PHOENIX IS THE UK’S LARGEST SPECIALIST CLOSED LIFE AND PENSION FUND CONSOLIDATOR, LOOKING AFTER 5 MILLION POLICYHOLDERS.
WE MANAGE CLOSED LIFE FUNDS EFFICIENTLY AND SECURELY, PROTECTING OUR CUSTOMERS’ INTERESTS WHILE CREATING VALUE FOR OUR SHAREHOLDERS.
WE HAVE A WIDE RANGE OF PRODUCTS AND AN OPERATING MODEL SPECIFICALLY DESIGNED FOR CLOSED FUND MANAGEMENT.
01PHOENIX GROUP HOLDINGS ANNUAL REPORT AND ACCOUNTS 2014 2014 KEY PERFORMANCE INDICATORS
Britannic acquires Century Group and merges with Resolution Life Group to form Resolution plc
However, the actions taken by Phoenix Group during 2014 have positioned the Group to make further progress against the background of continued regulatory uncertainty. First, we completed the divestment of Ignis Asset Management (‘Ignis’) to Standard Life Investments (Holdings) Limited (‘Standard Life Investments’) for £390 million. This transaction brought significant financial and strategic benefits to the Group, including a reduction in the level of gearing through a £250 million debt prepayment and a strategic alliance with Standard Life Investments. Second, the Group issued a £300 million senior unsecured bond, thereby re-establishing a relationship with the debt capital markets. Finally, we reduced gearing further and unified the two legacy debt silos into a single £900 million unsecured bank facility, simplifying the Group’s debt structure and lowering our interest costs.
At our Investor Day in November we focused on the required attributes to manage closed funds efficiently and for the benefit of customers. Phoenix Group’s existing operational model, including the extensive use of outsourcer partners, together with a proven expertise in improving customer outcomes, are key competitive advantages for the Group in managing life funds in run-off. We now estimate there are over £300 billion of assets within legacy funds in the UK, and continue to believe there is value to be generated for customers and shareholders by these funds being owned and managed by a specialist consolidator like Phoenix Group. The investment that we have made in our operating model means the Group is well placed to participate in future consolidation of the UK closed life fund market. However, we will only make acquisitions that are value accretive, would at least sustain our current dividend per share and would support our ambition to achieve and maintain an investment grade credit rating.
During the year, two Non-Executive Directors left the Board, Manjit Dale and David Barnes, and I would like to thank them both for their significant contributions during their tenure. They both brought great insight to the Board. I would also like to welcome Kory Sorenson to the Board as a Director and member of the Board Audit and Remuneration committees. On behalf of the Board, I would also like to extend my thanks to the Phoenix executive team, ably led by Clive Bannister. Without their hard work and commitment, the delivery of the corporate actions achieved during the past year would not have been possible.
Finally, as from the end of August this year I will be stepping down from the Board due to my appointment as Chairman of The Royal Bank of Scotland plc. I have very much enjoyed my time at Phoenix and will look back with real pride at what the business has achieved. I would like to thank the Board and all my colleagues at Phoenix for their support and believe that the Group can look forward to 2015 with great confidence as it moves towards the next stage in its development.
Our operational model is well positioned to support Phoenix’s future growth ambitions.
PHOENIX DELIVERED STRONG FINANCIAL PERFORMANCE IN 2014. THE COMPREHENSIVE DEBT RESTRUCTURING ACHIEVED DURING THE YEAR HAS SIGNIFICANTLY STRENGTHENED OUR BALANCE SHEET AND WE HAVE ACHIEVED CASH GENERATION BEYOND THE TOP END OF OUR TARGET RANGE.”
This positive activity for the Group has been completed against a backdrop of uncertainty for the broader insurance industry, with changes to retirement options as a result of the ending of compulsory annuities announced in the March 2014 Budget and the announcement of the FCA’s thematic reviews on annuities and the fair treatment of long-standing customers in life insurance. Furthermore, the implementation of the new Solvency II capital regime has continued to evolve.
FINANCIAL HIGHLIGHTS DELIVERY OF FINANCIAL TARGETS At the start of 2014, Phoenix Group set targets against three key metrics: cash generation, incremental MCEV and gearing. During the year, we exceeded our annual cash generation target, executed £261 million of MCEV management actions and achieved our gearing target of 40%.
We have had a long-term target to reduce our level of gearing to 40% or below by the end of 2016. During 2014, we repaid total debt of £601 million, utilising the proceeds of the Ignis divestment and additional internal resources. With total gearing of 34% as at 31 December 2014, we have met our gearing target and, in the future, we intend to manage our gearing to a level that is consistent with achieving and maintaining an investment grade credit rating. Finally, the reduction in gearing that we have achieved in 2014 has triggered a reduction in the interest margin on our bank facility by 37.5bps to 312.5bps. In the event that the Group successfully achieves an investment grade credit rating there will be a further 50bps margin reduction on the outstanding bank facility.
– The issue of a £300 million seven-year unsecured senior bond at an annual coupon of 5.75% from the Group’s new financing subsidiary, PGH Capital Limited. The net proceeds from the bond were used to prepay existing bank debt
Our estimated IGD surplus was £1.2 billion at 31 December 2014 with headroom over our IGD capital policy of £0.5 billion (2013: £1.2 billion surplus, £0.5 billion headroom). IGD remains the Group’s ‘biting’ regulatory capital constraint as at 31 December 2014.
IFRS OPERATING PROFIT Finally, the Group achieved increased IFRS operating profits of £483 million (2013: £439 million), despite the Ignis divestment completing on 1 July 2014. The higher level of profitability was primarily due to a higher level of management actions.
– We entered into a reinsurance agreement to transfer approximately £1.7 billion of in-payment liabilities from three with-profit funds in Phoenix Life Limited to Guardian Assurance Limited (‘Guardian’), effective from 1 January 2014. It is expected that the reinsurance agreement will be replaced with a formal Part VII transfer of the annuities to Guardian in 2015, affecting around 60,000 policies. This transaction removes a significant element of longer dated risk from the three with-profit funds
– We worked closely with our outsource partners to prevent £8 million of potential transfers to pensions liberation fraud schemes in 2014. Had these cases proceeded, customers could have suffered substantial tax charges and high administration fees and potentially could have been left with no pension upon retirement.
The Government also announced a cap on charges for new auto-enrolment pensions of 75bps in March 2014. Although auto-enrolment is not a market in which Phoenix Group actively engages, we have assessed the potential impact on the Group and this has led to a reduction in the Group MCEV of £20 million. This provision is lower than that made at the time of our interim results as the regulatory position has been clarified during the second half of the year, with the likely impact on the Group now reduced.
Our focus on closed books ensures that we can demonstrate a clear strategy for legacy products and since Phoenix Group does not write new products (other than vesting annuities) we do not believe that any cross-subsidisation of expenses exists. Furthermore, we believe that the ongoing efforts of the Group to improve performance and service to our customers are a clear demonstration of good practice.
We also seek to ensure our communications are right for each of our customers. As mentioned above, the changes to the compulsory annuitisation of pension pots announced in the March 2014 Budget were unexpected. These changes introduced a number of new options for our customers both immediately following the announcement and from April this year. We reacted quickly following the Budget, introducing the new freedoms and allowing flexibility to those customers who had made decisions immediately prior to the announcements. In readiness for the changes coming into effect from April, we will be writing to our customers as they approach their retirement age to set out their options clearly, including the option to take all of their funds in cash should they wish to do so.
This year we have also worked with the regulators and industry bodies on their reviews of annuities and workplace pensions. We have been proactive in ensuring the needs of our key customer groups, such as those with small pension pots and guarantees, are not overlooked in the reviews. In light of the 2014 Budget changes, it is crucial that our existing customers with guarantees remain aware of the value of the guaranteed rates attached to their policies. Even for those customers who do not have guaranteed rates, we believe the lifelong certainty of income provided by an annuity should mean these products will continue to provide an attractive retirement option for some customers. While we ensure that any customer taking a standard annuity with Phoenix gets a competitive market rate, we recognise some customers could be able to get a higher income elsewhere and actively encourage them to do so.
Unfortunately the new freedoms are likely to encourage more instances of customers being targeted by fraudsters and we have been proactive in highlighting this issue within the industry, media and with our customers to ensure we help them get maximum protection from losing their hard-earned savings. Phoenix Group has to date prevented over 1,000 people from losing a total of £22 million to fraudulent schemes, of which £8 million was during 2014. We intend to continue to be as vigilant in 2015.
PEOPLE Phoenix Group’s ability to attract, retain and motivate outstanding talent was, for the third year in succession, formally recognised in 2014 through our accreditation as one of ‘Britain’s Top Employers’. This reflects our commitment to employee development and engagement. That commitment was well illustrated earlier in the year when, following the planned retirement of two of my colleagues on the Group’s Executive Committee and after very robust selection processes, two strong internal replacements were appointed. Employee engagement comprises one element of the corporate component of the Annual Incentive Plan for senior managers; our overall 2014 employee engagement survey results represented a 2% increase to 78%. Responses to the Engagement Index questions shows Phoenix Group 7% ahead of our Financial Services benchmark in 2014 (4% higher in 2013).
The Group’s Corporate Responsibility programme continues to be a key component of our business proposition. Employees take great personal responsibility and involve themselves in many varied initiatives. I am pleased to report that in excess of £160,000 was raised by our employees for the Group’s chosen charities of the year – the Midlands Air Ambulance Charity and London’s Air Ambulance – which has made a significant contribution to support their vital life-saving work.
2015 OUTLOOK AND PROSPECTS The potential remains for our business to be impacted by economic headwinds and the uncertain and evolving regulatory environment. However, the Group’s financial performance during 2014 and the strength of our business model give me confidence in the resilience of the Group’s long-term cash flows and our ability to deliver value for all our stakeholders.
2015 will be a transitional year to the new Solvency II capital regime and our cash generation targets incorporate assumptions with regard to how the final Solvency II regulations are likely to be implemented. Given the current uncertainty in relation to Solvency II it is expected that there will be some retention of capital in the life companies in the short term. We have therefore set a 2015 annual cash generation target of between £200 million and £250 million. However, we reiterate the longer-term cash generation target of £2.8 billion from 2014 to 2019, of which we have already achieved £957 million. In addition, we anticipate a further £3.6 billion of cash generation from 2020 onwards, a clear demonstration of the long term cash flow potential of the Group.
As the Chairman has already noted, he will be leaving the Group at the end of August 2015. Although this is six months away, I would like to take this public opportunity to acknowledge his very considerable contribution to the Group. In the last three years he has helped the Board, my Executive colleagues and me, to rebuild and strengthen Phoenix Group. We wish him well in the future with his new responsibilities and thank him for all his efforts.
PHOENIX GROUP IS THE UK’S LARGEST SPECIALIST CLOSED LIFE AND PENSION FUND CONSOLIDATOR WITH AROUND 5 MILLION POLICYHOLDERS. WE ARE FOCUSED ON THE EFFICIENT RUN-OFF OF THE EXISTING CLOSED LIFE BUSINESS WITH AN AMBITION TO LEAD THE CONSOLIDATION OF THE UK CLOSED LIFE FUND SECTOR. THE DIVESTMENT OF IGNIS TO STANDARD LIFE INVESTMENTS BROUGHT SIGNIFICANT FINANCIAL AND STRATEGIC BENEFITS AND HAS ENHANCED OUR ABILITY TO EXPLOIT FUTURE CONSOLIDATION OPPORTUNITIES.
We manage these funds using our expertise in the areas of capital, financial, risk and cost management.
We are focused on the efficient run-off of the existing closed life business with an ambition to lead the consolidation of the UK closed life fund sector.
External outsource partners are used for policy administration, thereby minimising fixed costs. This provides a more efficient operating model as the policies run-off, in addition to a scalable and cost-effective platform to support the Group’s consolidation strategy.
– Value generated by Phoenix Life is distributed to the holding companies in the form of cash. The holding companies use this cash to fund Group expenses, pension contributions, debt interest and repayments and shareholder dividends
THE GROUP’S LIFE FUNDS ARE MANAGED THROUGH PHOENIX LIFE. FOLLOWING THE DIVESTMENT OF IGNIS, ASSET MANAGEMENT SERVICES ARE OUTSOURCED AND ARE PROVIDED PRIMARILY BY STANDARD LIFE INVESTMENTS.
THE GROUP FUNCTIONS ARE FOCUSED ON THE DELIVERY OF THE GROUP’S STRATEGIC OBJECTIVES AND ENHANCING THE GROUP’S EXTERNAL POSITIONING.
PHOENIX LIFE Phoenix Life is responsible for the management of the Group’s life funds. Its experienced and focused management team is led by its Chief Executive Officer, Andy Moss. Based in Wythall, near Birmingham, it has a track record of successfully integrating life assurance businesses and has developed a leading-edge model and infrastructure into which future acquired funds can be integrated.
The Group’s management services companies are charged with the efficient provision of financial and risk management services, sourcing strategies and delivering all administrative services required by the Group’s life companies. By using management services companies, the life companies benefit from price certainty and a transfer of some operational risks.
OUR MISSION IS TO IMPROVE RETURNS FOR OUR POLICYHOLDERS AND DELIVER VALUE FOR SHAREHOLDERS. THE GROUP INTENDS TO ACHIEVE THIS BY REALISING ITS VISION OF BEING THE SAVER-FRIENDLY, ‘INDUSTRY SOLUTION’ FOR THE SAFE, INNOVATIVE AND PROFITABLE MANAGEMENT OF CLOSED LIFE FUNDS.
– In December 2014, we obtained consent from bondholders to ensure that the £200 million Phoenix Life Limited Tier 2 bonds could be grandfathered as capital under Solvency II which helps clarify the Group’s capital position under the new regime.
– Progress with our Solvency II programme and optimise the Solvency II balance sheet.
For further details of the Group’s Risk Management Framework and principal risks and uncertainties Turn to pages 36 and 39.
Although the life companies are closed and generally do not write new business, they do accept additional policyholder contributions on in-force policies and allow certain policies, such as pension savings plans, to be reinvested at maturity into annuities. The Group has a strong and steady stream of internal annuities vesting, of which over 70% of premiums written in 2014 had valuable guaranteed annuity rates.
Additional value can be generated from further acquisitions of closed life books of business, as detailed on page 21.
KEY INITIATIVES AND PROGRESS IN 2014 – In 2014, we met our annual cash generation target by delivering £567 million of cash to our holding companies during the year – exceeding our £500–550 million target range.
– We continued to streamline the Group’s actuarial modelling systems, simplifying modelling processes and ensuring consistent capital management across the business. This and other management actions enhanced MCEV by £261 million in 2014.
PRIORITIES FOR 2015: – Target cash flows of £200 million – £250 million in 2015, assuming Solvency II regulations operate as expected.
For further details of our cash and MCEV KPIs Turn to pages 26 and 28.
Improving customer outcomes is central to our vision of being the saver-friendly ‘industry solution’ for closed life funds. It is not only the right thing to do by our existing customers, but provides a safe home for future customers through our consolidation strategy. We have six key areas of focus: – Security, through delivering promises and guarantees
– Product governance, including a rolling review of our products to ensure they continue to deliver appropriate outcomes for our customers
– Major reforms to the UK retirement market were announced in the 2014 Budget. As well as increased triviality limits taking effect almost immediately, from April 2015 customers will be able to take their entire pension fund as cash subject to tax at their marginal rate. Since the Budget, we have introduced new freedoms and flexibility to those customers who had made decisions immediately prior to the announcements being made. It is important to continue to ensure the right customer outcomes are being achieved and that informed decisions on valuable guarantees are being taken.
– We have increased the use of the Origo faster transfer system to now incorporate corporate pensions business. Speed of pension transfer pay-outs is now below 10 days.
– We prevented £22 million of transfers to fraudulent schemes in 2014.
PRIORITIES FOR 2015 – Communicating with our customers as they approach their retirement age to set out their options clearly, so that they are able to make informed decisions.
– Encouraging customer engagement with the products they hold with Phoenix.
Our people underpin everything that we do. They make it possible for us to enhance value and improve service for customers. They make it possible to deliver returns for policyholders. Therefore we make sure we do everything we can to provide a challenging and rewarding environment in which our people can thrive.
PRIORITIES FOR 2015 Over 2015 we will continue to communicate our strategy and goals through a variety of channels. We will hold conferences for senior management to hear and debate our latest plans, and are also investing in a redeveloped intranet which will provide a modern platform for communication and collaboration.
For further details of employee engagement initiatives See the full Corporate Responsibility report on our website.
OPPORTUNITIES FOR FUTURE GROWTH POTENTIAL MARKET OPPORTUNITIES We have estimated that the total UK closed life fund market opportunity for Phoenix is more than £300 billion of assets.
The UK closed life fund consolidation opportunity is supported by market dynamics which are expected to generate a supply of potentially attractive acquisition targets over the medium term. These dynamics include the potential impact of a changing regulatory framework for financial services companies including the Solvency II and Basel III regulations. Additionally, there is ongoing capital pressure within the sector, the trend of recycling and refocusing capital from mature to growth markets, the decline in new with-profits business, changing customer demands and regulatory change, all of which drives consolidation. We believe this opportunity is also supported by the migration of products to alternative structures, the cost challenge posed by a fragmented sector and the run-off of closed life funds and the potential exit of international participants.
BROAD SPECTRUM OF POTENTIAL ACQUISITION SIZES AND STRUCTURES Phoenix Group is well placed to find solutions for a range of sellers of life insurance businesses due to the Group’s flexible approach to acquisitions, in particular the Group’s appetite to acquiring either life companies, funds or portfolios of businesses, and all product types across the with-profit, non-profit and unit-linked spectrums.
Additional value from acquisitions can be generated through synergies which, combined with our ability to add value to any acquired book through our four areas of management actions, are fundamental drivers of shareholder value accretion. The process of extracting synergies is one which we have undertaken successfully from our existing book in recent years and we are well positioned to be able to replicate this in future.
FLEXIBILITY TO FINANCE TRANSACTIONS AND POTENTIAL TO DELIVER SIGNIFICANT VALUE GENERATION AND CASH
Potential value and source of cash acceleration and value generation will vary depending on specific target
ACQUISITION CRITERIA – Closed Life – Value accretive – Protects dividend 1 Not to scale.
DEFINITION Operating companies’ cash generation is a measure of cash and cash equivalents remitted by the Group’s operating companies to the holding companies and is available to cover dividends, debt servicing and repayment, pension scheme contributions and operating expenses.
QUANTIFIED TARGET1 The cumulative cash flow target for 2014 to 2019 is £2.8 billion, including Ignis divestment proceeds of £390 million. £957 million out of £2.8 billion has been achieved by 31 December 2014. Management has set a 2015 annual cash generation target of between £200 million and £250 million.
Maintaining strong cash flow delivery underpins debt servicing and repayment as well as shareholder dividends.
The Board considers that MCEV provides the most relevant and consistent means of assessing the Group’s ability to increase value through the delivery of incremental management actions.
1 This target has been set on the assumption that Solvency II regulations operate as expected.
ANALYSIS Gearing reduced to 34% at 31 December 2014, reflecting the Group’s debt refinancing during the year and the disposal of Ignis.
The gearing ratio is the Group’s measure of its level of debt compared to its equity on a gross MCEV basis.
ANALYSIS Financial leverage reduced to 39.3% at 31 December 2014, reflecting the Group’s debt refinancing and the disposal of Ignis. The reduction below 40% has reduced the margin above LIBOR payable on the PGH Capital bank facility from 350bps to 312.5bps.
DEFINITION The basis of calculation of Group IFRS operating profit is set out in note 6 of the IFRS consolidated financial statements.
The Board considers that Group IFRS operating profit is a more representative measure of performance than Group IFRS profit before tax as it provides long-term performance information unaffected by short-term economic volatility.
DEFINITION The dividend per share consists of the interim dividend per share paid in the year and the final dividend per share recommended for the year.
ANALYSIS The reduction in the estimated PLHL debt ICA surplus of £0.5 billion reflects the impacts of dividend payments, debt refinancing and repayments in the period, together with the adverse impacts of falling yields on the Group’s capital requirements and the strengthening of stress assumptions related to longevity, credit and correlations. This has been partly offset by free surplus generation, the divestment of Ignis and the positive impact of management actions in the period. The surplus of £0.7 billion represents headroom of £0.6 billion (2013: £1.1 billion) over the PLHL ICA regulatory capital policy.
