Risk management Annually, business units must assess and certify their compliance with the Group Risk Framework and risk policies as part of the annual Group Governance Manual certification. The annual certification process for risk policies is facilitated by Group Risk and subject to oversight by the Risk Committee. In 2017, the Group Risk Framework and risk policies were subject to their annual review, with changes being approved by the Risk Committee.
The Committee considered the Group‑wide approach for compliance with GDPR regulations and received updates through the year on progress on implementation activity.
The Committee also agreed the characteristics of an effective risk function and conducted its second annual review of risk effectiveness in May.
The Group Chief Risk Officer’s reports also provided the Committee with regulatory updates, particularly regarding Solvency II and the Group’s Internal Model; the implications of the developing global capital standards; and developments and the deliverables required as a result of the Group’s designation as a Global Systemically Important Insurer (see further, opposite).
The Committee considered the Own Risk and Solvency Assessment report based on the outcomes of the Group’s Business Plan and the FY16 risk and solvency positions prior to its approval by the Board. The report was also considered in light of the results of the Group’s regular stress testing.
The Committee considered a plan enabling it to meet its Remuneration responsibilities and received updates on Remuneration‑related matters.
Compliance reporting The Committee received regular reporting on key compliance risks and mitigation activity, including assessments and reporting on anti‑bribery and corruption customer commitments.
The Committee also reviewed and approved a number of regulatory compliance risk‑related policies.
Financial reporting The Directors have a duty to report to shareholders on the performance and financial position of the Group and are responsible for preparing the financial statements on pages 160 to 314 and the supplementary information on pages 326 to 359. It is the responsibility of the auditor to form independent opinions, based on its audit of the financial statements and its audit of the EEV basis supplementary information, and to report its opinions to the Company’s shareholders and to the Company. Its opinions are given on pages 315 to 323 and page 360.
Securities dealing and inside information Prudential has adopted securities dealing rules relating to transactions by Directors on terms no less exacting than required by Appendix 10 to the HK Listing Rules and by relevant UK regulations. The Directors have complied with these rules throughout the period.
Requirements of Listing Rule 9.8.4 Information to be included in the annual report and accounts under Listing Rule 9.8.4 may be found as follows: Listing Rule Description Page 9.8.4 (4) Details of long‑term incentive schemes required by Listing Rule 9.4.3 9.8.4 (10) Contracts of Significance involving a Director
www.prudential.co.uk Annual Report 2017 Prudential plc 121 01 G roup overview 02 Strategic report 03 G
US regulation and legislation As a result of its listing on the New York Stock Exchange, the Company is required to comply with the relevant provisions of the Sarbanes‑Oxley Act 2002 as they apply to foreign private issuers and has adopted procedures to ensure such compliance. In particular, in relation to Section 302 of the Sarbanes‑Oxley Act 2002 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 head office management. The work of the Disclosure Committee supports the Group Chief Executive and Chief Financial Officer in making the certifications regarding the effectiveness of the Group’s disclosure procedures.
Customers The five largest customers of the Group constituted in aggregate less than 30 per cent of its total revenue from sales for each of 2017 and 2016.
Directors in office during the year Board of Directors 83 to 87
Shareholder information and Note C10 of the Notes on the Group financial statements
Changes in borrowings Strategic report and Note C6 of the Notes on the Group financial statements
In addition, the risk factors set out on pages 391 to 397 and the additional unaudited financial information set out on pages 362 to 390, are incorporated by reference into the Directors’ report.
Alan F Porter Group General Counsel and Company Secretary 14 March 2018
Dear Shareholder, I am pleased to present the Remuneration Committee’s report for the year to 31 December 2017.
The Committee’s report is presented in the following sections: 1 An ‘at a glance’ summary of the Group’s remuneration arrangements on pages 126 and 127; 2 A summary of our Directors’ remuneration policy on pages 128 to 131 which describes how we pay Directors. This policy was approved by shareholders at the 2017 AGM; 3 Our Annual report on remuneration on pages 132 to 153 which describes how the Committee applied the Directors’ remuneration policy in 2017 and the decisions it has made in respect of 2018; and 4 Supplementary information on pages 154 to 157.
During late 2017 and early 2018, I corresponded with and met the majority of our major shareholders, as well as organisations that represent and advise shareholders. On behalf of the Committee, I would like to thank shareholders for their engagement.
Based on this level of total shareholder return (TSR) and strong cumulative IFRS operating profit performance over the performance period 2015 to 2017, the Committee determined that between 89.3 and 95.8 per cent of the Prudential Long Term Incentive Plan (PLTIP) awards made to Executive Directors in 2015 would vest (depending on the business unit).
The Committee continues to ensure that payments and releases reflect the performance of the business, and remains mindful of its scope to use discretion if it is not satisfied that underlying financial performance justifies the payments arithmetically suggested by the achievement of the performance conditions.
The Group Chief Executive’s total remuneration The total 2017 remuneration or ‘single figure’ for the Group Chief Executive, Mike Wells, is 18 per cent higher than the total 2016 ‘single figure’. This chiefly reflects that a greater proportion of 2015 PLTIP awards vested than of 2014 awards, based on the Company’s sustained performance and share price growth achieved over the period 1 January 2015 to 31 December 2017. 2015 was also the first year in which Mike received a PLTIP award in his capacity as Group Chief Executive. This remuneration outcome reflects Mike’s exceptional leadership and personal performance.
Changes to the executive team As you will be aware, there have been three changes to Prudential’s team of Executive Directors during 2017; Nic Nicandrou was appointed Chief Executive of Prudential Corporation Asia in July 2017 after Tony Wilkey stepped down from the Board; Mark FitzPatrick replaced Nic Nicandrou as Chief Financial Officer in July 2017 and Penny James stepped down from the Board as Group Chief Risk Officer on 30 September 2017. The Committee applied the Directors’ recruitment policy and loss of office policy when determining joining and separation remuneration arrangements for these executives. The remuneration decisions arising from these changes were disclosed in stock exchange and website announcements when they took place. Further information can be found in the Recruitment arrangements and Payments to past Directors sections of this report.
www.prudential.co.uk Annual Report 2017 Prudential plc 125 01 G roup overview 02 Strategic report 03 G
The Committee has enhanced the Annual Incentive Plan (AIP) reporting this year, a development that I trust you find welcome. The details of the targets, ranges and results achieved for the Group financial performance measures for the 2016 and 2017 AIP bonuses are included in this Directors’ remuneration report, thereby removing the one‑year reporting lag previously adopted.
In response to shareholder feedback, the Committee has decided that the sustainability scorecard element of the PLTIP awards from 2018 onwards will be assessed on a sliding scale rather than on a meet or fail basis.
Above target, approaching stretch target level IFRS operating profit accounted for 35 per cent of Group financial bonus targets
Notes 1 As previously reported and excluding the contribution from the Korea life business for all years. 2 As previously reported and excluding the contribution from the Korea life business and UK bulk annuity new business profits for all years. 3 As reported.
Key elements1,2 How we implemented the policyKey features of the policy
Awards in 2017 were below the plan limits: — Group Chief Executive: 400% of salary — CEO, NABU: 460% of salary — CEO, M&G: 450% of salary — Other PLTIP awards were 250% of salary
Aligned with long-term business strategy and delivery of shareholder value, with vesting subject to: — Relative TSR; — Group or business unit IFRS operating profit; and — Balanced scorecard measures.
Measured over three financial years from year of award with a two-year post-performance holding period
www.prudential.co.uk Annual Report 2017 Prudential plc 127 01 G roup overview 02 Strategic report 03 G
What performance means for Executive Directors’ pay At Prudential, remuneration packages are designed to ensure a strong alignment between pay and performance. As you can see from the charts on page 125, sustained growth across all of our key performance metrics has delivered substantial value to our shareholders. This has been reflected in both the annual bonuses paid and the release of long‑term incentive awards, as set out in the Annual report on remuneration.
Fixed pay Performance related 2017 single figure 2016 single figure 2017 salary
Notes 1 Mark FitzPatrick was appointed to the Board on 17 July 2017 as Chief Financial Officer. The remuneration above was paid in respect of his service as an Executive Director. 2 Nic Nicandrou was appointed Chief Executive, Prudential Corporation Asia on 17 July 2017. The remuneration above was paid in respect of his service as Chief Financial Officer and
Aligning 2018 pay to performance The Remuneration Committee awarded salary increases to the Executive Directors for 2018 of 2 per cent, which was below the salary increase budget for the wider workforce. No other changes have been made as we believe remuneration packages remain strongly aligned with performance over both the short and the long term.
The resultant remuneration packages for 2018 are set out in detail in the Annual report on remuneration and summarised below: Executive Director Role salary
The pages that follow present a summary of the current Directors’ remuneration policy. The complete policy can be found on our website at www.prudential.co.uk/investors/governance‑and‑policies/directors‑remuneration‑policy
In addition, the Chief Executive, Prudential Corporation Asia receives statutory contributions into the Mandatory Provident Fund.
Business unit chief executives either have measures of their business unit’s financial performance in the AIP or they may participate in a business unit specific bonus plan. For example, the Chairman and CEO, NABU currently participates in the Jackson Senior Management Bonus Pool as well as in the AIP.
In specific circumstances, the Committee also has the power to recover all (or part of) bonuses for a period after they are awarded to executives. These clawback powers apply to the cash and deferred elements of bonuses made in respect of performance in 2015 and subsequent years.
Currently all Executive Directors participate in the Prudential Long Term Incentive Plan (PLTIP). The PLTIP has a three‑year performance period. Vesting of outstanding awards is dependent on: — Relative total shareholder return; and
The performance measures attached to each award are dependent on the role of the executive and will be disclosed in the relevant Annual report on remuneration. The Committee has the authority to apply a malus adjustment to all, or a portion of, an outstanding award in specific circumstances. For 2015 and subsequent years, the Committee also has the power to recover all, or a portion of, amounts already paid in specific circumstances and within a defined timeframe (clawback).
From 2017, PLTIP awards are usually subject to an additional two‑year holding period following the end of the three‑year performance period.
The value of shares awarded under the PLTIP (in any given financial year) may not exceed 550 per cent of the executive’s annual basic salary.
Awards made in a particular year are usually significantly below this limit and are disclosed in the relevant Annual report on remuneration. The Committee would consult with major shareholders before increasing award levels during the life of this policy.
The guidelines for share ownership are as follows: — 400 per cent of salary for the Group Chief Executive; and
Scenarios of total remuneration The chart below provides an illustration of the future total remuneration for each Executive Director in respect of their remuneration opportunity for 2018. Three scenarios of potential outcome are provided based on underlying assumptions shown in the notes to the chart.
The Committee is satisfied that the maximum potential remuneration of the Executive Directors is appropriate. Prudential’s policy is to offer Executive Directors remuneration which reflects the performance and experience of the executive, internal relativities and Group and/or business unit financial performance. In order for the maximum total remuneration to be payable: — Financial performance must exceed the Group and/or business unit’s stretching business plan; — Relative TSR must be at or above the upper quartile relative to the peer group; — The sustainability scorecard, aligned to the Group’s strategic priorities, must be fully satisfied; — Functional and personal performance objectives must be fully met; and
— Performance must be achieved within the Group’s and business units’ risk framework and appetites.
Nic Nicandrou and Barry Stowe are paid in HK$ and US$ respectively and figures have been converted to GBP for the purposes of this chart.
Jackson bonus pool at the average of the last three years.
www.prudential.co.uk Annual Report 2017 Prudential plc 131 01 G roup overview 02 Strategic report 03 G
All Non‑executive Directors receive a basic fee for their duties as a Board member. Additional fees are paid for added responsibilities such as chairmanship and membership of committees or acting as the Senior Independent Director. Fees are paid to Non‑executive Directors in cash. Fees are reviewed annually by the Board with any changes effective from 1 July.
It is expected that Non‑executive Directors will hold shares with a value equivalent to one times the annual basic fee (excluding additional fees for chairmanship and membership of any committees).
Prudential does not consult with employees when setting the Directors’ remuneration policy. Prudential is a global organisation with employees and agents in multiple business units and geographies. As such, there are practical challenges associated with consulting with employees directly on this matter. As many employees are also shareholders, they are able to participate in binding votes on the Directors’ remuneration policy and annual votes on the Annual report on remuneration.
Shareholder views The Remuneration Committee and the Company undertake regular consultation with key institutional investors on the remuneration policy and its implementation. This engagement is led by the Remuneration Committee Chair and is an integral part of the Company’s investor relations programme. The Committee is grateful to shareholders for their feedback and takes this into account when determining executive remuneration.
An annual review of the Committee’s effectiveness was carried out as part of the Board evaluation, as described in more detail on page 94. The Committee was found to be functioning effectively.
www.prudential.co.uk Annual Report 2017 Prudential plc 133 01 G roup overview 02 Strategic report 03 G
In 2017, the Committee met six times. Key activities at each meeting are shown in the table below: Meeting Key activities
February 2017 Approve the 2016 Directors’ remuneration report; consider 2016 bonus awards for Executive Directors; consider vesting of the long‑term incentive awards with a performance period ending on 31 December 2016; approve 2017 long‑term incentive awards, performance measures and plan documentation; and note an update on regulation affecting remuneration.
March 2017 Confirm 2016 annual bonuses and the vesting of long‑term incentive awards with a performance period ending on 31 December 2016, in light of audited financial results.
June 2017 Consider performance for outstanding long‑term incentive awards, based on the half‑year results; review the remuneration of senior executives across the Group, employees with a remuneration opportunity over £1 million per annum and employees within the scope of the Solvency II remuneration rules; review progress towards share ownership guidelines by the Chairman, Executive Directors and other Group Executive Committee members; approve the Chairman’s fees; and note an update on regulation affecting remuneration.
December 2017 Review level of participation in the Company’s all‑employee share plans and dilution levels resulting from the Company’s share plans; approve Group Executive Committee members’ 2018 salaries and incentive opportunities in light of initial shareholder feedback; consider the annual bonus and long‑term incentive measures and targets to be used in 2018; review an initial draft of the 2017 Directors’ remuneration report; approve the Committee’s 2018 work plan; approve the fees for independent non‑executive directors of the material subsidiaries; and note an update on regulation affecting remuneration.
Schedule 8 of Statutory Instrument 2013 No. 1981 ‑ The Large and Medium‑sized Companies and Groups (Accounts and Reports) (Amendment) Regulations 2013.
Notes 1 Mark FitzPatrick was appointed to the Board on 17 July 2017.
2 Penny James stepped down from the Board on 30 September 2017. The remuneration above was paid in respect of her service as an Executive Director. 3 To facilitate Nic Nicandrou’s relocation to Hong Kong to take up his new role as Chief Executive, Prudential Corporation Asia, Nic’s benefits include relocation support being temporary accommodation of £126,000 and tax and immigration advice of £33,000.
