There’s more to Prudential. Fuelled by our successful retirement-led strategy, we delivered outstanding results during 2007, with sustained momentum across the Group.
Corporate governance 4 Business overview 6 Key performance indicators 7 Financial highlights 8 Chairman’s statement 10 Market overview 14 Group Chief Executive’s strategic review 20 Core capabilities 26 Operating and financial review 27 Key performance indicators 30 Group overview 40 Business unit review: Insurance operations: Asia, US, UK Asset management: M&G, Asia, US
65 Other corporate information 72 Risk management 81 Corporate responsibility review 102 Directors’ remuneration report
Financial statements and European Embedded Value (EEV) basis supplementary information 336 Risk factors 340 Shareholder information 342 How to contact us
From our origins as a UK domestic life insurance company we have rapidly grown our international operations over the last 20 years, and in 2007 over 75 per cent of our EEV new business profits came from Asia and the United States.
The Group is structured around four main business units: Prudential Corporation Asia, Jackson National Life Insurance Company, Prudential UK and M&G. These are supported by central functions which are responsible for leading Group strategy, cash and capital management, leadership development and succession, reputation management, and other core Group functions.
Jackson National Life Insurance Company is one of the largest life insurance companies in the US and provides retirement savings and income solutions in the mass and mass-affluent segments of the US market, primarily to retirees and those nearing retirement.
Prudential is a leading provider of retirement savings and income solutions and life assurance in the UK and has a unique combination of competitive advantages including its significant longevity experience, multi-asset management capabilities and its brand and financial strength. Prudential provides a range of financial products and services including annuities, corporate pensions, with-profits and unit-linked bonds, savings and investments products, protection, equity release and health insurance products.
†IFRS operating profits based on longer-term investment returns before restructuring costs and other income and expenditure.
Asian operations £1,103m £864m US operations £635m £718m UK operations: UK insurance operations £859m £686m M&G £254m £204m £1,113m £890m Other income and expenditure £(289)m £(298)m Restructuring costs £(20)m £(41)m
Profit from continuing operations before tax (including actual investment returns) £3,803m £3,222m
Profit after tax attributable to equity holders of the Company £1,022m £874m Basic earnings per share 41.8p 36.2p Shareholders' equity, excluding minority interests £6.2bn £5.5bn
Dividends per share declared and paid in reporting period 17.42p 16.44p
Results bases The EEV basis results have been prepared in accordance with the European Embedded Value Principles issued by the CFO Forum of European Insurance Companies in May 2004 and expanded by the Additional Guidance on EEV disclosures published in October 2005. The basis of preparation of statutory IFRS basis results and supplementary IFRS basis information is consistent with that applied for the 2006 results and financial statements.
Throughout the year we continued to strengthen the Group’s cash flow and capital position, and the Board has recommended a full year dividend of 18 pence per share, an increase of five per cent on 2006.
During the year we made a number of Board changes. In August we announced the appointments of Win Bischoff and Ann Godbehere as non-executive directors. We are delighted by the addition of their talents to our Board.
In September we announced that Philip Broadley, the Group’s Finance Director, would leave the company in May 2008 after eight years’ service. I would like to thank him for his immense contribution over that time. His successor, Tidjane Thiam, has an outstanding track record, and his broad knowledge and experience of the industry will be of great value to the Group.
Looking to the future, we feel that the prospects for the Group continue to be exciting, and that we have the positioning, the skills and the capabilities to continue to deliver profitable growth for our shareholders. As ever, my thanks go to all our people around the world for their contribution to our ongoing success.
The retail financial services industry is undergoing a fundamental transformation as one of the biggest demographic waves in history transitions out of the workforce and into active retirement. Some estimates suggest that, in the US and the UK alone, some £7 trillion of assets could move into the retirement market over the next five years, and there is also a significant and growing retirement opportunity in Asia.
Not only are these people likely to live longer than previous generations, but their needs are fundamentally different from their predecessors. In particular, many are looking for a more active lifestyle in retirement, but often underestimate the savings required for this. In addition, there is a move towards greater self-provision as a result of declining state support. The increased cost of long-term care is also a significant factor, as is the need to protect the value of assets against inflation over longer periods of time.
The retirement and near-retirement population will represent the fastestgrowing segments of the market over the next 10 years.
Projection of population aged 55+ 109m 101m 2015 91m 2010 80m 2005 70m
Projection of population aged 55+ 24m 23m 2015 21m 2010 19m 2005 18m
Asia remains a very attractive region for growth opportunities due to its high levels of economic activity translating into higher levels of personal wealth, greater disposable incomes, a comparatively higher propensity to save and a growing appetite for good quality protection and savings products.
The US is the largest retirement savings market in the world and is expected to continue to grow significantly over the next 10 years as the post-war generation reaches retirement.
Some estimates suggest that, in the United States and the United Kingdom, some £7 trillion of assets could move into the retirement market over the next five years, and there is also a significant and growing retirement opportunity in Asia. Prudential’s capabilities, geographic presence and powerful brands position it well to capture value from this retirement opportunity.
In 2007, the Group’s operating performance was outstanding building on the very strong momentum established in 2005 and 2006.
The combination of our retirement-led strategy, a clear focus on generating profitable growth, and excellence in the delivery of our plans is driving shorter-term performance and also placing the Group in a strong position from which to outperform in the longer term.
The retirement market offers significant long-term sustainable growth opportunities as the biggest demographic wave in history transitions out of the workforce and into retirement. The Prudential Group has a strong presence in this sector based on our financial strength, our investment and risk management skills, our brands and our product and distribution expertise.
On the statutory International Financial Reporting Standards (IFRS) basis, operating profit before tax from continuing operations was up 20 per cent to £1,213 million, almost doubling over a three-year period.
Group strategy overview Our objective Prudential’s overriding objective is to generate sustainable value for our shareholders by combining a clear focus on delivering profitable growth in the short term, with sound strategic positioning to capture long-term growth opportunities.
Our strategic focus Our strategy is centred on the global retirement opportunity, where we believe we have the assets and capabilities to capture a disproportionate share of this growing profit pool over the coming years.
Our key markets Geographically, we will focus on expanding our existing franchises in Asia, the US and the UK, where we already hold strong and often market-leading positions.
We will use our local knowledge to ensure we tailor solutions to local market needs while, at the same time, continuing to leverage the benefits of the Group as a whole in terms of greater capital efficiency, greater risk appetite and operational synergies.
Across the Group’s insurance operations new business increased by 21 per cent to £2,874 million on an Annual Premium Equivalent (APE) basis and profit on new business was £1,215 million, up 22 per cent. Average margin across the Group was maintained at 42 per cent (2006: 42 per cent).
The Group’s balance sheet and regulatory capital position remain robust. In particular, across the Group we have been cautious on credit for some time and we have been increasingly moving the portfolio to a more defensive position.
Outside the normal market value movements across the Group related to interest rates and widening credit spreads, net credit losses on debt securities in the US were £78 million.
The Board has recommended a final dividend of 12.3 pence per share, bringing the full year dividend to 18 pence per share, an increase of five per cent. The dividend was covered 1.9 times by post-tax IFRS operating profit from continuing operations.
New business profit was £653 million, up 34 per cent. Having achieved compound growth of 26 per cent since 2005 we expect to deliver, one year earlier than previously stated, on our target of at least doubling 2005 new business profit by 2009. EEV operating profit in Asia exceeded £1 billion for the first time this year as the business goes from strength to strength.
Growth in our proprietary agency force, greater agency productivity and the continuing development of non-agency distribution, in particular bancassurance, remain central to our success.
The retirement opportunity in the region is emerging rapidly and we are developing innovative, integrated savings and protection solutions to meet consumers’ increasingly sophisticated needs. Our retirement campaigns under the banner ‘What’s your number?’ have had considerable success in Korea, Taiwan and Hong Kong and we are now rolling this concept out into other markets.
United States The US is the largest retirement savings market in the world, and the strategy of Jackson National Life Insurance Company (Jackson) is to leverage its product innovation skills, relationship-based distribution model and low cost infrastructure to capture a growing and profitable share of this market.
Asia — At least double 2005 new business profits by 2009
— Operating cash flow improved and we are on target to be operating cash flow positive in 2008. The Group’s Insurance Groups Directive (IGD) surplus is estimated at £1.4 billion.
— The full year dividend is up five per cent with 1.9 times cover.
— We continue to share expertise across borders. For example, we have drawn on Jackson’s experience to offer variable annuity products in Asia.
— Asia expected to deliver doubling of 2005 EEV new business profit a year early.
— Agent numbers grew by 125,000 to 410,000, and agency sales were up 44 per cent. Agent productivity increased, including improvements of 67 per cent in Vietnam and 21 per cent in Singapore.
— Our variable annuity market share grew to 5.1 per cent, up from 4.6 per cent in 2006.
— We wrote one in four of the UK’s individual annuities and grew our lifetime mortgage business to a 14 per cent market share.
— M&G increased its distribution reach in Europe, and our Asian business broadened its multi-channel distribution network across the region.
There is also significant scope to develop our positioning in the health insurance market across the region and, with the launch of a number of new products, notably in Singapore and India, sales of health products in the year have increased by 45 per cent.
Overall new business in the US increased by 19 per cent to £671 million, on an APE basis, new business profit also increased by 19 per cent with margins maintained at 42 per cent and an internal rate of return of 19 per cent.
+25% EEV operating profit from continuing operations before tax £m 2006*
M&G’s net inflows were the second highest on record at £5 billion and profit increased by 25 per cent to £254 million. Our business in Asia continued its excellent growth record with net inflows of £3 billion and operating profit growing to £72 million, up 53 per cent.
Our skills in risk management and our strength across all asset classes in the UK, the US and in Asia, combined with our multi-asset allocation capabilities, position us well to meet the diverse needs of our customers for savings, retirement income and protection products.
This is clearly evidenced in the UK where the main withprofits fund, with assets of over £74 billion, was ranked first in 2006 in the WM Company’s survey of with-profits funds, based on gross investment performance over one, three, five and 10 years. In the US, one of the key drivers of our success is our ability to provide customised and highly flexible benefit options within our main variable annuity product that are individually priced for the customer and in Asia we continue to see success in our targeted unit-linked and protection products.
2008 Priorities Our overriding objective for 2008 remains that of continuing to create value for our shareholders by fully exploiting the power of our retirement-led strategy and continuing to expand the excellent businesses that we have in place today.
UK — Build on our strengths in the retirement market and risk products — Migrate to factory gate cautiously managed asset accumulation products — Deliver on the cost reduction programme including the outsource programme — Selectively participate in the wholesale market — Determine whether it is in the best interest of policyholders and shareholders to pursue a reattribution of the inherited estate
— Maintain superior investment performance for both internal and external funds
‘Overall the prospects for the Group in 2008 remain positive. Over the longer-term, the demographic, economic and social factors driving our business will continue and we are ideally positioned to capture a greater share of that growth.’
In the US, our record of outperformance is set to continue and our value driven strategy in the UK is on track. In the UK we have already de-emphasised those products which might have been more sensitive to market conditions.
Our asset management businesses, although more directly influenced by market movements, are well placed to capitalise on their strong market positions and investment performance to deliver net flows and profit growth.
Overall the prospects for the Group in 2008 remain positive. Over the longer term, the demographic, economic and social factors driving our business will continue and we are ideally positioned to capture a greater share of that growth.
Key skills Our risk and investment management capabilities underpin our business, enabling us to meet customers’ changing needs throughout their lifetimes. See page 22
Innovative products We have established a strong track record of delivering innovative solutions that meet customers’ needs, with a particular focus on helping them to save for, and secure an income in, retirement. See page 23
Powerful distribution networks Our broad and diverse distribution network is tailored to local market and customer needs, enabling us to deliver our products and services in the most efficient and effective way in each of our chosen markets. See page 24
Using the strapline ‘Retirement has more potential with Prudential’, advertisements have been running in the UK national press and online since October 2007, focusing on the opportunities that retirement brings.
In Asia, Prudential’s operations are unified under the Prudence icon, which enjoys consistently high recognition across the region. The brand has been built around understanding customers’ needs and leveraging the Group’s international scale and heritage to convey a sense of security, stability and trustworthiness. In 2007, we continued to position ourselves in the retirement space through our highly successful ‘What’s your number?’ campaign, which encourages people to think about the cost of their retirement lifestyle choices in an entertaining and engaging way. The concept has been carefully tailored and launched in six Asian markets to reflect the different cultures, needs and aspirations of our customers.
M&G conducted a brand review in 2007 to ensure that it was appropriately positioned as a heavyweight, investment-led business across all the international markets in which it operates. This led to the introduction in September of new branding which provides a fresh look for M&G and highlights the individual investment talent and flair that have always been at the core of its business. The new brand was launched via an extensive international marketing and advertising campaign and revamped website.
Our asset allocation and investment management capabilities are evident in the sustained top performance of our UK With-Profits Life Fund. In July 2007, we retained our top-ranking in the WM Life Fund Survey by WM, the independent fund-performance service provider. This ranking consolidates the superior position achieved in previous years, with Prudential retaining its top spot over 10 years.
In the US, our expertise in long-term guarantees has enabled us to design products for customers who increasingly want to combine the potential growth of equities with safeguards against risks such as inflation and market volatility.
At M&G, our success is underpinned by an impressive track record of investment performance in recent years. In 2007, some 45 per cent of the company’s retail funds delivered top quartile performance. In the wholesale marketplace, 86 per cent of M&G’s segregated institutional funds met or exceeded their benchmark performance. M&G has also continued to successfully leverage its internal fund management skills to create higher margin products for external customers, consolidating its position at the forefront of the leveraged loans, structured credit and infrastructure investment markets.
In the US, we are a leading provider of one of the country’s most popular retirement vehicles – the variable annuity. We have one of the most flexible products on the market, with a range of 2,300 benefit combinations. In 2007, we introduced six new guaranteed living benefits and a further 20 investment options.
In Asia, we constantly update our product range to ensure it is appealing and relevant to customers’ changing needs. For example, in 2007 we extended the funds range for our linked products, including a new property fund in Singapore, and a new Shariah-compliant range in Indonesia.
In Taiwan we leveraged Jackson’s experience to develop an annuity product which helped drive new business volumes up 71 per cent in 2007. We have also been developing a range of health-related products, which we have successfully piloted in Singapore, India, and Hong Kong.
In the UK, we have a multidistribution approach including financial advisers and consultants, banks, direct to consumers and distribution partnerships, to reflect the diversity of our product range across the retirement savings, retirement income and protection sectors. During 2007, we focused on strengthening relationships with key, high potential advisers by offering more localised support and a business-partner approach. We also continued to build our strategic partnerships, including an agreement with Barclays to be the preferred supplier of conventional annuities to its retail customers in the UK.
Our fund management businesses distribute through a wide range of channels and geographies. European cross-border distribution has accelerated, which has continued to open up significant bank and life company distribution opportunities for M&G. Over the past five years, M&G has expanded its retail business beyond the UK into the major European markets, the Middle East, South America and Asia.
Our Asia fund management business distributes its retail funds predominantly through banks and brokers. Over the last few years, we have built an impressive network of distributors, and now work with most of the major players in each market.
26 Operating and financial review 27 Key performance indicators 30 Group overview 40 Business unit review: Insurance operations: Asia, US, UK Asset management: M&G, Asia, US
The following metrics represent the financial key performance indicators (KPIs) the directors use to judge the delivery of strategies and the management of the continuing operations of the business: — New business premiums, calculated on an Annual Premium Equivalents (APE) basis and on a Present Value of New Business Premium (PVNBP) basis; — European Embedded Value (EEV) basis new business profits; — internal rate of return (IRR) on new business; — external funds under management (FUM); — EEV basis operating profit based on longer-term investment returns on long-term business; — International Financial Reporting Standards (IFRS)
‘Prudential is well positioned in markets that offer highly attractive opportunities for strong organic growth over the next 10 years.’
Internal rate of return (IRR) on new business Improving capital efficiency is at the heart of Prudential’s commitment to deliver superior growth in value for its shareholders.
The internal rate of return is equivalent to the discount rate at which the present value of the post-tax cash flows expected to be earned over the lifetime of the business written in shareholder-backed life funds is equal to the total invested capital to support the writing of the business. The capital included in the calculation of the IRR is equal to the amount required to pay acquisition costs and set up statutory reserves less premiums received, plus encumbered capital. The impact of the time value of options and guarantees is included in the calculation.
External funds under management Prudential’s focus in external asset management is to increase external funds under management and deliver sustained profitable growth from its asset management businesses.
At 31 December 2007, external FUM was £69 billion compared with £57 billion at 31 December 2006 (CER basis).
This growth has been achieved through expanding into new markets and broadening the Group’s product range, and leveraging cross regional collaboration all underpinned by excellent investment performance. The fundamentals are in place to sustain this growth in the future.
External funds under management represent principally the value of the total investment products managed by the M&G, Asia and the US asset management businesses. Jackson’s US Retail Mutual Funds were launched in 2007.
+19% External funds under management £bn £69bn £57bn2006 £57bn 2005 £46bn 2004 £37bn
Holding company cash flow Prudential aims to generate cash for the Group without constraining the allocation of capital to optimise return from value-creating opportunities in its businesses. The holding company had a net cash outflow of £82 million in 2007, an improvement of £22 million on 2006 primarily as a result of the increased remittances from business units in 2007, partially offset by lower group relief on taxable losses. Additionally, the holding company received £527 million from the disposal of Egg (net of expenses).
The Group is confident that it has the capital and cash resources to fund its planned future organic growth.
Prudential’s objective is to focus on its strengths and exploit opportunities in the local markets in which it operates. Prudential’s strategy of leveraging its knowledge and expertise across product development, distribution and administration, is designed to allow it to continue to deliver operating profit growth in the future.
Total cash remitted to Group Tax and corporate activities Interest and dividends Capital invested in business units (Decrease)/increase in cash
+20% IFRS operating profit based on longer-term investment returns from continuing operations £m £1,213m £1,008m 2005 £884m 2004 £615m
+20% EEV operating profit based on longer-term investment returns from long-term business £m £2,517m £2,103m
Prudential believes that embedded value reporting provides investors with a better measure of underlying profitability of the Group’s long-term businesses and is a valuable supplement to statutory accounts.
At 31 December 2007, total insurance and investment funds under management are £267 billion, up from £251 billion at the end of 2006 at reported exchange rate (RER).
Basis of preparation of results The European Union (EU) requires that all listed European groups prepare their financial statements in accordance with EU approved IFRS. Since 1 January 2005, Prudential has been reporting its primary results on an IFRS basis.
3 Based on longer-term investment returns from continuing operations. Operating profit is stated excluding the effect of short-term fluctuations in investment returns against the long-term assumptions, the effect of changes in economic assumptions, actuarial gains and losses on defined benefit schemes and the mark to market value movements on borrowings.
basis for other long-term business. Although the statutory transfers from with-profits funds are closely aligned with cash flow generation, the pattern of IFRS profits over time from shareholder-backed long-term businesses will generally differ from the cash flow pattern. Over the life of a contract, however, aggregate IFRS profits will be the same as aggregate cash flow.
