Mythenquai 2 8002 Zurich, Switzerland Phone +41 (0) 44 625 25 25 www.zurich.com
With over 60,000 employees serving customers in more than 170 countries, we aspire to become the best global insurer as measured by our shareholders, customers and employees.
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Financial information Consolidated financial statements 134 Report of the statutory auditor 254 Significant subsidiaries 256 Embedded value report 259 Holding company 292 Report of the statutory auditor 308 Shareholder information 312 Financial calendar 316 Contact information 317 Glossary 318
• Key acquisitions in Indonesia and Lebanon and increased presence in Turkey
The following table presents the summarized consolidated results of the Group for the years ended December 31, 2010 and 2009, respectively. All amounts are shown in USD millions and rounded to the nearest million unless otherwise stated with the consequence that the rounded amounts may not add to the rounded total in all cases. All ratios and variances are calculated using the underlying amount rather than the rounded amount. This document should be read in conjunction with the Annual Report 2010 for the Zurich Financial Services Group and with its audited Consolidated financial statements as of December 31, 2010. Certain comparatives have been restated to reflect a change in accounting policy as set out in note 1 of the Consolidated financial statements.
General Insurance business operating profit 2,673 3,463 (23%) General Insurance combined ratio 97.9% 96.8% (1.1 pts)
Diluted earnings per share (in CHF) 24.38 29.88 (18%) Book value per share (in CHF) 202.69 206.58 (2%)
We offer a wide range of general and life insurance products and services for individuals, small businesses, mid-sized and large companies and multinational corporations.
Zurich Risk Engineers make sure a new school is sustainably built and earthquake resilient.
Our innovative product integrates telematics and GPS systems for motor fleets in the UK, the U.S., and other markets.
General Insurance is the largest of our three segments, through which we provide motor, home and commercial products and services for individuals, as well as small and large businesses. We are one global business organized to best serve our customers.
Farmers includes Farmers Management Services which provides non-claims management services to the Farmers Exchanges (which we do not own), as well as Foremost and 21st Century brands in the United States, and Farmers Re.
These headline figures mask our Group’s strong underlying profitability and reflect an above-average frequency of significant loss events, loan provisions in a non-core banking business and the settlement of a U.S. class action lawsuit.
Despite these significant headwinds, our business operating profit after tax return on equity was 12.9 percent, a strong result in the current environment. As you know, we reaffirmed in December our long- term business operating profit after tax return on equity target of 16 percent over the medium term.
Total Group business volumes, comprising gross written premiums, policy fees, insurance deposits and management fees, were USD 67.7 billion, a decrease of 3 percent.
Our Solvency I ratio improved by 48 percentage points to 243 percent; shareholders’ equity increased 9 percent to USD 32.0 billion after payment of USD 2.2 billion in dividends in 2010.
• Employee engagement, performance culture • Systematic planning for future staffing requirements
Our strategy for creating sustainable shareholder value is built on six cornerstones designed to promote customer and employee retention, drive profitability and capture synergies within our global business.
Message from the Chairman and CEO continued continued improvements in underwriting. As a result, Global Life produced a business operating profit of USD 1.5 billion, in line with 2009 despite a decrease in contributions from non-recurring items. Corporate Life & Pensions entered new national markets in 2010 and notched up significant new business wins, in the UK and Latin America in particular. Bank Distribution shifted its product strategy to meet customer needs in the post-crisis environment, with strong growth in Spain and Germany. IFA/Brokers grew volumes and margins.
We enter 2011 convinced we are well positioned to outperform in an environment which remains challenging. While there are signs the global economy is improving, there are also reasons to remain cautious. Consequently, we believe it is prudent to maintain our focus on financial strength and organizational agility so that we are able to weather adverse events and take advantage of opportunities as they arise.
Core functions joining at a global level to support the individual business strategies of our segments * From 2011, Africa will be part of an enlarged Asia-Pacific & Middle East region.
competitiveness in the auto market. Farmers’ new homeowners product, ‘Next Generation 2.0,’ available in 17 states at year-end, helped Farmers increase penetration in desirable customer segments.
In the General Insurance segment, business operating profit was USD 2.7 billion, down 23 percent from the previous year. The decrease is mainly attributable to an above-average frequency of loss events, such as earthquakes, weather-related losses and higher levels of large losses. Rate increases and targeted underwriting actions contributed to improvements in the underlying loss ratio. General Insurance completed mapping all of its portfolios as part of its comprehensive re-underwriting strategy. It’s too soon to report on the full results of that strategy but the early signs are encouraging, with positive adjustments through year-end in both Global Corporate and North America Commercial in line with our expectations.
In closing, we would like to express our appreciation to the more than 60,000 employees of Zurich who made these results possible. In 2010 they continued to deliver for our customers and build long-term value for our shareholders.
The insurance market has been profoundly affected by low investment yields, increased competitive pressure, low economic growth, and regulatory uncertainty. At Zurich we have adjusted our strategy to adapt to those forces, with a goal not only to outperform the market in terms of profitability, but to meet our larger aspiration to be the best insurer as measured by our customers, our employees, and our shareholders.
Meeting the new normal A widespread reduction in expected investment yields is one of the challenges facing insurers today (Figure 1). Income once earned by investments must be replaced by improved underwriting results.
The insurance market is undergoing change at a pace that has rarely been seen.
A final challenge in our markets arises from regulatory uncertainty. We are witnessing the most comprehensive reforms of financial markets in decades. While many of the changes are moving in an encouraging direction (such as those calling for more international coordination), the ultimate shape of the global regulatory regime in which Zurich will operate is still unclear. This uncertainty represents an ongoing operating challenge at best. At worst, the capital requirements of insurers will be conflated with those of banks, and the proliferation of new regulatory and quasi-regulatory rules and agencies will continue unabated.
The insurance market environment is volatile and open to change in a way that has rarely been seen, even over Zurich’s long history. And as the adage goes, in change there also lies opportunity. As an insurer with global reach, applying a business model that leverages core insurance skills, we are convinced that we can rise to be the best.
Our sound business practices and solid Zurich brand have positioned us for market leadership.”
A commitment to integrity and openness that encourages trust, builds loyalty and promotes innovation.
Our values shape Zurich’s culture and define who we are. They are also a key differentiating factor in an increasingly competitive industry.
As such, our values are a critical component of our success. They have stood us in good stead for more than 135 years and provide a sound foundation for future growth that underpins the strength of our brand.
We believe that this focus is encapsulated in our aspiration to become the best insurance company in the world as measured by our customers, shareholders and employees, rather than by a purely mathematical function such as market capitalization or policies sold.
Customer centricity To put our customers at the heart of all we do. To utilize our global scale to turn insights and observations into useful ideas that we put to work for our customers.
Excellence To aim for the highest quality and strive for continuous improvement in all that we do. To find new ways of solving problems. To test what we do and how we do it for fairness, diversity, trust, and mutual respect.
Our approach to corporate responsibility We believe being a responsible, sustainable company is an element of good management and essential to how we do business. In our core business practices, our propositions and services, and in our engagements with the communities in which we live and work, we proactively address social, environmental and governance issues of rightful concern to our stakeholders. We prioritize these issues based on the potential impact on the business, level of societal concern and our ability to influence them and make a difference. We recognize that our needs are inextricably linked and work hard to contribute to sustainable development and shape a better future for our Group, our people and society.
Stakeholder relationships and dialogues are important to Zurich. The feedback gained through measures such as the FTSE4Good Index Series and the Dow Jones Sustainability Indexes (DJSI) helps us to monitor progress and guide future action.
Our responsibility Being a responsible company is an element of good management and essential to how we do business.
To see examples of what we have achieved this year, please see the Annual Review 2010, or visit www.zurich.com/ corporateresponsibility.
By the end of this review, we had confirmed our view that the optimal path for growth in the current environment was to continue building global capabilities by implementing an agile organizational and operating model as well as accelerating The Zurich Way, our umbrella program for achieving top-tier performance. In addition, we saw opportunities to leverage our global strength by optimizing the allocation of resources across our organization, building brand strength and ensuring that we adhere to the highest standards and disciplines in line with our capabilities and overall risk tolerance.
Our approach is built on six cornerstones that are designed to capture synergies within and across our businesses, while driving the profitability of our core business segments.
A strategy to exploit our global strength and deliver shareholder value.
Through our marketing activities – not only print, online and television advertising, but also events and sponsorships – we keep a conversation going with current and future customers about our global commitment to customer centricity. Through our own research, and through focus groups and surveys, we validate the effectiveness of these activities. Our strong results were confirmed this year by leading brand consultancy Interbrand when they identified Zurich as one of the world’s top 100 global brands, estimating our brand value at USD 3.5 billion.
‘Delivering when it matters’ is the promise underlying our brand. Following heavy rains in June, an auto dealership in Kansas City, Missouri found out what that meant after his property was flooded and his inventory nearly ruined. Within ten hours of his call, Zurich’s claims team had filed the claim and the Salvage Recovery Team had organized the removal of all 59 water damaged vehicles. Our customer had not only cleared his stock for new stock to be delivered, but we’d settled the USD 1.6 million claim within two days.
Improvements will be targeted largely by continuing with the ongoing consolidation of back office functions, increasing the value of products and services that we offer our customers without compromising the customer experience.
The benefits go well beyond expense savings and efficiency. Our ambitions for operational transformation are to make our businesses faster and more flexible in delivering one consistent Zurich experience. Internally, operational transformation strives to improve the careers and opportunities of the people working for us. In other words, operational transformation is designed to have an interlocking relationship with two of our other strategic cornerstones – organizational agility and people management.
Organizational agility is one of the key levers for exploiting our global strength. One of this year’s best demonstrations of that comes from our growing relationship with Computer Sciences Corporation, better known as CSC. CSC, one of the premier customers of Global Corporate, employs 94,000 people in more than 90 countries. Early this year they asked if we could meet more of their needs by offering personal lines insurance products to their employees through their employee benefit portals. Drawing on the strength of all three of our segments, we responded with a combined, global affinity product solution for CSC employees around the world. This is organizational agility, as lived by a customer centric organization and delivered on a global scale.
Zurich share performance (indexed) over the last five years in %
1 Dividend includes gross dividend and payout of nominal value reduction per registed share. 2 CHF 29.9 as restated; CHF 24.2 as reported in 2009. 3 Proposed dividend by the Board of Directors to the Annual General Meeting 2011, scheduled for March 31, 2011.
Measuring our performance Tracking our progress in delivering shareholder value and executing on our strategy.
Our Group delivered a business operating profit of USD 4.9 billion in 2010.
Our performance by 3 to 4 percentage points in combined ratio by 2013 compared with our global competitors.
This strategy has proved resilient through the financial crisis and continues to serve us well. Global Life complements our General Insurance and Farmers business segments, balancing the overall Group portfolio and providing opportunities for cross-selling and expense savings across the three segments.
We have reaffirmed our commitment to the Global Life strategy and are now focused on accelerating its execution. To better serve our customers, we have
Corporate Life & Pensions at Global Life provides employers and their employees with efficient savings solutions.
Internal Consulting By building an inhouse consulting force we save costs and create a pipeline of future leaders.
Farmers Auto 2.0 A new product offers more competitive pricing, driving increases in new business and retention.
simplified our structure to leverage greater efficiencies in reaching retail customers. We have defined and are now realizing growth strategies in Asia-Pacific, the Middle East, Latin America and the United States while selectively targeting growth opportunities in Europe. As we implement these strategies, we are simultaneously rebalancing Global Life’s geographic footprint into markets which offer higher growth potential and profitability. We’re managing our product mix carefully, focusing on propositions that require relatively little capital and match our internal risk-based profitability measures.
With the persistent weakness in key U.S. auto and home markets, Farmers’ ambitious growth agenda may seem surprising. The multi-brand model is up to the challenge. 21st Century helps customers who prefer to buy Auto insurance without ever meeting an agent. At the Farmers Exchanges, the 17,000-strong agency workforce reaches out to those who prefer to meet in person. 21st Century customers therefore present expanded cross-sell opportunities to Farmers agents. This dynamic is especially important for the Farmers expansion into the Eastern United States, where 21st Century is blazing the trail.
Global Earthquake Model (GEM) Zurich helps develop an open resource for examining seismic risk anywhere in the world.
The Eastern expansion is further supported by advertising the Farmers brand on a national basis, which results in attracting new customers and retaining existing ones. Farmers is constantly looking for such ways to improve the customer experience, then checking back with the data to make sure the changes have increased loyalty, and not diminished it.
Group Operations This year we brought together many of the core processes common to all three segments and united them under a new function called Group Operations. While much of the work has been ongoing over the last few years, this is the first time they’ve come under one single unit.
This report describes the Group’s approach to corporate governance and illustrates the key elements of corporate governance within the Group. It includes the information required by the Directive on Information Relating to Corporate Governance of the SIX Swiss Exchange (effective January 1, 2007, as amended on July 1, 2009). It also explains how, in 2010, the Group complied with the Swiss Code of Best Practice for Corporate Governance, issued in 2002 by economiesuisse, as amended in October 2007. Furthermore, the Group continues to publish a Risk Management and Internal Control Statement (see pages 44 and 45) in accordance with the UK Turnbull Guidance.
The principles of corporate governance and the standards described above have been incorporated into and are reflected in a number of corporate documents, in particular in the Articles of Incorporation, the Organizational Rules and the Charters and Rules of the Board Committees. The Board’s Governance and Nominations Committee, which oversees the Group’s governance, regularly measures that governance against best practice standards and ensures compliance with corporate governance requirements.
This report basically follows the recommended structure outlined in the Directive on Information Relating to Corporate Governance of the SIX Swiss Exchange. The chapter on compensation, shareholdings and loans of the Directors and the members of the GEC is dealt with in a separate report, the Remuneration Report (see pages 46 to 65), which complements this Corporate Governance Report and also includes the information as required by the Circular 2010/1 on remuneration schemes (minimum standards for remuneration schemes of financial institutions) issued by the Swiss Financial Market Supervisory Authority (FINMA) on October 21, 2009.
• Global Life pursues a strategy with market-leading propositions in unit-linked and protection products through global distribution and proposition pillars to develop leadership positions in its chosen segments.
• Other Operating Businesses predominantly consist of the Group’s Headquarter and Holding & Finance activities. In addition, certain alternative investment positions not allocated to core operating segments are included in this segment.
• Non-Core Businesses include insurance businesses that the Group does not consider core to its operations and that are therefore mostly managed to achieve a beneficial run-off. Non-Core Businesses also include the Group’s banking activities.
The Group’s secondary format for segment information continued to be geographic in 2010 and was as follows: Americas, Europe & Africa, Asia-Pacific & Middle East and Central Region. As from 2011 Africa will be part of an enlarged Asia-Pacific & Middle East region.
Zurich Financial Services Ltd is also not aware of any person or institution which, as of December 31, 2010, directly or indirectly, alone or with others, exercised or was a party to any arrangements to exercise control over Zurich Financial Services Ltd.
Cross-shareholdings Zurich Financial Services Ltd has no interest in any other company exceeding five percent of the voting rights of that other company, where that other company has an interest in Zurich Financial Services Ltd exceeding five percent of the voting rights in Zurich Financial Services Ltd.
Changes of share capital during 2010 At the Annual General Meeting on March 30, 2010, the shareholders approved a share capital reduction of CHF 183,640.40 from CHF 14,747,306.80 to CHF 14,563,666.40 by canceling 1,836,404 registered shares. The effective date of the capital reduction was June 15, 2010. In addition, the shareholders approved an increase in the authorized share capital to a new maximum of CHF 1,000,000.00, allowing for enhanced financial flexibility of the company for future capital management, and an increase in the contingent share capital to a new maximum of CHF 500,000.00 which can be issued to employees of Zurich Financial Services Ltd and its subsidiaries in connection with employee participation plans.
During 2010, a total of 950,232 shares were issued to employees out of the contingent capital. As a result, on December 31, 2010, the share capital amounted to CHF 14,658,689.60 (146,586,896 shares) and both the authorized capital and the contingent share capital (as specified in Article 5bis(1) and in Article 5ter(1a) of the Articles of Incorporation, respectively) amounted to CHF 1,000,000.00 (10,000,000 shares) and the other contingent share capital (as specified in Article 5ter(2a) of the Articles of Incorporation) amounted to CHF 470,836.30 (4,708,363 shares).
Newly issued shares from authorized capital 480,000.00 4,800,000 0.10 Newly issued shares from contingent capital 55,044.80 550,448 0.10
There are special provisions relating to the registration of, and exercise of rights attaching to shares by the Bank of New York Mellon in connection with the Zurich Financial Services Ltd’s ADR program.
Relations between our Board and our Management are structured to support both groups in fulfilling their commitment to deliver. This structure establishes checks and balances and is designed to provide for institutional independence of the Board of Directors from the Chief Executive Officer (CEO) and the Group Executive Committee (GEC).
1 Manfred Gentz Chairman of the Board, Chairman of the Governance and Nominations Committee, Member of the Remuneration Committee 2 Josef Ackermann Vice Chairman of the Board, Member of the Governance and Nominations Committee, Member of the Remuneration Committee 3 Susan Bies Director, Member of the Risk Committee 4 Victor L.L. Chu Director, Member of the Governance and Nominations Committee 5 Thomas K. Escher Director, Member of the Remuneration Committee 6 Fred Kindle Director, Member of the Audit Committee 7 Armin Meyer Director, Member of the Governance and Nominations Committee, Member of the Risk Committee 8 Don Nicolaisen Director, Chairman of the Audit Committee, Member of the Risk Committee 9 Vernon L. Sankey Director, Chairman of the Remuneration Committee 10 Tom de Swaan Director, Chairman of the Risk Committee, Member of the Audit Committee 11 Rolf Watter Director, Member of the Audit Committee
Our Management strives to help us meet our aspiration to become the best global insurer as measured by our shareholders, customers and employees.
Senior Advisor 3 Mike Foley Chief Executive Officer North America Commercial 4 Mario Greco Chief Executive Officer General Insurance 5 Kevin Hogan Chief Executive Officer Global Life 6 Paul N. Hopkins Chairman of the Board of Farmers Group, Inc., Regional Chairman of the Americas 7 Axel P. Lehmann Chief Risk Officer 8 Christian Orator Chief Administrative Officer 9 Cecilia Reyes Chief Investment Officer 10 Geoff Riddell Regional Chairman of Asia-Pacific & Middle East 11 Kristof Terryn Group Head of Operations 12 Dieter Wemmer Chief Financial Officer, Regional Chairman of Europe & Africa 1 Retired as Senior Advisor to the GEC on December 31, 2010.
Victor Chu British 1957 Director Member of the Governance and Nominations Committee 2008 2013
Director Member of the Governance and Nominations Committee Member of the Risk Committee 2001 2013
Director Chairman of the Audit Committee Member of the Risk Committee 2006 2012
Vernon Sankey British 1949 Director Chairman of the Remuneration Committee 19981 2012
Rolf Watter Swiss 1958 Director Member of the Audit Committee 2002 2013 1 Mr. Sankey was a member of several boards of the Group holding structure that was established 1998 with the merger between B.A.T. Financial Services and Zurich Insurance Company. The Group holding structure originally consisting of Zurich Group Holding (then called Zurich Financial Services), Allied Zurich p.l.c. and Zurich Allied AG was reorganized in October 2000. Since this unification he served on the Board of Zurich Financial Services Ltd.
