ (EDs) request to freeze their basic salaries for 2009 and to take a 10% reduction on the
Cash and cash equivalents 25,176 23,643 personal element of their annual bonus. In 2010, the EDs Total assets 354,391 354,562 requested that their basic salaries should not be subject Capital and reserves Equity attributable to ordinary shareholders of Aviva plc 10,356 Preference share capital 200 Direct capital instrument 990 Minority interests 3,540 Total equity 15,086 14,573 targets relating to employees, customers, and personal Liabilities Gross liability for insurance and investment contracts 281,107 Unallocated divisible surplus 3,866 Net asset value attributable to unitholders 9,894 Borrowings 15,000 Other liabilities 29,438 to annual review and the Committee has endorsed this proposal. 11,179 200 — The demanding financial and non-financial targets set for 990 the 2009 annual bonus were met in part during the year.
— On 1 January 2010, Mark Hodges was appointed Chief Executive Officer of the whole of Aviva’s UK insurance operations, which brought together Aviva’s life and general insurance businesses. As a result of this significant expansion of his managerial responsibilities, his basic salary was increased.
— On 26 January 2010, Philip Scott retired from the Board. He continues to be employed by the Group and will retire on 31 July 2010. Further details of his leaving arrangements are disclosed in the full Annual Report and Accounts.
— Patrick Regan joined Aviva as the new Chief Financial Officer on 22 February 2010. His joining arrangements and on-going annual remuneration are disclosed in the full Annual Report and Accounts.
— A long term discretionary savings plan called the Aviva Capital Accumulation Plan (ACAP), used primarily for employees who can no longer accrue pension benefits or whose benefits are restricted under the Aviva Staff Pension Scheme.
Awards granted under the LTIP are subject to meeting performance conditions based on relative Total Shareholder Return (TSR) and Return on Capital Employed (RoCE) targets. The TSR performance conditions require Aviva to achieve median or better performance against the TSR of a peer group of major European financial services companies over the three year performance period for that element to vest. RoCE targets are set taking account of the Company’s three year business plan and are set on a Market Consistent Embedded Value basis.
All EDs have a service contract which can be terminated by the Company upon giving 12 months’ notice. Non executive appointments can be terminated by either party at any time upon giving one month’s written notice.
— The Company is required every five years to seek shareholder approval for the operation of its share based incentive plans. It was agreed in 2008 that the review would be delayed by 12 months from 2009 to 2010 to enable Aviva to reflect on the new regulatory and governance requirements that emerge from the global financial crisis and to put new proposals to shareholders in 2011.
In addition to the above, directors have interests in awards and options granted in previous years. During the year, no share options were exercised by directors.
Executive directors Andrew Moss 925 914 1,029 752 463 463 74 91 2,491 2,220 Philip Scott 600 593 578 488 — — 34 35 1,212 1,116 Mark Hodges 520 463 503 532 260 208 66 99 1,349 1,302 Andrea Moneta3 629 — 756 — 82 — 142 — 1,609 —
Notes 1. Bonuses show the value at the date of award inclusive of the two-thirds of bonus which Aviva requires its EDs to defer into Aviva shares for three years. 2. ‘Benefits’. All the EDs received life assurance benefits during the year that relate to the cost incurred by the Company of insuring the directors’ life and relevant spouses’ benefits which, had the director died during the year, could not have been wholly paid by the pension scheme and would therefore have been met by the Company had the insurance not been in place. The disclosure also includes the cost of private medical insurance and, where appropriate, accompanied travel, accommodation and car benefits. All the numbers disclosed include the tax charged on the benefits. No directors received an expense allowance during the year.
4. For the purposes of the disclosure required by Schedule 5 to the Companies Act 2006, the total aggregate emoluments of the directors in respect of 2009 was £6.7 million (2008: £5.2 million).
5. No compensation payment for loss of office was made to any director, or former director, during the year. 6. Annual bonuses are one-third paid in cash and two-thirds deferred into shares for three years.