Total EEV basis operating profit from continuing operations 2,562 2,071 24 2,174 18
Record new business profit from insurance business of £1,215 million, was 22 per cent higher than in 2006, driven by strong sales momentum in Asia and the US. At RER, new business profit was up 17 per cent. The average Group new business profit margin was 42 per cent (2006: 42 per cent) on an APE basis and 5.7 per cent (2006: 5.5 per cent) on a PVNBP basis. This reflects an increase in the average UK margin offset by a fall in the average Asia margin. In-force profit increased 17 per cent on 2006 to £1,317 million. At RER, in-force profit was up 11 per cent. In aggregate, net assumption changes were £97 million positive, and experience variances and other items were £48 million positive.
The Group wrote £2,874 million of sales on an APE basis. To support these sales, the Group invested £544 million of capital. This amount covers both new business acquisition expenses, including commission of £236 million and the required capital of £308 million. The total investment of capital for new business amounts to approximately £19 million per £100 million of APE sales. These sales provided a post-tax new business contribution to embedded value of £865 million.
In Asia, capital was invested to support sales at an average rate of £15 million per £100 million of APE sales.
Movement in mark to market value of core borrowings: 223 85
Profit from continuing operations after tax before minority interests 2,842 2,318 23
In the calculation of EEV operating profit longer-term investment return assumptions are used rather than actual investment returns achieved. Short-term fluctuations in investment returns are reported separately in the analysis of profit.
In Asia, long-term business short-term investment fluctuations were £226 million, compared to £286 million last year. This reflects favourable equity performance in most territories, principally Hong Kong, Vietnam and Singapore offset by an unfavourable valuation movement of £30 million on an investment of the Taiwan life business in a CDO fund.
The US business short-term fluctuations in investment returns of £(8) million primarily include: a negative £44 million in respect of the difference between actual investment returns and longer-term returns included in operating profit in respect of fixed income securities and related swap transactions; a negative £16 million in relation to changed expectations of future profitability on variable annuity business in force due to the actual variable investment account (separate account) return being lower than the long-term return reported within operating profit, offset by the impact of the associated hedging position; and a positive £51 million in respect of the difference between actual investment returns and long-term returns
In the US, economic assumption changes of positive £81 million primarily reflect a reduction in the risk discount rates following a reduction in the US 10-year Treasury rate, partially offset by a reduction in the separate account return assumption.
The mark to market movement on core borrowings was a positive £223 million reflecting the reduction in fair value of core borrowings as the decrease in interest rates is more than offset by the widening of the credit spread, thereby increasing overall market yields on comparable debt securities.
On 1 May 2007, Prudential completed the sale of Egg Banking plc to Citi for a consideration, net of transaction expenses, of £527 million. The profit from discontinued operations is £241 million being the profit on disposal of £290 million, net of the post-tax loss of £49 million from 1 January 2007 to the date of sale.
IFRS basis operating profit based on longer-term 2007 2006 Change 2006 Change investment returns from continuing operations £m £m % £m %
Total IFRS basis operating profit based on longer-term investment returns after restructuring costs 1,213 1,008 20 1,050 16
The increase in Prudential Corporation Asia’s operating profit of seven per cent for long-term business before development expenses reflects improved profitability in mature markets with significant contributions to operating profit from Singapore, Malaysia and Hong Kong, representing £153 million of the total operating profit in 2007, up 15 per cent on 2006. There were increased contributions from each of Indonesia, Taiwan and Vietnam as these operations continue to build scale. Five life operations made IFRS losses: £43 million in India which is a relatively new business, incurring costs in rapidly building scale through its expansion strategy and losses of £16 million in Japan. Korea’s loss reflects new business growth. China and Thailand are marginally loss making.
The Asian asset management operations reported operating profits of £72 million, a growth of 53 per cent over 2006, driven by strong contributions from Vietnam, India and Taiwan.
Operating profit from continuing operations based on longerterm investment returns after restructuring costs 1,213 1,050 16
Shareholders’ share of actuarial and other gains and losses on defined benefit pension schemes 90 167
Profit before tax from continuing operations attributable to shareholders 1,166 1,372 (15)
Profit from continuing operations for the financial year after tax 784 980 (20)
Discontinued operations (net of tax) 241 (105) Minority interests (3) (1)
Profit for the year attributable to equity holders of the company 1,022 874 17
The fluctuations for the Asian operations primarily reflect reduced values for debt securities in Taiwan and a
Profit after tax and minority interests was £1,022 million compared with £874 million in 2006. The effective rate of tax on operating profits, based on longer-term investment returns, was 32 per cent (2006: 29 per cent). The effective rate of tax at the total IFRS profit level for continuing operations was 33 per cent (2006: 29 per cent). The effective tax rates in 2007 were broadly in line with those expected except for some Asian operations where there is a restriction on the ability to recognise deferred tax assets on regulatory basis losses.
EPS based on operating profit from continuing operations after tax and minority interest: Basic EPS based on total profit after minority interest
The Board will focus on delivering a growing dividend, which will continue to be determined after taking into account the Group’s financial flexibility and opportunities to invest in areas of the business offering attractive returns. The Board believes that in the medium term a dividend cover of around two times is appropriate.
Shareholders’ funds On the EEV basis, which recognises the shareholders’ interest in long-term businesses, shareholders’ funds at 31 December 2007 were £14.8 billion, an increase of £2.9 billion from the 2006 year-end level (2006: £11.9 billion at RER). This 24 per cent increase primarily reflects: total EEV basis operating profit of £2,542 million; a £174 million favourable movement in shortterm fluctuations in investment returns; a £748 million positive movement due to changes in economic assumptions and in time value of cost of options and guarantees; a positive movement on the mark to market of core debt of £223 million; the proceeds for the share capital issue of the parent company for £182 million; a positive movement in the actuarial gains on the defined benefit pension schemes of £116 million and the positive impact of £64 million for foreign exchange movements. These were offset by: a tax charge of £961 million and dividend payments of £426 million made to shareholders.
The shareholders’ funds at 2007 of £14.8 billion comprise: — £3.7 billion for the Asian long-term business operations; — £3.6 billion for the US long-term business operations; — £6.5 billion for the UK long-term business operations; and — £1 billion for other operations.
At the year end the embedded value for the Asian long-term business was £3.7 billion. The established markets of Hong Kong, Singapore and Malaysia contribute £2,704 million to the embedded value generated across the region with Korea (£304 million) and Vietnam (£234 million) making further substantial contributions. Prudential’s other markets, excluding Taiwan, in aggregate contribute £496 million in embedded value. Taiwan has a negative embedded value of £12 million; this positive movement against prior year (2006: negative £216 million) is a reflection of an increase in new business and a change in economic assumptions.
risk discount rates, would result in a £91 million decrease in Taiwan’s embedded value. A similar one per cent positive shift in interest rates would increase embedded value by £67 million. On the assumption that bond yields remained flat during 2008 and then trended towards 5.5 per cent in December 2014, this would have reduced the 2007 Taiwan embedded value by £70 million. Sensitivity of the embedded value to interest rate changes varies considerably across the region. In aggregate, a one per cent decrease in interest rates, along with all consequential changes noted above, would result in a negligible percentage change to Asia’s embedded value.
Analysis of movement in EEV shareholders’ funds £m: 31 December 2006 to 31 December 2007
Decrease in operating cash (82) (104) Egg sale net proceeds 527 0
The Group holding company received £711 million in cash remittances from business units in 2007 including the shareholders’ statutory life fund transfer of £261 million from the UK business.
After dividends and net interest paid, there was a net cash inflow of £372 million (2006: £160 million). There was a high take-up of scrip dividends in 2007.
In aggregate this gave rise to an improvement in operating cash outflow to £82 million from £104 million in 2006.
The Group received £527 million from the disposal of Egg (net of expenses), and the reduction in net interest paid in 2007 includes the investment income earned on these proceeds.
The ability to execute the strategy is highly dependent on the strength and depth of the management talent pool in the region and consequently Prudential invests in continually strengthening and developing its teams. The operating model empowers local management teams with a regional team overseeing control functions such as risk management and providing strategic guidance and technical support in areas such as distribution optimisation and product design.
Prudential has a market-leading platform with top five market share positions, in terms of new business APE, in seven of its 12 markets. Prudential has the leading private sector life insurance joint ventures in China and India.
‘In 2007 Prudential delivered new business APE of £1,306 million from Asia, representing very strong growth that averaged 44 per cent over 2006, with all operations delivering double-digit growth.’
‘Prudential has already begun positioning itself as a provider of retirement solutions through the roll-out of the successful ‘What’s your number?’ campaigns in six countries.’
Agency is the predominant distribution channel in Asia and for Prudential, the agency force again generated 70 per cent of new business volumes in 2007. Success in agency distribution requires building and maintaining meaningful scale in terms of agent numbers whilst also providing the infrastructure to manage agent training and skills development to drive agency productivity. Prudential’s agency priority depends on the stage of development of each individual market and Prudential’s operation within it. For example in India, Prudential’s joint venture with ICICI has been rapidly expanding, with the addition of 593 new branches during the year to give a total 1,065 and correspondingly average agent numbers in 2007 increased by 123 per cent and at 31 December there were
Similarly in China, although the rate of geographic expansion is slower as each new city requires separate regulatory approvals, the emphasis is also on expanding the agency channel; average numbers were up 38 per cent and at 31 December there were 20,500 agents. In markets where we have sufficient agency scale, the emphasis is on helping those agents become more productive through intensified training and sales management support. Agent productivity, in terms of average APE per agent, increased by 67 per cent in Vietnam and 21 per cent in Singapore during 2007.
Prudential has a large partnership distribution network in Asia. During 2007, Prudential extended its agreements with Standard Chartered Bank to include Taiwan where it will exclusively provide bancassurance products in their newly acquired HsinChu International Bank with its 83 branches and 2.4 million customers. In Korea regulation states that a bank can only source a maximum of 25 per cent of its total insurance sales from any one insurer, and with Prudential’s existing bank partners regularly reaching their maximum shares, adding new banks is a priority. In 2007 Prudential secured two major new banks, Industrial Bank of Korea and Kookmin Bank.
Prudential’s regional bancassurance relationship with Citibank also grew strongly, with new business APE generated of £23 million being 12 per cent of total bank distribution for 2007.
Total EEV basis operating profit* 1,046 779 34 829 26 *Based on longer-term investment returns excluding fund management operations, development and regional head office expenses.
Good results were attained from systematic cross-sell campaigns across the region, contacting more than two million of our existing customers. These included the initiation of a regular up-sell in Hong Kong through the indexation of policy benefits and initiatives to capture maturity proceeds in Singapore as well as a targeted offer of guaranteed increases in protection benefits in Malaysia.
Although still small, new business from direct marketing grew by 65 per cent over 2006 with Thailand performing well and recording growth of 52 per cent. The regional Direct Marketing team has been strengthened and work is now under way on exploring further opportunities.
‘Asia expects to deliver doubling of 2005 EEV NBP a year early by 2008.’
New business profit increased by 34 per cent as the average profit margin reduced from 54 per cent to 50 per cent mainly due to a change in the country mix of the sales. China, Hong Kong, Korea and Taiwan all reported increases in new business profit margins compared to 2006. In India, the branch expansion programme has led to an increase in policy acquisition and maintenance costs and therefore a rebasing of the expense assumptions. The reduction in average margin for the other countries was due to a change in country mix.
In-force embedded value profits of £393 million are driven principally by the unwind of discount, with net assumption changes of £54 million and net experience variances of £(1) million. Assumption changes were principally due to favourable changes in corporation tax and positive mortality assumption changes. Negative persistency assumption changes are offset by positive expense assumption changes. Experience variances mainly reflected positive mortality across all operations partially offset by expense overruns in the newer operations of China, India and Vietnam.
Established markets (Hong Kong, Singapore, Malaysia) 153 134 15 North Asia (Taiwan, Korea, Japan) 16 20 (20) Joint venture markets (China, India) (49) (20) (146) Other SE Asian markets (Indonesia, Vietnam, Thailand, the Philippines) 68 43 58
‘What's your number?' retirement campaign Prudential’s ‘What’s your number?’ campaign encourages individuals to identify and save toward a retirement goal that will support their lifestyle. Since 2005, the campaign has been launched in Korea, Hong Kong, Taiwan, Malaysia, Singapore and India.
In 2007 the Asian Life operations were again net remitters of cash to the Group of £56 million. Remittances totalling £148 million were from Hong Kong, Indonesia, Malaysia, Singapore and included the first remittance from Vietnam. The Life operations received injections of £92 million, of which £49 million was injected into India to support branch expansion with the balance primarily injected into China and Korea to support solvency requirements as a result of new business growth.
IRR for Asia was in excess of 20 per cent for 2007. In Asia, Prudential targets IRRs on new business to be at least 10 percentage points over the country risk discount rate, where these vary from five per cent to 17 per cent. During 2007 all markets except India and Japan met this target.
Despite these favourable demographics, US life insurers face challenges from both within and outside the industry. The industry remains highly fragmented, with the top 15 annuity companies sharing only 74 per cent of the total market share in 2007 (source: LIMRA). Competition is intensifying through aggressive price competition. Life insurers also find themselves competing with other financial services providers, particularly mutual fund companies and banks, for a share of US retirement savings assets.
Clark Manning President and Chief Executive Officer of Jackson National Life Insurance Company
‘Jackson achieved record APE sales of £671 million in 2007, representing a 19 per cent increase on 2006. This growth was led by a continued increase in variable annuity sales.’
experienced significant volatility during the second half of the year. The S&P index increased six per cent through June 2007, yet ended the year 2.5 per cent lower than in June and 5.7 per cent lower than at the end of October. This volatility and concerns about the US economy are expected to increase investors’ interest in guarantees on products with equity-based returns.
Jackson markets its retail products primarily through advice-based distribution channels, including independent agents, independent broker-dealer firms, regional brokerdealers, banks and registered investment advisers. Jackson also markets life insurance and fixed annuity products through its captive insurance agency, which is concentrated in the south-eastern US.
Current year initiatives The core business priorities were outlined as: — Continue enhancement and expansion of the existing product offering.
Jackson continues to base its success in the evolving US market on industry-leading distribution and product innovation coupled with sound evaluation of product economics. Jackson’s longterm goals include the continued expansion of its share of the US annuities and retail asset management markets, which it plans to achieve by leveraging its relationship-based distribution advantage in the advice-based channels. Growth in Jackson’s share of the US annuities market will be largely contingent upon continued enhancement and expansion of the existing product offering, increased penetration of existing distribution channels and entry into new distribution channels, as well as opportunistic acquisition activity.
Innovation in product design and speed to market continue to be key drivers of Jackson’s competitiveness in the variable annuity market. High-quality, cost-effective technology has allowed Jackson to offer a comprehensive product portfolio that can be customised to meet the needs of individual customers. Products are offered on an unbundled basis, allowing customers to select those benefits that meet their unique financial needs and pay only for those benefits that they truly need. This advantage, coupled with distribution through advice-based channels, allows Jackson to effectively meet individuals’ longterm retirement savings and income needs. Jackson believes that leveraging this advantage is a more sustainable long-term strategy than price competition and, as a result, will not sacrifice product economics for a short-term increase in market share.
*Based on longer-term investment returns excludes broker dealer, fund management and Curian.
Jackson supports its network of independent agents and advisers with award-winning customer service and marketing support. In 2007, the Service Quality Measurement Group rewarded Jackson with its third World Class Customer Satisfaction Award. Jackson’s marketing campaigns continue to win awards for achievement in graphic design, editorial content and overall communications excellence.
Through organisational flexibility and excellence in execution, coupled with product innovation, a successful distribution model and a strong service offering, Jackson increased its share of the US variable annuity market to 5.1 per cent for full-year 2007 (source: Morningstar Annuity Research Center), up from 4.6 per cent for the full-year 2006.
Jackson continues to expand its product portfolio, adding a variety of new features during 2007. The company enhanced its variable annuity portfolio by adding 20 new underlying investment options, four new guaranteed minimum withdrawal benefits (GMWBs), one new guaranteed minimum income benefit (GMIB) and its first guaranteed minimum accumulation benefit (GMAB).
Jackson continues to seek bolt-on acquisitions that will complement its long-term organic growth strategy. Transactions will need to meet or exceed Jackson’s targeted rate of return and will likely be in the life insurance channel, which provides stable future cash flows. Depending on the opportunities that become available, Jackson may consider utilising securitisation financing for these bolt-on transactions.
Financial performance Jackson achieved record APE sales of £671 million in 2007, representing a 19 per cent increase on 2006. This growth was led by a continued increase in variable annuity sales. On a PVNBP basis, new business sales were £6.7 billion. Retail APE sales in 2007 of £577 million were up 19 per cent over 2006.
Jackson delivered record variable annuity APE sales of £455 million in 2007, up 29 per cent over 2006. In 2007, Jackson maintained its ranking of 12th in gross variable annuity sales (Source: Morningstar Annuity Research Center).
Fixed index annuity sales continued to be affected by the uncertain regulatory environment in the US and the impact of low interest rates on caps and participation rates that are offered. As a result, industry sales were nearly one per cent lower in 2007 compared to 2006 (Source: Advantage Group
The variable annuity new business margin decreased from 49 per cent in 2006 to 42 per cent in 2007, primarily due to a 70 basis point decrease in the risk-free rate from 2006 to 2007. The lower risk-free rate resulted in a decrease in the assumed separate account return that was partially offset by a decrease in the risk discount rate. In addition, Jackson reviewed its experience assumptions during the year and revised certain partial withdrawal and expense assumptions, which also decreased the new business margin.
The fixed annuity new business margin increased significantly from 16 per cent to 28 per cent, primarily as a result of a decrease in the risk discount rate for the year.
In the United Kingdom, we focus on those segments of the retirement income and savings markets where we can generate attractive returns. In 2007 we retained our leadership position in individual annuities, writing one in four of the contracts sold during the year. This success was achieved without compromising overall margins and returns which were among the highest in the UK insurance sector.
In 2007, Prudential UK continued its strategy of selectively competing in areas of the retirement savings and income markets where it can generate attractive returns.
Prudential UK’s Retail business is focusing on savings and income for those customers nearing or in retirement. Its retirement income business aims to continue to drive profitable growth in its core annuities operation and grow its presence in the equity release market. The significant 25-year pipeline of internal vestings annuity business from maturing individual and corporate pensions policies is enhanced by strategic partnerships with third parties, where Prudential UK is the recommended annuity provider for customers vesting their pension at retirement. This scale enables our selective value-based participation in the external vestings market.
Annuities remain core drivers of the sales and profit derived by Prudential UK, which now has approximately 1.5 million annuities in payment.