PLHL ICA surplus is the economic regulatory assessment of capital adequacy at a PLHL level.
Total receipts 957 1,028 Uses of cash: Operating expenses (29) (34) Pension scheme contributions (88) (96)
Non-recurring outflows (46) (6) Uses of cash before debt repayments and shareholder dividend (243) (283)
Debt repayments (601) (696) Shareholder dividend (120) (120) Total uses of cash (964) (1,099) Cash and cash equivalents at 31 December3 988 995 1 Includes amounts received by the holding companies in respect of tax losses surrendered to the operating companies of £43 million (2013: £53 million).
3 Closing balance at 31 December 2014 includes required prudential cash buffer of £150 million (2013: £150 million).
CASH GENERATION The Group’s cash flows are generated from the interest earned on capital, the release of excess capital as the life funds run-off and policyholder charges and fees earned on assets under management. The Group’s closed life funds provide predictable fund maturity and liability profiles, creating stable long-term cash flows for distribution to shareholders and for repayment of outstanding debt. Although investment returns are less predictable, some of the investment risk is borne by policyholders.
HOLDING COMPANIES’ CASH FLOWS The statement of cash flows prepared in accordance with IFRS combines cash flows relating to shareholders and cash flows relating to policyholders, but the practical management of cash within the Group maintains a distinction between the two. For this reason, the following analysis of cash flows focuses on the holding companies’ cash flows, which reflect cash flows relating only to shareholders and which are, therefore, more representative of the cash that could potentially be distributed as dividends or used for the repayment of debt, the payment of debt interest, Group expenses and pension contributions (subject to the Group’s liquidity policy, regulatory and other restrictions on the availability and transferability of capital). This cash flow analysis reflects the cash paid by the operating companies to the holding companies, as well as the uses of those cash receipts.
This enabled the Group to exceed its cash generation target range of £500 million to £550 million for the year ended 31 December 2014, excluding Ignis divestment proceeds.
Opening free surplus 529 514 IFRS operating profit 487 414 IFRS investment variances and non-recurring items (46) 28
IFRS tax (43) (96) Movements in capital requirements and policy (176) 371
Closing free surplus1 196 529 1 Includes differences between valuation of assets and liabilities on an IFRS basis versus a capital basis.
The Phoenix Life operating profit is discussed in the Group IFRS operating profit section and reflects recurring margins and return on surplus assets, plus the effects of non-economic experience variances and assumption changes.
Pension scheme contributions of £88 million (2013: £96 million) decreased in line with the latest triennial funding agreement. This decrease was partially offset by a one-off £5 million payment to the PGL Pension Scheme in association with the restructuring of the scheme’s exposure to longevity risk.
Debt interest decreased to £80 million (2013: £147 million), mainly reflecting lower debt principal balances following repayment and restructuring activity during the period, together with the impact of the closure of the Group’s interest rate swap arrangements in the second half of 2013 which were included in the net outflow in the comparative period.
DEBT REPAYMENTS AND SHAREHOLDER DIVIDEND As part of the debt reduction and refinancing that the Group achieved during the year, £250 million of the proceeds from the divestment of Ignis and £206 million from existing internal resources were used to prepay the old facility agreements.
Future cash flows: Emergence of surplus1 0.9 Release of capital1 0.9 Total future cash flows target 1.8 Achieved cash flows 1.0 Operating companies’ cash generation target 2.8 1 Includes cash flows from management actions.
The above target has been set on the assumption that Solvency II regulations operate as we expect.
The resilience of the cash generation target is demonstrated by the following stress testing: Stress testing1
Base case six-year target 2.8 20% fall in equity markets 2.7 15% fall in property values 2.8 75bps increase in nominal yields2 2.9 75bps decrease in nominal yields2 2.7
2 Represents a real yield reduction of 25bps, given a 75bps increase/decrease in nominal yields.
New business value 11 18 Non-economic experience variances and assumption changes: Experience variances 53 79 Assumption changes (15) 3 Other operating variances 82 83
The Group has generated MCEV operating earnings after tax of £288 million (2013: £350 million).
2 Life MCEV operating earnings are derived on an after tax basis. For presentational purposes life MCEV operating earnings before tax have been calculated by grossing up the after tax life MCEV operating earnings. Life MCEV operating earnings before tax of £341 million (2013: £401 million) are therefore calculated as £268 million operating earnings (2013: £308 million) grossed up for tax at 21.50% (2013: 23.25%).
New business value New business profits generated from vesting annuities without guarantees during 2014 were £11 million after tax (2013: £18 million). New business value represents the value of vesting pension policies not reflected in the opening MCEV. These arise from pension policies which have no attaching annuity guarantees. The volume of new annuity business has reduced compared to the prior period, reflecting the impacts of pension reforms announced in the 2014 Budget and the deferral of policyholder retirement decisions until the provisions fully come into force in April 2015.
Non-economic experience variances and assumption changes Non-economic experience variances and assumption changes increased MCEV by £120 million after tax (2013: £165 million). The main drivers of the increase are other operating variances of £82 million (2013: £83 million), comprising the one-off positive impacts of actuarial modelling enhancements reflecting the implementation of the Group’s new actuarial system and refinements to the modelling of credit default risk, together with experience variances of £53 million (2013: £79 million) principally reflecting benefits from data cleansing projects and balance sheet reviews completed in the period and favourable longevity experience. This has been partly offset by negative assumption changes of £15 million (2013: positive £3 million) resulting from the adverse impact of the assumed reduction in take-up of guaranteed annuities following the pension reforms announced in the 2014 Budget.
ECONOMIC VARIANCES ON LIFE BUSINESS Positive economic variances on life business of £54 million (2013: positive £138 million) reflect the impacts of falling yields, lower inflation and positive equity and property returns in the period. These have been partly offset by the negative impacts of the difference between actual short-term returns and the long-term investment return assumptions used to determine operating earnings, widening credit spreads, adverse policyholder tax variances arising on investment gains in the period on the fixed interest portfolio and increases in the market value of the Phoenix Life Limited subordinated debt of £7 million.
ECONOMIC VARIANCES ON NON-LIFE BUSINESS Economic variances on non-life business are negative £64 million (2013: negative £48 million), reflecting the increased market value of the Tier 1 notes and the PGH Capital senior bond which have decreased MCEV earnings by £61 million (2013: decrease of £84 million). Other economic variances had a net impact of negative £3 million. The 2013 result included fair value gains of £33 million on interest rate swaps held by the Group companies which were closed out in the second half of 2013.
MANAGEMENT SERVICES AND IGNIS OPERATING PROFIT Commentary on the management services companies and Ignis operating profit is provided in the Group IFRS operating profit section.
OTHER NON-OPERATING VARIANCES ON LIFE BUSINESS Other non-operating variances on life business decreased Group MCEV by £74 million on a net of tax basis (2013: negative £27 million net of tax) and comprise a loss of £20 million in relation to an anticipated reduction in future profits arising from external regulatory changes to the cap on workplace pension charges, £19 million relating to anticipated VAT costs on future management investment expenses and other implementation costs arising from the divestment of Ignis, a £12 million loss arising from the reinsurance agreement to transfer annuity in-payment liabilities held within the with-profit funds to Guardian Assurance Limited and a £31 million reduction in the value of in-force business to reflect the impact of debt repayments, refinancing and other corporate activity on expected tax attributes available to the Group to relieve tax on emerging surpluses. This has been partly offset by a gain of £23 million arising from the restructure of Phoenix Life Limited’s exposure to longevity risk from the PGL Pension scheme. Net other items decreased MCEV by £15 million.
Non-recurring items in the comparative period included arrangement and structuring fees of £21 million associated with the re-terming of the Impala loan facility, a loss from a pension liability management exercise of £9 million and £31 million of regulatory change, systems transformation and restructuring costs incurred by the management services companies, together with corporate project and other one-off costs.
Debt finance costs have decreased by £50 million, reflecting lower debt principal balances following repayments and restructuring activity during the period, together with the impact of the closure of the Group’s interest rate swap arrangements in the second half of 2013 which were responsible for a net finance charge in the comparative period.
Other comprehensive income: Remeasurements and contributions on defined benefit pension schemes (net of tax) (27) (16)
Capital and dividend flows in the period primarily comprise external dividend payments of £120 million and movements in the own shares held balance. The comparative period primarily comprised ordinary share capital issued of £233 million (net of associated fees and commissions) less external dividend payments of £120 million.
The with-profit funds where internal capital support has been provided generated an operating profit of £33 million (2013: £20 million). The increase compared to the prior period reflects lower take up rates of policyholder guarantees in light of the pensions reforms announced in the 2014 Budget which have reduced the expected costs associated with these guarantees.
The operating profit on non-profit and unit-linked funds was £320 million (2013: £243 million). The increase compared to the prior period reflects higher one-off positive impacts of £167 million (2013: £88 million) from: – modelling enhancements reflecting the implementation of the Group’s new actuarial modelling system; – refinements to the modelling of credit default and longevity risk; and
GROUP IFRS OPERATING PROFIT The Group has generated an IFRS operating profit of £483 million (2013: £439 million).
PHOENIX LIFE Operating profit for Phoenix Life is based on expected investment returns on financial investments backing shareholder and policyholder funds over the reporting period, with consistent allowance for the corresponding expected movements in liabilities (being the release of prudential margins and the interest cost of unwinding the discount on the liabilities). The principal assumptions underlying the calculation of the longer-term investment return are set out in note 6 to the IFRS consolidated financial statements.
– the impact of balance sheet, processes and controls reviews conducted in the period.
NON-RECURRING ITEMS Non-recurring items include the gain on the disposal of Ignis of £107 million and £68 million of income received by PGH1 in relation to the close-out of the PGL Pension Scheme longevity indemnity agreement with the with-profit funds, partly offset by £17 million of adverse financial impacts associated with external regulatory changes, including the cap on workplace pension charges, corporate project costs of £15 million and net other one-off items of negative £17 million, including costs associated with the implementation of Solvency II and systems transformation projects. The 2013 result included a £42 million gain on completion of the legal transfer of annuity liabilities to Guardian Assurance Limited and the adverse impact of arrangement and structuring fees of
Investment return variances and economic assumption changes on long-term business 12 64
Non-recurring items 126 (11) Profit before finance costs attributable to owners 504 343
Debt finance costs1 65 114 Other finance costs 23 12 Finance costs attributable to owners 88 126 1 Finance costs in respect of bank debt (and associated swap interest).
TAX CREDIT ATTRIBUTABLE TO OWNERS The Company is exempt from tax in the Cayman Islands on any profits, income, gains or appreciations for a period of 30 years from 11 May 2010.
CAPITAL MANAGEMENT FRAMEWORK The Group’s capital management framework is designed to achieve the following objectives: – To provide appropriate security for policyholders and meet all regulatory capital requirements while not retaining unnecessary excess capital
The framework comprises a suite of capital management policies that govern the allocation of capital throughout the Group to achieve these objectives under a range of stress conditions. The policy suite is defined with reference to policyholder security, creditor obligations, dividend policy and regulatory capital requirements.
The capital policy of the holding companies ensures sufficient liquidity to meet creditor obligations. This is monitored at both Executive Committee and Board level.
REGULATORY CAPITAL REQUIREMENTS IGD surplus (estimated) Each UK life company must maintain sufficient capital at all times to meet the regulatory capital requirements mandated by the PRA. These measures are aggregated under the European Union Insurance Groups’ Directive (‘IGD’) to calculate regulatory capital adequacy at a Group level.
The Group’s IGD assessment is made at the level of the highest EEA insurance group holding company, which is Phoenix Life
– capital generation items of £0.4 billion, including capital benefits from management actions such as the close-out of the PGL Pension Scheme longevity indemnity agreement.
The reduction in the estimated PLHL ICA surplus of £0.5 billion reflects: – the positive impacts of the divestment of Ignis of £0.2 billion; – dividend payments, debt financing and repayments of £0.8 billion, including the £206 million debt prepayment associated with the £900 million debt facility refinancing and the £250 million payment associated with the divestment of Ignis; – an adverse impact of £0.2 billion reflecting the strengthening of ICA stress assumptions related to longevity, credit and correlations; and
– capital generation in the period of £0.3 billion, including the positive impact of management actions delivered in the period of £0.2 billion, partly offset by the adverse impact of falling yields on the PLHL ICA surplus.
CAPITAL RESOURCES The primary sources of capital used by the Group comprise equity shareholder funds as measured on an MCEV basis, the Perpetual Reset Capital Securities (Tier 1 notes) and shareholder borrowings.
2 Gross MCEV is defined as the sum of Group MCEV and the value of the shareholder and hybrid debt as included in the MCEV.
In January 2015, the Group announced the exchange of 99% of the Group’s Tier 1 notes for £428 million of new subordinated notes, issued by PGH Capital. As the new bonds mature in 2025, the bonds will be included in the gearing calculation at 100% of their IFRS carrying value in future reporting periods. Had the Tier 1 notes exchange and associated coupon payment occurred on 31 December 2014, the gearing ratio would have increased to 38%.
In light of the completion of the Tier 1 notes exchange and in order to align the Group’s measure of its level of debt to that used to determine the interest margin payable on its bank facilities, the Group will monitor the financial leverage ratio going forwards. Details on its calculation are included below.
Further detail on shareholder debt is included in note 23 to the IFRS consolidated financial statements. 1 This includes £2 million paid to Phoenix Life Assurance
Financial leverage ratio In addition to the gearing ratio, management also monitor the level of its debt by reference to the financial leverage ratio. The financial leverage ratio is used to determine the interest margin payable on the PGH Capital bank facility.
Gross shareholder debt (gearing basis) and shareholder debt (including hybrid debt) included in MCEV at 31 December 2014 are set out in the table below: 2014 £m 2013 £m
PLL subordinated debt 149 151 Tier 1 notes at 50% of IFRS carrying value (see note 20 to the IFRS consolidated financial statements) 204 204
Adjustment to include the following item at face value: PGH Capital facility 12 – Shareholder debt (including hybrid debt) included in MCEV 1,761 2,261
The table below sets out the calculation of gross shareholder debt (financial leverage basis): 2014 £m 2013 £m
Gross shareholder debt (financial leverage basis) 1,734 2,300 1 Total face value of the Tier 1 notes is £425 million, of which bonds with a face value of £31 million are held by Group companies.
The financial leverage ratio as at 31 December 2014 reduced to 39.3% (2013: 49.6%). The drivers of the reduction are consistent with the movement in the gearing ratio and the reduction below 40% has reduced the margin above LIBOR payable on the PGH Capital bank facility from 350bps to 312.5bps. Had the Tier 1 notes exchange and associated coupon payment occurred on 31 December 2014, the financial leverage ratio would have been 39.7%.
LIQUIDITY MANAGEMENT Details of the Group’s objectives and policies for the management of liquidity risk are included within the Risk management section and note 40 of the IFRS consolidated financial statements.
For further details of shareholder debt See note 23 of the IFRS consolidated financial statements.
RISK STRATEGY The Group’s risk strategy provides an overarching view of how risk management is incorporated consistently across all levels of the business, from decision-making to strategy implementation. It also sets out how risk management within the Group is proportionate to the nature, scale and complexity of the risks faced by the business.
The risk appetite and control framework supports the Group in operating within the boundaries of these statements by seeking to limit the volatility of key parameters, under a range of adverse scenarios agreed with the Board. Risk appetite limits are chosen which specify the maximum acceptable likelihood for breaching the agreed limits. Assessment against the appetite targets is undertaken through scenario testing.
Third line: Independent Assurance Independent verification of the adequacy and effectiveness of the internal controls and risk management is provided by the Group Internal Audit function, which is supported by the Board Audit Committee.
PEOPLE AND REWARD Effective risk management is central to the Group’s culture and its values. Processes are operated that seek to measure both individual and collective performance and discourage incentive mechanisms which could lead to undue risk taking. Training and development programmes are in place to support employees in their understanding of the operation of the RMF. During 2014, to assess how well the RMF is embedding across the Group and how this has impacted our employees, Group Risk conducted an annual Risk Culture survey. The results of this survey enable us to assess and measure our Risk Culture over time as well as being able to tailor training programmes to ensure the continued engagement and development of staff.
In times of severe market turbulence, the Group may not have sufficient capital or liquid assets to meet its cash flow targets or it may suffer a loss in value.
Over the past year, the continuing decline in yields on UK government debt has put pressure on the Group’s excess capital position. Actions have been implemented to partially offset this impact and the position is closely managed.
The Group has improved its counterparty monitoring processes over 2014 to monitor exposure holistically across all counterparty obligations, both in respect of debt securities and trading.
There has been no adverse change in experience over the year.
The implementation of the Solvency II Directive may impair the ability of the Group to meet cash flow targets.
During 2014, our activities in relation to Solvency II have been focused primarily on the preparation of the Group’s Internal Model Application (IMAP), as well as on monitoring the progress of the development of the Solvency II regulations. The UK insurance industry is still awaiting details from regulatory authorities on the specific details in relation to the implementation of Solvency II.
Changes in the regulatory and legislative landscape may impact the way that Phoenix Life has engaged with its customers.
2014 saw a number of key regulatory changes to the UK life insurance sector.
The financial impacts of several of these changes are still uncertain but the Group continues to take actions to prepare for the possible range of outcomes, including the way in which our customers react to the new options available at retirement.
The changes in the retirement marketplace have opened up a number of new options for customers. While these options provide greater flexibility for customers, there is a need for customers to ensure that they engage with the process to ensure that they make informed decisions that are suitable for their needs. Additionally, providers need to ensure that their processes facilitate effective decision making by customers. Failure to do this may result in a risk that a customer takes an option that they do not understand or that may not be appropriate for them.
The principal risk which the Group could be adversely affected by if it is unable to repay or refinance its debt when it falls due’, has been removed given the progress the Group made with the debt reduction and refinancing activity in 2014 through the divestment of Ignis, the issuance of a £300 million senior unsecured bond and the refinancing of the Group’s senior bank debt.
R an ge d ep en de nt o n ou tc om e
Regulatory Thematic Reviews The unknown consequences and the potential impact, including retrospective activity, to the Group as a result of Thematic Reviews conducted by the regulators.
Operational and financial implications of system and process changes for April 2015 and potential spike in retirement requests.
HIGHLIGHTS The aim for 2014 was to further raise awareness of the Group’s Corporate Responsibility (‘CR’) programme, whilst encouraging a greater number of staff to get involved. Highlights include: – CR goals launched with a three to five year focus
– Inclusion in ‘Britain’s Top Employers’ listing for third consecutive year
This report provides an overview of the Group’s 2014 Corporate Responsibility programme.
Working groups were formed, each focusing on a specific CR goal. Meetings are held monthly and involve champions from various levels across the organisation, promoting cross-functional working and representing both of the Group’s core sites.
The launch of large screen technology in meeting rooms has encouraged a shift towards more paper-free meetings, as staff trial online meetings and video conferencing. Efforts continue to reduce waste produced onsite, London generates no waste to landfill, whilst Wythall has reduced its landfill waste from 36% to 4% since 2012.
2014 WAS ABOUT CONTINUING TO EMBED CORPORATE RESPONSIBILITY INTERNALLY, ENCOURAGING MORE STAFF TO TAKE PERSONAL RESPONSIBILITY, AND INCREASING THE NUMBERS GETTING INVOLVED IN GROUP‑WIDE INITIATIVES.
Data reported is based on the main requirements of the ISO14064 Part 1 and the GHG Protocol Corporate Accounting and Reporting Standard (revised edition); data gathered for on-going reporting against the UK Carbon Reduction Commitment (‘CRC’) scheme and energy and fuel consumption data for owned or occupied properties has been used to calculate the carbon footprint. The Government’s Conversion Factors for Company Reporting 2014 have been used to convert energy data into CO2e emissions.
As this is the second year of mandatory greenhouse gas emissions reporting, previous years’ emissions have been included. Figures have been restated, including associated intensity metrics, as additional energy consumption data has been obtained since the previous report.