NABU. This is included under 2017 pension benefits. 6 To facilitate his appointment as Group Chief Executive and move to the UK in 2015, Mike Wells’s benefits include £340,000 to cover mortgage interest and £37,000 to cover home leave flights. 7 Tony Wilkey stepped down from the Board on 17 July 2017. The remuneration above was paid in respect of his service as an Executive Director. His benefits include £148,000 for housing, £24,000 for home leave flights and a £235,000 Executive Director Location Allowance. Two of the LTIP releases relate to his previous role, prior to his service as an Executive Director.
8 Barry Stowe, Tony Wilkey and, following his appointment as Chief Executive, Prudential Corporation Asia, Nic Nicandrou are paid in their local currency and exchange rate fluctuations will therefore impact the reported sterling value.
* Benefits include (where provided) the cost of providing the use of a car and driver, medical insurance, security arrangements and relocation/expatriate benefits. † The deferred part of the bonus is subject to malus and clawback in accordance with the malus and clawback policies but no further conditions. ‡ In line with the regulations, the estimated value of PLTIP releases in 2016 has been recalculated based on the actual share/ADR price on the date awards are released, being £16.63/$41.58. § 2016 pension benefits include cash supplements for pension purposes and contributions into DC schemes. ¶ Each remuneration element is rounded to the nearest £1,000 and totals are the sum of these rounded figures. Total remuneration is calculated using the methodology prescribed by
3 Nic Nicandrou’s benefits relate primarily to relocation support under a legacy relocation clause in his contract, being £156,892 to cover taxes due on stamp duty paid in 2015. 4 Anne Richards was appointed to the Board on 7 June 2016. The remuneration above was paid in respect of her service as an Executive Director. In order to facilitate Anne’s appointment as Chief Executive, M&G, the Company agreed to replace the deferred bonus awards she forfeited on leaving Aberdeen Asset Management. The terms of the replacement award are designed to replicate those of the forfeited awards and the value is set out in the ‘Other payments’ column. In addition, to support Anne’s appointment as Chief Executive, M&G, the Company pays for accommodation in London and travel from Anne’s home in Edinburgh to London totalling £45,493 and the value is included in the ‘taxable benefits’ column.
6 To facilitate his move to the UK, Mike Wells’s benefits include relocation support including £330,680 to cover taxes due on stamp duty paid in 2015 and £339,624 to cover mortgage interest. In addition, an amount of £497,748 was paid by the Company to meet a payment on account for US tax on these benefits which, as the tax will be payable in the UK, under the UK and US double tax treaty this amount will ultimately be refunded. Mike’s benefits figure has been amended to include an additional £20,000 of home leave flights taken in 2016.
8 Barry Stowe and Tony Wilkey are paid in their local currency and exchange rate fluctuations will therefore impact the reported sterling value.
As reported last year, after careful consideration by the Committee, all Executive Directors, other than the Group Chief Risk Officer, received a salary increase of 2 per cent. The Group Chief Risk Officer received a salary increase of 5 per cent. The 2017 salary increase budgets for other employees across our business units were between 2.5 per cent and 6 per cent. No changes were made to Executive Directors’ maximum opportunities under either the annual incentive or the long‑term incentive plans.
To provide context for the market review, information was also drawn from the following market reference points: Executive Role Benchmark(s) used to assess remuneration
4 Nic Nicandrou was appointed Chief Executive, Prudential Corporation Asia on 17 July 2017. The annualised 2017 salary above was paid in respect of his service as Chief Executive,
www.prudential.co.uk Annual Report 2017 Prudential plc 137 01 G roup overview 02 Strategic report 03 G
Annual bonus 2017 annual bonus opportunities Executive Directors’ bonus opportunities, the weighting of performance measures for 2017 and the proportion of annual bonuses deferred are set out below: Executive Director
Mark FitzPatrick1 175% 40% of total bonus 80% – 20% John Foley 180% 40% of total bonus 20% 60% 20% Penny James2 160% 40% of total bonus – 100% (functional/personal) Nic Nicandrou3 180% 40% of total bonus 20% 60% 20% Anne Richards 600% 40% of total bonus 20% 60% 20% Barry Stowe4 160% 40% of total bonus 80% – 20% Mike Wells 200% 40% of total bonus 80% – 20% Tony Wilkey5 180% 40% of total bonus 20% 60% 20%
3 Nic Nicandrou was Chief Financial Officer until his appointment as Chief Executive, Prudential Corporation Asia on 17 July 2017. The maximum bonus opportunity and performance measures shown represents his annual opportunity in his current role – this was pro‑rated for the portion of the year he was in this role and he also received a pro‑rated AIP for the portion of the year he was Chief Financial Officer.
4 Barry Stowe also receives 10 per cent of the Jackson bonus pool. 5 Tony Wilkey stepped down from the Board on 17 July 2017. The maximum bonus opportunity shown represents his annual opportunity as an Executive Director. This was pro‑rated for the portion of the year for which he was an Executive Director.
In 2017, the AIP performance measures were simplified from seven to four measures and Executive Directors’ 2017 bonuses were determined by the achievement of IFRS operating profit, operating free surplus, NBP EEV profit and cash flow, which are aligned to the Group’s growth and cash generation focus. This reflected the Committee’s objective to simplify the AIP metrics.
As part of the continuing implementation of Solvency II, the weightings of the Group Chief Risk Officer’s AIP performance targets (with effect from 2017) were changed so that the entire AIP outcome relates to a combination of functional and personal measures.
Financial performance The Committee reviewed performance against the performance ranges at its meeting in March 2018. Of the bonus performance metrics, the maximum targets were all exceeded other than Group IFRS operating profit, Savings & Retirement Solutions cash flow and IFRS operating profit, and Prudential Corporation Asia operating free surplus generated and IFRS operating profit which were between plan and maximum and Group NBP EEV profit and Prudential Corporation Asia NBP EEV profit which were between threshold and plan.
The Group Remuneration Committee considered a report from the interim Group Chief Risk Officer which had been approved by the Group Risk Committee. This report confirmed that the 2017 results were achieved within the Group’s and business units’ risk framework and appetite. The interim Group Chief Risk Officer also considered the effectiveness of risk management and internal controls, and specific actions taken to mitigate risks, particularly where these may be at the expense of profits or sales. The interim Group Chief Risk Officer’s recommendations were taken into account by the Committee when determining AIP outcomes for Executive Directors.
The Board believe that, due to the commercial sensitivity of the business unit targets, disclosing further details of these targets may damage the competitive position of the Group.
Personal performance As set out in our Directors’ remuneration policy, a proportion of the annual bonus for each Executive Director is based on the achievement of personal objectives including: — The executive meeting their individual conduct and customer measures; — The executive’s contribution to Group strategy as a member of the Board; and
Group Head Office Objectives included developing relationships with stakeholders, enhancing external publications, continued development of executive bench strength and leveraging digital opportunities
— Won the Insurance category of Managements Today’s Britain’s Most Admired Companies’ award.
Objectives included leveraging digital opportunities, developing distribution channels, continued development of executive bench strength, developing Eastspring and growing the Group’s Africa footprint
— Entered Nigeria, our fifth African market, by acquiring a majority stake in Zenith Life and formed exclusive bancassurance partnerships with Zenith Bank plc.
— Through our subsidiary National Planning Holdings, sold our US independent broker‑dealer network in order to focus on our core business.
M&G Prudential Objectives included the merger and successful integration of the Prudential UK and M&G businesses, leveraging digital opportunities, developing our range of products and investment offerings, and continued development of executive bench strength
— Announced the merger of M&G and Prudential UK to offer customers and distributors wider and better choice and achieve cost savings; — Entered a 10‑year partnership with Tata Consultancy Services, a global leader in IT, business process and digital services, to enhance service for our UK savings and retirement customers; — Introduced myM&G, a new online direct‑to‑consumer investing platform, with lower fund charges; and
Mark FitzPatrick2 Chief Financial Officer £730,000 175% 94% £1,197,000 John Foley Chief Executive, M&G Prudential £765,000 180% 93% £1,283,000 Penny James3 Group Chief Risk Officer £637,000 160% 0% £nil Nic Nicandrou4 Chief Financial Officer/ £726,000/ 175%/
2017 Jackson bonus pool In 2017, the Jackson bonus pool was determined by Jackson National Life Insurance’s profitability, capital adequacy, remittances to Group, in‑force experience, ECap solvency ratio and credit rating. Across all these measures Jackson delivered strong performance, and more detail on that performance is set out on pages 24 to 27. As a result of this performance the Committee determined that Barry Stowe’s share of the bonus pool was US$5,199,580.
2016 AIP measure Weighting Threshold (£m) Plan (£m) Maximum (£m) Achievement
Update on performance against targets for awards made in 2016 and 2017 under the Prudential Long Term Incentive Plan As at 31 December 2017, Prudential’s TSR performance during the period 1 January 2016 and 31 December 2017 was ranked between median and upper quartile and during the period 1 January 2017 to 31 December 2017 was ranked in the upper quartile.
Between 1 January 2017 and 31 December 2017, the Group also made good progress towards meeting the measures which form part of the sustainability scorecard used for 2017 to 2019 PLTIP awards: — Capital measure As at 31 December 2017, the Group’s Solvency II operating capital generation was above the plan level.
— Diversity measure As at 31 December 2017, 25 per cent of our Leadership Team was female. This represented good progress towards the target that 27 per cent of the Leadership Team be female by the end of 2019.
John Foley 50% 50% (business unit target) Barry Stowe 50% 50% (business unit target) Mike Wells 50% 50% (business unit and Group target) Tony Wilkey 50% 50% (business unit target) All other Executive Directors 50% 50% (Group target)
Notes 1 Group TSR is measured on a ranked basis over three years relative to peers. 2 IFRS operating profit is measured on a cumulative basis over three years. 3 Mike Wells, Barry Stowe and Tony Wilkey received additional awards following their change in role in 2015 and these awards had performance measures reflective of their new roles.
www.prudential.co.uk Annual Report 2017 Prudential plc 141 01 G roup overview 02 Strategic report 03 G
Following the merger of Standard Life and Aberdeen Asset Management during the year, the Remuneration Committee determined that Standard Life would be retained in the peer group for the pre‑merger period and the combined entity would be included in the peer group from the date of the merger for all outstanding PLTIP awards.
Prudential’s TSR performance during the performance period (1 January 2015 to 31 December 2017) was between the median and upper quartile of the peer group (ranked 6th). The portion of the awards related to TSR that therefore vested was 91.67 per cent.
Prudential Corporation Asia Long Term Incentive Plan (PCA LTIP) Tony Wilkey holds PCA LTIP awards granted in 2014 and 2015. These PCA LTIP awards were granted before Tony was appointed to the Board. One of these awards, granted in 2014, had performance conditions and one of these awards, granted in 2015, had no performance conditions. Details of the performance conditions attached to the 2014 award and performance achieved are set out below: Performance measure Weighting
Prudential Corporation Asia IFRS operating profit 50% £1,826m £1,855m Prudential Corporation Asia operating free surplus generated 50% £900m £1,029m
2 The number of shares vesting includes accrued dividend shares. 3 Mike Wells, Barry Stowe and Tony Wilkey received additional awards following their change of role in 2015, and these awards had performance measures reflective of their new roles.
Pension entitlements Pension provisions in 2017 were: Executive Director 2017 pension arrangement Life assurance provision
www.prudential.co.uk Annual Report 2017 Prudential plc 143 01 G roup overview 02 Strategic report 03 G
Other payments 308 – – – – – – – – – –
Group Chief Executive ‘single figure’ of total remuneration 3,737 640 5,293 5,339 9,533 8,702 13,418 5,019 7,526 7,370 8,702
Notes 1 Mark Tucker left the Company on 30 September 2009. Tidjane Thiam became Group Chief Executive on 1 October 2009. The figures shown for Tidjane Thiam’s remuneration in 2009 relate only to his service as Group Chief Executive. 2 Tidjane Thiam left the Company on 31 May 2015. Mike Wells became Group Chief Executive on 1 June 2015. The figures shown for Mike Wells’s remuneration in 2015 relate only to his service as Group Chief Executive.
Percentage change in remuneration The table below sets out how the change in remuneration for the Group Chief Executive between 2016 and 2017 compared to a wider employee comparator group: Salary Benefits Bonus
The employee comparator group used for the purpose of this analysis is all UK employees. This includes employees in the UK insurance operations business, M&G and Group Head Office, and reflects the average change in pay for employees employed in both 2016 and 2017. The salary increase includes uplifts made through the annual salary review, as well as any additional changes in the year; for example to reflect promotions or role changes. The UK workforce has been chosen as the most appropriate comparator group as it reflects the economic environment where the Group Chief Executive is employed.
Note 1 All employee pay as taken from note B2.1 to the financial statements.
As part of the continuing implementation of Solvency II, the weightings of the Group Chief Risk Officer’s LTIP performance targets (with effect from 2017) were different to the other Executive Directors and were: — Relative TSR (50 per cent of award); — Group IFRS operating profit (20 per cent of award); and
The peer group for the 2017 awards is: Aegon AIA AIG Allianz Aviva AXA Generali Legal & General Manulife MetLife Old Mutual Prudential Financial Standard Life Aberdeen Sun Life Financial Zurich Insurance Group
www.prudential.co.uk Annual Report 2017 Prudential plc 145 01 G roup overview 02 Strategic report 03 G
Under the IFRS measure, 25 per cent of the award vests for meeting the threshold IFRS operating profit, set at the start of the performance period increasing to full vesting for performance at or above the stretch level.
Under the balanced scorecard, performance is assessed for each of the four measures, at the end of the three‑year performance period. Each of the measures has equal weighting and the 2017 measures are set out below.
Capital measure: Cumulative three‑year ECap Group operating capital generation relative to plan, less cost of capital (based on the capital position at the start of the performance period).
Capital measure: Cumulative three‑year Solvency II Group operating capital generation (as captured in published disclosures) relative to plan.
The table below shows the awards made to Executive Directors in 2017 under share‑based long‑term incentive plans and the performance conditions attached to these awards: Executive Director Role
Buy-out award As reported in the 2016 Annual report on remuneration, in order to facilitate Anne Richards’s appointment as Chief Executive, M&G, the Company agreed to replace the deferred bonus awards she forfeited on leaving Aberdeen Asset Management. The terms of the replacement award were designed to replicate those of the forfeited awards and are therefore not subject to performance conditions and will accrue dividend equivalents. These awards entitle Anne to receive a cash amount equal to the market value of the specified notional number of Prudential shares on the date of exercise, less an award price of 5p per share. The outstanding awards and the exercise periods are detailed below.
In December 2017, Anne exercised the second tranche of this replacement award. The gross value of the award exercised (which included dividend equivalents) was £747,671 and Anne used the net of tax value of £395,174 to buy 21,408 Prudential shares. Anne has committed to use the net of tax value of all her outstanding awards to buy Prudential shares.