Prudential UK remains a market leader in the with-profits market. These products offer a medium to long-term, mediumrisk investment with exposure to a diverse range of assets that is particularly important to many customers against the backdrop of market uncertainty.
In the Retail accumulation business, Prudential UK continues to be a market leader in the corporate pensions market where it is a provider of over 20 per cent of FTSE 350 companies and the largest provider of pension schemes to the UK public sector. Prudential now administers corporate pensions for over 600,000 members.
— Realigning cost base to the selective business strategy. — Delivering wholesale transactions with attractive rates of return.
‘Prudential UK has a unique combination of competitive advantages including its significant longevity experience, multi-asset management capabilities and its brand and financial strength.’
Total EEV basis operating profit* 859 686 25 686 25 *Based on longer-term investment returns.
However, this has left many retirees income poor but asset rich. Prudential UK’s lifetime mortgage business grew its share of the lifetime mortgage market to 14 per cent through its distinctive drawdown product and strong brand. In the third quarter a number of product enhancements were introduced, including an inheritance guarantee and a new lump sum product. Prudential expects both its market share and the overall market size to grow.
In a relatively volatile investment market there has been a marked increase in demand for cautious managed solutions providing enhanced returns. In February 2007, Prudential UK launched the Cautious Managed Growth Fund and the Managed Defensive Fund, using Prudential’s strengths in investment expertise and in disciplined approach to asset allocation. These funds have the potential to offer a better longer-term return than a bank or building society account and allow the customer to access real returns with lower volatility. These funds are available across the full tax wrapper suite, including onshore and offshore bonds, individual pensions and mutual funds.
During 2007, Prudential UK introduced customer-agreed remuneration across some of its product lines. Under this model, financial advisors agree their remuneration directly with the customer and not with the product provider, and in doing so make commission structures far more transparent. This is in line with Prudential UK’s focus on building strong long-term relationships with advisers as well as offering market-leading retirement solutions.
By the end of 2007 £115 million of the cost-saving target had been delivered. The remaining £80 million, including the £60 million generated from the Capita contract, will be delivered by the end of 2010.
In December, Prudential completed the transfer of Equitable Life’s portfolio of in-force with-profits annuities. This book covers approximately 62,000 policies with assets of approximately £1.74 billion. This deal grows Prudential’s with-profits business and creates value for both Equitable policyholders and Prudential’s shareholders and policyholders.
A strong Retail performance saw a four per cent increase in sales and a 17 per cent increase in new business profit to £223 million, demonstrating the continuing benefits of selectively participating in product lines that can deliver attractive returns. Retail sales growth was driven by strong performances in individual annuities, corporate pensions, with-profits bonds and lifetime mortgages.
Prudential’s advertising campaign in the UK, focusing on its market-leading Life Fund investment returns and related bonus declaration
Other charges of £77 million include £36 million of costs associated with product and distribution development; £13 million for an annual fee paid by the shareholder business to the Prudential Assurance Company’s (PAC) with-profits sub-fund for the use of the Prudential and Scottish Amicable trademarks; £14 million in respect of the tariff arrangement with Scottish Amicable Insurance Finance (SAIF), which terminates at the end of 2007 and £14 million in relation to other items.
Prudential continues to manage actively the retention of the in-force book. During 2007, experience at an aggregate level has been in line with our long-term assumptions as evidenced by the small positive experience variance.
+25% Total EEV basis operating profits £m £859m £686m 2005 £426m
APE new business premiums £m £715m £182m £212m £287m £688m 2005 £605m
markets that are increasingly favouring greater product transparency, greater cross-border opportunities and more open-architecture investment platforms. Wholesale profit streams are also growing.
‘M&G recorded another year of record profits in 2007 with an operating result of £203 million.’
M&G is an investment-led business with a demonstrable focus on performance delivery and aims to offer attractive products in a variety of macro-economic environments. M&G aims to
deliver superior investment performance and maximise risk-adjusted returns for our retail, wholesale and internal clients. External funds under management account for nearly a third of M&G’s total funds under management and it is this higher-margin external business that drives profitability and cash generation for the Group.
Returns1 on Prudential’s Life Fund assets were 66 basis points ahead of benchmark and 143 basis points better than peer group.
The way that clients purchase asset management products continued to evolve during 2007. The retail asset management sector benefited from the increasing shift by retail investors towards more transparent investment products, such as unit trusts, and M&G’s range of market-leading funds has positioned it well to benefit from this trend. M&G extended its range of innovative new funds during 2007 with the launch of the M&G Cautious Multi Asset Fund and M&G Global Convertibles Fund.
European cross-border distribution of retail funds has accelerated and the trend in favour of ‘Open Architecture’ in both the UK and Europe continues to open up significant bank and life company distribution opportunities. Parallel to this, distribution of mutual funds has become increasingly intermediated and has been accompanied by the rise of professional buyers who demand higher levels of service and investment information, areas in which M&G has considerable expertise. M&G has continued to expand its geographic coverage in Europe with the first full year of operations in Spain and the launch of M&G’s funds in France in October 2007, which has given M&G access to Europe’s largest mutual fund market.
‘In order to support its retail and wholesale strategy, M&G places a high priority on the recruitment, development and retention of top-quality staff.’
M&G’s global macro investment business was established in 2005 and has grown to £1.5 billion in external funds under management as at the end of 2007. It contributed £11.2 million in profits to M&G in 2007, including performance-related fees.
Financial performance M&G recorded another year of record profits in 2007 with an operating result of £203 million (2006: £161 million), representing profit compound annual growth rate (CAGR) of 34 per cent since 2003. Underlying profit growth, which excludes volatile performance related fees (PRFs) and carried interest earned on private equity investments, has grown at 36 per cent CAGR over the same period to £175 million (2006: £134 million).
Profit growth is driven by four key factors: appreciation of underlying assets, positive net sales, increasing mix of higher-margin business and decreasing cost/income ratio.
The underlying growth in M&G’s principal investment markets over recent years has been strongly supportive of its performance. While this growth is beyond the company’s control, M&G has been successful at increasing diversity in terms of both asset class and distribution channel in order to reduce exposure to cyclical downturns in individual markets.
‘M&G continues to provide capital efficient profits and cash generation for the Prudential group, as well as strong investment returns on its long-term business funds.’
M&G continues to provide capital efficient profits and cash generation for the Prudential group, as well as strong investment returns on its long-term business funds. Cash remittances were £99 million in 2007.
Prudential Capital (re-branded from Prudential Finance in 2007) manages Prudential’s balance sheet for profit through leveraging Prudential’s market position. The business has three strategic objectives: to operate a first class wholesale and capital markets interface; to realise profitable proprietary opportunities within a tightly controlled risk framework; and to provide professional treasury services to Prudential. Prudential Capital generates revenue by structuring transactions, providing bridging finance, and operating a securities lending and cash management business for Prudential and its clients.
The business has continued to grow in terms of investment, infrastructure and personnel in a controlled way while maintaining the dynamism and flexibility that it requires to identify and realise opportunities for profit. Prudential Capital is committed to working closer with other Group business units to deliver opportunities and to improve value creation for the Group. Prudential Capital is also taking a more holistic view on hedging strategy, liquidity and capital management for the Group.
Prudential Capital has a diversified earnings base derived from bridging, structured finance and wholesale markets.
Prudential Capital delivered a good financial result in 2007, driven by increased investment activity and strong securities lending performance. As a result of increased revenue and maintaining a low cost/income ratio, operating profits increased by 19 per cent to £51 million, resulting in a cash remittance to the holding company of £40 million.
Prudential’s asset management business in Asia supports the Life Business, and has established itself as an increasingly material retail business in its own right. Today it has retail operations in 10 markets and is the only foreign fund manager with a top five market share position in more than one Asian country.
Current initiatives Fund innovation is essential in maintaining sales levels and distribution agreements, and during 2007 Prudential’s operations launched 71 new funds. The largest of which include two India funds for Japan; the India Equity Fund and the India Infrastructure Fund. The China Dragon A Share Equity Fund in Korea reached its regulatory cap in two weeks and the Asia Pacific REIT in Taiwan also reached its regulatory cap.
A key achievement in 2007 was the expansion of regional distribution relationships with Citi and HSBC. The Asian asset management business also signed a global partnership agreement with HSBC Private Banking and is now part of the Credit Suisse Fundslab platform.
Prudential launched a retail mutual fund business in Hong Kong in October 2007. Since launch six distribution relationships have been signed, including banks, financial advisers and an online portal.
In August 2007, Prudential increased its stake in CITIC Prudential Fund Management, its joint venture with CITIC Group in China, from 33 per cent to 49 per cent, following approval from regulators. This joint venture launched its first Qualified Foreign Institutional Investor fund in Korea in May 2007 and hit its £100 million quota.
PPM America (PPMA) manages assets for Prudential’s US, UK and Asian affiliates. PPMA also provides investment services to other affiliated and unaffiliated institutional clients including collateralised debt obligations (CDOs), private equity funds, institutional accounts and mutual funds. PPMA’s strategy is focused on effectively managing existing assets, maximising synergies with international asset management affiliates and leveraging investment management capabilities across the Prudential Group. PPMA also opportunistically pursues third-party mandates.
— Assuming management of over £194 million of funds under management from Curian.
— Assuming additional responsibilities for the UK life fund, growing assets by £2 billion.
Financial performance IFRS operating profit in 2007 was £4 million, down from £10 million in 2006, primarily due to lower investment income and performance-related fees, partially offset by asset-driven fee growth.
Year-end 2007 funds under management of £39 billion were as follows: PPMA funds under management £bn
NPH continues to grow through significant recruiting efforts. By leveraging its high-quality, state-of-the-art technology, NPH provides its advisers with the tools they need to operate their practices more efficiently. Through its relationship with NPH, Jackson continues to benefit from an important retail distribution outlet, in addition to receiving valuable insight into the needs of financial advisers and their clients.
Financial performance NPH had a very successful year in 2007, generating record revenues of £300 million versus £246 million in 2006 on gross product sales of £7.1 billion. The network continues to generate profitable growth with 2007 IFRS operating profit of £9 million, a 50 per cent increase at CER from £6 million in 2006. NPH also increased the number of registered advisers in its network to 3,000 at year-end.
Financial performance As a result of these initiatives, Curian continued to build its position in the US retail asset management market with total assets under management at the end of December 2007 of £1.7 billion, up from £1.2 billion at the end of December 2006. Curian also generated record deposits in 2007 of £663 million, up 57 per cent over 2006. Curian’s IFRS operating loss declined to £5 million in 2007 (2006: £7 million at CER).
Curian funds under administration £m £1,743m £1,222m 2005 £839m 2004 £530m
Subordinated or hybrid debt is debt capital which has some equity-like features and which would rank below other senior debt in the event of a liquidation. These features allow hybrid debt to be treated as capital for FSA regulatory purposes. All of the Group’s hybrid debt which qualifies in this way is held at the Group level and is therefore taken as capital into the parent solvency test under the Insurance Groups Directive (IGD).
Financial instruments The Group is exposed to financial risk through its financial assets, financial liabilities, and policyholder liabilities. The financial risk factors affecting the Group include market risk, credit risk and liquidity risk. Information on the financial risk management objectives and policies of the Group and the exposure of the Group to the financial risk factors is given in the Risk Management section of the Operating and Financial Review and in Section C of the financial statements on pages 165 to 168.
Shareholders’ borrowings and financial flexibility Core structural borrowings of shareholder-financed operations at 31 December 2007 totalled £2,492 million, compared with £2,612 million at the end of 2006 (excluding Egg). This decrease reflected the repayment of £150 million long-term borrowings upon maturity, exchange conversion losses of £16 million and other adjustments of negative £14 million.
Prudential has in place an unlimited global commercial paper programme. At 31 December 2007, commercial paper of £320 million, US$3,479 million and ¤483 million has been issued under this programme. Prudential also has in place a £5,000 million medium-term note (MTN) programme. At 31 December 2007, subordinated debt outstanding under this programme was £435 million and ¤520 million, and senior debt outstanding was ¤65 million and US$12 million. In addition, the holding company has access to £1,600 million committed revolving credit facilities, provided in equal tranches of £100 million by 16 major international banks renewable in December 2009 and an annually renewable £500 million committed securities lending liquidity facility. These facilities have not been drawn on during the year. The commercial paper programme, the MTN programme, the committed revolving credit facilities and the committed securities lending liquidity facility are available for general corporate purposes and to support the liquidity needs of the parent company.
Prudential UK and Prudential Corporation Asia use derivatives to reduce equity risk, interest rate and currency exposures, and to facilitate efficient investment management. In the US, Jackson uses derivatives to reduce interest rate risk, to facilitate efficient portfolio management and to match liabilities under fixed index policies.
Unallocated surplus of with-profits During 2007, the unallocated surplus, which represents the excess of assets over policyholder liabilities for the Group’s with-profits funds on a statutory basis, grew from £13.6 billion at 1 January to £14.4 billion at 31 December. This reflects an increase in the cumulative retained earnings arising on withprofits business that have yet to be allocated to policyholders or shareholders.
Regulatory capital requirements Prudential is subject to the capital adequacy requirements of the Insurance Groups Directive (IGD) as implemented by the Financial Services Authority (FSA). The IGD pertains to groups whose activities are primarily concentrated in the insurance sector, and applies for Prudential from December 2007, following the sale of Egg Banking during 2007. Prior to this, Prudential was required to meet the requirements of the Financial Conglomerates Directive (FCD), which applies to groups with significant cross-sector activities in insurance and banking/investment services.
The FSA implemented the FCD by applying the sectoral rules of the largest sector of the group. Prudential was therefore classified as an insurance conglomerate under the FCD, and was required to focus on the capital adequacy requirements relevant to that sector. Prudential’s move from FCD to IGD during 2007, therefore, did not have a significant impact on the Group, as the FSA’s implementation of both directives is closely aligned. In particular, from 31 December 2006 the FSA made the continuous parent solvency testing mandatory for all insurance groups covered by the IGD. This involves the aggregating of surplus capital held in the regulated subsidiaries, from which Group borrowings, except those subordinated debt issues which qualify as capital, are deducted. No credit for the benefit of diversification is allowed for under this approach. The test is passed when this aggregate number is positive, and a negative result at any point in time is a notifiable breach of UK regulatory requirements.
The European Union (EU) is continuing to develop a new prudential framework for insurance companies, ‘the Solvency II project’ that will update the existing life, non-life and Insurance Groups Directives (IGD). The main aim of this framework is to ensure the financial stability of the insurance industry and protect policyholders through establishing solvency requirements better matched to the true risks of the business. Like Basel 2, the new approach is expected to be based on the concept of three pillars – minimum capital requirements, supervisory review of firms’ assessments of risk, and enhanced disclosure requirements. However, the scope is wider than Basel 2 and will cover valuations, the treatment of insurance groups, the definition of capital and the overall level of capital requirements.
Financial strength of insurance operations Asia Prudential Corporation Asia maintains solvency margins in each of its operations so that these are at or above the local regulatory requirements. Both Singapore and Malaysia have discrete life funds, and have strong free asset ratios. The Hong Kong life operation is a branch of The Prudential Assurance Company Limited and its solvency is covered by that business. Taiwan has Risk Based Capital regulatory solvency margins and Prudential ensures sufficient capital is retained in the business to cover these requirements.
Asia invested asset mix excluding linked funds: Other asset classes 12 14 17
Private equities and real estate 3 3 3 Equities, cash and other assets 3 2 2
United Kingdom The PAC’s long-term fund remains very strong. On a realistic valuation basis, with liabilities recorded on a market consistent basis, the free assets are valued at approximately £8.7 billion at 31 December 2007, before a deduction for the risk capital margin. The financial strength of PAC is rated AA+ (stable outlook) by Standard & Poor’s, Aa1 (negative outlook) by Moody’s and AA+ (stable outlook) by Fitch Ratings.
Other corporate information continued payable over time to policyholders from the with-profits fund is equal to the policyholders’ accumulated asset shares plus any additional payments that may be required by way of smoothing or to meet guarantees. The balance of the assets of the with-profits fund is called the ‘inherited estate’ and has accumulated over many years from various sources.
Defined benefit pension schemes The Group operates four defined benefit schemes, three in the UK, of which the principal scheme is the Prudential Staff Pension Scheme (PSPS), and a small scheme in Taiwan. The level of surplus or deficit of assets over liabilities for defined benefit schemes is currently measured in three ways: the actuarial valuation, FRS 17 (for subsidiary accounting in the UK), and IAS 19 for the Group financial statements. FRS 17 and IAS 19 are very similar. As at 31 December 2007 the shareholders’ share of the £447 million surplus for PSPS and the deficits of the other schemes amounted to an £76 million surplus net of related tax relief.
Surpluses and deficits on the Group’s defined benefit schemes are apportioned to the PAC life fund and shareholders’ funds based on estimates of employees’ service between them. At 31 December 2005, the deficit of PSPS was apportioned in the ratio 70/30 between the life-fund and shareholders’ backed operations following detailed consideration of the sourcing of previous contributions. This ratio was applied to the base deficit position at 1 January 2006 and for the purpose of determining the allocation of the movements in that position up to 31 December 2007. The IAS 19 service charge and ongoing employer contributions are allocated by reference to the cost allocation for current activity. The deficit of the Scottish Amicable Pension Scheme has been allocated 50 per cent to the PAC with-profits fund and 50 per cent to the PAC shareholder fund.
Reflecting these two elements, at 31 December 2007, the total share of the surplus on PSPS and the deficit on the smaller Scottish Amicable scheme attributable to the PAC with-profits fund amounted to a net surplus of £304 million net of related tax relief.
Products and drivers of insurance operations’ profits Asia The life insurance products offered by Prudential Corporation Asia include a range of with-profits (participating) and nonparticipating term, whole life and endowment and unit-linked policies. Prudential also offers health, disablement, critical illness and accident cover to supplement its core life products.
Unit-linked products tend to have higher profits on the EEV basis of reporting than traditional non-linked products as expenses and charges are better matched and solvency capital requirements are lower. At the end of 2007 Prudential Corporation Asia offered unit-linked products in 10 of the 12 countries in Asia in which it operates. From January 2008 unit-linked products are offered in 11 countries.
As the investment return on the separate account assets is attributed directly to the contract holders, Jackson’s profit arises from the fees charged on the contracts, less the expenses incurred, which include the costs of guarantees. In addition to being a profitable book of business in its own right, the variable annuity book also provides an opportunity to utilise the offsetting equity risk among various lines of business to manage Jackson’s equity exposure in a cost-effective fashion. Jackson believes that the internal management of equity risk coupled with the utilisation of external derivative instruments where necessary, continues to provide a costeffective method of managing equity exposure. Profits in the variable annuity book of business will continue to be subject to the impact of market movements both on sales and allocations to the variable accounts and the effects of the economic hedging programme. While Jackson hedges its risk on an economic basis, the nature and duration of the hedging instruments, which are recorded at fair value through the income statement, will fluctuate and produce some accounting volatility. Jackson continues to believe that, on a long-term economic basis, the equity exposure remains well managed.
