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In 2008 we delivered a very strong performance in the face of extremely challenging economic conditions, demonstrating the soundness and resilience of our strategy.
Comparatives at Actual exchange rates (AER) *2007 excludes the sales proceeds from Egg
69 Other corporate information 74 Corporate responsibility review 102 Directors’ remuneration report 128 Summary of statutory and supplementary International Financial Reporting Standards (IFRS) basis and EEV basis results 130 Index to Group financial statements 131 Consolidated income statement 132 Consolidated statement of changes in equity 134 Consolidated balance sheet 136 Consolidated cash flow statement 137 Notes on the Group financial statements 306 Balance sheet of the parent company 307 Notes on the parent company financial statements 316 Statement of directors’ responsibilities in respect of the
Financial statements and European Embedded Value (EEV) basis supplementary information 360 Risk factors 364 Shareholder information 366 How to contact us
D irecto rs’ rem u n eratio n rep o rt F
A d d itio n al in fo rm atio n F
Prudential plc is an international retail financial services group with significant operations in Asia, the US and the UK. Our strategy is to focus on the retirement opportunity in our chosen markets, enabling us to deliver profitable growth.
The Group is structured around four main business units: Prudential Corporation Asia, Jackson National Life Insurance Company, Prudential UK and M&G.
• Approximately 500,000 customers through M&G Investments • Approximately 1,000 employees
• Over 11 million life customers in 12 markets • One of the largest regional networks of agents, numbering 425,000 • Expanded and extended bank distribution agreement with Standard Chartered Bank • Brand recognition consistently high – outperforming other financial services companies • Award-winning customer service in China, India,
• Record profits in 2008 of £228 million, up from £203 million in 2007
• Retail sales up 10 per cent against an overall Retail market that declined by 10 per cent (Source: ABI)
* IFRS operating profits based on longer-term investment returns before restructuring costs and other income and expenditure
I am very pleased to welcome you to Prudential’s 2008 Annual Report, my first as Chairman, and to report a very strong financial performance in challenging economic conditions.
These successes not only benefit our individual businesses, but our Group as a whole.
Our strong performance in 2008 was not just about financial returns. Our founding principles of integrity, security and prudence continue to drive our commitment to supporting the financial health of our customers and the well-being of the communities in which we operate. During the year, over 2,200 of our colleagues gave time to projects to improve their local environment through the Chairman’s Award scheme. At the end of the year, when employees voted for the project they felt had enjoyed the greatest impact, the winner was the Foundation for Older Persons’ Development in Thailand.
This focus, combined with our distribution capability, trusted brands and flexibility to commit capital to the right products and markets will ensure we will continue to deliver profitable growth in the short and long-term.
I am pleased to report that Prudential delivered a strong performance in all its businesses in 2008, and maintained a healthy capital position despite the banking liquidity crisis in mid-year and the onset of the most severe worldwide recession in more than a generation.
Our IGD position will be further strengthened during 2009 by around £0.8 billion on completion of the transfer of the agency back-book business in Taiwan, a transaction that we announced on 20 February 2009.
In addition to this strong capital position, the total credit reserve for the UK annuity shareholder business is £1.4 billion.
The US remains the largest retirement market in the world, validating our strategy to position Jackson to meet the pre- and post-retirement needs of the baby-boomer generation. As in the UK, the retirement and near-retirement population will represent the fastest growing segment of the market in the US over the next decade.
In Asia, we continued to benefit in 2008 from our focus on regular premium products, as sales of single premium products suffered amid the market dislocation experienced in the second half of the year. In addition, the breadth of our offering enabled us to refocus our energies on higher-margin health and protection products, and also on with-profits for the more cautious investor.
At the same time, with consumers seeking greater security and stability amid unprecedented market volatility, the financial strength of our with-profit funds and our long-term investment performance, proved to be further advantages. We remain a market leader in both individual annuities and with-profits, as well as in the corporate pensions market and the emerging equity release market.
Across our asset management businesses we have broad multi-asset capabilities covering all asset classes. Once again, these enable us to tailor our offerings to changing market conditions and customer preferences. M&G’s investment performance and distribution strength were key drivers behind M&G’s robust profits, net sales performance and clear relative outperformance.
We are also maintaining our proud track record of innovation in product design. In the UK in 2008 we introduced an income drawdown product and enhanced lifestyle pricing for annuities. And we continued to build on our success in the with-profits sector by extending our multi-asset capabilities across additional product structures. In Asia we continue to build our health and protection product range, and have enjoyed great success in developing Shariah-compliant products in both Indonesia and Malaysia.
In asset management, our businesses achieve similar flexibility through a multi-channel, multi-geography distribution approach in both the retail and institutional marketplaces.
A further manifestation of our flexibility is our portfolio of valuable, market-leading brands. Brands create value through their relationship and resonance with customers. Whether you look at Prudential, Jackson, M&G or any of our other brands, each has a clear personality and values that helps us build and sustain customer loyalty and trust. The benefits of this trust were especially apparent in 2008, when the collapse in consumer confidence in the financial services sector saw us benefit from a concerted 'flight to quality'.
As 78 million baby-boomers move in to retirement age, their assets will shift from asset accumulation to income distribution.
We also remain comfortable with the Group’s liquidity position at both holding and subsidiary company level. The holding company has significant internal sources of liquidity. As well as cash and near-cash assets of £1.2 billion – more than sufficient to meet all our requirements for the foreseeable future – the Group also has in place £2.1 billion of undrawn committed banking facilities.
One result of our consistently cautious capital and cash management strategy is our ability to maintain our conservative dividend policy, as reflected in the dividend announced with these results. Going forward, our Board will continue to focus on delivering a growing dividend, the size of which will of course continue to reflect the Board’s view at the time of the Group’s financial position and needs, including available opportunities for profitable investment. The Board believes that, in the medium term, a dividend cover of around two times is appropriate to maintain a progressive, though conservative, dividend policy.
• Deliver growing dividend, determined after taking into account the Group’s financial flexibility and opportunities to invest in areas of business offering attractive returns
• Successful bank distribution agreement with Standard Chartered Bank (SCB) was expanded and extended. Prudential now works with SCB in nine markets1 and is now exploring more opportunities for protection and Takaful products 1 Hong Kong, Singapore, Malaysia, Taiwan, Japan, Korea, Thailand, China, Vietnam
• We introduced three new guaranteed minimum withdrawal benefits (GMWB) and eight new portfolio investment options
• Implementation of dedicated, premier service teams resulted in overwhelmingly positive feedback from key producers
• Curian Capital, added such a large volume of new selling agreements during 2008 that we needed to expand its wholesaling force, which was already the largest in the managed accounts business
• We maintained our leadership position in the individual annuity market in 2008 with a market share of 24 per cent. During the year, we introduced lifestyle pricing and launched a new enhanced annuity product. We grew our lifetime mortgage market share to 23 per cent and the PruHealth joint venture continues to develop strongly. With-profits bond sales were particularly strong in 2008, reflecting the strength of our with-profits offering and an increasing demand for this type of product as consumers increasingly look to protect themselves from market downturns
• We launched PruFund as a fund link, making it available across a range of tax wrappers including our factory gate products – individual pensions, income drawdown, onshore and offshore bonds. In addition, we launched PruSelect, an extended range of unit-linked funds across the pensions and investments products to complement our in-house multi-asset fund range, and these have helped us grow our market share across all these product sets. We have also gained over 40 new distribution panels with 15 key accounts, enabling us to distribute our factory gate products more widely with intermediaries
• The transactions completed included the bulk annuity buy-in agreements with Goldman Sachs for the reinsurance of APE £30 million of Rothesay Life’s non-profit annuity business and with the Trustee of the Cable & Wireless Superannuation Fund for the reinsurance of APE £106 million of liabilities relating to the scheme’s pensioners in payment. Our new business margin on our Wholesale bulk annuity and insurer backbook business was 32 per cent
• Over the three years to December 2008, 35 per cent of M&G’s retail funds delivered top-quartile investment performance
Improving the efficiency of our operations remains an ongoing objective. As announced in our 2007 full-year results, the first phase of our UK cost reduction programme delivered savings of £115 million per annum. The agreement with Capita, which commenced in April 2008, will ultimately deliver a further £60 million per annum of savings and will enable our UK business to achieve its total cost savings target of £195 million by the end of 2010. In the US we are already a market leader in terms of operational efficiency and have service levels that are externally acknowledged as world class. We will continue to invest in maintaining and extending this leadership through further systems simplification, enabling us to stay ahead of the competition.
It is my firm belief that this cautious but proactive strategy will allow us both to continue to outperform over the economic cycle.
• Build on our strengths in the retirement income and savings market
• Deliver improvement in operational performance and customer service whilst preserving our focus on costs
20 Chief Financial Officer’s overview 34 Risk and capital management: • Risk oversight • Capital management 44 Business unit review: • Insurance operations: Asia, US, UK • Asset management: M&G, Asia, US
We are committed to transparent and open dialogue that increases clarity and understanding about our business. This is why we continue to place a high priority on our ongoing drive towards greater disclosure to ensure shareholders and policyholders have a complete understanding of our business.
During 2008, our continued and targeted investment in areas that deliver profitable growth enabled us to improve our operating performance on both an European Embedded Value (EEV) and IFRS basis.
Group operating profit before tax from continuing operations on the EEV basis increased by 17 per cent to £3.0 billion. This was largely driven by a 23 per cent increase in in-force profit from £1.3 billion to £1.6 billion and an eight per cent increase in new business profit from £1.2 billion to £1.3 billion. After tax and minority interest the Group saw a loss for the period of £1.3 billion. This was driven primarily by short-term fluctuations of £5.1 billion. Insurance companies hold a large number of assets over the long term, the value of which will vary over time, therefore negative and positive fluctuations are to be expected.
Total EEV basis operating profit from continuing operationsnotes 2,5 2,961 2,530 17 2,676 11
* IGD before allowing for final dividend estimated at £1.7 billion (£1.4 billion at 31 December 2008 and in addition £0.3 billion subsequently allowed by the FSA). 2007 IGD surplus was £1.9 billion.
Notes 1 Long-term business profits after deducting Asia development expenses and before restructuring costs. 2 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 and changes in the time value of cost of options and guarantees arising from changes in economic factors, actuarial gains and losses on defined benefit schemes and the mark to market value movements on borrowings.
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, and the shareholder’s share of actuarial gains and losses on defined benefit schemes.
4 Actual exchange rate (AER) and Constant exchange rate (CER). 5 The comparative results for 2007 have been adjusted for the effects of adoption of the principles of IFRIC 14 as described in notes 20 and I1 of the EEV
supplementary information and IFRS financial statements. 6 Return on Embedded value is based on EEV operating profit from continuing operations after tax and minority interests as a percentage of opening embedded value (shareholder’s funds on a EEV basis). 7 Prior Year excludes sale proceeds from Egg.
In the Business Review (BR), year-on-year comparisons of financial performance are on a Actual exchange rate (AER) basis, unless otherwise stated.
In the extremely volatile environment we have experienced in 2008, we have maintained a strong focus on risk, capital and cash management. We achieved our target of being cash flow positive in 2008 at the holding company level, with a cash surplus of £54 million.
The £0.3 billion of additional IGD capital reflects our ability to realise a portion of the shareholders’ economic interest in the future transfers from the UK with-profits fund, which in total was worth £1.7 billion at 31 December 2008. Going forward, we have an opportunity to develop similar transactions, which may allow us to access more of the residual £1.4 billion if required.
The reported results for 2008 include the results of the agency distribution business in Taiwan. However, on 20 February 2009 we entered into an agreement to transfer the assets and liabilities of this business to China Life Insurance Company (Taiwan) pending regulatory approval. The business to be transferred includes Prudential’s legacy interest rate products in Taiwan, and the agreement is significantly value enhancing for the Group. On completion the transfer will give rise to a net increase in the Group’s IGD surplus of approximately £0.8 billion, further strengthening our already robust capital position. Embedded value will increase by approximately £90 million after restructuring costs.
These factors, combined with the Group’s strong underlying earnings capacity, our established hedging programmes and additional areas of financial flexibility, position the Group to withstand significant further deteriorations in market conditions should they occur.
• An instantaneous further 40 per cent fall in equity markets from 31 December 2008 levels would reduce the IGD surplus by £350 million
• A 150bps reduction in interest rates from 31 December 2008 would reduce the IGD surplus by £300 million (the effect would be less following the completion of the sale of our Taiwan legacy agency book)
• Credit defaults of 10 times the expected level would have an impact of £500 million in excess of the annual reserve release.
Our main area of shareholder credit risk exposure is within Jackson. As at 31 December 2008, Jackson’s fixed income portfolio was approximately £24 billion, of which 93 per cent was investment grade and seven per cent high yield. Total defaults and impairment charges were £624 million in 2008, of which £78 million was in respect of default experience, £419 million in respect of impairment charges, and the remaining £127 million reflecting losses incurred on the sale of assets.
Our strategy, focused on the pre and post-retirement market in Asia, the US and the UK, our distribution expertise, our product strength, our prudent but proactive risk management are key competitive advantages in a challenging environment.
We have defined our plans and growth ambitions so as to be able to generate cash and conserve capital. This will position us well to take advantage of any improvement in market conditions whenever, and wherever they occur.
EEV results Prudential plc is the holding company of Prudential Group. The principal activity of our subsidiary operations is the provision of financial services to individuals and businesses in Asia, the US and UK. The principal subsidiaries are listed in note I6 on page 301.
Operating profit from the asset management business rose to £345 million, up three per cent from £334 million in 2007, reflecting a very strong performance from M&G despite the market volatility experienced in the second half of 2008.
Restructuring costs of £32 million (2007: £20 million) comprised £28 million (2007: £19 million) recognised on an IFRS basis, and an additional £4 million (2007: £1 million) recognised on the EEV basis for the shareholders’ share of costs incurred by the PAC with-profits fund.
In our Asian business, short-term investment fluctuations in investment returns were negative £1,063 million, compared to positive £226 million in 2007. This sharp change reflects the lower-than-expected returns achieved in most territories and significantly higher volatility in investment markets. The main negative contributors in absolute amounts were our businesses in Hong Kong, Singapore and Taiwan.
Insurance business: UK general insurance commission 44 4 4 Asset management business: US broker-dealer and asset management 10 13 (23) 14 (29)
In our US business, economic assumption changes were positive £267 million. These primarily reflected 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 £656 million. This reflected a reduction in fair value of core borrowings, as the decrease in interest rates was more than offset by the widening of the credit spread, thereby increasing overall market yields on comparable debt securities.
(Loss) profit from continuing operations after tax before minority interests (1,335) 2,743 (149)
Discontinued operations (net of tax) 0 241 Minority interests (3) (21)
Our Asian operations IFRS operating profit for long-term business increased from £189 million in 2007 to £321million in 2008. In Indonesia the results increased from £35 million to £55 million whilst in the established operations the growth was more muted, growing from £153 million to £162 million.
For our Korean operation the result improved from a loss of £13 million to a profit of £12 million. The driver for the growth was the implementation, for IFRS reporting purposes, of a more appropriate basis of deferring and amortising acquisition costs rather than continue with the local regulatory basis reporting. Our Indian operation posted a loss of £6 million, before development expenses for the agency field force which are now shown separately in the analysis. The result also reflects that as the business matures it is appropriate to now defer and amortise acquisition costs, resulting in a benefit of £19 million. In Taiwan, where the IFRS basis of reporting reflects US GAAP for the insurance assets and liabilities of the business the result increased by £15 million to £60 million. The result for other operations increased from £12 million to £38 million reflecting mainly reserve releases in the Japanese operation.
M&G’s operating profit for 2008 was £286 million, an increase of 13 per cent over 2007. This represented a strong financial performance in the light of the prevailing challenging market conditions. Higher profits from the fixed income business and higher performance-related fees were partially offset by the negative impact of market conditions, particularly in the retail business.
The operating profit from the US broker-dealer and asset management businesses was £10 million, a decrease of 23 per cent on 2007. Curian recorded losses of £3 million in 2008, an improvement on its losses of £5 million in 2007, as the business continued to invest to build scale.
Our Asian operations’ negative short-term fluctuations of £200 million primarily reflected movements in Vietnam, Taiwan and Japan of £81 million, £65 million and £34 million respectively. The result in Vietnam mainly reflected the twothirds fall in the Vietnam equity market. Taiwan’s short-term fluctuations mainly reflected CDO losses of £40 million combined with losses of £103 million resulting from the 39 per cent fall in the country’s stock market, offset by gains of £108 million in the bond portfolio. In Japan there were a number of contributory factors, the largest of these being losses of £14 million reflecting the 42 per cent fall in the country’s stock market and unrealised losses of £13 million on Leveraged Super Senior notes.
Our US results include a £1,058 million charge (2007: £18 million charge) for short-term fluctuations in investment returns. This comprises £535 million in respect of debt securities, £439 million in respect of freestanding derivatives and embedded derivative liabilities, £69 million for equity type securities and a net £15 million for other items.
(Loss) profit before tax from continuing operations attributable to shareholders (450) 1,063 (142)
The effective rate of tax on operating profits, based on longerterm investment returns, was 22 per cent (2007: 32 per cent).