Emissions reported above normalised to per m2 0.04 tonnes CO2e/m2 0.05 tonnes CO2e/m2
WORKPLACE – HOW WE TREAT EMPLOYEES, INCLUDING HOW WE ATTRACT, DEVELOP AND RETAIN THE BEST TALENT We want staff to take personal responsibility for CR.
We want our staff to be healthy, engaged and productive and recognise the importance of each other’s wellbeing.
The Group’s business ethics and dignity at work principles have regard for, and are aligned to, relevant Articles of the United Nations Universal Declaration of Human Rights.
Workforce that is of Black, Asian or Minority Ethnic (‘BAME’) background 107 213 of employees participated in the Group’s employee engagement survey
45PHOENIX GROUP HOLDINGS ANNUAL REPORT AND ACCOUNTS 2014 570 hours donated to staff volunteering activity
COMMUNITY – THE CONTRIBUTION WE MAKE TO THE COMMUNITIES IN WHICH WE OPERATE AND OUR OBLIGATIONS TO THE BROADER SOCIETY We want our local community to know we are a responsible corporate citizen.
The Group’s relationships with customers, investors, outsource partners and other business partners, suppliers, regulators, Government and the media remain key in the development of its CR programme.
CONCLUSION 2014 has been an important year with regards to the scale of CR achievements. Most notable the high levels of staff engagement, the embedding of CR into its corporate culture and addition of high-profile management sponsorship – all helping to create and drive a sustainable business into the future.
Key Performance Indicators will be launched for each of the goals during 2015, with a view to creating further transparency and continued CR best practice.
The Group’s new debt structure better matches our debt repayments to our cash flows.
JAMES McCONVILLE GROUP FINANCE DIRECTOR James McConville was appointed to the Board of Directors of the Company as Group Finance Director on 28 June 2012. During 2011 and 2012, Mr McConville was a non-executive director of the life businesses of Aegon UK. Between April 2010 and December 2011, he was Chief Financial Officer of Northern Rock plc. Prior to that, between 1988 and 2010, he worked for Lloyds Banking Group plc (formerly Lloyds TSB Group plc) in a number of senior finance and strategy related roles, latterly as Finance Director of Scottish Widows Group plc and Director of Finance for the Insurance and Investments Division. In 2014, Mr McConville joined the board of Tesco Personal Finance Plc. Mr McConville qualified as a Chartered Accountant whilst at Coopers and Lybrand.
IAN CORMACK SENIOR INDEPENDENT DIRECTOR Ian Cormack was appointed to the Board of Directors of the Company on 2 September 2009 and was appointed Senior Independent Director on 1 October 2013. Ian Cormack is Non-Executive Chairman of Maven Income & Growth VCT 4 plc and is a Senior Independent Director of Partnership Assurance Group plc, Bloomsbury Publishing Plc and Xchanging plc. Mr Cormack was Chief Executive Officer of AIG, Inc. in Europe from 2000 to 2002 and prior to that he spent 32 years at Citibank where he was Chairman of Citibank International plc and co-head of the Global Financial Institutions Client Group at Citigroup. Mr Cormack is Chairman of the Board Remuneration Committee and a member of the Board Nomination Committee.
TOM CROSS BROWN NON-EXECUTIVE DIRECTOR Tom Cross Brown was Global Chief Executive of ABN AMRO Asset Management (which managed €160 billion of assets, with offices in 30 countries around the world) from 2000 to 2003, as well as Chairman of ABN AMRO Asset Management in the UK from 1997 to 2003. Prior to this, he spent 21 years with Lazard Brothers in London, latterly as Chief Executive Officer of Lazard Brothers Asset Management. Mr Cross Brown is Non-Executive Chairman of Just Retirement Group plc and is a Non-Executive Director of Artemis Alpha Trust plc, as well as of other private companies and charities. He was appointed to the Board of Directors of the Company on 24 September 2009. He is a member of the Board Nomination and Board Risk Committees.
KORY SORENSON NON-EXECUTIVE DIRECTOR Kory Sorenson is currently a non-executive director of SCOR SE, the global reinsurer listed on the Euronext Paris stock exchange, its US subsidiaries: SCOR Reinsurance Company (US) and SCOR Global Life Americas Reinsurance Company, and UNIQA Insurance Group AG, a leading insurance group in Austria and Central and Eastern Europe listed on the Vienna Stock Exchange. Ms Sorenson has over 20 years’ financial services experience, most of which has been focused on insurance and banking. She was Managing Director, Head of Insurance Capital Markets of Barclays Capital from 2005 to 2010 and also held senior positions in the capital markets or financial institutions divisions of Credit Suisse, Lehman Brothers and Morgan Stanley. Ms Sorenson is also a director of the Institut Pasteur, a non-profit, private foundation created in 1887 by Louis Pasteur, focused on biomedical research, public health and teaching. Ms Sorenson was appointed to the Board of Directors of the Company on 1 July 2014 and is a member of the Board Remuneration and Board Audit Committees.
DAVID WOODS NON-EXECUTIVE DIRECTOR David Woods is a Fellow of the Institute of Actuaries, Non-Executive Chairman of Standard Life UK Smaller Companies Trust plc and a Non-Executive Director of Murray Income Trust plc and Barbon Insurance Group. He is also Chairman of the pension fund trustee companies responsible for the governance of all the UK pension schemes in the Steria Group and is Director of Santander (UK) Group Pension Trustees Ltd. He was appointed to the Board of Directors of the Company on 18 February 2010 and is Chairman of the Board Risk Committee and a member of the Board Audit Committee.
– Leads external Group communications in liaison with the Group Finance Director and Head of Investor Relations.
– Provides guidance and support on all human resources (‘HR’) matters to the Group Chief Executive Officer, ExCo, Group Board and Remuneration Committee
– Supports the Group Chief Executive Officer in managing the Group’s key external stakeholders and investor relations
– Supports the Group Board Risk Committee in the oversight of the Group’s risk framework, in line with risk strategy and appetite.
– Identifies and delivers opportunities to enhance shareholder value across the Group in liaison with the Group Finance Director.
I am pleased to say that, as shown in the charts alongside, the Board now has a higher proportion of both independent and female directors and, with ten directors, is now of a more effective size. The recent Board evaluation review (November 2014), externally facilitated by Egon Zehnder, stated that “the reduction in director numbers has resulted in better quality debates, each director now being able to contribute fully”.
– 2011 AGM – all 24 resolutions passed by a majority of at least 96% of votes cast
– 2013 EGM – both resolutions passed by a majority of at least 96% of votes cast
– 2014 AGM – all 19 resolutions passed by a majority of at least 80% of votes cast.
The following two resolutions at our 2014 AGM were passed by less than 90% of shares voted: – Approval of the Remuneration Policy – 84.70%
UK CORPORATE GOVERNANCE CODE I am pleased to report that, for the third year running, we were fully compliant in 2014 with the provisions of the UK Corporate Governance Code. The new (September 2014) provisions of the UK Corporate Governance Code apply to Phoenix Group Holdings from the financial year commencing 1 January 2015. We are well-placed to comply with the new provisions and, as required, will report against them in our 2015 Annual Report.
2011 UK CORPORATE GOVERNANCE CODE COMPLIANT IN ALL BUT ONE MATTER
We were disappointed that a significant minority of shareholders voted against these two resolutions. We have listened to shareholders’ concerns and believe that we have responded appropriately to those concerns including the establishment of a minimum two-year share retention period following a three-year vesting period for executive long-term share plans, such that there will, in future, be a minimum five-year combined vesting/holding period. Further details of this and other aspects of our remuneration policy are contained in the Remuneration section on pages 60 to 82.
THE BOARD The Board comprises the Non-Executive Chairman, the Group Chief Executive Officer, the Group Finance Director and seven other Non-Executive Directors, six of whom are independent. Biographical details of all Directors are provided on pages 60 to 82. The Board considers that the following Directors are independent: Alastair Barbour, Ian Cormack, Tom Cross Brown, Isabel Hudson, Kory Sorenson and David Woods. The Board has considered the criteria proposed by the Code in assessing the independence of the Directors. Tom Cross Brown is the non-executive Chairman of Just Retirement Group plc. The Group has an arrangement with Just Retirement whereby Phoenix customers may be referred to Just Retirement to enable them to explore enhanced annuities should they wish to do so. The decisions regarding this arrangement are not made by the Board of Phoenix Group Holdings and the relationship is not considered to impact the independent status of Tom Cross Brown. Isabel Hudson is a non-executive director of Standard Life PLC which has investment management arrangements with the Phoenix Life subsidiary companies. The decisions regarding these arrangements are not made by the Board of Phoenix Group Holdings and the relationship is not considered to impact the independent status of Isabel Hudson.
All the Directors of the Company are PRA and FCA Approved Persons in respect of the Company’s regulated subsidiaries.
The Senior Independent Director, appointed by the Board, is Ian Cormack. His role is to be available to shareholders whose concerns are not resolved through the normal channels or when such channels are inappropriate. He is also responsible for leading the annual appraisal of the Chairman’s performance by the Non-Executive Directors, which took place in November 2014.
The output from the Board and individual director reviews informed the review of the Board composition undertaken by the Board Nomination Committee in January 2015, leading to the Board’s recommendations to shareholders regarding re-election of directors at the 2015 Annual General Meeting (‘AGM’).
Attendance by each of the Directors at Board meetings and at committee meetings for committees of which they were a member during 2014 is detailed below: Board Meetings Nomination Committee Audit Committee
2 Manjit Dale resigned from the Board on 30 April 2014.
The composition of the Audit Committee is in accordance with the requirements of the Code that the Audit Committee should consist of at least three independent NonExecutive Directors of whom at least one has recent and relevant financial experience. Both Alastair Barbour and Isabel Hudson have that experience. The Audit Committee met seven times during 2014. Its meetings are attended by the Chairman of the Risk Committee (who is also a member of the Audit Committee), the Group Finance Director, the Deputy Group Finance Director, the Group Head of Internal Audit, the external auditors and usually also by the Group Chairman and the Group Chief Executive Officer. The Audit Committee holds private meetings at least annually with each of the Group Finance Director, the Group Head of Internal Audit and the external auditors.
– Considered and addressed a number of significant matters in relation to the IFRS and MCEV financial statements for 2013 (annual), 2014 (interim) and 2014 (annual) as summarised in the table on the next page. These matters were considered by the Audit Committee to be areas subject to the most significant levels of judgement or estimation, and identified with regard to the significant risks assessed by the Group’s external auditors as set out in their audit opinion on page 91
– Reviewed the annual internal controls effectiveness report (and the half-year interim update) prior to its consideration by the Board and received reports regarding consequential actions
– Reviewed benchmarking and supporting information for the basis and calculation of the statutory audit materiality used by the external auditors, which has been set as a percentage of shareholder equity
INTERNAL AUDIT – Reviewed the self-assessment of the internal audit function, undertaken in accordance with the Institute of Internal Auditors’ International Standards, the conclusion being that the internal audit function remains effective in its role
– Reviewed the internal audit macroopinion report on the adequacy of risk management and control in the Group
– Reviewed proposals for Internal Audit to transition from functional audits to more risk-based thematic audits and agreed that the Internal Audit programme in 2015 should be balanced between functional and thematic audits
– Considered, in conjunction with the Chairman of the Risk Committee and the Chief Risk Officer, the interplay in the internal controls assurance process, between line 1 (executive management), line 2 (Risk Function) and line 3 (Internal Audit)
GENERAL – Reviewed arrangements for whistleblowing should an employee wish to raise concerns, in confidence, about any possible improprieties
REVIEW OF THE ACTUARIAL VALUATION PROCESS, TO INCLUDE THE SETTING OF ACTUARIAL ASSUMPTIONS AND METHODOLOGIES, AND THE ROBUSTNESS OF ACTUARIAL DATA
– The Phoenix Life Audit Committee also considered a paper prepared by management detailing the suite of key controls that are used to validate data that is utilised within the actuarial liability valuation process.
– The Audit Committee were updated through reporting from the Phoenix Life Audit Committee by receipt of the minutes of that committee and independent reports from the external auditors on their audit of the use of the new system covering controls over input, reconciliation of early parallel runs and assessment of the output.
– As part of the interim and year-end reporting process, the Audit Committee considered presentations from management that provided an update on taxation risks and exposures, provisioning levels and matters pertaining to the recoverability of deferred tax assets.
ASSESSMENT OF WHETHER THE ANNUAL REPORT AND ACCOUNTS ARE FAIR, BALANCED AND UNDERSTANDABLE
GOING CONCERN ANALYSIS – A comprehensive going concern assessment was undertaken by the Audit Committee for the 2014 year end and 2014 interim reporting periods, based on an assessment by management of the Group’s liquidity for the going concern review period together with forecasts and a stress and sensitivity analysis. The analysis also confirmed that all regulatory and working capital requirements would be met under the base case and adverse stress scenarios throughout the going concern review period.
– Reviewed the balance of skills, diversity, experience, independence and knowledge on the Board, taking account of the Board Evaluation Report
The composition of the Nomination Committee is in accordance with the requirements of the Code that a majority of its members should be independent Non-Executive Directors. The Nomination Committee is responsible for considering the size, composition and balance of the Board; the retirement and appointment of Directors; succession planning for the Board and senior management; and making recommendations to the Board on these matters. The Nomination Committee met five times in 2014.
NOMINATION COMMITTEE’S PRINCIPAL ACTIVITIES DURING 2014 – Delivered a recommendation to the Board in connection with the appointment of Kory Sorenson who was appointed to the Board in July 2014 following the receipt of regulatory approval
– Reviewed the Group’s risk profile, monitoring it against the risk categories of Market, Insurance, Credit, Financial Soundness, Customer and Operational with particular attention to risk appetite, risk trends, risk concentrations, provisions, experience against budget and key performance indicators for risk
– Undertook horizon scanning to consider emerging risks that could impact the Group.
The Company’s Investor Relations department is dedicated to facilitating communication with investors and analysts and an active investor relations programme is maintained. The Company continued its communication and engagement with the investment community during 2014. At these meetings a wide range of relevant issues including strategy, performance, management and governance are discussed. The Chairman, Senior Independent Director and Executive Directors are available to meet investors and analysts when required. Should major shareholders wish to meet newly appointed Directors, or any of the Directors generally, they are welcome to do so.
The Directors consider it important to understand the views of the market. Board members regularly receive copies of the latest analyst reports on the Company and the sector, as well as market feedback to further develop their knowledge and understanding of external views about the Company. The Chairman and the Non-Executive Directors provide feedback to the Board on topics raised with them by major shareholders. In addition, investor days are conducted periodically. The Company also undertakes perception studies, when appropriate, designed to determine the investment community’s view of the core business from both institutional fund managers and sell-side analysts.
The Company’s AGM provides another opportunity to communicate with its shareholders. At the 2014 meeting, the Company complied with the Code provisions relating to voting and the separation of resolutions. Shareholders were invited to ask questions during the meeting. It is intended that the same processes will be followed at the 2015 AGM. In line with the Code, details of proxy voting by shareholders will be made available at the meeting and will be posted on the Company’s website following the meeting.
FINANCIAL REPORTING AND GOING CONCERN The Directors have acknowledged their responsibilities in the Statement of Directors’ Responsibilities in relation to the IFRS financial statements for the year ended 31 December 2014.
The Group’s business activities, together with the factors likely to affect its future development, performance and position are set out in the Strategic Report on pages 6 to 45.
DEAR SHAREHOLDER On behalf of the Board, I am pleased to present our Directors’ remuneration report for the year ended 31 December 2014. This report covers remuneration for all Executive Directors and Non-Executive Directors of the Company.
– The accreditation, for the third successive year, that Phoenix has been formally recognised as one of ‘Britain’s Top Employers’. This reflects our commitment to employee development and engagement, evidenced by the employee engagement survey result of a 2% increase compared to 2013 to 78%, further strengthening the positive comparison against the Financial Services benchmark
By way of information, the practical application of the policy explained in the preceding paragraph has been to set the total target package for each of the two Executive Directors at less than 90% of the FTSE 31-100 data set. While our Group Finance Director’s salary increased last year due to a strong performance, neither executive will receive an increase in 2015 as their salaries are each considered to be at an appropriate level.
REMUNERATION POLICY FOR 2015 Reflecting on feedback over the course of the year from a number of our major shareholders and taking account of developments more generally in market practice during the year, the Committee concluded that: – For 2015, neither Executive Director will receive a salary increase (this means that the Group Chief Executive Officer has not had any increase in salary since joining approximately four years ago).
– The Shareholding Guidelines of all Executive Directors should be increased to 200% of base salary.
– In respect of 2015 and subsequent LTIP awards, a two-year holding period should be introduced so that after the three-year performance period, LTIP awards would only be exercisable after a further two-year period.
– In future, it will disclose more detail regarding the Company’s performance against the performance measures and targets for the AIP.
With these changes, the Committee believes the ongoing arrangements to be appropriate.
At our 2015 AGM we will be holding an advisory vote on the Directors’ remuneration report.
DIRECTORS’ REMUNERATION POLICY The Directors’ Remuneration Policy (‘Remuneration Policy’) was approved by the
Company’s shareholders at the Company’s AGM on 30 April 2014 and has effect for all payments made to Directors from that date.
BENEFITS There are no proposed changes to the benefits offered to Executive Directors in 2015.
The AIP maximum potential and on-target levels remain unchanged at 150% of base salary and at 50% of maximum levels (75% of base salary) respectively. As in previous years, one-third of AIP outcomes for 2015 will be delivered as an award of deferred shares under the Deferred Bonus Share Scheme (‘DBSS’) which will vest after a further three-year period of deferral. The number of shares in DBSS awards is calculated using the average share price for the three dealing days before the grant of awards.
The weightings between Corporate and Personal performance measures for AIP in 2015 are unchanged from 2014 and are as follows: – Corporate (financial and strategic (non-financial) performance indicators) – 70%.
ANNUAL IMPLEMENTATION REPORT – UNAUDITED INFORMATION CONTINUED IMPLEMENTATION OF REMUNERATION POLICY IN 2015 CONTINUED
In addition, and as previously stated in the Remuneration Policy, there are three potential levels at which the performance measures and targets and related outcomes from AIP in 2015 may be moderated (downwards or upwards) by the Remuneration Committee (‘Committee’) – more details are in the summary Remuneration Policy Table set out at the Appendix to the Directors’ remuneration report.
The performance measures for LTIP awards to be made in 2015 will be based on MCEV growth (40% of award), Cumulative cash generation (40% of award) and relative Total Shareholder Return (‘TSR’) (20% of award). Additionally, all awards are subject to a further underpin measure relating to debt and risk management within the Group, as detailed on page 71.
As in past years, the performance targets for MCEV growth and Cumulative cash generation will be set by the Committee shortly prior to when the LTIP Awards are made. The Company will disclose the performance targets for the MCEV growth and Cumulative cash generation measures for 2015’s LTIP awards in next year’s Directors’ remuneration report.
ALL-EMPLOYEE SHARE PLANS Executive Directors have the opportunity to participate in HMRC tax advantaged Sharesave and Share Incentive Plans (‘SIP’) on the same basis as all other UK employees.
Where any vested LTIP awards are subject to a holding period requirement, the vested LTIP award shares (discounted for anticipated tax liabilities) will count towards the level required under the Guidelines.
Fee levels for the Chairman and Non-Executive Directors will be at the same levels as for 2014. The fees for the Non-Executive Directors remain unchanged from 2010 levels and the fee for the Chairman is unchanged from his appointment in October 2012.
DISTRIBUTION STATEMENT The UK regulations require each quoted company to provide a comparison between profits distributed by way of dividend and overall expenditure on pay.
Profit distributed by way of dividend has been taken as the dividend paid in respect of the relevant financial year. For 2014 this is the interim dividend paid (£60 million) and the recommended final dividend of 26.7p multiplied by the total share capital issued at the date of the Annual Report as set out in note 16 Share capital in the notes to the consolidated financial statements. No share buy-backs were made in either year.
Overall expenditure on pay has been taken as the employee costs for continuing operations as set out in note 10 Administrative expenses in the notes to the consolidated financial statements and employee costs for discontinued operations of £31 million in 2014 and £67 million in 2013. Discontinued operations relate to Ignis which was disposed of on 1 July 2014.