Life insurance Jackson also sells several types of life insurance including term life, universal life and variable universal life. Term life provides protection for a defined period of time and a benefit that is payable to a designated beneficiary upon death of the insured. Universal life provides permanent individual life insurance for the life of the insured and includes a savings element. Survivorship universal life is a form of permanent life insurance that insures two people and pays the policy benefits after the death of the last surviving insured. Variable universal life is a life insurance policy that combines death benefit protection and the important tax advantages of life insurance with the long-term growth potential of professionally managed investments. Jackson’s life insurance book has also delivered consistent profitability, driven primarily by positive mortality and persistency experience.
Prudential’s primary with-profits sub-fund is part of PAC’s long-term fund. The return to shareholders on virtually all with-profits products is in the form of a statutory transfer to PAC shareholders’ funds which is analogous to a dividend from PAC’s long-term fund and is dependent upon the bonuses credited or declared on policies in that year. There are two types of bonuses: ‘annual’ and ‘final’. Annual bonuses are declared once a year, and once credited, are guaranteed in accordance with the terms of the particular product and are determined as a prudent proportion of the long-term expected future investment return on the underlying assets. ‘Final’ bonuses are only guaranteed until the next bonus declaration and are primarily determined on the actual smoothed investment return achieved over the life of the policy. Prudential’s with-profits policyholders currently receive 90 per cent of the distribution from the main with-profits sub-fund as bonus additions to their policies and shareholders receive 10 per cent as a statutory transfer.
The defined charge participating sub-fund (DCPSF) forms part of the PAC long-term fund and comprises the accumulated investment content of premiums paid in respect of the defined charge participating with-profits business issued in France, and the defined charge participating with-profits business reassured into PAC from Prudential International Assurance plc and Canada Life (Europe) Assurance Ltd. All profits in this fund accrue to policyholders in the DCPSF.
The profits from almost all of Prudential’s new non-participating business accrue solely to shareholders. Such business is written in the non-profit sub-fund within PAC’s long-term fund, or in various shareholder-owned direct or indirect subsidiaries, the most significant of which is Prudential Retirement Income Limited (PRIL), which also writes all new immediate annuities arising from vesting deferred annuity policies in the withprofits sub-fund of PAC.
Description of EEV basis reporting Prudential’s results are prepared on two bases of accounting, the supplementary EEV basis and the IFRS basis for the financial statements. Over the life of any given product, the total profit recognised will be the same under either the IFRS or the EEV basis. However, the two methods recognise the emergence of that profit differently, with profits emerging earlier under the EEV basis than under IFRS. This section explains how EEV differs from IFRS and why it is used.
In broad terms, IFRS profits for long-term business reflect the aggregate of statutory transfers from UK-style with-profits funds and profit on a traditional accounting basis for other long-term business. The products sold by the life insurance industry are by their nature long-term, as it commits to service the products for many years into the future. The profit on these insurance sales is generated over this long-term period and the IFRS result does not, in Prudential’s opinion, properly reflect the inherent value of these future profits as it focuses instead on the amounts accruing to shareholders in the current year.
In May 2004 the CFO Forum, representing the Chief Financial Officers of 19 European insurers, published the European Embedded Value Principles which were designed to promote transparent and consistent embedded value reporting. Key features of the principles are: — Inclusion of an explicit allowance for the impact of options and guarantees. This typically requires stochastic calculations, under which a large number of simulations are performed that provide a representation of the future behaviour of financial markets; — an active allowance for the combined impact of risk profile and encumbered capital in the selection of discount rates. This ensures that the risks to the emergence of shareholder cash flows are properly accounted for; and
— sufficient disclosure to enable informed investors to understand the key risks within the business and the basis of preparation of the results.
The change in value is typically analysed into the following components: — The value added from new business sold during the year; — the change in value from existing business already in place at the start of the year; — short-term fluctuations in investment returns; — change in the time value of cost of options and guarantees and economic assumption changes; — other items (for example, profit from other Group operations, tax, foreign exchange, exceptional items); and — dividends.
EEV basis results are prepared by first of all setting best estimate assumptions, by product, for all relevant factors including expenses, surrender levels and mortality. Economic assumptions as to future investment returns and inflation are based on market data. These assumptions are used to project future cash flows. The present value of the future cash flows is then calculated using a discount rate which reflects both the time value of money and the risks associated with the cash flows. The risk discount rate is determined by adding a risk margin to the appropriate risk free rate of return. The actual outcome may be different from that projected in which case the effect will be reflected in the experience variances for that year.
The assumptions used for the EEV basis of accounting are set out on pages 310 to 313 in the notes that accompany the supplementary EEV basis information. An indication of the sensitivity of the results to changes in key assumptions is provided on pages 330 to 332.
Philosophy, principles and objectives Philosophy As a provider of financial services, including insurance, the Group’s business is the managed acceptance of risk. Prudential believes that effective risk management capabilities are a key competitive advantage. A strategic risk, capital and value management framework and risk management culture has been developed to enhance the Group’s embedded and franchise value.
The control procedures and systems established within the Group are designed to manage, rather than eliminate, the risk of failure to meet business objectives. They can only provide reasonable and not absolute assurance against material misstatement or loss, and focus on aligning the levels of risk-taking with the achievement of business objectives.
Objectives The Group has five objectives for risk and capital management: a Framework Design, implement and maintain a consistent risk management framework and policies spanning: economic, regulatory and rating agency capital management; risk appetite; and risk-adjusted profitability (RAP).
b Monitoring Establish a ‘no surprises’ risk management culture by identifying the risk landscape, assessing and monitoring risk exposures and understanding change drivers.
e Culture Foster a risk management culture, providing quality assurance and facilitating the sharing of best practice risk measurement and management across the Group and industry.
Prudential’s risk governance framework requires that all of the Group’s businesses and functions establish processes for identifying, evaluating and managing the key risks faced by the Group. The risk governance framework is based on the concept of ‘three lines of defence’: risk management, risk oversight and independent assurance (see diagram below).
Where appropriate, more detailed policies and procedures have been developed at Group and/or business unit levels.
These include Group-wide mandatory policies on certain operational risks, including: health, safety, fraud, money laundering, bribery, business continuity, information security and operational security. Additional guidelines are provided for some aspects of actuarial and finance activity. Board: The Board has overall responsibility for the system of internal control and risk management. It approves the overall framework for managing the risks faced by the Group and provides strategic direction on the amount and type of risk that the Group is prepared to accept.
Business unit management: Business unit chief executives are accountable for the implementation and operation of appropriate business unit risk frameworks and for ensuring compliance with the policy and minimum standards set by the Group. Business units must establish suitable governance structures that are based on the concept of ‘three lines of defence’, tailored as appropriate to the scale and complexity of the business unit. As the first line of defence, business unit management is responsible for identifying and managing business unit risks and providing regular risk reporting to the Group.
Direct reporting line Provides support to committees Regular dialogue and reporting Regular communication and escalation
Risk oversight Risk management oversight is provided by Group-level risk committees, the Group Finance Director and the Group Risk function, working with counterparts in the business units in addition to other Group Head Office (GHO) oversight functions.
Group-level risk committees Group Asset Liability Committee (Group ALCo): The Group ALCo is responsible for oversight of financial risks (market, credit, liquidity and insurance risks) across the Group. It is chaired by the Group Finance Director and its membership includes senior business unit and Group executives (chief actuaries, principal asset liability management officers and chief investment officers) who are involved in the management of the aforementioned risks. Group ALCo meetings are held on a monthly basis. Balance Sheet and Capital Management Committee (BSCMC): The BSCMC is responsible for managing the balance sheets of Prudential plc and oversight of the Prudential Capital business unit. It is chaired by the Group Finance Director and its membership includes senior representatives from GHO, M&G and Prudential Capital. BSCMC meetings are held on a monthly basis. Group Operational Risk Committee (GORC): The GORC is responsible for the oversight of non-financial risks (operational, business environment and strategic risks) across the Group. Responsibilities include monitoring operational risk and related policies and processes as they are applied throughout the Group. It is chaired by the Group Finance Director and its membership includes senior representatives of the Group and business unit risk functions. GORC meetings are held on a quarterly basis.
Group Risk also has certain finance and actuarial responsibilities related to Group regulatory and rating agency capital requirements, development of actuarial and financial reporting requirements and the RAP value management framework.
Independent assurance Group Audit Committee: The Group Audit Committee provides independent assurance to the Board on the effectiveness of the Group’s system of internal controls and risk management. The Group Audit Committee reviews the Group’s risk management framework, and regular risk reports. The Group Audit Committee is supported by Group-wide Internal Audit.
Group-wide Internal Audit (GwIA): The GwIA function independently assures the effective operation of the Group’s risk management framework. This involves the validation of methodology application, policy compliance and control adequacy. The GwIA Director reports all audit-related matters to the Group Audit Committee (and business unit audit committees where appropriate) and reports for management purposes (but not audit-related matters) to the Group Chief Executive.
Limits Aggregate risk limits are defined in terms of earnings volatility and capital requirements: a Earnings volatility: The objectives of the limits are to ensure that (a) the volatility of earnings is consistent with stakeholder expectations; (b) the Group has adequate earnings (and cash flows) to service debt and expected dividends; and (c) that earnings (and cash flows) are managed properly across geographies and are consistent with the Group’s funding strategies. The two measures used are European Embedded Value (EEV) operating profit and International Financial Reporting Standards (IFRS) operating profit.
b Capital requirements: The objectives of the limits are to ensure that (a) the Group is economically solvent; (b) the Group achieves its desired target rating to meet its business objectives; (c) supervisory intervention is avoided; (d) any potential capital strains are identified; and (e) accessible capital is available to meet business objectives. The two measures used are EU Insurance Groups Directive (IGD) capital requirements and economic capital requirements.
Business units must establish suitable market, credit, underwriting and liquidity limits that maintain financial risk exposures within the defined risk appetite.
Usage by business units Risk appetite is part of the annual business planning cycle. The risk profile of the Group is monitored against the agreed limits throughout the year by Group Risk. Using submissions from business units, Group Risk calculates the Group’s position (allowing for diversification effects between business units) relative to the limits implied by the risk appetite statements.
In order to determine its risk position, each business unit calculates the impacts (on earnings and capital measures) of a shock to market, credit, insurance and operational risk exposures.
Any potential breaches of the risk limits implied by a business unit plan will necessitate a dialogue process between GHO and the business units. Group limits may not be breached if, for example, limits in other business units are not fully utilised, or the diversification effect at Group level of a particular risk with other business units means that the Group limit is not breached. Ultimately, authorisation to breach Group limits would require Group Executive Committee approval.
Risk management process Risk mitigation The Group expects active management of its actual risk profile against its tolerance of risk. Primary responsibility for identifying and implementing controls and mitigation strategies rests with the business units. Group Risk provides oversight and advice.
Risk registers are maintained that include details of the controls and mitigating actions being employed for identified risks. The effectiveness of controls and progress with actions are routinely assessed. Any mitigation strategies involving large transactions (e.g. a material derivative transaction) would be subject to scrutiny at Group level before implementation.
The investment strategy for assets held to back liabilities is set locally by business units, taking into account the nature, term and currency of the liabilities, and any local regulatory requirements. The main principles are as follows: — For liabilities that are sensitive to interest rate movements (in particular, UK non-profit annuities and Jackson fixed annuities), cash flow analysis is used to construct a portfolio of fixed income securities whose value changes in line with the value of liabilities when interest rates change; — for participating business (in particular, the UK with-profits fund), stochastic asset-liability modelling is used to derive a strategic asset allocation and policyholder bonus strategy that (based on the model assumptions) will optimise policyholder and shareholder returns, while maintaining financial strength.
— for unit-linked business, the assets held to cover policyholder unit accounts are invested as per the stated investment strategy or benchmark index given in the product marketing literature. Assets in respect of non-unit reserves (e.g. sterling reserves) are invested in fixed income securities (using a cash flow matching analysis).
Business units review their risks as part of the annual preparation of their business plans, and review opportunities and risks to business objectives regularly with Group executive management. Group Risk reviews, and reports to Group executive management, on the impact of large transactions or divergences from business plan.
Economic capital Economic capital provides a realistic and consistent view of Prudential’s capital requirements across the Group, allowing for diversification benefits. Economic capital provides valuable insights into the risk profile of the Group and is an integral part of the Group’s risk management framework.
The Group position at the end of 2006 shows a surplus position of £2.8 billion, representing an improvement of £0.5 billion from last year. Most of this improvement comes from the sale of Egg, which has reduced the Group’s exposure to credit risk. Note that the economic capital surplus quoted above excludes any surplus in respect of the Group’s participating with-profits funds. For Group economic capital, it is assumed that any free assets in participating funds are ring-fenced to support the relevant fund (and excluded from the Group’s economic surplus). Any capital injections required by participating funds (on top of the ring-fenced free assets) are captured in the Group economic capital requirement calculation. For year end 2006, none of the Group’s participating funds required additional economic capital on top of the ring-fenced free assets.
Scenario testing The impact of a range of deterministic ‘shock’ scenarios is tested using the Group economic capital model. The purpose is to assess the resilience of the Group’s economic solvency position to a range of key threat scenarios.
Scenarios tested include economic capital scenarios relating to stable, falling and rising interest rates, as well as scenarios relating to high oil prices, lower consumption and US dollar depreciation. In addition, scenarios proposed by the FSA’s Financial Risk Outlook are tested. These scenarios have included a credit and house price crisis, global risks reappraisal, and a pandemic.
The impact of each scenario was tested by analysing the projected Group cash flow balances over 25 years, assuming in the model that the initial capital held by the Group is zero and the initial capital held in each business unit is equal to the local regulatory capital requirement. The results of the analysis showed that the projected net cash flow balance to the Group remains positive in all future years under each scenario tested.
In the US, fluctuations in interest rates can affect results from Jackson, which has a significant spread-based business and where the majority of investments are in fixed-income securities. The spread is the difference between the rate of return Jackson is able to earn on the assets backing the policyholders’ liabilities and the amounts that are credited to policyholders in the form of benefit increases, subject to minimum crediting rates. Jackson also writes a significant amount of variable annuities that offer capital or income protection guarantees. Any cost of the guarantees that remain unhedged will affect the Company’s results.
Interest rate risk Interest rate risk arises primarily from Prudential’s investments in long-term debt and fixed income securities. Interest rate risk also exists in policies that carry investment guarantees on early surrender or at maturity, where claim values can become higher than the value of backing assets when interest rates rise or fall.
Equity risk The Group is subject to equity price risk due to daily changes in the market values of its equity securities portfolio. The Group’s shareholders are exposed to both direct equity shareholdings in its shareholder assets, and indirectly to the impact arising from changes in the value of equities held in policyholders’ funds from which management charges or a share of performance are taken, as well as from its interest in the free estate of long-term funds.
At a business unit level, equity price risk is actively managed through the use of derivative instruments, including futures and options, in order to mitigate anticipated unfavourable market movements where this lies outside the risk appetite of the fund concerned. Business units actively model the performance of equities through the use of stochastic models, in particular to understand the impact of equity performance on guarantees, options and bonus rates.
The Group does not have material holdings of unquoted equity securities. In addition, local asset admissibility regulations require that business units hold diversified portfolios of assets, thereby reducing exposure to individual equities.
In addition to business unit operational limits on credit risk (requiring business units to implement local credit risk policies), Prudential’s management of credit risk includes monitoring exposures at Group level. Large individual counterparty exposures are aggregated and monitored on a quarterly basis against centrally-set red zone, amber zone and green zone limits. This active monitoring of counterparty exposures, on a consolidated Group level, is undertaken by the Group ALCo.
Insurance risk Insurance risk is the inherent uncertainty as to the occurrence, amount and timing of insurance liabilities. This includes adverse mortality, morbidity and persistency experience.
Business units have their own liquidity policies, which also depend on the maturity of the business, and the available assets in the markets. For Prudential UK, liquidity risk is managed through holding assets at the greater of a specified percentage of total funds managed or a specified multiple of the average peak daily cash flow over the last 12 months. For Jackson, modelling is performed on how quickly their different liabilities could be called, and how quickly they could also liquidate their assets, ensuring that at 30 days, 90 days and one year the cash available exceeds potential obligations.
Non-financial risk Prudential’s Group Risk Framework also covers non-financial risks – operational risk, business environment risk and strategic risk. Prudential processes a large number of complex transactions across numerous and diverse products, and is subject to a number of different legal and regulatory regimes. Prudential outsources several operations, including certain UK processing and IT functions and is thus reliant upon the operational processing performance of its outsourcing partners.
Acting responsibly Corporate Responsibility (CR) is fundamental to how Prudential operates and as a philosophy is firmly embedded in the business.
Prudential’s main focus in 2007 was to ensure that its CR strategy continued to align with its business objectives and with its stakeholder concerns.
The manual is itself supported by the Group Risk Framework, which provides an overview of the Group-wide philosophy and approach to risk management. The Group’s risk categorisation encompasses all of the principles in the Group Code of Business Conduct. Risks are assessed against non-financial impacts such as the customer experience, statutory and regulatory requirements and, not least, reputation and brand.
Prudential’s Group Finance Director, Philip Broadley, has Board level responsibility for social, environmental and ethical risk management. The Board discusses Prudential’s performance on these areas at least once a year. The Board also annually reviews and approves Prudential’s CR report and strategy.
The Corporate Responsibility team, which is located in Group Head Office (GHO), develops Prudential’s CR strategy, provides training across the Group, and works closely with individual business units to provide advice, ensuring that the Group’s core values are consistently maintained. The CR team also assists with the development and adaptation of Group-wide initiatives so that they not only fit the overall Group principles but are also adapted to meet local needs.
Prudential began developing its Financial Capability programme in the United Kingdom in 2001. Seven years later, Prudential is seeing significant continued progress, both in the UK and, increasingly internationally.
Investing in our communities In 2007, Prudential invested £4.9 million in a wide range of projects around its business, supporting education, welfare and environmental initiatives. This total includes the significant contribution made by many of the employees around the Group through volunteering, often linked with professional skills development. It also includes direct donations to charitable organisations of £3.1 million.
The charities that Prudential supports were selected following a Group-wide survey of its employees, which identified a preference for projects that address the needs of children and the elderly within their local community. Prudential has identified sustainable projects which, where possible, have education at their core. This lies at the heart of our CR programme to raise levels of financial capability worldwide.
In 2007, over 2,000 employees registered to volunteer and The Chairman’s Award supported over 50 projects around the world. Similarly, Jackson National Life Insurance Company (Jackson) formed the Jackson National Community Fund (JNCF) and Jackson in Action, an employee volunteering programme. In its inaugural year, JNCF and the Jackson in Action programme donated more than US$1 million in corporate sponsorships, in-kind donations, and donation matches to charitable organisations that benefit children and the elderly. Jackson’s employees have also shared more than 2,250 hours of their time with the community.