The effective rate of tax at the total IFRS profit level for continuing operations was 13 per cent (2007: 33 per cent). The effective rate of tax on operating profits is lower than 2007 reflecting a combination of the settlement of issues with HM Revenue and Customs at amounts below those previously provided and a reduction in amounts previously provided on outstanding issues with HM Revenue and Customs. The effective rate of tax at total IFRS profits level is lower than expected, substantially due to a restriction on the ability to recognise deferred tax assets on all losses in Asia and the US.
The full year dividend is covered 2.24 times by post-tax IFRS operating profit from continuing operations.
The Board will maintain its focus on delivering a growing dividend, which will continue to be determined after taking into account our Group’s financial flexibility and our assessment of opportunities to generate attractive returns by investing in specific areas of the business. The Board believes that in the medium term a dividend cover of around two times is appropriate.
The sensitivity of the embedded value of our country operations to interest rate changes varies widely across the region. In aggregate, a one per cent decrease in interest rates, along with all the consequential changes noted above, would result in a negligible change to our Asian business’ embedded value.
The net unrealised value change on Jackson debt securities is explained by net unrealised losses of negative £2,710 million, (being the gross unrealised losses of £3,197 million less unrealised gains of £487 million) reflecting temporary market movements due to the effects of widening global credit spreads offset partially by the effect of reduced risk-free interest rates and a steepening yield curve. These unrealised losses were further offset by associated DAC of £1,070 million.
Cash remitted by business units: Life businesses: Other: Total cash remitted to Group 1,033 711 Net interest paid (128) (96) Dividends paid (453) (426) Scrip dividends and share options 167 183
Capital invested by business units: Life businesses: Other: Total capital invested in business units (518) (294) Increase (decrease) in operating cash 54 (82) Egg sale net proceeds 0 527
Analysis of movement in IFRS shareholders’ funds: 31 December 2007 to 31 December 2008 £m
Cash remitted increased in 2008 by £322 million compared to 2007. This was primarily due to the growth in Asia remittances and the increase in UK General Insurance commission. Asia’s remittances grew by £211 million, primarily due to a one-off remittance of £115 million related to Singapore. Asia also realised seed capital from E.Sun Bank and ICICI Asset Management totalling approximately £77 million, and recorded additional cash flow releases from Asian operations as their in-force books matured.
Capital invested in business units grew from £294 million in 2007 to £518 million in 2008, due to an increase of £243 million in Asia’s requirements. The growth in Asia was primarily due to the injection of £186 million to meet solvency requirements, of which £66 million was in Taiwan and £72 million in Japan.
Net interest paid in 2008 increased by £32 million to £128 million compared to 2007, as lower interest rates prevailing in 2008 led to a decrease in interest received on central shareholders’ funds.
Tax received in 2008, at £130 million, was £90 million higher than the previous year, reflecting the fact that the 2007 figure was exceptionally low as a result of foreign exchange gains reducing the level of taxable losses. During 2008 the Group holding company paid £177 million in respect of corporate activities, including costs related to the process of considering a reattribution of the inherited estate.
Depending on the mix of business written and the opportunities available, we continue to expect the UK shareholder-backed business to become cash positive in 2010.
For asset management operations we have defined free surplus generation to be IFRS profits for the period. Group free surplus also includes the general insurance commission earned during the period and excludes head office, restructuring and net financing costs.
We believe that the underlying free surplus generated from the in-force book is an important measure in understanding the performance of our business. During 2008 we generated £1,680 million of underlying free surplus (2007: £1,388 million).
The total movement in free surplus net of tax in the period can be analysed as follows: Free surplus at 1 January* 1,915 1,375 Free surplus generation Underlying free surplus generated in the period 1,680 1,388 Provisions for additional allowance for credit risk (770) 0 Market related items (1,068) 141 Investment in new business (825) (544)
Excluding Taiwan, free surplus for the remaining life and asset management operations would have been approximately
The embedded value for the life operations assumes 45 per cent of the value in-force and required capital at 31 December 2008 will convert to free surplus in the next five years, and 68 per cent within 10 years. The actual free surplus generated from the current in-force policies in any future period will depend on the level of future assumption and experience variances that will actually arise. Over the last four year cumulative period, operating variances (after excluding the statutory credit reserve in 2008 and reallocations between net worth and value in-force of £187 million undertaken in 2008) have been £42 million which represented approximately one per cent of the projected in-force for the life business.
Investment of free surplus in new business by life operations The average free surplus undiscounted payback period1 for business written in 2008 was: Asia 4 years US 5 years UK 6 years
The increase in capital requirements year-on-year was caused predominantly by a change in business mix in our UK annuity business, with bulk annuity business being written by shareholder-backed companies in 2008, rather than by the with-profits fund as in 2007, and with higher reserves being established for credit contingency. Higher capital usage in the US resulted from the change in business mix from variable annuities to other business.
Under both EEV and IFRS, operating profits from continuing operations based on longer-term investment returns exclude short-term fluctuations in investment returns and shareholders’ share of actuarial and other gains and losses on defined benefit pension schemes. Under EEV, where additional profit and loss effects arise, operating profits based on longer-term investment returns also exclude the mark-to-market value movement on core borrowings, together with the effect of changes both in economic assumptions and also in the time value of the cost of options and guarantees arising from changes in economic factors.
Free surplus generated in the period prior to methodology changes (983) 985 655 287 944
Note 1 Cash payback period is defined as the time at which the value of the undiscounted post tax cash flows, net of required capital releases, is sufficient to recoup the initial free surplus invested in new business.
The results for the year ended 31 December 2008 have been prepared using International Financial Reporting Standards (IFRS) issued by the International Accounting Standards Board (IASB) and endorsed by the European Union (EU). The results in this preliminary announcement have been prepared in accordance with IFRS applicable at 31 December 2008 and have been taken from the Group’s Annual Report and Accounts which will be available on the company’s website on 15 April 2009.
Free surplus invested in new business (243) (289) (293) (825) (194) (200) (150) (544)
Pre tax new business profit for the period 741 293 273 1,307 643 285 277 1,205
New business margin % (APE) 54% 41% 29% 50% 42% 30% Internal rate of return >20% 18% 14% > 20% 18% 18%*
Our capital position is strong and robust. Our Insurance Groups Directive (IGD) capital surplus is estimated at £1.7 billion before allowing for the 2008 final dividend. Our robust capital position, combined with the proven resilience of our retirement-led strategy, selective geographic presence, product expertise, distribution and trusted brands, means we are well-placed to continue to outperform.
As a provider of financial services, including insurance, we recognise that the managed acceptance of risk lies at the heart of our business. As a result, effective risk management capabilities represent a key source of competitive advantage for our Group.
The Group’s risk appetite framework sets out our tolerance to risk exposures as well as our approach to risk management and return optimisation. Under this approach, we monitor our risk profile continuously against agreed limits. Our main strategies for managing and mitigating risk include asset liability management, using derivatives to hedge relevant market risks, and implementing reinsurance and corporate insurance programmes. More detail on our Group’s risk governance system and risk policies is provided on pages 96 and 97 of the Governance Report.
We use a two-tier approach to apply the limits at business unit level. Firstly, we calculate business unit risk limits. These ensure that, provided each business unit keeps within its limits, the Group risk position will remain within the Group limits.
In the event that any of the business unit plans imply risk limits will be exceeded, this will necessitate a dialogue between Group Head Office (GHO) and the relevant business unit or units. Exceeding Group limits may be avoided if, for example, limits in other business units are not fully utilised, or if the diversification effect at Group level of a particular risk with other business units means the Group limit is not breached. Ultimately, authorisation to breach limits would require approval from GHO.
Risk exposures The Group Risk Framework deploys a common risk language, allowing meaningful comparisons to be made between different business units. Risks are broadly categorised as shown below.
Market risk: Equity risk Most of the equity exposure in our UK business arises from the with-profits fund which is partially protected against falls in equity markets through an active hedging policy. The fund also includes a large inherited estate – estimated at £5.4 billion at 31 December 2008. The inherited estate itself is partially protected against falls in equity markets through an active hedging policy.
In Asia, a high proportion of our in-force book is made up of unit-linked products with limited shareholder exposure to equities. We have minimal direct shareholder exposure to Asian equity markets outside our unit-linked holdings.
In the US, where we are a leading provider of variable annuities, there are well-understood risks associated with the guarantees embedded in our products. We provide guarantees for minimum death benefit (GMDB) on all policies in this class, minimum withdrawal benefits (GMWB) on 67 per cent of the book, and minimum income benefits (GMIB) on only 11 per cent. To protect the shareholder against the volatility induced by these embedded options, we use both a comprehensive hedging programme and reinsurance.
In our variable annuity sales activities, we focus on meeting the needs of conservative and risk averse customers who are seeking reliable income in retirement, and who display little tendency to arbitrage their guarantees. These customers select conservative investment options and, importantly, buy fewer guarantee products compared to the industry as a whole. We are able to achieve this because our unique and market leading operational platform allows us to tailor more than 3,000 product combinations, thereby ensuring that our customers are not sold guarantees they do not need. We seek to sell at a price where we can hedge or reinsure our risks. Many of our competitors offer ‘bundled’ products where the customer pays for guarantees that they do not require. In contrast, our more tailored offering avoids the sale of unnecessary guarantees, enabling us to remain globally price competitive while pricing each of our individual guarantees appropriately. This enables us to be price-competitive while not over-exposing our business to guarantee risk. Also, the conservative nature of our investment options makes hedging a more straightforward process.
Insurance risk The inherent uncertainty as to the occurrence, amount and timing of insurance liabilities. This includes adverse mortality, morbidity and persistency experience
Liquidity risk The risk that a business, though solvent on a balance sheet basis, either does not have the financial resources to meet its obligations as they fall due or can secure them only at excessive cost
Non-financial Operational risk The risk of direct or indirect loss resulting from inadequate or failed internal risks processes, people or systems, or from external events. This includes legal and regulatory compliance risk
Business Exposure to forces in the external environment that could significantly environment risk change the fundamentals that drive the business’s overall objectives and strategy
Interest rates primarily impact our Asia, US and UK with-profit businesses. In Asia, our exposure will be reduced following our agreement with China Life Insurance Company Ltd (Taiwan) to transfer the agency-based business in Taiwan, which includes Prudential’s legacy products which contain interest rate risk. The remaining exposure in Asia arises mainly from guarantees on traditional shareholder-backed life products and asset-liability mismatches, primarily in Japan and Korea. This exposure is within our risk appetite, and we manage it carefully on an ongoing basis. We have a range of risk mitigation options available to us should we wish to reduce this exposure further. However, it is important to note that interest rates in some territories are currently at historically low levels, which has the effect of mechanistically reducing our downside risk.
In the US there is interest rate risk across the portfolio. We manage fixed annuity interest rate exposure through a combination of interest rate swaps and interest rate options, to protect capital against rates rising quickly, and through the contractual ability to reset crediting rates annually. The average traditional fixed annuity crediting rate is 91bps above the guaranteed crediting rate. Historically, we have had a significant IGD sensitivity relating to the mark-to-market accounting of interest rate derivatives. During the final quarter of 2008, we worked with the Michigan State regulator to recognise the effectiveness of interest rate hedging, and the statutory valuation now accounts for hedges and the hedged items on a consistent basis.
In the UK the investment policy for the shareholder backed annuity business is to match investment returns with annuity payments. Where these cash flows are not matched exactly there is some exposure to asset and liability mismatches and this exposure can be increased by, for example , the current low interest rate environment. There is an interest rate risk in the UK with-profits fund.
Foreign exchange risk Prudential operates in the UK, the US, Continental Europe and 13 countries in Asia. Inevitably, the geographical diversity of our businesses means that we are subject to the risk of exchange rate fluctuations. Prudential’s international operations in the US and Asia, which represent a significant proportion of our operating profit and shareholders’ funds, generally write policies and invest in assets denominated in local currency. Although this practice limits the effect of exchange rate fluctuations on local operating results, it can lead to significant fluctuations in our consolidated financial statements when results are expressed in pounds sterling.
Credit risk The global debt markets experienced unprecedented conditions in 2008, with illiquidity and credit spreads reaching all-time highs. Our debt portfolio on an IFRS basis was estimated at £95 billion at 31 December 2008.
Within the RMBS portfolio of £4 billion, the agency guaranteed portion is 50 per cent. Another 25 per cent of the portfolio relates to investments with pre-2006/2007 vintages, where experience has been much more positive than later vintages. Our exposure to the 2006/2007 vintages totals £946 million of which £617 million is invested in the senior part of the capital structure, thereby significantly reducing the risk of defaults and the magnitude of loss if a shortfall does occur. The actual exposure to non-senior 2006/2007 Prime and Alt-A RMBS is only £329 million.
Applying peak global annual default rates and making conservative assumptions for recoveries to our portfolio would generate losses of approximately £350 million for one year that could be absorbed by our current IGD surplus as estimated at
Wider credit and liquidity spreads are causing the average investment grade security to trade around the mid to high 80s as a percentage of nominal value. Unrealised losses on securities priced at less than 80 per cent of face value were £1.9 billion at 31 December 2008. It is our intention to hold these fixed income securities to maturity – an approach, which in economic terms limits the impact of the current market dislocation.
Jackson’s unrealised losses rose in the fourth quarter by £1.3 billion as credit spreads moved to all-time highs and bond prices to all-time lows. It is important to bear in mind that in the increase of £1.3 billion in the fourth quarter of 2008, about £446 million is directly due to the depreciation of sterling against the US dollar. We believe that the accounting impact of these unrealised losses significantly overstates the risk of economic losses on our portfolio at current price levels.
Prudential’s persistency assumptions reflect recent experience for each relevant line of business, and any expectations of future persistency. Where appropriate, allowance is also made for the relationship – either assumed or historically observed – between persistency and investment returns, and for the resulting additional risk.
Liquidity risk We remain comfortable with our liquidity position both at holding and subsidiary company level. The holding company has significant internal sources of liquidity which are sufficient to meet all of our requirements for the foreseeable future without having to make use of external funding. In aggregate our Group has £2.1 billion of undrawn committed facilities, of which we have recently renewed £1.4 billion of the undrawn syndicated committed banking facility for a further three years as well as renewing the £500 million securities lending back-up facility.
Capital management Regulatory capital Group regulatory capital (IGD) Prudential is subject to the capital adequacy requirements of the Insurance Groups Directive (IGD) as implemented by the Financial Services Authority (FSA) in the UK. The IGD pertains to groups whose activities are primarily concentrated in the insurance sector.
Our capital position is strong, driven by our prudent but proactive risk management. Our IGD capital surplus is estimated at £1.7 billion before allowing for the 2008 final dividend, giving a solvency ratio of 162 per cent. This is composed of our IGD surplus at 31 December 2008 estimated at £1.4 billion, and in addition £0.3 billion that the FSA has subsequently allowed us to include in our IGD surplus going forward, as a result of an innovative structure we have developed. Our IGD capital surplus on a consistent basis (i.e. before allowing for a dividend) at the end of 2007 and at the end of the third quarter 2008 stood at £1.9 billion and £1.4 billion respectively. The movement from £1.9 billion at 31 December 2007 to the estimated £1.7 billion benefited from the £0.3 billion allowed by the FSA. The remaining decrease of £0.5 billion in 2008 comprises net earnings of £0.8 billion, management actions of £0.6 billion and positive foreign exchange movements of £0.2 billion, offset by the 2007 final dividend of £0.3 billion, market related risk of £0.4 billion, strengthening of UK credit reserves of £0.8 billion and £0.6 billion of credit related impairments and default losses in the US.
We have been able to maintain a stable IGD position in challenging markets. The options we have to manage available and required capital can be classified into increasing available capital and reducing required capital.
Our ability to access more of the shareholder economic interest in the with-profit fund up to a level of £1.4 billion, and our ability to access to future profits on other in-force business through financial reinsurance are examples of how we have the potential to increase available capital.
We can also manage our required capital through both the level and the mix of new business and by maintaining pricing discipline. We have employed and will continue to employ other risk mitigation strategies such as hedging and reinsurance when necessary.
On 20 February 2009 we announced that we have entered into an agreement to transfer the assets and liabilities of our agency distribution business in Taiwan to China Life Insurance Company Ltd (Taiwan) pending regulatory approval. The business to be transferred includes Prudential’s legacy interest rate products in Taiwan, and the agreement is significantly value enhancing for the Group. On completion the transfer will give rise to a net increase in the Group’s IGD surplus of approximately £0.8 billion, further strengthening our already robust capital position.
Solvency II The European Union (EU) is developing a new solvency framework for insurance companies, referred to as ‘Solvency II’. The application of Solvency II to international groups is still unclear and there is a risk of inconsistent application in different EU member states, which may place Prudential at a competitive disadvantage to other European and non-European financial services groups.
Like Basel II in the banking industry, 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.
We optimise capital allocation across the Group by using a consistent set of capital performance metrics across all business units to ensure meaningful comparison. Capital utilisation, return on capital and new business value creation are measured at a product level. The use of these capital performance metrics is embedded into our decision-making processes for product design and product pricing.