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Non-executive Directors’ fees The Non‑executive Directors’ fees were reviewed by the Board during 2017 and the basic fee was increased by 2 per cent to £97,000. None of the fees for additional duties were increased: Annual fees
Note If, in a particular year, the number of meetings is materially greater than usual, the Company may determine that the provision of additional fees is fair and reasonable.
The resulting fees paid to the Chairman and Non‑executive Directors are: £000s 2017 fees 2016 fees benefits*
1 January 2017 (or on date of appointment) During 2017 31 December 2017 (or on date of retirement) Share ownership guidelines
Non-executive Directors * There were no changes of Directors’ interests in ordinary shares between 31 December 2017 and 13 March 2018, with the exception of the UK‑based Executive Directors due to their participation in the monthly SIP. Mark FitzPatrick acquired a further 31 shares in the SIP, John Foley acquired a further 30 shares in the SIP and Mike Wells acquired a further 30 shares in the SIP during this period.
† Further information on share awards subject to performance conditions are detailed in the ‘share‑based long‑term incentive awards’ section of the Supplementary information. ‡ Holding requirement of the Articles of Association (2,500 ordinary shares) must be obtained within one year of appointment to the Board. The increased guidelines for Executive
§ Based on the average closing price for the six months to 31 December 2017 (£18.23).
The Company and its Directors, Chief Executives and shareholders have been granted a partial exemption from the disclosure requirements under Part XV of the Securities and Futures Ordinance (SFO). As a result of this exemption, Directors, Chief Executives and shareholders do not have an obligation under the SFO to notify the Company of shareholding interests, and the Company is not required to maintain a register of Directors’ and Chief Executives’ interests under section 352 of the SFO, nor a register of interests of substantial shareholders under section 336 of the SFO. The Company is, however, required to file with the Stock Exchange of Hong Kong Limited any disclosure of interests notified to it in the United Kingdom.
Notes 1 A gain of £5,139.84 was made by Directors in 2017 on the exercise of SAYE options. 2 No price was paid for the award of any option. 3 The highest and lowest closing share prices during 2017 were £19.15 and £15.32 respectively. 4 All exercise prices are shown to the nearest pence. 5 Penny James participated in the plan during her time as an Executive Director. The column above marked ‘End of period’ reflects Penny James’s position as at 30 September 2017, the date at which she stepped down from the Board. 6 Following Nic Nicandrou’s appointment as Chief Executive of Prudential Corporation Asia on 17 July 2017, he was able to continue saving under his SAYE option contracts at that date but is no longer eligible to participate in future SAYE grants.
Directors’ terms of employment and external appointments Details of the service contracts of each Executive Director are outlined in the table below. The Directors’ remuneration policy contains further details of the terms included in Executive Director service contracts.
Executive Directors Mark FitzPatrick 17 May 2017 12 months 12 months – – John Foley 8 December 2010 12 months 12 months – – Nic Nicandrou 27 April 2009 12 months 12 months – – Anne Richards 4 July 2016 12 months 12 months – – Barry Stowe 18 October 2006 12 months 12 months – – Mike Wells 21 May 2015 12 months 12 months – –
Directors served on the boards of educational, charitable and cultural organisations without receiving a fee for these services.
Letters of appointment of the Chairman and Non-executive Directors Details of Non‑executive Directors’ individual appointments are outlined below. The Directors’ remuneration policy contains further details on their letters of appointment.
www.prudential.co.uk Annual Report 2017 Prudential plc 151 01 G roup overview 02 Strategic report 03 G
Appointing high‑calibre executives to the Board and to different roles on the Board is necessary to ensure the Company is well positioned to develop and implement its strategy and deliver long‑term value. As the Company operates in an international market place for talent, the best internal and external candidates are sometimes asked to move location to assume their new roles. Where this happens, the Company will offer relocation support. The support offered will depend on the circumstances of each move but may include paying for travel, shipping services, the provision of temporary accommodation and other housing benefits. Executives may receive support with the preparation of tax returns, but no current Executive Director is tax equalised.
Nic Nicandrou changed Board role during the year. As this change resulted in Nic relocating to enable him to assume his new role, relocation support in line with the approved Directors’ remuneration policy was provided. Details of this support are included in the notes to the 2017 ‘single figure’ table.
Penny James Penny James stepped down from the Board, and her employment ended, on 30 September 2017. Her remuneration arrangements were in line with the approved Directors’ remuneration policy, and disclosed in stock exchange announcements, and the remuneration she received in respect of her services as an Executive Director is set out in the 2017 ‘single figure’ table.
The Committee determined that Penny should not receive a bonus in respect of the 2017 performance year. The Committee also exercised its discretion in accordance with the approved Directors’ remuneration policy and determined that Penny should forfeit her unvested PLTIP awards granted in 2015, 2016 and 2017.
Tony’s deferred bonus awards will be released in accordance with the plan rules and remain subject to malus and clawback provisions.
Recognising his contribution to the Company’s success, the Committee determined that Tony should be awarded a bonus in respect of the 2017 performance year which was calculated in the usual way and pro‑rated for service to 17 July 2017. 60 per cent of this bonus will be paid in 2018 and 40 per cent will be deferred for three years, subject to malus and clawback provisions.
As referred to above, Tony holds PCA LTIP and PLTIP awards granted in 2014 and 2015. The two PCA LTIP awards were granted before Tony was appointed to the Board: one of these awards, granted in 2014, had performance measures and one of these awards, granted in 2015, had no performance conditions.
Notes 1 The number of shares vesting includes accrued dividend shares. 2 The share price used to calculate the value was the average share price for the three months up to 31 December 2017, being £18.52.
Three-year investment performance share price Value of awards vesting 2015 M&G Executive LTIP 12% 2nd quartile £2.05 £1,277,875
To approve the Directors’ remuneration policy (2017 AGM) 1,773,691,171 90.71 181,582,497 9.29 1,955,273,668 45,820,585
Statement of implementation in 2018 Executive Directors Executive Directors’ remuneration packages were reviewed in 2017 with changes effective from 1 January 2018. When the Committee took these decisions, it considered the salary increases awarded to other employees in 2017 and the expected increases in 2018. The external market reference points used to provide context to the Committee were identical to those used for 2017 salaries.
All Executive Directors received a salary increase of 2 per cent. The 2018 salary increase budgets for other employees across the Group’s business units were between 2.5 per cent and 10 per cent. No changes have been made to executives’ maximum opportunities under either the annual incentive or the long‑term incentive plans.
The Executive Directors’ bonus opportunity, performance measures and weightings will remain the same as in 2017. The Executive Directors’ long‑term incentive awards will be made under the PLTIP and the opportunity, performance measures and weightings will remain the same as 2017 other than: — Following the merger of Standard Life and Aberdeen Asset Management, the combined entity of Standard Life Aberdeen will be included in the relative TSR peer group; and
Deferred 2016 annual incentive award 2017 134,534 3,494 138,028 31 Dec 19 1,672
Notes 1 The awards for Barry Stowe were made in ADRs (1 ADR = 2 ordinary shares). The figures in the table are represented in terms of ordinary shares. 2 The awards for Mike Wells in 2014 and 2015 were made in ADRs (1 ADR = 2 ordinary shares). The awards made in 2016 and 2017 were made in ordinary shares. The figures in the table are represented in terms of ordinary shares.
Since 2014 participants have been able to elect to enter into savings contracts of up to £500 per month for a period of three or five years. At the end of this term, participants may exercise their options within six months and purchase shares. If an option is not exercised within six months, participants are entitled to a refund of their cash savings plus interest if applicable under the rules. Shares are issued to satisfy those options which are exercised. No options may be granted under the schemes if the grant would cause the number of shares which have been issued, or which remain issuable pursuant to options granted in the preceding 10 years under the scheme and any other option schemes operated by the Company, or which have been issued under any other share incentive scheme of the Company, to exceed 10 per cent of the Company’s ordinary share capital at the proposed date of grant.
Share Incentive Plan (SIP) UK‑based Executive Directors are also eligible to participate in the Company’s Share Incentive Plan (SIP). Since April 2014, all UK‑based employees have been able to purchase Prudential plc shares up to a value of £150 per month from their gross salary (partnership shares) through the SIP. For every four partnership shares bought, an additional matching share is awarded which is purchased by Prudential on the open market. Dividend shares accumulate while the employee participates in the plan. If the employee withdraws from the plan, or leaves the Group, matching shares may be forfeited.
Share Incentive Plan awards held in Trust at 1 Jan 2017
www.prudential.co.uk Annual Report 2017 Prudential plc 157 01 G roup overview 02 Strategic report 03 G
Dilution Releases from the Prudential Long Term Incentive Plan and the Prudential Agency Long Term Incentive Plan are satisfied using new issue shares rather than by purchasing shares in the open market. Shares relating to options granted under all‑employee share plans are also satisfied by new issue shares. The combined dilution from all outstanding shares and options at 31 December 2017 was 1.09 per cent of the total share capital at the time. Deferred bonus awards will continue to be satisfied by the purchase of shares in the open market.
Five highest paid individuals Of the five individuals with the highest emoluments in 2017, two were Executive Directors whose emoluments are disclosed in this report. The aggregate of the emoluments of the other three individuals for 2017 were as follows: Base salaries, allowances and benefits in kind 3,381 Pension contributions 129 Performance related pay 24,236
Their emoluments were within the following bands: Number of five highest paid employees 2017
Consolidated statement of financial position 165 Consolidated statement of cash flows 166
Notes to the Primary statements A Background and critical accounting policies A1 Basis of preparation and exchange rates 167 A2 New accounting pronouncements in 2017 167 A3 Accounting policies
B1.1 Segment results – profit before tax 179 B1.2 Short‑term fluctuations in investment returns on shareholder‑backed business
B2 Acquisition costs and other expenditure 191 B2.1 Staff and employment costs 191 B2.2 Share‑based payment 192 B2.3 Key management remuneration 194 B2.4 Fees payable to the auditor 194
C5 Intangible assets C5(a) Goodwill 253 C5(b) Deferred acquisition costs and other intangible assets
C8 Tax assets and liabilities C8.1 Deferred tax 270 C8.2 Current tax 271
D Other notes D1 Disposal of businesses 283 D2 Contingencies and related obligations 283 D3 Post balance sheet events 284 D4 Related party transactions 285 D5 Commitments 285 D6 Investments in subsidiary undertakings, joint ventures and associates
Earned premiums, net of reinsurance B1.4 41,943 36,961 Investment return B1.4 42,189 32,511 Other income B1.4 2,430 2,370
Benefits and claims (71,854) (60,948) Outward reinsurers’ share of benefit and claims 2,193 2,412 Movement in unallocated surplus of with‑profits funds (2,871) (830)
Benefits and claims and movement in unallocated surplus of with‑profits funds, net of reinsurance B1.4 (72,532) (59,366)
Acquisition costs and other expenditure B2 (10,165) (8,848) Finance costs: interest on core structural borrowings of shareholder‑financed operations (425) (360) Disposal of Korea life business: D1
Cumulative exchange gain recycled from other comprehensive income 61 – Remeasurement adjustments 5 (238)
Attributable to: Equity holders of the Company 2,389 1,921 Non‑controlling interests 1 –
Based on profit attributable to the equity holders of the Company: B5 * This measure is the formal profit before tax measure under IFRS but it is not the result attributable to shareholders. This is principally because the corporate taxes of the Group include those on the income of consolidated with‑profits and unit‑linked funds that, through adjustments to benefits, are borne by policyholders. These amounts are required to be included in the tax charge of the Company under IAS 12. Consequently, the profit before all taxes measure is not representative of pre‑tax profits attributable to shareholders. Profit before all taxes is determined after deducting the cost of policyholder benefits and movements in the liability for unallocated surplus of the PAC with‑profits fund after adjusting for taxes borne by policyholders.
Items that will not be reclassified to profit or loss Shareholders' share of actuarial gains and losses on defined benefit pension schemes: Related tax (15) 14
Other comprehensive income for the year, net of related tax 105 1,099
Reserves Profit for the year – – 2,389 – – 2,389 1 2,390 Other comprehensive income: Exchange movements on foreign operations and net investment hedges, net of related tax – – – (470) – (470) – (470)
Net unrealised valuation movements, net of related change in amortisation of deferred acquisition costs and related tax – – – – 486 486 – 486
Total other comprehensive income (loss) – – 89 (470) 486 105 – 105
Total comprehensive income for the year – – 2,478 (470) 486 2,494 1 2,495
Share capital and share premium New share capital subscribed C10 – 21 – – – 21 – 21
Treasury shares Movement in own shares in respect of share‑based payment plans – – (15) – – (15) – (15) Movement in Prudential plc shares purchased by unit trusts consolidated under IFRS (9) – (9) – (9)
Net unrealised valuation movements, net of related change in amortisation of deferred acquisition costs and related tax – – – – 31 31 – 31
Total other comprehensive income (loss) – – (93) 1,161 31 1,099 – 1,099
Reserve movements in respect of share‑based payments – – (51) – – (51) – (51)
www.prudential.co.uk Annual Report 2017 Prudential plc 165 01 G roup overview 02 Strategic report 03 G
Assets held for sale 38 4,589 Cash and cash equivalents 10,690 10,065
Derivative liabilities C3.4 2,755 3,252 Liabilities held for sale – 4,293
Included within equity securities and portfolio holdings in unit trusts, debt securities and other investments are £8,232 million (2016: £8,545 million) of lent securities and assets subject to repurchase agreements.
Cash flows from operating activities Profit before tax (being tax attributable to shareholders' and policyholders' returns)note (i) 3,970 3,212 Non‑cash movements in operating assets and liabilities reflected in profit before tax: Other non‑investment and non‑cash assets (968) (2,490) Policyholder liabilities (including unallocated surplus) 44,877 31,135 Other liabilities (including operational borrowings) 3,360 7,861
Interest income and expense and dividend income included in result before tax (8,994) (9,749) Other non‑cash items 549 834 Operating cash items: Interest receipts 6,900 7,886 Dividend receipts 2,612 2,286 Tax paidnote (iv) (915) (950)
Issue of subordinated debt, net of costs 565 1,227 Redemption of subordinated debt (751) – Interest paid (369) (335)
The changes in the carrying value of the structural borrowings of shareholder‑financed operations during 2017 are analysed as follows: Cash movements £m Non-cash movements £m
(iii) Interest paid on structural borrowings of with‑profits operations relate solely to the £100 million 8.5 per cent undated subordinated guaranteed bonds, which contribute to the solvency base of the Scottish Amicable Insurance Fund (SAIF), a ring‑fenced sub‑fund of the PAC with‑profits fund. There is no change in respect of the carrying value of the £100 million structural borrowings of the with‑profits operations during 2017. Cash flows in respect of other borrowings of with‑profits funds, which principally relate to consolidated investment funds, are included within cash flows from operating activities.