PERFORMANCE GRAPH AND TABLE The graph below shows the value to 31 December 2014, on a TSR basis, of £100 invested in Phoenix Group Holdings on 5 July 2010 (the date of the Company’s Premium Listing) compared with the value of £100 invested in the FTSE 250 Index (excluding Investment Trusts).
The UK regulations also require that a performance graph is supported by a table summarising aspects of the Group Chief Executive Officer’s remuneration as shown below for the period since the Company’s Premium Listing: Group Chief Executive Officer Remuneration
2014 Clive Bannister 2,961 68% 57%2 2013 Clive Bannister 2,7371 69% 67%3 2012 Clive Bannister 1,583 69% n/a4
Jonathan Moss5,6 704 n/a n/a 1 Figures restated for 2013. See footnote 3 for detail.
3 The long-term incentive vesting rate for 2013 is shown at 67%. The LTIP performance conditions were fully met, although the Group Chief Executive Officer decided to waive voluntarily any entitlement in excess of two-thirds of the shares which would otherwise have vested. The single figure of total remuneration for 2013 has been restated and now reflects the actual price of shares on the day the LTIP vested rather than the three month average share price to 31 December 2013 which was required to be used last year.
5 Jonathan Moss left the role of Group Chief Executive Officer on 7 February 2011 and left the Group on 29 March 2011. Clive Bannister joined Phoenix Group on 7 February 2011 and was appointed to the Board as a Director on 28 March 2011.
6 Jonathan Moss’ 2011 single figure of remuneration figure does not include compensation for loss of office.
This group was selected as being representative of the wider workforce and is equivalent to the group used for this comparison in last year’s accounts. Also for consistency with last year, staff working for Ignis (which was sold during 2014) have again been excluded as pay arrangements at Ignis were separate from Group and Life. Overall, the data shows broadly unchanged levels of pay inflation for the Group Chief Executive Officer, whereas staff more generally received increases through a broadly equal split of salary increases and AIP outcomes. The median level of salary increase for staff was 2.5% and so is lower than the figure shown above which is based on averages.
VOTING OUTCOMES FROM THE 2014 AGM The table below shows the votes cast to approve the Directors’ Remuneration Policy and to approve the Directors’ remuneration report for the year ended 31 December 2013 at the 2014 AGM held on 30 April 2014.
Salary/fees1 Benefits2 Annual Incentive³ Long-term incentives4,7 Pension6 Total 1 The Executive Directors are entitled to adjust their salary/benefit combination under flexible benefits arrangements and the figures shown are before individual elections.
2 Benefits for Clive Bannister comprise car allowance and private medical insurance totalling £16,275. Benefits for James McConville comprise car allowance and private medical insurance totalling £16,020, together with reimbursement of travel and accommodation costs (plus associated tax costs) of £19,020 until 5 April 2014. The benefits figure for James McConville for 2013 has been adjusted from the number reported in 2013’s single figure table to reflect the correct level of relocation assistance received (this addition has previously been disclosed in an announcement to the London Stock Exchange on 28 April 2014, subject to non-material adjustments in the figure shown above reflecting final data).
3 Annual incentive amounts are presented inclusive of any amounts which must be deferred into shares for three years (i.e. one-third of the AIP award). In 2014 and 2013, £238,700 and £241,667 respectively of Clive Bannister’s incentive payment is deferred in shares for a period of three years and £158,290 and £145,000 of James McConville’s incentive payment is similarly deferred. Details of the performance measures and targets applicable to the AIP for 2014 are set out below.
7 No long-term incentive awards for the current Executive Directors vested during 2013 although the UK regulations required the inclusion within Clive Bannister’s figures for 2013 of an estimate of the 2011 LTIP awards due to vest in 2014 in respect of a performance period ending on 31 December 2013. 2011’s LTIP awards vested at 67%. The LTIP performance conditions were fully met, although the Group Chief Executive Officer decided to waive voluntarily any entitlement in excess of two-thirds of the shares which would otherwise have vested. The 2013 long-term incentives value in the above table reflects the value of the Company’s shares on the date of vesting (12 April 2014: 644p per share) multiplied by the 180,815 shares vesting, whereas the equivalent figure within the published 2013 single figure table was an estimate which reflected the average share price between 1 October 2013 and 31 December 2013 (732.3p) and certain assumptions regarding the cumulative value of dividends on the numbers of shares vesting. For James McConville, the value of his 2013 long-term incentives is a value in respect of the intrinsic gain on a Sharesave option grant made in 2013 (£2,769).
The table below shows the actual out-turn against the annual incentive maximum which follows the AIP terms without discretionary adjustment. For 2014 AIP, Corporate (financial and strategic) measures applied to 70% of incentive opportunity and Personal (individual objectives) measures applied to 30% of incentive opportunity.
Against the specific Corporate metrics, out-turns were as follows: Performance Metric
% of 70% of incentive potential based on Performance Metric % achieved
1 For financial metrics, there is 0% vesting at threshold performance for the portion of AIP outcome subject to that metric. For strategic metrics, there is 2.5% vesting at threshold performance.
The Committee concluded that the Company’s performance against the pre-set targets, was reflective of the Company’s wider performance, and therefore, that no moderation (up or down) from the indicative out-turn was appropriate.
In addition, whilst the performance measures for the AIP for 2015 have been disclosed (see Implementation of Remuneration Policy for 2015), the performance targets for these measures are regarded as commercially sensitive at the current time and accordingly are not disclosed. However, the Company currently intends to disclose the performance targets for the Corporate (financial and strategic) performance measures for 2015’s AIP retrospectively in the next year’s Directors’ remuneration report on a similar basis to the disclosures made above in respect of 2014’s AIP Corporate (financial and strategic) performance measures.
Cumulative cash generation² (40%) Target range between Cumulative cash generation of £1.307bn and Cumulative cash generation of £1.807bn.
As noted in the appropriate sections to the tables, the actual vesting level for the Group Chief Executive Officer will be less than indicated above as he voluntarily elected to waive any vesting in excess of two-thirds of the indicative level.
In addition to the above targets, the Committee confirmed that the underpin performance condition relating to management of debt and capital restructuring within the Group (as described more fully on page 71) had been achieved in the performance period. 1 The MCEV growth targets remain unchanged from when initially set except that the base year MCEV figure from which the MCEV growth targets are measured has been recalculated to remove the imputed MCEV from Ignis profits, replacing this with the actual sale proceeds (less refinancing costs). For more details see the summary of LTIP performance conditions on page 71.
3 The TSR performance condition measures performance until 2 April 2015 and is therefore not known. Based on performance to 31 December 2014 it was tracking at the 63.4 percentile giving an estimated vesting of 58.3% of the portion of the award subject to the TSR measure. Reported figures are based on this estimated amount.
Hugh Osmond3 – 67 – – – 67 Kory Sorenson6 45 – – – 45 –
5 Manjit Dale retired from the Board on 30 April 2014.
1 In addition to the shares awarded under the LTIP, participants receive an additional number of shares (based on the number of LTIP awards which actually vest) to reflect the dividends paid during the vesting period (and which for awards made from 2015, will include dividends paid during any applicable holding period).
3 The 2011 LTIP award vested at 67%. The LTIP performance conditions were fully met (MCEV growth in excess of the risk-free rate by 6% per annum; Cumulative cash generation of £1.517bn or more) over the 3-year performance period to 31 December 2013, although the Group Chief Executive Officer decided to waive voluntarily any entitlement in excess of two-thirds of the shares which would otherwise have vested.
The performance conditions for the 2012, 2013 and 2014 awards are set out below including adjustment for the sale of Ignis to ensure that the targets remained as stretching as before the sale: Performance measure 2012 award (40% MCEV growth, 40% Cumulative cash generation and 20% TSR)
2013 award (40% MCEV growth, 40% Cumulative cash generation and 20% TSR)
2014 award (40% MCEV growth, 40% Cumulative cash generation and 20% TSR)
Measured over 3 financial years commencing with the year of award.
For this award, an additional £50m was added to the base MCEV figure to increase the level of challenge.
2 Following the sale of Ignis, the Cumulative cash generation targets have been reduced by the originally budgeted dividend expected in the period from Ignis since the completion date of 1 July 2014. The absolute level of stretch under the Cumulative cash generation targets remains unchanged and the proceeds from the sale of Ignis are also excluded from the final calculation. Target ranges for the Cumulative cash generation targets before adjustment for the Ignis disposal are also shown in the table above for comparison. Cumulative cash generation takes into account a certain level of interest costs and expenses.
This is the arrangement pursuant to which one-third of the AIP for any year is deferred into the Company’s shares. No performance conditions apply therefore other than generally being subject to continued employment. In addition to the shares awarded under the DBSS presented above, at the point of vesting participants receive an additional number of shares to reflect the dividends paid during the vesting period (or until transfer of shares for DBSS awards made before 2014).
Exercise price Exercisable from Date of expiry 1 The 2010, 2011 and 2012 sharesave awards were increased during 2013 as a result of the equity raising on 21 February 2013 (see note 16 of the consolidated financial statements). The exercise price of these awards was also amended as a result of the equity raising with the price of the 2011 Sharesave adjusted to £5.576437.
2 These shares were exercised on 26 November 2014 and all shares retained. Share price on date of exercise was £7.975.
Gains of Directors from share options exercised under the Sharesave Scheme in 2014 were £3,878 (2013: £nil). Sharesave options are not subject to performance conditions. Sharesave options are granted with an option price that is a 15% discount to the three day average share price when invitations are made. This is permitted by HMRC regulations for such options. The Sharesave options granted to James McConville represents options granted for the then maximum monthly savings of £250 per calendar month for three years.
Aggregate gains of Directors from share options exercised under all share plans in 2014 was £1,299,183 (2013: £nil).
Total share plan interests as at 31 Dec 2014 – Sharesave
The extent to which Executive Directors have achieved the guideline requirements by 31 December 2014 (using the share price on acquisition/vesting) can be summarised as follows: Position
Under the Committee’s Terms of Reference, the Committee meets at least twice a year but more frequently if required. During 2014, seven Committee meetings were held and details of attendance at meetings are set out in the Corporate Governance Report on page 54.
None of the Committee members has any personal financial interest (other than as shareholders), conflicts of interests arising from cross-directorships or day-to-day involvement in running the business.
ADVICE The Committee received independent remuneration advice during the year from its appointed adviser, FIT Remuneration Consultants LLP (‘FIT’). FIT is a member of the Remuneration Consultants Group (the professional body for remuneration consultants) and adheres to its code of conduct. This appointment was made by the Committee following consideration of FIT’s experience in this sector. FIT provided no other services to the Group and accordingly the Committee was satisfied that the advice provided by FIT was objective and independent. FIT’s fees in respect of 2014 were £195,664 (plus VAT where applicable). FIT’s fees were charged on the basis of the firm’s standard terms of business for advice provided.
APPROVAL This report in its entirety has been approved by the Remuneration Committee and the Board of Directors and signed on its behalf by
APPENDIX TO DIRECTORS’ REMUNERATION REPORT: FOR INFORMATION ONLY: THE SUMMARY REMUNERATION POLICY TABLE FROM THE DIRECTORS’ REMUNERATION POLICY APPROVED AT THE 2014 AGM Remuneration Policy table
– Changes to base salaries normally take effect from 1 January
– The Group provides market competitive benefits in kind. Details of the benefits provided in 2013 and 2014 are set out in the section below1 The Remuneration Committee reserves discretion to introduce new benefits where it concludes that it is in the interests of Phoenix Group to do so, having regard to the particular circumstances and to market practice
– Relocation expenses are subject to a maximum limit of £150,000
– Phoenix will honour the pensions obligations entered into under all previous policies in accordance with the terms of such obligations
Annual Incentive Plan (‘AIP’) To motivate employees and incentivise delivery of annual performance targets
– The performance measures applied to AIP will be set by the Remuneration Committee and may be financial or non-financial and corporate, divisional or individual and in such proportions as it considers appropriate
– In respect of the financial performance measures, attaining the threshold performance level produces a £nil annual incentive payment and for non-financial performance measures the threshold level of performance produces an annual incentive outcome that is 10% of the weighting given to these measures
ii. For 2014 onwards, there is a specific multiplier of 80%–120% of the provisional out-turn whereby the Remuneration Committee may adjust the provisional figure (but subject to any over-riding cap) to take account of its broad assessment of performance both against pre-set targets and more generally, of the wider shareholder experience. With respect to financial performance measures, this assessment will include consideration of the quality of how particular outcomes were achieved iii. The AIP remains a discretionary arrangement and the Remuneration Committee reserves discretion to adjust the out-turn (from zero to any cap) should it consider that to be appropriate. In particular, the Remuneration Committee may operate this discretion in respect of any risk concerns
Long-Term Incentives To motivate and incentivise delivery of sustained performance over the long term, and to promote alignment with shareholders’ interests, the Group operates the Phoenix Group Holdings LongTerm Incentive Plan
– Awards under the LTIP may be in any of the standard forms of awards to receive shares for nil-cost (as described for DBSS above), forfeitable awards of shares or in the form of cashbased ‘phantom’ awards
– Awards are made following the announcement of annual results in accordance with the LTIP rules
– During the period until vesting of LTIP awards, the number of shares within such awards is cumulatively increased by the value of dividends notionally payable in respect of the vesting shares
– Malus/clawback provisions apply on a basis consistent with the equivalent provisions in the AIP and DBSS
– The Company will honour the vesting of all awards granted under previous policies in accordance with the terms of such awards
– For each part of an LTIP award subject to a specific performance condition, the threshold level of vesting is 25% of that part of the LTIP award. The Remuneration Committee reserves the discretion to make changes to these levels which it considers non-material
– The performance period for LTIP awards will be at least three years, but the Remuneration Committee reserves discretion to lengthen (but not reduce) any performance period and/or introduce a separate holding period for vested shares2
– Executive Directors are expected to retain all shares (net of tax) which vest under the DBSS and under the LTIP (or any other discretionary long-term incentive arrangement introduced in the future) until such time as they hold a specified value of shares
– Once shareholding guidelines have been met, individuals are expected to retain these levels as a minimum. The Remuneration Committee will review shareholdings annually in the context of this policy
– 200% of base salary for the Group Chief Executive Officer, 100% of base salary for all other Executive Directors3
– Fee levels are periodically reviewed. The Company does not adopt a quantitative approach to pay positioning and exercises judgement as to what it considers to be reasonable in all the circumstances as regards quantum
– The aggregate fees of the Chairman and Non-Executive Directors will not exceed the limit from time to time prescribed within the Company’s Articles of Association for such fees (currently £2 million per annum in aggregate)
– The Company reserves the right to vary the structure of fees within this limit including, for example, introducing time-based fees or reflecting the establishment of new Board committees
– In terms of the principles for setting a package for a new Executive Director, the starting point for the Remuneration Committee will be to apply the general policy for Executive Directors as set out above and structure a package in accordance with that policy. Consistent with the new UK regulations, the caps contained within the policy for fixed pay do not apply to new recruits, although the Remuneration Committee would not envisage exceeding these caps in practice.
– For an internal appointment, any variable pay element awarded in respect of the prior role may either continue on its original terms or be adjusted to reflect the new appointment as appropriate.
– For external candidates, it may be necessary to make additional awards in connection with the recruitment to replace awards forfeited by the individual on leaving a previous employer. For such replacement awards, Phoenix Group will not pay more than is, in the view of the Remuneration Committee, necessary and will in all cases seek, in the first instance, to deliver any such awards under the terms of the existing incentive pay structure. It may, however, be necessary in some cases to make such awards on terms that are more bespoke than the existing annual and equity-based pay structures in Phoenix in order to secure a candidate. Details of any recruitment-related awards will be appropriately disclosed.
The above chart aims to show how the remuneration policy set out above for Executive Directors is applied using the following assumptions.
On-target Based on what the Director would receive if performance was on-target: – AIP: consists of the on-target annual incentive (75% of base salary)
Maximum Based on the maximum remuneration receivable: – AIP: consists of the maximum annual incentive (150% of base salary)
– LTIP: assumes maximum vesting of awards and valued as on the date of grant (200% of base salary). Sharesave and SIP valued on the same basis as in the on-target column.
Full details of the authorised, issued and fully paid share capital as at 31 December 2014 and movements in share capital during the period are presented in note 16 to the IFRS consolidated financial statements.
Where the Employee Benefit Trust (‘EBT’) holds shares for unvested awards, the voting rights for these shares are exercisable by the trustees of the EBT at their discretion, taking into account the recommendations of the Group. For shares that have vested into respective sub funds underneath the EBT, the voting rights are exercisable by the trustees of the respective sub funds at their discretion, taking into account the recommendations of the relevant participant of the respective sub funds.
SUBSTANTIAL SHAREHOLDINGS Information provided to the Company pursuant to the FCA’s Disclosure and Transparency Rules is published on a Regulatory Information Service and on the Company’s website. As at 17 March 2015, the Company had been notified of the following significant holdings of voting rights in its shares.
Artemis Investment Management LLP 22,828,932 10.14 Henderson Global Investors 11,427,356 5.08 Ameriprise Financial Inc. 11,277,894 5.01 Nicholas Berggruen Charitable Trust 8,906,712 3.96 FIL Limited 8,756,186 3.89
ANNUAL GENERAL MEETING (‘AGM’) The AGM of the Company will be held at 32 Commercial Street, St Helier, Jersey JE2 3RU on Thursday, 23 April 2015 at 1pm.
During 2014 and up to the date of this report, the following changes to the Board took place: – Manjit Dale resigned from the Board on 30 April 2014
The Articles give details of the circumstances in which directors will be treated as having automatically vacated their office and also state that the Company’s shareholders may remove a director from office by passing an ordinary resolution.
Having thoroughly considered the going concern assessment, including a detailed review of the regulatory capital and cash flow positions of each principal subsidiary company and the availability across the Group of a range of management actions, the Board has concluded that there are no material uncertainties that may cast significant doubt about the Group and the Company’s ability to continue as a going concern. The Directors have a reasonable expectation that the Group and the Company have adequate resources to continue in operational existence for the foreseeable future. Thus, they continue to adopt the going concern basis of accounting in preparing the annual financial statements.
The new (September 2014) provisions of the UK Corporate Governance Code apply to Phoenix Group Holdings from the financial year commencing 1 January 2015. We are well-placed to comply with the new going concern provisions and, as required, will report against them in our 2015 Annual Report.
Following the change in auditor there is no cap on auditor liability in place in relation to audit work carried out on the consolidated IFRS financial statements, MCEV supplementary information and the Group’s UK subsidiaries’ individual financial statements.
Details of fees paid to Ernst & Young during 2014 for audit and non-audit work are disclosed in note 11 to the IFRS consolidated financial statements.
CONTRACTUAL/OTHER SIGNIFICANT AGREEMENTS IMPACTED BY A CHANGE OF CONTROL OF THE COMPANY There are change of control clauses contained in certain of the Group’s financing agreements. The Group’s £900 million unsecured bank facility has, like the Group’s previous two facilities agreements, a provision which would enable the lending banks to require repayment of all amounts borrowed following a change of control. The £300 million unsecured bonds may also be required to be redeemed following a change of control. Whether such redemption is required will depend on the impact of a change of control on any existing rating applying to the £300 million unsecured bonds, or, if no rating applies at the time of the change of control, whether a rating is obtained subsequently.
In addition, certain provisions of the Articles relating to the City Code on Takeovers and Mergers apply in connection with a takeover bid.
ESSENTIAL CONTRACTS OR ARRANGEMENTS There are a number of relationships with third parties which are of significant value to the Group. Apart from the current £900 million unsecured bank facility, £300 million unsecured bonds, the £200 million Phoenix Life Limited Tier 2 bonds and the £428 million new subordinated notes, no single relationship is considered to be essential to the Group.
The Group recognises the need to treat people with disabilities fairly and equally including where an employee becomes disabled during their employment. Full and fair consideration is given to internal and external applications from disabled people for employment and further career opportunities, including training and development. Internal and external applicants are asked if they have any special requirements when invited to attend an interview and reasonable provisions are made to meet the applicant’s request. Applicants are considered on the basis of the job requirements and their ability and competencies, also taking into consideration any appropriate reasonable workplace adjustments.