Stress testing has been carried out to assess the resilience of the Group’s regulatory capital position (IGD) to withstand significant further deterioration in market conditions. The findings include: • An instantaneous further 40 per cent fall in equity markets from 31 December 2008 levels would reduce the IGD surplus by £350 million; • a 150bps reduction (subject to a floor of zero) in interest rates from 31 December 2008 would reduce the IGD surplus by £300 million (the effect would be less following completion of the sale of our Taiwan legacy agency book); and
• credit defaults of 10 times the expected level would have an impact of £500 million in excess of the annual reserve release.
Capital base Capital structure Prudential Group’s capital on an EEV basis consists of £14,956 million of shareholders’ funds and net core debt at market value after cash and short-term investments of £818 million, and includes £1,250 million of holding company subordinated long-term and perpetual debt.
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 characteristics mean hybrid debt can be treated as capital for FSA regulatory purposes. All of our Group’s hybrid debt which qualifies under the FSA’s definition is held at Group level. As a result, it is taken as capital into the parent solvency test under the IGD.
Shareholders’ borrowings and financial flexibility The core structural borrowings of our shareholder-financed operations at 31 December 2008 totalled £2,958 million on an IFRS basis, compared with £2,492 million at the end of 2007. The increase during the year reflected exchange conversion losses amounting to £468 million predominantly on our longterm borrowings of ¤500 million, US$1 billion, US$300 million, US$250 million and US$250 million surplus notes .
After adjusting for holding company cash and short-term investments of £1,165 million, our net core structural borrowings at 31 December 2008 were £1,793 million, compared with £1,036 million a year earlier. The increase on the 2007 figure reflected net cash inflows of £54 million, exchange conversion losses of £816 million including the £468 million on long-term borrowings identified above, and £354 million in respect of a US$2 billion net investment hedge of the currency exposure of the net investments in the US operations.
Our core structural borrowings at 31 December 2008 included £1,761 million borrowed at fixed rates of interest, with maturity dates ranging from 2009 to perpetuity. A significant proportion – amounting to £1,232 million – of the core borrowings was denominated in US dollars, in order to provide partial hedging of the currency exposure arising from our Group’s investment in Jackson.
We have also put in place an unlimited global commercial paper programme. As at 31 December 2008, commercial paper totalling £278 million, US$916 million, ¤359 million and CHF10 million has been issued under this programme. We also have a £5,000 million medium-term note (MTN) programme, under which the outstanding subordinated debt at 31 December 2008 was £435 million and ¤520 million, while the senior debt outstanding was £200 million and US$12 million.
In addition, our holding company has access to £1,600 million of committed revolving credit facilities, provided by 15 major international banks, and renewable between December 2010 and February 2012; and an annually renewable £500 million committed securities lending liquidity facility. Apart from a small drawdown to test the process, these facilities were not drawn on during the year, and there are no amounts outstanding under the committed credit facilities at 31 December 2008. The commercial paper programme, the MTN programme, the committed revolving credit facilities and the committed securities lending liquidity facility are all available for general corporate purposes and to support the liquidity needs of our holding company.
Financed by: Equity shareholders’ funds 14,956 14,600 Perpetual preferred securities 513 679 Subordinated debt 737 817 Senior debt 733 833 Cash and short-term investments (1,165) (1,456)
The financial strength of PAC is rated AA+ (negative outlook) by Standard & Poor’s, Aa1 (rating under review for possible downgrade) by Moody’s and AA+ (stable outlook) by Fitch Ratings.
The opportunity in Asia continues to be a powerful driver of growth for the Group with a fast-growing middle class, continuing economic growth and increasing demand for retirement savings. Over the past 90 years we have built an unparalleled business in the region. Today our business in Asia has over 11 million customers, an unrivalled regional network of 425,000 agents, and market-leading positions in the most populous and vibrant economies.
‘Prudential is one of Asia's market leaders and our strategy is designed to further strengthen this position and drive outperformance in terms of delivering sustainable and profitable scale.’
Prudential was an early mover in recognising the long-term growth potential in Asia. Leveraging a foothold established in the 1920s, we have created an unparalleled business in the region that holds market-leading positions in the world’s most populous and dynamic economies.
As a result Prudential already has over 11 million customers in Asia. Distribution is predominantly through tied agents, and we have built up one of the region’s largest agency forces numbering some 425,000 at 31 December 2008. We complement our agency distribution in the region with a number of distribution agreements with leading banks and brokers. Prudential is a pioneer in capital efficient unit linked products in Asia, and is particularly strong in the regular premium savings sector. More recently we have increased our focus on higher-margin protection products, both as riders to savings policies and standalone.
We operate distinct life insurance businesses in 12 markets. These are all managed by local teams with strategic leadership and technical support provided by the regional team (based in Hong Kong). Every opportunity is taken to leverage synergies and best practices around the region, and from the wider Prudential Group, particularly in areas such as product development, channel distribution and asset liability management. The Asian businesses operate with common principles and within a regionally managed risk framework. We consistently win industry awards for the quality of our operations in Asia, including our customer service.
Underpinning Prudential’s success in the region is the breadth and depth of our management teams and staff. These comprise a combination of market-leading international specialists and the very best local talent.
The challenging economic environment did suppress industry-wide agency productivity in terms of APE per agent in 2008. Our average productivity was 21 per cent lower than in 2007. The main driver of this decline was lower average case size, which fell by 12 per cent due to the tougher economic climate and higher proportions of (highly profitable) health and protection business. However, the average number of cases per active agent per month was only marginally lower in 2008 than in 2007 – a performance that reflects the resilience of our agency force in a depressed market.
Disposal of PCA Life Taiwan’s agency business When Prudential entered the Taiwanese market in 1999, traditional ‘compulsory dividend’ life policies were the only type of savings and protection policy permitted by the regulator. These polices are unique to Taiwan and have claims, guaranteed surrender values and local statutory reserves calculated on a prescribed actuarial basis, which includes an underlying interest rate assumption based on two-year interest rates at the time the policy is sold.
Prudential’s acquisition of Chinfon Life included a back book with interest rate assumptions at around 6.5 per cent and expected liability duration of 30 to 40 years. Since then interest rates in Taiwan have declined and – despite economists’ consistent projections of a rise – rates stood at just 1.4 per cent at 31 December 2008. Provisions required under the local solvency requirements have been offset by profits generated from new business, particularly following the introduction of unit-linked business in 2002. The net cash strain we experienced from this back book was running at the rate of around £50 million per annum.
Total EEV basis operating profit* 1,309 1,042 26 1,135 15 *Based on longer-term investment returns excluding fund management operations, development and regional head office expenses.
Health and protection Prudential is implementing a structured and disciplined approach to expanding its health and protection business in Asia. A new regional team has been formed with sales management, product development, underwriting, claims, operations and business development expertise. Underwriting processes have been re-engineered to improve customer
service; claims turnaround is now more efficient; and quotation systems have been upgraded to alert agents to appropriate health riders as attachment opportunities to augment core products.
With this foundation in place, innovative products, tailored for each market are being rolled out. For example, in the fourth quarter of 2008 our business in Malaysia launched a critical illness plan that pays the full sum assured for up to three claims, with cover until age 85. Over 2,000 polices were sold within the first month.
Prudential has already taken a lead in raising the awareness of the need for retirement financial planning through the ‘What’s Your Number?’ campaigns, and the retirement planning message continues to be reinforced through fully integrated marketing and promotional materials. For example, our websites in Hong Kong, Taiwan, Malaysia and Korea now include retirement calculators.
Indonesia was the strongest performer, with new business APE rising by 45 per cent, followed by China and Malaysia, up 31 per cent and 24 per cent respectively. Market conditions were challenging in all markets and especially so in Korea, Taiwan and Singapore where sales fell by 15 per cent, 12 per cent and 11 per cent respectively.
Total EEV operating profit from long-term business at £1,309 million increased by 26 per cent compared to 2007. In-force embedded value profits in Asia rose to £568 million in 2008, an increase of 42 per cent from 2007. In-force profit in 2008 was driven by the unwind of discount of £434 million, net assumption changes of £135 million, and net experience variances of £(1) million. The net positive assumption changes were driven by persistency assumptions for Singapore, Hong Kong and Malaysia reflecting recent experience of reduced lapse rates. These were offset by changes in Taiwan and Korea mainly relating to premium holidays and expense assumption changes, together with mortality and morbidity assumption changes in Singapore, Taiwan and Hong Kong and a decrease in corporation tax in Indonesia. All operations saw positive experience variances on mortality but these were offset by negative persistency experience in Korea.
In Korea the loss of £13 million in 2007 improved to a profit of £12 million in 2008, principally due to a local regulatory change in accounting basis for acquisition costs.
India posted a loss of £6 million, before charging development expenses related to the investment in the agency force. The result also reflects that as the business matures it is appropriate to now defer and amortise acquisition costs, resulting in a benefit of £19 million.
In Taiwan, where the IFRS basis of reporting reflects US GAAP for the insurance assets and liabilities of the business the result increased by £15 million to £60 million. The result for other operations increased from £12 million to £38 million reflecting mainly reserve releases in the Japanese operation.
‘The success in the market place of Jackson continues to be driven by our industry-leading distribution organisation and product innovation, coupled with our sound evaluation of product economics.’
Customer Service Inevitably, the difficult market conditions in 2008 resulted in higher call volume to our service centres. Despite this increased workload, we once again demonstrated the ability to service investors’ and advisers’ needs accurately and efficiently, by earning recognition as a World Class service provider in the Service Quality Measurement Group’s (SQM) latest benchmarking study of North American service centres. Historically, only five per cent of service centres receive World Class designation, but 2008 marked the fourth year that Jackson has achieved World Class status. We also earned SQM’s ‘Highest Customer Satisfaction by Industry’ award for having the highest rate of customer satisfaction in the financial services industry.
Institutional APE sales of £120 million in 2008 were up 28 per cent on 2007, as we continued to participate in this market on an opportunistic basis.
EEV basis new business profits of £293 million were three per cent higher than in 2007, reflecting a seven per cent increase in APE sales, offset to some extent by a shift in the mix of business away from variable annuities. Total new business margin was 41 per cent, slightly below the 42 per cent achieved in 2007.
The variable annuity new business margin increased from 42 per cent in 2007 to 43 per cent in 2008, with the negative impact of reduced 10-year Treasury rates on expected return and the risk discount rate being offset by the effect of a number of positive operating changes.
The fixed index annuity new business margin increased from 26 per cent in 2007 to 53 per cent in 2008, primarily as a result of an increased spread assumption and changes in economic assumptions. The spread assumptions increased from 190 basis points for 2007 issues to 220 basis points for 2008 issues, with an associated risk margin of 17 per cent. The FIA margin increased by nine per cent as a result of the 180 basis points reduction in the risk discount rate and the combined impact of declining interest rates and widening spreads in 2008.
In addition, Prudential UK’s strong with-profits offering has proved very successful as consumers look increasingly to protect themselves from market downturns by investing their savings in an actively managed, well-run and financially strong fund.
Prudential UK continues to focus on realising value from the opportunities created by rapid growth in the need for retirement solutions. Our UK business targets and competes in selected areas of the UK pre and in-retirement markets, and during 2008 it demonstrated considerable resilience and discipline in a very challenging environment. We remain confident about the long-term growth prospects for the UK retirement market.
In 2008, Prudential UK performed strongly against a challenging background of volatile capital and equity markets, a declining housing market, and widespread economic uncertainty. In this environment and with ABI data showing a market decline in retail sales of 10 per cent during the year, our achievement in growing retail sales by 10 per cent was a particularly strong performance.
The UK is characterised by an ageing population and the concentration of wealth in the mass affluent and high net worth sectors – a combination that positions the retirement and near-retirement segment as the fastest-growing in the marketplace. Low savings rates and high levels of consumer debt, coupled with an increasing shift in responsibility for providing retirement income away from Government and employers towards individuals, have resulted in individuals in the UK being inadequately provided for during increasingly long periods of retirement.
Prudential UK has a significant pipeline of internal vestings annuity business from maturing individual and corporate pension policies, which is expected to remain at least at the current level until 2025. It is the largest annuity provider in the UK market, with approximately 1.5 million annuities in payment. Looking forward, the UK annuities market is expected to grow in the near term, and we expect to maintain a significant share of this market.
In Wholesale, Prudential UK’s aim is to participate selectively in bulk and back-book buyouts, where we are able to win business based on our financial strength, superior track record and annuitant mortality risk assessment capabilities. In the UK wholesale bulk and insurer back-book market, we are maintaining a strict focus on value, and will only participate in transactions that meet our return on capital requirements based on our view of future longevity improvements. There continues to be a significant pipeline of potential wholesale deals but competition remains intense with a number of market participants competing for business.
Prudential UK remains on track to deliver £195 million of cost savings by the end of 2010. As announced in Prudential’s 2007 full-year results, the first phase of our UK cost reduction programme delivered savings of £115 million per annum. The agreement with Capita, under which Prudential UK outsourced a large proportion of its in-force and new business policy administration, commenced in April 2008 and will ultimately deliver £60 million per annum of savings.
Initiatives in 2008 Maintaining leadership position in individual annuities Prudential UK’s strong internal annuity pipeline is supplemented by strategic partnerships with third-parties, where we are the recommended annuity provider for customers vesting their pensions at retirement.
Total EEV basis operating profit* 1,081 859 26 859 26 *Based on longer-term investment returns.
Growing the volume of products that use Prudential’s multi-asset management expertise Prudential UK’s total retail with-profits business has performed very strongly across a range of products. The strong sales growth for with-profits bonds reflects the strength of our with-profits offering and an increasing demand for this type of product as consumers increasingly look to protect themselves from market downturns, especially in an actively managed, well-run and financially strong fund.
Sales of PruFund, Prudential UK’s unitised and smoothed investment plan, were particularly strong during the year. Since October 2008 PruFund has been available across Prudential UK’s range of tax wrappers, including individual pensions, income drawdown and onshore and offshore bonds. We also launched the new PruSelect range of unit-linked funds across our UK pensions and investments products, more than doubling the number of funds available.
Growing other income streams The PruHealth joint venture uses the Prudential brand and Discovery’s expertise to build branded distribution in private healthcare. Since its launch, PruHealth has established itself in the marketplace, and it now has 187,000 lives insured. The focus for PruHealth going into 2009 is to continue to increase sales volumes, grow the in-force book and manage its loss ratio.
Strengthening relationships with intermediaries Prudential UK’s intermediaries distribution channel saw significant growth in 2008. The business increased its field sales-force with an additional 10 regional sales units, and the focus is to continue developing deeper and better relationships with key accounts and through partnership arrangements. We have been successful in gaining over 40 new panel positions in 2008, meaning that our products are now more widely available to intermediaries than before. In addition, PruFund is now panelled across almost all the major UK retail banks.
Our total UK APE sales of £947 million represented a rise of four per cent on 2007. Retail sales of £803 million were 10 per cent higher than 2007. Individual annuity and corporate pension sales were substantial and in line with 2007, despite volatile market conditions. Sales growth was driven by strong growth in with-profits bonds supplemented by growth in lifetime mortgages, offshore products and PruHealth.
Our UK business maintained its strict focus on value in the wholesale bulk annuity and insurer back-book markets in 2008, with new business profits of £46 million in 2008, reflecting a margin of 32 per cent and a 14 per cent IRR.
Prudential UK continues to manage actively the retention of the in-force book. During 2008, persistency experience at an aggregate level has been in line with our long-term assumptions.
IFRS total operating profit before restructuring costs increased by 12 per cent to £589 million. This reflected profits attributable to the with-profits business of £395 million and 15 per cent growth from the long-term shareholder backed business. For shareholder-backed annuity business, the operating profit includes a charge of £413 million for strengthening the allowance for credit defaults. Partially offsetting this is £390 million for the impact of rebalancing the credit portfolio, also in the shareholder annuity fund. At the start of 2008 the portfolio was overweight in gilts with an average rating of AA versus a benchmark of A. The rebalancing has led to the fund now having an average rating of A+ thereby remaining ahead of benchmark. IFRS profit for General Insurance commission increased to £44 million as cash now begins to emerge following the 2002 sale of the business to Churchill. We expect General Insurance commission to continue to emerge around this level in the near term.
In the toughest conditions for decades M&G delivered an exceptional performance, with record gross inflows of £16.2 billion, an increase of 10 per cent on the previous year, and 35 per cent of Retail funds delivered top-quartile investment performance over three years.
‘M&G is a performance-led asset management business that is focused on delivering strong returns for internal and external clients, while continuing to provide capital-efficient profits and strong cash flow to Prudential.’
M&G’s asset management business M&G is our UK and European fund manager, responsible for £141 billion of investments as at 31 December 2008 on behalf of both internal and external clients.
In the retail market, our strategy is to maximise the value of our centralised investment function through a multi-channel, multi-geography distribution approach. Key themes in recent years have included the growing proportion of business sourced from intermediated channels and the growth of cross-border products. Our diverse product portfolio has proved its worth during the recent turmoil as, for example, bond funds have become more popular than equity based products.