Annual General Meeting Aviva’s Annual General Meeting will be held at: The Barbican Centre Silk Street London EC2Y 8DS on: Wednesday 28 April 2010 at 11.00am The Notice of Meeting, together with details of the business to be conducted at the meeting, is available on the Company’s website at www.aviva.com/agm
If you are unable to attend the meeting but would like to ask the Board of Directors a question regarding the business of the meeting, please do so via our website at www.aviva.com/agm Alternatively, you can write to us directly either by email to agm.faq@aviva.com or by post to the Group Company Secretary, Freepost RLTE-RBXX­ RBHB, Group Secretarial Department, Aviva plc, St Helen’s, 1 Undershaft, London EC3P 3DQ. Answers to the most frequently asked questions will be available at the meeting and published on our website shortly after.
The voting results for the 2010 AGM, including proxy votes and votes withheld, will be accessible on our website at www.aviva.com/agm, shortly after the meeting.
Ordinary shares – 2009 final dividend Ex-dividend date 24 March 2010 Record date 26 March 2010 Scrip dividend price setting period 24, 25, 26, 29, 30 March 2010 Scrip dividend price announcement date 31 March 2010 Last date for receipt of Scrip elections 16 April 2010 Dividend payment date* 17 May 2010 * Please note that the ADR local payment date will be approximately five business days after the proposed dividend date for ordinary shareholders.
Be on your guard – beware of fraudsters In recent years, many companies have become aware that their shareholders have received unsolicited phone calls or correspondence concerning investment matters. These are typically from overseas based ‘brokers’ who target UK shareholders, offering to sell them what often turn out to be worthless or high risk shares in US or UK investments. These operations are commonly known as ‘boiler rooms’.
Shareholders are advised to be very wary of any unsolicited advice, offers to buy shares at a discount or offers of free company reports. If you receive any unsolicited advice: — Make sure you get the correct name of the person and organisation — Check that they are properly authorised by the FSA before getting involved by visiting www.fsa.gov.uk/register/ — Report the matter to the FSA either by calling 0300 500 5000 (calls should cost no more than 01 or 02 UK-wide calls, and are included in inclusive mobile and landline minutes). If calling from overseas, please dial +44 20 7066 1000 or visit www.moneymadeclear.fsa.gov.uk
More detailed information on this can be found on the FSA website www.moneymadeclear.fsa.gov.uk
Managing your shareholding If you have any queries regarding your shareholding in Aviva please contact our Registrar, Equiniti. Please quote Aviva plc, as well as the name and address in which the shares are held, and your Shareholder Reference Number, which you will find on your latest dividend stationery.
Telephone 0871 384 2953* + 44 (0)121 415 7046 (for callers outside of the UK)
Online Shareholder Services Centre – www.aviva.com/shareholderservices The online shareholder services centre has been designed to meet the specific needs of our shareholders, preference shareholders and our American Depositary Receipt (ADR) holders and includes features to allow you to manage your holding in Aviva easily and efficiently.
American Depositary Receipts (ADRs) Aviva’s ADRs are listed on the New York Stock Exchange and our stock is traded as American Depositary Shares (ADS). Aviva maintains a Level II ADR facility in the US, with each ADS representing two (2) Aviva plc ordinary shares. Aviva has a sponsored ADR facility administered by Citibank, NA. Any queries regarding Aviva ADRs can be directed to Citibank by post, telephone or email.
Email Citibank@shareholders-online.com Telephone + (1) 877 248 4237 (toll free for callers within the US) Telephone + (1) 781 575 4555 (for callers outside of the US) Fax inquiries + (1) 201 324 3284
Internet sites Aviva owns various internet sites, most of which interlink with each other: Aviva Group Other useful links for shareholders: Dividend information www.aviva.com Aviva Shareholder Services Centre www.aviva.com/dividends UK Long-term savings and www.aviva.com/ Annual General Meeting information general insurance shareholderservices www.aviva.com/agm www.aviva.co.uk American Depositary Receipt holders Electronic voting for Annual Asset management www.aviva.com/adr General Meeting†
Online Annual Review In our online Annual Review, you will see exclusive interviews of the Group chief executive and members of our Executive management team.
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