The Group provides the opportunity for employees to participate in the Company’s all-employee share schemes, Sharesave and Share Incentive Plan, to facilitate share ownership in the Company.
EMPLOYEE PRACTICE Phoenix Group continues to communicate with staff across a wide variety of channels, including regular news bulletins via the intranet, staff magazines and newsletters, Executive Committee presentations and other face-to-face briefings. The staff briefings and Executive Committee presentations typically include updates on the Company’s strategy and plans, progress against key financial and operational targets, regulatory and risk management updates and review of economic or other factors which could affect the Company’s strategy and performance. Regular feedback mechanisms are also in place, ensuring communication at Phoenix is a continuous two-way dialogue.
OTHER MATTERS The Board has prepared a Strategic Report which provides an overview of the development and performance of the Group’s business for the year ended 31 December 2014, covers the future developments in the business of Phoenix Group Holdings and its consolidated subsidiaries, and provides details of any important events affecting the Company and its subsidiaries after the year end. For the purposes of compliance with DTR 4.1.5R(2) and DTR 4.1.8R, the required content of the ‘Management Report’ can be found in the Strategic Report and this Directors’ Report, including the sections of the Annual Report and Accounts incorporated by reference.
Note 23 to the Consolidated Financial Statements 2 Publication of unaudited financial information
Not applicable 3 Deleted Not applicable 4 Details of long-term incentive schemes Directors’ remuneration report 5 Waiver of emoluments by a director
Directors’ remuneration report 6 Waiver of any future emoluments by a director
Not applicable 10 Contracts of significance Not applicable 11 Controlling shareholder provision of services Not applicable 12 Shareholder dividend waiver Not applicable 13 Shareholder dividend waiver
CLIVE BANNISTER JAMES MCCONVILLE GROUP CHIEF EXECUTIVE OFFICER GROUP FINANCE DIRECTOR St Helier, Jersey
– Prepare the financial statements on the going concern basis unless it is inappropriate to presume that the Group and the Company will continue in business.
The Directors as at the date of this report, whose names and functions are listed in the Board of Directors section on pages 48 to 49, confirm that, to the best of their knowledge; – The Group’s consolidated financial statements and the Company financial statements, which have been prepared in accordance with IFRS as issued by the IASB, give a true and fair view of the assets, liabilities, financial position and profit of the Group and the Company; and
– The Directors’ Report and the Strategic Report include a fair review of the development and the performance of the business and the position of the Company and its consolidated subsidiaries taken as a whole, together with a description of the principal risks and uncertainties that they face.
The Directors have elected to comply with certain Companies Act and Listing Rules (‘LR’) which would otherwise only apply to companies incorporated in the UK – namely: – The Directors’ statement under LR 9.8.6R(3) (statement by the Directors that the business is a going concern); – The Directors’ remuneration disclosures made under LR 9.8.8R(2) – (5) and (11) – (12); and
CLIVE BANNISTER JAMES MCCONVILLE GROUP CHIEF EXECUTIVE OFFICER GROUP FINANCE DIRECTOR St Helier, Jersey 17 March 2015
REPORT ON THE FINANCIAL STATEMENTS OPINION ON FINANCIAL STATEMENTS In our opinion: – the financial statements give a true and fair view of the state of the Group’s and of the parent company’s affairs as at 31 December 2014 and of the Group’s and of the parent company’s profit for the year then ended; and
– the Group financial statements and the parent company financial statements have been properly prepared in accordance with International Financial Reporting Standards (‘IFRSs’) as issued by the International Accounting Standards Board (‘IASB’).
We considered the valuation of insurance contract liabilities to be a significant risk for the Group. Specifically we considered the actuarial assumptions and methodologies which are applied, as these involve complex and significant judgments about future events, both internal and external to the business, for which small changes can result in a material impact to the resultant valuation. Additionally, the valuation process is contingent on the accuracy and completeness of the data used. In 2014 a new actuarial reporting system was implemented by management to replace a number of legacy models which were inherited by the Group via multiple acquisitions.
We have split the risks relating to the valuation of insurance contract liabilities into the following significant risks: – Actuarial assumptions and methodology; – Implementation of the new actuarial reporting system; and
The assumptions that we consider to have the most significant impact are the rate of interest used for discounting liabilities, the allowance for expected credit default within the investment portfolio, life expectancy of policyholders and life expectancy improvement for annuitants.
In obtaining sufficient audit evidence to conclude on actuarial assumptions and methodology, we: – Assessed the design, implementation and operating effectiveness of key controls over management’s process for setting and updating actuarial assumptions and methodology.
– Evaluated management’s interpretation of experience data in order to compare recent experience investigations with the key assumptions used to ensure that the available evidence supported the assumptions being applied.
– Benchmarked key assumptions and judgements to market norms and against historical data.
In obtaining sufficient audit evidence to conclude on the appropriateness of the new actuarial reporting system, we: – Assessed the governance and controls implemented by management over each stage of the implementation process.
– Evaluated the design, implementation and operating effectiveness of key controls including Information Technology general controls over the revised actuarial modelling and reporting process.
– Tested the output of parallel valuation runs between the new and the old systems and obtained evidence to support significant differences.
ACTUARIAL DATA The actuarial data is a key input for setting and validating actuarial assumptions and the valuation process is therefore contingent on the accuracy and completeness of the data used.
– Confirmed that the actuarial data extract from the Outsourced Service Provider was used as an input to the actuarial model.
– Tested the reconciliation of premiums and claims from the actuarial data extract to the general ledger.
We focused our audit procedures on the financial investments which require judgment to be applied and for which an observable market value is not readily available. These financial investments include mark to model investments. They also include other investments which are illiquid and/or unquoted and for which prices are obtained directly from brokers or administrators such as direct private equity and hedge funds.
In obtaining sufficient audit evidence to conclude on valuation of complex and illiquid financial investments, we: – Assessed the design, implementation and operating effectiveness of key controls and techniques used in the valuation.
– Recalculated a sample of components within the modelled valuation to assess its reasonableness.
In obtaining sufficient audit evidence to conclude on provision for taxation and recoverability of deferred tax assets, we: – Challenged management’s estimate of provisions for uncertain tax provisions considering the status of enquiries raised by HMRC and our assessment of the likelihood of occurrence.
– Tested the Group’s tax computations, specifically focusing on areas where there are material transactions.
– Tested the integrity of management’s forecast cash flows, validating key inputs and confirmed that the stated assumptions and methodology had been consistently applied.
OUR APPLICATION OF MATERIALITY We apply the concept of materiality both in planning and performing an audit, and in evaluating the effect of identified misstatements on our audit and of uncorrected misstatements, if any, on the financial statements and in forming our opinion in the Audit Report.
When establishing our overall audit strategy, we determined a magnitude of uncorrected misstatements that we judge would be material for the financial statements as a whole.
We determined materiality for the Group to be £41 million (2013: £36 million), which is 1.7% of total equity attributable to owners of the parent (‘Group equity’). Whilst profit before tax or operating profit are common bases used across the life insurance industry, we believe that the use of equity as the basis for assessing materiality is more appropriate given that the Group is a closed life assurance consolidator and as such equity provides a more stable, long-term measure of value. We note also that equity more closely correlates with key Group performance metrics such as Insurance Group Directive (‘IGD’) surplus and Market Consistent Embedded Value (‘MCEV’). However, as these measures are non-GAAP measures we consider equity to be most appropriate.
Based on our risk assessments, together with our assessment of the Group’s overall control environment, our judgment is that performance materiality (i.e. our tolerance for misstatement in an individual account or balance) for the Group should be 50% (2013: 50%) of materiality, namely £20.5 million (2013: £18 million).
Our objective in determining these thresholds was to ensure that the total of uncorrected and undetected audit differences do not exceed our materiality of £41 million for the financial statements as a whole.
We agreed with the Audit Committee that we would report to the Committee all audit differences in excess of £2 million (2013: £1.8 million), as well as differences below that threshold that, in our view, warranted reporting on qualitative grounds.
In order to establish the overall approach for the Group audit, we determined the type of audit work that needed to be performed at each component to be able to conclude whether sufficient and appropriate audit evidence had been obtained as a basis for our opinion of the Group financial statements as a whole.
Our audit of these components was performed at materiality levels calculated by reference to a proportion of Group materiality reflecting the relative scale of the business concerned, ranging from £4.2 million to £13.7 million. Our audit of these components provides coverage of 93% of the Group’s operating profit and 98% of Group equity.
The Group audit team provided detailed audit instructions to component teams which included guidance on specific areas of focus (including the relevant risks of material misstatements detailed above) and set out the information required to be reported to the Group team. The Group team is responsible for the audit of the Group functions. The Group team visited the full scope component being the Phoenix Life Division, and reviewed key work papers and participated in the planning and execution of the component team’s audit of the identified risks. The Group team also attended the closing meetings with management for Phoenix Life Division. For specific scope components, the Group team have reviewed submissions received for the specific accounts and held meetings to discuss significant movements to gain full understanding.
WHAT AN AUDIT OF THE FINANCIAL STATEMENTS INVOLVES We conducted our audit in accordance with International Standards on Auditing (UK and Ireland) (‘ISAs (UK and Ireland’). An audit involves obtaining evidence about the amounts and disclosures in the financial statements sufficient to give reasonable assurance that the financial statements are free from material misstatement, whether caused by fraud or error. This includes an assessment of: – whether the accounting policies are appropriate to the circumstances and have been consistently applied and adequately disclosed; – the reasonableness of significant accounting estimates made by the Directors; and
PRESCRIBED BY OUR ENGAGEMENT LETTER WE ARE REQUIRED TO REPORT TO YOU BY EXCEPTION IF IN OUR OPINION: – Adequate accounting records have not been kept (including returns from those branches which have not been visited); or
REPORT ON OTHER MATTERS BY EXCEPTION Under the ISAs (UK and Ireland), we are required to report to you if, in our opinion, information in the Annual Report is: – materially inconsistent with the information in the audited financial statements; or
In particular, we are required to consider whether we have identified any inconsistencies between our knowledge acquired during the audit and the directors’ statement that they consider the annual report is fair balanced and understandable and whether the annual report appropriately discloses those matters that we communicated to the audit committee which we consider should have been disclosed.
Under the Listing Rules we are required to review the part of the Corporate Governance Statement relating to the Company’s compliance with the nine provision of the UK Corporate Governance Code, specified in for our reivew.
2. Legislation in the United Kingdom governing the preparation and dissemination of financial statements may differ from legislation in other jurisdictions.
INDEPENDENT AUDITOR’S REPORT TO THE MEMBERS OF PHOENIX GROUP HOLDINGS CONTINUED
Notes £m £m Gross premiums written 981 1,333 Less: premiums ceded to reinsurers 7 (1,792) 11 Net premiums written (811) 1,344
Change in investment contract liabilities (408) (1,156) Acquisition costs (9) (10) Change in present value of future profits 31 (9) 9 Amortisation of acquired in-force business 31 (98) (111) Amortisation of customer relationships and other intangibles 31 (15) (16)
Discontinued operations Profit/(loss) from discontinued operations, net of tax 4 92 (35) Profit for the year attributable to owners 406 207
Other comprehensive income/(expense): Items that are or may be reclassified to profit or loss: Foreign exchange rate movements 10 – Reclassification adjustments relating to foreign collective investment schemes disposed of in the period – 8
PRO FORMA RECONCILIATION OF GROUP OPERATING PROFIT TO RESULT ATTRIBUTABLE TO OWNERS FOR THE YEAR ENDED 31 DECEMBER 2014
Notes £m £m Operating profit Phoenix Life 487 414 Ignis – discontinued operations 17 49
Investment return variances and economic assumption changes on long-term business 6 12 64 Variance on owners’ funds 6 (14) (31) Amortisation of acquired in-force business (88) (99) Amortisation of customer relationships and other intangibles (15) (19) Non-recurring items 5.2 126 (11) Profit before finance costs attributable to owners 504 343
Other reserves 17 – – 5 Shares held by employee benefit trust and Group entities 18 (8) (13) (10) Foreign currency translation reserve 103 93 85
Net asset value attributable to unitholders 4,659 5,744 5,177 Obligations for repayment of collateral received 954 7,284 10,458
Investment in joint ventures 133 125 95 Fixed and variable rate income securities 34,384 35,460 41,200 Collective investment schemes 3,583 3,767 3,843
Insurance assets Reinsurers’ share of insurance contract liabilities 21 2,772 2,851 3,204
Cash flows from financing activities Proceeds from issuing ordinary shares, net of associated commission and expenses 1 233 Proceeds from issuing shares in subsidiaries to non-controlling interests 82 37 Ordinary share dividends paid 14 (120) (120) Coupon paid on Perpetual Reset Capital Securities (26) (26) Dividends paid to non-controlling interests 20 (22) (25) Repayment of policyholder borrowings (35) (33) Repayment of shareholder borrowings (1,769) (694) Proceeds from new shareholder borrowings, net of associated expenses 1,184 – Interest paid on policyholder borrowings (17) (18) Interest paid on shareholder borrowings (67) (136) Arrangement and structuring fees associated with the re-terming of the Impala loan facility – (21) Net cash flows from financing activities (789) (803)
Shares held by the employee benefit trust and Group entities (note 18)
Retained earnings comprise the owners’ interest in the post acquisition retained earnings of the subsidiary companies and the retained earnings of the Company. Distribution of retained earnings held within the long-term business funds and surplus assets held within the owners’ funds of the life companies is subject to retaining sufficient funds to protect policyholders’ interests.
1. ACCOUNTING POLICIES (a) BASIS OF PREPARATION The consolidated financial statements for the year ended 31 December 2014 comprise the financial statements of Phoenix Group Holdings (‘the Company’) and its subsidiaries (together referred to as ‘the Group’).
The consolidated financial statements have been prepared on a historical cost basis except for investment property, owner-occupied property and those financial assets, financial liabilities and insurance and investment contracts with discretionary participation features (‘DPF’) that have been measured at fair value.
Statement of compliance The consolidated financial statements have been prepared, in accordance with International Financial Reporting Standards (‘IFRSs’) as issued by the International Accounting Standards Board (‘IASB’). The basis of preparation has been amended from IFRSs adopted for use in the European Union to IFRSs issued by the IASB effective from 1 January 2014 (see note 2).
Assets and liabilities are offset and the net amount reported in the statement of consolidated financial position only when there is a legally enforceable right to offset the recognised amounts and there is an intention to settle on a net basis, or to realise the assets and settle the liability simultaneously. Income and expenses are not offset in the consolidated income statement unless required or permitted by an IFRS or interpretation, as specifically disclosed in the accounting policies of the Group.
The Group considers all relevant facts and circumstances in assessing whether it has power over an investee, including relevant activities, substantive and protective rights, voting rights and purpose and design of an investee. The Group re-assesses whether or not it controls an investee if facts and circumstances indicate that there are changes to one or more of the three elements of control.
Subsidiaries Subsidiary undertakings are consolidated from the date that effective control is obtained by the Group and are excluded from consolidation from the date they cease to be subsidiary undertakings. For subsidiary undertakings disposed of during the year, any difference between the net proceeds, plus the fair value of any retained interest, and the carrying amount of the subsidiary undertaking including non-controlling interests, is recognised in the consolidated income statement.
– the investee is managed by the Group’s assets manager, prior to its disposal, and the Group holds a significant investment in the investee. It is generally presumed that the Group has rights to variable returns and has the ability to use its power to affect its returns where the Group’s holding is greater than 50%. For holdings between 25% and 50% the Group performs an assessment of power and associated control on a case by case basis. This assessment includes establishing the nature of the decision making rights that the asset manager has over the investee and whether these rights give it the power to control the investee.
Where Group companies are deemed to control such collective investment schemes they are consolidated in the Group financial statements, with the interests of external third parties recognised as a liability, see policy (j) ‘Net asset value attributable to unitholders’.
(b) CRITICAL ACCOUNTING ESTIMATES AND JUDGEMENTS The preparation of financial statements requires management to make judgements, estimates and assumptions that affect the application of policies and reported amounts of assets and liabilities, income and expenses. The estimates and associated assumptions are based on historical experience and various other factors that are believed to be reasonable under the circumstances, the results of which form the basis of the judgements about carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates.
Critical accounting estimates are those which involve the most complex or subjective judgements or assessments. The areas of the Group’s business that typically require such estimates are the measurement of insurance and investment contract liabilities, determination of the fair value of financial assets and liabilities, impairment tests for intangible assets, income tax assets and liabilities and pension scheme assets and liabilities. The consolidation of collective investment schemes requires management to make judgements which are critical to the consolidation process.
Impairment of intangible assets Intangible assets are subject to regular impairment reviews as detailed in accounting policy (n). Impairments are measured as the difference between the carrying value of a particular asset and its recoverable amount. Impairments are recognised in the consolidated income statement in the period in which they occur. Further details of judgements made in testing intangible assets for impairment are included in note 31.
Pension scheme assets and liabilities The valuation of pension scheme assets and liabilities is determined using actuarial valuations that include a number of assumptions. As defined benefit pension schemes are long-term in nature, such assumptions are subject to significant uncertainty. Details of the key assumptions used are shown in note 30.
The results and financial position of all Group companies that have a functional currency different from the presentation currency are translated into the presentation currency as follows: – assets and liabilities are translated at the closing rate at the period end; – income, expenses and cash flows denominated in foreign currencies are translated at average exchange rates; and
(e) INSURANCE CONTRACTS AND INVESTMENT CONTRACTS WITH DPF Under current IFRS requirements the Group’s insurance contracts and investment contracts with DPF are measured using accounting policies consistent with those previously adopted under UK GAAP. Amounts recoverable from reinsurers are estimated in a manner consistent with the outstanding claims provision or settled claims associated with the reinsured policy.
For unit-linked insurance contract liabilities the provision is based on the fund value, together with an allowance for any excess of future expenses over charges, where appropriate.
(f) INVESTMENT CONTRACTS WITHOUT DPF Receipts and payments on investment contracts without DPF are accounted for using deposit accounting, under which the amounts collected and paid out are recognised in the statement of consolidated financial position as an adjustment to the liability to the policyholder.
1. ACCOUNTING POLICIES CONTINUED (g) FINANCIAL LIABILITIES CONTINUED Subsequent to initial recognition, financial liabilities (except for liabilities under investment contracts and other liabilities designated at fair value through profit or loss) are measured at amortised cost using the effective interest method. Financial liabilities are designated upon initial recognition at fair value through profit or loss and where doing so results in more meaningful information because either: – it eliminates or significantly reduces accounting mismatches that would otherwise arise from measuring assets or liabilities or recognising the gains and losses on them on different bases; or
Warrants issued by the Company are recognised as a financial liability unless they can be exchanged for a fixed number of the Company’s own shares, or meet the definition of equity-settled share-based payments, in which case they are recognised as equity.
(h) BORROWINGS The majority of interest bearing borrowings are recognised initially at fair value less any attributable transaction costs. The difference between initial cost and the redemption value is amortised through the consolidated income statement over the period of the borrowing using the effective interest method.
(i) DEPOSITS FROM REINSURERS It is the Group’s practice to obtain collateral to cover certain reinsurance transactions, usually in the form of cash or marketable securities. Where cash collateral is available to the Group for investment purposes, it is recognised as a ‘financial asset’ and the collateral repayable is recognised as ‘deposits received from reinsurers’ in the statement of consolidated financial position.
Current tax is the expected tax payable on the taxable income for the year, using tax rates and laws enacted or substantively enacted at the date of the statement of consolidated financial position together with adjustments to tax payable in respect of previous years.
(m) EMPLOYEE BENEFITS Defined contribution pension schemes Obligations for contributions to defined contribution pension schemes are recognised as an expense in the consolidated income statement as incurred.
As required by IFRIC 14, IAS 19 –The limit on a Defined Benefit Asset, Minimum Funding Requirements and their Interaction, to the extent that the economic surplus will be available as a refund, the economic surplus is stated after a provision for tax that would be borne by the scheme administrators when the refund is made. Additionally under IFRIC 14 pension funding contributions are considered to be a minimum funding requirement and, to the extent that the contributions payable will not be available to the Group after they are paid into the scheme, a liability is recognised when the obligation arises. The net defined benefit asset/liability represents the economic surplus net of all adjustments noted above.