Operating profit from asset management operations 228 203 12 203 12 Operating profit from Prudential Capital 58 51 14 51 14
The Prudential Group’s asset management operations add value to our various insurance businesses by delivering sustained out-performance for our life and pension funds. They are also important profit generators in their own right, having low capital requirements and generating significant cash flow for the Group.
Each business and its performance in 2008 is summarised on the following pages.
Notes 1 Source: Morningstar 2 Source: EFAMA, all funds excluding UK 3 Source: IMA data includes collective investments 4 Source: IMA data is for UK only and includes collective investments
M&G’s net retail inflows in the UK were up 62 per cent on 2007 at £1.9 billion, while the more challenging European market resulted in net flows of zero, compared to £0.8 billion of inflow in 2007. A significant achievement for our retail distribution team has been the development of the discretionary manager channel (including stockbrokers, family offices and fund of funds managers), with net sales of £0.7 billion in 2008, up from £0.4 billion in 2007.
M&G profit split by client type in 2008, excluding PRFs and carried interest (total £185m) %
Prudential Capital – rebranded from Prudential Finance in 2007 – manages Prudential’s balance sheet for profit by leveraging Prudential’s market position. This 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 our Group and its clients.
Prudential Capital has a diversified earnings base derived from bridging, structured finance and wholesale markets. We delivered a good financial result from this business in 2008, driven by increased investment activity and a strong securities lending performance. As a result of increased revenue and maintaining a low cost/income ratio, operating profits increased by 14 per cent to £58 million, resulting in a cash remittance to the holding company of £61 million.
B u sin ess rev iew £1.3bn £2.1bn £51.2bn £(7.6)bn £47bn
The customer proposition is driven by Prudential’s strong investment capabilities that enable it to develop innovative product suites, and distribute them through diverse channels including regional banks, local banks, private banks, and securities houses and an internal sales force. Over the last 10 years, Prudential has become one of the largest and most successful domestic asset management companies in the region.
Financial performance Prudential’s Asian asset management business’s total FUM as at 31 December 2008 was £36.8 billion. This included £4.9 billion of assets from the Group, £16.7 billion from Prudential Corporation Asia’s life funds, and £15.2 billion from third-party customers. Compared to 2007, the overall FUM dropped by 27 per cent at CER, primarily as a result of negative market movements. In comparison, the MSCI Asia ex-Japan Index fell by 52 per cent in 2008.
Despite volatile market conditions, our net inflows remained positive at £0.86 billion, led by the good performance in Taiwan and Japan. Of the £0.86 billion in net inflows, 66 per cent was from Equity/Bond funds and 34 per cent from Money Market Funds.
31 December 2008 funds under management by country Mutual funds AUM £15.2bn %
PPM America (PPMA) manages assets for Prudential’s US, UK and Asian affiliates. We also provide other affiliated and unaffiliated institutional clients with investment services including collateralised debt obligations (CDOs), private equity funds, institutional accounts, and mutual funds. At PPMA, our strategy is focused on managing existing assets effectively, maximising the benefits gleaned from synergies with our international asset management affiliates, and leveraging investment management capabilities across the Prudential Group. We also pursue third-party mandates on an opportunistic basis.
Financial performance IFRS operating profit in 2008 was £2 million, down from £4 million in 2007, primarily due to lower investment income and performance-related fees.
We continue to grow NPH’s business through strong recruiting efforts. By utilising our high-quality, state-of-the-art technology, we provide NPH’s advisers with the tools they need to operate their practices more efficiently. At the same time, through its relationship with NPH, Jackson continues to benefit from an important retail distribution outlet, as well as receive valuable insights into the needs of financial advisers and their clients.
Curian Capital, Jackson’s registered investment adviser, provides innovative fee-based separately-managed accounts and investment products to advisers through a sophisticated technology platform. Curian expands Jackson’s access to advisers while also providing a complement to Jackson’s core annuity product lines.
The aim of our capital funding programme, which includes the £5,000 million MTN programme together with the unlimited commercial paper programme, is to maintain a strong and flexible funding capacity.
Although this practice limits the effect of exchange rate fluctuations on local operating results, it can lead to significant fluctuations in Prudential’s consolidated financial statements upon conversion of results into pounds sterling. The currency exposure relating to the conversion of reported earnings is not separately managed, as it is not in the economic interests of the Group to do so. The impact of gains or losses on currency conversions is recorded as a component of shareholders’ funds within the statement of recognised income and expense. The impact of exchange rate fluctuations in 2008 is discussed elsewhere in this financial review.
The inherited estate, as working capital, enables PAC to support with-profits business by providing the benefits associated with smoothing and guarantees, by providing investment flexibility for the fund’s assets, by meeting the regulatory capital requirements that demonstrate solvency and by absorbing the costs of significant events or fundamental changes in its long-term business without affecting the bonus and investment policies. The size of the inherited estate fluctuates from year to year depending on the investment return and the extent to which it has been required to meet smoothing costs, guarantees and other events.
In 2008, the new business profit mix in our Asian insurance business was derived 50 per cent from accident and health products, 40 per cent from unit-linked and 10 per cent from non-linked.
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 2008, we were offering unit-linked products in 11 of the 12 countries in Asia in which we operate, with the only exception being Thailand.
Interest-sensitive fixed annuities are used for asset accumulation in retirement planning and for providing income in retirement and offer flexible payout options. The contract holder pays us a premium, which is credited to the contract holder’s account. Periodically, interest is credited to the contract holder’s account and administrative charges are deducted. We may reset the interest rate on each contract anniversary, subject to a guaranteed minimum, in line with state regulations. When the annuity matures, we either pay the contract holder the amount in the contract holder account, or begin making payments to the contract holder in the form of an immediate annuity product – similar to a UK annuity in payment.
Fixed index annuities (formerly referred to as equity-indexed annuities) are similar to fixed annuities, in that the contract holder pays us a premium that is credited to the contract holder’s account, and also in that interest is periodically credited to the contract holder’s account and administrative charges deducted, as appropriate. We guarantee an annual minimum interest rate, although actual interest credited may be higher and is linked to an equity index over its indexed option period. Our profit comes from the investment income we earn and the fees charged on the contract, less the expenses incurred, which include the costs of the guarantees, and the interest credited to the contract. Fixed index annuities are subject to early surrender charges for the first five to twelve years of the contract. During the surrender charge period, the contract holder may cancel the contract for the surrender value. Fixed index annuities continue to be a profitable product, benefiting from favourable spread and the effective management of equity risk. The fixed index book provides natural offsetting equity exposure to the guarantees issued in conjunction with our variable annuity products, which allows for efficient hedging of the net equity exposure.
Variable annuities are tax-advantaged, deferred annuities where the rate of return depends upon the performance of the underlying portfolio, similar in principle to UK unit-linked products. They are also used for asset accumulation in retirement planning and to provide income in retirement. The contract holder can allocate the premiums between a variety of variable sub-accounts with a choice of fund managers and/or guaranteed fixed-rate options. As with a unit-linked fund, the contract holder’s premiums allocated to the variable accounts are held separately from Jackson’s general account assets. The value of the portion of the separate account allocated to variable sub-accounts fluctuates with the underlying investments. Variable annuity policies are subject to early surrender charges for the first four to seven years of the contract. During the surrender charge period, the contract holder may cancel the contract for the surrender value. We offer one variable annuity that has no surrender charges and we also offer a choice of guaranteed benefit options within our variable annuity product portfolio, which customers can elect and pay for. These options include the guaranteed minimum death benefit (GMDB), which guarantees that, upon death of the annuitant, the contract holder or beneficiary receives a minimum value regardless of past market performance. These guaranteed death benefits might be expressed as the return of original premium, the highest past anniversary value of the contract, or as the original premium accumulated at a fixed rate of interest. In addition, there are three other types of guarantee: guaranteed minimum withdrawal benefits (GMWB), guaranteed minimum accumulation benefits (GMAB) and guaranteed minimum income benefits (GMIB).
GMWBs provide a guaranteed return of the principal invested by allowing for periodic withdrawals that are limited to a maximum percentage of the initial premium. One version of the GMWBs provides for a minimum annual withdrawal amount that is guaranteed for the contract holder’s life without annuitisation. GMABs generally provide a guarantee for a return of a certain amount of principal after a specified period. GMIBs provide for a minimum level of benefits upon annuitisation regardless of the value of the investments underlying the contract at the time of annuitisation. The GMIB is reinsured.
Institutional products Our institutional products division markets institutional products such as traditional Guaranteed Investment Contracts (GICs), Funding Agreements and Medium Term Note (MTN) funding agreements. The institutional product offerings also include Jackson’s funding agreements issued to the Federal Home Loan Bank. We distribute our institutional products directly to investors, through investment banks, or through funding agreement brokers.
Mutual funds During 2007, we launched a line of retail mutual funds as a complement to the broad product offering. In January 2008, we added two new portfolios to our existing line-up of mutual funds. The Jackson Funds now offer seven distinct strategies, each designed to address the diversification and asset growth potential of investors as they navigate the retirement planning process.
The defined charge participating sub-fund (DCPSF) forms part of the PAC long-term fund. It is comprised of the accumulated investment content of premiums paid in respect of the defined charge participating with-profits business issued in France, the defined charge participating with-profits business reassured into PAC from Prudential International Assurance plc and Canada Life (Europe) Assurance Ltd and includes the portfolio of with-profit annuity policies acquired from Equitable Life in 2007. All profits in this fund accrue to policyholders in the DCPSF.
There is a substantial volume of in-force non-participating business in PAC’s with-profits sub-fund and that fund’s wholly owned subsidiary Prudential Annuities Limited (PAL), which is closed to new business. Profits from this business accrue to the with-profits sub-fund.
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
The EEV basis not only provides a good indication of the value being added by management in a given accounting period, but also demonstrates whether shareholder capital is being deployed to best effect. Indeed insurance companies in many countries use comparable bases of accounting for management purposes.
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.
The value added from new business – defined as the present value of the future profits arising from new business written in the year – is a key metric that we use in the management of our business. The change in value of business in force at the start of the year demonstrates how the existing book is being managed. Together, these metrics provide our management and shareholders with valuable information about the underlying development of our business and the success or otherwise of management actions.
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 generally 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 differ 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 326 to 330 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 352 to 354.
The publication of the EEV Principles represented a significant step towards the harmonisation of embedded value reporting in Europe. However, even with these principles and the accompanying guidance, a divergence of approaches between companies has emerged in practice. In June 2008, in an effort to improve still further the consistency and transparency of embedded value reporting, the CFO Forum published the Market Consistent Embedded Value (MCEV) Principles. However, the MCEV Principles were designed during a period of relatively stable market conditions and their application could, in the current turbulent markets, lead to misleading results. The CFO Forum is therefore currently conducting a review of the impact of turbulent market conditions on the MCEV Principles, and the results of this review may lead to changes to the published MCEV Principles or the issuance of new guidance.
Our strong commitment to CR reflects our recognition that stakeholders – including customers, employees, shareholders and communities – increasingly favour companies that embrace sound values around trust, ethics and environmental responsibility. Prudential’s own stakeholders take the same view. As we strive to meet this need, we are helped by the fact that these values have been fundamental to Prudential throughout the past 160 years, underpinning our longestablished brand values of reliability and stability.
At the same time, we recognise that our performance in key areas of CR such as corporate governance, environmental management and employment practices can have a significant and positive impact on the Group’s financial performance.
Stakeholder dialogue Our stakeholder engagement programme enables our employees and relevant external groups to play a part in shaping Prudential’s activities, and ensures that their reasonable expectations are translated into business value.
This means listening to and working with our stakeholders on an ongoing basis, and being very clear about our intentions and priorities.
To gain useful feedback from our stakeholders and ensure our brand values are maintained, Prudential conducts surveys periodically on a range of topics including how our company is perceived, what things we are regarded as doing well, and where we could improve.
In the UK, the financial services industry is working with the UK regulator, government and consumers to improve the way it treats customers. To support these efforts, Prudential UK has signed up to the Association of British Insurers’ Customer Impact Scheme. This scheme is part of the industry’s commitment to driving continuous improvement in customers’ experiences, and as part of it we will participate in an annual customer survey, to measure changes in our customers’ experiences and attitudes.
We began developing our financial capability programme in the United Kingdom in 2001 and are continuing to see significant progress, both in the UK and – increasingly – internationally.
We extended our financial literacy programme to Asia in 2004, starting with an innovative programme called ‘Investing in Your Future’. This community-based financial training initiative provides vital education to women, who are often responsible for planning their family’s financial needs. This was launched in China and rolled out in Vietnam and India. To date, more than 18,000 women have benefited from the programme.
Investing in our communities In 2008, Prudential invested £5.3 million in a wide range of projects to benefit communities in which we do business, supporting education, welfare and environmental initiatives. This total investment includes a significant contribution made by many of the employees around the Group through volunteering, often linked with professional skills development. It also includes direct donations of £3.5 million to charitable organisations.
We recognise that many employees already make a significant contribution to charities as volunteers in their own free time. The Chairman’s Award programme was set up to recognise this considerable involvement in the local community. It also gives all the Group’s employees the opportunity to get involved with a local charitable project.
Diversity Our view of diversity complements our equal opportunities policy, which embodies the core principles of treating people fairly and reasonably according to their individual merits and capabilities. We strive to ensure that Prudential employees work in an environment where everyone is respected and treated equally on merit. We therefore 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.
Growing a strong talent pipeline The talent and knowledge of our people is the key to Prudential’s future success – and in 2008 we continued to invest strongly in employee Learning and Development. Initiatives during the year included the launch in November 2008 by Prudential UK and ICICI Prudential Asset Management in India of ‘Managing for Success’, a comprehensive new programme to raise the confidence and capability of our managers.
Designed and launched in response to the findings of the 2008 employee survey, the programme provides managers with the knowledge, skills and tools they will need to manage their people effectively and help us achieve our strategic ambitions. November 2008 saw the launch of the first part of the programme to coincide with end-of-year reviews. Each element of the programme has diversity built into the content.
In 2008, these initiatives included employee satisfaction surveys at seven of Jackson’s subsidiaries in the US. The results were used at employee focus groups to gather input on possible improvements, resulting in the development of action plans including employee recognition, increased training opportunities, and career planning. Another example is M&G, which completed an employee survey for the fifth year running in 2008, and found that over 90 per cent of employees were proud to work at M&G.
Payment policy It is the policy of the Group to agree terms of payment when orders for goods and services are placed and to pay in accordance with those terms. Trade creditor days, based on the ratio of amounts which were owed to trade creditors at the year-end to the aggregate of the amounts invoiced by trade creditors during the year, were 21 days.
This is broken down as follows: Education £1,040,000; Social and Welfare £419,000; Environment and Regeneration £88,000; Cultural Activities £83,000 and Staff Volunteering £313,000. The aggregate figure for charitable donations from Prudential’s non-EU subsidiaries (Jackson National Life and Prudential Corporation Asia) amounted to £1.6 million.
It is our Group 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. In line with this policy, we did not make any such donations or incur any such expenditure 2009 developments In late 2008, we developed a new CR Framework to drive improved sustainability performance across our current activities, provide greater focus to our programmes and enable a more consistent approach to our reporting.
2 Giving customers fair, transparent financial products through a variety of trusted distribution channels.
3 Supporting ageing populations and changing demographics by providing products that meet evolving customer needs.
5 Being an employer of choice. 6 Investing to benefit the communities in which we operate. 7 Being open and transparent about our responsibility priorities, reporting challenges as well as achievements.
Importantly, we do not impose a one-size-fits-all approach to CR. Instead, our new framework ensures a common approach across the Group while allowing our businesses the flexibility they need to devise and implement programmes that best meet the needs of their local environment and stakeholder expectations.
In 2009, as part of the process of embedding the new framework, we are developing a new set of key performance indicators and assessment processes for each of our seven CR priorities. We will report against these in the years to come.
Our 2008/2009 responsibility report, ‘More Than Words’, has been structured to reflect our agreed priorities, highlighting our governance, policies, programmes and activities.
80 Board of directors 83 Governance report: • Corporate governance • Risk governance • Corporate responsibility governance 99 Additional disclosures 100 Index to principal Directors’ Report disclosures
Harvey McGrath Chairman and Chairman of the Nomination Committee Harvey McGrath has been an independent non-executive director of Prudential since 1 September 2008, and became Chairman and Chairman of the Nomination Committee on 1 January 2009. Harvey has a long and distinguished career in the international financial services industry. He started his career at Chase Manhattan Bank in London and New York. From 1980 to 2007 he worked for Man Group plc starting as Treasurer, then Finance Director, then President of Man Inc. in New York, before being appointed as Chief Executive of Man Group in London in 1990, and then Chairman in 2000. He left Man Group in 2007. Harvey is also Chairman of the London Development Agency, which works for the Mayor of London, coordinating economic development and regeneration across the capital, and Vice Chairman of the London Skills and Employment Board, which is tasked with developing a strategy for adult skills in London. He is the former Chairman of both London First and the East London Business Alliance, and a Member of the International Advisory Board of the School of Oriental and African Studies. Harvey is a trustee of a number of charities including New Philanthropy Capital, a research based charity which gives advice and guidance to donors and charities; the Royal Anniversary Trust which operates the Queen’s Anniversary Prizes for Higher and Further Education; ISS, which protects the rights and welfare of children and vulnerable adults across borders; icould, an online careers resource; and the Prince’s Teaching Institute, which promotes subject based professional development for teachers.