Susan Bies, born 1947, graduated with a BS degree from the State University College at Buffalo, New York, and with a MA degree from Northwestern University, Evanston, Illinois, where she later gained a PhD. She began her career in 1970 as regional and banking structure economist with the Federal Reserve Bank of St. Louis, Missouri, and two years later became assistant professor of economics at Wayne State University, Detroit, Michigan. In 1977, she moved to Rhodes College, Memphis, Tennessee in a similar role, and in 1979 joined First Tennessee National Corporation in Memphis, where she remained until 2001. During the early years, her areas of responsibility included tactical planning and corporate development. In 1984 she became chief financial officer and chairman of the asset/ liability committee. In 1995, she became executive vice president of risk management, and auditor and chairman of the executive risk management committee, as well as continuing her duties with the asset/liability committee. From 2001 until 2007, she was a member of the Board of Governors of the Federal Reserve System. Between 1996 and 2001, Mrs. Bies was a member of the Emerging Issues Task Force of the Financial Accounting Standards Board. From 2007 to 2008 she was a member of the Securities and Exchange Commission’s advisory committee on improving financial reporting, and chairman of its substantive complexity sub-committee. In June 2009, Mrs. Bies became a member of the board of directors of The Bank of America Corporation.
Business Leaders Forum and the WWF in Hong Kong. He also serves as a member of the Mayor of London’s International Business Advisory Council. Mr. Chu’s other civic associations include service on the advisory bodies of the International Crisis Group, Chatham House, the Beijing Music Festival Foundation and the Atlantic Council of the USA.
Armin Meyer, born 1949, graduated with a PhD in electrical engineering from the Swiss Federal Institute of Technology (ETH) and joined BBC Brown Boveri Ltd. in 1976 as a development engineer. In 1980, he became head of research and development for industrial motors, and in 1984, he took over as head of the international business unit for electrical power generators. In 1988, Mr. Meyer became president of ABB Drives Ltd. and in 1992, president of ABB Power Generation Ltd. From 1995 until 2000, he was executive vice president of ABB Ltd. and a member of that group’s executive committee. In 1997, he became a member of the board of directors of Ciba Specialty Chemicals at the time of its spin-off from Novartis. He became chairman of the board of Ciba Specialty Chemicals in autumn 2000 and served in that role until April 2009. From January 1, 2001 until December 31, 2007, in addition, he acted as chief executive officer. In April 2010, Mr. Meyer became a member of the board of directors of Amcor Limited in Melbourne, Australia. Mr. Meyer is a member of the executive committee and the foundation board of the international Institute for Management Development, IMD, in Lausanne, Switzerland. From 2001 to 2008, he was a member of the European Chemical Industry Council (Cefic) in Brussels, Belgium.
Vernon Louis Sankey, born 1949, graduated with a MA degree from Oriel College, Oxford and joined Reckitt and Colman in the UK in 1971, subsequently working in France, Denmark, the UK and the U.S. He was appointed to the board of directors in 1989 and was chief executive officer of that company from 1991 to 1999. From 2000 until September 2007 he was chairman of Photo-Me International plc. From 2001 until June 2007 he was a director of Cofra AG, Switzerland, and from 2004 until July 2007 of Taylor Woodrow plc. Between 2005 and 2008 he served as a director of Vividas Group plc. As of January 1, 2006, he has been a member of the supervisory board of Atos Origin SA, Paris, and since October, 2006 of Firmenich SA, Geneva, where he became chairman in October 2008. He was chairman of Thomson Travel Group plc until August 2000, of Gala Group Holdings plc until February 2003 and of The Really Effective Development Company Ltd until March 2006. He also was a director of Pearson plc until April 2006 and is a former board member of the UK’s
Tom de Swaan, born 1946, graduated from the University of Amsterdam with a master’s degree in economics. He joined De Nederlandsche Bank N.V. in 1972, and from 1986 until 1998 was a member of the governing board. In January 1999, he became a member of the managing board and chief financial officer of ABN AMRO Bank. He retired from ABN AMRO on May 1, 2006, but continued as an advisor to the managing board until June 2007. Mr. de Swaan is a non-executive member of the board of GlaxoSmithKline Plc and chairman of its audit committee. He is a member of the supervisory board of Royal DSM, a Netherlands-based chemical group. Since May 3, 2007, he is also the vice chairman of the supervisory board of Royal Ahold, a global retail chain, and since May 10, 2008, he is chairman of the supervisory board of Van Lanschot NV, the holding company of F. van Lanschot Bankiers, an independent Dutch bank. Since October 1, 2010, he is a member of the public interest committee of KPMG ELLP. From 1987 to 1988, he was chairman of the Amsterdam Financial Center, and from 1995 to 1997 chairman of the banking supervisory sub-committee of the European Monetary Institute. He was also a member of the Basel Committee on Banking Supervision from 1991 to 1996, its chairman from 1997 to 1998, and a non-executive director on the board of the UK’s Financial Services Authority from January 2001 until the end of 2006. Mr. de Swaan is also a director of a number of non-profit organizations. Among others he is treasurer of the board of the Royal Concertgebouw Orchestra, the Netherlands Cancer Institute and the International Franz Liszt Piano Competition. Moreover, he chairs the advisory board of the Rotterdam School of Management.
Elections and terms of office The Articles of Incorporation require that the Board shall consist of not fewer than seven and not more than 13 members. The ordinary term of office is three years. On the expiration of their terms of office, Directors may be reelected immediately. The Articles of Incorporation require elections to be organized in such a way as to ensure that no more than four Directors complete their term of office at any one general shareholders’ meeting. The election of a member of the Board is effected on an individual basis. Directors are elected by a majority of the votes cast. Zurich Financial Services Ltd’s Organizational Rules provide that no individual of 70 years of age or older shall be nominated or stay in office as a Director, although exceptions may be made under special circumstances.
The Board consists entirely of Directors who are nonexecutive, independent from the Management, and who have never held an executive position in the Group. The Governance and Nominations Committee annually reviews the independence of the Board members and reports its findings to the Board for final determination. Board members are also subject to rules and regulations to avoid conflicts of interest and the use of inside information. A self-assessment of the full Board is carried out once a year. In 2010, the Board’s self-assessment was carried out on the basis of a comprehensive questionnaire. A detailed report was produced for and considered by the Board.
Given the separation of roles of the Chairman and the CEO and the fact that the Board of Directors is wholly non-executive, there is no requirement for a lead director to be appointed under the Swiss Code of Best Practice.
The CEO attends the Board meetings ex officio. The members of the GEC are regularly invited by the Board to attend Board meetings. Other executives attend these
Corporate governance report continued meetings from time to time upon invitation by the Board. Most Board meetings include private sessions of the Board, without the participation of Management.
The Governance and Nominations Committee is composed of four Board members. It oversees the Group’s governance and measures it against best practice with a view to ensure that the rights of the shareholders are fully protected. It also develops and proposes to the Board corporate governance guidelines and reviews them from time to time. The Governance and Nominations Committee is further entrusted with succession planning with respect to the Board, the CEO and the members of the GEC and Group Management Board (GMB). In this regard, it proposes the principles for the nomination and ongoing qualification of members of the Board and makes proposals to the Board on the composition of the Board, as well as the appointment of the Chairman, the Vice Chairman, the CEO and the other members of the GEC and GMB. The Committee reviews the system for management development and supervises progress made in respect of succession planning. Final decisions for nominations and appointments are made by the Board, subject to shareholder approval, where so required. During 2010 the Governance and Nominations Committee met four times (once jointly with the Remuneration and the Risk Committee) and particularly addressed the nomination and ongoing qualifications of the members of the Board of Directors and the succession planning for members of senior management. On average, attendance at meetings of the Governance and Nominations Committee was 94 percent.
The Remuneration Committee comprises four members of the Board. The Remuneration Committee regularly evaluates the Group’s remuneration system and the Remuneration Rules and, if appropriate, proposes respective amendments to the Board which is responsible for the design, the implementation and the monitoring of the Group’s remuneration architecture. It also proposes the Directors’ remuneration to the Board for approval. Based on the Remuneration Rules, it negotiates the terms and conditions of employment of the CEO and reviews those of the members of the GEC – as negotiated by the CEO – before submitting them to the Board for approval. The Remuneration Committee approves the employment arrangements for additional members of the GMB as negotiated by the CEO and liaises with him on other important employment, salary and benefit matters. It also reviews the performance relating to the senior management’s short-term and long-term incentive plans. In order to ensure the risk-alignment of remuneration, Group Risk Management provides a review of risk factors to consider when overall performance for incentives is assessed, and the Chief Risk Officer is available to discuss these findings with the Remuneration Committee and the Board of Directors. To assist in the review of the remuneration structures and practices, the Remuneration Committee has retained its own independent advisors, Meridian and Aon Hewitt. The Remuneration Committee met four times (once together with the Governance and Nominations Committee and the Risk Committee) in 2010, with attendance of 88 percent. Further details of the Group’s remuneration governance and the Remuneration Rules are given in the Remuneration Report on pages 46 to 65.
The Audit Committee serves as a focal point for communication and oversight regarding financial accounting and reporting, internal control, actuarial, and compliance within the Management. It is responsible for reviewing the Group’s auditing process (including establishing the basic principles relating to and making proposals with respect to the audit of Zurich Financial Services Ltd and the Group) and reviews the internal control systems. The external auditors, the internal auditors and appropriate members of the GEC, the GMB and other executives attend its meetings in order to, among other things, discuss the auditors’ reports, to review and assess the auditing concept and the examination process and to assess the activities of internal and external auditors. For more information on the supervision and control of the external audit process, please see page 43. The Audit Committee, at least annually, reviews the standards of internal control, including the activities, plans, organization and the quality of internal audit and Group Compliance.
The internal audit function and the external auditors as well as the compliance function also assist the Board in exercising its controlling and supervisory duties. Information on major areas of activities of these functions is set out on pages 42 to 45.
For key areas cross-functional committees have been established to facilitate the coordination and alignment of recommendations to the CEO for approval on specific subject matters.
A standing committee of the GEC is the Group Balance Sheet Committee (GBSC), chaired by the CEO. This committee acts as a cross-functional body whose main function is to control the activities that materially affect the balance sheets of the Group or its subsidiaries. The GBSC is charged with setting the annual capital and balance sheet plans for the Group based on the Group strategy or financial plan, as well as recommending specific transactions or unplanned business changes to the Group’s balance sheet. The GBSC has oversight of all main levers of the balance sheet. It assesses the Group’s capital adequacy, reinsurance, level of return, risk tolerance and desired growth. The GBSC reviews and recommends the Group’s overall risk tolerance levels. A further GEC committee is the Group Finance and Risk Committee (GFRC), chaired by the Chief Financial Officer. The GFRC acts as a cross-functional body for financial and risk management matters in the context of the strategy and the overall business activity of the Group. It oversees financial implications of business decisions and the effective management of the Group’s overall risk profile, including risks related to insurance, financial markets and asset/liability, credit and operational risks as well as the interaction between these risks and provides recommendations for future courses of action with respect to potential M&A transactions and topics relating to finance and risk management.
All current members of the GEC served throughout 2010 except for Cecilia Reyes, Kevin Hogan, Kristof Terryn and Christian Orator. Cecilia Reyes was appointed Chief Investment Officer and member of the GEC effective April 2010. Effective July 2010, Kevin Hogan was appointed CEO Global Life and Kristof Terryn was appointed Group Head of Operations, a newly established position to align the Group’s shared services, IT and procurement functions and drive the ongoing operational transformation initiatives. Both served as members of the GEC from that date. In connection with the appointment of Mr. Hogan, Mario Greco assumed the new position of CEO General Insurance. Christian Orator was appointed member of the GEC effective September 2010 assuming the role of Chief Administrative Officer. John Amore retired from the GEC at the end of 2010.
John J. Amore, born 1948, graduated with a degree in management from Embry-Riddle Aeronautical University, Daytona Beach (U.S.), and with an MBA in finance from New York University. Before joining Zurich in 1992, he was vice chairman of the Commerce and Industry Insurance Company, a member company of American International Group (AIG). He later became Chief Executive Officer of the Zurich U.S. Specialties business unit and was appointed chief executive officer of Zurich U.S. in December 2000. In July 2001, he became a member of the GEC and was appointed CEO of Zurich North America Corporate business division. He held this position until end of August 2004. From April 2004 until June 2010 he was CEO of the global General Insurance business segment. In July 2010, he assumed the role as Senior Advisor. Mr. Amore served as chairman of the American Insurance Association and was a member of its board from 2001 until March 2008. He serves as director on the board of overseers for the School of Risk Management, Insurance and Actuarial Science at St. John’s University in New York. He served as an elected partner for the Partnership for New York City, an organization dedicated to maintaining the city’s position as a global center of commerce and innovation from 2003
Mike Foley, born 1962, graduated in math and economics from Fairfield University, Connecticut. He joined the financial management training program of Armtek Corporation, Connecticut, in 1984, and later gained an MBA in marketing/finance from the JL Kellogg Graduate School of Management at Northwestern University in Evanston, Illinois. In 1989 he joined the Deepath Group investment banking firm in Lake Forest, Illinois, as an associate and became vice president responsible for managing the portfolio of equity investments in various acquired businesses. In 1993 he joined Electrocal, Inc in Connecticut as president, and three years later moved to McKinsey & Company in Chicago, where he became a principal and later led its North American property/casualty insurance practice. He joined Zurich in 2006 as Chief Operating Officer of its North America Commercial business division, and in January 2008 was appointed CEO of that division and a member of the GEC.
Corporate governance report several U.S. research studies, he wrote a post-doctorate certification at the University of St. Gallen and subsequently completed the Wharton Advanced Management Program. He was a lecturer at several universities and institutes and became vice president of the Institute of Insurance Economics at the University of St. Gallen and the European Center, responsible for Consulting and Management Development. He was head of Corporate Planning and Corporate Controlling for Swiss Life before he joined Zurich in 1996 and held various executive management and corporate development positions within Zurich Switzerland. He became a member of the Group Management Board responsible for Group-wide Business Development functions in November 2000. In September 2001, he was appointed Chief Executive Officer for Northern, Central and Eastern Europe and subsequently Chief Executive Officer of the Zurich Group, Germany. In March 2002, he became CEO of the Continental Europe business division and a member of the GEC. In 2004, he was in charge of the consolidation of the United Kingdom and Ireland division with the Continental Europe division and assumed responsibility as CEO for the creation of the integrated Europe General Insurance business division. In September 2004, he became CEO of Zurich North America Commercial in Schaumburg/Chicago. In January 2008 he assumed his current role as Chief Risk Officer, with additional responsibility for Group IT. Mr. Lehmann is an honorary professor for business administration and service management and chairman of the board of the Institute of Insurance Economics at the University of St. Gallen in Switzerland. He is also a member of the board of directors of UBS and chairman of the Chief Risk Officer Forum (CRO Forum).
Cecilia Reyes, born 1959, holds a PhD in Finance from London Business School and an MBA from the University of Hawaii. She worked from 1990 until 1995 for Credit Suisse in Zurich in various roles in Credit Suisse Asset Management, Global Treasury and Securities Trading. In 1995, she joined ING Barings in London and in 1997 she became a Director and Head of Trading Risk Analytics. After that she moved to Amsterdam in 2000 as Head of Risk Analytics for ING Asset Management to develop risk management methods for the asset management operation. Ms. Reyes joined Zurich in January 2001 as Regional Manager for Group Investments with responsibility for North America, and became Regional Manager for Europe and International Businesses in July 2004. From April 2006 until March 2010 she was Head of Investment Strategy Implementation. In April 2010 she assumed her current role as Chief Investment Officer and became a member of the GEC.
Geoffrey (Geoff) Riddell, born 1956, holds an MA degree in natural sciences (chemistry) from Oxford University (The Queen’s College) and later qualified as a chartered accountant. He started his career with Price Waterhouse in 1978 and four years later moved to AIG, where he held various roles, including country manager for Hong Kong, Belgium and France. While in Hong Kong, he was responsible for setting up the first foreign general insurance company in China. Mr. Riddell joined Zurich in May 2000, initially as managing director of Zurich Commercial in the UK, and then became managing director of the UK Corporate and Government businesses. In November 2002 he was appointed CEO of General Insurance in the UK, Ireland and Southern Africa. Mr. Riddell assumed the position of Chief Executive Officer (CEO) of Global Corporate in April 2004, and was promoted to be a member of the Group Executive Committee in October 2004. On January 1, 2009 he took on the roles of CEO of Asia-Pacific & Middle East (APME), responsible for both Life and General Insurance in the APME region and Chairman of Global Corporate. In July 2010 he assumed the newly created role of Regional Chairman of Asia-Pacific & Middle East. Mr. Riddell is a former member of the General Insurance Council of the Association of British Insurers and for three years chaired its liability committee. From 1990 to 1995, he was a member of the Hong Kong Federation of Insurers Council. He was a director of Pool Re from February 2005 till August 2010 and of the Forum for Global Health Protection from 2007 until the end of 2010. He was a member of the Confederation of British Industry’s Chairmen’s Committee and chaired the CBI Financial Services Council until September 2010. Until late 2009, he was a member of the Foundation Board of IMD in Lausanne, the City of London EU Advisory Committee and the Lord Mayor of London’s Advisory Committee.
Changes to the GEC as from January 1, 2011 There have been no changes to the GEC as from January 1, 2011.
Registrations in the share register With a view to ensure an orderly process, shortly before the shareholders’ meeting the Board determines the record date at which a shareholder needs to be registered in the share register in order to exercise his or her participation rights by attending the shareholders’ meeting. Such record date is published, together with the invitation to the shareholders’ meeting, in the Swiss Official Gazette of Commerce and in several newspapers.
The Group is party to a voluntary agreement within the scope of the European Works Council Directive. In some countries, the Group has established broad-based employee share compensation and incentive plans to encourage employees to become shareholders in the Group.
Clauses on changes of control Employment agreements have been entered into with the members of the GEC, setting out the terms and conditions on which they are employed. With regard to termination benefits, the longest period of severance for members of the GEC is twelve month, including the notice period, and no additional severance benefits are provided in the case of a change of control.
Mr. Ray Kunz of PricewaterhouseCoopers AG succeeded Mr. Patrick Shouvlin, former auditor-in-charge, responsible since January 1, 2008, as auditor-in-charge for the business year 2010. Mr. Shouvlin will co-sign the auditors’ report as global relationship partner. In accordance with Zurich’s rotation rules, after five years of engagement as one of the main auditors for Zurich (hereof one year as auditor-incharge on Group level), Mr. Kunz will be succeded by Mr. Richard Burger as auditor-in-charge as from the business year 2011.
Auditing fees Total auditing fees (including expenses and value added taxes) charged by PwC in the year 2010 amounted to USD 33.6 million (USD 32.9 million in 2009).
Corporate governance report required by local law or regulatory bodies) performed by PwC and parties associated with them for Zurich Financial Services Ltd or one of the Group’s companies amounted to
USD 5.8 million (USD 4.2 million in 2009). The single components of the additional fees are set forth in the table below.