In 2007, PRUPIM set up an innovative project called the Improver Portfolio to examine ways it can reduce a ‘typical’ property portfolio’s carbon footprint while maintaining or even enhancing investment returns. The Improver Portfolio consists of 25 PRUPIM-managed properties covering all sectors.
Our key driver in Human Resources (HR) is to deliver the leaders and leadership the Prudential Group needs now and into the future. Our HR Strategy is to achieve this by focusing on five key challenges: — Getting the right people into the business. — Building and rewarding performance. — Growing a strong talent pipeline. — Developing credible successors. — Developing an organisation that works.
There are also a number of employee consultation forums, such as the M&G staff Consultative Committee and the UK Insurance Operations’ Employee Forum. This gives employees an opportunity to express their views and discuss issues of concern.
Employee surveys are an effective way of gauging the opinions and level of satisfaction of our employees. Several of our business units run surveys, for example, Jackson National Life has conducted an employee satisfaction survey in its Denver office for the last few years and has seen an increase in employee satisfaction over this period. In 2007, Jackson conducted an employee satisfaction survey in its Lansing office and has established a number of task forces to address concerns that employees raised in the survey. Jackson also conducted an employee satisfaction survey in its affiliated network of four independent broker-dealers, National Planning Holdings. The survey identified that career development was a priority for its employees. To address this, an online career exploration and development tool was developed. The online tool delves further into career development with participants completing self-assessments and documenting their career goals while aligning their activities with opportunities for growth within the Jackson network.
Diversity We strive to ensure that Prudential employees work in an environment where everyone is respected and treated equally. We believe that our workforce should represent the diversity of our customer base. We fully recognise the value that a diverse workforce brings to our organisation. It is Group policy to give full and fair consideration and encouragement to the employment of applicants with suitable aptitudes and abilities, and to continuing the employment of staff who become disabled, and to providing training and career development opportunities to disabled employees.
In 2007, we were featured in the UK Times newspaper’s Top 50 places for women to work and 13 per cent of our Group Leadership Team are women. The majority of our business is outside the UK. In the areas where we operate, we recognise the importance of hiring and developing individuals from the local talent market. In our Asia business 82 per cent of senior managers are recruited from the local workforce.
In the UK, we are a founding member of Race for Opportunity and are also members of Opportunity Now, the Employee Forum on Age and the Employee Forum on Disability.
To deliver the Leaders and Leadership that Prudential needs both now and into the future, we undertake an annual review of our talent across the Group, identifying, developing and rewarding those people who will enable us to fulfil the strategic options we want to consider.
Within Prudential there is an array of different learning and development activities which take place and which are readily available to employees. For example, M&G meets employees’ individual learning needs through online training, one-to-one coaching and more traditional classroom delivery. Prudential UK has developed an online portal ‘Learning Space’, which enables staff to access relevant learning for their personal and professional development.
In the UK, the financial services industry is working with the UK regulator, Government and consumers to improve the way they treat customers. Prudential UK has signed up to the Association of British Insurers’ (ABI) Customer Impact Scheme. This Scheme is part of the industry’s commitment to continuously build on customers’ experiences, and Prudential will participate in an annual customer survey, to measure changes in its customers’ experiences and attitudes.
Environment/sustainable development Protecting the environment is essential for the quality of life of current and future generations. The challenge is to combine continuing economic growth with long-term sustainable development. Prudential is committed to ensuring that its policies and business actions promote the consideration of the environment.
In 2007, Prudential became one of 38 companies from the financial services sector to endorse the ClimateWise principles. The principles have been developed by leading global insurers, reinsurers, brokers and asset managers to promote positive action on climate change. They will enable companies to build climate change into their business operations (www.climatewise.org.uk/).
Under the European Union Energy Performance of Buildings Directive, Energy Performance Certificates (EPCs) will be required for any building that is constructed, sold, or rented. EPCs will rate the energy performance of a building, enabling both property investors and prospective occupiers to consider energy efficiency ratings and levels of carbon emissions. Prudential will be introducing EPCs, initially in the UK, for its commercial investment property portfolio and its occupied property portfolio. Prudential will implement the directive elsewhere in accordance with national regulations.
Donations Prudential is committed to supporting the communities where it is an employer. In 2007, the Group spent £4.9 million in support of its various communities. Direct donations to charitable organisations amounted to £3.1 million, of which approximately £2.2 million came from EU operations.
This is broken down as follows: Education £1,175,000; Social and Welfare £611,000; Environment and Regeneration £86,000; Cultural Activities £96,000 and Staff Volunteering £228,000. The aggregate figure for charitable donations from Prudential’s non-EU subsidiaries (Jackson National Life Insurance Company and Prudential Corporation Asia) amounted to £0.9 million.
It is the Group’s policy not to make donations to political parties nor to incur political expenditure, within the meaning of those expressions as defined in the UK Political Parties, Elections and Referendums Act 2000, and the Group did not make any such donations or incur any such expenditure in 2007.
Further information can be found in ‘Acting Responsibly’, the Group’s Corporate Responsibility Report 2007/8, accessed at www.prudential.co.uk/prudential-plc/cr/ Hard copies of the report are available from the Group’s CR team: Laurence Pountney Hill, London EC4R 0HH. Tel: 020 7548 3706.
Sir David Clementi FCA MBA Chairman and Chairman of the Nomination Committee Sir David Clementi has been Chairman of Prudential since December 2002. In 2005, Sir David was appointed as President of the Investment Property Forum. In 2003, he joined the Financial Services Authority's Financial Capability Steering Group, and was appointed by the Secretary of State for Constitutional Affairs to carry out a review of the regulation of legal services in England and Wales, which was completed in 2004. Since 2003, he has been a non-executive director of Rio Tinto plc. In addition, Sir David is a Trustee of the Royal Opera House, and with effect from 23 May 2008, he will also be a non-executive director of Foreign & Colonial Investment Trust PLC. From 1997 to 2002, he was Deputy Governor of the Bank of England. During this time he served as a member of the Monetary Policy Committee and as a non-executive director of the Financial Services Authority. From 1975 to 1997, he worked for the Kleinwort Benson Group, latterly as Chief Executive.
Mark Tucker ACA Group Chief Executive Mark Tucker was re-appointed as an executive director in May 2005, when he also became Group Chief Executive. From May 2004 to March 2005, he was Group Finance Director, HBOS plc and director of Halifax plc. Previously, Mark was an executive director of Prudential from 1999 to 2003, and from 1993 to 2003 he was Chief Executive of Prudential Corporation Asia, and also held senior positions in Prudential's businesses in the UK and US. Mark first joined Prudential in 1986, having previously been a tax consultant at PriceWaterhouse UK in London.
Tidjane Thiam Chief Financial Officer (from 25 March 2008) Tidjane Thiam has been appointed as an executive director of Prudential and Chief Financial Officer with effect from 25 March 2008. He was previously Chief Executive Officer, Europe at Aviva, where he also held successively the positions of Group Strategy and Development Director and Managing Director, Aviva International. Prior to that, Tidjane was a partner with McKinsey & Company in France and one of the leaders of their Financial Institutions practice, focusing on insurance companies and banks. Earlier in his career, he spent a number of years in Africa where he was Chief Executive and then Chairman of the National Bureau for Technical Studies and Development in Cote d'Ivoire and a cabinet member as Minister of Planning and Development. He is a non-executive director of Arkema in France, a member of the Council of the Overseas Development Institute (ODI) in London and a sponsor of Opportunity International, a charity focusing on microfinance in developing countries.
Nick Prettejohn Executive director Nick Prettejohn has been an executive director of Prudential and Chief Executive, Prudential UK and Europe since January 2006. He is also a board member of the ABI, Chairman of the Financial Services Practitioner Panel (having previously been Deputy Chairman), and a board member of the Royal Opera House. Previously, he was Chief Executive of Lloyd's of London from 1999 until 2005. Nick joined the Corporation of Lloyd's in 1995 as Head of Strategy, and played a key role in the Reconstruction and Renewal process, which reorganised Lloyd's after the losses of the late 1980s and early 1990s. Following the successful completion of the reorganisation in 1996, he became Managing Director of Lloyd's Business Development Unit and in 1998, he also assumed responsibility for Lloyd's North America business unit. Prior to his appointment to Lloyd's, Nick was responsible for corporate strategy at National Freight Corporation plc, and prior to that he was a partner at management consultants Bain and Co and a director of private equity company Apax Partners.
Barry Stowe Executive director Barry Stowe has been an executive director of Prudential since November 2006, and Chief Executive, Prudential Corporation Asia since October 2006. Previously, he was President, Accident & Health Worldwide for AIG Life Companies. He joined AIG in 1995, and prior to that was President and CEO of Nisus, a subsidiary of Pan-American Life, from 1992-1995. Prior to Nisus, Barry spent 12 years at Willis Corroon in the US.
Michael Garrett Independent non-executive director and member of the Remuneration Committee Michael Garrett has been an independent non-executive director of Prudential since September 2004. He worked for Nestlé from 1961, becoming Head of Japan (1990-1993), and then Zone Director and Member of the Executive Board, responsible for Asia and Oceania, and in 1996 his responsibilities were expanded to include Africa and the Middle East. Michael retired as Executive Vice President of Nestlé in 2005. He served the Government of Australia as Chairman of the Food Industry Council and as a Member of the Industry Council of Australia, and was also member of the Advisory Committee for an APEC (Asia-Pacific Economic Cooperation) Food System, a Member of The Turkish Prime Minister's Advisory Group and the WTO (World Trade Organization) Business Advisory Council in Switzerland. Michael remains a director of Nestlé in India, and was appointed Chairman of the Evian Group in 2001, a think tank and forum for dialogue promoting free trade. He also serves as a non-executive director on the Boards of the Bobst Group Switzerland, Hasbro Inc. in the USA, and Gottex Fund Management Holdings Limited in Guernsey. In addition, he is a member of the Finance and Performance Review Committee of The Prince of Wales International Business Leaders Forum (IBLF), as well as a Member of the Swaziland International Business Advisory Panel under the auspices of the Global Leadership Foundation (GLF) London.
Ann Godbehere FCGA Independent non-executive director and member of the Audit Committee Ann Godbehere has been an independent non-executive director of Prudential since 2 August 2007, and has been a member of the Audit Committee since 1 October 2007. She began her career in 1976 with Sun Life of Canada, joining Mercantile & General Reinsurance Group in 1981, where she held a number of management roles rising to Senior Vice President and Controller for life and health and property/casualty businesses in North America in 1995. In 1996, Swiss Re acquired Mercantile & General Reinsurance Group, and Ann became Chief Financial Officer of Swiss Re Life & Health, North America. In 1997, she was made Chief Executive Officer of Swiss Re Life & Health, Canada. She moved to London as Chief Financial Officer of Swiss Re Life & Health Division in 1998 and joined the Property & Casualty Business Group, based out of Zurich, as Chief Financial Officer on its establishment in 2001. In 2003, she was appointed Chief Financial Officer of the Swiss Re Group. Ann is also a nonexecutive director of Ariel Holdings Limited, Atrium Underwriting plc and Atrium Underwriting Limited, and Chief Financial Officer of Northern Rock.
James Ross Senior independent non-executive director and member of the Remuneration and Nomination Committees James Ross has been an independent non-executive director since May 2004 and the Senior Independent Director since May 2006. He holds non-executive directorships with McGraw Hill in the US and Schneider Electric in France. He is also Chairman of the Leadership Foundation for Higher Education and of the Liverpool School of Tropical Medicine. James was previously a non-executive director of Datacard Inc in the US, and prior to that Chairman of National Grid plc and Littlewoods plc. He was also Chief Executive of Cable and Wireless plc and Chairman and Chief Executive of BP America Inc., and a Managing Director of the British Petroleum Company plc.
Lord Turnbull KCB CVO Independent non-executive director and member of the Audit Committee Lord Turnbull has been an independent non-executive director of Prudential since May 2006, and a member of the Audit Committee since January 2007. He entered the House of Lords as a Life Peer in 2005. In 2002, he became Secretary of the Cabinet and Head of the Home Civil Service until he retired in 2005. Prior to that, he held a number of positions in the civil service, including Permanent Secretary at HM Treasury; Permanent Secretary at the Department of the Environment (later Environment, Transport and the Regions); Private Secretary (Economics) to the Prime Minister; and Principal Private Secretary to Margaret Thatcher and then John Major. He joined HM Treasury in 1970. Lord Turnbull is a non-executive director of Frontier Economics Ltd and The British Land Company PLC, and was formerly a non-executive director of the Arup Group. He also works part-time as a Senior Adviser to the London partners of Booz Allen Hamilton (UK).
The Board may appoint directors, up to the maximum total number of 20 directors set out in the Company’s Articles of Association, and any director appointed by the Board will retire at the first Annual General Meeting following his or her appointment and offer himself or herself for election by shareholders. Accordingly, Sir Winfried Bischoff, Ann Godbehere and Tidjane Thiam will retire and offer themselves for election at the Annual General Meeting on 15 May 2008.
Under the current Articles of Association of the Company, all directors must retire as directors at least every three years, and therefore Keki Dadiseth and James Ross will retire and offer themselves for re-election at the Annual General Meeting on 15 May 2008. The current Articles of Association also state that at every Annual General Meeting at least one third of the current directors must retire by rotation and therefore Kathleen O’Donovan and Lord Turnbull will retire by rotation at the Annual General Meeting on 15 May 2008 and offer themselves for re-election. Philip Broadley, Group Finance Director until 25 March 2008, will also retire at the Annual General Meeting on 15 May 2008.
Governance framework To promote effective governance across all of its operations, the Board has approved a governance framework which maps out the internal approvals processes and those matters which may be delegated. These principally relate to the operational management of the Group’s businesses and include predetermined authority limits delegated by the Board to the Group Chief Executive for further delegation by him in respect of matters which are necessary for the effective day-to-day running and management of the business.
The chief executive of each business unit, who in respect of his business unit reports to the Group Chief Executive, has authority for management of that business unit and has established a management board comprising its most senior executives. In accordance with the Group Governance Framework, business unit chief executives annually certify their compliance with the requirements of the framework.
The majority of directors attended all eight scheduled Board meetings occurring during their period in office, apart from some absence due to prior commitments. There were three additional Board meetings, and the majority of the directors attended those meetings. Where directors were not able to attend any of the meetings, their views were canvassed by the Chairman prior to the meeting. The table below details the number of Board and Committee meetings attended by each director throughout the year. A further nine ad hoc Board Committee meetings took place during the year.
Sir Winfried Bischoff note 1 2 (2) n/a n/a n/a Philip Broadley 11 (11) n/a n/a n/a
*During 2007, there were eight scheduled Board meetings and three additional Board meetings. In addition, there was a strategy event attended by all directors.
† During 2007, there were seven scheduled Audit Committee meetings. ‡ During 2007, there were four scheduled Remuneration Committee meetings and three additional meetings.
Notes 1 Appointed as a director on 2 August 2007. 2 Attended all scheduled Board meetings, but was unable to attend one of the additional Board meetings and one of the Audit Committee meetings due to prior commitments.
3 Attended all scheduled Board meetings, but was unable to attend one of the additional Board meetings due to a prior commitment.
The Chairman meets, at least annually, with the non-executive directors without the executive directors being present. During 2007, a meeting without the executive directors took place in December.
In line with the principles of the Combined Code, the Chairman was independent on appointment. Throughout the year all non-executive directors were considered by the Board to be independent in character and judgement, and independent in accordance with the Combined Code.
Keki Dadiseth also serves, at Prudential’s request, as a nonexecutive director of ICICI Prudential Life Insurance Company Limited, an Indian company which is owned 26 per cent by Prudential, and of ICICI Prudential Trust Limited, an Indian company which is owned 49 per cent by Prudential. The Board does not consider that these appointments in any way affect his status as an independent director of Prudential.
Sir Winfried Bischoff has been Chairman of Citi Europe and a Member of The Management, Operating and Business Heads Committees of Citigroup Inc. since May 2000. He is also Chairman of the European Advisory Board of Citigroup Inc.
Other commitments The Board is satisfied that the Chairman’s other commitments do not interfere with the day-to-day performance of his duties for the Group, and that he has the commitment and capability to make himself available under unforeseen circumstances, should the need arise. The major commitments of the Chairman, including changes during the year are detailed in his biography on page 87.
Our executive directors may accept external directorships and retain any fees earned from those directorships, subject to prior discussion with the Group Chief Executive, and always provided this does not lead to any conflicts of interest. In line with the Combined Code, executive directors would be expected to hold no more than one non-executive directorship of a FTSE 100 company. A number of our executive directors hold directorships of companies in the arts and educational sectors, for which they do not receive any fees. One of our executive directors, Michael McLintock, serves on the board of Close Brothers Group plc. The major commitments of our executive directors are detailed in their biographies on page 87. Details of any fees retained are included in the Directors’ Remuneration Report.
Our non-executive directors may serve on a number of other boards, provided that they are able to demonstrate satisfactory time commitment to their role at Prudential, and that they discuss any new appointment with the Chairman prior to accepting. This ensures that they do not compromise their independence and that any potential conflicts of interest and any possible issues arising out of the time commitments required by the new role can be identified and addressed appropriately. The major commitments of our non-executive directors are detailed in their biographies set out on pages 87 to 88.
Induction, development and evaluation Induction The Company Secretary supports the Chairman in providing tailored induction programmes for new directors and ongoing training for all directors. Upon appointment, all directors embark upon a wide-ranging induction programme covering, amongst other things, the principal bases of accounting for the Group’s results, the role of the Board and its key committees, and the ambit of the internal audit and risk management functions. In addition, they receive detailed briefings on the Group’s principal businesses, its product range, the markets in which it operates and the overall competitive environment. Other areas addressed include legal issues affecting directors of financial services companies, the Group’s governance arrangements, its investor relations programme, as well as its remuneration policies.
A programme of ongoing professional development was undertaken for all directors in 2007, which covered a number of sector-specific and business issues as well as legal, accounting and regulatory changes and developments. Each business unit head accompanied by relevant senior managers gave a presentation to the Board during the course of the year on the challenges and opportunities currently faced by their business unit. In addition, senior managers of certain head office functions, including Group Risk and Investor Relations, presented to the Board on the key issues currently being handled by the function.
Risk management and internal control The Board has overall responsibility for the Group’s system of internal control, and for reviewing its effectiveness, and confirms that there is an ongoing process in place for identifying, evaluating and managing the significant risks faced by the Company, which is reviewed regularly. All business units are required to confirm annually that they have undertaken risk management during the year as required by the Group Risk Framework, and that they have reviewed the effectiveness of the systems of internal control. The results of this review are reported to and reviewed by the Group Audit Committee and the Board, and it was confirmed that effective processes of internal control, including financial, operational and compliance controls and risk management, as required by the Group Risk Framework, were in place throughout the period covered by this report, and that they complied with the revised guidance on the Combined Code issued in October 2005 (the Turnbull guidance). Internal audit teams execute risk-based audit plans throughout the Group, from which all significant issues are reported to the Group Audit Committee on a periodic basis. The procedures for the management of risk and the systems of internal control operated by the Group are described in more detail in the Risk Management section on pages 72 to 80.