Mark Tucker ACA Group Chief Executive (until 30 September 2009) Mark Tucker was re-appointed as an executive director of Prudential in May 2005, when he also became Group Chief Executive. From May 2004 to March 2005, he was Group Finance Director, HBOS plc and a 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.
Nick Prettejohn Executive director Nick Prettejohn has been an executive director of Prudential and Chief Executive, Prudential UK & 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.
Sir Winfried Bischoff Independent non-executive director Sir Winfried Bischoff has been an independent non-executive director of Prudential since August 2007. Sir Win 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 a director of Citigroup Inc., and was Acting Chief Executive Officer from November to December 2007, and Chairman from December 2007 until 23 February 2009. In addition, Sir Win is Chairman of the European Advisory Board of Citigroup Inc., and has been a non-executive director of The McGraw-Hill Companies, New York since October 1999 and of Eli Lilly and Company, Indianapolis since June 2000. Prior to that, Sir Win joined the Company Finance Division of J. Henry Schroder & Co. Limited, London, in 1966 and in 1971, he was appointed as Managing Director of Schroders Asia Limited, Hong Kong. He returned to London in January 1983, and was appointed Chairman of J. Henry Schroder & Co. in October 1983. Sir Win was appointed Group Chief Executive of Schroders plc in December 1984 and as Chairman of Schroders plc in May 1995, until the acquisition of the investment banking business of Schroders by Citigroup Inc. in May 2000. In addition, Sir Win was a non-executive director of Cable and Wireless plc from 1991 and Deputy Chairman from 1995 to 2003. His other nonexecutive directorships included: IFIL Finanziaria di Partecipazioni SpA, Italy (1999-2004), Siemens Holdings Plc (2001-2003), Land Securities Plc (1999-2008) and Akbank T.A.S. (2007-2008).
Keki Dadiseth FCA Independent non-executive director and member of the Remuneration Committee Keki Dadiseth has been an independent non-executive director of Prudential since April 2005. During 2006, he was appointed as a nonexecutive director of ICICI Prudential Life Assurance Company Limited and ICICI Prudential Trust Limited. He is also a member of the Advisory Board of Marsh & McLennan Companies Inc. and an International Advisor to Goldman Sachs. In addition, Keki is a director of Nicholas Piramal Limited, Siemens Limited, Britannia Industries Limited and The Indian Hotels Company Limited, all quoted on the Bombay Stock Exchange. He is also a director of the Indian School of Business and acts as a trustee of a number of Indian charities. Before he retired from Unilever in 2005, Keki was Director, Home and Personal Care, responsible for the HPC business of Unilever worldwide, a Board member of Unilever PLC and Unilever N.V. and a member of Unilever's Executive Committee. He joined Hindustan Lever Ltd in India in 1973.
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 August 2007, and has been a member of the Audit Committee since 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. From 2003 until February 2007 Ann was Chief Financial Officer of the Swiss Re Group. Ann is also a non-executive director of Ariel Holdings Limited, Atrium Underwriting Group Limited and Atrium Underwriting Limited. In 2008 and until January 2009 Ann was Chief Financial Officer and Executive Director of Northern Rock.
Kathleen O’Donovan ACA Independent non-executive director and Chairman of the Audit Committee Kathleen O'Donovan has been an independent non-executive director of Prudential since May 2003. She has been a member of the Audit Committee since 2003 and became Chairman of the Audit Committee in May 2006. Kathleen is a non-executive director and Chairman of the Audit Committees of Great Portland Estates PLC and Trinity Mirror plc, and a non-executive director of ARM Holdings plc. She is also Chairman of the Invensys Pension Scheme. Previously, she was a non-executive director and Chairman of the Audit Committees of the EMI Group plc and the Court of the Bank of England, and a non-executive director of O2 plc. Prior to that, Kathleen was Chief Financial Officer of BTR and Invensys, and before that she was a partner at Ernst & Young.
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 Chairman of BH Global Limited and a non-executive director of Frontier Economics Limited and The British Land Company PLC, and was formerly a non-executive director of the Arup Group (2006-2007). He also works part-time as a Senior Adviser to the London partners of Booz and Co (UK).
• Group risk framework: Provides an overview of the Group-wide philosophy and approach to risk management, and sets out the key processes for risk management that support the Group’s compliance with internal, statutory and regulatory requirements.
• Corporate responsibility framework: Provides an overview of the Group-wide philosophy and approach to corporate responsibility; supports the Group’s commercial focus and the increasing challenges we face including changes in stakeholder expectations. A key element is the Group Code of Business Conduct which sets out the ethical standards the Board requires of itself, employees, agents and others working on behalf of the Group, in their dealings with employees, customers, shareholders, suppliers, and competitors, in the wider community and in respect of the environment.
Corporate governance and the role of the board Combined Code compliance The corporate governance rules applicable to all UK companies admitted to the Official List of the UK Listing Authority are set out in the Combined Code, published by the Financial Reporting Council in June 2003, and revised in 2006. The directors believe that good corporate governance is central to achieving the Group’s objectives and maximising shareholder value, and are committed to high standards of corporate governance. The Board supports the Combined Code, and confirms that it has complied with all of the provisions set out in Section 1 throughout the financial year ended 31 December 2008.
Board composition, appointments and election/re-election As at 31 December 2008, the Board comprised the Chairman, six executive directors and nine independent non-executive directors. During the year, Tidjane Thiam was appointed as an executive director and Chief Financial Officer, with effect from 25 March 2008, and Harvey McGrath was appointed as an independent non-executive director with effect from 1 September 2008. On 15 May 2008 Philip Broadley ceased to be a director with effect from the close of the Annual General Meeting, and on 31 December 2008 Sir David Clementi ceased to be a director and Chairman of the Board. He was succeeded as Chairman by Harvey McGrath with effect from 1 January 2009. The biographies of all current directors are set out on pages 81 and 82.
Non-executive directors are usually appointed for an initial three-year term, commencing with their election by shareholders at the first Annual General Meeting following their appointment. Each appointment is reviewed towards the end of this period against performance and the requirements of the Group’s businesses. Non-executive directors are typically expected to serve for two three-year terms from their initial election by shareholders, although the Board may invite them to serve for an additional period. The terms and conditions of non-executive directors’ appointments are available for inspection at the Company’s registered office during normal business hours and at the Annual General Meeting.
The Board is actively engaged in succession planning for both executive and non-executive roles to ensure that composition is periodically renewed, and that the Board retains its effectiveness at all times. This is delivered through an established review process that is applied across all businesses and covers both director and senior management succession and development, and through the work of the Nomination Committee, as described more fully on pages 92 and 93. The Board considers the outcome of the review annually and actions arising from the review are implemented as part of the management development agenda. We believe that our nonexecutive directors bring a wide range of business, financial and international experience to the Board and its committees. Our executive directors, who head up the main businesses of the Group, each bring an in-depth understanding to the Board of their particular business, its markets and its challenges, ensuring coverage of the breadth and depth of the Group’s principal activities.
Role of the Board The roles of Chairman and Group Chief Executive are separate and clearly defined, and the scope of these roles has been approved by the Board so that no individual has unfettered powers of decision. The Chairman is responsible for the leadership and governance of the Board as a whole, and the Group Chief Executive for the management of the Group and the implementation of Board strategy and policy on the Board’s behalf. In discharging his responsibilities, the Group Chief Executive is advised and assisted by the Group Executive Committee, comprising all the business unit heads and a Group Head Office team of functional specialists.
James Ross is the Company’s Senior Independent Director, to whom concerns may be conveyed by shareholders if they are unable to resolve them through the existing mechanisms for investor communications, or where such channels are inappropriate.
The Board’s terms of reference, which are regularly reviewed, set out those matters specifically reserved to it for decision, in order to ensure that it exercises control over the Group’s affairs. These include approval of the annual and interim results, strategy and corporate objectives, operating plans, significant transactions and matters affecting the Company’s share capital.
Sir David Clementinote 1 8(8) n/a n/a n/a Sir Winfried Bischoffnote 2 7(8) n/a n/a n/a Philip Broadleynote 3 3(3) n/a n/a n/a
Notes 1 Not required to attend Nomination Committee meetings in 2008 as meetings were held to determine his successor. 2 Attended all meetings except one Board meeting due to a commitment agreed prior to appointment to the Board. 3 Ceased to be a director with effect from 15 May 2008.
5 Attended all meetings except one Remuneration Committee meeting due to a prior commitment. 6 Attended all meetings except one scheduled Board meeting and the unscheduled Board meeting, due to prior commitments. 7 Appointed as a director on 1 September 2008. 8 Temporary member of the Nomination Committee during 2008. 9 Attended all scheduled meetings but was unable to attend the unscheduled Board meeting because of travel commitments. 10 Appointed as a director on 25 March 2008. 11 Attended all meetings except the unscheduled Board meeting due to a prior commitment.
Both Sir Winfried Bischoff and James Ross are on the board of The McGraw-Hill Companies, however, the Board does not consider that this relationship in any way affects the independence of either Sir Win or James Ross in matters relating to Prudential.
Other commitments and conflicts of interest Other commitments The Board was satisfied during 2008 that the Chairman’s other commitments did not interfere with the day-to-day performance of his duties for the Group, and that he had the commitment and capability to make himself available under unforeseen circumstances, should the need arise. The Board remains satisfied in this respect as regards his successor. The major commitments of the current Chairman, including changes during the year where applicable are detailed in his biography on page 81.
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. Some 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, served on the board of Close Brothers Group plc during part of the year and as trustee of the Grosvenor Estate during the latter part of the year. Our Chief Financial Officer, Tidjane Thiam, serves on the board of Arkema S.A., a position he held on appointment to Prudential.
Conflicts of interest A new statutory duty on directors to avoid conflicts of interest with the Company came into force in October 2008. The Company’s Articles of Association, adopted in May 2008, allow the directors to authorise conflicts of interest, and the Board has adopted a policy and effective procedures for managing and, where appropriate, approving conflicts or potential conflicts of interest. Under those procedures, directors are required to declare all directorships or other appointments to companies which are not part of the Prudential Group, and which could result in conflicts or potential conflicts of interest, as well as other situations which could give rise to a potential conflict.
A programme of on-going professional development was undertaken for all directors in 2008, 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 within certain head office functions presented to the Board on the key issues currently being handled by the function. During the year, two ‘teach-ins’ were held for non-executive directors covering FSA related topics and accounting disclosures. In addition, members of the Audit Committee attended some meetings of the Group Operational Risk Management Committee and the Group Asset and Liability Committee, as well as some meetings of business unit audit committees, to aid their understanding of topical matters of interest to them and how they are handled by the Group.
The independent consultant prepared a report based on the various discussions held and presented and discussed the overall results of the evaluation with the Board in March 2009. The use of external providers for this purpose is kept under review.
Directors’ interests Details of each director’s interests in shares of the Company are set out in the Directors’ Remuneration Report on page 116.
Directors’ indemnities and protections The Company has arranged appropriate insurance cover in respect of legal action against directors and senior managers of companies within the Prudential Group. In addition, the Articles of Association of the Company permit the directors and officers of the Company to be indemnified in respect of liabilities incurred as a result of their office. Prudential also provides protections for directors and senior managers of companies within the Group against personal financial exposure they may incur in their capacity as such. These include qualifying third-party indemnity provisions (as defined by the relevant Companies Act) for the benefit of directors of Prudential, including, where applicable, in their capacity as directors of other companies within the Group.
The system is regularly reviewed and complies with the revised guidance on the Combined Code issued in October 2005 (the Turnbull guidance). The Board last reviewed the effectiveness of the system of internal control in 2009, covering all material controls, including financial, operational and compliance controls, and risk management systems. The Board confirms that there is an ongoing process for identifying, evaluating and managing the significant risks faced by the Group, which has been in place throughout the period covered by this report and up to 18 March 2009.
Board Committees The Board has established audit, remuneration and nomination committees as standing committees of the Board with written terms of reference, which are kept under regular review. These committees are key elements of the Group’s corporate governance framework, and reports on each are included below: Audit Committee Report This report sets out the responsibilities of the Group Audit Committee (the ‘Committee’) and the activities carried out by the Committee during the year to meet its objectives.
Role of the Committee The Committee’s principal responsibilities consist of oversight over financial reporting, internal control and risk management, and monitoring auditor independence. Its duties include gaining assurance on the control over financial processes and the integrity of the Group’s financial reports, monitoring the performance, objectivity and independence of the external auditor, and reviewing the work of the internal auditor.
The Committee’s terms of reference, which are set by the Board and kept under regular review, 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.
Membership The Committee is comprised exclusively of independent non-executive directors of the Company, as set out below: Kathleen O’Donovan ACA (Chairman) Ann Godbehere FCGA Lord Turnbull KCB CVO
Membership is selected to provide a broad set of financial, commercial and other relevant experience to meet the Committee’s objectives.
The Board has designated Kathleen O’Donovan as its audit committee financial expert for Sarbanes-Oxley Act purposes, and has determined that she also has recent and relevant financial experience for the purposes of the Combined Code.
The Board has further determined that Ann Godbehere, who held senior financial positions in the insurance sector, brings additional recent and relevant financial experience to the Committee.
Full biographical details of the members of the Committee, including their relevant experience are set out in their biographies on page 82.
The Chairman reported to the Board on matters of particular significance after each Committee meeting, and the minutes of Committee meetings were circulated to all Board members.
In addition, the Committee is regularly briefed by senior management on developments in international accounting standards.
Business unit audit committees Each business unit has its own audit committee whose members and chairmen are independent of the respective business unit. The chairmen of these committees report regularly to the Committee, and their meetings are attended by senior management of the respective business unit, including the business units’ heads of finance, risk, compliance and internal audit. Business unit audit committees have adopted standard terms of reference across the Group, with only minor variations to address overseas requirements or particular requirements of the business. The terms of reference of those committees were reviewed during the year, and all include escalation of significant matters to the Committee, approval of the business unit internal audit plans and overseeing the adequacy of internal audit resources. Also included are presentations from external auditors. During the year, the business unit audit committees reviewed and approved their respective internal audit plans, resources and the results of internal audit work, and met privately with both external and internal auditors.
Formal reports are submitted to Committee meetings, 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.
The Committee assesses the effectiveness of the internal audit function by means of regular reviews, some of them carried out by external advisers, and through ongoing dialogue with the Group-wide Internal Audit Director. External reviews of internal audit arrangements and standards were conducted in 2006 and 2007 to ensure that the activities and resources of internal audit are most effectively organised to support the oversight responsibilities of the Committee. These reviews, performed by Deloitte, confirmed that the internal audit function complies with the Institute of Internal Auditors’ international standards for the professional practice of internal auditing and was operating effectively. An internal assessment of the internal audit function was performed by the Groupwide Internal Audit Director in 2008, based on the internal audit function’s ongoing self-assessment processes and using a maturity model derived from the review criteria used by Deloitte. The assessment confirmed that the internal audit function conforms to the Institute of Internal Auditors’ international standards and continues to operate effectively in all areas of professional practice. The results of the assessment were reported in detail to the Committee in February 2009.
External audit The Committee has a key oversight role in relation to the external auditor, KPMG Audit Plc, whose primary relationship is with the Committee. The Group’s Auditor Independence Policy ensures that the independence and objectivity of the external auditor is not impaired. The policy sets out four key principles which underpin the provision of non-audit services by the external auditor, namely that the auditor should not: • Audit its own firm’s work; • make management decisions for the Group; • have a mutuality of financial interest with the Group; or • be put in the role of advocate for the Group.
Re-appointment of auditor The Group operates a policy under which at least once every five years a formal review is undertaken by the Committee to assess whether the external audit should be re-tendered. The external audit was last put out to competitive tender in 1999 when the present auditor was appointed. In 2005, 2006, 2007 and 2008 the Committee formally considered the need to re-tender the external audit service and concluded that, given the significant changes in accounting, audit and regulatory requirements, the interests of the Company were better served by retaining the existing auditor through a period of continuing change. In addition, the Committee concluded that there was nothing in the performance of the auditor requiring a change. In 2007, a new lead audit partner was appointed by KPMG Audit Plc, in line with the Auditing Practices Board Ethical Statements and the Sarbanes-Oxley Act.
Following its review of the external auditor’s effectiveness and independence, the Committee has recommended to the Board that KPMG Audit Plc be re-appointed as auditor of the 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 2010 Annual General Meeting will be put to a shareholder vote at the Annual General Meeting on 14 May 2009.
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 127. 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.
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 roles 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 also reviews conflicts of interest or potential conflicts of interest raised by directors between Board meetings or for prospective new Board members. In cases where there might be an actual or potential conflict of interest, the Committee has powers to authorise any such actual or potential conflict situation on behalf of the Board, imposing any terms and conditions it deems appropriate, or to make recommendations to the Board as to whether the conflict or potential conflict should be authorised, and on what terms.