The Audit Committee has approved a written policy on the use of external auditors for non-audit services, which sets forth the rules for providing such services and related matters (including a list of prohibited services). Allowable non-audit services may include tax advice and services, comfort and consent letters, certifications and attestations, due diligence and audit support in proposed transactions, to the extent that such work complies with applicable legal and regulatory requirements and does not compromise their independence or objectivity as external auditors. In order to avoid conflicts of interest, all allowable non-audit services need pre-approval from the Audit Committee (Chairman), the Group Chief Financial Officer or the local CFO, depending on the level of expected fee. They further require, among other things, an engagement letter specifying the services to be provided and making reference to the external auditors’ obligation to comply with this policy.
The Audit Committee annually approves the Group Audit Plan and quarterly reviews reports from the function on its activities as well as significant risk, control and governance issues. The Head of Group Audit reports to both the Chairman of the Audit Committee and the CEO, and regularly meets with the Chairman of the Board. Group Audit has no operational responsibilities over the areas it reviews and all staff within Group Audit globally report to the Head of Group Audit.
The Group has adopted an integrated assurance strategy in its overall assessment of the risk and control environment. Through an increased focus on information exchange and coordination, the effectiveness and efficiency of assurance delivery, chiefly between the Group’s risk, compliance and internal audit functions, and external audit, continues to improve.
The compliance function provides policies and guidance, business advice and training, and further coordinates with Group Audit and the business quality assurance groups to ensure proper internal oversight of business and governance functions. This includes ongoing reviews of laws, regulations and other requirements at all levels of the organization. The compliance team supports Zurich’s management in maintaining and promoting a culture of compliance and ethics consistent with Zurich Basics, our company’s code of conduct. This robust compliance framework relies on an ongoing global compliance risk assessment and on a solid monitoring regime. The results of this assessment underpin the compliance function’s strategic planning which is conducted in consultation with business partners. Subsequently, the compliance plan is ratified by Management.
Through a comprehensive program, the compliance function implements, embeds and enforces internal policies and guidance. As part of it, our compliance officers are active in the on-boarding of new employees and in the integration of newly acquired companies. To help employees understand their responsibilities under Zurich Basics and internal policies, all employees receive regular ethical and compliance training. In addition, the compliance function spearheads internal awareness campaigns on ethical and regulatory conduct. Each year Zurich managers confirm their understanding and compliance with Zurich Basics and internal policies. Zurich encourages its employees to speak up and report improper conduct. Zurich does not tolerate retaliation against any employee who reports such concerns in good faith.
Risk Management and Internal Control Statement The Board is responsible for overseeing the Group‘s risk management and internal control system, which Management is responsible for implementing. The system is designed to manage rather than eliminate the risk of failure to achieve business objectives and can provide only reasonable, and not absolute, assurance against material financial misstatement or loss. There are two committees at the Board level that have primary risk management and internal control oversight responsibilities: • the Risk Committee – with oversight over risk management, and
The reports relate to matters such as a) significant changes in risks, the business and the external environment; b) management’s monitoring and control systems; c) significant control issues, if any; and d) the effectiveness of the Group’s external reporting process.
This Remuneration Report provides all the information that is outlined in chapter five of the Directive on Information Relating to Corporate Governance of the SIX Swiss Exchange (SIX Directive) and the Swiss Code of Best Practice, as amended with effect from July 1, 2009 and October 15, 2007, respectively. Included is also all the information required by articles 663bbis and 663c paragraph 3 of the Swiss Code of Obligations and the Circular 2010/1 on minimum standards for remuneration schemes of financial institutions, issued on October 21, 2009 by the Swiss Financial Market Supervisory Authority FINMA (FINMA Circular on Remuneration Schemes).
During 2010 the Board of Directors has conducted a review of the remuneration architecture, which also included a joint meeting of the Remuneration and Risk Committees. Overall the Board of Directors is firmly of the opinion that the existing remuneration architecture reflects current international best practices in terms of the risk-alignment, governance, plan design and disclosure. However, in consideration of emerging trends the Board of Directors has decided to make the following amendments to the remuneration architecture effective in 2011: • There will be a joint meeting between the Remuneration Committee and the Risk Committee to discuss a risk review of the remuneration architecture and the remuneration governance framework once a year. For this joint meeting, the Group Risk Management function will evaluate the remuneration architecture on an annual basis and report its findings on how the remuneration architecture is consistent with effective risk management and does not encourage inappropriate risk taking that exceeds the Group’s level of tolerated risk.
• During the annual process to determine the variable remuneration funding, Group Risk Management, consults with other control, governance and assurance functions and provides to the CEO a review of risk factors to consider when overall performance for the funding of incentives is being assessed. The Chief Risk Officer is available to discuss these findings with the Remuneration Committee and the Board of Directors. Among other factors the CEO takes into account the assessment by Group Risk Management when presenting his proposals for the funding of the short-term and long-term incentive pools to the
Remuneration Committee, which makes a recommendation to the Board of Directors for final approval.
As part of this review in 2010, approximately 100 key management positions with a material impact on the risk profile of the Group were identified (Key Risk Takers). With regard to the remuneration arrangements for the incumbents in these positions, all participate in both short- and long-term incentive plans with a greater emphasis towards long-term and therefore deferred remuneration.
Approval process for remuneration In accordance with the Remuneration Rules the Remuneration Committee is responsible for proposing to the Board on an annual basis the remuneration payable to the Directors, to the CEO and to the other members of the GEC. For the other members of the GEC, these recommendations are based on proposals made by the CEO. The remuneration has to be approved by the Board of Directors.
The approval framework is set out below: Subject Recommendation from Final Approval from
For Directors: Remuneration Committee For all Employees: Remuneration Committee based on proposals from the CEO
Benchmark studies and external advisors to the Board of Directors To assist decision making on both Board and GEC remuneration, benchmarking studies are carried out regularly. To assess market practices and market remuneration levels, the remuneration structures and practices of the largest insurance companies are analyzed, using the companies in the Dow Jones Titan Insurance Index as a basis. This Index comprises the largest insurance companies throughout the world, predominantly in Europe and in the United States. This analysis is supplemented by additional benchmarking studies as appropriate, e.g. by looking at practices within the large Swiss Market Index (SMI) companies in Switzerland or at similar sized companies in other countries. The resulting industry peer group includes such companies as AXA, Allianz, AIG, Munich Re, Aviva, ING Group, Prudential Plc, Met Life, Aegon, Ace, Travelers Cos. Inc., Manulife Financial Corp., Prudential Financial Inc., and Swiss Re.
Involvement of shareholders As last year, Zurich will provide shareholders with an opportunity to express their views on the remuneration architecture through an advisory vote at the Annual General Meeting to be held on March 31, 2011. As the ultimate decision on remuneration is within the powers of the Board of Directors, such a vote is non-binding in nature.
Based on their role on the Board and the fee structure described on page 53, fee levels are established for each member of the Board of Directors of Zurich Financial Services Ltd. Fees are paid in cash and in shares with approximately one-third of the fee being provided in three-year sales restricted shares of Zurich Financial Services Ltd.
Group Executive Committee and all other employees For the members of the GEC and all other employees throughout the Group, a number of key elements have been implemented to provide a well balanced and effectively managed remuneration program. These elements include a group-wide remuneration philosophy, robust short- and long-term incentive plans, effective governance, and strong links to the business planning and risk policies of the Group.
Zurich is committed to providing competitive total remuneration opportunities that attract, retain, motivate and reward employees to deliver outstanding performance. The remuneration philosophy is an integral part of the overall offering to employees. Zurich has a clearly defined global performance management process which supports the achievement of the overall business strategy and operating plans, and links individual pay with business and personal performance. This is delivered through the remuneration framework overseen by the GEC, the Remuneration Committee of the Board and the Board of Directors itself.
Guiding principles of the remuneration philosophy The guiding principles as inacted in the Remueration Rules applicable in 2011 are as follows: • The Group’s remuneration architecture is simple, transparent and implementable. For those individuals having a material impact on the Group’s risk profile, it is oriented towards the long-term.
• The Group’s short- and long-term incentive plans used for variable remuneration are linked to appropriate performance measures and the overall expenditure on variable pay is considered in connection with the Group’s long-term economic performance.
Depending on the position, the global, regional or the respective local market is utilized for benchmarking. The remuneration mix between base salary and variable pay is also aligned with local market practices and internal relativities. Zurich is transparent in the communication of how the reward structure is defined and the processes used for decision making. Total remuneration includes the following elements: Element Type Description
(With effect from January 1, 2011 all LTIP grants will be made 100% in the form of performance shares)
Option grants were made to only the most senior population and discontinued in 2011
• Each participant has a target award established for the performance year.
• A number of distinct short-term incentive pools are established to cover the various areas of the business. For example, for the most senior executive group, the business segments, operations, the functional areas and the Corporate Center. The pool structure is reviewed each year. Each participant is allocated to a STIP funding pool.
• For each STIP pool, the target funding pool is equal to the sum of the individual target award levels for the participants in the pool.
Short-term incentives are delivered through a Group Plan and through local country plans. The Group Plan is utilized across the organization and, in many countries covers all employees in the respective country who are selected to participate. In some other countries only the most senior individuals participate in the Group Plan. Local country plans, following broadly the same principles as the Group Plan, may be utilized for other employees.
In the future the local country plans will be further integrated into the Group Plan.
• moreover, for those share awards that do vest, one half of these share awards are sales restricted for a further period of three years.
Long-term incentive plans applied by the Group may include i) performance shares, ii) performance based options, or iii) restricted shares, or a combination thereof. With effect from January 1, 2011 the regular long-term incentive grants are made in the form of performance shares and no option grants will be made as of January 2011. The key design features for the
Directors Directors’ fees All Directors receive a fee, which is paid partly in cash and allocated partly in three-year sales restricted Zurich Financial Services Ltd shares, for their memberships of the Boards of Zurich Financial Services Ltd and Zurich
The annual basic fee for the Vice Chairman during 2010 was USD 330,000, of which an amount of USD 68,500 is allocated to sales restricted Zurich Financial Services Ltd shares. The annual basic fee for the Chairman of the Board of Zurich Financial Services Ltd during 2010 was USD 700,000 and one-third of the total amount, i.e. USD 233,500 is allocated to sales restricted Zurich Financial Services Ltd shares. Neither the Chairman nor the Vice Chairman receives any additional fees for their committee work.
Three year annual average of the Group’s return on common shareholders’ equity (ROE)
The following tables set out the fees paid to the Directors in 2010 and 2009: Basic Fee
Remuneration report 10 In addition to the fees received as Directors of Zurich Financial Services Ltd and Zurich Insurance Company Ltd, Mrs Bies, Mr Nicolaisen and Mr de Swaan earned fees for their board memberships of the following Zurich Financial Services Group companies: – In 2010, Mrs Bies and Mr Nicolaisen earned each an annual fee of USD 40,000 for their membership of the board of Zurich Holding Company of America (ZHCA). In 2009 both received a pro rata fee of USD 10,000 for their membership on the board of Zurich Holding Company of America (ZHCA) from October 19, 2009 (based on an annual fee of USD 40,000). In 2010 and 2009, the amounts shown in the table also include a US Residence Fee of USD 10,000. – In 2010 and 2009, Mr de Swaan earned an annual fee of USD 40,000 for his membership of the board of Zurich Insurance plc and of the board of Zurich Life Assurance plc from January 1, 2010) and an annual fee of USD 10,000 for being chair of the audit committees of these two companies.
12 As of June 30, 2009, Mr Gentz was allocated 1,296 shares and the other Board members were allocated 380 shares based on a full year’s membership. The share price (CHF 197.10) and the exchange rate (USD / CHF 1.0942) as of June 15, 2009, were adopted to calculate the number of shares based on the fixed portion of the fee allocated in shares for the respective members. Where the value of the allocated shares did not equal the value of the portion of the fee to be allocated in shares, the difference was paid in cash. The amounts shown in the table above reflects the fixed amount in U.S. dollars of the portion of the fee to be allocated in shares.
Termination arrangements for members of the Board of Directors who gave up their functions Mr Philippe Pidoux retired from the Board at the Annual General Meeting during 2010. No termination payments were made to him. No Director gave up his or her function in 2009.
Shareholdings of Directors The shareholdings of the Directors, who held office at the end of the year, in shares of Zurich Financial Services Ltd are shown on the following page. All interests shown are beneficial, including sales restricted shares allocated to the members as part of their fee and shares held by related parties to the Directors.
S. Bies, Member 881 567 V. Chu, Member 881 567 Th. Escher, Member 6,164 5,850 F. Kindle, Member 11,164 10,850 A. Meyer, Member 2,488 2,174 D. Nicolaisen, Member 1,164 850 V.L. Sankey, Member 2,334 2,020 T. de Swaan, Member 1,164 850 R. Watter, Member 4,132 3,818 1 None of the Directors together with related parties to them held more than 0.5% of the voting rights as of December 31, 2010 or 2009, respectively. 2 At the Annual General Meeting on March 30, 2010 Mr Pidoux retired from the Board and Mr Ackermann was elected to the Board and was appointed Vice Chairman.
Number of Zurich Financial Services Ltd shares1, as of December 31Directors’ shareholdings
Share options held by Directors The members of the Boards of Directors of Zurich Financial Services Ltd and Zurich Insurance Company Ltd do not participate in any share option plan for executive management. Hence, no share options have been allotted in the year under review or in earlier years. None of the Directors, nor any related parties to them, held any share options or conversion rights over Zurich Financial Services Ltd shares as of December 31, 2010 or as of December 31, 2009.
Additional honoraria and remuneration for Directors None of the Directors received any other remuneration or benefits-in-kind from the Group or from any of the Group’s companies other than that set out above.
Personal loans for Directors Unrelated to his Board membership and on terms and conditions available to other customers, Mr Watter had a collateralized policy loan in the amount of CHF 2.5 million outstanding as of December 31, 2010 and 2009. The annual interest rate charged on the loan is 4 percent. Other than the loan for Mr Watter, none of the Directors had outstanding loans, advances or credits as of December 31, 2010 or 2009.
Personal loans for former Directors As of December 31, 2010, and 2009, respectively, no former Director had outstanding loans, advances or credits.
The distribution of the total remuneration in 2010 between the individual remuneration elements is set out in the following charts. This is on the basis of the target values for the performance related remuneration.
The vesting of the grants and the performance criteria are set out on pages 51 to 53.
The following equity grants were made in 2010: Performance share grants The total number of target performance share grants made to members of the GEC during 2010 was 29,129. This compares with an equivalent figure of 46,001 made for 2009. The value of the target performance share grants made on April 5, 2010 to members of the GEC in 2010 was USD 7.1 million at the date of grant based on the assumption of 100 percent vesting and a share price of CHF 259.90 on the day prior to the grant. For those GEC members who joined during 2010, the number and the value of the share grants is based on the grant for 2010 pro-rated for the time spent as a GEC member during the year.
The number of share awards that vested in 2010 to members of the GEC serving in 2010 from the performance share grants made in 2007, 2008 and 2009 was 53,539. This represented a basic vesting level of 153 percent of target given the actual ROE and TSR performance achievements. One-half of the shares that vest under the plan are sales restricted for three years from the date of vesting.
Restricted share grants Restricted share grants supplement the regular long-term incentive grants and are used only in extraordinary circumstances mainly for new hires to compensate for the loss of their equity rights with their previous employer. These restricted share grants tyically vest over three to five years following the date of grant and are forfeited if the holder of such share grants voluntarily leaves the company before the vesting date and the employment relationship terminates.
Summary of total remuneration for the Group Executive Committee By reference to the above figures, the total remuneration of the GEC members, comprising cash compensation, pensions, the value of other remuneration and the value of target equity grants for 2010 was USD 45.8 million, divided as follows: Base salary 11.4 11.1 Cash incentive awards earned for the year 13.6 15.0 Service Costs for pension benefits 4 3.0 3.6 Value of other remuneration 5 3.6 2.1 Value of target performance share and restricted share grants 6 7.1 8.0 Value of target performance option grants 6 7.1 8.0 1 The remuneration shown in the table does not include any business related expenses incurred in the performance of the members’ services. 2 On the basis of 13 GEC members, of whom 8 served for the full year 2010. 3 On the basis of 11 GEC members, of whom 10 served during the full year 2009.
Costs value the amount of the pension benefits accruing during the year and for defined contribution plans takes the amount of the company contribution paid during the year. Service Costs do not include the interest costs on accrued benefits, adjustments for actuarial gains and losses, nor the expected return on any assets held.
in USD million, for the years ended December 31Highest paid executive, Chief Executive Officer, Martin Senn in 2010 and James J. Schiro in 2009,1
Termination arrangements for members of the Group Executive Committee who gave up their functions during the year During 2010, one member left the Group. A termination agreement with the departing member provided remuneration in accordance with an existing employment contract which included a twelve month notice period. Subject to the individual’s compliance with postemployment obligations, the total value of the payments made in connection with the agreement during both 2010 and 2011 will amount to USD 2.1 million. Following his long service with the Group, another member retired on December 31, 2010. The retiring member will be retained as a consultant and receive payments in 2011 and 2012 recognizing contractual obligations and subject to compliance with post-employment obligations and the provision of services. Details will be disclosed in the years services are provided and payments are made. During 2009 one member retired at the end of April 2009 and another member retired at the end of the year. No termination payments were made in 2009.
Under the share option program, the total number of shares under option for the GEC members as of December 31, 2010, and 2009, respectively, is set out in the tables below.
Year of expiry as of December 31, 2010Summary of outstanding options, 2010
GEC as of December 31, 2010 under the Group’s Long-Term Incentive Plan was 56,453 (70,166 as of December 31, 2009). A summary of the outstanding grants as of December 31, 2010 is set out in the table below: �����BS��������LQGG����� ���������������������
Share and share option holdings of the Group Executive Committee The following table sets out the actual share and share option holdings of the GEC members as of December 31, 2010 and December 31, 2009. In addition to any shares acquired in the market, the numbers include vested shares, whether sales restricted or not, and vested share options received under the Group’s Long-Term Incentive Plan. However, the table does not include the share interests of the members of the GEC through their participation in the currently unvested performance shares, unvested restricted shares or unvested performance share options.
A. Court, former Chief Executive Officer Europe General Insurance 5 n.a. n.a. 6,722 16,515 M. Foley, Chief Executive Officer North America Commercial 10,459 23,996 6,696 11,696 M. Greco, Chief Executive Officer General Insurance 5,387 15,809 2,403 5,076 K. Hogan, Chief Executive Officer Global Life 6 442 2,237 n.a. n.a.
P. Hopkins, Chairman of the Board of Farmers Group, Inc. and Regional Chairman of the Americas 7,733 48,381 5,932 33,662 A. Lehmann, Chief Risk Officer 16,711 64,628 15,174 56,257 C. Orator, Chief Administrative Officer 7 5,026 14,035 n.a. n.a.
C. Reyes, Chief Investment Officer 8 1,333 6,002 n.a. n.a. G. Riddell, Regional Chairman of Asia-Pacific & Middle East 19,071 67,640 16,918 52,533 K. Terryn, Group Head of Operations 9 1,187 10,233 n.a. n.a.
D. Wemmer, Chief Financial Officer and Regional Chairman of Europe 17,102 67,816 12,612 48,868 1 None of the GEC members together with parties related to them held more than 0.5% of the voting rights as at December 31, 2010 or 2009, either directly or through share options.
Schiro, which are held by family run charitable foundations. 4 Mr Amore retired on December 31, 2010.