An impairment review is performed whenever there is an indication of impairment. When the recoverable amount is less than the carrying value, an impairment loss is recognised in the consolidated income statement. Acquired in force business is also considered in the liability adequacy test for each reporting period.
(o) PROPERTY, PLANT AND EQUIPMENT Owner-occupied property is stated at revalued amount, being its fair value at the date of the revaluation less any subsequent accumulated depreciation and impairment. Owner-occupied property is depreciated over its estimated useful life, which is taken as 50 years, except where the residual value is greater than its carrying value in which case no depreciation is charged to profit or loss. Land is not depreciated. Gains and losses on owner-occupied property are recognised in the statement of consolidated comprehensive income.
1. ACCOUNTING POLICIES CONTINUED (p) INVESTMENT PROPERTY Investment property is stated at fair value. Fair value is the price that would be received to sell a property in an orderly transaction between market participants at the measurement date. Gains and losses arising from the change in fair value are recognised in the consolidated income statement.
(q) INVESTMENTS IN ASSOCIATES AND JOINT VENTURES Investments in associates and joint ventures that are held for investment purposes are accounted for under IAS 39 Financial Instruments: Recognition and Measurement as permitted by IAS 28 Interests in Associates and IFRS 11 Joint Arrangements. These are measured at fair value through profit or loss. There are no investments in associates and joint ventures which are of a strategic nature.
(r) FINANCIAL ASSETS Purchases and sales of financial assets are recognised on the trade date, which is the date that the Group commits to purchase or sell the asset.
Loans and receivables are non derivative financial assets with fixed or determinable payments that are not quoted in an active market. These investments are initially recognised at cost, being the fair value of the consideration paid for the acquisition of the investment. All transaction costs directly attributable to the acquisition are also included in the cost of the investment. Subsequent to initial recognition, these investments are carried at amortised cost, using the effective interest method.
Fair value estimation The fair value of financial instruments traded in active markets such as publicly traded securities and derivatives are based on quoted market prices at the period end. The quoted market price used for financial assets is the applicable bid price on the trade date. The fair value of investments that are not traded in an active market is determined using valuation techniques such as broker quotes, pricing models or discounted cash flow techniques. Where pricing models are used, inputs are based on market related data at the period end. Where discounted cash flow techniques are used, estimated future cash flows are based on contractual cash flows using current market conditions and market calibrated discount rates and interest rate assumptions for similar instruments.
Reinsurance premiums payable in respect of certain reinsured individual and group pensions annuity contracts are payable by quarterly instalments. Due to the period of time over which reinsurance premiums are payable under these arrangements, the reinsurance premiums and related payables are discounted to present values using a pre-tax risk-free rate of return. The unwinding of the discount is included as a charge within the consolidated income statement.
(t) CASH AND CASH EQUIVALENTS Cash and cash equivalents comprise cash balances and short-term deposits with an original maturity term of three months or less at the date of placement. Bank overdrafts that are repayable on demand and form an integral part of the Group’s cash management are deducted from cash and cash equivalents for the purpose of the statement of consolidated cash flows.
– any other items which, in the Directors’ view, should be disclosed separately by virtue of their nature or incidence to enable a full understanding of the Group’s financial performance.
1. ACCOUNTING POLICIES CONTINUED (x) DIVIDENDS Final dividends on ordinary shares are recognised as a liability and deducted from equity when they are approved by the Group’s owners. Interim dividends are deducted from equity when they are paid. As permitted by Cayman Islands Companies Law, dividends have been charged within equity against the share premium account and other reserves account. Where shareholders exercise a scrip dividend option, the amount of the related dividend is credited to share premium in the statement of consolidated changes in equity and an amount equal to the nominal value of the shares issued is transferred from share premium to share capital.
(y) INCOME RECOGNITION Gross premiums In respect of insurance contracts and investment contracts with DPF, premiums are accounted for on a receivable basis and exclude any taxes or duties based on premiums. Funds at retirement under individual pension contracts converted to annuities with the Group are, for accounting purposes, included in both claims incurred and premiums within gross premiums written.
Fee and commission income Fee and commission income relates to the following: – fund management based fees, which are recognised as the services are provided; – investment contract income – investment contract policyholders are charged for policy administration services, investment management services, surrenders and other contract fees. These fees are recognised as revenue over the period in which the related services are performed. If the fees are for services provided in future periods, then they are deferred and recognised over those periods. ‘Front end’ fees are charged on some non-participating investment contracts. Where the non-participating investment contract is measured at fair value, such fees which relate to the provision of investment management services are deferred and recognised as the services are provided; and
Other operating income Other operating income comprises the general business result and other non-investment income which is recognised on an accruals basis.
Reinsurance claims Reinsurance claims are recognised when the related gross insurance claim is recognised according to the terms of the relevant contract.
(aa) SHARE CAPITAL AND SHARES HELD BY THE EMPLOYEE BENEFIT TRUST AND GROUP ENTITIES Ordinary share capital The Group has issued ordinary shares which are classified as equity. Incremental external costs that are directly attributable to the issue of these shares are recognised in equity, net of tax.
(bb) DISCONTINUED OPERATIONS AND ASSETS AND LIABILITIES HELD FOR SALE A discontinued operation is a component of the Group’s business, the operations and cash flows of which can be clearly distinguished from the rest of the Group and which: – represents a separate major line of business; and
– is part of a coordinated plan to dispose of a separate line of business.
Classification as a discontinued operation occurs at the earlier of disposal or when the operation meets the criteria to be classified as held for sale. When an operation is classified as a discontinued operation, the comparative consolidated income statement and statement of comprehensive income is re-presented as if the operation had been discontinued from the start of the comparative year.
Non-current assets or disposal groups are classified separately as held for sale in the balance sheet when their carrying amount will be recovered through a sale transaction rather than through continuing use. This condition is met only when the sale is highly probable, the asset or disposal group is available for immediate sale in its present condition, and management is committed to the sale, which should be expected to qualify for recognition as a completed sale within one year from the date of classification. Liabilities directly associated with the assets classified as held for sale and expected to be included as part of the sale transaction are correspondingly also classified separately. The net assets and liabilities of a disposal group classified as held for sale are measured at the lower of their carrying amount and fair value less costs to sell.
(ff) EVENTS AFTER THE REPORTING PERIOD The financial statements are adjusted to reflect significant events that have a material effect on the financial results and that have occurred between the period end and the date when the financial statements are authorised for issue, provided they give evidence of conditions that existed at the period end. Events that are indicative of conditions that arise after the period end that do not result in an adjustment to the financial statements are disclosed.
In addition, in preparing the consolidated financial statements, the Group has adopted the following amendments to standards and new interpretations issued by the IASB effective from 1 January 2014: – Offsetting Financial Assets and Financial Liabilities (Amendments to IAS 32) (2014). The amendments to IAS 32 clarify the requirements relating to the offset of financial assets and financial liabilities, specifically the amendments clarify the meaning of ‘currently has a legally enforceable right of set-off’ and ‘simultaneous realisation and settlement’. The application has had no impact on the disclosures or amounts recognised in the consolidated financial statements.
– IFRIC 21 Levies (2014). IFRIC 21 clarifies when to recognise a liability for a levy imposed by government in accordance with legislation (other than taxes and fines or other penalties). The adoption of this interpretation has had no impact on the consolidated financial statements.
The IASB has issued the following new or amended standards and interpretations which apply from the dates shown. The Group has decided not to early adopt any of these standards, interpretations or amendments where this is permitted. The impact on the Group of adopting them is subject to evaluation: – IFRS 9 Financial Instruments (2018). This standard will replace IAS 39 Financial Instruments: Recognition and Measurement. IFRS 9 was originally issued in November 2009 and introduced new requirements for the classification and measurement of financial assets. The standard was subsequently amended in October 2010 to include requirements for the classification and measurement of financial liabilities and for derecognition and in November 2013 to include new requirements for general hedge accounting. Another revised version was issued in July 2014 to include a) impairment requirements for financial assets and b) limited amendments to the classification and measurement requirements by introducing a ‘fair value through other comprehensive income’ option for certain simple debt instruments. The Group anticipates that the application of IFRS 9 in the future is likely to impact amounts reported in respect of the Group’s financial assets and liabilities although this remains subject to completion of a detailed review.
– Accounting for Acquisitions of Interests in Joint Operations (Amendments to IFRS 11) (2016).
3. CHANGE IN ACCOUNTING POLICIES AND PRESENTATIONAL CHANGES This note details the impacts on the consolidated financial statements as a result of changes in accounting policies during the year and presentational changes of prior year financial information.
IFRS 10 replaces the parts of the previously existing IAS 27 Consolidated and Separate Financial Statements that dealt with consolidated financial statements and SIC-12 Consolidation – Special Purpose Entities, and establishes a single control model that applies to all entities including special purpose entities. IFRS 10 changes the definition of control such that an investor controls an investee when it is exposed, or has rights, to variable returns from its involvement with the investee and has the ability to affect those returns through its power over the investee.
– the ability to use its power over the investee to affect its returns.
The following table summarises the financial effects on the consolidated income statement, statement of consolidated financial position and statement of consolidated cash flows on implementation of the new accounting policy.
(b) OTHER PRESENTATIONAL CHANGES OF PRIOR YEAR FINANCIAL INFORMATION In respect of the 2013 financial year, a presentational change has been made to fees and net investment income within the consolidated income statement to remove the impact of a gross-up of those line items for asset management fee rebates received by the Group’s life companies. The impact of the adjustment is to reduce fees by £39 million and increase net investment income by an equivalent amount. There is no impact on the result for the year (see note 9).
4. DISCONTINUED OPERATIONS AND ASSETS AND LIABILITIES HELD FOR SALE This note provides details of the discontinued operations and divestment of Ignis Asset Management, assets and liabilities held for sale at the year end and the disposal of a general insurance subsidiary undertaking. The principle accounting policies adopted in the preparation of this note are detailed in notes 1(a), 1(bb) and 1(dd).
110 – Profit/(loss) for the year from discontinued operations 92 (35)
Cash flows from operating activities 31 17 Cash flows from investing activities 311 – Cash flows from financing activities (29) (14) Net cash inflow 313 3
Goodwill 57 Customer relationships and other intangibles 136 Financial assets 37 Property, plant and equipment 10 Cash and cash equivalents 68 Deferred tax assets 3 Other assets 53 Deferred tax liabilities (27) Provisions (23) Other liabilities (60) Net assets and liabilities disposed of 254 4.2 ASSETS AND LIABILITIES OF OPERATIONS CLASSIFIED AS HELD FOR SALE The balances transferred to assets and liabilities classified as held for sale in the statement of consolidated financial position as at 31 December 2014 relate to the anticipated Part VII transfer of a portfolio of annuity liabilities to Guardian Assurance Limited (‘Guardian’) (see note 4.3). The balances as at 31 December 2013 related to BA(GI) Limited (‘BAGI’) (see note 4.4).
Assets classified as held for sale: Financial assets – 55 Reinsurer’s share of insurance contract liabilities 1,713 – Other assets – 11
4. DISCONTINUED OPERATIONS AND ASSETS AND LIABILITIES HELD FOR SALE CONTINUED 4.3 ANNUITY LIABILITIES TRANSFER On 31 July 2014, the Group entered into a reinsurance agreement, effective from 1 January 2014 to reinsure certain portfolios of the Group’s annuity liabilities to Guardian in exchange for the transfer of financial assets of £1.7 billion. The annuity in-payment liabilities are currently held in the Group’s with-profit funds. It is highly probable that the reinsurance agreement will be replaced by a formal scheme under Part VII of the Financial Services and Market Act 2000 to transfer the annuity liabilities to Guardian in the second half of 2015 and accordingly the assets and liabilities to be transferred have been classified as held for sale.
Under the terms of this reinsurance agreement Guardian holds assets in a collateral account over which the Group has a fixed charge as disclosed in note 7.2.
5. SEGMENTAL ANALYSIS The Group defines and presents operating segments based on the information which is provided to the Board, and therefore segmental information in this note is presented on a different basis from profit or loss in the consolidated financial statements. The accounting policy adopted in the preparation of this note is detailed in note 1(ee).
119PHOENIX GROUP HOLDINGS ANNUAL REPORT AND ACCOUNTS 2014 5.1 SEGMENTAL RESULT
Net premiums written from: External customers (811) – – – – (811)
Tax attributable to policyholders’ returns (129) – – – – (129) Segmental result before the tax attributable to owners 309 11 96 – (80) 336
Other operating income: Gain on transfer of business: Non-recurring 42 – – – – 42
Net policyholder claims and benefits incurred: Depreciation, impairment and amortisation: Depreciation of property, plant and equipment – (3) – – 3 – Amortisation of acquired in-force business (111) – – – – (111) Amortisation of customer relationships and other intangibles (16) (3) – – 3 (16)
Tax attributable to policyholders’ returns 27 – – – – 27 Segmental result before the tax attributable to owners 315 51 (149) – 51 268
121PHOENIX GROUP HOLDINGS ANNUAL REPORT AND ACCOUNTS 2014 5.2 RECONCILIATION OF OPERATING PROFIT BEFORE ADJUSTING ITEMS TO THE SEGMENTAL RESULT
Adjust for: Profit before the tax attributable to owners from discontinued operations (see note 4.1.1) (80)
Non-recurring items include: – income received in relation to the close-out of the PGL Pension Scheme longevity agreement with the with-profit funds of £68 million (see note 30.2); – the profit arising as a result of the divestment of Ignis of £107 million (see note 4.1); – costs associated with external regulatory changes, including the cap on workplace pension charges of £17 million; – corporate project costs of £15 million; and
Adjust for: Loss before the tax attributable to owners from discontinued operations (see note 4.1.1) 51
6. INVESTMENT RETURN VARIANCES AND ECONOMIC ASSUMPTION CHANGES The long-term nature of much of the Group’s operations means that, for internal performance management, the effects of short-term economic volatility are treated as non-operating items. The Group focuses instead on an operating profit measure that incorporates an expected return on investments supporting its long-term business. The accounting policy adopted in the calculation of operating profit is detailed in note 1(v) and the methodology is explained below.
The movement in liabilities included in operating profit reflects both the change in liabilities due to the expected return on investments and the impact of experience variances and assumption changes for non-economic items.
Positive investment return variances of £12 million in 2014 (2013: £64 million) include the minority share of the result of the consolidated UKCPT property investment structure of £75 million (2013: £42 million). The remaining negative variance of £63 million is principally driven by the impacts of falling yields, both on short asset positions held relative to the IFRS basis liabilities and from adverse policyholder tax variances arising on resultant investment gains on fixed interest assets in the period, together with the negative impact of widening credit spreads. Partly offsetting these items are the positive impacts of lower inflation and improved property returns.
123PHOENIX GROUP HOLDINGS ANNUAL REPORT AND ACCOUNTS 2014 6.3 CALCULATION OF THE LONG-TERM INVESTMENT RETURN The expected return on investments for both owner and policyholder funds is based on opening economic assumptions applied to the funds under management at the beginning of the reporting period. Expected investment return assumptions are derived actively, based on market yields on risk-free fixed interest assets at the start of each financial year. The long-term risk-free rate is defined as the annualised return on the FTSE UK Gilt Index plus 10 bps. The same margins are applied on a consistent basis across the Group to gross risk-free yields, to obtain investment return assumptions for equities and properties.
The principal assumptions underlying the calculation of the longer-term investment return are: Gilts (15 year gilt) 3.6 2.4 Other fixed interest 4.6 3.4 7. REINSURANCE 7.1 PREMIUMS CEDED TO REINSURERS Premiums ceded to reinsurers during the period were £1,792 million (2013: £11 million income).
In accordance with the business transfer agreement, it is intended that the reinsurance agreement will be replaced by a transfer of the business using a scheme under Part VII of the Financial Services and Markets Act 2000 during 2015 subject to the necessary regulatory and Court approvals. The Company paid a reinsurance premium of £1,736 million to Guardian. Under the terms of the agreement, in order to mitigate the risk of counterparty default, Guardian holds assets in a collateral account over which the Company has a fixed charge as disclosed in note 7.2.
8. FEES This note analyses the Group’s fees and commission income. The accounting policy adopted in the preparation of this note is detailed in note 1(y).
Investment contract income 94 93 9. NET INVESTMENT INCOME This note analyses the Group’s net investment income. The accounting policy adopted in the preparation of this note is detailed in note 1(y).
Employee costs 86 87 Outsourcer expenses 106 122 Professional fees 29 45 Office costs 23 27 Investment management expenses and transaction costs 122 97 Direct costs of life companies 9 8 Direct costs of collective investment schemes 26 35 Pension service costs and losses on settlement – 10 Pension administrative expenses 7 7
Average number of persons employed Phoenix Life 757 807 Ignis1 – 393 1 Following the divestment of Ignis, the employees within this segment of the business are no longer part of the Phoenix Group. Therefore no disclosure has been provided for the average number of persons employed in respect of Ignis for 2014.
11. AUDITOR’S REMUNERATION This note shows the total remuneration payable by the Group to our auditors.
Audit of the consolidated financial statements 0.5 0.5 Audit of the Company’s subsidiaries 2.3 2.3 Audit of MCEV supplementary information 0.4 0.4
Audit-related assurance services 0.8 0.7 Reporting accountant assurance services 0.2 1.0 Total fee for assurance services 4.2 4.9
Interest expense On financial liabilities at amortised cost 141 195 On financial liabilities at fair value through profit or loss 15 35
The Group, as a proxy for policyholders in the UK, is required to pay taxes on investment income and gains each year. Accordingly, the tax credit or expense attributable to UK life assurance policyholder earnings is included in income tax expense. The tax charge/(credit) attributable to policyholder earnings was £129 million (2013: £(27) million).
Owners’ tax charge 22 26 Policyholder tax charge/(credit) 129 (27) Total tax charge/(credit) for the year 151 (1)
1 The Group’s two operating segments operate predominantly in the UK. The reconciliation of the tax charge/(credit) has, therefore, been completed by reference to the standard rate of UK tax rather than by reference to the Jersey income tax rate of 0% which is applicable to Phoenix Group Holdings.
14. DIVIDENDS ON ORDINARY SHARES This note analyses the total dividends paid during the year and does not include the final dividend proposed after the year end as it is not recognised as a liability in the 2014 consolidated financial statements. The accounting policy adopted in the preparation of this note is detailed in note 1(x).
On 25 March 2014, the Board recommended a final dividend of 26.7p per share in respect of the year ended 31 December 2013. The dividend was approved at the Company’s Annual General Meeting, which was held on 30 April 2014. The dividend amounted to £60 million and was settled on 2 May 2014.
On 20 August 2014, the Board declared an interim dividend of 26.7p per share for the half year ended 30 June 2014. The total dividend amounted to £60 million and was paid on 2 October 2014.
129PHOENIX GROUP HOLDINGS ANNUAL REPORT AND ACCOUNTS 2014 15.1 BASIC EARNINGS/(LOSS) PER SHARE The result attributable to owners of the parent for the purposes of computing earnings per share has been calculated as set out below. This is after adjusting for the result attributable to non-controlling interests.
The weighted average number of ordinary shares outstanding during the period is calculated as follows: million million
Basic earnings/(loss) per share is as follows: 2014 pence 2013 pence
Diluted earnings/(loss) per share is as follows: Year ended 31 Dec 2014 pence
Diluted earnings per share from continuing operations 96.5p 85.2p Diluted earnings/(loss) per share from discontinued operations 41.0p (17.1)p Total diluted earnings per share 137.5p 68.1p
The following instruments could potentially dilute basic earnings per share in the future but have not been included in the diluted earnings per share figure because they did not have a dilutive effect for the periods presented due to the exercise price of the warrants being significantly higher than the share price of the Company: – 5 million warrants issued to certain entities providing finance to the Group on 2 September 2009.
Authorised: 410 million (2013: 410 million) ordinary shares of €0.0001 each 31,750 31,750
Shares in issue at 1 January 224,818,301 18,418 Other ordinary shares issued in the period 271,983 21 Shares in issue at 31 December 225,090,284 18,439
During the year, the Company issued 271,983 shares at a premium of £1 million in order to satisfy its obligations to employees under the Group’s sharesave schemes (see note 19).