Membership The Committee is comprised of independent non-executive directors and the Chairman, as set out below: Sir David Clementi FCA MBA (Chairman until 31 December 2008)
During 2008, the Committee, with the approval of the Board, established a sub-committee chaired by the Senior Independent Director and including Bridget Macaskill and Kathleen O’Donovan, to manage the search for a successor to the Chairman. The sub-committee formally met three times during the year and maintained regular contact throughout the process. External advice was also received. The Chairman did not attend any of these meetings. The sub-committee recommended to the Board the appointment of Harvey McGrath as a non-executive director and Chairman Designate.
Harvey McGrath was appointed by the Board as a nonexecutive director on 1 September 2008 and succeeded Sir David Clementi as Chairman of the Board on 1 January 2009.
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 14 May 2009 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 are given the opportunity during annual general meetings to put questions to the Board on matters relating to the Group’s operations and performance.
Company constitution The Company is governed by the Companies Acts and other applicable legislation, and by its Memorandum and Articles of Association. The Memorandum and Articles of Association are available on our website at prudential-plc/aboutpru/memorandum/
Rights and obligations The rights and obligations attaching to the Company’s shares are set out in full in the Company’s Articles of Association. There are no voting restrictions on the ordinary shares, and each share carries one vote on a poll. If votes are cast on a show of hands, each shareholder present in person or by proxy has one vote regardless of the number of shares held, in accordance with the Companies Acts. Where, under an employee share plan operated by the Company, participants are the beneficial owners of the shares but not the registered owners, the voting rights are normally exercisable by the registered owner, in accordance with the relevant plan rules. Trustees may vote at their discretion, but do not vote on any unawarded shares held as surplus assets.
As at 18 March 2008, trustees held 0.227 per cent of the issued share capital of the Company under the various plans in operation.
Certain restrictions may be imposed from time to time by laws and regulations (for example, insider trading laws), and pursuant to the Listing Rules of the Financial Services Authority and Prudential’s own share dealing rules whereby certain employees of the Company require the approval of the Company to deal in the Company’s ordinary shares.
Significant shareholdings As at 18 March 2009, the Company had received notification in accordance with Rule 5.1.2 R of the Disclosure and Transparency Rules of the Financial Services Authority from Legal & General Group Plc and Capital Research and Management Company that they held 4.96 per cent and 5.005 per cent respectively of the Company’s issued ordinary share capital at the time of notification.
Powers of directors to issue shares The directors require authority from shareholders in relation to the issue of shares by the Company. Whenever shares are issued, the Company has to offer the shares to existing shareholders pro rata to their holdings, unless it has been given authority by shareholders to issue shares without offering them first to existing shareholders. The Company seeks authority from its shareholders on an annual basis to issue shares, up to a maximum amount, and to issue up to five per cent of its issued share capital without observing pre-emption rights, in line with relevant regulations and best practice.
In particular in relation to the provisions of Section 302 of that Act, which covers disclosure controls and procedures, a Disclosure Committee has been established reporting to the Group Chief Executive, chaired by the Chief Financial Officer and comprising members of senior management. The objectives of this Committee are to: • Assist the Group Chief Executive and the Chief Financial Officer 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 Chief Financial Officer 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
In discharging these objectives, the Committee helps to support the certifications by the Group Chief Executive and the Chief Financial Officer of the effectiveness of disclosure procedures and controls required by Section 302.
The provisions of Section 404 of the Sarbanes-Oxley Act require the Company’s management to report on the effectiveness of internal controls over financial reporting in its annual report on Form 20-F, which is filed with the US Securities and Exchange Commission. To comply with this requirement to report on the effectiveness of internal control, the Group has undertaken a significant project to document and test its internal controls over financial reporting in the format required by that Act. The annual assessment and related report from the external auditor will be included in the Group’s annual report on Form 20-F, which will be published in the coming months.
Organisation 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 framework is based on the concept of ‘three lines of defence’: risk management; risk oversight; and independent assurance.
Risk oversight: Risk exposures are monitored and reviewed by Group-level risk committees, chaired by the Chief Financial Officer, with representation from business unit and Group Head Office oversight functions: • Group Asset Liability Committee: Meets monthly to oversee the Group’s financial risk (market, credit, liquidity and insurance risks) exposures.
• Group Operational Risk Committee: Meets quarterly to oversee the Group’s non-financial risk (operational, business environment and strategic risks) exposures.
The Group has five objectives for risk and capital management: a Framework: Design, implement and maintain a capital management and risk oversight framework consistent with the Group’s risk appetite and Risk-Adjusted Profitability (RAP) model.
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.
Reporting The Group Executive Committee and the Board are provided with regular updates on the Group’s economic capital position, overall position against risk limits and RAP. They also receive the annual financial condition reports prepared by the Group’s insurance operations.
Internal business unit routine reporting requirements vary according to the nature of the business. Each business unit is responsible for ensuring that its risk reporting framework meets both the needs of the business unit (for example reporting to the business unit risk and audit committees) and the minimum standards set by the Group (for example, to meet Group-level reporting requirements).
Business units review their risks as part of the annual preparation of their business plans, and review opportunities and risks against 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 plans.
The Board is committed to achieving the highest standards of Corporate Responsibility (CR) in directing and controlling the business. In terms of the governance of our CR strategy, Nick Prettejohn, Chief Executive Prudential UK and Europe, 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 and also reviews and approves Prudential’s CR report and strategy on an annual basis.
Consideration of environmental, social and community matters is embedded in our Code of Business Conduct and supported by our CR philosophy and programme, which takes into account local cultures and requirements across our businesses.
The following additional disclosures are made in compliance with the Companies Act 2006, the Disclosure and Transparency Rules and the Combined Code.
Company law requires the directors to prepare financial statements for each financial year which give a true and fair view of the state of affairs of the Company and of the Group. The criteria applied in the preparation of the financial statements are set out in the statement of directors’ responsibilities on page 316.
Post-balance sheet events Important events affecting the Company after the end of the financial year are detailed in Note I10.
Essential contracts or arrangements There are a number of significant relationships with thirdparties, which have value to the business. No single relationship, however, is considered to be essential to the Group as a whole.
Compensation for loss of office None of the terms of employment of the Company’s directors includes provisions for payment of compensation for loss of office or employment that occurs because of a takeover. Terms applying on a termination of their office are set out in the Directors’ Remuneration Report. In the US, senior executives participate on a discretionary basis in a plan which entitles them to compensation, in the event that their employment is terminated or adversely affected as a result of a takeover. In addition, one employee in our Asian business participates in a similar plan.
Information required to be disclosed in the Directors’ Report may be found in the following sections: Information Section in Annual Report Page number(s)
Financial instruments – risk management objectives Business review 69 and policies
Rules governing changes to the articles of association Corporate governance 93
In addition, the risk factors set out on pages 360 to 363 are incorporated by reference into this Directors’ Report.
I am pleased to present the 2008 remuneration report for Prudential, setting out our remuneration policy for senior executives and the remuneration for our executive directors.
The primary objectives of our remuneration policy remain unchanged: to attract high calibre executives and to encourage them to contribute to the success of Prudential by fulfilling our business plans, thereby achieving returns for our shareholders. We reward executives based on the Company’s success and their individual contributions. By focusing on the delivery of both short and long-term business objectives the remuneration policy supports the Company’s strategy and goals and is effectively aligned with the interests of shareholders.
In consequence: • We made no changes for 2009 to the basic salaries of our executive directors or our Group Leadership Team (top 100 employees); • in deciding 2008 bonus levels, we applied no discretion when considering the financial results against targets which had been set at the beginning of the year; and
The Remuneration Committee determines remuneration policy and makes decisions on individuals’ remuneration while taking into account: • The UK’s regulatory framework; • shareholders’ views; • good practice as set out in investor guidelines; • UK corporate governance standards; • remuneration practices and levels of compensation in local markets; and • remuneration arrangements for other employees in the Company.
The Committee’s remuneration policy applies a set of Remuneration Principles which support the Committee’s strong belief that remuneration must reflect performance which delivers the Group’s strategy and ensures a continuing alignment with the shareholders. The review conducted in 2008 confirmed the validity of the principles which guide the Remuneration Committee in determining its general approach to remuneration and the awards made to the individual executive directors.
• reward structures will be designed to deliver fair and equitable remuneration for all employees.
In addition to the review undertaken, during last year the Committee addressed its regular tasks of determining the appropriate level of the executive directors’ annual incentive reward for the previous year, deciding incentive award structures for the current year and reviewing salaries for the subsequent year. In addition, the Committee: • Finalised the proposals on the new long-term incentive plan for Michael McLintock which was approved by shareholders at the Annual General Meeting and implemented during 2008; • reviewed the comparator group of companies to be used under the 2008 Group Performance Share Plan; • finalised the terms following the resignation of Philip Broadley; • finalised the terms for the appointment of Tidjane Thiam; • finalised the terms for the appointment of Harvey McGrath; • reviewed the performance measures in the long-term incentive plans; and • reviewed the remuneration of senior managers throughout the Group.
During the year, the Company has complied with Schedule A and Schedule B and the provisions relating to the Principles of Good Governance and Code of Best Practice of the Combined Code then in force regarding directors’ remuneration.
During 2008 the Committee: • Reviewed the Remuneration Principles which guide its decisions and confirmed they were in line with good practice; • confirmed that the remuneration structure for each of the executive directors was broadly appropriate with a correct balance between – fixed and variable elements of remuneration – annual and long-term incentives – reward provided in cash and shares – incentives based on Group and business unit performance; • reviewed the executive directors’ remuneration against market at a total compensation level and by different elements; • decided that although there were areas of remuneration below market, no changes to incentive levels would be made at this time; • decided that no salary increases for executive directors would be made in 2009; • considered the design, including the performance measures, of our annual incentive arrangements for executive directors; • considered the design, including the performance measures, of our long-term incentive arrangements for executive directors; and
• considered the salary review plans for all other employees and incentive arrangements in the Group.
Review of market positioning During 2008, the Committee reviewed its policy on the appropriate market position for each executive director and confirmed the following: • Setting total compensation against the median of the FTSE 50 for the relevant role is appropriate for Mark Tucker, Tidjane Thiam, and Nick Prettejohn; • setting total compensation against the median of the FTSE 50 for the relevant role is also appropriate for Barry Stowe, in the absence of reliable market data in Asia; • setting total compensation against the median of the Life Office Management Association (LOMA) data for US insurers is appropriate for Clark Manning; and
• setting total compensation for Michael McLintock against survey data from McLagan Partners of an appropriate peer group is appropriate, targeting median compensation for median performance and upper quartile for superior performance.
Performance measures in 2009 annual bonus plans The 2009 annual plans for the majority of executive directors include performance measures at a Group and business unit level based on: IFRS profits EEV profits Operating cash flow Insurance Groups Directive capital surplus position
The proportions of financial and individual performance for each executive director are: 2009 Annual incentives Financial Personal measures performance
The proportions for 2008 bonus plans were as above, but the performance measures did not include Insurance Groups Directive capital surplus.
Performance measures in long-term incentive plans 2009 Group Performance Share Plan (GPSP) Awards under the 2009 Group Performance Share Plan are based on Prudential’s Total Shareholder Return compared with the TSR performance of its competitors. Further details are set out in the section on ‘Executive Directors’ long-term incentive plans’ on page 111.
In view of this decision the Committee confirmed that as in previous years the vesting of the awards under the 2008 and 2009 Business Unit Performance Plan for the Chief Executives of the UK, US and Asia will be based on the growth in Shareholder Capital Value (SCV) on an EEV basis for each relevant business unit. Details of the measures are set out in the section on ‘Business Unit Performance Plans (BUPPs) – executive directors with regional responsibility’ on page 111. In the event that Prudential changes its supplementary basis of reporting from EEV the Committee will keep the vesting schedules under review to ensure that outcomes are not materially distorted up or down by such a change. The business based long-term incentive plan for Michael McLintock is described in the section ‘M&G Executive Long-Term Incentive Plan’ on page 112.
Provides appropriate compensation structures and reward payouts which attract highcalibre executive directors.
Rewards the achievement of business results and individual objectives in a given year.
For other employees, basic salary increases around the Group will reflect the local market.
Executive directors have annual incentive plans based on the achievement of annual performance measures taken from the Company’s business plans and individual contributions. Bonuses awarded are not pensionable.
Asia: deferral of bonus above 50% of salary; and • Chief Executive of Jackson: deferral of bonus above 100%
All executive directors are provided with awards under the share-based Group Performance Share Plan.
The chief executives of the business units also participate in plans designed to measure their business unit’s contribution to the long term success of Prudential.
The Chief Executive of M&G participates in the cash-based M&G Executive LTIP.
The Chief Executives of UK, Asia and Jackson participate in long-term incentive plans relating to their businesses, the Business Unit Performance Plans. For 2009 onwards, awards will be 100% in shares to provide greater alignment with shareholders (previously, awards were 50% shares/50% cash).
Full details of the plans for the executive directors are set out in the section on ‘Executive Directors’ long- term incentive plans’ on page 111.
Senior executives reporting to the executive directors also participate in LTIPs which in most cases are the same or similar, but plans have been tailored to business needs where appropriate.
Provides another guaranteed element set at an appropriate level compared with peers.
Executive directors are eligible to participate in all-employee plans on the same basis as other employees.
Further details are set out in the section on ‘All-employee plans’ on page 112.
Executive directors receive certain benefits for example participation in medical insurance schemes, a maximum six weeks holiday (an increase from five weeks in 2008 to align with other senior employees) and in some cases a cash car allowance and 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 section on ‘Directors’ pensions and life assurance’ on page 126.
2009 Remuneration structure for executive directors The following table summarises the remuneration structure for each executive director for 2009. Incentive award levels are unchanged from 2008.
Director Role (unchanged for 2009) % of salary % of salary % of salary % of salary
Nick Prettejohn Chief Executive Prudential UK and Europe £650,000 110 130 130 260
Tidjane Thiam3 Chief Financial Officer £650,000 1104 1603 n/a 160 Mark Tucker5 Group Chief Executive £975,000 1255 n/a n/a n/a5
Directors’ remuneration report For year ending 31 December 2008 continued 2009 Remuneration policy – balance of the elements of remuneration Proportions of fixed and variable reward On a policy basis the distribution between fixed and variable and short and long term reward for our executive directors is as follows. (For the Group Chief Executive and Chief Financial Officer the policy level for 2008 long-term incentive award has been included for comparison purposes): The assumptions used are: Good performance leads to 25% vesting of the Group LTIP and 30% vesting of the regional business unit LTIPs.
Prudential’s TSR relative to the index Percentage of award at the end of the performance period which vests
Less than index return 0% Index return 25% Index return x 110% 75% Index return x 120% 100%
Business Unit Performance Plans (BUPPs) – executive directors with regional responsibility For executive directors with regional responsibilities, the Business Unit Performance Plan delivers shares subject to performance over 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. Vesting depends on the increase in SCV over the performance period, and the required growth rates are different for each of Prudential’s business regions to reflect the relative maturity of the markets and the different business environments. The vesting schedules which are the same as for previous BUPP awards are set out in the table below. The unvested portion of any award lapses.
M&G Executive Long-Term Incentive Plan – Michael McLintock Under the M&G Executive Long-Term Incentive Plan an award of phantom shares is made with a phantom share price at vesting which will be determined by the increase or decrease in M&G’s IFRS profits over the three-year performance period, with a notional starting share price of £1.00.
• 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.
UK executive directors are offered a choice of a combination of HMRC approved pension schemes and/or cash supplementary payments. If an executive director opts to join one of the HMRC approved pension plans, participation is on the same basis as other employees who joined at the same date as the executive director in question. For defined benefit schemes, our policy is to retain a notional scheme earnings cap, set at £112,800 and £117,600 for the 2007/08 and 2008/09 tax years respectively. No employees with employment offers after 30 June 2003 are eligible for membership of any defined benefit schemes.
Chairman’s letter of appointment and benefits Sir David Clementi was Chairman during 2008. He was paid an annual fee and had a contractual notice period of 12 months by either party. The Chairman participated in a medical insurance scheme, had life assurance cover of four times his annual fees in lieu of death in service benefits and had the use of a car and driver. He was entitled to a supplement to his fees, intended for pension purposes. He was not a member of any Group pension scheme providing retirement benefits. His annualised fee as at 1 January 2008 was £520,000 and his pension allowance was 25 per cent of his fees.
Directors’ service contracts and letters of appointment Executive directors have contracts that terminate on their normal retirement date. The normal retirement date for the executive directors except Clark Manning and Barry Stowe is the date of their 65th birthday. The normal retirement date for Clark Manning and Barry Stowe is the date of their 60th birthday.
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. Payments additionally would be phased over the notice period.
Notice Period Notice Period Date of contract to the Company from the Company
Tidjane Thiam Tidjane Thiam’s remuneration arrangements as Group Chief Executive from 1 October 2009 will be as follows: Annual Incentive Plan from 2010 LTIP
Tidjane Thiam will continue to receive a supplement for pension purposes at 25 per cent of basic salary but will no longer receive a non pensionable car allowance of £10,000. All other benefits will remain unchanged.