Number of vested shares and vested share options1, as of December 31Share and vested share option holdings of the GEC members
Year of grant Total 1 Mr Schiro retired from his function as Chief Executive Officer on December 31, 2009. 2 Ms Court left the function on June 30, 2010.
Trading plans To facilitate the sale of shares and the exercise of options for the members of the GEC and the GMB, the Board of Directors approved the implementation of trading plans effective as of 2008. These plans allow members to sell shares and/or exercise share options under a predefined transaction program. Trading plans can only be established at a time when the individual does not possess unpublished price-sensitive information with regard to the Group. Further, the first transaction under a trading plan can only occur three months following the date it is established. The terms and conditions of the transactions have to be defined and they cannot be changed. All trading plans of members require the approval of the Chairman of the Board. Once established, transactions take place on a monthly basis including during close periods. The establishment of a trading plan by a GEC member is reported to the SIX Swiss Exchange according to the rules on disclosure of management transactions.
For 2011, the Board of Directors has approved the extension of the Trading Plan concept to selected executives who are often prohibited from being able to deal because of the nature of their function.
Additional honoraria and remuneration for members of the Group Executive Committee None of the members of the GEC received any remuneration from the Group or from any of the Group’s companies in 2010 and 2009 other than as set out above.
Personal loans for members of the Group Executive Committee As of December 31, 2010, there were no loans, advances or credits outstanding from GEC members. As of December 31, 2009, the total of loans, advances or credits outstanding from GEC members was CHF 1,073,000. These loans represented mortgage loans, the terms of which are similar to those available to all employees in Switzerland. Mortgage loans are issued with a reduced interest rate of up to one percentage point less than the prevailing market interest rates on mortgage balances, up to a maximum of CHF 1,500,000. As of December 31, 2009 the highest mortgage loan was held by Mr Lehmann (Chief Risk Officer), in the amount of CHF 773,000, which had an overall interest rate of 2.1 percent.
Personal loans for former members of the Group Executive Committee Former members of the GEC are eligible to continue their mortgage loans following retirement on similar terms to those when they were employed, in line with the terms available to employees in Switzerland as stated above. As of December 31, 2010 no former member of the GEC had any outstanding loans, advances or credits. As of December 31, 2009 one former member, Mr Eckert, held an outstanding mortgage loan of CHF 2,500,000, with a reduced interest rate of 2.0 percent applying on the first
Related parties of Group Executive Committee members or of former members of the Group Executive Committee No benefits (or waiver of claims) have been provided to related parties of GEC members or related parties of former members of the GEC during the year 2010 and 2009. Neither had any related party of GEC members or of former members of the GEC outstanding loans, advances or credits as of December 31, 2010 and 2009.
Base salaries 3,746 Value of other remuneration1 577 Service Costs for pension benefits2 386 Total fixed remuneration 4,709 1 Includes personnel restaurant costs, employee accident insurances, medical and dental insurances, sick pay, disability costs & insurances, employer’s matching contribution to life insurance contracts, discounts on life and non-life insurance, other fringe benefits etc.
2 The amounts reflect the total value of pension benefits accruing during 2010 calculated on the basis of the Service Costs for the company as assessed under IAS 19 accounting principles. Service Costs value the amount of the pension benefits accruing during the year and for defined contribution plans takes the amount of the company contribution paid during the year. Service Costs do not include the interest costs on accrued benefits, adjustments for actuarial gains and losses, nor the expected return on any assets held. Payments made by the company in respect of defined contribution plans are also included.
Variable remuneration: Based on recommendations of the Remuneration Committee, the Board of Directors approves the aggregate amount of the Total Variable Remuneration Pool for the performance year. This comprises: • The total expenditure on cash incentives to be paid for the performance year comprising the amount of the aggregated funding pools under the Group Short-Term Incentive Plan (STIP) and the amounts to be paid under the local short-term incentive plans.
• The value of the target long-term incentive grants made during the year on the assumption that the grants will vest in the future at the 100% level.
• The total amount of severance payments made in the performance year. These payments were made to people whose termination date was in 2010.
2 Includes sign-on payments in shares. 3 The share and share option grants will vest in the future according to achievement of defined performance conditions. The value of the share and share options assumes that the grant will vest in the future at 100% of the target level with the valuation of the options based on the Black-Scholes option pricing model as set out in Note 25 to the consolidated financial statements, the valuation of the target performance share grants based on the share price on the day prior to the grants (CHF 259.90 for 2010). The charges in the financial statements may be calculated on different vesting basis.
The total number of beneficiaries receiving variable remuneration is approximately 52,000.
In determining the amount of the Total Variable Remuneration Pool, the Board of Directors considers the long-term economic performance of the Group as well as other relevant factors. In particular the Board of Directors verifies that the amount of the Total Variable Remuneration Pool is lower than the average economic profit earned over a three year period. The average economic profit is calculated by subtracting the required return on capital, based on the weighted average cost of capital, from the adjusted Business Operating Profit after Tax. For 2010, the average economic profit was significantly higher than the value of the Total Variable Remuneration Pool which is set out below.
Value of outstanding deferred remuneration As at December 31, 2010, the Group’s remuneration system included four main instruments for the deferral of remuneration: • Unvested performance share grants
The following table provides an overview of the overall value of the outstanding deferred remuneration at December 31, 2010: Unvested performance share grants 166 Unvested performance option grants 53 Unvested restricted shares grants 6 Vested but sales restricted shares 148 Value of overall outstanding deferred remuneration 372 in USD million, for the year ended December 31Value of outstanding deferred remuneration
The value of the deferred remuneration has been determined by multiplying the number of outstanding shares and options by the relevant share price and option price at the original date of grant and reflects the assumption of a 100% vesting level.
Impact on net income in 2010 from remuneration granted in prior years Under the LTIP a calculation is made at the date of vesting each year to determine the actual number of shares and options to be awarded to plan participants relative to the number that was estimated to be awarded at the grant date. Any difference in value is charged to the income statement in the year of vesting. For the vesting in 2010, there was no material difference in the actual and estimated amounts and therefore no financial impact in 2010.
2 Severance payments are considered those payments, in cash or in any other form, that represent additional benefits in excess of the payments as outlined in the following paragraph.
Zurich does not consider payments as being “severance payments” if they are made in line with either applicable laws or contractual agreements unless such payments go beyond recognized market practice and / or are made without any equivalent value being received by Zurich. In particular, remuneration and benefits provided through the notice period (“Garden Leave”) or payments made in lieu of a notice period, again as long as such payments do not go beyond recognized market practice, are not considered as “severance payments”.
The information contained within the Operating and financial review is unaudited. The following table presents the summarized consolidated results of the Group for the years ended December 31, 2010 and 2009, respectively. All amounts are shown in USD millions and rounded to the nearest million unless otherwise stated with the consequence that the rounded amounts may not add to the rounded total in all cases. All ratios and variances are calculated using the underlying amount rather than the rounded amount. This document should be read in conjunction with the Annual Report 2010 for the Zurich Financial Services Group and with its audited Consolidated financial statements as of December 31, 2010. Certain comparatives have been restated to reflect a change in accounting policy as set out in note 1 of the Consolidated financial statements.
1 Parentheses around numbers represent an adverse variance. 2 Restated to reflect a change in accounting policy (see note 1 of the Consolidated financial statements). 3 Excluding average cash received as collateral for securities lending of USD 246 million and USD 335 million in the years ended December 31, 2010 and 2009, respectively. 4 Finalized, restated for accounting change and as filed with the Swiss regulator; after 2009 dividend. 5 Taking into account the proposed 2010 dividend.
General Insurance business operating profit in USD millions, for the years ended December 31
Services (FMS) Farmers Re in USD millions, for the years ended December 31 in USD millions, for the years ended December 31
Business operating profit decreased by USD 717 million to USD 4.9 billion or by 13 percent in U.S. dollar terms and 10 percent on a local currency basis.
• General Insurance business operating profit decreased by USD 791 million to USD 2.7 billion, or by 23 percent in U.S. dollar terms and 22 percent on a local currency basis. The ongoing focus on profitability continued to benefit the underlying underwriting result with an improved underlying loss ratio compared with 2009. This improvement was more than offset by lower levels of investment income, lower earned premiums, and the higher level of eventrelated losses such as large losses and weather related losses, including the Chilean earthquake and Australian floods.
• Farmers business operating profit increased by USD 132 million to USD 1.7 billion, or by 8 percent. Farmers Management Services business operating profit increased by USD 39 million to USD 1.4 billion, or 3 percent, supported by the successful integration of 21st Century which was acquired in July 2009 by the Farmers Exchanges, which are managed but not owned by Farmers Group, Inc., a wholly owned subsidiary of the Group. Farmers Re business operating profit increased by USD 93 million to USD 321 million, or 41 percent, reflecting favorable underwriting trends.
Total Group business volumes, comprising gross written premiums, policy fees, insurance deposits and management fees, decreased by USD 1.8 billion to USD 67.7 billion, or by 3 percent in U.S. dollar terms and 1 percent on a local currency basis. Volumes in the Group’s core operating segments developed as follows: • General Insurance gross written premiums and policy fees decreased by USD 1.1 billion to USD 33.1 billion, or by 3 percent in both, U.S. dollar terms and on a local currency basis. Average rate increases of 2 percentage points were achieved through continuing disciplined underwriting focused on profit margin. However, these positive actions did not fully compensate for competitive markets and weak economic conditions, with lower levels of new business activity and reduced insured customer exposures. Customer retention levels remain strong across the business.
The shareholders’ effective tax rate was 20.3 percent for the year ended December 31, 2010, compared with 22.7 percent for the year ended December 31, 2009, primarily due to a combination of favorable tax settlements and shifts in the geographic profit mix.
General Insurance delivered a set of results below those of 2009. Rate increases and targeted underwriting actions implemented in previous periods were visible in better underlying loss ratios. However, these improvements were more than offset by the extraordinary frequency of loss events, such as earthquakes, weather-related losses and higher levels of large losses, as well as lower investment yields and the overall impact of the recessionary environment which continued to negatively impact insured customer exposures and new business activity.
Business operating profit decreased by USD 791 million to USD 2.7 billion or by 23 percent in U.S. dollar terms and 22 percent on a local currency basis. The decrease was mainly attributable to the impact of USD 175 million from the earthquake in Chile, of which USD 110 million was recorded in Group Reinsurance, USD 100 million from the Australian floods in 2010, and other severe weather events, as well as an impairment relating to the values of the Group’s Russian business reflected in the non-technical result. Additionally, investment income declined mainly due to lower yields, but also due to a lower asset base after the repatriation of capital to the Group. Rate increases achieved in prior periods now earning into the underwriting result compensated for lower investment returns.
Gross written premiums and policy fees 7,624 7,602 – Net underwriting result 205 231 (11%) Business operating profit 741 787 (6%) Loss ratio 74.7% 74.7% – Expense ratio 21.1% 20.4% (0.7 pts) Combined ratio 95.8% 95.1% (0.7 pts)
The net underwriting result decreased by USD 25 million to USD 205 million, which resulted in a combined ratio of 95.8 percent, a deterioration of 0.7 percentage point. The loss ratio was impacted by a significant increase in property losses from weather-related and catastrophe events, as well as higher levels of large losses, after the relatively benign experience in 2009. The underlying loss ratio improved compared with 2009 as a result of increased rates and improved risk selection. In addition, the loss ratio benefited from the favorable development of reserves established in prior years compared with 2009. The expense ratio increased by 0.7 percentage points to 21.1 percent, driven mainly by commissions which were impacted by a reduction in received reinsurance commissions following a change in external reinsurance programs. Other underwriting expenses improved, with reductions mainly in Europe offset by strategic investments, in particular in the Middle East.
Business operating profit decreased by USD 126 million to USD 1.1 billion, or by 10 percent. The reduction arose from a lower underwriting result compared with 2009 driven by the lower level of net earned premiums and lower investment income as a result of lower yields and repatriation of capital to the Group.
Gross written premiums and policy fees decreased by USD 135 million to USD 9.7 billion, or by 1 percent. The decrease resulted from the continuing effect of the weak economic activity with reductions in insured customer exposures, particularly in the construction and automotive industries. However, leading premium indicators, such as new business, have improved in specific segments such as middle market commercial business, energy casualty and accident and health. Overall, rates achieved by the Group in North America were broadly flat in a highly competitive marketplace; however, in some cases rate reductions have been accepted in order to retain profitable targeted key customer accounts. The risk selection and segmentation strategies have led to higher retention ratios in more profitable portfolios compared with 2009.
Gross written premiums and policy fees 13,273 14,556 (9%) Net underwriting result 327 222 47% Business operating profit 816 1,120 (27%) Loss ratio 71.9% 73.6% 1.7 pts Expense ratio 25.6% 24.8% (0.8 pts) Combined ratio 97.5% 98.4% 0.9 pts
Business operating profit decreased by USD 304 million to USD 816 million or by 27 percent in both U.S. dollar terms and on a local currency basis. This decrease was due to lower investment income and higher non-technical expenses and was partially offset by an improved underwriting result. The reduction in investment income was the result of lower yields, a reduction in hedge fund gains and repatriation of capital to the Group. Non-technical expenses were higher due to one-off benefits in 2009 from the sale of own use property and an impairment in 2010 of the Group’s investment in Russia following continuing depressed market trends. Overall, profit improvement strategies have resulted in an improved underlying loss ratio as rate actions and segmented underwriting strategies have begun to earn into the result. However, this was partially offset by an increased expense ratio following lower earned premiums.
Gross written premiums and policy fees 12,292 12,440 (1%) Net investment income on Group investments 3,892 4,081 (5%) Insurance benefits and losses, net of reinsurance (10,140) (10,594) 4% Underwriting and policy acquisition costs, net of reinsurance 1 (1,503) (1,145) (31%) Administrative and other operating expenses (2,217) (2,207) – Business operating profit 1,474 1,477 –
Total reserves for life insurance contracts, net of reinsurance, and liabilities for investment contracts 187,196 180,145 4%
1 Excluding non-recurring items in the U.S. and U.K. in 2009, underwriting and policy acquisition costs, net of reinsurance, remained flat at USD 1.5 billion. 2 Assets under management comprise Group and unit-linked investments that are included in the Global Life balance sheet plus assets that are managed by third parties, on which the Group earns fees. For details of prior year restatements, see note 1 of the audited Consolidated financial statements.
3 Net policyholder flows are defined as the sum of gross written premiums and policy fees and deposits, less policyholder benefits and reinsurance. 4 The new business figures in this report reflect a zero liquidity premium. However it is the intention of the Group to alter its embedded value assumptions in 2011 to reflect a liquidity premium in the key major operating currencies. In addition, for greater consistency with other European Insurers, the Group will increase the cost of capital applied to residual non hedgeable risks from 2.5 percent to 4 percent. If these assumptions had been applied in 2010 the new business value, after tax would have increased from USD 817 million to USD 862 million. For details see Embedded value report.
Business operating profit in USD millions, for the years ended December 31 in USD millions, for the years ended December 31
New business annual premium equivalent (APE) increased by USD 32 million to USD 3.7 billion or by 1 percent in U.S. dollar terms and 4 percent on a local currency basis. In Ireland, APE increased by 19 percent in U.S. dollar terms and by 25 percent on a local currency basis due to growth of sales into Italy and the UK from the European hub and continued growth in Irish domestic sales. In the UK, APE increased by 22 percent in U.S. dollar terms and by 24 percent on a local currency basis led by Corporate Life & Pensions businesses and Private Banking Client Solutions. In the Americas, APE increased by 16 percent in U.S. dollar terms and by 19 percent on a local currency basis driven by strong growth in Latin America, especially from Corporate Life & Pensions and Direct Distribution sales. APE in Germany increased by 5 percent in U.S. dollar terms and by 10 percent on a local currency basis due to growth in the Bank Distribution and Agents pillars. APE in the Rest of the World decreased by 2 percent in U.S. dollar terms but was flat on a local currency basis, due to strong IFA/Broker sales through the Finanza e Futuro distribution channel in Italy offset by reduced sales through the Private Banking Client Solutions hub in Luxembourg which had benefited from a one-off product launch in Italy in 2009. In Switzerland, APE decreased by 24 percent in U.S. dollar terms and by 27 percent on a local currency basis as customers anticipated the reduction in the technical interest rate that took effect on January 1, 2010, during the later part of 2009, increasing sales in 2009 and reducing sales in 2010. APE in Emerging Markets in Asia decreased by 8 percent in U.S. dollar terms and by 5 percent on a local currency basis due to lower sales in international corporate business and in the Agents channel in Hong Kong. In Spain, APE decreased by 28 percent in U.S. dollar terms and by 25 percent on a local currency basis primarily due to lower volumes of short-term savings products in a highly competitive market.
Underlying business operating profit, after adjusting for special operating items, increased 7 percent driven by improvements in the expense and risk margins. The expense margin benefited from increased fee income due to the recovery in financial markets, especially in the UK and continued focus on expense control. The risk margin improved as a result of continued increase in value from protection lines of business. Special operating items in the year were lower than in the prior year, resulting in reported business operating profit remaining flat at USD 1.5 billion in U.S. dollar terms, and increasing by 1 percent on a local currency basis. Special operating items in the prior year included in particular a reduction in the amortization of deferred acquisition costs in the U.S. business, which substantially reduced underwriting and policy acquisition costs in 2009.
Gross written premiums and policy fees decreased by USD 148 million to USD 12.3 billion or by 1 percent in U.S. dollar terms but increased by 1 percent on a local currency basis. The increase on a local currency basis was primarily due to increases in Germany, the UK and Latin America, partly offset by a reduction in sales of short-term saving products in Spain.
Agents decreased new business value by USD 58 million to USD 130 million or by 31 percent in U.S. dollar terms and 29 percent on a local currency basis. Higher sales in Germany and Italy were more than offset by the impact in the U.S. of higher average interest rates and assumption changes depressing the margin for protection business, and the impact of lower sales volumes in Switzerland and Hong Kong.
Private Banking Client Solutions new business value was at the same level as in 2009 in U.S. dollar terms at USD 12 million. The new business value was driven by the continued placement of tranches of an investment bond through bank partners in the UK, but offset by reduced sales from the Private Bank Client Solutions hub in Luxembourg that benefited from a one-off product launch in Italy in 2009.
Direct and Central Initiatives increased new business value by USD 28 million to USD 68 million in U.S. dollar terms. Increased fee income from investment businesses in the UK and direct marketing initiatives in Japan was the main contributor to this growth.
in USD millions, for the year ended December 31NBV and APE by pillar
Management fees and other related revenues 2,778 2,690 3% Management and other related expenses (1,440) (1,399) (3%) Gross management result 1,338 1,291 4%
Other net income 27 35 (23%) Business operating profit 1,365 1,326 3% Managed gross earned premium margin 7.3% 7.2% 0.1 pts
Business operating profit increased by USD 39 million to USD 1.4 billion, or by 3 percent, driven by an increase of USD 75 million in the contribution from 21st Century reflecting a full year’s contribution in 2010 compared with six months in 2009, and partly offset by lower core revenues as well as lower investment income.
Holding and financing increased its business operating loss by USD 200 million to USD 638 million, or by 46 percent. This reflects a normalized run-rate for Group financing costs with 2009 including USD 210 million of one-off gains associated with the buy back of subordinated debt, and a favorable impact from movements in foreign currencies. This was partly offset by an improvement in net financing costs in 2010 due to increased repatriation of capital from the units. Headquarters business operating loss decreased slightly to USD 138 million, primarily due to a reduction in pension liabilities as a consequence of the outsourcing of an IT data center, which was partly offset by an increase in one-off expenses related to the review of the Group’s management structure.