Basis of preparation These statements have been prepared in accordance with IFRS Standards as issued by the International Accounting Standards Board (IASB) and as endorsed by the European Union (EU) as required by EU law (IAS Regulation EC1606/2032). EU‑endorsed IFRS Standards may differ from IFRS Standards issued by the IASB if, at any point in time, new or amended IFRS Standards have not been endorsed by the EU. At 31 December 2017, there were no unendorsed standards effective for the two years ended 31 December 2017 which impact the consolidated financial information of the Group. There were no differences between IFRS Standards endorsed by the EU and IFRS Standards issued by the IASB in terms of their application to the Group. These statements have been prepared on a going concern basis. The parent company statement of financial position prepared in accordance with the UK Generally Accepted Accounting Practice (including Financial Reporting Standard 101 Reduced Disclosure Framework) is presented on page 305.
The Group IFRS accounting policies are the same as those applied for the year ended 31 December 2016 with the exception of the adoption of the new and amended accounting standards as described in note A2.
Certain notes to the financial statements present 2016 comparative information at Constant Exchange Rates (CER), in addition to the reporting at Actual Exchange Rates (AER) used throughout the consolidated financial statements. AER are actual historical exchange rates for the specific accounting period, being the average rates over the period for the income statement and the closing rates for the balance sheet at the balance sheet date. CER results are calculated by translating prior period results using the current period foreign exchange rate ie current period average rates for the income statement and current period closing rates for the balance sheet.
The IASB has issued the following new accounting pronouncements to be effective for 1 January 2017: — Disclosure Initiative (Amendments to IAS 7, ‘Statement of Cash Flows’); — Recognition of deferred tax assets for unrealised losses (Amendments to IAS 12, ‘Income Taxes’); and — Annual improvements to IFRSs 2014 – 2016 cycle.
A3.1 Critical accounting policies, estimates and judgements This note presents the critical accounting policies, accounting estimates and judgements applied in preparing the Group’s consolidated financial statements. Other significant accounting policies are presented in note E1. All accounting policies are applied consistently for all years presented and normally are not subject to changes unless new accounting standards, interpretations or amendments are introduced by the IASB.
Contracts that transfer significant insurance risk to the Group are classified as insurance contracts. This judgement is made at the point of contract inception and is not revisited. For the majority of the Group’s contracts classification is based on a readily identifiable scenario that demonstrates a significant difference in cash flows if the covered event occurs (as opposed to does not occur) reducing the level of judgement involved. Contracts that transfer financial risk to the Group but not significant insurance risk are classified as investment contracts. Furthermore, some contracts, both insurance and investment, contain discretionary participating features representing the contractual right to receive additional benefits as a supplement to guaranteed benefits that (a) are likely to be a significant portion of the total contract benefits; (b) have amount or timing contractually at the discretion of the insurer; and (c) are contractually based on asset or fund performance, as discussed in IFRS 4. Insurance contracts and investment contracts with discretionary participation features are accounted for under IFRS 4. Investment contracts without such discretionary participation features are accounted for as financial instruments under IAS 39.
— Whole life contracts — Unit‑linked policies — Accident and health policies
Due to their significance to the Group’s business, the measurement of policyholder liabilities and unallocated surplus of with‑profits is a critical accounting policy.
A modified statutory basis of reporting was adopted by the Group on first time adoption of IFRS in 2005. This was set out in the Statement of Recommended Practice issued by Association of British Insurers (ABI SORP). An exception was for UK regulated with‑ profits funds which were measured under FRS 27 as discussed below.
For investment contracts that do not contain discretionary participating features, IAS 39 is applied and, where the contract includes an investment management element, IAS 18, ‘Revenue’, applies.
The policies applied in each business unit are noted below. When measuring policyholder contract liabilities a number of assumptions are applied to estimate future amounts due to or from the policyholder. The nature of assumption varies by product and among the most significant are assumed rates of policyholders’ mortality, particularly in respect of annuities sold in the UK, and policyholder behaviour, particularly in the US. Additional details of valuation methodologies and assumptions applied for material product types are discussed in note C4.2.
While the basis of valuation of liabilities in this business is in accordance with the requirements of the ABI SORP, it may differ from that determined on the modified statutory basis for UK and Europe insurance operations with the same features.
US insurance operations The policyholder liabilities for Jackson’s conventional protection‑type policies are determined under US GAAP principles with locked in assumptions for mortality, interest, policy lapses and expenses along with provisions for adverse deviations. For other policies, the policyholder liabilities include the policyholder account balance.
UK and Europe insurance operations The UK regulated with‑profits funds’ liabilities are the realistic basis liabilities in accordance with FRS 27. The realistic basis requires the value of liabilities to be calculated as: — A with‑profits benefits reserve; plus — Future policy‑related liabilities; plus — The realistic current liabilities of the fund.
The with‑profits benefits reserve is primarily based on the retrospective calculation of accumulated asset shares but is adjusted to reflect future policyholder benefits and other charges and expenses. Asset shares broadly reflect the policyholders’ share of the with‑profits fund assets attributable to their policies.
The future policy‑related liabilities must include a market consistent valuation of costs of guarantees, options and smoothing, less any related charges, and this amount is determined using either a stochastic approach, hedging costs or a series of deterministic projections with attributed probabilities.
The shareholders’ share of future costs of bonuses is included within the liabilities for unallocated surplus. Shareholders’ share of profit is recognised in line with the distribution of bonuses to policyholders.
The sensitivity of UK and Europe insurance operations to variations in key estimates and assumptions, including annuitant mortality, is discussed in note C7.4.
Investment contracts without discretionary participation features are measured in accordance with IAS 39 to reflect the deposit nature of the arrangement, with premiums and claims reflected as deposits and withdrawals and taken directly to the statement of financial position as movements in the financial liability balance.
Investment contracts without fixed and guaranteed terms are classified as financial instruments and designated as fair value through profit or loss because the resulting liabilities are managed and their performance is evaluated on a fair value basis. Where the contract includes a surrender option its carrying value is subject to a minimum carrying value equal to its surrender value.
Represents the excess of assets over policyholder liabilities that are determined in accordance with the Group’s accounting policies and are based on local GAAP for the Group’s with‑profits funds in the UK, Hong Kong and Malaysia that have yet to be appropriated between policyholders and shareholders. The unallocated surplus is recorded wholly as a liability with no allocation to equity. The annual excess (shortfall) of income over expenditure of the with‑profits funds, after declaration and attribution of the cost of bonuses to policyholders and shareholders, is transferred to (from) the unallocated surplus each year through a charge (credit) to the income statement. The balance retained in the unallocated surplus represents cumulative income arising on the with‑profits business that has not been allocated to policyholders or shareholders. The balance of the unallocated surplus is determined after full provision for deferred tax on unrealised appreciation on investments.
Liability adequacy test. The Group performs adequacy testing on its insurance liabilities to ensure that the carrying amounts (net of related deferred acquisition costs) and, where relevant, present value of acquired in‑force business is sufficient to cover current estimates of future cash flows. Any deficiency is immediately charged to the income statement.
Jackson’s liabilities for insurance contracts, which include those for separate accounts (reflecting separate account assets), policyholder account values and guarantees measured as described in note C4.2 and the associated deferred acquisition cost asset are measured under US GAAP and liability adequacy testing is performed in this context. Under US GAAP, most of Jackson’s products are accounted for under Accounting Standards Codification Topic 944, Financial Services – Insurance of the Financial Accounting Standards Board (ASC 944) whereby deferred acquisition costs are amortised in line with expected gross profits. Recoverability of the deferred acquisition costs in the balance sheet is tested against the projected value of future profits using current estimates and therefore no additional liability adequacy test is required by IFRS 4. The DAC recoverability test is performed in line with US GAAP requirements which in practice is at a grouped level of those contracts managed together.
Jackson enters into derivative instruments to mitigate economic exposures. The Group has considered 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. The key factors considered in this assessment were the complexity of asset and liability matching in Jackson’s product range and the difficulty and cost of applying the macro hedge provisions under IAS 39 (which are more suited to banking arrangements) to Jackson’s derivative book.
The total tax charge for the Group reflects tax that, in addition to relating to shareholders’ profits, is also attributable to policyholders and unallocated surplus of with‑profits funds and unit‑linked policies. Further detail is provided in note B4. Reported profit before the total tax charge is not representative of pre‑tax profits attributable to shareholders. Accordingly, in order to provide a measure of pre‑tax profits attributable to shareholders the Group has chosen to adopt an income statement presentation of the tax charge and pre‑tax results that distinguishes between policyholder and shareholder components.
Total segmental operating profit is £5,577 million and is shown in note B1.2.
www.prudential.co.uk Annual Report 2017 Prudential plc 173 01 G roup overview 02 Strategic report 03 G
US insurance operations The most material estimates and assumptions applied in the measurement and amortisation of deferred acquisition cost balances relate to the US insurance operations.
The Group’s US insurance operations apply FAS ASU 2010‑26 on ‘Accounting for Costs Associated with Acquiring or Renewing Insurance Contracts’ and capitalise only those incremental costs directly relating to successfully acquiring a contract.
For US variable annuity business, a key assumption is the long‑term investment return from the separate accounts, which is determined using a mean reversion methodology. Under the mean reversion technique applied by Jackson, the projected level of return for each of the next five years is adjusted from period to period, so that in combination with the actual rates of return for the preceding three years, including the current period, the assumed long‑term annual return (gross of asset management fees and other charges to policyholders, but net of external fund management fees) is realised on average over the entire eight‑year period. Projected returns after the mean reversion period revert back to the long‑term investment return. For further details on current balances, assumptions and sensitivity, refer to note C5 (b) and C7.3(iv).
UK and Europe insurance operations For UK regulated with‑profits funds where ‘grandfathered’ FRS 27 is applied, these costs are expensed as incurred. The majority of the UK shareholder‑backed business is individual and group annuity business where the deferral of acquisition costs is negligible.
Financial investments held at fair value represent £407.3 billion of the Group’s total assets.
The Group applies valuation techniques, including the use of estimates, to determine the balance recognised for financial investments held at fair value.
Financial investments held at amortised cost represent £12.2 billion of the Group’s total assets.
The Group holds the majority of its financial investments at fair value (either through profit and loss or available‑for‑sale). Financial Investments held at amortised cost primarily comprise loans and deposits.
In estimating any required impairment for US residential mortgage‑backed and other asset‑backed securities held as available‑for‑sale, the expected value of future cash flows is determined using a model, the key assumptions of which include how much of the currently delinquent loans will eventually default and assumed loss severity. Further details of the assumptions and estimates applied in assessing impairment of US available‑ for‑sale securities is given in note C3.2(g).
www.prudential.co.uk Annual Report 2017 Prudential plc 175 01 G roup overview 02 Strategic report 03 G
If evidence for impairment exists, valuation techniques, including estimates, are then applied in determining the impaired value.
For financial investments classified as ‘available‑for‑sale’ or ‘at amortised cost’, if a loss event that will have a detrimental effect on cash flows is identified, an impairment loss is recognised in the income statement. The loss recognised is determined as the difference between the book cost and the fair value of the relevant impairment assets. The loss comprises the effect of the expected loss of contractual cash flows and any additional market‑price driven temporary reductions in values.
Available-for-sale securities The Group’s review of fair value involves several criteria, including economic conditions, credit loss experience, other issuer‑specific developments and future cash flows. These assessments are based on the best available information at the time. Factors such as market liquidity, the widening of bid/ask spreads and a change in cash flow assumptions can contribute to future price volatility. If actual experience differs negatively from the assumptions and other considerations used in the consolidated financial statements, unrealised losses currently in equity may be recognised in the income statement in future periods. Additional details on the methodology and estimates used to determine impairments of the available‑for‑sale securities of Jackson are described in note C3.2(g).
The majority of the US insurance operation’s debt securities portfolio is accounted for on an available‑for‑sale basis. The consideration of evidence of impairment requires management’s judgement. In making this determination a range of market and industry indicators are considered including the severity and duration of the decline in fair value and the financial condition and prospects of the issuer.
For US residential mortgage‑backed and other asset‑backed securities, all of which are classified as available‑for‑sale, impairment is estimated using a model of expected future cash flows. Key assumptions used in the model include assumptions about how much of the currently delinquent loans will eventually default and assumed loss severity.
Reversal of impairment losses If, in subsequent periods, an impaired debt security held on an available‑for‑sale basis or an impaired loan or receivable recovers in value (in part or in full), and this recovery can be objectively related to an event occurring after the impairment, then the previously recognised impairment loss is reversed through the income statement (in part or in full).
To ensure any required impairment is recognised in the current period the Group monitors a number of internal and external factors, including indications that the financial performance of the arrangement is likely to be worse than originally expected and changes in relevant legislation and regulatory requirements that could impact the Group’s ability to continue to sell new business through the bancassurance channel, and then applies judgement to assess whether these factors indicate impairment has occurred.
If an impairment has occurred, an impairment charge is recognised for the difference between the carrying value and recoverable amount of the asset. The recoverable amount is the greater of fair value less costs to sell and value in use. Value in use is calculated as the present value of future expected cash flows from the asset or the cash generating unit to which it is allocated.
Accounting pronouncements endorsed by the EU but not yet effective IFRS 15, ‘Revenue from Contracts with Customers’ This standard effective for annual periods beginning on or after 1 January 2018, provides a single framework to recognise revenue for contracts with different characteristics and overrides the framework provided for such contracts in other standards. The contracts excluded from the scope of this standard include: — Lease contracts within the scope of IAS 17 ’Leases’; — Insurance contracts within the scope of IFRS 4 ‘Insurance Contracts’; and — Financial instruments within the scope of IAS 39 ‘Financial Instruments’.
IFRS 9, ‘Financial instruments: Classification and measurement’ In July 2014, the IASB published a complete version of IFRS 9 with the exception of macro hedge accounting. The standard becomes mandatorily effective for the annual periods beginning on or after 1 January 2018, with early application permitted and transitional rules apply. In October 2017, the IASB issued two amendments to IFRS 9, to permit the measurement of debt instruments with prepayment compensation features to be measured at amortised cost or fair value through other comprehensive income if certain conditions are met, and to clarify that IFRS 9 applies to long‑term interests in joint ventures and associates. Both of these amendments that were issued in October 2017 are effective for the annual periods beginning on or after 1 January 2019, but are not yet endorsed by the EU.
At present a significant proportion (82 per cent) of the Group’s investments are valued at FVTPL and the Group’s current expectation is that a significant proportion will continue to be designated as such under IFRS 9.
The Group is assessing the impact of IFRS 9 and implementing this standard in conjunction with the IFRS 17. Further details on IFRS 17 are provided below. Adoption of IFRS 9 may result in reclassifying certain of the Group’s financial assets and hence lead to a change in the measurement of those instruments or the reporting of their value. In addition, for any investments classified as amortised cost or FVOCI, as noted above, the impairment provisioning approach is altered from the current IAS 39 approach. The Group is currently assessing the scope of assets to which these requirements will apply. The Group does not currently apply hedge accounting for most of its derivate programmes but will reconsider its approach in light of new requirements under the standard on adoption.