Non-executive directors are not eligible to participate in annual incentive plans, long-term incentive plans or pension arrangements. Their fees are determined by the Board and reflect their individual responsibilities including committee membership as appropriate. The Board reviews the fees annually and the last change was made in 2008.
The annual fees which were paid in 2008 for non-executive directors’ board and committee membership are as follows: To From
Currently the non-executive directors use the net value of £25,000 of their total annual fees to purchase shares in the Company. Shares are purchased each quarter and are held at least until retirement from the Board.
Sir Winfried Bischoff 60,000 66,500 Keki Dadiseth 70,000 76,500 Michael Garrett 70,000 76,500 Ann Godbehere 75,000 86,500 Bridget Macaskill 82,500 89,000 Harvey McGrath* 500,000 n/a Kathleen O’Donovan 100,000 116,500 James Ross 95,000 106,500 Lord Turnbull 75,000 86,500 *Harvey McGrath was appointed Chairman from 1 January 2009 and will not be reported with the non-executive directors for 2009.
Executive directors should have a substantial shareholding which should be built up over a period of five years. Shares earned and deferred under the annual incentive plan are included in calculating the executive director’s shareholding.
Clark Manning 1 x salary 83 Michael McLintock† 2 x salary 597 Nick Prettejohn 1 x salary 74 Barry Stowe‡ 1 x salary 82 Tidjane Thiam 1 x salary 131 Mark Tucker† 2 x salary 172 *Based on the share price as at 31 December 2008 (£4.165) †With an interim target of 1 x salary after three years ‡Shareholdings for Barry Stowe include American Depositary Receipts (ADRs). One ADR is equivalent to two Prudential plc shares.
Sir Winfried Bischoff 20,853 23,773 23,773 Sir David Clementi 48,555 53,058 53,058 *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 number of shares will only be released if the employee remains in employment for three years.
2 Barry Stowe’s interests in shares are made up of 33,339 American Depositary Receipts (representing 66,678 ordinary shares). 8,513.73 of the American Depositary Receipts are held within an investment account which secures premium financing for a life assurance policy.
The line graph below shows the Total Shareholder Return (TSR) of the Company during the five years from 1 January 2004 to 31 December 2008 against the FTSE 100. This comparison was selected as Prudential is a major company in the FTSE 100.
Note that the chart above compares Prudential’s TSR performance against the TSR performance of the FTSE 100 index over five years. The performance measure within the Group Performance Share Plan compares Prudential’s TSR performance against a group of insurers over three years.
Cash including cash of performance supplements Total supplements periods ending for pension Emoluments for pension 31 December Salary/Fees Bonus Benefits* purposes† 2008 purposes‡ 2008§
Total non-executive directors 833 833 573 *Benefits include, where provided, cash allowances for cars, the use of a car and driver, medical insurance, security arrangements, expatriate benefits. †Pension supplements that are paid in cash are included in the table. The policy on pensions is described in the section on ‘Pensions policy’ on page 113. The pension arrangements for current executive directors are described in the section on ‘Directors’ pensions and life assurance’ on page 126.
Notes 1 David Clementi was Chairman until 31 December 2008 and remained an employee until 31 January 2009. 2 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, he was provided with the following: •a total payment of £507,105 paid in two tranches in June and December 2008; •medical insurance and life assurance cover for six months after his leaving date; and •treatment as a ‘good leaver’ in respect of his outstanding share awards. The deferred share awards under his 2006 and 2007 annual incentive plans were released on his leaving. 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 these payments after June 2008 were 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.
This is included in the table on pension contributions on page 127. 4 It is anticipated that for Michael McLintock a deferred share award from the 2008 annual bonus valued at £640,000 will be made. This is included in the 2008 bonus figure. 5 It is anticipated that for Nick Prettejohn a deferred share award from the 2008 annual bonus valued at £325,000 will be made. This is included in the 2008 bonus figure. 6 It is anticipated that for Barry Stowe a deferred share award from the 2008 annual bonus valued at £62,013 will be made. This is included in the 2008 bonus figure. 7 Barry Stowe’s benefits primarily relate to his expatriate status including costs of £91,829 related to housing, £34,113 for children’s education and £21,165 for home leave. 8 On appointment, Tidjane Thiam was provided with a guarantee that his 2008 bonus would not be less than 100 per cent of salary. 9 It is anticipated that for Tidjane Thiam a deferred share award from the 2008 annual bonus valued at £325,000 will be made. This is included in the 2008 bonus figure. 10 In addition to the 2008 bonus disclosed in the table above, Tidjane Thiam received a payment of £650,631 to compensate for the loss of 2007 bonus and in lieu of 2005 awards which were due to vest in March 2008.
12 Harvey McGrath joined Prudential on 1 September 2008 and became Chairman on 1 January 2009.
The following sections provide information on payments, outstanding conditional incentive awards and shares released in 2008 for each executive director.
Summary of remuneration provided for 2008 The values of rewards provided for the executive directors for performance in 2008, using Prudential’s share price at 31 December 2008 (£4.165), are summarised below. The values contain total annual bonus awards for 2008 performance including any deferrals into shares. The long-term plan releases are in respect of awards made in 2006. Tidjane Thiam and Barry Stowe did not have long-term awards for 2006.
Annual Incentive Plans – Performance in 2008 The main business measures considered by the Remuneration Committee and incorporated into the 2008 annual incentive plans were IFRS profit, EEV profit and cash flow against each of which Prudential achieved strong results in 2008 despite the turbulence in the financial markets in the year.
For the 2008 annual bonus plans, the proportions of financial and individual performance for the executive directors were the same as for 2009, as set out in the section on ‘Performance measures in 2009 annual bonus plans’ on page 105.
The bonuses awarded to the executive directors for 2008 reflect Group and, where applicable, their business unit’s performance against the targets confirmed by the Remuneration Committee in February 2008. These targets were considered demanding at that time being based on the 2008-10 business plan drawn up prior to the market deterioration which started at the end of 2007. These targets have not been amended. As the economic climate further deteriorated in 2008 the challenges presented particularly to the Asia and Jackson businesses have proved exceedingly demanding. We are fully satisfied that the bonuses awarded properly take account of the absolute performance achieved against the original targets set.
The 2008 financial results under the main business measures incorporated in the annual plans are set out below. The measures for Jackson were different and are identified later in this section: Group UK Asia M&G notes 2,3 note 3 note 4 note 5
Notes 1 The 2008 and 2007 profit figures (based on reported actual exchange rates) were audited by KPMG. Net cashflow and the conversions at constant exchange rates are not audited.
Clark Manning’s annual plan included a cash flow measure which was not met. The Jackson senior management bonus pool in which Clark Manning participates depends on Jackson IFRS and EEV profits. The 2008 pool is some 35 per cent lower than the pool for 2007 reflecting IFRS and EEV results which are approximately 15 per cent lower than in 2007.
Directors’ remuneration report For year ending 31 December 2008 continued 2008 Annual Plan payments based on performance The payments included in the Remuneration table on page 117 are summarised in the table below: Maximum % of salary % of maximum as a % of salary
Philip Broadley* 50* 45* 110 Clark Manning† 208 n/a n/a Michael McLintock 556 n/a n/a
Conditional Market (options) share share awards Conditional price at granted awards outstanding awards date of upon vesting outstanding Year of at 1 Jan 2008 in 2008 original in 2008 Rights at 31 Dec 2008 Date of end of initial (Number (Number award (Number exercised (Number performance Plan name award of shares) of shares) (pence) of shares) in 2008 of shares) period
Group Performance Share Plan 2008 127,622 674.50 127,622 31 Dec 10
Year of outstanding awards made outstanding Date of end of initial at 1 Jan 2008 in 2008 in 2008 at 31 Dec 2008 performance
Restricted Share Plan awards For RSP awards in 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.
2008 Awards The awards made under the Group Performance Share Plan and the Business Unit Performance Plan in respect of 2008 have a performance period from
Group Performance Share Plan Awards under the Group Performance Share Plan are described on page 111.
3 Business Unit Performance 2006 At 31 December 2008 Shareholder Capital Value performance under the 2006 BUPPs Share Plans was as follows: % growth Anticipated SCV payout
Jackson 6.1 nil UK 1.2 nil 4 Tidjane Thiam For 2008 as part of the terms of appointment, a double award under the Group Performance Share Plan of 320 per cent of salary was made to Tidjane Thiam.
Rights which were exercised from options granted from 2005 Restricted Share Plan awards during 2008 are set out in the following table: Rights Rights RSP granted exercised Rights Market rights during during outstanding price on Year of outstanding 2008 2008 at 31 Dec Price Exercise date of Earliest Latest option at 1 Jan (Number (Number 2008 paid for price exercise exercise exercise grant 2008 of shares) of shares) (pence) award (pence) (pence) date date
Philip Broadley 2008 – 114,365 114,365 – – Nil 539.5 17 April 2008 04 April 2015 Clark Manning 2008 – 102,095 102,095 – – Nil 647.5 17 April 2008 04 April 2015 Michael McLintock 2008 – 36,597 36,597 – – Nil 377.0 17 April 2008 04 April 2015
Business-specific cash-based long-term incentive plans Details of all outstanding awards under cash-based long-term incentive plans up to and including 2008 are set out in the table below. The performance period for all awards is three years.
Clark Manning In 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.
Deferred 2006 annual incentive awardnote 1 2007 31,868 590 32,452 –1,2 31 Dec 09 32,458 21 Aug 08 723 506.5
Deferred 2007 annual incentive awardnote 1 2008 16,514 489 17,0031 31 Dec 10
Deferred 2007 annual incentive awardnote 1 2008 103,811 3,084 106,895 31 Dec 10
Deferred 2006 annual incentive awardnote 1 2007 74, 088 2,200 76,2881,7 31 Dec 09
Notes 1 Under the annual bonus plans, the element of bonus for performance above specified levels are made in the form of a share award deferred for three years. The value of the 2007 deferred share award is included in the total 2007 figure in the Directors’ remuneration table on page 117. 2 Under the terms agreed on his leaving the company, the outstanding deferred awards to Philip Broadley have been released to him. 3 In 2008, a deferred share award from his 2007 annual bonus valued at $200,000 was made to Clark Manning. This is included in the 2007 total in the
Directors’ remuneration table on page 117. 7 In 2008, a deferred share award from his 2007 annual bonus valued at £453,600 was made to Mark Tucker. This is included in the 2007 total in the
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, which 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.
• to compensate for the loss of 2007 bonus an award of 49,131 shares with a value of £325,000 vesting on 31 March 2011; and • In order to compensate for the loss of outstanding deferred share awards under annual incentive plans and long-term awards with his previous employer he was granted restricted share awards, in lieu of his 2006 and 2007 awards, without performance measures which will vest in March
Outstanding share options Options outstanding under the Savings-Related Share Option (SAYE) Scheme are set out below. The SAYE is open to all UK and certain overseas employees. Options under this scheme up to HM Revenue and Customs (HMRC) limits are granted at a 20 per cent discount and cannot normally be exercised until a minimum of three years has elapsed. No payment has been made for the grant of any options. The price to be paid for exercise of these options is shown in the table below. No variations to any outstanding options have been made.
Notes 1 Gains of £15,420 were made by directors in 2008 on the exercise of share options. (2007: £11,339). 2 No price was paid for the award of any option. 3 The highest and lowest share prices during 2008 were 726 pence and 245 pence respectively.
Directors’ pensions and life assurance The pensions policy is set out on page 112. Prudential’s current practice in respect of pension arrangements for the current executive directors is set out below.
Philip Broadley was entitled to supplements based on the portion of his basic salary not covered for pension benefits under a HMRC approved scheme. He was also provided with life assurance cover of four times salary.
Mark Tucker is paid a salary supplement of 25 per cent of his salary. He is also provided with life assurance cover of four times salary. He is not a member of a company pension plan.
Clark Manning participates in a US tax-qualified defined contribution plan (a 401K plan). He is also provided with life assurance cover of two times salary.
Where supplements for pension purposes are paid in cash, the amounts are included in the Directors’ remuneration table on page 117.
Details of directors’ pension entitlements under HMRC approved defined benefit schemes and supplements that are in the form of contributions to pension arrangements paid by the Company are set out in the following table: Additional pension Transfer value of accrued earned during year benefit at 31 Dec ended 31 Dec 2008 note 3
Nick Prettejohn 48 – 78 Barry Stowe 51 – 4 Tidjane Thiam 46 96 Mark Tucker 51 – 14 *Philip Broadley left on 31 May 2008 and all transfer information provided is for that date.
Total contributions to directors’ pension arrangements including cash supplements for pension purposes were £1,027,267 (2007: £1,163,687) of which £268,668 (2007: £166,557) related to money purchase schemes.
The following tables and referenced disclosure notes show the results reported in the statutory financial statements on pages 131 to 315 and supplementary EEV basis results on pages 318 to 356. This page does not form part of the statutory financial statements.
Basic (loss) earnings per share IFRS income statement 131 (16.0)p 38.7p Dividends per share declared and paid in reporting period IFRS note B3 162 18.29p 17.42p Shareholders’ equity, excluding minority interests IFRS balance sheet 135 £5,058m £6,062m
Operating profit from continuing operations based on longer-term investment returns 157 £1,347m £1,201m
Short-term fluctuations in investment returns IFRS note B1 157 £(1,783)m £(137)m Shareholders’ share of actuarial and other gains and losses on defined benefit pension schemes 157 £(14)m £(1)m
(Loss) profit from continuing operations before tax attributable IFRS income statement to shareholders (including actual investment returns) IFRS note B1 131, 157 £(450)m £1,063m
Operating earnings per share from continuing operations after related tax and minority interests IFRS note B2 161 42.5p 33.3p
Short-term fluctuations in investment returns 319 £(5,127)m £174m Mark to market value movements on core borrowings EEV income 319 £656m £223m Shareholders’ share of actuarial and other gains and losses on statement defined benefit pension schemes 319 £(15)m £(5)m Effect of changes in economic assumptions and time value of cost of options and guarantees 319 £(581)m £748m
Operating earnings per share from continuing operations after related tax and minority interests EEV note 14 343 88.6p 74.5p
Section B: Summary of results 157 B1: Supplementary analysis of profit from continuing operations before tax attributable to shareholders 161 B2: Earnings per share 162 B3: Dividends 163 B4: Exchange translation 163 B5: New business 166 B6: Group balance sheet
Section D: Life assurance businesses 181 D1: Group overview 189 D2: UK insurance operations 205 D3: US insurance operations 222 D4: Asian insurance operations 231 D5: Capital position statement for life assurance businesses
Embedded Value (EEV) basis supplementary information 358 Independent auditor’s report to Prudential plc on the European
Benefits and claims and movements in unallocated surplus of with-profits funds, net of reinsurance 10,824 (26,785)
Acquisition costs and other operating expenditure F3 (2,459) (4,859) Finance costs: interest on core structural borrowings of shareholder-financed operations F4 (172) (168)
Attributable to: Equity holders of the Company (396) 947 Minority interests 5 3
Consolidated statement of changes in equity Year ended 31 December 2008 2008 £m
Reserves Loss for the year (396) (396) 5 (391) Items recognised directly in equity: Unrealised valuation movements on securities of US insurance operations classified as available-for-sale: D3(a) Unrealised holding losses arising during the year (3,197) (3,197) (3,197) Less net losses included in the income statement on disposal and impairment 487 487 487
Share capital and share premium New share capital subscribed H11 2 168 170 170 Transfer to retained earnings in respect of shares issued in lieu of cash dividends H11 (156) 156
Unrealised valuation movements on securities of US insurance operations classified as available-for-sale: D3(a) Unrealised holding losses arising during the year (231) (231) (231) Less net gains included in the income statement on disposal and impairment (13) (13) (13)
Related change in amortisation of deferred income and acquisition costs H1 88 88 88
Net increase (decrease) in equity 1 6 725 13 (105) (2) 638 (30) 608 At beginning of year: Effect of adoption of principles of
IFRIC 14 for accounting for pension schemes I1 (64) (64) (64)
Investments of long-term business and other operations: Investment properties H7 11,992 13,688 Investments accounted for using the equity method H8 10 12 Financial investments: G1
Equity securities and portfolio holdings in unit trusts 62,122 86,157 Debt securities 95,224 83,984 Other investments 6,301 4,396
Other borrowings: Operational borrowings attributable to shareholder-financed operations G1,H13 1,977 3,081 Borrowings attributable to with-profits funds G1,H13 1,308 987
Cash flows from operating activities (Loss) profit before tax from continuing operations (being tax attributable to shareholders’ and policyholders’ returns)† (2,074) 1,058 Profit before tax from discontinued operations I9 – 222
Prudential offers a wide range of retail financial products and services and asset management services throughout these territories. The retail financial products and services principally include life insurance, pensions and annuities as well as collective investment services.