Centrally managed businesses 113 (279) nm Other run-off (2) 10 nm Total business operating profit (157) (290) 46%
Common stocks, including equity unit trusts 9,881 8,839 76,187 69,004 Unit trusts (debt securities, real estate and short-term investments) 3,208 2,607 9,577 9,307 Common stock portfolios backing participating with-profit policyholder contracts 515 673 – – Trading equity portfolios in capital markets and banking activities 125 461 – –
Real estate held for investment 8,274 7,789 4,081 3,897 Mortgage loans 11,851 12,736 – – Policyholders’ collateral and other loans 13,043 14,556 1,563 924 Equity method accounted investments 188 232 – –
Group investments increased by USD 240 million since December 31, 2009. In local currency terms, total Group investments increased by USD 1.6 billion reflecting positive market developments and investment of new cash flows. For details of prior year restatements, see note 1 of the audited Consolidated financial statements.
The quality of the Group’s investment portfolio remains high. Investment grade securities comprised 98.5 percent of the Group’s debt securities, of which 53 percent were rated AAA as of December 31, 2010. The Group’s investment strategy remains disciplined and the Group continues to selectively reduce risks which it believes to be unacceptable, where the risks are not adequately compensated, or which incur disproportionately high regulatory capital charges.
Net investment result 7,990 5,929 35% Net investment return on Group investments 4.1% 3.2% 0.9 pts Movements in net unrealized gains/(losses) on investments included in total equity 2,511 6,084 (59%) Total investment result, net of investment expenses 1 10,501 12,012 (13%)
1 After deducting investment expenses of USD 225 million and USD 243 million for the for the years ended December 31, 2010 and 2009, respectively. 2 Excluding average cash received as collateral for securities lending of USD 246 million and USD 335 million for the years ended December 31, 2010 and 2009, respectively.
Net unrealized gains included in total equity increased by USD 2.5 billion since December 31, 2009, due to a USD 1.8 billion increase in net unrealized gains on equity securities, principally as a result of a revaluation of the Group’s investment in New China Life Insurance Co., Ltd. and also as a consequence of global equity market improvements, and due to a USD 744 million increase in the value of debt securities and others, mainly due to the fall in interest rates.
Net investment income 1,561 1,638 (5%) Net capital (losses)/gains on investments and impairments 8,533 10,837 (21%) Net investment result, net of investment expenses 1 10,093 12,475 (19%)
Total return on unit-linked investments was 9.7 percent compared with 14.1 percent in 2009. The reduction in the total return was due to net capital gains of USD 8.5 billion compared with net capital gains of USD 10.8 billion in 2009 as continuing improvement in financial markets slowed compared with 2009. Net investment income decreased by USD 77 million or 5 percent, primarily due to lower bond yields and a decrease in dividend income from common equity stocks.
Net losses and loss adjustment expenses incurred 23,620 24,639 19,773 20,590
Net reserves for losses and loss adjustment expenses 55,976 55,903 52,634 52,514
Gross reserves for losses and loss adjustment expenses 68,069 68,086 63,826 63,476
This table represents the loss ratio development for individual accident years for the Group, with General Insurance being the primary driver. Individual accident years are affected by the level of large catastrophe losses which had the following impact on the loss ratios: the 2004 and 2005 hurricanes impacted the loss ratios by 2.8 and 4.6 percentage points, the winter storm Kyrill and the UK floods in 2007 impacted the loss ratio by 2.5 percentage points, and in 2008 the impact of hurricanes Gustav and Ike was 1.8 percentage points. The earthquake in Chile and the floods in Australia had an impact on the 2010 loss ratio of 0.8 percentage points. The development of 2003 and subsequent years demonstrates the Group’s philosophy of taking a prudent initial view on reserving with the expectation of achieving favorable development over time.
Net reserves as of December 31 187,196 180,145 17,331 17,655 204,527 197,800
2 Includes reserves for future life policyholders’ benefits, the net amounts of which were USD 72.9 billion and USD 72.7 billion and policyholders’ contract deposits and other funds, the net amounts of which were USD 13.4 billion and USD 14.6 billion as of December 31, 2010 and 2009, respectively.
4 The 2010 movement includes USD 982 million related to the reclassification to other reserves categories following the review of contract classification (see note 1 of the audited Consolidated financial statements) and USD (1.5) billion related to loss of control of Caixa Sabadell (see note 5 of the audited Consolidated financial statements).
Unit-linked insurance and investment contracts, increased by USD 8.0 billion or by 9 percent in U.S. dollar terms compared with December 31, 2009, and by USD 12.4 billion or by 13 percent on a local currency basis. The increase in local currency was driven by positive net policyholder flows, primarily driven by higher levels of new business in single premium products in the UK and the European hub in Ireland, and the positive performance of unit-linked funds in 2010. This was offset by the impact of the reserve reclassification, mainly related to a reclassification from investment products to insurance products of the endowment product in Switzerland (see note 1 of the audited Consolidated financial statements).
in USD millions, for the years ended December 31Global Life – Reserves and liabilities, net of reinsurance, by region
Total operational and financial debt 3,330 743 400 6,053 5,004 15,530 16,548 (6%)
Total operational and financial debt decreased by USD 1.0 billion to USD 15.5 billion or by 6 percent.
Operational debt decreased by USD 1.2 billion to USD 4.9 billion or by 19 percent in U.S. dollar terms. The main drivers were a decrease of USD 646 million in obligations to repurchase securities, a decrease of USD 359 million in collateralized loans and a reduction from the repayment of the USD 200 million debt drawn under a credit facility for the sole purpose of financing surplus notes issued by the Leschi Life Assurance Company (Leschi), which expired in June 2010 .
Financial debt increased by USD 170 million to USD 10.6 billion or by 2 percent in U.S. dollar terms. The increase was largely due to the additional issuance of USD 375 million of commercial paper by Zurich Capital Markets and the translation effects of the depreciation of the U.S. dollar against the Swiss Franc, partially offset by the net effect of a refinancing of debt and the translation effects of the appreciation of the U.S. dollar against the euro and British pound. The refinancing of the financial debt involved the redemption of USD 768 million of the Series I and III Enhanced Capital Advantaged Preferred Securities (“ECAPS”), which were replaced by the issuance of CHF 700 million of subordinated notes under the Euro Medium Term Note Programme (EMTN Programme).
Details of debt issuances are set out in note 22 of the audited Consolidated financial statements.
Share-based payment transactions 28 – 28 Change of ownership with no loss of control 4 – 4 Total comprehensive income 4,717 (13) 4,704
Net cash provided by/(used in) operating activities 2,310 (1,346) Net cash used in investing activities (135) (581) Net cash provided by/(used in) financing activities (2,460) 2,448 Foreign currency translation effects on cash and cash equivalents (383) 859
Change in cash received as collateral for securities lending (493) 316
in USD millions, for the year ended December 31Summary of cash flows
Gross written premiums and policy fees (430) (1%) Insurance benefits and losses, gross of reinsurance 324 1% Net income attributable to shareholders (50) (1%) Business operating profit (75) (2%)
• Protect Zurich’s reputation and brand by promoting a sound culture of risk awareness and disciplined and informed risk taking
At the heart of the risk management framework is a governance process with clear responsibilities for taking, managing, monitoring and reporting risks. The Group articulates the roles and responsibilities for risk management throughout the organization, from the Board of Directors and the Chief Executive Officer to its businesses and functional areas, thus embedding risk management in the business (see the ‘Risk Governance and Risk Management Organization’ section in the Risk Review).
Various governance and control functions coordinate to help ensure that objectives are being achieved, risks are identified and appropriately managed and internal controls are in place and operating effectively. This coordination is referred to as “integrated assurance.”
Risk management is not only embedded in Zurich’s business but is also aligned with the Group’s strategic and operational planning process. The Group assesses risks systematically and from a strategic perspective through its proprietary Total Risk Profiling™ (TRP) process, which allows Zurich to identify and then evaluate the probability of a risk scenario occurring, as well as the severity of the
Risk review consequences should it occur. The Group then develops, implements and monitors appropriate improvement actions. The TRP process is integral to how Zurich deals with change, and is particularly suited for evaluating strategic risks as well as risks to its reputation. At Group level this process is performed annually, reviewed regularly and closely tied to the planning process.
In addition to this qualitative approach the Group regularly measures and quantifies material risks to which it is exposed. Zurich’s risk-based capital model provides a key input into the Group’s strategic planning process as it allows an assessment as to whether the Group’s risk profile is in line with the Group’s risk tolerance. In particular, the Group’s risk-based capital model forms the basis for optimizing the Group’s risk-return profile by providing consistent risk measurement across the Group.
Through these processes, responsibilities and policies, Zurich embeds a culture of disciplined risk taking across the Group. The Group continues to consciously take risks for which it expects an adequate return. This approach requires sound judgment and an acceptance that certain risks can and will materialize in the future.
Various external stakeholders, among them regulators, rating agencies, investors and accounting bodies, place emphasis on the importance of sound risk management in the insurance industry.
Rating agencies are interested in risk management as a factor in evaluating companies. Standard & Poor’s, a rating agency with a separate rating for Enterprise Risk Management, has rated Zurich’s overall Enterprise Risk Management as “strong.” Reinsurance risk, credit risk and asset/liability management and market risk controls remain “excellent.” Reserving risk, catastrophe risk and operational risk controls, as well as strategic and emerging risk management, remain “strong.” Zurich is rated either “excellent” or “strong” in all of Standard & Poor’s dimensions for Enterprise Risk Management.
The Risk Committee of the Board serves as a focal point for oversight regarding the Group’s risk management, in particular the Group’s risk tolerance, including agreed limits that the Board regards as acceptable for Zurich to bear, the aggregation of these limits across the Group, the measurement of adherence to risk limits, and the Group’s risk tolerance in relation to anticipated capital levels. The Risk Committee further oversees the Group-wide risk governance framework, including risk management and control, risk policies and their implementation, as well as risk strategy and the monitoring of operational risks. The Risk Committee also reviews the methodologies for risk measurement and the Group’s adherence to risk limits. The Risk Committee further reviews, with business management and the Group Risk Management function, the Group’s general policies and procedures and satisfies itself that effective systems of risk management are established and maintained. It receives periodic reports from Group Risk Management and assesses whether significant issues of a risk management and control nature are being appropriately addressed by management in a timely manner. The Risk Committee assesses the independence and objectivity of the Group Risk Management function, approves its terms of reference, reviews the activities, plans, organization and quality of the function, and reviews key risk management principles and procedures.
Group Executive level The Chief Executive Officer (CEO), together with the Group Executive Committee (GEC), oversees the Group’s performance with regard to risk management and control, strategic, financial and business policy issues of Group-wide relevance. This includes monitoring adherence to and further development of the Group’s risk management policies and procedures. The Group Finance and Risk Committee and the Group Balance Sheet Committee regularly review and make recommendations on the Group’s risk profile and significant risk-related issues.
• Group Reinsurance Committee (GRC) – oversees the purchase of reinsurance on a global basis. This committee also oversees the Group´s natural catastrophe exposure and is chaired by the Global Head of Group Reinsurance.
The Group Risk Management organization consists of central functions at Corporate Center and a decentralized risk management network at segment, regional, business unit and functional levels.
The risk management network consists of the Chief Risk Officers (CROs) of the Group’s segments and regions, and the Local Risk Officers (LROs) of the business units and functions and their staff. While their primary focus is on operational and business-related risks, they are responsible for providing a holistic view of risk for their area. The risk officers are part of the respective business’ management teams and therefore are embedded in the business. The LROs also report to the segment and regional CROs, the latter also to the Group’s Chief Risk Officer. The CROs of the Group’s segments and regions are members of the executive leadership team of the Group’s Chief Risk Officer.
In order to enable a consistent, systematic and disciplined approach to risk management, Zurich categorizes its main risks as follows: • Strategic – the unintended risk that can result as a by-product of planning or executing a strategy
• Insurance – risk associated with the inherent uncertainty regarding the occurrence, amount or timing of insurance liabilities
• Operational – risk associated with the people, processes and systems of the Group and external events
General Insurance risk General Insurance risk includes the reasonable possibility of significant loss due to uncertainty in the frequency of the occurrence of the insured events as well as in the severity of the resulting claims. The following provides an overview of the Group’s main lines of business: • Motor includes automobile physical damage, loss of the insured vehicle and automobile third party liability insurance.
Group is engaged in the report on global risks with the World Economic Forum, where risks are considered from a broad macro-economic perspective. Zurich is also a standing member of, and in 2010 chaired, the Emerging Risk Initiative of the CRO Forum.
Table 1.b in USD millions, for the year ended December 31, 2009
+1% in net loss ratio Net income before tax (47) (83) (139) (21)
The Group models at the local and Group level in order to assess and aggregate its exposures. The Group centrally oversees its modeling for consistency in approach and to form a global perspective on accumulations. The Group has technical centers embedded within the business which help to improve the overall quality of data. The Group models potential losses from property policies located in the most hazard-prone areas and adjusts for non-property related losses. These assessments principally address climate-induced perils such as windstorms, river floods, tornadoes, and hail, and geo-risk perils such as earthquakes. The Group constantly seeks to improve its modeling, fill in gaps in models with additional assessments and increase the granularity of data collection in order to increase the accuracy and utility of the information.
Zurich’s Group-wide catastrophe modeling is annual, with quarterly reviews for significantly exposed regions.
Life Insurance risk The risks associated with Life Insurance include: • Mortality risk is the risk that actual policyholder death experience on Life Insurance policies is higher than expected.
• Policyholder behavior risk is the risk that policyholders’ behavior in discontinuing and reducing contributions or withdrawing benefits prior to the maturity of the contract is worse than expected. Poor persistency rates may lead to fewer policies remaining on the books to defray future fixed expenses and reduce the future positive cash flows from the business written potentially impacting its ability to recover deferred acquisition expenses.
• Expense risk is the risk that expenses incurred in acquiring and administering policies are higher than expected.
A more diversified portfolio of risks is less likely to be affected across the board by a change in any subset of the risks. As a result, the offsetting effects between unit-linked and traditional business reduce some of the risk associated with Life Insurance business.
The Group has local product development committees and a Group-level product approval committee, under the leadership of the Global Life Chief Risk Officer, for potential new Life products that could significantly increase or change the nature of its risks. Such reviews allow Zurich to manage new risks inherent in its new business propositions. The Group regularly reviews the continued suitability and the potential risks of existing products.
In the life annuity business, the most significant insurance risk is continued medical advances and improvement in social conditions that lead to increases in longevity. Annuitant mortality assumptions include allowance for future mortality improvements.
Other segments includes certain life insurance contracts, which contain guarantees for which liabilities have been recorded for additional benefits and minimum guarantees. These arise primarily in the subsidiary Zurich American Life Insurance Company (ZALICO) (formerly known as KILICO) which in the past wrote variable annuity contracts that provide policyholders with certain guarantees related to minimum death and income benefits. After 2001, ZALICO no longer issued new policies with such features. In 2010, the Group implemented a dynamic hedging strategy to manage its economic exposure and reduce the volatility associated with its closed book of variable annuities products within its U.S. life business. New Life products developed with financial guarantees are subject to review and approval by the Group-level product approval committee.
The Group defines concentration risk in the Life business as the risk of exposure to increased losses associated with inadequately diversified portfolios of assets and/or obligations. Concentration risk for a life insurer may arise with respect to investments in a geographical area, economic sector, or individual issuers, or due to a concentration of business written within a geographical area, of a policy type, or of underlying risks covered.
See note 8 of the Consolidated financial statements for additional information on reserves for insurance contracts.
Sensitivities analysis for life insurance risk The Group reports sensitivities of Life Insurance business on Embedded Value and New Business Value to changes in economic and operating risk factors. The operating factors include discontinuance rates, expenses, mortality and morbidity. The embedded value methodology adopted by the Group is based on a market-consistent approach to allow explicitly for market risks. See the Embedded Value Report for more information on the sensitivities of Life Insurance business to economic and operating risk factors.
Reinsurance for natural catastrophes – unusually severe natural catastrophe events 1,000*
Level of reinsurance secured through catastrophe treaties Loss exposure retained by Zurich Financial Services for an individual event335 1,608*
Structures are in place (via reinstatements) to cover 2 significant individual events per region.
Global Aggregate Catastrophe Cover *On a co-participation basis, as summarized below: Global Top Layer Catastrophe Cover (USD 200 million)
The Group uses derivative financial instruments to limit market risks arising from changes in currency exchange rates, interest rates, equity prices and credit quality of assets and liabilities and commitments to third parties. The Group enters into derivative financial instruments mostly for economic hedging purposes and, in limited circumstances, the instruments may also meet the definition of an effective hedge for accounting purposes. The latter include cross-currency interest rate swaps in fair value hedges and cross-currency swaps in cash flow hedges of Zurich’s borrowings, in order to mitigate exposure to foreign currency and interest rate risk. In compliance with Swiss insurance regulation, the Group’s policy prohibits speculative trading in derivatives, meaning a pattern of ‘in and out’ activity without reference to an underlying position. Derivatives are complex financial transactions; therefore, the Group addresses the risks arising from derivatives through a stringent policy that requires approval of a derivative program before transactions are initiated, and by subsequent regular monitoring by Group Risk Management of open positions and annual reviews of derivative programs.
For additional information on equity securities and real estate held for investment, see note 6 of the Consolidated financial statements.
In 2010, the negative convexity embedded in Global Life’s liabilities has exposed the Group to large rises and falls in interest rates. In particular, exposure to the downward shock have risen as long-term interest rates have fallen. Zurich purchased receiver swaptions to partially hedge the duration and convexity gap in the German Life business unit during 2010.
• The sensitivities show the effects of a change of certain risk factors, while other assumptions remain unchanged.
• The interest rate scenarios assume a parallel shift of all interest rates in the respective currencies. They do not take into account the possibility that interest rate changes might differ by rating class (credit spread risk).
Risk review future market changes. In addition to the sensitivities, management uses stress scenarios to assess the impact of more severe market movements on the Group’s financial condition.
• The market risk scenarios assume a concurrent movement of all stock markets and all property markets, and an unrelated parallel shift of all interest rates in different currencies.
Table 4.a in USD millions, as of December 31, 2010Economic interest rate sensitivities for the General Insurance business – current period
Table 4.b in USD millions, as of December 31, 2009Economic interest rate sensitivities for the General Insurance business – prior period
Table 5.a in USD millions, as of December 31, 2010Economic interest rate sensitivities for the Global Life business – current period
Table 5.b in USD millions, as of December 31, 2009Economic interest rate sensitivities for the Global Life business – prior period
100 basis points decrease in the interest rate yield curves Group investments 884 (97) 291 (1) 2 1,079
Table 6.a in USD millions, as of December 31, 2010Economic interest rate sensitivities for the rest of the businesses – current period
Table 6.b in USD millions, as of December 31, 2009Economic interest rate sensitivities for the rest of the businesses – prior period
Currency risk Currency risk is the risk of loss resulting from changes in exchange rates. The Group operates internationally and therefore is exposed to the financial impact arising from changes in the exchange rates of various currencies. The Group’s presentation currency is the U.S. dollar, but its assets, liabilities, income and expenses are denominated in many currencies, with significant amounts in the euro, Swiss franc, British pound, as well as the U.S. dollar.