Disclosure of information to auditor The directors who held office at the date of approval of this directors’ report confirm that, so far as they are each aware, there is no relevant audit information of which the Company’s auditor is unaware; and each director has taken all the steps that he or she ought to have taken as a director to make himself or herself aware of any relevant audit information and to establish that the Company’s auditor is aware of that information. This confirmation is given and should be interpreted in accordance with the provisions of section 234ZA of the Companies Act 1985.
Full biographical details of the members of the Committee, including their relevant experience, are set out in their biographies on page 88.
Meetings The Committee met seven times during the year. By invitation, the Chairman of the Board, the Group Finance Director, the Company Secretary and Group Legal Services Director, the Group-wide Internal Audit Director, and other senior staff from the internal audit, group risk and group compliance functions where appropriate, as well as the lead partner of the external auditor attended meetings. Other audit partners also attended some of the meetings to contribute to the discussions relating to their areas of expertise.
The Committee recognises the need to meet without the presence of executive management. Such sessions were held in March 2007 with the external and internal auditors, and in July 2007 with the external and internal auditors and the Head of Group Security. At all other times, management and auditors have open access to the Chairman.
Confidential reporting At each meeting, the Committee received and reviewed a report on calls to the confidential reporting line, which is made available to employees to enable them to communicate confidentially on matters of concern, and actions taken in response to these calls. The Committee also considered whether any internal control implications arose from communications received. No internal control implications were raised from calls to the confidential reporting line.
Internal control and risk management The Committee reviewed the Group’s statement on internal control systems prior to its endorsement by the Board. It also reviewed the policies and processes for identifying, assessing and managing business risks. Throughout the year, the Committee received the minutes of the Disclosure Committee and the Group Operational Risk Committee and noted their activities. Further information on those committees appears on pages 98 and 74.
Pursuant to the requirements of Section 404 of the SarbanesOxley Act, the Group must undertake an annual assessment of the effectiveness of internal control over financial reporting. Further details are provided on page 99.
Formal reports are submitted to the Committee on a quarterly basis, with interim updates where appropriate, and views are also sought at the private meetings between the Committee and the internal auditors, as well as during regular private meetings between the Chairman of the Committee and the Group-wide Internal Audit Director.
Audit fees For the year ended 31 December 2007, the Committee approved fees of £9.1 million to its auditor, KPMG Audit Plc, for audit services and other services supplied pursuant to relevant legislation. In addition, the Committee approved fees of £2.3 million to KPMG for services not related to audit work, which accounted for 20 per cent of total fees paid to the external auditor in the year. Non-audit services primarily related to actuarial and basic tax compliance work, and to the provision of attestation and comfort letters. In accordance with the Group’s Auditor Independence Policy, all services were approved prior to work commencing, and each of the non-audit services was confirmed to be permissible for the external auditor to undertake, as defined by the Sarbanes-Oxley Act. The Committee reviewed the non-audit services being provided to the Group by KPMG at regular intervals during 2007. A summary of audit fees is provided in note I4 on page 280.
Auditor performance and independence As part of its work during 2007, the Committee assessed the performance of the external auditor, its independence and objectivity, and the effectiveness of the audit process. In addition to questioning the external auditor and the Group Finance Director, which is a regular feature of meetings, the review of the effectiveness of the external audit process was conducted through a questionnaire-based exercise administered by Group-wide Internal Audit, supplemented by interviews with senior finance staff and Committee members. In addition, the Committee reviewed the external audit strategy and received reports from the auditor on its own policies and procedures regarding independence and quality control, including an annual confirmation of its independence in line with industry standards.
Company, and a resolution for the re-appointment of KPMG Audit Plc as auditor of the Company to hold office until the end of the 2009 Annual General Meeting will be put to a shareholder vote at the Annual General Meeting on 15 May 2008.
Remuneration Committee Report Role of the Committee The Remuneration Committee (the Committee) determines the remuneration packages of the Chairman and executive directors. It also agrees the principles and monitors the level and structure of remuneration for a defined population of senior management as determined by the Board. In framing its remuneration policy, the Committee has given full consideration to the provisions of Schedule A to the Combined Code. The Directors’ Remuneration Report prepared by the Board is set out in full on pages 102 to 123. In preparing the report, the Board has followed the provisions of the Combined Code, the Listing Rules of the Financial Services Authority, and the Companies Acts.
Meetings The Committee normally has scheduled meetings at least four times a year and a number of additional meetings, as required, to review remuneration policy and the application of that policy. While the Chairman and Group Chief Executive are not members, they attend meetings unless they have a conflict of interest. During 2007, a total of seven Committee meetings were held.
Nomination Committee Report Role of the Committee The Nomination Committee (the Committee), in consultation with the Board, evaluates the balance of skills, knowledge and experience on the Board and identifies the role and capabilities required at any given time, taking into account the Group’s business. Candidates are considered on merit against those criteria, and the Committee makes recommendations to the Board regarding suitable candidates for appointments. In appropriate cases, search consultants are used to identify candidates.
The Committee has formal terms of reference set by the Board, which are reviewed regularly, and which are available on our website at plc/aboutpru/corporategovernance/ Alternatively, copies may be obtained upon request from the Company Secretary, at the Company’s registered office.
The process of evaluating the skills and composition of the Board is ongoing, and is kept under regular review in order to ensure appropriate plans for succession to the Board are in 96 Prudential plc Annual Report 2007
Relations with shareholders Communication with shareholders As a major institutional investor, the Company is acutely aware of the importance of maintaining good relations with its shareholders. We regularly hold discussions with major shareholders and a programme of meetings took place during 2007. A perception survey into the views of the Company’s major investors is undertaken on an annual basis by an independent firm, and the results of this survey are presented to the Board. Board members also regularly receive copies of the latest analysts’ and brokers’ reports on the Company and the sector, to further develop their knowledge and understanding of external views about the Company. The Chairman and the non-executive directors provided feedback to the Board on topics raised with them by major shareholders.
Annual General Meeting The Annual General Meeting will be held in the Churchill Auditorium at The Queen Elizabeth II Centre, Broad Sanctuary, Westminster, London SW1P 3EE on 15 May 2008 at 11.00am.
The Company believes the Annual General Meeting is an important forum for both institutional and private shareholders and encourages all its shareholders to vote. Shareholders will again be given the opportunity to put questions to the Board on matters relating to the Group’s operations and performance.
At its Annual General Meeting in 2007, the Company continued its practice of calling a poll on all resolutions. The voting results, which included all votes cast for and against each resolution at the meeting, and all proxies lodged prior to the meeting, were indicated at the meeting and published on the Company’s website as soon as practicable after the meeting. The Company also disclosed the number of votes withheld at the meeting and on its website. This practice provides shareholders present with sufficient information regarding the level of support and opposition to each resolution, and ensures all votes cast either at the meeting or through proxies are included in the result.
Any change to the Memorandum or the Articles of Association must be approved by special resolution of the shareholders in accordance with the provisions of the Companies Acts. Changes to the Articles of Association will be proposed at this year’s Annual General Meeting. Details of the proposed changes are set out in the Notice of the Annual General Meeting, which is sent to shareholders and is also available on the Company’s website at agminfo/2008/
Share capital On 31 December 2007, the Company’s issued share capital, which is set out in note H11 on page 258, consisted of 2,470,017,240 ordinary shares of 5 pence each, all fully paid up and listed on the London Stock Exchange. The number of accounts on the share register at 31 December 2007 was 75,948 (2006: 79,881). The Company is listed on the New York Stock Exchange in the form of American Depositary Shares, referenced to its ordinary shares, under a depositary agreement with JP Morgan.
Powers of directors to buy back shares The directors also require authority from shareholders in relation to the buying back of shares by the Company. The Company seeks authority by special resolution on an annual basis for the buyback of its own shares in accordance with the relevant provisions of the Companies Acts and other related guidance. The Company has not made use of that authority since it was last granted at its Annual General Meeting in 2007. This existing authority is due to expire at the end of this year’s Annual General Meeting. A special resolution to approve the renewal of this authority will be put to shareholders at the Annual General Meeting on 15 May 2008.
After making appropriate enquiries, the directors consider that the Group has adequate resources to continue its operations for the foreseeable future. The directors therefore continue to use the going concern basis in preparing the financial statements.
US corporate governance and regulations The Sarbanes-Oxley Act 2002 (the Act) was passed by the US Congress in July 2002 to establish new or enhanced standards for corporate accountability in the US. As a result of the listing of its securities on the New York Stock Exchange, the Company is required to comply with the relevant provisions of the Act as they apply to foreign private issuers, and has adopted procedures to ensure this is the case.
In particular in relation to the provisions of Section 302 of the Act, which covers disclosure controls and procedures, a Disclosure Committee has been established reporting to the Group Chief Executive, chaired by the Group Finance Director and comprising members of senior management. The objectives of this Committee are to: — Assist the Group Chief Executive and the Group Finance Director in designing, implementing and periodically evaluating the Company’s disclosure controls and procedures; — monitor compliance with the Company’s disclosure controls and procedures; — review and provide advice to the Group Chief Executive and Group Finance Director with regard to the scope and content of all public disclosures made by the Company which are of material significance to the market or investors; and
Post balance sheet events There have been no material events affecting the Company since the end of the financial year.
Compensation for loss of office None of the terms of employment of the Company’s directors includes specific change of control agreements. Terms applying on a termination of their office are set out in the Directors’ Remuneration Report on page 110. In the US, in line with normal employment practice, senior executives participate on a discretionary basis in a plan which provides for compensation in the event that their employment is terminated as a result of a takeover. In addition, three employees in our Asian business participate in a similar plan.
Information required to be disclosed in the directors’ report Information required to be disclosed in the directors’ report may be found in the following sections: Information Section in Annual Report Page number(s)
Future developments of the business of the Company Operating and financial review 26-64
Structure of share capital, including restrictions on the Corporate governance report 97-98 transfer of securities, voting rights and significant shareholders
Rules governing changes to the articles of association Corporate governance report 97
Powers of directors generally and in relation to issuing Corporate governance report 89, 98 or buying back shares
Significant agreements impacted by a change of control Corporate governance report 99
Agreements for compensation for loss of office Corporate governance report 99 or employment on takeover
The Remuneration Committee considers the remuneration policy and its decisions about individuals within the context of: — the UK’s regulatory framework — shareholder views — good practice as set out in investor guidelines — UK corporate governance standards.
— the total remuneration package for each executive director will be set in relation to the relevant employment market
— the performance of business unit executives will be measured at both a business unit and Group level
— performance measures will include absolute financial measures and relative measures as appropriate, to provide alignment between achieving results for shareholders and the rewards for executives.
The Committee met on seven occasions in 2007. The Chairman and the Group Chief Executive are invited to attend the meetings and are asked to provide their views as appropriate. The Committee decides the remuneration of the Chairman and the executive directors, including the Group Chief Executive, but in no case is any person present when their own remuneration is discussed. Each year the Committee reviews the remuneration of the senior management throughout the Group.
— considered, finalised and approved the proposals on Michael McLintock’s remuneration
— agreed the terms for Mark Norbom on his leaving the Company
— agreed the terms for Philip Broadley as a result of his resignation
During 2007, the Committee consulted with investors regarding Michael McLintock’s remuneration structure and incentive award levels and a proposed new long-term incentive plan, which shareholders will be requested to approve at the Annual General Meeting.
I continue to be confident the Committee’s approach aligns with shareholder interests, as well as rewarding Prudential’s executive directors appropriately for their performance.
Provides part of the guaranteed element of remuneration necessary to recruit and retain the best people for our business.
Rewards related to achieving success for shareholders over a three year period.
Market position compared with companies of similar size and complexity to Prudential, for example from the FTSE 50 for UK-based remuneration, UK-based asset management companies for M&G and US insurers for US-based remuneration.
Group – relative TSR performance against peer group Business – internal measures which contribute to increasing shareholder capital.
Executive directors have annual incentive plans based on the achievement of annual performance measures taken from the Company’s business plans and individual contributions. Awards are payable in cash up to the following levels, and for any award above these levels in the form of deferred shares.
— Group Chief Executive – cash up to 75 per cent of salary — Group Finance Director and the Chief Executives of UK
and Asia – cash up to 50 per cent of salary — Chief Executive of Jackson – cash up to 100 per cent of salary — Chief Executive of M&G – half of any award above £500,000 will be in the form of deferred shares (see the section on the proposals for Michael McLintock’s remuneration on page 108).
In addition, the Chief Executive of Jackson National Life Insurance Company (Jackson) receives a percentage of a cash-based senior management bonus pool determined by profits of Jackson for the year.
Remuneration Policy for executive directors The Company’s Remuneration Policy applies the Remuneration Principles as described in the letter from the Chairman of the Remuneration Committee, including the principle of thinking globally whilst acting locally. The remuneration structures of the individual executive directors therefore reflect their different roles and locations.
Elements of remuneration Total remuneration for our executive directors is made up of the elements set out below. All elements are reviewed annually.
Allows for all employees to participate in the success of the Company.
Executive directors receive certain benefits for example participation in medical insurance schemes, the provision of a cash allowance for a car and in some cases the use of a car and driver and security arrangements. No benefits are pensionable. Executive directors are entitled to participate in certain M&G investment products on the same terms as available to other members of staff.
The executive directors’ pension arrangements and life assurance provisions are set out in the ‘Directors’ pensions and life assurance’ section on pages 122 and 123.
Executive directors’ long-term incentive plans All long-term incentive arrangements relating to executive directors have a performance period of three years. Shares released from all the Company’s long-term plans are currently purchased in the open market through a trust for the benefit of qualifying employees.
The Remuneration Committee must also be satisfied that the quality of the Company’s underlying financial performance justifies the level of award delivered at the end of the performance period and may adjust the vesting level accordingly at its discretion.
Business Unit Performance Plans (BUPPs) For executive directors with regional responsibilities, this plan delivers share and cash-based awards, subject to a three-year performance period. The performance measure under the BUPPs is Shareholder Capital Value (SCV) which is shareholders’ capital and reserves on a European Embedded Value (EEV) basis (using the EEV Principles for reporting adopted by European insurance companies) for each regional business unit. Payouts depend on the increase in SCV over the performance period, with the required growth rates being different for each of Prudential’s business regions to reflect the relative maturity of the markets and the different business environments. The vesting schedules are set out in the table below. The unvested portion of any award lapses.
UK-based executive directors are also eligible to participate in the Company’s HMRC approved Share Incentive Plan which allows all UK-based employees to purchase shares of Prudential plc (partnership shares) on a monthly basis out of gross salary. For every four partnership shares bought, an additional matching share is awarded, which is purchased by Prudential on the open market. Dividend shares accumulate while the employee participates in the plan. Partnership shares may be withdrawn from the scheme at any time. If the employee withdraws from the plan within five years the matching shares are forfeited and if within three years, dividend shares are also forfeited.
Annual Salary from Director Role 1 January 2008 Maximum Maximum Maximum
2 The details for Michael McLintock’s new arrangements are set out in the section on ‘Michael McLintock remuneration arrangements’ below. Total remuneration is subject to an overriding cap such that his total remuneration should not be greater than three per cent of M&G’s annual IFRS profits.
The executive director employed in Asia is eligible to receive a 25 per cent salary supplement for pension purposes.
2007 Long-Term Incentive Award As a result of this review, it was decided that Michael McLintock’s remuneration was below market for the superior level of performance achieved in recent years. After consulting with shareholders, an LTIP award was made to Michael McLintock under the share section of the current M&G Chief Executive Long-Term Incentive Plan. This plan provides phantom M&G share awards, the value of which depends on the profit and fund performance of M&G over the performance period. The notional starting phantom share price is £1.00. The change in the phantom share price equals the change in M&G profit, modified by the investment performance of M&G over the performance period. For 2007 the face value of the share award was £1,333,000 with an expected value of £1,999,500. The value of the units after three years is paid in cash.
Annual bonus Awards will be made based on M&G’s performance both in absolute terms and relative to its peers with bonus amounts determined by an assessment of market competitive rewards for median and superior performance. In line with practice in the asset management sector there will be no specified maximum annual bonus award going forward. For 2008, we would not anticipate bonus levels to differ significantly from awards under the current plan for comparable levels of performance.
Long-term incentive plans Group Performance Share Plan As currently, in 2008 an award of 100 per cent of salary will be made to Michael McLintock under the Group Performance Share Plan.
Proposed new M&G long-term incentive plan Subject to shareholder approval a new M&G LTIP will be introduced following the Annual General Meeting. Under this plan, awards of phantom shares will be made. The phantom share price at vesting will be determined by the increase or decrease in M&G’s profits over the three year performance period, with a notional starting share price of £1.00.
The number of phantom shares subject to the award will be adjusted at the end of the three-year performance period to take account of the performance of M&G both in terms of appropriate levels of profitability and maintaining strong fund investment performance as follows: Profit Growth — Awards will be scaled back based on profit performance achieved if profits in the third year are less than the average of the profits over the prior year and the performance period.
— No award will vest in the event of a loss or zero profit, irrespective of fund performance.
— No adjustment will be made if the profits at the end of the third year are at least equal to the average of the profits over the prior year and the performance period.
Investment Performance — Where investment performance over the three year performance period is in the top two quartiles the number of phantom shares vesting will be enhanced. A sliding scale will apply up to 200 per cent of the annual award, which is awarded when top quartile performance is reached.
Should Michael McLintock leave the Group, the award will be forfeited unless he were termed a ‘good leaver’ (for instance death, disability or ill health) in which case the award would vest but would be pro-rated based on the number of days employed compared with the total number of days in the performance period. The exit value would be based on the profits and investment performance at the end of the previous financial year.
In the event of a change of control of the Company, the award will remain in place and vest at the end of the normal three-year performance period. The exit value of the award will be underpinned at profit levels projected by the most recently adopted M&G business plan prior to the change of control. If Michael McLintock were to leave within 12 months of a change of control for reasons associated with the change a pro-rated award would vest.
Further details about the plan are set out in the Notice of Annual General Meeting.
Total remuneration limit In normal circumstances we would not expect Michael McLintock’s total remuneration to exceed three per cent of M&G’s IFRS profits, as currently defined for accounting purposes. Should the Committee ever wish to exceed this percentage it will consult with the Company’s largest shareholders prior to making any awards and disclose in the Directors’ Remuneration Report the reasons, in its opinion, the three per cent cap should be exceeded.
Service Contracts Chairman’s letter of appointment and benefits The Chairman, Sir David Clementi, is paid an annual fee and has a contractual notice period of 12 months by either party. The Chairman participates in a medical insurance scheme, has life assurance cover of four times his annual fees in lieu of death in service and has the use of a car and driver. He is entitled to a supplement to his fees, intended for pension purposes. He is not a member of any Group pension scheme providing retirement benefits. His annualised fee as at 1 January 2008 is £520,000 and his pension allowance is 25 per cent of his fees.