Prudential plc is a public limited company incorporated and registered in England and Wales. The registered office is: Laurence Pountney Hill London EC4R 0HH Registered number: 1397169
As part of its response to the global financial crisis, in 2008, the International Accounting Standards Board (IASB) has issued amendments to IAS 39, ‘Financial Instruments: Recognition and Measurement’ and IFRS 7, ‘Financial Instruments: Disclosures’. ’Reclassification of Financial Assets: Amendments to IAS 39 Financial Instruments: Recognition and Measurement and IFRS 7 Financial Instruments: Disclosures’ was issued in October 2008 permitting the reclassification of non-derivative financial assets into the ‘loans and receivables’ category under which assets are carried at amortised cost if specific conditions are met. The Group has not made any such reclassification of financial assets as permitted by the amendments.
The Group has applied all IFRS standards and interpretations adopted by the EU and effective at 31 December 2008. In addition, the Group has early adopted IFRIC 14 ‘The Limit on a Defined Benefit Asset, Minimum Funding Requirement and their Interaction’. Further details on the impact of the adoption of this interpretation are provided in notes A5 and I1.
Critical accounting policies are defined as those that are reflective of significant judgements and uncertainties, and potentially give rise to different results under different assumptions and conditions. Prudential believes that its critical accounting policies are limited to those described below.
Notes on the Group financial statements A: Background and accounting policies
The critical accounting policies in respect of the items discussed below are critical for the Group’s results insofar as they relate to the Group’s shareholder-financed business. In particular this applies for Jackson which is the largest shareholder-backed business in the Group. The policies are not critical in respect of the Group’s with-profits business. Accordingly, explanation is provided in this note and cross-referenced notes as to why the distinction between with-profits business and shareholder-backed business is relevant.
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.
Insurance contract accounting With the exception of certain contracts described in note D1, the Group’s life assurance contracts are classified as insurance contracts and investment contracts with discretionary participating features. As permitted by IFRS 4, assets and liabilities of these contracts (see below) are accounted for under previously applied GAAP. Accordingly, except as described below, the modified statutory basis (MSB) of reporting as set out in the revised Statement of Recommended Practice (SORP) issued by the Association of British Insurers (ABI) in November 2003 has been applied.
In 2005 the Group chose to improve its IFRS accounting for UK regulated with-profits funds by the voluntary application of the UK accounting standard FRS 27, ‘Life Assurance’. Under this standard, the main accounting changes that were required for UK with-profits funds were: • Derecognition of deferred acquisition costs and related deferred tax; and • replacement of MSB liabilities with adjusted realistic basis liabilities.
The results shown for 2008 and 2007 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.
The usage of these bases of accounting has varying effects on the way in which product options and guarantees are measured. For UK regulated with-profits funds, for the 2008 and 2007 results, options and guarantees are valued on a market consistent basis. The basis is described in note D2(g)(ii). For other operations a market consistent basis is not applied under the accounting basis described in note A4. Details of the guarantees, basis of setting assumptions, and sensitivity to altered assumptions are described in notes D3 and D4.
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: • 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; Notes on the Group financial statements A: Background and accounting policies continued
• 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) to
Jackson’s derivative book; • the complexity of asset and liability matching of US life insurers such as those with Jackson’s product range; and finally • whether it is possible or desirable, without an unacceptable level of costs and constraint on commercial activity, to achieve the accounting hedge effectiveness required under IAS 39.
Under IAS 39, unless carried at amortised cost (subject to impairment provisions where appropriate) under the held-tomaturity category, debt securities are also carried at fair value. The Group has chosen not to classify any financial assets as held-tomaturity. Debt securities of Jackson are designated as available-for-sale with value movements, unless impaired, being recorded as movements within shareholders’ equity. Impairments are recorded in the income statement.
Determining impairments relating to financial assets Available-for-sale securities Financial investments carried on an available-for-sale basis are represented by Jackson’s debt securities portfolio. The consideration of evidence of impairment requires management’s judgement. In making this determination the factors considered include, for example, whether the decline is substantial, the ability and intent to retain the investment long enough to allow for an estimated full recovery in value, the duration and extent to which the amortised cost exceeds fair value, the financial condition and prospects of the issuer, or any other objectively observable conditions that indicate that the investment may be impaired.
The risks inherent in reviewing the impairment of any investment include the risk that market results may differ from expectations; facts and circumstances may change in the future and differ from estimates and assumptions; or the Group may later decide to sell the asset as a result of changed circumstances.
A detailed explanation of the basis of liability measurement is contained in note D2(g)(ii). The Group’s other with-profits contracts are written in with-profits funds that operate in some of the Group’s Asian operations. The liabilities for these contracts and those of Prudential Annuities Limited, which is a subsidiary company of the PAC with-profits funds, are determined differently. For these contracts the liabilities are estimated using actuarial methods based on assumptions relating to premiums, interest rates, investment returns, expenses, mortality and surrenders. The assumptions to which the estimation of these reserves is particularly sensitive are the interest rate used to discount the provision and the assumed future mortality experience of policyholders.
ii Other contracts Contracts, other than those of with-profits funds, are written in shareholder-backed operations of the Group. The significant shareholder-backed product groupings and the factors that may significantly affect IFRS results due to experience against assumptions or changes of assumptions vary significantly between business units. For some types of business the effect of changes in assumptions may be significant, whilst for others, due to the nature of the product, assumption setting may be of less significance. The nature of the products and the significance of assumptions are discussed in notes D2, D3 and D4. From the perspective of shareholder results the key sensitivities relate to assumptions for allowance for credit risk for UK annuity business and assumed future investment returns for the Taiwan life operation.
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 2008 and 2007 was 8.4 per cent per annum (net of fund management fees) determined using a mean reversion methodology. This rate reflects a long-term assumption applied from year to year that is appropriate in the context of ‘grandfathered’ US GAAP under IFRS 4 for accounting for Jackson’s insurance assets and liabilities. Under the mean reversion methodology, projected returns over the next five years are flexed (subject to capping) so that, combined with the actual rates of return for the current and the previous two years the 8.4 per cent rate is maintained. The projected rates of return are capped at no more than 15 per cent for each of the next five years. Further details are explained in note D3(i).
Asian operations The insurance products written in the Group’s Asian operations principally cover with-profits business, unit-linked business, and other non-participating business. The results of with-profits business are relatively insensitive to changes in estimates and assumptions that affect the measurement of policyholder liabilities. As for the UK business, this feature arises because unallocated surplus is accounted for by the Group as a liability. The results of Asian unit-linked business are also relatively insensitive to changes in estimates or assumptions.
The liability adequacy test results are sensitive to the attainment of the trended rates during the trending period and the level of the projected long-term rate.
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.
The carrying value of the deferred acquisition costs of the Taiwan operation are potentially sensitive to changes in current assumed future interest rates as described above.
The economic participation in the surplus or deficits attaching to the main Prudential Staff Pension Scheme (PSPS) and the smaller Scottish Amicable Pensions Scheme (SAPS) are shared between the PAC with-profits sub-fund (WPSF) and shareholder operations. The economic interest reflects the source of contributions over the scheme life, which in turn reflects the activity of the members during their employment.
iii Loans and receivables – this comprises investments that have fixed or determinable payments and are not designated as fair value through profit and loss or available-for-sale. These investments include loans collateralised by mortgages, deposits, loans to policyholders and other unsecured loans and receivables. These investments are carried at amortised cost using the effective interest method.
The Group has designated certain financial assets as fair value through profit and loss as these assets are managed and their performance is evaluated on a fair value basis. These assets represent all of the Group’s financial assets except all loans and receivables and debt securities held by Jackson. Debt securities held by Jackson are accounted for on an available-for-sale basis. The use of the fair value option is consistent with the Group’s risk management and investment strategies.
Use of fair values The Group uses current bid prices to value its quoted investments. Actively traded investments without quoted prices are valued using external broker bid prices. If there is no active established market for an investment, the Group applies an appropriate valuation technique such as a discounted cash flow technique. Additional details are provided in note G1.
The Group may designate certain derivatives as hedges. This includes fair value hedges, cash flow hedges and hedges of net investments in foreign operations. If the criteria for hedge accounting are met then the following accounting treatments are applied from the date at which the designation is made and the accompanying requisite documentation is in place: i Hedges of net investments in foreign operations – the effective portion of any change in fair value of derivatives or other financial instruments designated as net investment hedges are recognised in equity. The ineffective portion of changes in the fair value of the hedging instrument is recorded in the income statement. The gain or loss on the hedging instrument recognised directly in equity is recognised in the income statement on disposal of the foreign operation.
iii Cash flow hedges – the effective portion of changes in the fair value of derivatives designated as cash flow hedges is recognised in equity. Movements in fair value relating to the ineffective portion are booked in the income statement. Amounts recognised directly in equity are recorded in the income statement in the periods in which the hedged item affects profit or loss.
For the Group’s continuing operations, hedge accounting under IAS 39 is not usually applied. The exceptions, where hedge accounting has been applied in 2008 and 2007, are summarised in note G3.
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.
Where the transfer does not result in the Group transferring the right to receive the cash flows of the financial assets, but does result in the Group assuming a corresponding obligation to pay the cash flows to another recipient, the financial assets are also accordingly derecognised providing all of the following conditions are met: • The Group has no obligation to pay amounts to the eventual recipients unless it collects the equivalent amounts from the original asset; • the Group is prohibited by the terms of the transfer contract from selling or pledging the original asset; and • the Group has an obligation to remit any cash flows it collects on behalf of the eventual recipients without material delay.
Under IFRS, investment contracts (excluding those with discretionary participation features) are required to be accounted for as financial liabilities in accordance with IAS 39 and, where relevant, the provisions of IAS 18 in respect of the attaching
UK regulated with-profits funds Prudential’s long-term business written in the UK comprises predominantly life insurance policies under which the policyholders are entitled to participate in the returns of the funds supporting these policies. Business similar to this type is also written in certain of the Group’s Asian operations subject to local market and regulatory conditions. Such policies are called with-profits policies. Prudential maintains with-profits funds within the Group’s long-term business funds, which segregate the assets and liabilities and accumulate the returns related to that with-profits business. The amounts accumulated in these with-profits funds are available to provide for future policyholder benefit provisions and for bonuses to be distributed to with-profits policyholders. The bonuses, both annual and final, reflect the right of the with-profits policyholders to participate in the financial performance of the with-profits funds. Shareholders’ profits with respect to bonuses declared on with-profits business correspond to the shareholders’ share of the cost of bonuses as declared by the board of directors. The shareholders’ share currently represents one-ninth of the cost of bonuses declared for with-profits policies.
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.
The cost of guarantees, options and smoothing is very sensitive to the bonus, market value reduction (MVR) and investment policies the Group employs and therefore the stochastic modelling incorporates a range of management actions that would help to protect the fund in adverse scenarios. Substantial flexibility has been included in the modelled management actions in order to reflect the discretion that the Group retains in adverse investment conditions, thereby avoiding the creation of unreasonable minimum capital requirements. The management actions assumed are consistent with management’s policy for with-profits funds and the disclosures made in the publicly available Principles and Practices of Financial Management.
Those investment contracts without fixed and guaranteed terms are designated at fair value through profit and loss. Fair value is based upon the fair value of the underlying assets of the fund. Where the contract includes a surrender option its carrying value is subject to a minimum carrying value equal to its surrender value.
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.
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. Fair value is based on active market prices, adjusted, if necessary, for any difference in the nature, location or condition of the specific property. If this information is not available, the Group uses alternative valuation methods such as discounted cash flow projections or recent prices in less active markets.
Business acquisitions and disposals Business acquisitions are accounted for by applying the purchase method of accounting, which adjusts the net assets of the acquired company to fair value at the date of purchase. The excess of the costs of acquisition over the fair value of the assets and liabilities of the acquired entity is recorded as goodwill. Should the fair value of the identifiable assets and liabilities of the entity exceed the cost of acquisition then this amount is recognised immediately in the income statement. Income and expenses of acquired entities are included in the income statement from the date of acquisition. Revenues and expenses of entities sold during the period are included in the income statement up to the date of disposal. The gain or loss on disposal is calculated as the difference between sale proceeds, net of selling costs, less the net assets of the entity at the date of disposal.
Goodwill Goodwill arising on acquisitions of subsidiaries and businesses is capitalised and carried on the Group balance sheet as an intangible asset at initial value less any accumulated impairment losses. Goodwill impairment testing is conducted annually and when there is an indication of impairment. For the purposes of impairment testing, goodwill is allocated to cash generating units. These cash generating units reflect the smallest group of assets that includes the goodwill and generates cash flows that are largely independent of the cash inflows from other groups of assets. If the carrying amount of the cash generating unit exceeds its recoverable amount then the goodwill is considered impaired. Impairment losses are recognised immediately in the income statement and may not be reversed in future periods.
Acquired intangible assets Intangible assets acquired on the purchase of a subsidiary or portfolio of contracts are valued at acquisition and carried at cost less amortisation and any accumulated impairment losses. Amortisation calculated is charged on a straight-line basis over the estimated useful life of the assets. The residual values and useful lives are reviewed at each balance sheet date.
Shareholders’ dividends Dividends to shareholders are recognised as a liability in the period in which they are declared. Where scrip dividends are issued, the value of such shares, measured as the amount of the cash dividend alternative, is credited to reserves and the amount in excess of the nominal value of the shares issued is transferred from the share premium account to retained earnings.
i Debt and equity securities Longer-term investment returns comprise income and longer-term capital returns. For debt securities the longer-term capital returns comprise two elements. These are a risk margin reserve (RMR) based charge for expected defaults, which is determined by reference to the credit quality of the portfolio, and amortisation of interest-related realised gains and losses to operating results based on longer-term investment returns to the date when sold bonds would have otherwise matured. The shareholder-backed operation for which the risk margin reserve charge is most significant is Jackson National Life. The RMR charge for Jackson is based on long-term average default and recovery data as published by Moody’s. Note B1 provides further detail.
Other derivative value movements are excluded from operating results based on longer-term investment returns. These derivatives are primarily held by Jackson as part of a broadly-based hedging programme for features of Jackson’s bond portfolio (for which value movements are booked directly to shareholders’ equity rather than income statement) and product liabilities (for which US GAAP accounting does not reflect the economic features being hedged).
• Assets covering non-participating business liabilities that are interest rate sensitive.
For UK annuity business policyholder liabilities are determined by reference to current interest rates. The value movements of the assets covering liabilities are closely correlated with the related change in liabilities. Accordingly, asset value movements are recorded within the operating results based on longer-term investment returns. Policyholder liabilities include a margin for asset defaults which, if they occur, are recorded as a component of short-term fluctuations in investment returns.
However, some types of business movements in liabilities do require bifurcation to ensure that at the net level (i.e. after allocated investment returns and change for policyholder benefits) the operating result reflects longer-term market returns.
A4: Significant accounting policies continued based on longer-term investment returns includes the aggregate of longer-term returns on the relevant investments, a credit or charge equal to movements on the liability for the policyholders’ interest in realised investment gains (net of any recovery of prior deficits on the participating pool), less amortisation over five years of current and prior movements on such credits or charges.
c UK shareholder-backed annuity business With one exception, the operating result based on longer-term investment returns reflects the impact of all value movements on policyholder liabilities for annuity business in PRIL and the PAC non-profit sub-fund.
The following standards, interpretations and amendments have either been effective and adopted in 2008 or have been issued but are not yet effective in 2008, including those which have not yet been adopted in the EU. This is not intended to be a complete list as only those standards, interpretations and amendments that are anticipated to have an impact upon the Group’s financial statements have been discussed.
The Group early adopted IFRIC 14 for its accounting period ended 31 December 2008. As a result of the adoption of this interpretation, in respect of the position at 31 December 2008, the Group has not recognised the underlying PSPS pension surplus, reflecting the difference between the market value of the scheme assets and the discounted value of the liabilities, which would have otherwise been recognised as an asset on its balance sheet under the previous policy. In addition, the Group has recognised a liability for deficit funding to 5 April 2010 in respect of PSPS.
Further details on the impact of adoption are provided in note I1. The 2007 comparatives have been adjusted accordingly for the adoption of IFRIC 14.
Reclassification of Financial Assets: Amendments to IAS 39, ‘Financial Instruments: Recognition and Measurement’ and IFRS 7, ‘Financial Instruments: Disclosures’ In October 2008, the IASB issued these amendments to IAS 39 and IFRS 7. The amendments to IAS 39 permit the reclassification of certain ‘held for trading’ (at fair value through profit and loss but not those voluntarily designated as at fair value through profit and loss under the fair value option) and ‘available-for-sale’ financial assets into the ‘loans and receivables’ category carried at amortised cost if specific conditions are met as follows: • ‘Held for trading’ financial assets are permitted to be reclassified into the ‘loans and receivables’ category in only rare circumstances or where the ‘held for trading’ financial assets would have met the definition of ‘loans and receivables’ if they had not been required to be classified as ‘held for trading’ at initial recognition and the entity has the intent and ability to hold it for the foreseeable future or until maturity; • ‘Available-for-sale’ financial assets are permitted to be reclassified into the ‘loans and receivables’ category if they would have met the definition of ‘loans and receivables’ if they had not been designated as ‘available-for-sale’ and the entity has the intent and ability to hold the asset for the foreseeable future or until maturity; and
The adoption of these amendments did not have an impact on the financial statements of the Group as the Group has not reclassified any non-derivative financial assets as permitted by the amendments.