10% decline in stock and property market values Impact of a decline in stock market values (261) (233) Impact of a decline in property market values (294) (240) Total impact on Embedded Value (556) (473)
Table 9 in USD millions, as of December 31Economic equity price sensitivities for the rest of the businesses 10% increase in EUR / USD rate 907 1,109 GPB / USD rate 435 383 CHF / USD rate (137) (503) Other currencies / USD rates 482 439
The Group manages individual exposures as well as credit risk concentrations. The Group’s objective in managing credit risk exposures is to maintain them within parameters that reflect the Group’s strategic objectives and risk tolerance. Sources of credit risk are assessed and monitored, and the Group has policies to manage the specific risks within the various subcategories of credit risk. To assess counterparty credit risk, the Group uses the ratings assigned by external rating agencies, qualified third parties, such as asset managers, and internal rating assessments. When there is a difference among external rating agencies, the Group assesses the reasons for the inconsistencies and applies the lowest of the respective ratings unless other indicators of declining credit quality justify the assignment of lower internal credit ratings. The Group maintains counterparty credit risk databases, which record external and internal sources of credit intelligence.
In 2010, the global sovereign credit crisis was dominated by Greece, Ireland, Italy, Portugal and Spain. Although Greece was technically the weakest, Ireland’s repeated support of its large banking sector created greater creditworthiness concerns (see the ‘Credit Risk Related to Debt Securities’ section in the Risk Review). The concept of risk-free sovereign debt within developed economies was dispelled and numerous sovereign and corporate rating downgrades followed. Further differentiation occurred between stronger and weaker credits, with fairly stable investment-grade default rates, while speculative-grade default rates in the current cycle exceed levels last seen in the 1991 recession. Zurich’s portfolio maintained its high average credit quality (‘AA-’) throughout 2010 and is well positioned to continue this.
The Group regularly tests and analyzes credit risk scenarios. Commencing in 2008, the Group expanded the number and the specificity of scenarios tested, and has prepared possible contingency measures, which may be implemented should the credit risk environment worsen. From the expanded set of scenarios, the Group has selected and standardized those most relevant to the Group. Zurich can adjust the scenarios if market conditions warrant.
The maximum exposure to credit risk consists mainly of onbalance sheet exposures. Off-balance sheet exposures are primarily related to collateral, such as letters of credit, used to protect the underlying credit exposures on the balance sheet. The Group also has off-balance sheet exposures related to undrawn loan commitments of Zurich Bank of USD 98 million and USD 310 million as of December 31, 2010 and 2009, respectively. See note 26 of the Consolidated financial statements for undrawn loan commitments.
Cash and cash equivalents amounted to USD 8.6 billion as of December 31, 2010 and USD 11.0 billion as of December 31, 2009. The decrease was partly related to cash being invested in highly liquid assets (see the ‘Liquidity Risk’ section in the Risk Review). 50 percent of the total was with the ten largest global banks, whose average rating was ‘A+’ as of December 31, 2010. 47 percent of the total was with the 10 largest global banks, whose average rating was ‘A+’, as of December 31, 2009. The risk-weighted average rating of the overall cash portfolio remained stable at ‘A+’ in 2010 and 2009.
The risk-weighted average issuer credit rating of the Group’s debt securities portfolio is ‘AA-’ (2009: ‘AA-’). Applying a linear average, the average rating would be ‘AA’, (2009: ‘AA-’), which is in line with the Group’s risk policy.
As of December 31, 2010 the largest concentration in the Group’s debt securities portfolio is in government and supranational debt securities at 43.2 percent. A total of USD 41.3 billion or 51.4 percent of the non-government and non-supranational debt securities are secured. As of
Debt securities ! credit risk concentration by industry (%, as of December 31)
Table 12 in USD millions, as of December 31Group sovereign debt exposure
As of December 31, 2010 and 2009 respectively, the Group had sovereign debt exposure to Greece, Ireland, Italy, Portugal and Spain, as shown in the table above.
The Group’s Corporate Reinsurance Security Committee manages the credit quality of cessions and reinsurance assets. The Group typically cedes new business to authorized reinsurers with a minimum rating of ‘BBB’. 54 percent and 74 percent of the business ceded to reinsurers that fall below ‘BBB’ or are not rated are collateralized, as of December 31, 2010 and 2009, respectively. Of these percentages, 42 percent and 51 percent are ceded to captive insurance companies, in 2010 and 2009, respectively.
Reinsurance assets include reinsurance recoverables of USD 18.9 billion and USD 18.8 billion as of December 31, 2010 and 2009, respectively, which are the reinsurers’ share of reserves for insurance contracts, and receivables arising from ceded reinsurance, gross of allowance for impairments, of USD 1.2 billion and USD 1.1 billion as of December 31, 2010 and 2009, respectively. Reserves for potentially uncollectible amounts of reinsurance assets amount to USD 234 million and USD 268 million as of December 31, 2010 and 2009, respectively. The Group’s policy on impairment charges takes into account both specific charges for known situations (e.g. financial distress or litigation) and a general, prudent provision for unanticipated impairments.
The following table shows reinsurance premiums ceded and reinsurance assets split by rating.
Provisions at Zurich Bank now stand at a significant USD 576 million (USD 256 million in 2009) or 24 percent of the portfolio as of December 31, 2010; this accordingly reduces the carrying balance of net loans outstanding.
Mortgage loans given as collateral concern German mortgages that are subject to repurchase agreement, but where Zurich still retains the credit risk of the underlying mortgages. See note 16 of the Consolidated financial statements.
German Federal States. The table below shows the composition of the loan portfolio by rating class. As of December 31, 2010, a total of USD 9.8 billion or 75.4 percent of loans are secured. As of December 31, 2009, a total of USD 10.9 billion or 74.6 percent of loans were secured.
To limit credit risk, derivative financial instruments are typically executed with counterparties rated ‘A-’ or better by an external rating agency. In addition, it is the Group standard to only transact derivatives with counterparties where the Group has an ISDA Master Agreement with a Credit Support Annex in place. This mitigates credit exposures from OTC transactions due to close-out netting and requires the counterparty to post collateral when the derivative position is beyond an agreed threshold. The Group mitigates credit exposures from derivative transactions further by using exchange-traded instruments whenever possible.
Analysis of financial assets The table below provides an analysis, for non unit-linked businesses, of the age of financial assets that are past due but not impaired and of financial assets that are individually determined to be impaired.
Neither past due nor impaired financial assets 139,504 10,431 737 13,043 14,911 178,626 Past due but not impaired financial assets. Past due by: 1 to 90 days – 238 – 1 1,376 1,615
Less: impairment allowance Impairment allowances on individually assessed financial assets – 548 – 1 123 673 Impairment allowances on collectively assessed financial assets – 42 – 1 199 242 1 Available-for-sale debt securities are included net of USD 137 million of impairment charges recognized during the year.
The table below shows how the allowances for impairments of financial assets shown in tables 15.a and 15.b have developed over the 2009 and 2010 financial years.
Table 16.b in USD millionsDevelopment of allowance for impairments – prior period
The Group has Group-wide liquidity management policies and specific guidelines as to how local businesses have to plan, manage and report their local liquidity. This includes regularly conducting stress tests for all major carriers within the Group. The stress tests use a standardized set of internally defined stress events, and are designed to provide an overview of the potential liquidity drain the Group would face if it had to recapitalize local balance sheets.
The Group limits the percentage of the investment portfolio that is not readily realizable, and regularly monitors exposures to take action if necessary to maintain an appropriate level of asset liquidity. During 2010, the Group was within its limits for asset liquidity. The Fair Value Hierarchy tables disclosed in note 27 to the Consolidated financial statements segregate financial assets into three levels to reflect how their fair value was determined. These tables indicate the high liquidity of the Group’s investments.
The table below provides an analysis of the maturity profile of reserves for insurance contracts, net of reinsurance, based on expected cash flows without considering the surrender values as of December 31, 2010 and 2009. Reserves for unit-linked insurance contracts amounting to USD 61.8 billion and USD 58.2 billion as of December 31, 2010 and 2009, respectively, are not included in the table below, as policyholders can generally surrender their contracts at any time, at which point the underlying unit-linked assets would be liquidated. Risks from the liquidation of unit-linked assets are borne by the policyholders of unit-linked contracts.
Certain non-unit-linked contracts also provide for surrender of the contract by the policyholder at any time. Liabilities for such contracts amounted to USD 1.0 billion and USD 1.2 billion as of December 31, 2010 and 2009 respectively. The Group has established active management of the Global Life in-force business to improve persistency and retention.
Expected maturity profile for liabilities for investment contracts – prior period
See notes 16 and 22 of the Consolidated financial statements for information on the maturities of collateralized loans and total debt issued, respectively. For more information on the Group’s other financial liabilities, see note 20 of the Consolidated financial statements.
The Group has committed to contribute capital to subsidiaries and third parties that engage in making investments in direct private equity and private equity funds. Commitments may be called by the counterparty over the term of the investment (generally three to five years) and must be funded by the Group on a timely basis. See note 26 of the Consolidated financial statements.
Operational risk is the risk of loss resulting from inadequate or failed internal processes, people, systems or from external events.
Loss event data Evaluate operational losses based on information provided by Loss Event Management. This information is based on what has happened, e.g. cost to restore application after system outage
Operational risk assessments These forward-looking assessments of potential operational risks take into account: Outputs from the scenario modeling Other assessments and findings Data from Loss Event Management
Within this framework, the Group: • Uses a scenario-based approach to assess, quantify and allocate risk-based capital for operational risk for all business units. This approach allows comparison information across the Group.
• Documents and evaluates loss events above a threshold determined by the Zurich Risk Policy, in a Group-wide database. Improvement actions are put in place to avoid recurrence of such operational loss events.
• Conducts operational risk assessments through which operational risks are identified for key business areas and are qualitatively assessed. Risks identified and assessed above a certain threshold must be mitigated, and escalated in specific reports at the Group level. Plans for improvement actions are documented and tracked on an ongoing basis. The Group uses a scoping exercise to determine which business units and Groupwide functional areas conduct operational risk assessments. A significant input to the scoping is riskbased capital consumption for operational risk. In 2010, the scoping resulted in at least 33 percent of business units, responsible for at least 65 percent of operational risk RBC, conducting operational risk assessments. In the assessments, the Group makes use of such sources of information as Total Risk Profiling™, internal control assessments, and audit findings, as well as scenario modeling and loss event data.
In the area of information security, the Group especially focused in 2010 on rolling out a global data security improvement initiative with special emphasis on data classification and ownership; improving data security with its suppliers and monitoring access to customer data. This helps the Group’s businesses to further enhance data protection measures for electronic and non-electronic information assets to protect data from theft or loss.
The Group considers controls to be key instruments for monitoring and managing operational risk. Although primarily focused on important controls for financial reporting, internal control efforts also include related operational and compliance controls. Therefore, the Group continues to strengthen the consistency, documentation and assessment of internal controls for significant entities, processes and locations. Operational effectiveness of key controls is assessed in various ways, including self assessment, management validation and independent testing. For more details, see the ‘Risk Management and Internal Control Statement’ in the Corporate Governance Report (unaudited).
Additionally, the Group endeavors to preserve its reputation by adhering to applicable laws and regulations, and by following the core values and principles of Zurich Basics, the Group’s code of conduct, which includes integrity and good business practice. The Group centrally manages certain aspects of reputation risk, for example, communications, through functions with the appropriate expertise.
Capital management framework The Group’s capital management framework forms the basis for actively managing capital within Zurich. Regulatory, rating agency and economic capital adequacy are major elements thereof.
Zurich reduced capital support to the Farmers Exchanges, which are managed but not owned by a wholly owned subsidiary of Zurich, through a reduction of the quota share reinsurance agreement from 35% at the beginning of 2010 to 12% as of December 31, 2010.
Zurich Financial Services Ltd is not subject to legal restrictions on the amount of dividends it may pay to its shareholders other than under the Swiss Code of
Other than by operation of the restrictions mentioned above, the ability of the Group’s subsidiaries to pay dividends may be restricted or, while dividend payments as such may be legally permitted, may be indirectly influenced by minimum capital and solvency requirements imposed by insurance, bank and other regulators in the countries in which the subsidiaries operate as well as by other limitations such as foreign exchange control restrictions existing in some countries.
In the U.S., restrictions on the payment of dividends that apply to insurance companies may be imposed by the insurance laws or regulations of an insurer’s state of domicile. For general insurance subsidiaries, dividends are generally limited over a 12 month period to 10 percent of the previous year’s policyholders’ surplus or previous year’s net income. For life, accident and health insurance subsidiaries, dividends are generally limited over a 12 month period to 10 percent of the previous year’s policyholders’ surplus or the previous year’s net gain from operations. Dividends paid in excess of statutory limitations require prior approval from the Insurance Commissioner in the insurer’s state of domicile.
For details on dividend payments, share buy-backs, and issuances and redemptions of debt, see notes 22 and 23 of the Consolidated financial statements. For details on the quota share reinsurance agreement provided to the Farmers Exchanges, see note 29 of the Consolidated financial statements.
In each country in which the Group operates, the local regulator specifies the minimum amount and type of capital that each of the regulated entities must hold in addition to their liabilities. The Group targets to hold, in addition to the minimum capital required to comply with the solvency requirements, an adequate buffer to ensure that each of its regulated subsidiaries meets the local capital requirements. The Group is subject to different capital requirements depending on the country in which it operates. The main areas are Switzerland and EEA countries, and the U.S.
Risk review continued their interactions. As part of the risk management system, all EU/EEA insurance and reinsurance entities will be required to conduct their own risk and solvency assessment, including the assessment of the overall solvency needs reflecting their specific risk profiles. As part of the disclosure provisions, companies will have to publicly report their solvency and financial condition.
EU/EEA Member States must bring into force the laws, regulations and administrative provisions necessary to comply with the directive by January 1, 2013, at the latest. Zurich is fully engaged in an extensive program of work in order to meet all Solvency II requirements by this deadline. The Group intends to use its internal model, which aligns the Solvency II approach with that used for the SST. The Group has started the pre-application process in order to gain regulatory approval for the internal model from the EU supervisors, coordinated by the Central Bank of Ireland, the Group’s EU lead regulator from 2011. In addition, Zurich participated in the Solvency II Quantitative Impact Study 5 (QIS5), presenting results to six EU regulators in 2010. QIS5 helps companies prepare for the Solvency II requirements and is important for calibration of the standard model, which is used by smaller insurance companies that may not have an internal model.
Eligible equity Total equity 33,321 31,104 Net of intangibles and other assets (6,998) (7,456) Free reserves for policyholder dividends 2,736 2,799
Throughout 2009 and 2010, the Group and all its material, regulated subsidiaries complied with the applicable regulatory minimum capital requirements.
Risk review increase/decrease in yield curves, a separate 10 percent decline in all stock markets, after consideration of hedges in place and a separate one percentage point change in credit spread, as of December 31, 2010. The sensitivities are considered three separate but instantaneous scenarios.
• The interest rate scenarios assume a parallel shift of all interest rates.
• The equity market scenario assumes a concurrent movement of all stock markets.
• The major markets in which the Group invests are the U.S. and Europe. The major interest rate exposures are to U.S. dollar- and euro- denominated assets and liabilities. The sensitivities do not indicate a probability of such events and do not necessarily represent the Group’s view of expected future market changes. Debt securities are primarily exposed to interest rate risk, while equity securities are primarily exposed to equity market risk. Debt securities can be affected also by spread widening due to changes in credit quality.
• The Group internal tax rate is assumed to be 20.3 percent in 2010.
Sensitivity of the Solvency I ratio to changes in: – +
The financial strength ratings of the Group’s main operating entities are an important element of Zurich’s competitive position. Moreover, the Group’s credit ratings derived from the financial strength ratings affect the cost of capital. As of December 31, 2010 the financial strength rating of Zurich Insurance Company Ltd and other key operating legal entities of the Group was rated by Standard and Poor’s as ‘AA-/stable’, by A.M. Best as ‘A+/stable’ and by Moody’s as ‘A1/on review for possible upgrade’. The Group is no longer rated by Fitch.
The Group uses RBC to assess the economic capital consumption of its business on a one-balance-sheet approach. The RBC framework is an integral part of how the Group is managed. The RBC framework is embedded in the Group’s organization and decision making, and is used in capital allocation, business performance management, pricing, reinsurance purchasing, transaction evaluation, risk optimization, regulatory, investor, and rating agency communication.
The chart below shows the estimated AFR at the beginning of the respective year (based on the IFRS balance sheet as of December 31 of the prior year) to cover the risks that could materialize during the year indicated.
Analysis of the Group’s Available Financial Resources and Risk-Based Capital (in USD billions as of January 1)
The chart below shows a split of the internal RBC requirements for the year 2011 and 2010 respectively. The largest proportion of RBC arises from Market/ALM risk which comprises 37% of the total. Premium & Reserve risk is the second largest, comprising 23% percent.
I 1. Consolidated income statements 135 2. Consolidated statements of comprehensive income 136 3. Consolidated balance sheets 138 4. Consolidated statements of cash flows 140 5. Consolidated statements of changes in equity 142
Revenues Gross written premiums and policy fees 49,965 53,817 Less premiums ceded to reinsurers (5,683) (5,844) Net written premiums and policy fees 44,282 47,973 Net change in reserves for unearned premiums 11 1,227 (746) Net earned premiums and policy fees 45,509 47,227 Farmers management fees and other related revenues 14 2,778 2,690 Net investment result on Group investments 6 7,990 5,929
Net investment income on Group investments 7,092 7,505 Net capital gains/(losses) and impairments on Group investments 898 (1,576)
Net investment result on unit-linked investments 6 10,093 12,475 Net gain/(loss) on divestments of businesses 5 38 (5) Other income 1,442 1,802 Total revenues 67,850 70,118 Benefits, losses and expenses Insurance benefits and losses, gross of reinsurance 11 38,591 38,304 Less ceded insurance benefits and losses 11 (4,106) (3,201) Insurance benefits and losses, net of reinsurance 11 34,484 35,103 Policyholder dividends and participation in profits, net of reinsurance 11 10,801 12,859 Underwriting and policy acquisition costs, net of reinsurance 11 8,636 8,403 Administrative and other operating expense 13 7,976 7,098 Interest expense on debt 22 556 555 Interest credited to policyholders and other interest 529 563 Total benefits, losses and expenses 62,982 64,582 Net income before income taxes 4,868 5,537 Income tax expense 21 (1,355) (1,553)
Net income after taxes 3,513 3,983 attributable to non-controlling interests 79 21 attributable to shareholders 3,434 3,963 in USD
Total comprehensive income 2009, as restated Comprehensive income for the period 3,963 3,411 7 944 (1) 171 4,532 8,495 91 8,586 Details of movements during the period
Additional paid-in capital 23 11,630 11,400 10,131 Net unrealized gains/(losses) on available-for-sale investments 2,468 387 (3,024) Cash flow hedges 56 (9) (16) Cumulative foreign currency translation adjustment (1,125) (396) (1,341)
Total liabilities and equity 375,661 369,202 328,391 in USD millions, as ofLiabilities and equity
Proceeds from sale and repurchase agreements (502) (14) Movements in receivables and payables 1,379 (279) Net changes in debt for capital markets 411 (2,054) Net changes in other operational assets and liabilities (995) 1,283 Deferred income tax, net 255 711 Net cash provided by/(used in) operating activities 2,310 (1,346)
Cash flows from investing activities Sales of property and equipment 117 86 Purchase of property and equipment (182) (359) Disposal of equity method accounted investments, net 2 6 Acquisitions of companies, net of cash acquired (48) (307) Divestments of companies, net of cash balances (27) (10) Dividends from equity method accounted investments 3 5 Net cash used in investing activities (135) (581) Cash flows from financing activities Dividends paid (2,220) (1,426) Issuance of share capital 95 929 Net movement in treasury shares and preferred securities (61) 367 Issuance of debt 709 3,475 Repayments of debt outstanding (982) (898) Net cash provided by/(used in) financing activities (2,460) 2,448 Foreign currency translation effects on cash and cash equivalents (383) 859 Change in cash and cash equivalents excluding change in cash held as collateral for securities lending (668) 1,380 Cash and cash equivalents as of January 1, excluding cash held as collateral for securities lending 16,389 15,009 Cash and cash equivalents as of December 31, excluding cash held as collateral for securities lending 15,721 16,389 Change in cash held as collateral for securities lending (493) 316 Cash and cash equivalents as of January 1, including cash held as collateral for securities lending 16,882 15,186 Cash and cash equivalents as of December 31, including cash held as collateral for securities lending 15,721 16,882 of which: – cash and cash equivalents – Group investments 8,558 11,042 – cash and cash equivalents – unit linked 7,163 5,840
Other interest income received 6,868 7,146 Dividend income received 1,667 1,644 Other interest expense paid (1,182) (1,146) Income tax paid (1,363) (1,019)
As of December 31, 2010 and 2009, cash and cash equivalents held to meet local regulatory requirements were USD 1,238 million and USD 1,678 million, respectively.