Shares in issue at 1 January 174,587,148 14,174 Placement and open offer ordinary shares 50,000,000 4,224 Other ordinary shares issued in the period 231,153 20 Shares in issue at 31 December 224,818,301 18,418
During 2013, the Company issued 231,153 shares at a premium of £1 million in order to satisfy its obligations to employees under the Group’s share schemes.
None of these conditions were met by 22 June 2013 and therefore the remaining 3,600,000 contingent rights over shares will not be converted into ordinary shares. The balance of other reserves of £5 million was therefore reclassified within equity to retained earnings.
131PHOENIX GROUP HOLDINGS ANNUAL REPORT AND ACCOUNTS 2014 18. SHARES HELD BY THE EMPLOYEE BENEFIT TRUST AND GROUP ENTITIES This note gives details of the value of the shares held by the Phoenix Group Holdings Employee Benefit Trust (‘PGH EBT’) to satisfy awards granted to employees under the Group’s share-based payment schemes and shares held by other Group entities. The accounting policy adopted in the preparation of this note is detailed in note 1(aa).
In addition, 540,612 (2013: nil) shares held by other Group entities were sold during the year. The number of shares held by other Group entities as at 31 December 2014 was nil (2013: 540,612).
19. SHARE-BASED PAYMENT This note describes the various share-based payment schemes used within the Group and how the options and awards of shares are valued. The accounting policy adopted in the preparation of this note is detailed in note 1(z).
19. SHARE-BASED PAYMENT CONTINUED 19.2 SHARE-BASED PAYMENT SCHEMES IN ISSUE CONTINUED Sharesave scheme The sharesave scheme allows participating employees to save up to £250 each month over a period of either 3 or 5 years. This amount was increased to £500 each month with respect to the 2014 sharesave.
Under the sharesave arrangement, participants remaining in the Group’s employment at the end of the 3 or 5 year saving period are entitled to use their savings to purchase shares at an exercise price at a discount to the share price on the date of grant. Employees leaving the Group for certain reasons are able to use their savings to purchase shares if they leave less than six months before the end of their 3 or 5 year periods.
The 2010, 2011 and 2012 sharesave awards were increased during 2013 as a result of the equity raising on 21 February 2013 (see note 16). The exercise price of these awards were also amended as a result of the equity raising. The 2014 sharesave awards were granted on 24 April 2014.
The following information was relevant in the determination of the fair value of the 2010 to 2014 sharesave awards in the year: 2014 sharesave 2013 sharesave 2012 sharesave 2011 sharesave 2010 sharesave
Deferred bonus share scheme (‘DBSS’) With effect from 31 December 2010, part of the annual incentive for certain executives, for any year, is deferred into Phoenix Group Holdings’ shares. This grant of shares is conditional on the employee remaining in employment with the Group for a period of 3 years. The 2011 DBSS awards vested during the year. The 2012 awards are expected to vest on 2 April 2015, the 2013 awards are expected to vest on 27 March 2016 and the 2014 awards are expected to vest on 28 March 2017. The 2011 and 2012 DBSS awards were increased during 2013 as a result of the equity raising on 21 February 2013 (see note 16).
133PHOENIX GROUP HOLDINGS ANNUAL REPORT AND ACCOUNTS 2014 19.3 MOVEMENTS IN THE YEAR The following tables illustrate the number of, and movements in, share options during the year: Number of share options 2014
Outstanding at the beginning of the year 3,749,531 1,017,771 362,867 Granted during the year 1,154,260 503,544 212,898 Forfeited during the year (610,236) (241,221) (31,570) Cancelled during the year – (34,703) – Exercised during the year (1,139,934) (257,873) (61,946) Outstanding at the end of the year 3,153,621 987,518 482,249
Outstanding at the beginning of the year 3,863,439 1,009,951 185,138 Granted during the year 1,138,199 305,672 208,835 Forfeited during the year (364,614) (40,015) – Cancelled during the year – (26,684) – Exercised during the year (887,493) (231,153) (31,106) Outstanding at the end of the year 3,749,531 1,017,771 362,867
The weighted average remaining contractual life for the rewards outstanding as at 31 December 2014 is 1.4 years (2013: 1.5 years).
20. NON-CONTROLLING INTERESTS CONTINUED 20.1 PERPETUAL RESET CAPITAL SECURITIES On 1 January 2010, Pearl Group Holdings (No. 1) Limited (‘PGH1’) had in issue £500 million of Perpetual Reset Capital Securities (‘the Notes’) which are admitted to the Official List of the UK Listing Authority and to trading on the LSE. Following amendments made to the Notes in 2010, the principal amount outstanding is now £425 million.
The Notes have no fixed maturity date and coupon payments may be deferred at the option of PGH1; accordingly the Notes meet the definition of equity for financial reporting purposes. Under the current regulatory rules of the PRA, the Notes also meet the conditions to be included as Tier 1 capital in the calculation of the group capital resources for solvency reporting purposes. Where the Notes are not held by other Group entities, they are disclosed as a non-controlling interest in the consolidated financial statements.
Coupons are payable annually in arrears on 25 April, at the rate of 6.5864% per annum, until the first reset date. Thereafter coupons are payable semi-annually at 2.73% per annum over the then prevailing offered rate for six month sterling deposits.
If PGH1 opts to defer a coupon payment, then PGH1 has the option to either leave the coupon outstanding or satisfy the deferred coupon payment through the alternative coupon satisfaction mechanism (the ‘ACSM’), which involves the issue by PGH1 of ordinary shares in order to fund payment of the deferred coupon. The ACSM was implemented during 2010 in order to enable payment of a coupon which had been deferred during 2009.
Life assurance business: Investment contracts with DPF 11,124 1 10,769 1
Less amounts classified as held for sale (note 4.2) (1,776) (1,713) – –
Amounts due for settlement after 12 months 39,636 2,705 39,126 2,775
Property Reversions loan (note b) 184 186 184 186 £200 million 7.25% unsecured subordinated loan (note e) 149 151 212 205 £300 million senior unsecured bond (note f) 298 – 324 – £450 million revolving credit facility (note g) 441 – 450 – £450 million amortising term loan (note g) 387 – 390 – £2,260 million syndicated loan facility (note h) – 1,182 – 1,182 £100 million PIK notes and facility (note i) – 121 – 118 £75 million secured loan note (note j) – 76 – 49 £425 million loan facility (note j) – 327 – 315
b. The Property Reversions loan from Santander UK plc (‘Santander’) was brought into the consolidated financial statements at fair value. It relates to the sale of Extra-Income Plan policies that Santander finances to the value of the associated property reversions. With effect from 1 January 2012, Phoenix Life Limited (‘PLL’) became party to a loan agreement with Santander UK plc (‘Santander’). As part of the arrangement Santander receive an amount calculated by reference to the movement in the Halifax House Price Index and PLL is required to indemnify Santander against profits or losses arising from mortality or surrender experience which differs from the basis used to calculate the reversion amount. Repayment will be on a policy-by-policy basis and is expected to occur over the next 10 to 20 years. During 2014, repayments totalling £24 million were made
(2013: £22 million). Note 33 contains details of the assets that support this loan.
e. Scottish Mutual Assurance Limited issued £200 million 7.25% undated, unsecured subordinated loan notes on 23 July 2001 (‘PLL subordinated debt’). The earliest repayment date of the notes is 25 March 2021 and thereafter on each fifth anniversary so long as the notes are outstanding. With effect from 1 January 2009, as a part of a Part VII transfer, these loan notes were transferred into the shareholder fund of PLL. In the event of the winding-up of PLL, the right of payment under the notes is subordinated to the rights of the higher-ranking creditors (principally policyholders). As a result of the acquisition of the Phoenix Life businesses in 2009, these subordinated loan notes were acquired at their fair value and as such, the outstanding
137PHOENIX GROUP HOLDINGS ANNUAL REPORT AND ACCOUNTS 2014 principal of these subordinated loan notes differs from the carrying value in the consolidated statement of financial position. The fair value adjustments, which were recognised on acquisition, will unwind over the remaining life of these subordinated loan notes.
With effect from 23 December 2014, with the consent of the note holders, minor modifications were made to the terms of the notes to enable them to qualify as lower tier 2 capital. Expenses incurred in effecting these modifications amounted to £10 million. Given the modifications were not substantial, the carrying amount of the liability has been adjusted accordingly and will be amortised over the life of the notes.
– amongst other fees, a utilisation fee of 0.25% p.a. is payable in respect of the RCF loan for so long as the amount outstanding under the RCF exceeds 50% of the total commitments of the RCF loan.
i. On 14 May 2008, PGH (MC1) Limited issued PIK notes to the value of £154.5 million to Royal London and PGH (MC2) Limited obtained a £154.5 million PIK facility from Royal London. The PIK notes and facility were subsequently amended on 2 September 2009, leaving a total of £100 million outstanding. Interest accrued on the PIK notes and facility at LIBOR plus a margin of 2% unless an election was made by PGH (MC1) Limited or PGH (MC2) Limited to capitalise the interest, in which case the margin increased to 3.5%. During 2014, interest of £3 million (2013: £5 million) was capitalised on the PIK notes and facility. Tax relief has been recognised on the capitalised interest at the standard rate of 21.50% (2013: 23.25%). The PIK notes and facility were fully repaid on 23 July 2014 (see note g).
j. On 15 November 2006, PGH (LCA) Limited and PGH (LCB) Limited jointly became a party to a £905 million loan facility from a syndicate of external banks. This loan was subsequently amended on 2 September 2009, leaving £425 million outstanding on this facility (the ‘Pearl Facility’) and £75 million of secured C loan notes (the ‘Pearl loan notes’).
The £425 million facility attracted interest at LIBOR plus a margin of 1.25%. The £75 million secured C loan notes attracted interest at LIBOR plus a margin of 1.00%.
On 23 July 2014 the outstanding balances on the £425 million Pearl facility and the £75 million Pearl loan notes were fully repaid (see note g).
Warrants over shares in Phoenix Group Holdings – – – 5
The fair value of warrants over shares are as follows: £m
IPO warrants The IPO warrants originally entitled the holder to purchase one ordinary share at a price of €7.00 per share, subject to adjustment, at any time commencing on the consummation of a business combination. On 2 September 2009 the exercise price was increased to €11. At 31 December 2013, the terms of the IPO warrants entitled the holder to purchase 1.027873 ordinary shares per IPO warrant, for an exercise price of €10.70.
The exercise period for the IPO warrants commenced on 2 September 2009, and expired at the close of trading on the LSE on 3 September 2014.
The exercise period terminates on the first to occur of: – 15th anniversary of the date issued; – date fixed for the redemption of the warrants; and
All outstanding Lenders’ warrants may be redeemed at the option of the Company at any time after they become exercisable and prior to their expiration at a price of €0.01 per warrant provided that the last closing bid price of the ordinary shares is equal to or exceeds £18.97 (2013: £18.97) on each of 20 consecutive trading days. The Company must give not less than 30 days’ notice of the redemption date. Each warrant may then be exercised by the warrant holder (in whole or any part) at its option.
The value of the warrants at the year end was £200,000 (2013: £300,000).
Royal London warrants On 2 September 2009, the Company issued 12.36 million warrants (2 million transferable and 10.36 million non-transferable) over its shares to Royal London as part consideration for acquiring the benefit of £250 million of the PIK notes and facility outstanding (comprising principal and capitalised interest). These warrants entitled the holder to purchase one ‘B’ ordinary share at a price of €11 per share, subject to adjustment. Following the achievement of the Company’s Premium Listing, the Royal London warrants relate to ordinary shares rather than ‘B’ ordinary shares. At 31 December 2013 the terms of the Royal London warrants entitled the holders to purchase 1.027873 ordinary shares per Royal London warrant for an exercise price of €10.70.
Discontinued operations disposed of during the year – (16) – (7) (23)
Staff related provisions include provisions for unfunded pensions of £6 million (2013: £6 million) and private medical insurance costs for former employees of £3 million (2013: £3 million).
Current tax: Current tax receivable 8 6 Current tax payable (165) (107)
Expenses and deferred acquisition costs carried forward 37 (35) – – 2 Provisions and other temporary differences (3) 15 – (1) 11 Non refundable pension scheme surplus – (8) – (8) Committed future pension contributions 70 (22) 9 – 57
Expenses and deferred acquisition costs carried forward 5 32 – – – 37 Provisions and other temporary differences 3 (7) – – 1 (3) Committed future pension contributions 97 (15) (12) – – 70
29. OTHER PAYABLES This note analyses the Group’s other payables at the end of the year.
PGL Pension Scheme Economic surplus (including £526 million (2013: £313 million) available as a refund on a winding-up of the Scheme) 590 368 Adjustment for insurance policies eliminated on consolidation (23) (95) Net economic surplus 567 273 Minimum funding requirement obligation (13) (17) Provision for tax on that part of the economic surplus available as a refund on a winding-up of the Scheme (184) (96) Net defined benefit asset 370 160
Inflation risk – a significant proportion of the scheme’s benefit obligations are linked to inflation, and higher inflation will lead to higher liabilities (although in most cases, caps on the level of inflationary increases are in place to protect against extreme inflation). Assets in both schemes are invested so as to hedge a significant proportion of the inflation risks, further details of which are included in this note.
Defined benefit scheme The defined benefit scheme is funded by payment of contributions to a separately administered trust fund. The Pearl Scheme is established under, and governed by, the trust deeds and rules. A Group company, PGH2, is the principal employer of the Pearl Scheme. The principal employer meets the administration expenses of the Pearl Scheme. The Pearl Scheme is administered by a separate Trustee company, P.A.T. (Pensions) Ltd, which is separate from the Company. The Trustee company is comprised of two representatives from the Group, three member nominated representatives and one independent trustee in accordance with the Trustee company’s articles of association. The Trustee is required by law to act in the interest of all relevant beneficiaries and is responsible for the investment policy with regard to the assets.
(ii) to reach full funding on a gilts flat basis by 30 June 2031; – the Trustee continues to benefit from a first charge over shares in Phoenix Life Assurance Limited, National Provident Life Limited, Pearl Group Services Limited and PGS2 Limited. Following the repayment of the £425 million loan facility and £75 million of secured C loan notes on 23 July 2014 (see note 23) the value of the security claim granted under the share charges is capped at the lower of £600 million and 100% of the Pearl Scheme deficit (calculated on a basis linked to UK government securities) revalued every three years thereafter, increasing from 60% of the Pearl Scheme deficit; and
Contributions totalling £40 million are expected to be paid into the scheme in 2015.
Remeasurements: Return on plan assets excluding amounts included in interest income 360 – – – 360 Gain from change in demographic assumptions – 19 – – 19 Loss from change in financial assumptions – (195) – – (195) Experience gains – 20 – – 20 Change in provision for tax on economic surplus available as a refund – – (76) – (76) Change in minimum funding requirement obligation – – – 2 2
Gains and losses on settlement (72) 63 – (9) Included in profit or loss 10 (24) (3) (17)
Fixed interest gilts 140 – 111 – Other debt securities 935 – 819 –
The actual return on plan assets was £443 million (2013: £75 million).
The Group ensures that the investment positions are managed within an asset liability matching (‘ALM’) framework that has been developed to achieve long-term investments that are in line with the obligations under the pension scheme. Within this framework an allocation of 25% of the scheme assets is invested in collateral for interest rate and inflation rate hedging where the intention is to hedge greater than 90% of the interest rate and inflation rate risk measured on the Technical Provisions basis. The hedge ratio will be further increased to 100% when market conditions appear favourable.
Defined benefit obligation The calculation of the defined benefit obligation can be allocated to the scheme’s members as follows: – Deferred scheme members: 40% (2013: 41%)
It has been assumed that post-retirement mortality is in line with a scheme-specific table which was derived from the actual mortality experience in recent years, performed as part of the actuarial funding valuation as at 30 June 2012, based on the SAPS standard tables for males and for females based on year of use. Future longevity improvements are in line with current Group best estimate longevity improvements, which are based on CMI 2012 Core Projections and a long-term rate of improvement of 2% p.a. up to and including age 75 then decreasing linearly to 0% p.a. at age 110. Under these assumptions, the average life expectancy from retirement for a member currently aged 40 retiring at age 60 is 29.9 years and 33.0 years for male and female members respectively.
Impact on the defined benefit obligation (£m) 2,061 (79) 84 53 (50) 55 (53)
Impact on the defined benefit obligation (£m) 1,908 (71) 75 49 (47) 53 (52)
30. PENSION SCHEMES CONTINUED 30.2 PGL PENSION SCHEME Scheme details The PGL Pension Scheme comprises a final salary section and a defined contribution section.
The valuation has been based on an assessment of the liabilities of the PGL Pension Scheme as at 31 December 2014, undertaken by independent qualified actuaries.
An additional liability has been recognised of £13 million (2013: £17 million) reflecting a charge on any refund of the resultant IAS 19 surplus that arises after adjustment for discounted future contributions of £38 million (2013: £51 million) in accordance with the minimum funding requirement. A deferred tax asset of £8 million (2013: £10 million) has also been recognised to reflect tax relief at a rate of 20% (2013: 20%) that is expected to be available on the contributions, once paid into the scheme.
Administrative expenses (3) – – – (3) Included in profit or loss 72 (60) (4) (2) 6
Remeasurements: Return on plan assets excluding amounts included in interest income 277 – – – 277 Gain from change in demographic assumptions – 54 – – 54 Loss from change in financial assumptions – (143) – – (143) Change in provision for tax on economic surplus available as a refund – – (84) – (84) Change in minimum funding requirement obligation – – – 6 6
Cash and other 354 – 645 – Obligations for repayment of stock lending collateral received (417) – (1,004) –
The actual return on plan assets was £353 million (2013: £66 million).
A quantitative sensitivity analysis for significant actuarial assumptions as at 31 December 2014 is shown below: Assumptions Base Discount rate RPI Life expectancy
Impact on the defined benefit obligation (£m) 1,457 (60) 63 40 (38) 46 (44)
The Budget proposals announced in March 2014 are expected to impact the level of future annuity business written by the Group. This is considered to be an indicator of impairment for the Group’s vesting pension premiums intangible and as a result an impairment test on this intangible was carried out during the year.
No impairment has resulted as the value in use of the intangible is considered to exceed its carrying value. The value in use was determined as the present value of certain future cash flows associated with annuities vesting from matured pension policies. The cash flows used in this calculation are consistent with those adopted by management in the Group’s operating plan for the next five years, and for the period 2019 and beyond, reflect the anticipated run-off of the Phoenix Life insurance business. The cash flows are based on future profit margins and risk-free projections of with-profits maturity payments that are largely consistent with the Group’s MCEV basis. The cash flows also include an allowance for future profits earned by the service companies on the administration of vesting policies. The cash flows reflect management’s best estimate of future take-up rates on guaranteed annuity rate business and non-guaranteed annuity rate business. Future cash flows have been valued using a discount rate of 11.2%.
The amortisation charge for customer relationships and other is presented separately in the consolidated income statement.
PRESENT VALUE OF FUTURE PROFITS ON NON-PARTICIPATING BUSINESS IN THE WITH-PROFIT FUND The value of the present value of future profits is determined on a realistic basis and is allocated in full to the Phoenix Life segment. The principal assumptions used to calculate the present value of future profits are the same as those used in calculating the insurance contract liabilities given in note 40.5.1. Revaluation of the present value of future profits is charged or credited to the consolidated income statement as appropriate.
Keppie Massie, an accredited independent valuer completed a valuation of the land and buildings at 31 December 2013 on an open market basis in accordance with the Royal Institution of Chartered Surveyors’ requirements, which is deemed to equate to fair value. The fair value measurement for the land and buildings of £15 million has been categorised as a Level 3 fair value based on the non-observable inputs to the valuation technique used.
33. INVESTMENT PROPERTY This note gives details of the properties held by the Group for long-term rental yields or capital appreciation and fair value hierarchy disclosures for the investment properties. The accounting policy adopted in the preparation of this note is detailed in note 1(p).