IFRS 16 applies primarily to operating leases of major properties occupied by the Group’s businesses where Prudential is a lessee. Under IFRS 16, these leases will be brought onto the Group’s statement of financial position with a ‘right to use’ asset being established and a corresponding liability representing the obligation to make lease payments. The current rental accrual charge in the income statement will be replaced with a depreciation charge for the ‘right to use’ asset and an interest expense on the lease liability leading to a more front‑loaded operating lease cost profile compared to IAS 17. The Group is currently sourcing the required information to implement this new standard.
IFRS 16 permits transition to the new standard through a modified retrospective approach or a full retrospective approach. Under the modified retrospective approach, as well as affording a number of simplifications the Group’s comparative information is not restated, but there is an adjustment to retained earnings at the date of initial application (ie 1 January 2019). The Group is currently assessing the impact of the modified retrospective approach before confirming the approach it intends to adopt. The ultimate impact of IFRS 16 on the Group’s financial statements will be dependent on the leases that are in place and the related discount rate on the date of initial application.
IFRS 4 permitted insurers to continue to use the statutory basis of accounting for insurance assets and liabilities that existed in their jurisdictions prior to January 2005. IFRS 17 replaces this with a new liability and revenue measurement model for all insurance contracts.
The new measurement model requires liabilities for insurance contracts to be recognised as the present value of future cash flows, incorporating an explicit risk adjustment, and a contractual service margin (CSM) that is equal and opposite to any day‑one gain arising. Losses are recognised directly into the income statement. The present value of future cash flows and the risk adjustment are updated at each reporting date in order to reflect current conditions. The CSM is released to the income statement as profit over the coverage period of the insurance contract, reflecting the delivery of services to the policyholder. Subsequent changes in non‑economic assumptions applied to the valuation of insurance liabilities are recognised as an adjustment to the CSM, prospectively affecting the amounts released to the statement of comprehensive income. For the purpose of the measurement insurance contracts are grouped together with contracts of similar risk, profitability profile and issue year, with the measurement model applied at this group level.
IFRS 17 Implementation Programme The Group has commenced a Group‑wide programme to implement IFRS 17 and IFRS 9 (as discussed above).
A Group‑wide Steering Committee, chaired by the Group Chief Financial Officer and with participation from group’s and business units’ senior finance managers, provides oversight and strategic direction to the implementation programme. A number of sub‑ committees are also in place to provide governance over the technical interpretation and accounting policies selected, programme management and design and delivery of the project.
Other new accounting pronouncements In addition to the above, the following new accounting pronouncements have also been issued and are not yet effective but the Group is not expecting them to have a significant impact on the Group’s financial statements: — Amendments to IFRS 2: Classification and measurement of share‑based payment transactions, issued in June 2016 and effective from 1 January 2018; — IFRIC Interpretation 22 Foreign Currency Transactions and Advance Consideration, issued in December 2016 and effective from 1 January 2018; — Amendments to IAS 40, Transfers of Investment Property, issued in December 2016 and effective from 1 January 2018; — IFRIC Interpretation 23 Uncertainty over Income Taxes, issued June 2017 and effective from 1 January 2019; — Annual Improvements to IFRSs 2015‑2017 cycle; and — Amendments to IAS 19: Plan Amendment, Curtailment or Settlement, issued on 7 February 2018 and effective from 1 January 2019.
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Other income and expenditure: Investment return and other income 11 28 28 (61)% (61)% Interest payable on core structural borrowings (425) (360) (360) (18)% (18)%
Operating profit based on longer-term investment returns 4,699 4,256 4,429 10% 6% Short‑term fluctuations in investment returns on
Tax charge attributable to shareholders' returns B4 (906) (354) (360) (156)% (152)%
Attributable to: Equity holders of the Company 2,389 1,921 1,982 24% 21% Non‑controlling interests 1 – – N/A N/A
Based on operating profit based on longer‑term investment returnsnote (vii) 145.2p 131.3p 136.8p 11% 6% Based on profit for the year 93.1p 75.0p 77.4p 24% 20%
Total UK and Europe asset management operating profit based on longer‑term investment returns 500 425
Notes (a) Net equity hedge result The purpose of the inclusion of this item in short‑term fluctuations in investment returns is to segregate the amount included in pre‑tax profit that relates to the accounting effect of market movements on both the measured value of guarantees in Jackson’s variable annuity and fixed index annuity products and on the related derivatives used to manage the exposures inherent in these guarantees. As the Group applies US GAAP for the measured value of the product guarantees this item also includes asymmetric impacts where the measurement bases of the liabilities and associated derivatives used to manage the Jackson annuity business differ as described in note B1.3(c) below.
The net equity hedge result (net of related DAC) can be summarised as follows: Fair value movements on equity hedge instruments1 (1,871) (1,786) Accounting value movements on the variable and fixed index annuity guarantee liabilities2 (99) (188) Fee assessments net of claim payments 480 387 1 Held to manage equity exposures of the variable annuity guarantees and fixed index annuity options.
2 The accounting value movements on the variable and fixed index annuity guarantee liabilities reflect the impact of market movements and changes in economic and actuarial assumptions. These actuarial assumptions changes include, amongst other items, a charge (net of related DAC) of £359 million for strengthening policyholder utilisation and persistency rates offset by a benefit (net of related DAC) of £382 million from modelling refinements in the period, principally enhancements to how Jackson’s own credit risk is incorporated in the fair valuation of these long‑term liabilities.
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(b) Other than equity‑related derivatives The fluctuations for this item comprise the net effect of: – Fair value movements on free‑standing, other than equity‑related derivatives; – Fair value movements on the Guaranteed Minimum Income Benefit (GMIB) reinsurance asset that are not matched by movements in the underlying GMIB liability, which is not fair valued as explained in note B1.3; and – Related amortisation of DAC.
Total credits (charges) in the year 5 (118) Less: Risk margin allowance deducted from operating profit based on longer‑term investment returnsnote 86 89
Interest‑related realised (losses) gains: (Losses) gains arising in the year (43) 376 Less: Amortisation of gains and losses arising in current and prior years to operating profit based on longer‑term investment returns (140) (135)
Consistent with the basis of measurement of insurance assets and liabilities for Jackson’s IFRS results, the charges and credits to operating profits based on longer‑term investment returns are partially offset by related amortisation of deferred acquisition costs.
In addition to the accounting for realised gains and losses described above for Jackson general account debt securities, included within the statement of other comprehensive income is a pre‑tax credit of £541 million for net unrealised gains on debt securities classified as available‑for‑sale net of related amortisation of deferred acquisition costs (2016: credit of £48 million). Temporary market value movements do not reflect defaults or impairments. Additional details of the movement in the value of the Jackson portfolio are included in note C3.2(b).
(ii) UK and Europe operations The negative short‑term fluctuations in investment returns for UK and Europe operations of £(14) million (2016: positive £206 million) include net unrealised movements on fixed income assets supporting the capital of the shareholder‑backed annuity business.
(iii) Other operations The positive short‑term fluctuations in investment returns for other operations of £20 million (2016: negative £(204) million) include unrealised value movements on financial instruments.
Under the Group’s management and reporting structure its chief operating decision‑maker is the Group Executive Committee (GEC). In the revised management structure, responsibility is delegated to the Chief Executive Officers of Prudential Corporation Asia, the North American Business Unit and M&G Prudential for the day‑to‑day management of their business units (within the framework set out in the Group Governance Manual). Financial management information used by the GEC has been revised to align with these three business segments. These operating segments derive revenue from both long‑term insurance and asset management activities.
(ii) Unit-linked business The policyholder unit liabilities are directly reflective of the underlying asset value movements. Accordingly, the operating results based on longer‑term investment returns reflect the current period value movements in both the unit liabilities and the backing assets.
(iii) US variable annuity and fixed index annuity business This business has guarantee liabilities which are measured on a combination of fair value and other US GAAP derived principles. These liabilities are subject to an extensive derivative programme to manage equity and interest rate exposures. The principles for determination of the operating profit and short‑term fluctuations are necessarily bespoke, as discussed in section (c) below.
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Debt securities and loans In principle, for debt securities and loans, the longer‑term capital returns comprise two elements: — Risk margin reserve based charge for the expected level of defaults for the period, which is determined by reference to the credit quality of the portfolio. The difference between impairment losses in the reporting period and the risk margin reserve charge to the operating result is reflected in short‑term fluctuations in investment returns; and
Equity-type securities For equity‑type securities, the longer‑term rates of return are estimates of the long‑term trend investment returns for income and capital having regard to past performance, current trends and future expectations. Equity‑type securities held for shareholder‑financed operations other than the UK annuity business, unit‑linked and US variable annuity separate accounts are principally relevant for the US and Asia insurance operations. Different rates apply to different categories of equity‑type securities.
For certain other types of non‑participating business, expected longer‑term investment returns are used to determine the movement in policyholder liabilities for determining operating results.
(ii) Other Asia shareholder-financed business Debt securities For this business, the realised gains and losses are principally interest related. Accordingly, all realised gains and losses to date for these operations are being amortised over the period to the date those securities would otherwise have matured, with no explicit risk margin reserve charge.
The longer‑term investment returns for the Asia insurance joint ventures accounted for using the equity method are determined on a similar basis as the other Asia insurance operations described above.
(ii) US variable and fixed index annuity business The following value movements for Jackson’s variable and fixed index annuity business are excluded from operating profit based on longer‑term investment returns. See note B1.2 (i): — Fair value movements for equity‑based derivatives; — Fair value movements for embedded derivatives for the ‘not for life’ portion of Guaranteed Minimum Withdrawal Benefit (GMWB) and fixed index annuity business, and Guaranteed Minimum Income Benefit (GMIB) reinsurance (see below); — Movements in the accounts carrying value of Guaranteed Minimum Death Benefit (GMDB), GMIB and the ‘for life’ portion of GMWB liabilities (see below), for which, under the ‘grandfathered’ US GAAP applied under IFRS for Jackson’s insurance assets and liabilities, the measurement basis gives rise to a muted impact of current period market movements (ie they are relatively insensitive to the effect of current period equity market and interest rate changes); — A portion of the fee assessments as well as claim payments, in respect of guarantee liabilities; and — Related amortisation of deferred acquisition costs for each of the above items.
(iii) Other derivative value movements The principal example of non‑equity based derivatives (for example, interest rate swaps and swaptions) whose value movements are excluded from operating profit, arises in Jackson. Non‑equity based 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 in the statement of other comprehensive income rather than the income statement), product liabilities (for which US GAAP accounting as ‘grandfathered’ under IFRS 4 does not fully reflect the economic features being hedged), and the interest rate exposure attaching to equity‑based embedded derivatives.
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(d) UK and Europe insurance operations (i) Shareholder-backed annuity business For this 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 credit risk. Variations between actual and best estimate expected impairments are recorded as a component of short‑term fluctuations in investment returns.
Total revenue from external customers note (v) 15,339 15,481 13,482 44,302 71 44,373
Share of profit from joint ventures and associates, net of related tax 181 – 121 302 – 302
Tax charge attributable to policyholders’ returns (250) – (424) (674) – (674)
Profit attaching to the disposal of businesses – 162 – 162 – 162 Cumulative exchange gain on the sold Korea life business recycled from other comprehensive incomeD1 61 – – 61 – 61
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alue (EEV ) basis results 07 A dditional inform ation 2016* £m
Earned premiums, net of reinsurance 13,358 14,318 9,285 36,961 – 36,961 Other income from external customers note (ii) 253 684 1,346 2,283 87 2,370
Benefits and claims and movements in unallocated surplus of with‑profits funds, net of reinsurance (11,442) (20,214) (27,710) (59,366) – (59,366)
Profit (loss) before tax attributable to shareholders 1,184 525 1,459 3,168 (893) 2,275
Earned premiums, net of reinsurance 15,032 – – 15,032 13,358 Other income from external customers 95 212 – 307 253
Profit before tax (being tax attributable to shareholders’ and policyholders’ returns) 2,102 176 – 2,278 1,339
Tax charge attributable to policyholders’ returns (250) – – (250) (155)
Profit before tax attributable to shareholders 1,852 176 – 2,028 1,184 * The 2016 comparative results have been re‑presented from those previously published following reassessment of the Group’s operating segments as described in note B1.3.
Earned premiums, net of reinsurance 14,812 – – 14,812 14,318 Other income from external customers 4 665 – 669 684
Total charges, net of reinsurance and gain on disposal of businesses (32,759) (608) 51 (33,316) (22,142)
*The 2016 comparative results have been re‑presented from those previously published following reassessment of the Group’s operating segments as described in note B1.3. † The US total revenue includes asset management gross revenue of £780 million (2016: £785 million), including £542 million of NPH broker‑dealer fees (2016: £550 million), and asset management gross charges of £770 million (2016: £789 million), including £542 million (2016: £550 million) of NPH broker‑dealer fees.
Acquisition costs and other operating expenditureB2 (2,692) (953) 266 (3,379) (2,813)
Profit before tax (being tax attributable to shareholders’ and policyholders’ returns) 1,282 506 – 1,788 2,241
Tax charge attributable to policyholders’ returns (424) – – (424) (782)
Analysis of operating profit Operating profit based on longer‑term investment returns 878 500 – 1,378 1,253 Short‑term fluctuations in investment returns on shareholder‑
* The 2016 comparative results have been re‑presented from those previously published following reassessment of the Group’s operating segments as described in note B1.3. † The revenue for UK and Europe asset management of £1,087 million (2016: £956 million), comprising the amounts for asset management fee income, other income and performance‑
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(d) There were no fee expenses relating to financial liabilities held at amortised cost included in acquisition costs in 2017 and 2016. (e) The segmental analysis of interest expense (other than interest expense in core structural borrowings) and depreciation and amortisation included within total acquisition costs and other expenditure was as follows: Other interest expense Depreciation and amortisation
B2.1 Staff and employment costs The average number of staff employed by the Group during the year was: Business operations: Asia 15,477 15,439
The PCA LTIP provides eligible employees with conditional awards. Awards are discretionary and on a year‑by‑year basis determined by Prudential’s full year financial results and the employee’s contribution to the business. Awards vest after three years subject to the employee being in employment. Vesting of awards may also be subject to performance conditions. All awards are made in Prudential shares, or ADRs, except for countries where share awards are not feasible due to securities and/or tax reasons, where awards will be replaced by the cash value of the shares that would otherwise have vested.
The Company operates a number of deferred bonus schemes including the Group Deferred Bonus Plan (GDBP), the Prudential Corporation Asia Deferred Bonus Plan (PCA DBP), the Prudential Capital Deferred Bonus Plan (PruCap DBP) and other arrangements. There are no performance conditions attached to deferred share awards made under these arrangements.