Balance as of December 31, 2008, as previously reported 10 10,131 (2,957) (16) (1,341) 99 15,616 21,542 561 22,103 1,678 23,781 Total adjustments due to restatement – – (66) – – – (1,174) (1,241) – (1,241) – (1,241) Balance as of December 31, 2008, as restated 10 10,131 (3,024) (16) (1,341) 99 14,441 20,301 561 20,862 1,678 22,540
Share-based payment transactions – 59 – – – – – 59 – 59 – 59
Total comprehensive income for the period, net of tax – – 3,411 7 944 (1) 4,115 8,476 19 8,495 91 8,586
Net income – – – – – – 3,943 3,943 19 3,963 Net unrealized gains/(losses) on available-for-sale investments – – 3,411 – – – – 3,411 – 3,411 Cash flow hedges – – – 7 – – – 7 – 7 Cumulative foreign currency translation adjustment – – – – 944 – – 944 – 944 Net actuarial gains/(losses) on pension plans – – – – – – 171 171 – 171
Balance as of December 31, 2009, as previously reported 10 11,400 334 (9) (396) 98 17,680 29,117 561 29,678 1,800 31,478 Total adjustments due to restatement – – 53 – – – (427) (374) – (374) – (374) Balance as of December 31, 2009, as restated 10 11,400 387 (9) (396) 98 17,253 28,743 561 29,304 1,800 31,104
Net changes in capitalization and non-controlling interests – – – – – – – – – – (443) (443)
General information The Consolidated financial statements of the Group have been prepared in accordance with International Financial Reporting Standards (IFRS) and comply with Swiss law. Where IFRS does not contain clear guidance governing the accounting treatment of certain transactions including those that are specific to insurance and reinsurance products, IFRS permits reference to another comprehensive body of accounting principles that uses a similar conceptual framework. The Group’s accounting policies for insurance and reinsurance contracts are therefore based on those developed by the Group before the adoption of IFRS 4 in areas where IFRS 4 did not include specific requirements. Before the time of adoption, the Group typically considered U.S. GAAP pronouncements issued by the Financial Accounting Standards Board (FASB) on insurance and reinsurance contracts. In certain cases the Group may decide to maintain the local statutory treatment if this does not distort a fair presentation of the financial position of the Group. If significant, the impact of such cases is described elsewhere in the notes to these Consolidated financial statements.
Significant subsidiaries included in the scope of consolidation are disclosed on pages 256 to 258.
The Group erroneously classified certain life insurance products. The classification was corrected in the current year as the impact on the Group’s income statement was not material. The reclassifications in the balance sheet from reserves for unearned premiums, reserves for policyholders’ contract deposits and other funds, and liabilities related to investment contracts with discretionary participation features (DPF) to reserves for future life policyholders’ benefits and liabilities related to unit-linked investment contracts are shown in notes 8 and 9.
Certain balances previously reported as cash and cash equivalents amounting to USD 589 million as of December 31, 2009, are now presented, depending on their nature and measurement basis, as debt securities available-for-sale, equity securities available-for-sale, other loans and receivables. Furthermore, certain deposits previously presented under debt related to capital markets and banking activities within debt amounting to USD 814 million as of December 31, 2009, are now presented under other liabilities. The related impact on the Group’s income statement amounting to USD 31 million as of December 31, 2009, has been reclassified from interest expense on debt to other interest expense, accordingly. These changes in presentation are reflected in the consolidated balance sheets, consolidated income statements, consolidated statements of cash flows and notes 6 and 22.
The Group’s balance sheet is not presented using a current/non-current classification. However, the following balances are generally considered to be current: cash and cash equivalents, deferred policy acquisition costs on general insurance contracts, accrued investment income, receivables, reserve for premium refunds, obligations to repurchase securities and accrued liabilities.
The following balances are mixed in nature (including both current and non-current portions): debt securities, mortgage loans, other loans, reinsurers’ share of reserves for insurance contracts, deposits made under assumed reinsurance contracts, deferred origination costs, other assets, mortgage loans given as collateral, reserves and investments for unitlinked contracts, liabilities for investment contracts, deposits received under ceded reinsurance contracts, deferred frontend fees, reserves for losses and loss adjustment expenses, reserves for unearned premiums, future life policyholders’ benefits, policyholders’ contract deposits and other funds, other liabilities, collateralized loans, debt related to capital markets and senior and subordinated debt.
All amounts in the Consolidated financial statements, unless otherwise stated, are shown in USD, rounded to the nearest million with the consequence that the rounded amounts may not add to the rounded total in all cases.
Net investment income on Group investments 7,505 – – 7,505 Net capital gains/(losses) and impairments on Group investments (1,423) (153) – (1,576)
attributable to policyholders (387) – – (387) attributable to shareholders (908) (258) – (1,167)
Basic earnings per share 22.51 5.26 – 27.78 Diluted earnings per share 22.35 5.23 – 27.58 in CHF
Real estate held for investment 7,789 – – 7,789 Mortgage loans 12,736 – – 12,736
Other assets 3,327 – – 3,327 Mortgage loans given as collateral 1,102 – – 1,102 Deferred tax assets 2,257 164 – 2,421 Assets held for sale 67 – – 67 Property and equipment 1,942 – – 1,942
Collateralized loans 1,102 – – 1,102 Deferred tax liabilities 4,464 (20) – 4,445 Debt related to capital markets 839 – (814) 25 Senior and subordinated debt 11,444 – – 11,444
Total liabilities and equity 368,914 288 – 369,202 1 Of the USD (374) million restatement of total equity, USD 867 million relates to 2009, and USD (1,241) million relates to 2008 and prior years.
In January 2008, the International Accounting Standards Board (IASB) issued the revised IFRS 3 “Business Combinations”. The standard is effective for reporting periods beginning on or after July 1, 2009. The revised standard continues to apply the acquisition method to business combinations, with some significant changes. For example, all payments to purchase a business are to be recorded at fair value at the acquisition date, with contingent consideration that are classified as debt being subsequently re-measured at fair value through the income statement. The standard permits advice to be made in respect of each acquisition to measure the non-controlling interests in the acquiree either at fair value or at the non-controlling interests’ proportionate share of the acquiree’s net assets. All acquisition-related costs must be expensed.
In November 2008, International Financial Reporting Interpretations Committee (IFRIC) 17 “Distributions of Non-cash Assets to Owners” was issued. IFRIC 17 is effective for reporting periods beginning on or after July 1, 2009. The interpretation clarifies when a dividend payable should be recognized and how distributions of assets other than cash should be measured when an entity pays dividends to its owners.
In June 2009, the IASB issued amendments to IFRS 2 “Group Cash-settled Share-based Payment Transactions”. The amendments are effective for reporting periods beginning on or after January 1, 2010. The amendments clarify the scope of IFRS 2, as well as the accounting for group cash-settled share-based payment transactions in the separate (or individual) financial statements of an entity receiving the goods or services when another group entity or shareholder has the obligation to settle the share-based payment award.
Standards, amendments and interpretations issued that are not yet effective nor yet adopted by the Group The following standards, amendments and interpretations of existing published standards are not yet effective but are relevant to the Group’s operations. The Group is currently evaluating the impact of adopting these standards, amendments and interpretations, but is not expecting a significant impact, unless otherwise stated.
In October 2009, the IASB issued amendments to IAS 32 “Classification of Rights Issues”. The amendments will be effective for reporting periods beginning on or after February 1, 2010. The amendment addresses the accounting for rights issues (rights, options or warrants) that are denominated in a currency other than the functional currency of the issuer. The amendment requires that, provided certain conditions are met, such rights issues are classified as equity regardless of the currency in which the exercise price is denominated.
In November 2009, as part of the phased project to replace IAS 39 “Financial Instruments: Recognition and Measurement”, the IASB issued IFRS 9 “Financial Instruments” which reconsiders the classification and measurement of financial assets. Under the new requirements, the classification of financial assets is based on how the reporting entity manages these assets (business model) and on the contractual cash flow characteristics of the specific financial assets. The measurement of financial assets will be either amortized cost or fair value through profit or loss, whereby for equity instruments an irrevocable election can be made on an instrument-by-instrument basis to record fair value through other comprehensive income (OCI). In October 2010, the IASB completed the first phase of IFRS 9 “Financial Instruments” by carrying forward unchanged most of the requirements in IAS 39 regarding the classification and measurement of financial liabilities. The requirements related to the fair value option for financial liabilities were amended insofar as the effects of changes in a liability’s credit risk will be recorded in OCI rather than through the income statement, unless this presentation creates an accounting mismatch. Also, the IASB has carried forward to IFRS 9 the existing IAS 39 requirements related to the derecognition of financial assets and financial liabilities. IFRS 9 will be effective for reporting periods beginning on or after January 1, 2013, with earlier adoption permitted. The Group plans to assess the impact of this standard on its financial statements in conjunction with the revised standard on IFRS 4 “Insurance Contracts” which is expected to be released in 2011. Changes to the IFRS timetable may have an impact on this approach.
While the accounting treatment for transferred assets is unchanged (see IFRS 9 above), in October 2010, the IASB amended IFRS 7 “Financial Instruments: Disclosures” to include additional disclosure requirements regarding transfers of assets (for example, securities sold under repurchase agreements or securities lending transactions) with the aim of increasing the transparency in the risk exposures relating to such transferred assets. The amendment will be effective for annual periods beginning on or after July 1, 2011.
In May 2010, the IASB issued amendments to IFRS resulting from the IASB’s annual improvement project. These amendments will be effective for annual periods beginning on or after January 1, 2011. The amendments primarily comprise clarification to presentation, disclosure and measurement provisions related to a several IFRS standards.
Investments in associates and partnerships where the Group has the ability to exercise significant influence but not control, as well as joint ventures where there is joint control, are accounted for using the equity method. Significant influence is presumed to exist when the Group owns, directly or indirectly, between 20 percent and 50 percent of the voting rights. Under the equity method of accounting, investments in associates, partnerships or joint ventures are initially recognized at cost, including attributable goodwill, and adjusted thereafter for the post-acquisition change in the Group’s share of net assets of the investment.
b) Foreign currency translation and transactions Foreign currency translation In view of the international operations of the Group, there are many individual entities with different functional currencies. A functional currency is the currency of the primary economic environment in which an entity operates. Therefore, a common presentation currency is required. Due to the Group’s economic exposure to the U.S. dollar (USD), the presentation currency of the Group has been determined to be the USD. Assets and liabilities of Group companies with functional currencies other than USD are translated into the presentation currency at end-of-period exchange rates, while income statements and statements of cash flows are translated at average exchange rates for the period. The resulting translation differences are recorded directly in OCI as cumulative translation adjustments.
• foreign currency translation differences arising on monetary items that form part of net investments in foreign operations are recognized directly in OCI as cumulative translation adjustments.
• Goodwill and any fair value adjustment to the carrying amounts of assets and liabilities on the acquisition of a foreign operation are expressed in the functional currency of the foreign operation and are translated at the end-of-period exchange rates, with any foreign currency translation differences recorded directly in OCI as cumulative translation adjustments.
Equity method accounted investments are translated at the end-of-period exchange rates, with any foreign currency translation differences recorded directly in OCI as cumulative translation adjustments.
c) Insurance contracts and investment contracts with discretionary participating features (DPF) Classification Insurance and reinsurance contracts are those contracts that transfer significant insurance risk. These contracts may also transfer financial risk. Significant insurance risk is defined as the possibility of paying significantly more in a scenario where the insured event occurs than in a scenario where the insured event does not occur. Scenarios considered are those that have commercial substance.
A number of insurance and investment contracts contain DPF which entitle the contract holder to receive, as a supplement to guaranteed benefits, additional benefits or bonuses: • that are likely to be a significant portion of the total contractual benefits; • the amount or timing of which is contractually at the discretion of the Group; and
• that are contractually based on: – the performance of a specified pool of contracts or a specified type of contract; – realized and/or unrealized investment returns on a specified pool of assets held by the issuer; or
The Group also issues products containing an embedded option to the policyholder to switch all or part of the current and future invested funds into another product issued by the Group. Where this results in the reclassification of an investment product to a product that meets the definition of an insurance contract, the previously held reserve and the related deferred origination costs are also reclassified and are accounted for in accordance with the accounting policies for the new product on a prospective basis.
Once a contract has been classified as an insurance contract, no reclassification can be made subsequently.
Premiums General insurance Premiums from the sale of general insurance products are recorded when written and normally are accreted to earnings on a pro-rata basis over the term of the related policy coverage. However, for those contracts for which the period of risk differs significantly from the contract period, premiums are recognized over the period of risk in proportion to the amount of insurance protection provided. The unearned premium reserve represents the portion of the premiums written relating to the unexpired terms of coverage.
The reserves for life benefits for other traditional life insurance policies are calculated using a net level premium valuation method based on actuarial assumptions including mortality, persistency, expenses and investment return including a margin for adverse deviation. These assumptions are locked-in at inception and are regularly assessed as part of the related liability adequacy testing over the period of the contract.
For traditional life insurance policies, interest rate assumptions can vary by country, year of issuance and product. The mortality rate assumptions are based on published mortality tables and are adjusted for actual experience by geographic area and modified to allow for variations in policy terms. The surrender assumptions are based on actual experience by geographic area and modified to allow for variations in policy terms.
Reserves for unit-linked contracts represent the estimated policy benefits for investment type insurance contracts invested in unit-linked funds. This liability is recorded at an amount equal to the consideration received plus accumulated investment yield less any fees charged or dividends paid to the policyholder.
For products containing guarantees in respect of minimum death benefits (GMDB), retirement income benefits (GRIB) and/or annuitization options (GAO), additional liabilities are recorded in proportion to the receipt of the contracted revenues coupled with a loss adequacy test taking into account policyholder behavior and current market conditions.
Discretionary participation features (DPF) For products containing discretionary participation features the amount of the discretionary participation feature is deemed to be the investment return on all related assets where the apportionment between the shareholder and the policyholder has not yet been determined. The liability includes certain elements of net unrealized gains/(losses) and portions of retained earnings attributable to the DPF, based on the mandated rates applied to these gains and earnings on the assumption that they had been realized as of the balance sheet date.
The minimum mandated amounts, which are to be paid to policyholders plus any declared additional benefits, are recorded in liabilities. The remainder of any undeclared discretionary balances are not included in the liability but are included in OCI until such time as the discretionary element of a bonus is determined and declared.
DAC for other traditional life insurance and annuity contracts is amortized over the life of the contracts based on expected premiums. Expected premiums are estimated at the date of policy issue for application throughout the life of the contract, unless premium deficiency occurs.
Unamortized DAC for life insurance contracts accrues interest at a rate consistent with the related assumptions for reserves.
Reinsurance The Group’s insurance subsidiaries cede risk in the normal course of business in order to limit the potential for losses arising from certain exposures. Reinsurance does not relieve the originating insurer of its liability. Certain Group insurance companies assume reinsurance business incidental to their normal business, as well as from the Farmers Exchanges.
Reinsurance contracts that do not transfer significant insurance risk are accounted for using the deposit method. A deposit asset or liability is recognized based on the premium paid or received less any explicitly identified premiums or fees to be retained by the ceding company. Interest on deposits is accounted for using the effective interest rate method. Future cash flows are estimated to calculate the effective yield and revenue and expense are recorded as interest income or expense. Reinsurance deposit assets or liabilities also include funds deposited or held by the Group, respectively under assumed or ceded reinsurance contracts, when funds are retained under the terms of the contract.
d) Liabilities for investment contracts (without DPF) The Group issues investment contracts without fixed terms (unit-linked) and investment contracts with fixed and guaranteed terms (fixed interest rate).
Changes in the fair value of the assets and liabilities are recorded in income. The costs of policy administration, investment management, surrender charges and certain policyholder taxes assessed against the policyholders’ account balances are included in policy fee revenue.
e) Non-derivative investments Investments includes non-derivative financial assets, cash and cash equivalents and real estate held for investment.
Available-for-sale financial assets are carried at fair value, with changes in fair value recognized directly in OCI, until the securities are either sold or impaired.
The cumulative unrealized gains or losses recorded in OCI are net of cumulative deferred income taxes, certain related life policyholder liabilities and deferred acquisition costs. When available-for-sale financial assets are sold, impaired or otherwise disposed of, the cumulative gains or losses are recycled from OCI and recognized in income.
Held-to-maturity investments Held-to-maturity investments are non-derivative financial assets with fixed or determinable payments and fixed maturities other than those that meet the definition of loans and receivables, and for which the Group has the positive intention and ability to hold to maturity.
Real estate held for investment is initially recorded at cost (including transaction costs) and is subsequently measured at fair value with changes in fair value recognized in income. Fair value is based on active market prices, adjusted if necessary for differences in the nature, location or condition of the property. If active market prices are not available, alternative valuation methods are used, for example discounted cash flow projections. Valuations are performed annually by internal valuation specialists and generally at least once every three years by external valuers. The gain or loss on disposal of real estate held for investment is the difference between the net proceeds received and the carrying amount of the investment and is recognized in the income statement when the disposal is completed.