The normal notice of termination the Company is required to give executive directors is 12 months. Accordingly, in normal circumstances the director would be entitled to one year’s salary and benefits in respect of the notice period on termination. Additionally, outstanding awards under annual and long-term incentive plans will vest depending on the circumstances and according to the rules of the plans. When considering any termination of a service contract, the Remuneration Committee will have regard to the specific circumstances of each case, including a director’s obligation to mitigate his loss.
Philip Broadley 12 April 2000 12 months 12 months Clark Manning 7 May 2002 12 months* 12 months* Michael McLintock 21 November 2001 6 months 12 months Nick Prettejohn 26 September 2005 12 months 12 months Barry Stowe 18 October 2006 12 months 12 months Mark Tucker 24 March 2005 12 months 12 months *The contract for Clark Manning is a renewable one-year fixed-term contract. The contract is renewable automatically upon the same terms and conditions unless the Company or Clark Manning gives at least 90 days’ notice prior to the end of the relevant term. In the case of the former, Clark Manning would be entitled to continued payment of salary and benefits for the period of one year from the day such notice is delivered to him. Payments of Clark Manning’s salary during the period following the termination of employment would be reduced by the amount of compensation earned by him from any subsequent employer or from any person for whom he performs services. Benefits to be provided during such period would also be cancelled to the extent that comparable benefits were available to him from these alternative sources.
On joining, Tidjane Thiam’s remuneration will be as set out in the following table: Annual Group Incentive Performance
His benefits will be a non-pensionable allowance of £10,000 per annum, in lieu of a company car allowance, medical insurance for himself and his family and the use of a car and driver. Additionally a salary supplement for pension purposes of 25 per cent of his salary and life assurance of four times salary on death in service will be provided.
A guarantee has also been provided that his bonus for 2008 will not be less than 100 per cent of his salary. Any amount of bonus paid which is greater than 50 per cent of his salary will be awarded in shares which are deferred for three years. Under the current remuneration policy, an award of 160 per cent of his salary will be made under the Group Performance Share Plan (GPSP). For 2008, in recognition of his appointment he will be made a double award under the GPSP totalling 320 per cent of salary.
In order to compensate for the loss of outstanding deferred share awards under annual incentive plans and long term awards with his previous employer, Tidjane Thiam will receive the following: — A cash sum on joining in lieu of the 2005 awards which were due to vest in March 2008; and — two restricted share awards, in lieu of his 2006 and 2007 awards without performance conditions which will vest in March
Philip Broadley Philip Broadley resigned in 2007. In view of his flexibility in agreeing a leaving date after the 2008 Annual General Meeting and for his agreement to act as a consultant for six months post his date of leaving, the Committee agreed the following: — A total payment of £507,105 to be paid in two tranches in June and December 2008; — medical insurance and life assurance cover for six months after his leaving date; — treatment as a ‘good leaver’ in respect of his outstanding share awards. The deferred share awards under his 2006 and 2007 annual incentive plans will be released on his leaving and his outstanding long-term incentive awards will vest according to the rules of the plans in the same way as other recipients of awards, but pro-rated where appropriate for the time worked during the performance period.
All of the above payments after June 2008 are subject to his continuing to be available for consultancy for six months after his leaving date and subject to his compliance with non-solicitation and confidentiality conditions.
The current annual fees for the non-executive directors are as follows: £
Non-executive directors also use a proportion of their fees to purchase additional shares in the Company on a quarterly basis.
Policy on external appointments Subject to the Group Chief Executive’s approval, executive directors are able to accept external appointments as non-executive directors of other organisations. Any fees paid may be retained by the executive director.
Sir Winfried Bischoff 2 August 2007 Subject to election AGM 2011 at AGM 2008 (subject to election at AGM 2008) Keki Dadiseth 1 April 2005 AGM 2005 AGM 2008 Michael Garrett 1 September 2004 AGM 2005 AGM 2008 Ann Godbehere 2 August 2007 Subject to election AGM 2011 at AGM 2008 (subject to election at AGM 2008)
*Based on the share price as at 31 December 2007. † With an interim target of 1 x salary after three years. ‡ Shareholdings for Barry Stowe include American Depositary Receipts
Sir David Clementi 33,582 48,555 48,555 *Or date of appointment if later.
Services Limited Share Incentive Plan together with Matching Shares (on a 1:4 basis) and accumulated dividend shares. The total shares included in the table will only be released if the employee remains in employment for three years. For Philip Broadley the total number of Matching Shares at 31 December 2007 was 162.
2 Barry Stowe’s interests in shares are made up of 33,339 American Depositary Receipts (representing 66,678 ordinary shares).
The Directors’ Remuneration Report Regulations 2002 (the Regulations) The line graph below shows the Total Shareholder Return (TSR) of the Company during the five years from 1 January 2003 to 31 December 2007 against the FTSE 100. This comparison was selected as Prudential is a major company in the FTSE 100.
To ta l s ha re ho ld er r et ur n
Cash including cash of performance supplements Total supplements periods ending for pension Emoluments for pension 31 December Salary/Fees Bonus Benefits* purposes† 2007 purposes‡ 2007§
The pension arrangements for current executive directors are described in the section on ‘Directors’ pensions and life assurance’ on page 122. ‡ 2006 figures include deferred share awards made from 2006 annual incentive plans which are detailed in the section ‘Other Share Awards’ on page 120. § Value of anticipated LTIP releases is the total of cash paid plus, for shares released, the value of the released shares based on the share price at 31 December 2007. All executive directors participate in long-term incentive plans and the details of releases for awards with a performance period ending 31 December 2007 are provided in the footnotes to the tables on share awards on pages 116 to 119. Executive directors’ participation in all-employee plans are detailed on page 122.
4 Mark Norbom’s directorship with Prudential plc ended on 14 December 2006 but he remained in employment until 31 January 2007. In connection with the termination of his employment he received a payment of £291,000 and nine successive monthly payments of £55,792. He also received private medical and life cover, school fees and club memberships until 31 October 2007 and housing benefits until 5 May 2007.
6 It is anticipated that for Barry Stowe a deferred share award from the 2007 annual bonus valued at £250,000 will be made. This is included in the 2007 bonus figure.
Executive directors’ non-executive director earnings Executive directors who are released to serve as non-executive directors of other external companies retain the earnings resulting from such duties. In 2007, Michael McLintock earned £48,542 from an external company. Other directors served as non-executive directors on the boards of companies in the educational and cultural sectors without receiving a fee for those services.
*The proportions for Clark Manning relate to his participation in the annual bonus plan and the Jackson Bonus pool which is based on Jackson financial performance. The proportions shown in the table incorporate a notional level for this pool.
Comparing these with the 2006 results, using constant exchange rates, produces the results set out in the following table.
IFRS profit from continuing operations Increase Increase Increase Increase of 20% of 6% of 17% of 25%
Notes 1 The 2007 and 2006 profit figures (based on reported actual exchange rates) were audited by KPMG. Net cash flow and the conversions at constant exchange rates are not audited.
2 In considering the bonus payments to be made to the executive directors the Committee decided to exclude the effects of Egg such that IFRS profits are from continuing operations. Hence no income from the sale of Egg or operating losses pre-sale are included. 3 2007 Group performance against the metrics included in the executive directors’ annual incentive plans was above maximum. 4 UK Net cash flow excludes the With-profits transfer. 5 Michael McLintock’s annual bonus plan performance measures include, as well as IFRS profits, growth in retail funds under management and comparative fund investment performance. Performance achieved against IFRS profits was above superior performance and the other two measures were around upper quartile performance.
6 2007 performance of the metrics in the individual business incentive plans were generally significantly above expectation, although Asia results included outcomes between threshold and business plan and a UK result close to business plan.
For all the executive directors, individual strategic goals formed the objectives against which individual performance was assessed. These included each executive director’s contribution to the Group strategy as a member of the Prudential plc Board and the proper performance of their functional and/or business unit roles.
Directors’ outstanding long-term incentive awards Share-based long-term incentive awards The section below sets out the outstanding share awards under the Restricted Share Plan, the Group Performance Share Plan and the awards under additional long-term plans for the executive directors who run specific businesses.
Philip Broadley Restricted Share Plan 2004 210,713 –1 31 Dec 06
Michael McLintock Restricted Share Plan 2004 67,429 –1 31 Dec 06
Share rights granted under the share-based long-term incentive plans continued Releases or rights
Mark Norbom Restricted Share Plan 2004 200,177 –1 31 Dec 06 Restricted Share Plan 2005 182,983 –5 31 Dec 07 Group Performance
Business Unit Performance Plan (share element) 2006 74,982 74,982 31 Dec 08
Business Unit Performance Plan (share element) 2007 65,035 745 65,035 31 Dec 09
Mark Tucker Restricted Share Plan 2005 356,817 356,8172 31 Dec 07 Group Performance
Business Unit Performance Plan (Cash element) 2007 624 624 31 Dec 09
Nick Prettejohn Business Unit Performance Plan (Cash element) 2006 374 374 31 Dec 08
Restricted Share Plan awards For RSP awards in 2004 and 2005, no rights were granted if the Company’s TSR performance as ranked against the comparator group (those companies remaining out of the FTSE 100 at the beginning of the performance period) was at the 50th percentile or below. The maximum grant is made only if the TSR ranking of the Company is 20th percentile or above. Between these points, the size of the grant made is calculated on a straight-line sliding scale. In normal circumstances, directors may take up their right to receive shares at any time during the following seven years.
2007 Awards The awards made under the Group Performance Share Plan and the Business Unit Performance Plan in respect of 2007 have a performance period from
In determining the 2007 conditional share awards the shares were valued at their average share price during the preceding calendar year, and the price used to determine the number of shares was 614.91 pence.
2 Restricted Share Plan 2005 The ranking of the Company’s TSR at the end of the three-year performance period ending on 31 December 2007 was 30th out of the remaining 85 companies in the FTSE 100 (35th percentile) and as a result it is anticipated that options over 62.5 per cent of the maximum number of shares in each award will be made which would result in nil cost options over 114,365 shares for Philip Broadley, 102,095 shares for Clark Manning, 36,597 shares for Michael McLintock and 223,011 shares for Mark Tucker.
3 Group Performance Share Plan 2006 At 31 December 2007 Prudential’s TSR performance was 121.4 per cent of the TSR performance of the index. At this performance level, 100 per cent of the maximum award would vest.
4 Group Performance Share Plan 2007 At 31 December 2007 Prudential’s TSR performance was 113.1 per cent of the TSR performance of the index. At this performance level, 84 per cent of the maximum award would vest.
Face value of Face value of conditional conditional awards Conditionally awards outstanding at awarded Payments outstanding at Date of end of
Clark Manning In 2004 and 2005 Clark Manning participated in a cash-based long-term plan that rewards the growth in appraisal value of Jackson. The award payout equals an initial award value adjusted by the change in the Prudential plc share price over the performance period. In order for any award to be made under the 2005 plan, the growth rate over the performance period must be greater or equal to eight per cent compound growth per annum. At this level of performance, the initial award value is US$864,240. If the on-target performance level of 11.5 per cent per annum compound is achieved the initial award value is doubled. If the annual growth rate is at least 17.5 per cent, the payout increases to a maximum of three times the initial award value. For performance between these points, payouts are on a straight line sliding scale.
Michael McLintock Michael McLintock’s 2004, 2005 and 2006 cash long-term incentive awards were under the M&G Chief Executive Long-Term Incentive Plan that provides a cash reward through phantom M&G share awards and options. For these awards, the phantom share price at the beginning of the performance period was £1. The change in the phantom share price equals the change in M&G profit, modified up or down by the investment performance of M&G, over the performance period. For each year the face value of the share award was £225,000 and the phantom option award had a face value of £367,800. Provided the phantom share options have value, they may be exercised in part or in full during annual exercise periods after three to seven years from the start of the performance period.
For the 2004 award the phantom share price at the end of the performance period was £2.59. This resulted in a payment from the phantom share award of £582,750 and a phantom option award of 367,800 units. Michael McLintock did not exercise any of these options. For the 2005 award, the phantom share price at the end of the performance period was £2.34. This will result in a payment of £526,500 from the share element of the award.
Under the rules of Michael McLintock’s 2000 phantom option award, a payment of £402,741 was made at the end of the seven-year exercise period.
Philip Broadley annual incentive award 2004 6,387 6,387 – 31 Dec 06 6,387 15 Mar 07 502 675
Deferred 2006 annual incentive awardnote 1 2007 31,100 768 31,6861,2 31 Dec 09
Michael McLintock annual incentive award 2004 57,121 57,121 – 31 Dec 06 57,121 15 Mar 07 502 675
Deferred 2005 annual incentive awardnote 1 2006 84,779 2,095 86,8741 31 Dec 08
Deferred 2005 annual incentive awardnote 1 2006 18,306 18,306 –7 31 Dec 08 18,306 08 Feb 07 715.5 715
Deferred 2006 annual incentive awardnote 1 2007 72,302 1,786 74,0881,6 31 Dec 09
Directors’ Remuneration table on page 114. Under the terms agreed on his leaving the Company, the outstanding deferred awards to Philip Broadley will be released after his termination date.
3 In 2007, a deferred share award from his 2006 annual bonus valued at US$121,360 was made to Clark Manning. This is included in the 2006 total in the Directors’ Remuneration table on page 114. The exchange rate used was US$1.8430 = £1.
4 In 2007, a deferred share award from his 2006 annual bonus valued at £555,000 was made to Michael McLintock. This is included in the 2006 total in the Directors’ Remuneration table on page 114.
5 In 2007, a deferred share award from his 2006 annual bonus valued at £80,673 was made to Nick Prettejohn. This is included in the 2006 total in the Directors’ Remuneration table on page 114.
7 Mark Norbom’s deferred shares under the 2004 Annual Incentive Plan (33,965 shares) and 2005 Annual Incentive Plan (18,306 shares) were released to him in February 2007. In addition, the 89,353 employer replacement shares which vested on 1 January 2007 were released and the Remuneration Committee exercised its discretion to allow a further 87,403 shares out of his awards under the appointment terms to vest, representing the proportion of the performance period which Mark Norbom had worked in respect of his pension replacement shares. Awards over 374,358 shares granted under the terms of Mark Norbom’s appointment lapsed.
9 In order to secure the appointment of Barry Stowe and to compensate him for the loss of substantial amounts of outstanding long-term remuneration, he was awarded rights to Prudential plc American Depositary Receipts, that vest as set out in the table. The figures in the table are the equivalent number of Prudential plc shares (one American Depositary Receipt equals two Prudential plc shares). In normal circumstances, releases are conditional on Barry Stowe being employed by Prudential at the date of vesting. If there is a change of control of Prudential he may be entitled to retain any unvested awards.
Year of standing exercise Options Options standing 31 Dec exercise Rights Earliest Latest initial at 1 Jan Exercised date forfeit granted at 31 Dec 2007 price Issue exercise exercise grant 2007 in 2007 (pence) in 2007 in 2007 2007 (pence) (pence) (pence) date date
Directors’ pensions and life assurance The pensions policy is set out on page 106. Prudential’s current practice in respect of pension arrangements for the current executive directors is set out below.
Clark Manning 49 – – – – – – – 15
2 As required by the Companies Act remuneration regulations. 3 The transfer value equivalent has been calculated in accordance with Actuarial Guidance Note GN11. 4 Supplements in the form of cash are included in the Directors’ Remuneration table on page 114.
Short-term fluctuations in investment returns IFRS note B1 152 £(137)m £155m Shareholders’ share of actuarial gains and losses on defined benefit pension schemes 152 £90m £167m
Operating profit from continuing operations based on longer-term investment returns 303 £2,542m £2,133m
Basic earnings per share EEV earnings per share 303 125.2p 91.7p Shareholders’ equity, excluding minority interests EEV balance sheet 304 £14.8bn £11.9bn
Primary statements 127 Consolidated income statement 128 Consolidated statement of changes in equity 130 Consolidated balance sheet 132 Consolidated cash flow statement
Section F: Income statement notes 225 F1: Segmental information 226 F2: Revenue 227 F3: Acquisition costs and other operating expenditure 227 F4: Finance costs: Interest on core structural borrowings of shareholder-financed operations 227 F5: Tax
Section J: Discontinued banking operations 285 J1: Income statement for discontinued banking operations 286 J2: Balance sheet for discontinued banking operations 286 J3: Risk management overview 286 J4: Maturities of assets and liabilities and liquidity risk 287 J5: Losses on loans and advances 288 J6: Market risk 288 J7: Credit risk 289 J8: Capital position
European Embedded Value (EEV) basis supplementary information 302 Operating profit from continuing operations based on longer-term investment returns 303 Summarised consolidated income statement – EEV basis 303 Earnings per share – EEV basis 303 Dividends per share 304 Movement in shareholders’ equity (excluding minority interests) – EEV basis 305 Summarised consolidated balance sheet – EEV basis 306 Notes on the EEV basis supplementary information 333 Statement of directors’ responsibilities in respect of the European Embedded Value (EEV) basis supplementary information 334 Independent auditor’s report to Prudential plc on the European Embedded Value (EEV) basis supplementary information
Benefits and claims (26,210) (25,981) Outward reinsurers’ share of benefits and claims (20) (144) Movement in unallocated surplus of with-profits funds H12 (760) (2,296)
Benefits and claims and movements in unallocated surplus of with-profits funds, net of reinsurance (26,990) (28,421)
Diluted (based on 2,448m and 2,416m shares respectively): Based on profit from continuing operations attributable to the equity holders of the Company 31.9p 40.5p Based on profit (loss) from discontinued operations attributable to the equity holders of the Company 9.8p (4.3)p *Profit before tax represents income net of post-tax transfers to unallocated surplus of with-profits funds, before tax attributable to policyholders and unallocated surplus of with-profits funds, unit-linked policies and shareholders’ profits.