Employees and eligible agents in a number of geographies are eligible for plans similar to the HMRC‑approved Save As You Earn (SAYE) share option scheme in the UK. Eligible employees participate in the international savings‑related share option scheme while eligible agents based in certain regions of Asia can participate in the non‑employee savings‑related share option scheme.
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The weighted average share price of Prudential plc for the year ended 31 December 2017 was £17.51 compared to £13.56 for the year ended 31 December 2016.
(c) Fair value of options and awards The fair value amounts estimated on the date of grant relating to all options and awards, were determined by using the following assumptions: Prudential LTIP/RSP (TSR)
The compensation costs for all awards and options are recognised in net income over the plans’ respective vesting periods. The Group uses the Black‑Scholes model to value all options and awards other than those which have TSR performance conditions attached (some Prudential LTIP and RSP awards) for which the Group uses a Monte Carlo model in order to allow for the impact of these conditions. These models are used to calculate fair values for share options and awards at the grant date based on the quoted market price of the stock at the measurement date, the amount, if any, that the employees are required to pay, the dividend yield, expected volatility, risk‑free interest rates and exercise prices.
For all options and awards, the expected volatility is based on the market implied volatilities as quoted on Bloomberg. The Prudential specific at‑the‑money implied volatilities are adjusted to allow for the different terms and discounted exercise price on SAYE options by using information on the volatility surface of the FTSE 100.
Risk‑free interest rates are taken from government bond spot rates with projections for two‑year, three‑year and five‑year terms to match corresponding vesting periods. Dividend yields are determined as the average yield over a period of 12 months up to and including the date of grant. For awards with a TSR condition, volatilities and correlations between Prudential and a basket of 15 competitor companies is required. For grants in 2017, the average volatility for the basket of competitors was 22.93 per cent. Correlations for the basket are calculated for each pairing from the log of daily TSR returns for the three years prior to the valuation date. Market implied volatilities are used for both Prudential and the basket of competitors. Changes to the subjective input assumptions could materially affect the fair value estimate.
(d) Share-based payment expense charged to the income statement Total expense recognised in the year in the consolidated financial statements relating to share‑based compensation is as follows: Share‑based compensation expense 158 126 Amount accounted for as equity‑settled 158 127
The group has no liabilities outstanding at the year‑end relating to awards which are settled in cash.
Fees payable to the Company’s auditor for the audit of the Company’s annual accounts 2.1 2.0 Fees payable to the Company’s auditor and its associates for other services: Audit of subsidiaries pursuant to legislation 8.3 7.5 Audit‑related assurance services 4.3 3.9 Tax compliance services – 0.1 Other assurance services 1.5 2.1 Services relating to corporate finance transactions 0.4 – All other services 0.7 0.6
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(c) UK and Europe insurance operations Annuity business Allowance for credit risk For IFRS reporting, the results for UK shareholder‑backed annuity business are particularly sensitive to the allowances made for credit risk. The allowance is reflected in the deduction from the valuation rate of interest for discounting projected future annuity payments to policyholders that would have otherwise applied. The credit risk allowance comprises an amount for long‑term best estimate defaults and additional provisions for credit risk premium, the cost of downgrades and short‑term defaults.
The IFRS credit risk allowance made for the UK shareholder‑backed fixed and linked annuity business equated to 42 basis points at 31 December 2017 (2016: 43 basis points). The allowance represented 28 per cent of the bond spread over swap rates (2016: 26 per cent).
The reserves for credit risk allowance at 31 December 2017 for the UK shareholder‑backed business were £1.6 billion (2016: £1.7 billion).
Other assumption changes For the shareholder‑backed business, in addition to the movement in the credit risk allowance discussed above, the net effect of routine changes to assumptions in 2017, was a credit of £173 million (2016: credit of £16 million). This included, amongst other items, a benefit to IFRS operating profit based on longer‑term investment returns of £204 million, relating to changes to annuitant mortality assumptions primarily reflecting the adoption of the Continuous Mortality Investigation (CMI) 2015 model. Further information on changes to mortality assumptions is given in note C4.1(d).
Of this amount £31 million related to profit from an additional longevity reinsurance transactions covering £0.5 billion of annuity liabilities on an IFRS basis, with the balance of £245 million reflecting the effect of repositioning the fixed income portfolio and other actions.
The contribution to profit from similar longevity reinsurance and other management actions in 2016 was £332 million (of which £197 million related to longevity reinsurance transactions covering £5.4 billion of IFRS annuity liabilities).
On 22 December 2017, a significant US tax reform package, the Tax Cuts and Jobs Act, was enacted into law effective from 1 January 2018. The tax reform package as a whole, which includes a reduction in the corporate income tax rate from 35 per cent to 21 per cent, and a number of specific measures affecting US life insurers, is expected to be beneficial in the longer term. However in 2017 the changes have had an adverse impact on the tax charge attributable to shareholders in the Group’s US operations and a benefit to policyholders in the with‑profits fund of the UK and Europe operations, due to the requirement to remeasure deferred tax balances at the new 21 per cent rate. The 2017 impacts on the Group’s income statement and on other comprehensive income of the US tax changes are set out below and the impact on the balance sheet are set out in note C8.
Attributable to shareholders: Tax charge attributable to shareholders’ returns (288) (618) (906) (354)
Attributable to policyholders: Tax charge attributable to policyholders’ returns (408) (266) (674) (937)
The principal reason for the increase in the tax charge attributable to shareholders’ returns is a £445 million deferred tax charge arising on the remeasurement of the US net deferred tax assets from 35 per cent to 21 per cent. The principal reason for the decrease in the tax charge attributable to policyholders’ returns is a smaller increase in deferred tax liabilities on unrealised gains on investments in the with‑profits fund of UK and Europe compared to 2016, combined with a £92 million credit following the remeasurement of US net deferred tax liabilities in the same with‑profits fund.
The total tax charge comprises: Current tax expense: Corporation tax (746) (1,464) Adjustments in respect of prior years 50 87
Deferred tax arising from: Origination and reversal of temporary differences (531) 64 Impact of changes in local statutory tax rates (353) 6 Credit in respect of a previously unrecognised tax loss, tax credit or temporary difference from a prior period – 16
The current tax charge of £696 million (2016: £1,377 million) includes £59 million (2016: £53 million) in respect of the tax charge for the Hong Kong operation. The Hong Kong current tax charge is calculated as 16.5 per cent for all periods on either (i) 5 per cent of the net insurance premium or (ii) the estimated assessable profits, depending on the nature of the business written.
The total deferred tax (charge) credit arises as follows: Short‑term temporary differences (526) 573 Unrealised gains and losses on investments (185) (437) Balances relating to investment and insurance contracts (156) (90) Unused tax losses (12) 36 Capital allowances (5) 4
Operating profit (loss) based on longer‑term investment returns 1,975 2,224 1,378 (878) 4,699
Tax at the expected rate 426 267 259 (163) 789 23.9% Effects of recurring tax reconciliation items: Income not taxable or taxable at concessionary rates (64) (11) (2) (14) (91) (2.8%)
Deductions not allowable for tax purposes 26 6 13 10 55 1.7% Items related to taxation of life insurance
Total actual tax charge (credit) 253 508 267 (122) 906 27.4%
Tax on non‑operating profit (23) (40) (1) (1) (65) Actual tax rate: Operating profit based on longer‑term investment returns: Including non‑recurring tax reconciling
Items related to taxation of life insurance businesses The £92 million reconciling item in Asia operations reflects where the basis of tax is not the accounting profits, primarily in: — Hong Kong where the taxable profit is based on the net insurance premiums; and — Indonesia and Philippines where investment income is subject to withholding tax at source and no further corporation tax.
It is higher than the 2016 adjustment of £20 million due to a larger proportion of profits attributable to Hong Kong. The £238 million (full year 2016: £159 million) reconciling item in US operations reflects the impact of the dividend received deduction on the taxation of profits from variable annuity business. US tax reform changes effective from 1 January 2018 are expected to reduce the level of this deduction from 2018 onwards.
Irrecoverable withholding taxes The £54 million adverse reconciling items reflects withholding taxes on dividends paid by certain non‑UK subsidiaries, principally Indonesia, to the UK. The dividends are exempt from UK tax and consequently the withholding tax cannot be offset against UK tax payments.
Impact of US tax reform As noted earlier, the reduction in the US corporate income tax rate from 35 per cent to 21 per cent from 1 January 2018 was substantively enacted on 22 December 2017, giving rise to a £445 million unfavourable reconciling item in US operations relating to the remeasurement of the net deferred tax asset attributable to shareholders. Separately, a £134 million benefit has been recognised in other comprehensive income. Further detail on the impact of US tax reform is provided in note C8.
Tax on non‑operating profit (15) (533) 31 (23) (540) Actual tax rate: Operating profit based on longer‑term investment returns: Including non‑recurring tax
The 2016 expected and actual tax rates as shown include the impact of the re‑measurement loss on the held for sale Korea life business. The 2016 tax rates for Asia operations and Group, excluding the impact of the held for sale Korea life business are as follows: Asia operations
Expected tax rate on total profit 22% 24% Actual tax rate: Operating profit based on longer‑term investment returns 16% 21% Total profit 18% 14%
Short‑term fluctuations in investment returns on shareholder‑backed business B1.2 (1,563) 572 – (991) (38.6)p (38.6)p
Cumulative exchange gain on the sold Korea life business recycled from other comprehensive income D1 61 – – 61 2.4p 2.4p
Profit attaching to disposal of businesses D1 162 (82) – 80 3.1p 3.1p Impact of US tax reform B4 – (445) – (445) (17.3)p (17.3)p
Weighted average number of shares for calculation of: Basic earnings per share 2,567 2,560 Shares under option at end of year 6 7 Number of shares that would have been issued at fair value on assumed option price (5) (5)
Dividends relating to reporting year: First interim ordinary dividend 14.50p 375 12.93p 333 Second interim ordinary dividend 32.50p 841 30.57p 789
Dividends paid in reporting year: Current year first interim ordinary dividend 14.50p 373 12.93p 332 Second interim ordinary dividend for prior year 30.57p 786 26.47p 679 Special dividend – – 10.00p 256
The second interim ordinary dividend for the year ended 31 December 2017 of 32.50 pence per ordinary share will be paid on 18 May 2018 in sterling to shareholders on the principal register and the Irish branch register at 6.00pm BST on 3 April 2018 (Record Date), and in Hong Kong dollars to shareholders on the Hong Kong branch register at 4.30pm Hong Kong time on the Record Date (HK Shareholders). Holders of US American Depositary Receipts (US Shareholders) will be paid their dividends in US dollars on or about 25 May 2018. The second interim ordinary dividend will be paid on or about 25 May 2018 in Singapore dollars to shareholders with shares standing to the credit of their securities accounts with The Central Depository (Pte) Limited (CDP) at 5.00pm Singapore time on the Record Date (SG Shareholders). The dividend payable to the HK Shareholders will be translated using the exchange rate quoted by the WM Company at the close of business on 13 March 2018. The exchange rate at which the dividend payable to the SG Shareholders will be translated into Singapore dollars, will be determined by CDP.
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Deferred acquisition costs and other intangible assets C5(b) 2,540 8,219 210 42 – 11,011
Unallocated surplus of with‑profits funds C4.1 3,474 – 13,477 – – 16,951 Core structural borrowings of shareholder‑financed
Borrowings attributable to with‑profits operations C6.2 10 – 3,706 – – 3,716 Obligations under funding, securities lending and sale and
Net asset value attributable to unit holders of consolidated unit trusts and similar funds 3,631 – 5,243 15 – 8,889
Accruals deferred income and other liabilities note (iii) 6,069 5,109 6,609 1,597 (5,199) 14,185
Deferred acquisition costs and other intangible assets C5(b) 2,319 8,327 132 29 – 10,807
Reinsurers’ share of insurance contract liabilities 1,539 7,224 2,590 – (1,302) 10,051
Equity securities and portfolio holdings in unit trusts 23,599 120,747 54,177 29 – 198,552
Borrowings attributable to with‑profits operations C6.2 4 – 1,345 – – 1,349 Obligations under funding, securities lending and sale and
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Total Group debt represented by operational borrowings at Group level 1,085 1,651
(v) Unallocated to a segment includes central operations, Prudential Capital and Africa operations as per note B1.3.
Assets held for sale D1 – – – – – – – 3,863
Net asset value attributable to unit holders of consolidated unit trusts and similar funds 2,152 1,219 260 3,631 – – 3,631 3,093
Assets Goodwill – – – – – – 16 Deferred acquisition costs and other intangible
Accruals, deferred income and other liabilities – 4,728 4,728 457 (76) 5,109 4,920 * The 2016 comparative results have been re‑presented from those previously published following reassessment of the Group’s operating segments as described in note B1.3.
Assets held for sale note (ii) 38 – – 38 – – 38 726
Accruals deferred income and other liabilities 4,791 36 1,293 6,120 565 (76) 6,609 6,688
Liabilities held for sale note (ii) – – – – – – – 535 * The 2016 comparative results have been re‑presented from those previously published following reassessment of the Group’s operating segments as described in note B1.3.
(WPSF) mainly contains with‑profits business but it also contains some non‑profit business (unit‑linked, term assurances and annuities). The PAC with‑profits fund includes £10.6 billion (2016: £11.2 billion) of non‑profits annuities liabilities.
(ii) The assets and liabilities held for sale for the UK and Europe insurance operations comprise the investment properties and consolidated venture investments of the PAC with‑profits fund, for which the sales had been agreed but not yet completed at the year end.
(b) Fair value measurement hierarchy of Group assets and liabilities Assets and liabilities carried at fair value on the statement of financial position The table below shows the assets and liabilities carried at fair value analysed by level of the IFRS 13 ‘Fair Value Measurement’ defined fair value hierarchy. This hierarchy is based on the inputs to the fair value measurement and reflects the lowest level input that is significant to that measurement.
Equity securities and portfolio holdings in unit trusts 2,105 10 10 2,125
All assets and liabilities held at fair value are classified as fair value through profit or loss, except for £35,293 million (2016: £40,645 million) of debt securities classified as available‑for‑sale.
The Korea life business was classified as held for sale in 2016, with the sale completed in May 2017. The assets and liabilities held for sale on the consolidated statement of financial position at 31 December 2016 in respect of Korea life business included a net financial instruments balance of £3,200 million, primarily for equity securities and debt securities. Of this amount, £2,763 million was classified as level 1 and £437 million as level 2.
Borrowings attributable to the with‑profits funds – (1,761) (71) (1,832) (1,829) Obligations under funding, securities lending and sale and
Core structural borrowings of shareholder‑financed operations note (ii) – (7,220) – (7,220) (6,798) Operational borrowings attributable to shareholder‑financed
Borrowings attributable to the with‑profits funds – (1,220) (133) (1,353) (1,349) Obligations under funding, securities lending and sale and
Notes (i) The carrying value of loans and receivables are reported net of allowance for loan losses of £28 million (2016: £15 million). (ii) As at 31 December 2017, £312 million (2016: £306 million) of convertible bonds were included in debt securities and £1,311 million (2016: £1,455 million) were included in borrowings.