Impairment of non-derivative financial assets General A financial asset or group of financial assets is impaired if there is objective evidence of impairment as a result of one or more events that have occurred after the initial recognition of the asset (a ’loss event’) and that loss event (or events) has an impact on the estimated future cash flows of the financial asset or group of financial assets that can be reliably estimated. The Group assesses, at each reporting date, whether there is objective evidence that a financial asset or group of financial assets is impaired. Such evidence includes observable data that comes to the attention of the Group as a result of one or more of the following events: a) significant financial difficulty of the issuer or debtor; b) a breach of contract, such as a default or delinquency in payments; c) it becomes probable that the issuer or debtor will enter bankruptcy or other financial reorganization; d) the disappearance of an active market for that financial asset because of financial difficulties; or e) observable data indicating that there is a measurable decrease in the estimated future cash flows from a group of financial assets since the initial recognition of those assets, although the decrease cannot yet be identified with the individual financial assets in that group, including: • adverse changes in the payment status of issuers or debtors in that group; or
• national or local economic conditions that correlate with defaults relating to the assets in that group.
When there is objective evidence that an available-for-sale equity security is impaired, the cumulative loss that had been recognized directly in OCI, including any portion attributable to foreign currency changes, is recognized in income as an impairment loss. The impairment loss is the difference between the weighted-average acquisition cost and current fair value, less any impairment loss on that security previously recognized in income. Impairment losses on equity securities are not reversed through income, instead, when the fair value of a previously impaired equity security increases, the resulting unrealized gains will be recognized through OCI. Any further decrease in fair value recorded subsequent to recognition of an impairment loss is also reclassified from OCI to income as impairment losses, together with any portion attributable to foreign currency changes, until the equity security is derecognized.
Objective evidence of impairment exists if it is probable that the Group will not be able to collect principal and/or interest due according to the contractual terms of the instrument. When impairment is determined to have occurred, the carrying amount of held-to-maturity investments, loans or receivables is reduced through the use of an allowance account, and the movement in the impairment allowance is recognized as an impairment loss in income. The impairment allowance of financial assets carried at amortized cost is measured as the difference between the amortized cost of the assets and the present value of estimated future cash flows, calculated using the original effective interest rate, for fixed rate financial assets, or current effective interest rate, for variable rate financial assets. The impairment allowance for mortgage loans and receivables is determined using an analytical method based on knowledge of each loan group or receivable. The method is usually based on historical statistics, adjusted for known or anticipated trends in the group of financial assets or individual accounts. If the amount of the impairment loss decreases and the decrease can be related objectively to an event occurring after the impairment loss was recognized, the impairment loss is reversed through income. The amount of reversal is limited so that it does not result in a carrying amount exceeding what the amortized cost would have been at the date of reversal had the impairment not been previously recognized.
Fair values are obtained from quoted market prices, dealer price quotations, discounted cash flow models and option pricing models, which use various inputs including current market and contractual prices for the underlying instrument, time to expiry, correlations, yield curves, prepayment rates and volatility of the underlying instrument. Such inputs used in pricing models are generally market observable or derived from market observable data.
Cash flow hedges The effective portion of the gain or loss on the re-measurement of the cash flow hedging instrument is recognized directly in OCI. The ineffective portion is recognized immediately in income. The accumulated gains and losses on the hedged instrument in OCI are reclassified to income in the same period in which gains or losses on the item hedged are recognized in income.
h) Offsetting of financial assets and financial liabilities Financial assets and financial liabilities are offset and the net amount reported in the balance sheet when there is a legally enforceable right to offset the recognized amounts and there is an intention to settle on a net basis, or to settle the asset and settle the liability simultaneously.
• substantially all the risks and rewards of ownership have been transferred; or
Financial liabilities are derecognized when they are extinguished, that is when the obligation is discharged, cancelled or has expired.
Securities lending Certain entities within the Group participate in securities lending arrangements whereby specific securities are loaned to other institutions, primarily banks and brokerage firms, for short periods of time. Under the terms of the securities lending agreements, the Group retains substantially all the risks and rewards of ownership of these loaned securities, and also retains contractual rights to the cash flows therefrom. These securities are therefore not derecognized from the Group’s balance sheet. Cash received as collateral for loaned securities is recorded as an asset and a corresponding liability is established.
Repurchase and reverse repurchase transactions Securities sold under agreements to repurchase at a certain later date (repurchase agreements) and securities purchased under agreements to resell (reverse repurchase agreements) are accounted for as collateralized financing transactions.
Under a reverse repurchase agreement, the securities received are not recognized on the balance sheet, as long as the risk and rewards of ownership have not been obtained by the Group. The cash delivered is derecognized and a corresponding receivable is recorded and reported within “Other Receivables”. Interest income is recognized in income using the effective interest rate method over the life of the agreement.
For the purpose of impairment testing, assets are grouped together into the smallest group of assets that generates cash inflows from continuing use of that group of assets (the CGU), and that is largely independent of the cash inflows of other assets or groups of assets. The Group’s CGUs, on which impairment losses are assessed, represent the lowest level at which goodwill is monitored for internal management purposes. CGUs are not larger than an operating segment.
The recoverable amount of a CGU is the higher of its fair value less costs to sell and its value-in-use. The fair value less costs to sell is based on the best information available to reflect the amount that the Group could obtain, as of the balance sheet date, from the disposal of the CGU on an arm’s length basis between knowledgeable, willing parties, after deducting the costs of disposal. Impairment losses on goodwill are not reversed.
Present value of future profits from acquired insurance contracts (PVFP) An intangible asset representing the PVFP arises from the acquisition of life insurance businesses. Such asset have a definite life and are amortized over the expected life of the acquired contracts, following the same rules outlined for deferred acquisition costs. The carrying value of the PVFP asset is tested periodically for impairment as part of the liability adequacy test for insurance contracts.
Attorney-in-fact relationships (AIF) The AIF reflects the ability of the Group to generate future revenues based on the Group’s relationship with the
Software Costs incurred during the development phase of computer software are capitalized when the following recognition criteria are met: • it is technically feasible to complete the software product so that it will be available for use; • management intends to complete the software product and to use it; • the software is expected to generate future economic benefits; • sufficient resources are available to complete the development of the software; and
The useful lives of computer software licenses and capitalized software development costs generally do not exceed five years. In some exceptional circumstances, capitalized software development costs may be amortized over a period of up to ten years, taking into account the effects of obsolescence, technology, competition and other economic and legal factors.
l) Provisions, contingent liabilities, commitments and financial guarantees Provisions, contingent liabilities, commitments and financial guarantees are recognized when the Group has a present obligation (legal or constructive) as a result of a past event, it is more likely than not that an outflow of resources embodying economic benefits will be required to settle the obligation and a reliable estimate can be made of the amount of such an obligation. Provisions are discounted when the effect of the time value of money is considered material.
n) Other revenue recognition Farmers management fees Fees for non-claims related management services provided by FGI to the Farmers Exchanges are calculated primarily as a percentage of gross premiums earned by the Farmers Exchanges. FGI provides non-claims related management services to the Farmers Exchanges, including risk selection, preparation and mailing of policy forms and invoices, premium collection, management of the investment portfolios and certain other administrative and managerial
Consolidated financial statements continued functions. The Farmers Exchanges are directly responsible for their own claims functions, including the settlement and payment of claims and claims adjustment expenses, as well as for the payment of agent commissions and bonuses and the payment of premium and income taxes.
Investment income Investment income primarily consists of interest income on debt securities, loans and receivables, dividend income on equity securities, rental income from real estate held for investment and income earned on equity method accounted investments.
The proceeds received net of any directly attributable transaction costs are credited to share capital (nominal value) and additional paid-in capital when the shares are delivered or options are exercised.
Payments made under operating leases (net of any incentives received from the lessor) are charged to income on a straight-line basis over the period of the lease, unless another systematic basis is representative of the time pattern of the user’s benefit even if the payments are not on that basis.
Consolidated financial statements continued r) Income taxes The Group provides current tax expense according to the tax laws of each jurisdiction in which it operates. Deferred income taxes are recognized using the asset and liability method. Deferred income taxes are recorded for temporary differences, which are based on the difference between financial statement carrying amounts and income tax bases of assets and liabilities using enacted income tax rates and laws. Losses for tax purposes are treated as deferred tax assets to the extent it is probable that the losses can offset future taxable income in the respective jurisdiction.
a) Reserves for losses and loss adjustment expenses The Group is required to establish reserves for payment of losses and loss adjustment expenses that arise from the Group’s general insurance products and the run-off of its former third party reinsurance operations. These reserves represent the expected ultimate cost to settle claims occurring prior to, but still outstanding as of, the balance sheet date. The Group establishes its reserves by product line, type and extent of coverage and year of occurrence. There are two categories of loss reserve: reserves for reported losses and reserves for IBNR (‘incurred but not yet reported’) losses. Additionally, reserves are held for loss adjustment expenses, which contain the estimated legal and other expenses expected to be incurred to finalize the settlement of the losses.
Short-tail claims, such as those for automobile and property damage, are normally reported soon after the incident and are generally settled within months following the reported incident. Long-tail claims, such as bodily injury, pollution, asbestos and product liability, can take years to develop and additional time to settle. For long-tail claims, information concerning the event, such as the required medical treatment for bodily injury claims and the measures and costs required to clean up pollution, may not be readily available. Accordingly, the reserving analysis of long-tail lines of business is generally more difficult and subject to greater uncertainties than for short-tail claims.
See notes 8 and 11 for further information on reserves for losses and loss adjustment expenses and to the Insurance risk section of the “Risk Review” for sensitivities on Insurance risk.
• Under certain contracts, the Group has offered product guarantees (or options to take up product guarantees), including fixed minimum interest rate or mortality rate returns. In determining the value of these options and/or benefits, estimates have been made as to the percentage of contract holders that may exercise them. Changes in investment conditions could result in significantly more contract holders exercising their options and/or benefits than has been assumed.
See notes 8 and 11 for further information on future life policyholders’ benefits and policyholders’ contract deposits and other funds.
The determination of fair value for financial assets and liabilities is generally based on quoted market prices or broker/ dealer price quotations. If prices are not readily available, then fair values are based on valuation models (for example, discounted cash flow models) that estimate the amounts for which the respective financial instruments could be transferred under current market conditions.
Fair values of debt and equity securities are based on quoted market prices when available. If such prices are not available, then fair values are estimated on the basis of information from external pricing providers or internal pricing models (for example, discounted cash flow models or other recognized valuation techniques).
Discounted cash flow models are used for mortgage and other loans and long term receivables. The discount rates used in these models are either current interest rates charged by the Group on these instruments or a calculated rate that reflects the return a market participant would expect to receive on instruments with similar remaining maturity, cash flow pattern, currency, credit risk, collateral and interest basis.
Fair values of debt instruments issued by the Group are estimated using discounted cash flow models based upon the Group’s current incremental borrowing rates for similar types of borrowings, with maturities consistent with those remaining for the debt instruments being valued.
For certain financial instruments, the carrying amounts approximate their fair value because of their short term nature. Such instruments include short-term investments, receivables, obligations to repurchase securities and other short-term financial assets and liabilities.
In cases where significant reliance is placed on an independent pricing provider, the Group’s policy is to engage with that provider to confirm that the control environment conforms to the high standards that the Group expects. In addition, the Group’s policy is to ensure that independently sourced prices are determined based on valuation techniques that incorporate all factors that market participants would consider in setting a price and are consistent with best practice methodologies for pricing financial instruments. Such models make maximum use of market inputs such as benchmark yields, reported trades and broker/dealer quotes. The Group holds certain asset classes that are not actively traded, in particular hedge funds and private equity investments. Fair values of such instruments are based on regular reports from the issuing hedge funds and private equity funds. Performance of these investments and determination of their fair value are monitored closely by the Group’s in-house investment professionals.
For goodwill the recoverable amount is the higher of its fair value less costs to sell and its value-in-use. Fair value at a CGU level is determined, considering quoted market prices, current share values in the market place for similar publicly traded entities, and recent sale transactions of similar businesses. Value-in-use is determined using the present value of estimated future cash flows expected to be generated from or used by the CGU. Cash flow projections are based on financial budgets, which are approved by management, typically covering a three-year period or if appropriate, a longer period. Cash flows beyond this period are extrapolated using amongst others estimated growth rates. The discount rates applied reflect the respective risk free interest rate adjusted for the relevant risk factors to the extent, they have not already been considered in the underlying cash flows.
The recoverable amount for intangibles reflecting distribution agreements is determined on the basis of value-in-use calculations. These calculations use cash flow projections in line with the terms and conditions of the underlying distribution agreements. For the Life business distribution agreements, a fair value less costs to sell is determined, whereby the projected cash flows and discount rates are consistent with the data used for actuarial valuations and embedded value calculations.
i) Share-based compensation and cash incentive plans The Group has adopted various share-based compensation and cash incentive plans to attract, retain and motivate executives and employees. Share-based compensation plans include plans under which shares and options to purchase shares, based on the performance of the businesses, are awarded. The fair value of options granted is estimated using the Black-Scholes option pricing model. The key factors involve, but are not limited to, the expected share price volatility, expected changes in dividend rate and the contracted option life. These assumptions may differ from actual results due to changes in economic conditions.
Transactions in 2010 Acquisitions On September 6, 2010 the Group, as a part of its preparations for local regulatory changes, signed an agreement to acquire 75.0 percent including a commitment to increase its investment up to 100.0 percent of 2Plan Group Limited, an independent financial advice firm based in the UK. Subject to the approval of the relevant regulatory authorities, the transaction is expected to close in the second quarter of 2011.
On December 1, 2010 the Group completed the acquisition of 99.99 percent of Compagnie Libanaise d’Assurances SAL, a composite insurer based in Lebanon with branch operations in the United Arab Emirates, Kuwait and Oman. With this transaction the Group accelerated the expansion of its operations in the Middle East. The total purchase price amounted to USD 60 million of which USD 12 million will be paid during 2011 subject to purchase price and other adjustments. As of December 31, 2010, the Group was still in the process of preparing the initial accounting and, therefore, the total purchase price was recorded as an unconsolidated investment in other assets.
The Group has lost control from an accounting perspective in CaixaSabadell Vida, S.A. de Seguros y Reaseguros and CaixaSabadell Compagnia d’Assegurances Generals, S.A. at September 30, 2010, following the merger of the bank distribution partner Caixa d’Estalvis de Sabadell (Caixa Sabadell) together with two other Spanish savings banks to form Caixa d’Estalvis Unió de Caixes de Manlleu, Sabadell i Terrassa (Unnim) on July 1, 2010. Subsequently, on November 16, 2010 the Group entered into a definitive agreement to sell back to Unnim its 50 percent stakes in the life and general insurance bancassurance companies CaixaSabadell Vida, S.A. de Seguros y Reaseguros and CaixaSabadell Companyia d’Assegurances Generals, S.A., respectively, jointly owned with Unnim (the Unnim Jointly Owned Companies). Unnim will pay a cash consideration of USD 382 million (EUR 285 million) to the Group in exchange for the Group’s Unnim Jointly Owned Companies stakes, which the Group acquired in 2008 from Caixa Sabadell. The Group has derecognized the assets and liabilities at their carrying amount and has recognized its retained investment in the Unnim Jointly Owned Companies as an equity security classified as available-for-sale as of September 30, 2010. USD 52 million has been recorded within net gain on divestments of businesses. Subject to the approval of the relevant regulatory authorities, the transaction is expected to close in the first quarter of 2011.
During 2010 the Group divested all of its shares in Trent Insurance Company Limited, a company based in the UK and Maryland Insurance Company, a company based in the U.S., for a pre-tax gain on disposal in aggregate of USD 2 million with immaterial cash and net assets sold.
On July 1, 2009, the Group completed the acquisition of 100 percent of the U.S. Personal Auto Group, primarily comprising the direct platform of 21st Century and consequently named “21st Century” going forward, from American International Group, Inc. The purchase price amounted to USD 1,893 million, of which USD 1,692 million was paid in cash and USD 201 million was met through the issue of Euro denominated Subordinated Capital Notes. As part of the transaction, the Group contemporaneously sold the regulated insurance businesses and certain other related net assets to the Farmers Exchanges, which are managed but not owned by Farmers Group Inc, a wholly owned subsidiary of the Group, for USD 1,372 million in cash, resulting in a net purchase price of USD 521 million for the management services business retained by the Group. This transaction reduced the overall volatility of the Group’s portfolio of businesses. The Group has incurred transaction costs directly attributable to the business combination of USD 18 million, which are included in the total acquisition costs of USD 539 million. Upon completion of the final initial accounting, net tangible assets of USD 11 million (initially USD 8 million) and capitalized software of USD 91 million were acquired. The residual goodwill of USD 438 million (initially USD 440 million) reflects the economic benefit of the retained management services business. Total revenues and business operating profit of the retained management services business for the six months starting July 1, 2009 and ending December 31, 2009 were USD 214 million and USD 81 million, respectively. The book value of net assets prior to acquisition amounted to USD 147 million.
“Minas Brasil” sets out the acquisition of 100 percent of Companhia de Seguros Minas Brasil (CSMB) and of 100 percent of Minas Brasil Seguradora Vida e Previdência S.A. (MBVP), a life insurer based in Brazil. On November 28, 2008 the Group acquired 87.35 percent of CSMB and 100 percent of MBVP from Banco Mercantil do Brasil S.A. (Banco Mercantil) and two private investors. As part of this transaction, which extended the Group’s presence in Brazil, the Group entered into an exclusive distribution agreement with Banco Mercantil for both life and general insurance products. Following price adjustments in accordance with the purchase agreement, total acquisition costs for CSMB, MBVP and the distribution agreement amounted to USD 121 million and included net tangible assets acquired of USD 9 million and identifiable intangible assets, net of deferred tax, of USD 19 million, mainly relating to the distribution agreement with Banco Mercantil. The residual goodwill of USD 93 million represents expected synergies and growth opportunities from the bank distribution agreement and the expansion of other sales channels. In addition, an earnout component of up to USD 21 million based on future performance under the distribution agreement has been agreed. During the year ended December 31, 2009 the Group acquired the remaining 12.65 percent of the outstanding shares of CSMB for a total consideration of USD 22 million, resulting in total ownership for the Group of 100 percent of the share capital of CSMB and an increase of goodwill of USD 21 million. The amounts shown in table 5.1 under total acquisition costs of USD 143 million and goodwill of USD 114 million comprise MBVP and the distribution agreement, the acquisition of the 87.35 percent of CSMB in 2008 and of the remaining 12.65 percent of CSMB in 2009, respectively. Total revenues for the year ended December 31, 2009 of both, CSMB and MBVP combined were USD 216 million though the impact of this transaction on net income was immaterial.
Real estate held for investment 791 804 216 (352) 1,007 452 1 Net capital gains/(losses) arise entirely from derivative financial instruments, of which net capital gains/(losses) on derivatives attributable to cash flow hedge ineffectiveness amounted to USD 10 million and USD 33 million for the years ended December 31, 2010 and 2009, respectively.
Real estate held for investment 466 464 28 131 494 594
Investment result, gross for unit-linked contracts 2,093 2,064 8,533 10,837 10,626 12,901 Investment expenses for unit-linked contracts (532) (426) – – (532) (426) Investment result, net unit-linked contracts 1,561 1,638 8,533 10,837 10,093 12,475 1 The net capital gains/(losses) arise entirely from derivative financial instruments.
Cash and cash equivalents 8,558 4.4 11,041 5.6 Equity securities: Fair value through profit or loss 3,931 2.0 5,018 2.6 of which: Trading securities 473 0.2 879 0.4 Securities designated at fair value through profit or loss 3,458 1.8 4,138 2.1