Gains on adjustments to fair value (recognised in profit and loss) 200 72
The property portfolio consists of a mix of commercial sectors, held by the life companies, £407 million (2013: £366 million), and by the Group’s UK Commercial Property Trust, £1,265 million (2013: £1,046 million). The portfolio is spread geographically throughout the UK. Investment properties also include £186 million (2013: £191 million) of property reversions arising from sales of the NPI Extra Income Plan.
The residential property reversions, an interest in customer’s properties which the Group will realise upon their death, are valued using a DCF model based on the Group’s proportion of the current open market value, and discounted for the expected lifetime of the policyholder. The open market value is measured by independent local property surveyors having appropriate recognised professional qualifications with reference to the condition of the property and local market conditions. The individual properties are valued triennially and indexed using regional house price indices to the 31 December 2014. The discount rate is a risk-free rate appropriate for the duration of the asset, adjusted for liquidity and mortality risk. The residential property reversions have been substantially refinanced under the arrangements with Santander as described in note 23.
Commercial Investment Property (held by life companies) Yield methodology Expected income per sq. ft. £3.34–£129.63 (£29.19)
Capitalisation rate 3.65%–12.92% (5.62%) Commercial Investment Property (held by the UK Commercial Property Trust) Yield methodology Expected income per sq. ft. Retail: £8–£310 (£83)
Residential Property Reversions (held by life companies) DCF Model and RICS valuation Mortality 130% IFL92C15 – Female 130% IML92C15 – Male
The estimated fair value of the commercial properties (held by life companies and UK Commercial Property Trust) would increase (decrease) if: – the expected income were to be higher (lower); or
The fair value of the residential property reversions (held by life companies) would increase (decrease) if: – the market value of the property were to be higher (lower); – the life expectancy of the policyholders were to decrease (increase); or
Direct operating expenses (offset against rental income in the income statement) in respect of investment properties that generated rental income during the year amounted to £5 million (2013: £10 million). The direct operating expenses arising from investment property that did not generate rental income during the year amounted to £2 million (2013: £2 million).
Financial assets measured at carrying and fair values Loans and receivables at amortised cost 196 36 222 Financial assets at fair value through profit or loss: Held for trading – derivatives 2,558 2,112 2,558 Designated upon initial recognition: Investment in joint ventures1 133 – 133 Fixed and variable rate income securities 34,384 27,244 34,384 Collective investment schemes1 3,583 – 3,583
Financial liabilities measured at amortised cost: Deposits received from reinsurers 408 375 408 Obligations for repayment of collateral received2 954 – –
Level 3 financial instruments The Group’s financial instruments determined by valuation techniques using non-observable market inputs are based on a combination of independent third party evidence and internally developed models. In relation to investments in hedge funds and private equity investments, non-observable third party evidence in the form of net asset valuation statements are used as the basis for the valuation. Adjustments may be made to the net asset valuation where other evidence, for example recent sales of the underlying investments in the fund, indicates this is required. Securities that are valued using broker quotes which could not be corroborated across a sufficient range of quotes are considered as Level 3. For a small number of investment vehicles and debt securities, standard valuation models are used, as due to their nature and complexity they have no external market. Inputs into such models are based on observable market data where applicable. The fair value of loans and some borrowings with no external market is determined by internally developed discounted cash flow models using a risk adjusted discount rate corroborated with external market data where possible.
159PHOENIX GROUP HOLDINGS ANNUAL REPORT AND ACCOUNTS 2014 34.2.2 Fair value hierarchy of financial instruments The tables below separately identify financial instruments carried at fair value from those measured on another basis but for which fair value is disclosed.
Financial assets designated at fair value through profit or loss upon initial recognition: Investment in joint ventures – – 125 125 Fixed and variable rate income securities 25,494 9,081 935 35,510
Financial liabilities designated at fair value through profit or loss upon initial recognition: Investment contract liabilities – 8,578 – 8,578
Total financial liabilities measured at fair value 5,784 10,696 189 16,669 Financial liabilities for which fair values are disclosed Borrowings at amortised cost – 229 1,965 2,194 Deposits received from reinsurers – 385 – 385 34.2.3 Level 3 financial instrument sensitivities Included in Level 3 investments are two property investment structures with a value of £59 million (2013: £15 million) within fixed and variable rate income securities and £133 million (2013 Restated: £125 million) within investment in joint ventures.
Both investments have been valued by taking the fair value of the property within the structures, which have been independently valued, less the fair value of the debt within the structures. The valuations are sensitive to movements in yields on the underlying property portfolio. An increase in yields of 25bps would reduce the value of the first investment by £8 million (2013: £8 million) and the second investment by £23 million (2013: £23 million). A reduction in yields of 25bps would increase the value of the first investment by £9 million (2013: £9 million) and the second investment by £25 million (2013: £25 million).
Debt securities categorised as Level 3 investments, with the exception of local authority loans, are valued using broker quotes. Although such valuations are sensitive to estimates, it is believed that changing one or more of the assumptions to reasonably possible alternative assumptions would not change the fair value significantly.
Borrowings measured at fair value and categorised as Level 3 financial liabilities comprise the property reversion loans, measured using an internally developed model. The valuation is sensitive to increases (decreases) in the fair value of relevant residential property reversions which would result in an equivalent higher (lower) fair value of property reversion loans. Details of the valuation of the underlying residential property reversions are included in note 23.
Financial assets measured at fair value Financial assets designated at fair value through profit or loss upon initial recognition Fixed and variable rate income securities 167 372 Collective investment schemes 2 –
34. FINANCIAL INSTRUMENTS CONTINUED 34.2 FAIR VALUE HIERARCHY CONTINUED 34.2.5 Movement in Level 3 financial instruments measured at fair value
During 2013, updates to the Group’s observations with regard to the liquidity of certain equity and fixed and variable rate income securities resulted in a net transfer of financial assets into Level 3 from Levels 1 and 2.
Financial liabilities 34.3.2 Derivative collateral arrangements Assets accepted It is the Group’s practice to obtain collateral to mitigate the counterparty risk related to over-the-counter (‘OTC’) derivatives usually in the form of cash or marketable financial instruments.
Where the Group receives collateral in the form of marketable financial instruments which it is not permitted to sell or re-pledge except in the case of default, it is not recognised in the statement of consolidated financial position. The fair value of financial assets accepted as collateral for OTC derivatives but not recognised in the statement of consolidated financial position amounts to £405 million (2013: £35 million).
The maximum exposure to credit risk in respect of OTC derivative assets is £2,540 million (2013: £1,913 million) of which credit risk of £2,353 million (2013: £1,876 million) is mitigated by use of collateral arrangements (which are settled net after taking account of any OTC derivative liabilities owed to the counterparty).
Credit risk on exchange traded derivative assets of £18 million (2013: £53 million) is mitigated through regular margining and the protection offered by the exchange.
Where the Group pledges collateral in the form of marketable financial instruments and retains all the risks and rewards of the transferred assets, it continues to be recognised in the statement of consolidated financial position. Cash collateral pledged where the counterparty retains the risks and rewards is derecognised from the statement of consolidated financial position and a corresponding receivable is recognised for its return. The value of assets pledged at 31 December 2014 in respect of OTC derivative liabilities of £2,152 million (2013: £2,117 million) amounted to £961 million (2013: £788 million).
Where the Group receives collateral in the form of marketable securities which it is not permitted to sell or re-pledge except in the case of default, such collateral is not recognised in the statement of consolidated financial position. The fair value of financial assets accepted as such collateral amounts to £152 million (2013: £130 million).
The maximum exposure to credit risk in respect of stock lending transactions is £143 million (2013: £6,734 million) of which credit risk of £143 million (2013: £6,734 million) is mitigated through the use of collateral arrangements.
The maximum exposure to credit risk in respect of these loan transactions at 31 December 2013 was £1,789 million and this was fully mitigated through the use of collateral arrangements.
Collateral provided does not qualify for derecognition as the Group retains the risk and rewards, although the counterparty has the right to sell or repledge these assets. The carrying value of the listed financial assets transferred that have not been derecognised as at 31 December 2014 amounted to £84 million of fixed and variable interest rate securities.
35. STRUCTURED ENTITIES A structured entity is an entity that has been designed so that voting or similar rights are not the dominant factor in deciding who controls the entity, such as when any voting rights relate to administrative tasks only, and the relevant activities are directed by means of contractual arrangements. A structured entity often has some or all of the following features or attributes: (a) restricted activities; (b) a narrow and well-defined objective, such as to provide investment opportunities for investors by passing on risks and rewards associated with the assets of the structured entity to investors; (c) insufficient equity to permit the structured entity to finance its activities without subordinated financial support; and (d) financing in the form of multiple contractually linked instruments to investors that create concentrations of credit or other risks (tranches).
The Group has determined that all of its investments in collective investment schemes are structured entities. In addition, a number of debt security structures, private equity funds and the Group’s joint venture have been identified as structured entities. The Group has assessed that it has interests in both consolidated and unconsolidated structured entities as shown below: – unit trusts; – OEICs; – SICAVs; – private equity funds (‘PEFs’); – asset backed securities; – collateralised debt obligation (‘CDOs’); and
The Group’s holdings in the above investments are subject to the terms and conditions of the respective fund’s prospectus and are susceptible to market price risk arising from uncertainties about future values. The Group holds redeemable shares or units in each of the funds. The funds are managed by an internal asset manager (up to 1 July 2014) and external asset managers who apply various investment strategies to accomplish their respective investment objectives. All of the funds are managed by asset managers who are compensated by the respective funds for their services. Such compensation generally consists of an asset-based fee and a performance-based incentive fee and is reflected in the valuation of each fund.
35.2 INTERESTS IN UNCONSOLIDATED STRUCTURED ENTITIES The Group has interests in unconsolidated structured entities. These investments are held as financial assets in the Group’s consolidated statement of financial position held at fair value through profit or loss. Any change in fair value is included in the consolidated income statement in ‘net investment income’. Dividend and interest income is received from these investments.
Indirectly held collective investment schemes2 1,319 1,520 Fixed and variable rate income securities: Asset backed securities 517 553 Bonds – 15 Investment in joint ventures: Property (see note 35.3) 133 125 1 Directly held collective investment schemes refer to those structured entities directly invested in by Group companies. Such investments have been analysed by reference to the predominant asset class the structure is investing in.
35.3 INTERESTS IN JOINT VENTURES The Group invests in one investment property joint venture which is incorporated and operates in the UK. The Group holds a 50% interest in the joint venture which is held through the Pearl Breakfast Unit Trust. The investment is measured at fair value through profit or loss.
The carrying value of the Group’s interest in the joint venture, and related financial information representing the Group’s share is as follows: 2014 £m
Fair value of properties 469 465 Fair value of debt (344) (343) Net current assets 8 3 36. OTHER RECEIVABLES This note analyses the Group’s other receivables.
38. CASH FLOWS FROM OPERATING ACTIVITIES This note gives further detail behind the ‘cash (utilised)/generated by operations’ figure in the statement of consolidated cash flows.
Separate disclosure of the cash flows from operating activities generated by discontinued operations is provided in note 4.1.1.
39. CAPITAL STATEMENT This note sets out the Group’s approach to managing capital, provides an analysis of available capital resources and explains the different regulatory capital requirements of the Group and its life companies.
CAPITAL MANAGEMENT FRAMEWORK The Group’s Capital Management Framework is designed to achieve the following objectives: – provide appropriate security for policyholders and meet all regulatory capital requirements whilst not retaining unnecessary excess capital; – ensure sufficient liquidity to meet obligations to policyholders and other creditors; and
The framework comprises a suite of capital management policies that govern the allocation of capital throughout the Group to achieve the framework objectives under a range of stress conditions. The policy suite is defined with reference to policyholder security, creditor obligations, owner dividend policy and regulatory capital requirements.
Total IFRS equity attributable to owners of the parent1 2,365 1,909 Adjustments between IFRS equity attributable to owners of the parent and MCEV net worth2 (1,899) (1,788) MCEV value of in-force business2 2,181 2,257 Group MCEV 2,647 2,378 Gross shareholder debt: Perpetual Reset Capital Securities 20 408 408
Further detail on the Group’s gearing calculation (unaudited) is provided in the business review on page 34.
The capital statement shown below presents the total capital that the Group manages on a Pillar 1 basis in respect of its life insurance companies. It is different from the total capital available in the IGD calculation on the basis that the IGD is assessed at the PLHL level and is subject to different rules pertaining to its calculation. For example, due to the Group’s current corporate structure, certain of the Group’s subsidiaries are only included in the IGD calculation at 75% of their regulatory value, including capital requirements. The capital statement includes these subsidiaries in full. This difference and other adjustments amount to a reduction of £739 million (2013: £905 million) in Phoenix Life available capital resources of £6,317 million (estimated) (2013 (actual): £6,289 million) compared with PLHL Group Capital Resources of £5,582 million (estimated) (2013 (actual): £5,384 million). Further detail of the PLHL IGD position (unaudited) is provided in the business review on page 33.
The capital statement and movement analysis that follows presents information about the capital resources for the Group’s UK life businesses.
Adjustments onto a regulatory basis: Other qualifying capital: Subordinated debt3 – – 434 434
Owners’ funds held outside long-term fund – – – – – – – Owners’ funds held in long-term fund – – – – – – – Total owners’ funds – – – – – – –
Adjustments onto a regulatory basis: Adjustments to assets1 – – (9) – – (24) (33)
Other qualifying capital: Subordinated debt – – – – – – – Contingent loans – – – – – 273 273
4 ‘Other activities and consolidation adjustments’ represent the consolidated owners’ funds arising outside of the Phoenix Life business. This includes the owners’ funds of the holding companies of the Group plus the value of the acquired in-force business net of the consolidation adjustments to eliminate the cost of the Group’s investment in the Phoenix Life business in the form of equity capital and subordinated loans.
Adjustments onto a regulatory basis: Other qualifying capital: Subordinated debt3 – – 450 450 Contingent loans 272 – (272) –
Adjustments onto a regulatory basis: Other qualifying capital: Contingent loans – – – – – 272 272
Total available capital resources at 31 December 2014 1,617 533 1,452 268 546 733 71 1,097 6,317
39. CAPITAL STATEMENT CONTINUED GROUP CAPITAL CONTINUED An analysis of the movement in available capital resources for the period 1 January 2013 to 31 December 2013 is shown below: With-profit
Total available capital resources at 1 January 2013 1,287 706 1,204 241 700 751 33 1,610 6,532
Management actions: Distributions made by Phoenix Life – – – – – – – (481) (481)
Total available capital resources at 31 December 2013 1,496 616 1,345 179 615 772 59 1,207 6,289
Changes in methodology and assumptions Changes to capital resources arising from changes in methodology and assumptions occur in the normal course of the assumption-setting process and reflect changes in available data inputs.
Management actions The management actions that have had the most significant impact on available capital resources of the Phoenix Life segment of the Group during the year to 31 December 2014 are dividend payments to Group entities and restructuring activities, notably the divestment of Ignis and the reinsurance agreement entered into with Guardian effective 1 January 2014.
In pursuing these objectives, the Group deploys financial and other assets and incurs insurance contract liabilities and financial and other liabilities. Financial and other assets principally comprise investments in equity securities, fixed and variable rate income securities, collective investment schemes, property, derivatives, reinsurance, trade and other receivables, and banking deposits. Financial liabilities principally comprise investment contracts, borrowings for financing purposes, derivative liabilities and net asset value attributable to unitholders.
Derivatives are used in a number of the Group’s funds, within policy guidelines agreed by the board of each life company and overseen by investment committees of the boards of each life company supported by management oversight committees. Derivatives are primarily used for risk hedging purposes or for efficient portfolio management, including the activities of the Group’s Treasury function.
More detail on the Group’s exposure to financial risk is provided in note 40.3 below.
40.3.1 Credit risk Credit risk is the risk that one party to a financial instrument will cause a financial loss for the other party by failing to discharge an obligation. These obligations can relate to both on and off balance sheet assets and liabilities.
– Credit risk which results indirectly from activities undertaken in the normal course of business. Such activities include premium payments, outsourcing contracts, reinsurance, exposure from material suppliers and the lending of securities.
Fixed and variable rate income securities 8,513 16,241 4,974 3,992 468 385 776 111 35,460 Reinsurers’ share of insurance contract liabilities – 722 2,127 2 – – – – 2,851
Credit ratings have not been disclosed in the above tables for holdings in unconsolidated collective investment schemes. The credit quality of the underlying debt securities within these vehicles is managed by the safeguards built into the investment mandates for these vehicles.
Fixed and variable rate income securities 34,325 – – – – 59 34,384 Reinsurers’ share of insurance contract liabilities 2,772 – – – – – 2,772 Reinsurance receivables 67 – – – – – 67 Prepayments and accrued income 405 – – – – – 405 Other receivables 750 – – – – – 750 Cash and cash equivalents 4,962 – – – – 105 5,067 2013 Restated Neither past due nor impaired £m
Cash and cash equivalents 9,175 – – – – 119 9,294
40. RISK MANAGEMENT CONTINUED 40.3 FINANCIAL RISK ANALYSIS CONTINUED Concentration of credit risk Concentration of credit risk might exist where the Group has significant exposure to an individual counterparty or a group of counterparties with similar economic characteristics that would cause their ability to meet contractual obligations to be similarly affected by changes in economic and other conditions. The Group has most of its counterparty risk within its life business and this is monitored by the counterparty limits contained within the investment guidelines and investment management agreements, overlaid by regulatory requirements and the monitoring of aggregate counterparty exposures across the Group against additional Group counterparty limits. Counterparty risk in respect of OTC (‘over- the-counter’) derivative counterparties is monitored using a Value-at-Risk (VaR) exposure metric.
Collateral The credit risk of the Group is mitigated, in certain circumstances, by entering into collateral agreements. The amount and type of collateral required depends on an assessment of the credit risk of the counterparty. Guidelines are implemented regarding the acceptability of types of collateral and the valuation parameters. Collateral is mainly in respect of stock lending, certain reinsurance arrangements and to provide security against the maturity proceeds of derivative financial instruments. Management monitors the market value of the collateral received, requests additional collateral when needed, and performs an impairment valuation when impairment indicators exist and the asset is not fully secured (and is not carried at fair value). See note 34.3.1 for further information on collateral arrangements.
40.3.2 Market risk Market risk is the risk that the fair value or future cash flows of a financial instrument will fluctuate because of changes in market influences. Market risk comprises interest rate risk, currency risk and other price risk (comprising equity risk, property risk, inflation risk and alternative asset class risk).
A decrease of 1% in interest rates, with all other variables held constant, would result in a decrease in profit after tax in respect of a full financial year, and in equity, of £52 million (2013: a decrease of £142 million).
A 10% decrease in equity prices, with all other variables held constant, would result in an increase in the profit after tax in respect of a full financial year, and in equity, of £36 million (2013: an increase of £36 million).
A 10% decrease in property prices, with all other variables held constant, would result in a decrease in the profit after tax in respect of a full financial year, and in equity, of £27 million (2013: a decrease of £23 million).
40.3.3 Financial soundness risk Financial soundness risk is a broad risk category encompassing capital management risk, liquidity and funding risk, and tax risk.
Capital management risk is defined as the failure of the Group, or one of its separately regulated subsidiaries, to maintain sufficient capital to provide appropriate security for policyholders and meet all regulatory capital requirements whilst not retaining unnecessary capital. The PLHL Group has exposure to capital management risk through the requirements of the IGD and ICA, as implemented by the PRA, to calculate regulatory capital adequacy at a Group level. The Group’s UK life subsidiaries have exposure to capital management risk through the regulatory capital requirements mandated by the PRA. The Group’s approach to managing capital management risk is described in detail in note 39.
Net asset value attributable to unitholders 4,659 – – – 4,659 Obligations for repayment of collateral received 954 – – – 954 Reinsurance payables 9 – – – 9 Payables related to direct insurance contracts 358 – – – 358 Accruals and deferred income 130 – – – 130 Other payables 360 – – – 360 2013 Restated 1 year or less or on demand £m 1–5 years £m
A significant proportion of the Group’s financial assets are held in gilts, cash, supranationals and investment grade securities which the Group considers sufficient to meet the liabilities as they fall due. The vast majority of these investments are readily realisable immediately since most of them are quoted in an active market.