Share Share Retained Translation securities Hedging holders’ Minority Total Note capital premium earnings reserve reserve reserve equity interests equity
Reserves Profit for the year 1,022 1,022 3 1,025 Items recognised directly in equity: Exchange translation movements B4 11 11 11 Movement on cash flow hedges (3) (3) (3) Unrealised valuation movements on Egg securities classified as available-for-sale (2) (2) (2)
Reserves Profit for the year 874 874 1 875 Items recognised directly in equity: Movement on cash flow hedges 7 7 7 Unrealised valuation movements on Egg securities classified as available-for-sale (2) (2) (2)
Related change in amortisation of deferred income and acquisition costs 75 75 75
Total income and expense for the year 874 (298) (78) 5 503 1 504 Dividends B3 (399) (399) (399) Reserve movements in respect of share-based payments 15 15 15 Change in minority interests arising principally from purchase and sale of venture investment companies and property partnerships of the PAC with-profits fund and of other investments 43 43
Share capital and share premium New share capital subscribed H11 3 333 336 336 Transfer to retained earnings in respect of shares issued in lieu of cash dividends H11 (75) 75
Intangible assets attributable to shareholders: Deferred acquisition costs and other intangible assets H1(b) 2,836 2,497
Other non-investment and non-cash assets: Property, plant and equipment H6 1,012 1,133 Reinsurers’ share of insurance contract liabilities H3 783 945 Deferred tax assets H4 925 1,012 Current tax recoverable H4 285 404 Accrued investment income G1,H5 2,023 1,900 Other debtors G1,H5 1,297 1,052
Investments of long-term business, banking and other operations: Investment properties H7 13,688 14,491 Investments accounted for using the equity method H8 12 6 Financial investments: G1
Liabilities Banking customer accounts G1 – 5,554 Policyholder liabilities and unallocated surplus of with-profits funds: Insurance contract liabilities H12 132,636 123,213 Investment contract liabilities with discretionary participation features G1 29,550 28,733 Investment contract liabilities without discretionary participation features G1 14,032 13,042 Unallocated surplus of with-profits funds H12 14,351 13,599
Other borrowings: Operational borrowings attributable to shareholder-financed operations G1,H13 3,081 5,609 Borrowings attributable to with-profits funds G1,H13 987 1,776
Other non-insurance liabilities: Obligations under funding, securities lending and sale and repurchase agreements G1 4,081 4,232 Net asset value attributable to unit holders of consolidated unit trusts and similar funds G1 3,556 2,476 Current tax liabilities H4 1,237 1,303 Deferred tax liabilities H4 3,475 3,882 Accruals and deferred income 599 517 Other creditors G1 1,020 1,398
Other liabilities G1,H15 1,871 1,652 Held for sale liabilities H9 – 387
Cash flows from operating activities Profit before tax from continuing operations 1,185 2,221 Profit (loss) before tax from discontinued operations (including profit on sale) J1 222 (150)
Interest income and expense and dividend income included in profit before tax (8,201) (10,056) Other non-cash items (140) 198 Operating cash items: Interest receipts 5,541 6,466 Dividend receipts 2,732 3,633 Tax paid (624) (523)
Equity capital: Issues of ordinary share capital H11 6 15 Dividends paid B3 (255) (323)
Cash and cash equivalents at end of year H10 4,951 5,071 *Profit before tax represents income net of post-tax transfers to unallocated surplus of with-profits funds, before tax attributable to policyholders and unallocated surplus of with-profits funds, unit-linked policies and shareholders’ profits. It does not represent profit before tax attributable to shareholders.
A1: Nature of operations Prudential plc (the Company) together with its subsidiaries (collectively, the Group or Prudential) is an international financial services group with its principal operations in the UK, the US and Asia. The Group operates in the UK through its subsidiaries, primarily The Prudential Assurance Company Limited (PAC), Prudential Annuities Limited (PAL), Prudential Retirement Income Limited (PRIL), M&G Investment Management Limited and, prior to disposal, Egg Banking plc. On 29 January 2007 the Company announced that it had entered into a binding agreement to sell its Egg banking business to Citi, as described in note I6. On 1 May 2007, the Company completed the sale.
The consolidated financial statements have been prepared and approved by the directors in accordance with International Financial Reporting Standards (IFRS) as adopted by the European Union (EU). The Company has elected to prepare its parent company financial statements in accordance with UK Generally Accepted Accounting Principles (GAAP). These are presented on pages 290 to 299.
In 2007 the Group adopted IFRS 7, ‘Financial Instruments: Disclosures’, IAS 1 (as amended) and amendment to IFRS 4 Implementation Guidance.
The Group has applied all IFRS standards and interpretations adopted by the EU and effective at 31 December 2007.
A3: Critical accounting policies, estimates and judgements a Critical accounting policies Prudential’s discussion and analysis of its financial condition and results of operations are based upon Prudential’s consolidated financial statements, which have been prepared in accordance with IFRS adopted for use in the EU. Were the Group to apply IFRS as published by the International Accounting Standards Board (IASB), as opposed to EU-adopted IFRS, no additional adjustments would be required.
A3: Critical accounting policies, estimates and judgements continued The items discussed below and in cross-referenced notes explain the effect of changes in estimates and the effect of reasonably likely changes in the key assumptions underlying these estimates as of the latest balance sheet date so as to provide analysis that recognises the different accounting effects on profit and loss or equity. In order to provide relevant analysis that is appropriate to the circumstances applicable to the Group’s businesses, the explanations refer to types of business, fund structure, the relationship between asset and policyholder liability measurement, and the differences in the method of accounting permitted under IFRS 4 for accounting for insurance contract assets, policyholder liabilities and unallocated surplus of the Group’s with-profits funds.
The results shown for 2007 and 2006 reflect this basis. Unallocated surplus represents the excess of assets over policyholder liabilities for the Group’s with-profits funds that have yet to be appropriated between policyholders and shareholders. The Group has opted to account for unallocated surplus wholly as a liability with no allocation to equity. This treatment reflects the fact that shareholders’ participation in the cost of bonuses arises only on distribution. Shareholder profits on with-profits business reflect one-ninth of the cost of declared bonus.
For derivative instruments of Jackson, the Group has considered at length whether it is appropriate to undertake the necessary operational changes to qualify for hedge accounting so as to achieve matching of value movements in hedging instruments and hedged items in the performance statements. In reaching the decision a number of factors were particularly relevant. These were: Notes on the Group financial statements A: Background continued
A3: Critical accounting policies, estimates and judgements continued — IAS 39 hedging criteria have been designed primarily in the context of hedging and hedging instruments that are assessable as financial instruments that are either stand-alone or separable from host contracts, rather than, for example, duration characteristics of insurance contracts; — the high hurdle levels under IAS 39 of ensuring hedge effectiveness at the level of individual hedge transactions; — the difficulties in applying the macro hedge provisions under IAS 39 (which are more suited to banking arrangements)
Supplementary analysis of results and earnings attributable to shareholders For shareholder-backed business, with the exception of debt securities held by Jackson and Egg (prior to its sale in 2007) and assets classified as loans and receivables, all financial investments and investment property are designated as fair value through profit and loss. Short-term fluctuations in investment returns on such assets held by with-profits funds, do not affect directly reported shareholder results. This is because (i) the unallocated surplus of with-profits funds are accounted for as liabilities and (ii) excess or deficits of income and expenditure of the funds over the required surplus for distribution are transferred to or from unallocated surplus. However, for shareholder-backed businesses the short-term fluctuations affect the result for the year and the Group provides additional analysis of results to provide information on results before and after short-term fluctuations in investment returns.
The Group uses operating profit based on longer-term investment returns as a supplemental measure of its results. The basis of calculation is disclosed in note A4(d).
Unrealised losses that are considered to be primarily the result of market conditions, such as increasing interest rates, unusual market volatility, or industry-related events, and where the Group also believes there is a reasonable expectation for recovery and, furthermore, it has the intent and ability to hold the investment until maturity or the market recovers, are usually determined to be temporary. Prudential’s review of fair value involves several criteria, including economic conditions, credit loss experience, other issuer-specific developments and future cash flows. These assessments are based on the best available information at the time. Factors such as market liquidity, the widening of bid/ask spreads and a change in cash flow assumptions can contribute to future price volatility. If actual experience differs negatively from the assumptions and other considerations used in the consolidated financial statements, unrealised losses currently in equity may be recognised in the income statement in future periods. Additional details are described in note G5.
The principal holdings of loans and receivables where credit risk was of particular significance were loans and advances to customers held by Egg. Egg was sold in May 2007. Egg had significant concentrations of credit risk in respect of its unsecured lending on credit cards, personal loans and mortgage lending secured on property in the UK. The table in note J5 details the movements in the allowance for losses on such loans and advances up to the date of sale.
For investment contracts that do not contain discretionary participating features, IAS 39 and, where the contract includes an investment management element, IAS 18, apply measurement principles to assets and liabilities attaching to the contract.
Fixed annuity contracts, which are investment contracts under US GAAP terminology, are accounted for by applying in the first instance a retrospective deposit method to determine the liability for policyholder benefits. This is then augmented by potentially three additional amounts, namely deferred income, any amounts previously assessed against policyholders that are refundable on termination of the contract, and any premium deficiency, i.e., any probable future loss on the contract. These types of contract contain considerable interest rate guarantee features. Notwithstanding the accompanying market risk exposure, except in the circumstances of interest rate scenarios where the guarantee rates included in contract terms are higher than crediting rates that can be supported from assets held to cover liabilities, the accounting measurement of Jackson’s fixed annuity products is not generally sensitive to interest rate risk. This position derives from the nature of the products and the US GAAP basis of measurement.
A3: Critical accounting policies, estimates and judgements continued Variable annuity contracts written by Jackson may provide for guaranteed minimum death, income, or withdrawal benefit features. In general terms, liabilities for these benefits are accounted for under US GAAP by using estimates of future benefits and fees under best estimate assumptions. For variable annuity business the key assumption is the expected long-term level of equity market returns, which for 2007 and 2006 was 8.4 per cent per annum determined using a mean reversion methodology. Likely changes to this percentage return are not expected to be significant.
Except to the extent of mortality experience, which primarily affects profits through variations in claim payments and the guaranteed minimum death benefit reserves, the profits of Jackson are relatively insensitive to changes in insurance risk.
The adequacy of the insurance contract liabilities is tested by reference to best estimates of expected investment returns on policy cash flows and reinvested income. The assumed earned rates are used to discount the future cash flows. The assumed earned rates consist of a long-term best estimate determined by consideration of long-term market conditions, and rates assumed to be earned in the trending period. At 31 December 2007 and 2006 it has been assumed that the longer-term bond rate will be attained by 31 December 2013.
Deferred acquisition costs Significant costs are incurred in connection with acquiring new insurance business. Except for acquisition costs of with-profits contracts of the UK regulated with-profits funds, which are accounted for under the realistic FSA regime as described in note A4, these costs, which vary with, and are primarily related to, the production of new business, are capitalised and amortised against margins in future revenues on the related insurance policies. The recoverability of the asset is measured and the asset is deemed impaired if the projected future margins are less than the carrying value of the asset. To the extent that the future margins differ from those anticipated, then an adjustment to the carrying value of the deferred acquisition cost asset will be necessary.
A3: Critical accounting policies, estimates and judgements continued Jackson For term business, acquisition costs are deferred and amortised in line with expected premiums. For annuity business, acquisition costs are deferred and amortised in line with expected gross profits on the relevant contracts. For interest-sensitive business, the key assumption is the long-term spread between the earned rate and the rate credited to policyholders, which is based on the annual spread analysis. In addition, expected gross profits depend on mortality assumptions, assumed unit costs and terminations other than deaths (including the related charges), all of which are based on a combination of actual experience of the Jackson companies, industry experience and future expectations. A detailed analysis of actual experience is measured by internally developed mortality studies.
For variable annuity business, the key assumption is the expected long-term level of equity market returns as described above.
Asian operations The key shareholder-backed Asian operation is the Taiwan life business.
In the case of PSPS, movements in the apportionment of the surplus or deficit for PSPS between the WPSF and shareholders’ funds in 2007 reflect the 70/30 ratio applied to the base deficit position as at 31 December 2005 but with service cost and contributions for ongoing service apportioned by reference to the cost allocation for activity of current employees.
Goodwill Goodwill impairment testing requires the exercise of judgement by management as to prospective future cash flows.
A4: Significant accounting policies a Financial instruments (other than long-term business contracts classified as financial instruments under IFRS 4) Investment classification Upon initial recognition, financial investments are measured at fair value. Subsequently, the Group is permitted under IAS 39, subject to specific criteria, to designate its investments as either financial investments at fair value through profit and loss, financial investments held on an available-for-sale basis, financial investments held-to-maturity or loans and receivables. The Group holds financial investments on the following bases: i Financial assets and liabilities at fair value through profit and loss – this comprises assets and liabilities designated by management as fair value through profit and loss on inception. These investments are measured at fair value with all changes thereon being recognised in investment income.
A4: Significant accounting policies continued ii Financial investments on an available-for-sale basis – this comprises assets that are designated by management and/or do not fall into any of the other categories. These investments are carried at fair value. Interest income is recognised on an effective interest basis in the income statement. Except for foreign exchange gains and losses on debt securities, not in functional currency, which are included in the income statement, unrealised gains and losses are recognised in equity. Upon disposal or impairment, accumulated unrealised gains and losses are transferred from equity to the income statement as realised gains or losses.
The primary areas of the Group’s continuing operations where derivative instruments are held are the UK with-profits funds and annuity business, and Jackson. In addition, for 2006 and during 2007 to the date of disposal, the Group also entered into significant derivative transactions for its discontinued banking operations.
For the Group’s continuing operations, hedge accounting under IAS 39 is not usually applied. The exceptions, where hedge accounting has been applied in 2007 and 2006, are summarised in note G3.
For UK annuity business the derivatives are held as part of the overall matching of asset returns and duration to match, as far as practical, with liabilities to policyholders. The carrying value of these liabilities is sensitive to the return on the matching financial assets including derivatives held. Except for the extent of minor mismatching, value movements on derivatives held for this purpose do not affect shareholders’ profit or equity.
Embedded derivatives Embedded derivatives are held by various Group companies including Jackson and, prior to the sale of Egg in the first half of 2007, Egg. They are embedded within other non-derivative host financial instruments to create hybrid instruments. Where economic characteristics and risks of the embedded derivatives are not closely related to the economic characteristics and risks of the host instrument, and where the hybrid instrument is not measured at fair value with the changes in fair value recognised in the income statement, the embedded derivative is bifurcated and carried at fair value as a derivative in accordance with IAS 39.
Securities lending including repurchase agreements The Group is party to various securities lending agreements under which securities are loaned to third parties on a short-term basis. The loaned securities are not derecognised; rather, they continue to be recognised within the appropriate investment classification. The Group’s policy is that collateral in excess of 100 per cent of the fair value of securities loaned is required from all securities borrowers and typically consists of cash, debt securities, equity securities or letters of credit.
A4: Significant accounting policies continued Borrowings Although initially recognised at fair value, net of transaction costs, borrowings, excluding liabilities of consolidated collateralised debt obligations, are subsequently accounted for on an amortised cost basis using the effective interest method. Under the effective interest method, the difference between the redemption value of the borrowing and the initial proceeds (net of related issue costs) is amortised through the income statement to the date of maturity.
Incremental, directly attributable acquisition costs relating to the investment management element of these contracts are capitalised and amortised in line with the related revenue. If the contracts involve up-front charges, this income is also deferred and amortised through the income statement in line with contractual service provision.
A4: Significant accounting policies continued Annual bonuses are declared and credited each year to with-profits policies. The annual bonuses increase policy benefits and, once credited, become guaranteed. Annual bonuses are charged to the profit and loss account in the year declared. Final bonuses are declared each year and accrued for all policies scheduled to mature and for death benefits expected to be paid during the next financial year. Final bonuses are not guaranteed and are only paid on policies that result from claims through the death of the policyholder or maturity of the policy within the period of declaration or by concession on surrender. No policyholder benefit provisions are recorded for future annual or final bonus declarations.
The policyholders’ liabilities of the regulated with-profits funds are accounted for under FRS 27. FRS 27 is underpinned by the FSA’s Peak 2 basis of reporting. This Peak 2 basis requires the value of liabilities to be calculated as: — A with-profits benefits reserve (WPBR); plus — future policy related liabilities (FPRL); plus — the realistic current liabilities of the fund.
Under FRS 27: for the UK with-profits funds: — No deferred acquisition costs and related deferred tax are recognised; and — adjusted realistic basis liabilities instead of MSB liabilities are recognised.
Other insurance contracts (i.e. contracts which contain significant insurance risk as defined under IFRS 4) For these contracts UK GAAP has been applied, which reflects the MSB. Under this basis the following approach applies:
For the business of Jackson, the determination of the expected emergence of margins, against which the amortisation profile of the DAC asset is established, is dependent on certain key assumptions. For single premium deferred annuity business, the key assumption is the expected long-term spread between the earned rate and the rate credited to policyholders. For variable annuity business, the key assumption is the expected long-term level of equity market returns which, for 2007 and 2006, was 8.4 per cent per annum implemented using a mean reversion methodology. These returns affect the level of future expected profits through their effects on fee income and the required level of provision for guaranteed minimum death benefit claims.
c Other assets, liabilities, income and expenditure Basis of consolidation The Group consolidates those entities it is deemed to control. The degree of control is determined by the ability of the Group to govern the financial and operating policies of an entity in order to obtain benefits. Consideration is given to other factors such as potential voting rights.
The Group holds investments in internally and externally managed Open-ended Investment Companies (OEICs) and unit trusts. The Group’s percentage ownership levels in these entities can fluctuate from day to day according to changes in the Group’s and third party participation in the funds. In instances where the Group’s ownership of internally managed funds declines marginally below 50 per cent and, based on historical analysis and future expectations the decline in ownership is expected to be temporary, the funds continue to be consolidated as subsidiaries under IAS 27.
The consolidated financial statements of the Group include the assets, liabilities and results of the Company and subsidiary undertakings in which Prudential has a controlling interest, using accounts drawn up to 31 December 2007 except where entities have non-coterminous year ends. In such cases, the information consolidated is based on the accounting period of these entities and is adjusted for material changes up to 31 December. Accordingly, the information consolidated is deemed to cover the same period for all entities throughout the Group. The results of subsidiaries are included in the financial statements from the date acquired to the effective date of disposal. All inter-company transactions are eliminated on consolidation. Results of asset management activities include those for managing internal funds.
A4: Significant accounting policies continued Investment properties Investments in leasehold and freehold properties not for occupation by the Group are carried at fair value, with changes in fair value included in the income statement. Properties are valued annually either by the Group’s qualified surveyors or professional external valuers using the Royal Institution of Chartered Surveyors (RICS) guidelines. The RICS guidelines apply separate assumptions to the value of the land, buildings and tenancy associated with each property. Each property is externally valued at least once every three years. The cost of additions and renovations is capitalised and considered when estimating fair value.
Pension schemes The Group operates a number of pension schemes around the world. The largest of these schemes is the PSPS, a defined benefit scheme. The Group also operates defined contribution schemes. Defined contribution schemes are schemes where the Company pays contributions into a fund and the Company has no legal or constructive obligation to pay further contributions should the assets of that fund be insufficient to pay the employee benefits relating to employee service in both current and prior periods. Defined benefit schemes are post-employment benefit plans that are not defined contribution schemes.
Tax The Group’s UK subsidiaries each file separate tax returns. Jackson and other foreign subsidiaries, where permitted, file consolidated income tax returns. In accordance with UK tax legislation, where one domestic UK company is a 75 per cent owned subsidiary of another UK company or both are 75 per cent owned subsidiaries of a common parent, the companies are considered to be within the same UK tax group. For companies within the same tax group, trading profits and losses arising in the same accounting period may be offset for purposes of determining current and deferred taxes.