Total financial instruments at fair value 4,593 (402) (134) 3,245 (1,715) 1,326 (2,298) (80) (92) 4,443
Total financial instruments at fair value 4,108 320 402 1,058 (1,186) 361 (214) 138 (394) 4,593
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Valuation approach for level 3 fair valued assets and liabilities Financial instruments at fair value Investments valued using valuation techniques include financial investments which by their nature do not have an externally quoted price based on regular trades, and financial investments for which markets are no longer active as a result of market conditions eg market illiquidity. The valuation techniques used include comparison to recent arm’s length transactions, reference to other instruments that are substantially the same, discounted cash flow analysis, option adjusted spread models and, if applicable, enterprise valuation. These techniques may include a number of assumptions relating to variables such as credit risk and interest rates. Changes in assumptions relating to these variables could positively or negatively impact the reported fair value of these instruments. When determining the inputs into the valuation techniques used priority is given to publicly available prices from independent sources when available, but overall the source of pricing is chosen with the objective of arriving at a fair value measurement that reflects the price at which an orderly transaction would take place between market participants on the measurement date.
At 31 December 2017, the Group held £4,443 million (2016: £4,593 million) of net financial instruments at fair value within level 3. This represents 1 per cent (2016: 1 per cent) of the total fair valued financial assets net of fair valued financial liabilities.
The net financial instruments at fair value within level 3 at 31 December 2017 include £1,983 million of loans and a corresponding £1,887 million of borrowings held by a subsidiary of the Group’s UK with‑profits fund, attaching to a portfolio of buy‑to‑let mortgages and other loans financed largely by external third‑party (non‑recourse) borrowings (see note C3.3(c) for further details). The Group’s exposure is limited to the investment held by the UK with‑profits fund, rather than to the individual loans and borrowings themselves. The fair value movements of these loans and borrowings have no effect on shareholders’ profit and equity. The most significant non‑observable inputs to the mortgage fair value are the level of future defaults and prepayments by the mortgage holders.
Also included within these amounts are loans of £2,512 million at 31 December 2017 (2016: £2,672 million), measured as the loan outstanding balance, plus accrued investment income, attached to REALIC and held to back the liabilities for funds withheld under reinsurance arrangements. The funds withheld liability of £2,664 million at 31 December 2017 (2016: £2,851 million) is also classified within level 3, accounted for on a fair value basis being equivalent to the carrying value of the underlying assets.
Excluding the loans and funds withheld liability under REALIC’s reinsurance arrangements as described above, which amounted to a net liability of £(152) million (2016: £(179) million), the level 3 fair valued financial assets net of financial liabilities are £4,595 million (2016: £4,772 million). Of this amount, a net asset of £117 million (2016: net asset of £72 million) is internally valued, representing less than 0.1 per cent of the total fair valued financial assets net of financial liabilities (2016: less than 0.1 per cent). Internal valuations are inherently more subjective than external valuations. Included within these internally valued net asset/liability are: (a) Debt securities of £500 million (2016: £422 million), which are either valued on a discounted cash flow method with an internally developed discount rate or on external prices adjusted to reflect the specific known conditions relating to these securities (eg distressed securities or securities which were being restructured).
(c) Equity release mortgage loans of £366 million (2016: £276 million classified as level 2) which are valued internally using the discounted cash flow models. The inputs that are significant to the valuation of these investments are primarily the economic assumptions, being the discount rate (risk‑free rate plus a liquidity premium) and property values. See below for the explanation of the transfer of these investments from level 2 into level 3 during the year.
Of the internally valued net asset referred to above of £117 million (2016: net asset of £72 million): (a) A net asset of £67 million (2016: £315 million) is held by the Group’s participating funds and therefore shareholders’ profit and equity are not impacted by movements in the valuation of these financial instruments.
Other assets at fair value – investment properties The investment properties of the Group are principally held by the UK and Europe insurance operations that are externally valued by professionally qualified external valuers using the Royal Institution of Chartered Surveyors (RICS) valuation standards. An ‘income capitalisation’ technique is predominantly applied for these properties. This technique calculates the value through the yield and rental value depending on factors such as the lease length, building quality, covenant and location. The variables used are compared to recent transactions with similar features to those of the Group’s investment properties. As the comparisons are not with properties that are virtually identical to the Group’s investment properties, adjustments are made by the valuers where appropriate to the variables used. Changes in assumptions relating to these variables could positively or negatively impact the reported fair value of the properties.
In addition, in 2017, the transfers into level 3 were a net liability of £(80) million and the transfers out of level 3 were £92 million. The transfers into level 3 include a transfer from level 2 of a net liability of £(83) million relating to the equity release mortgage loans of £302 million and a corresponding liability of £(385) million held by the UK insurance operations that are carried at fair value through profit or loss. During 2017, the assumptions used within the discounted cash flow model used to value these loans were refined to reflect developing market practice, including consideration of the Prudential Regulation Authority’s industry‑wide review in this area and resulting guidance. This refinement incorporates inputs relevant to determining the discount rate that are not market observable. As a result, the loans were reclassified as level 3. There was no material difference in the fair value of these loans recognised in 2017, arising from this change in the valuation model.
C3.2 Debt securities This note provides analysis of the Group’s debt securities, including asset‑backed securities and sovereign debt securities.
AAA AA+ to AA- A+ to A- BBB+ to BBB- Below BBB- Other Total
Government bonds 25 63 Corporate bonds – rated as investment grade by local external ratings agencies 959 757
US Implicit ratings of other US debt securities based on NAIC* valuations
* The Securities Valuation Office of the NAIC classifies debt securities into six quality categories ranging from Class 1 (the highest) to Class 6 (the lowest). Performing securities are designated as Classes 1 to 5 and securities in or near default are designated Class 6.
AAA to A‑ 7,994 6,939 BBB to B‑ 3,141 3,257 Below B‑ or unrated 2,436 2,079
In addition to the debt securities shown above, the assets held for sale on the consolidated statement of financial position at 31 December 2016 in respect of Korea life business included a debt securities balance of £652 million.
Corporate and government security and commercial loans: Publicly traded and SEC Rule 144A securities* 22,849 25,992 Non‑SEC Rule 144A securities 4,468 4,576
Total US debt securities† 35,378 40,745 * A 1990 SEC rule that facilitates the resale of privately placed securities under Rule 144A that are without SEC registration to qualified institutional investors. The rule was designed to develop a more liquid and efficient institutional resale market for unregistered securities.
† Debt securities for US operations included in the statement of financial position comprise: Available‑for‑sale 35,293 40,645 Fair value through profit or loss: Securities held to back liabilities for funds withheld under reinsurance arrangement 85 100
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Reflected as part of movement in other comprehensive income £m £m £m
Assets fair valued at below book value Book value* 6,325 14,617
Fair value (as included in statement of financial position) 6,219 13,942
Assets fair valued at or above book value Book value* 27,763 25,352
Fair value (as included in statement of financial position) 29,074 26,703
Total Book value* 34,088 39,969 Net unrealised gain (loss) 1,205 (88) 617 676
Fair value (as included in the footnote above in the overview table and the statement of financial position) 35,293 40,645 * Book value represents cost/amortised cost of the debt securities. † Translated at the average rate of US$1.2889: £1.00.
More than 10 years (39) (510) Mortgage‑backed and other debt securities (19) (40)
With-profits operations Asia operations note (i) 233 357 UK and Europe operations (2017: 58% AAA, 10% AA) note (iii) 5,658 5,177
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Notes (i) Asia operations The Asia operations’ exposure to asset‑backed securities is primarily held by the with‑profits operations. Of the £233 million, 98 per cent (2016: 99 per cent) are investment grade. (ii) US operations US operations’ exposure to asset‑backed securities at 31 December comprises: RMBS Sub‑prime (2017: 2% AAA, 4% AA, 3% A) 112 180
CDO funds (2017: 49% AA, 31% A), including £nil exposure to sub‑prime 28 50 Other ABS (2017: 21% AAA, 14% AA, 50% A), including £96 million exposure to sub‑prime 941 1,005
business With-profits funds * Including bonds guaranteed by the federal government. † The exposure to the United States sovereign debt comprises holdings of the US, UK and Europe and Asia insurance operations.
(g) Impairment of US available-for-sale debt securities and other financial assets In accordance with the Group’s accounting policy set out in note A3.1, impairment reviews were performed for available‑for‑sale securities and loans and receivables.
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Jackson’s portfolio of debt securities is managed proactively with credit analysts closely monitoring and reporting on the credit quality of its holdings. Jackson continues to review its investments on a case‑by‑case basis to determine whether any decline in fair value represents an impairment. In addition, investments in structured securities are subject to a rigorous review of their future estimated cash flows, including expected and stress case scenarios, to identify potential shortfalls in contractual payments (both interest and principal). Impairment charges are recorded on structured securities when the Company forecasts a contractual payment shortfall. Situations where such a shortfall would not lead to a recognition of a loss are rare. However, some structured securities do not have a single determined set of future cash flows and instead, there can be a reasonable range of estimates that could potentially emerge. With this variability, there could be instances where the projected cash flow shortfall under management’s base case set of assumptions is so minor that relatively small and justifiable changes to the base case assumptions would eliminate the need for an impairment loss to be recognised. The impairment loss reflects the difference between the fair value and book value.
C3.3 Loans portfolio (a) Overview of loans portfolio Loans are accounted for at amortised cost net of impairment except for: — Certain mortgage loans which have been designated at fair value through profit or loss of the UK and Europe insurance operations as this loan portfolio is managed and evaluated on a fair value basis; and
The amounts included in the statement of financial position are analysed as follows: Mortgage loans*
UK and Europe * All mortgage loans are secured by properties. † In the US £2,512 million (2016: £2,672 million) policy loans are backing liabilities for funds withheld under reinsurance arrangements and are accounted for at fair value through profit or loss. All other policy loans are accounted for at amortised cost, less any impairment.
By carrying value, 99.98 per cent of the £1,681 million (2016: 96.29 per cent of £1,642 million) mortgage loans held by the UK shareholder‑backed business relates to lifetime (equity release) mortgage business which has an average loan to property value of 31 per cent (2016: 30 per cent).
(d) Loans held by other operations These relate to loans and receivables managed by Prudential Capital. These assets are generally secured but most have no external credit ratings. Internal ratings prepared by the Group’s asset management operations, as part of the risk management process, are: Loans and receivables internal ratings: AA+ to AA‑ 14 29 A+ to A‑ – 100 BBB+ to BBB‑ – 248 BB+ to BB‑ 95 185 B and other – 1
Borrowings attributable to with‑profits funds C6.2 3,716 905 922 32 29 29 1,810 104 3,831
Accruals, deferred income and other liabilities 13,825 9,873 320 61 80 103 322 3,272 14,031
Of the total loans and receivables held, £23 million (2016: £27 million) are past their due date but are not impaired. Of the total past due but not impaired, £17 million are less than one year past their due date (2016: £20 million). The Group expects full recovery of these loans and receivables.
Financial assets that would have been past due or impaired had the terms not been renegotiated amounted to £22 million (2016: £27 million).
In addition, during 2017 and 2016 the Group did not take possession of any other collateral held as security. Further details of collateral and pledges are provided in note C3.4(c) below.
(iii) Foreign exchange risk As at 31 December 2017, the Group held 24 per cent (2016: 23 per cent) and 16 per cent (2016: 12 per cent) of its financial assets and financial liabilities respectively, in currencies, mainly US dollar and Euro, other than the functional currency of the relevant business unit.
Of these financial assets, 52 per cent (2016: 52 per cent) are held by the PAC with‑profits fund, allowing the fund to obtain exposure to foreign equity markets.
Of these financial liabilities, 28 per cent (2016: 28 per cent) are held by the PAC with‑profits fund, mainly relating to foreign currency borrowings.
The exchange risks inherent in these exposures are mitigated through the use of derivatives, mainly forward currency contracts (note C3.4(b) below).
Under Article 11 of the European Market Infrastructure Regulation on derivatives, central counterparties and trade repositories (‘EMIR’) and Commission Delegated Regulation (EU) 2016/2251 supplementing EMIR, market participants transacting in non‑cleared OTC derivatives are required to exchange collateral to cover variation and initial margin. However, trades between counterparties belonging to the same group are exempt from these margin requirements subject to certain criteria.
Prudential Capital plc (Legal Entity Identifier reference (‘LEI’) CHW8NHK268SFPTV63Z64) has entered into such derivative agreements with the following five entities in the Group. These counterparty pairings meet the criteria to be eligible for intra‑group exemptions to the margin requirements and have been approved by the Financial Conduct Authority: Counterparty Legal Entity Identifier (LEI) Relationship between parties Type of exemption
Derivatives are used for efficient portfolio management to obtain cost effective and efficient management of exposure to various markets in accordance with the Group’s investment strategies and to manage exposure to interest rate, currency, credit and other business risks. The Group also uses interest rate derivatives to reduce exposure to interest rate volatility. In particular: — UK with‑profits funds use derivatives for efficient portfolio management or reduction in investment risks. For UK annuity business derivatives are used to assist with asset and liability cash flow matching; — US operations and some of the UK and Europe operations hold large amounts of interest‑rate sensitive investments that contain credit risks on which a certain level of defaults is expected. These businesses have purchased some swaptions to manage the default risk on certain underlying assets and hence reduce the amount of regulatory capital held to support the assets; and
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Reclassification of Korea life business as held for sale* (2,812) – – (2,812) Net flows: Shareholders' transfers post‑tax (44) – (215) (259) Investment‑related items and other movements 2,005 5,690 18,626 26,321 Foreign exchange translation differences 9,075 27,825 527 37,427
Comprising: – Policyholder liabilities on the consolidated statement of financial position§ 53,716 177,626 157,654 388,996 – Unallocated surplus of with-profits funds on the consolidated statement of financial position 2,667 – 11,650 14,317 – Group's share of policyholder liabilities of joint ventures and associate‡ 6,401 – – 6,401
Net flows: Shareholders' transfers post‑tax (54) – (233) (287) Investment‑related items and other movements 8,182 16,251 11,146 35,579 Foreign exchange translation differences (3,948) (16,290) 113 (20,125)
* The reclassification of Korea life business as held for sale reflects the value of policyholder liabilities held at 1 January 2016. No other amounts are shown within the 2016 analysis above in respect of Korea.
§ The policyholder liabilities of the Asia insurance operations of £62,898 million (2016: £53,716 million), shown in the table above, is after deducting the intra‑group reinsurance liabilities ceded by the UK and Europe insurance operations of £1,235 million (2016: £1,302 million) to the Hong Kong with‑profits business. Including this amount, total Asia policyholder liabilities are £64,133 million (2016: £55,018 million).
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The analysis includes the impact of premiums, claims and investment movements on policyholders’ liabilities. The impact does not represent premiums, claims and investment movements as reported in the income statement. For example, the premiums shown above will exclude any deductions for fees/charges. Claims (surrenders, maturities and deaths) represent the policyholder liabilities provision released rather than the claim amount paid to the policyholder.
Reclassification of Korea life business as held for sale* (2,812) – – (2,812) Net flows: Investment‑related items and other movements 1,116 5,690 6,980 13,786 Foreign exchange translation differences 4,617 27,825 – 32,442
Comprising: – Policyholder liabilities on the consolidated statement of financial position 26,450 177,626 56,158 260,234 – Group's share of policyholder liabilities relating to joint ventures and associate 6,401 – – 6,401 Net flows: Investment‑related items and other movements 3,797 16,251 2,930 22,978 Foreign exchange translation differences (1,547) (16,290) – (17,837)
(excludes £32 million classified as unallocated to a segment) 29,935 180,724 56,367 267,026 – Group's share of policyholder liabilities relating to joint ventures * The reclassification of Korea life business as held for sale reflects the value of policyholder liabilities held at 1 January 2016. No other amounts are shown within the 2016 analysis above in respect of Korea.
The Group cedes certain business to other insurance companies. Although the ceding of insurance does not relieve the Group from its liability to its policyholders, the Group participates in such agreements for the purpose of managing its loss exposure. The Group evaluates the financial condition of its reinsurers and monitors concentration of credit risk from similar geographic regions, activities or economic characteristics of the reinsurers to minimise its exposure from reinsurer insolvencies. Of the reinsurers’ share of insurance contract liabilities balance of £9,673 million at 31 December 2017 (2016: £10,051 million), 80 per cent (2016: 85 per cent) were ceded by the Group’s UK and Europe and US operations, of which 96 per cent (2016: 96 per cent) of the balance were from reinsurers with Standard & Poor’s rating A‑ and above.
The reinsurance asset for Jackson as shown in the table above primarily relates to certain fully collateralised former REALIC business retained by Swiss Re through 100 per cent reinsurance agreements. Apart from the reinsurance of REALIC business, the principal reinsurance ceded by Jackson outside the Group is on term‑life insurance, direct and assumed accident and health business and GMIB variable annuity guarantees. Net commissions received on ceded business and claims incurred ceded to external reinsurers totalled £28 million and £526 million respectively during 2017 (2016: £38 million and £500 million respectively). There were no deferred gains or losses on reinsurance contracts in either 2017 or 2016.
Shareholders' transfers post‑tax (44) – – (44) Investment‑related items and other movements 889 621 495 2,005 Foreign exchange translation differences note (a) 4,458 2,458 2,159 9,075
Comprising: – Policyholder liabilities on the consolidated statement of financial position 27,266 14,289 12,161 53,716 – Unallocated surplus of with-profits funds on the consolidated statement of financial position 2,667 – – 2,667 – Group’s share of policyholder liabilities relating to joint ventures and
Comprising: – Policyholder liabilities on the consolidated statement of financial position§ 32,963 16,263 13,672 62,898 – Unallocated surplus of with-profits funds on the consolidated statement of financial position 3,474 – – 3,474 – Group’s share of policyholder liabilities relating to joint ventures and
C Balance sheet notes continued * The reclassification of Korea life business as held for sale reflects the value of policyholder liabilities held at 1 January 2016. No other amounts are shown within the 2016 analysis above in respect of Korea.
† Averages have been based on opening and closing balances and adjusted for acquisitions and disposals in the year and exclude unallocated surplus of with‑profits funds. ‡ The Group’s investment in joint ventures and associate are accounted for on an equity method basis and the Group’s share of the policyholder liabilities as shown above relate to the life businesses in China, India and of the Takaful business in Malaysia.
(c) US insurance operations (i) Analysis of movements in policyholder liabilities A reconciliation of the total policyholder liabilities of US insurance operations from the beginning of the year to the end of the year is as follows: US insurance operations
Net flows note (b) 4,393 805 5,198 Transfers from general to separate account 1,164 (1,164) – Investment‑related items and other movements 5,246 444 5,690 Foreign exchange translation differences note (a) 18,586 9,239 27,825
Net flows note (b) 3,506 (369) 3,137 Transfers from general to separate account 2,096 (2,096) – Investment‑related items and other movements note (c) 15,956 295 16,251 Foreign exchange translation differences note (a) (11,441) (4,849) (16,290)
Notes (a) Movements in the year have been translated at an average rate of US$1.29/£1.00 (2016: US$1.35/£1.00). The closing balances have been translated at closing rate of
Expected maturity: (iii) Aggregate account values The table below shows the distribution of account values for fixed annuities (fixed interest rate and fixed index), the fixed account portion of variable annuities, and interest‑sensitive life business within the range of minimum guaranteed interest rates as described in note C4.2(b) as at 31 December 2017 and 2016: Minimum guaranteed interest rate
(d) UK and Europe insurance operations (i) Analysis of movements in policyholder liabilities and unallocated surplus of with-profits funds A reconciliation of the total policyholder liabilities and unallocated surplus of with‑profits funds of UK and Europe insurance operations from the beginning of the year to the end of the year is as follows: With-profits sub-funds†
Investment‑related items and other movements 11,798 2,770 4,058 18,626 Foreign exchange translation differences 527 – – 527
Investment‑related items and other movements note (b) 8,408 1,865 873 11,146 Foreign exchange translation differences 113 – – 113
(b) Investment‑related items and other movements of £11,146 million principally comprise investment return attributable to policyholders earned in the period reflecting favourable equity market movements.
— Benefit payments do not reflect the pattern of bonuses and shareholder transfers in respect of the with‑profits business. — Shareholder‑backed annuity business includes the ex‑PRIL and the legacy PAC shareholder annuity business. — Investment contracts under ‘Other’ comprise certain unit‑linked and similar contracts accounted for under IAS 39 and IAS 18. — For business with no maturity term included within the contracts; for example, with‑profits investment bonds such as Prudence Bonds, an assumption is made as to likely duration based on prior experience.
New mortality projection models are released regularly by the Continuous Mortality Investigation (CMI). The CMI 2015 model was used to produce the 2017 results and the CMI 2014 model was used to produce the 2016 results, calibrated to reflect the Company’s view of future mortality improvements. The tables and range of percentages used are summarised in the table below: CMI Model, with calibration to reflect future mortality improvements 2017 CMI 2015 For males: with a long-term improvement rate of 2.25% pa For females: with a long-term improvement rate of 2.00% pa 2016 CMI 2014 For males: with a long‑term improvement rate of 2.25% pa*
* In 2016, for both males and females, the initial rates of mortality improvement in the CMI model 2014 were uplifted by 0.25 per cent per annum.
With‑profits contracts are predominantly sold in Hong Kong, Malaysia and Singapore. The total value of the with‑profits funds is driven by the underlying asset valuation with movements reflected principally in the accounting value of policyholder liabilities and unallocated surplus.
In Taiwan and India, US GAAP is applied for measuring insurance assets and liabilities. The other Asia operations principally adopt a gross premium valuation method.
Non‑participating savings and/or protection where the benefits are guaranteed, or determined by a set of defined market‑related parameters.
These products often offer a guaranteed maturity and surrender value. It is common in Asia for regulations or market‑driven demand and competition to provide some form of capital value protection and minimum crediting interest rate guarantees. This is reflected within the guaranteed maturity and surrender values. Guarantees are borne by shareholders.
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Health and protection features are offered as supplements to the products listed above or sold as stand‑alone products. Protection covers mortality or morbidity benefits including health, disability, critical illness and accident coverage.
The determination of the liabilities of health and protection contracts are driven by the local solvency basis. A gross premium valuation method is used in those countries where a risk‑based capital framework is adopted for local solvency. Under the gross premium valuation method, all cash flows are valued explicitly using best estimate assumptions with a suitable margin for prudence. This is achieved either through adding an explicit allowance for assumptions to deviate from best estimate or by applying an overlay constraint so that no negative reserves (ie where future premium inflows are expected to exceed prudent future claims and outflows) are derived at an individual policyholder level or a combination of both.
Fixed interest rate annuities are primarily deferred annuity products that are used for asset accumulation in retirement planning and for providing income in retirement. At 31 December 2017, fixed interest rate annuities accounted for 7 per cent (2016: 8 per cent) of policy and contract liabilities of Jackson.
Guaranteed minimum interest rate. At 31 December 2017, Jackson had fixed interest rate annuities totalling £12.6 billion (2016: £14.2 billion) in account value with minimum guaranteed rates ranging from 1.0 per cent to 5.5 per cent and a 2.93 per cent average guaranteed rate (2016: 1.0 per cent to 5.5 per cent and a 2.96 per cent average guaranteed rate).
With minor exceptions the following is applied to most of Jackson’s contracts. Contracts are accounted for as investment contracts as defined for US GAAP purposes by applying a retrospective deposit method to determine the liability for policyholder benefits.
Approximately 60 per cent (2016: 62 per cent) of the fixed interest rate annuities Jackson wrote in 2017 provide for a (positive or negative) market value adjustment (MVA) on surrender. This formula‑based adjustment approximates the change in value that assets supporting the product would realise as interest rates move.
This is then augmented by: — Any amounts that have been assessed to compensate the insurer for services to be performed over future periods (ie deferred income); — Any amounts previously assessed against policyholders that are refundable on termination of the contract; and
The present value of the estimated gross profits is computed using the rate of interest that accrues to policyholder balances (sometimes referred to as the contract rate).
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Jackson hedges the equity return risk on fixed index products using offsetting equity exposure in the variable annuity product. The cost of hedging is taken into account in setting the index participation rates or caps.
Minimum guaranteed rates on fixed interest accounts range from 1.0 per cent to 3.0 per cent and a 2.58 per cent average guaranteed rate (2016: 1.0 per cent to 3.0 per cent and a 2.55 per cent average guaranteed rate).
Variable annuities are deferred annuities that have the same tax advantages and payout options as fixed interest rate and fixed index annuities. They are also used for asset accumulation in retirement planning and to provide income in retirement. At 31 December 2017, variable annuities accounted for 77 per cent (2016: 74 per cent) of Jackson’s policy and contract liabilities.
Jackson offers a choice of guaranteed benefit options within its variable annuity product portfolio, which can be elected for additional fees. These guaranteed benefits might be expressed as the return of either: (a) total deposits made to the contract adjusted for any partial withdrawals, (b) total deposits made to the contract adjusted for any partial withdrawals, plus a minimum return, or (c) the highest contract value on a specified anniversary date adjusted for any withdrawals following that contract anniversary.
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The benefit guarantee types are set out below: Benefits that are payable in the event of death (guaranteed minimum death benefit).
Benefits that are payable upon the depletion of funds (guaranteed minimum withdrawal benefit).
The liability for the Guaranteed Minimum Withdrawal Benefit (GMWB) ‘for life’ portion is determined similarly to GMDB above.
Guaranteed Minimum Withdrawal Benefit ‘not for life’ features are treated as embedded derivatives under US GAAP. Therefore, provisions for these benefits are recognised at fair value.
This feature is no longer offered and existing coverage is substantially reinsured, subject to deductibles and annual claim limits.
The direct Guaranteed Minimum Income Benefit (GMIB) liability is determined by estimating the expected value of the annuitisation benefits in excess of the projected account balance at the date of annuitisation and recognising the excess ratably over the life of the contract based on total expected assessments.
Guaranteed Minimum Accumulation Benefit (GMAB) are treated as embedded derivatives under US GAAP. Therefore, provisions for these benefits are recognised at fair value. Volatility and non‑performance risk is considered as per GMWB above.
Life products include term life, traditional life and interest‑sensitive life (universal life and variable universal life). Life insurance products accounted for 9 per cent (2016: 10 per cent) of Jackson’s policy and contract liabilities at 31 December 2017. Jackson discontinued new sales of life insurance products in 2012.
Term life provides protection for a defined period and a benefit that is payable to a designated beneficiary upon death of the insured.
Traditional life provides protection for either a defined period or until a stated age and includes a predetermined cash value.
For term and traditional life insurance contracts, provisions for future policy benefits are determined under US GAAP using the net level premium method and assumptions as of the issue date as to mortality, interest, policy lapses and expenses plus provisions for adverse deviation for directly sold business and assumptions at purchase for acquired business.
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Institutional products are classified as investment contracts, and are accounted for as financial liabilities. The currency risk on contracts that represent currency obligations other than US dollars are hedged using cross‑currency swaps.
The rates of final bonus usually vary by type of policy and by reference to the period, usually a year, in which the policy commences or each premium is paid. These rates are determined by reference to the asset shares for the sample policies but subject to the smoothing approach as explained below.
The provisions have been determined on a basis consistent with the detailed methodology included in regulations contained in the PRA’s previously issued rules for the determination of reserves on the PRA’s ‘realistic’ Peak 2 basis. Though no longer in force for regulatory purposes, these rules continue to be applied to determine with‑profits contract liabilities in accordance with IFRS 4. In aggregate, the regime has the effect of placing a value on the liabilities of UK with‑profits contracts, which reflects the amounts expected to be paid based on the current value of investments held by the with‑profits funds and current circumstances. These contracts are a combination of insurance and investment contracts with discretionary participation features, as defined by IFRS 4.
The PRA’s Peak 2 calculation under the realistic regime requirement is explained further in note A3.1 under the UK regulated with‑profits section.
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The Group’s main exposure to guaranteed annuities in the UK is through SAIF and a provision of £503 million was held in SAIF at 31 December 2017 (2016: £571 million) to honour the guarantees. As SAIF is a separate sub‑fund solely for the benefit of policyholders of SAIF, this provision has no impact on the financial position of the Group’s shareholders’ equity.
The process of determining policyholder liabilities of SAIF is similar to that for the with‑profits policies of the WPSF.
Annuity liabilities are calculated as the expected future value of future annuity payments and expenses discounted by a valuation interest rate.
Key assumptions include: Mortality The mortality assumptions are set in light of recent population and internal experience. The assumptions used are adjusted percentages of standard actuarial mortality tables with an allowance for future mortality improvements, the effect of anti‑ selection and characteristics specific to each individual policyholder. Where annuities have been sold on an enhanced basis to impaired lives an additional age adjustment is made.
New mortality projection models are released annually by the Continuous Mortality Investigation (CMI). The CMI 2015 model was used to produce the 2017 results calibrated to reflect an appropriate view of future mortality improvements.
For annuities in payment, the mortality tables used are set out in C4.1(d)(iii).
Inflation-linked Provide for a regular annuity payment to which an additional amount is added periodically based on the increase in the UK RPI.
Valuation interest rates Valuation interest rates used to discount the liabilities are based on the yields as at the valuation date on the assets backing the technical provisions. For fixed interest securities the internal rate of return of the assets backing the liabilities is used. Properties are valued using the lower of the rental yield and the redemption yield, and for equities it is the greater of the dividend yield and the average of the dividend yield and the earnings yield. An adjustment is made to the yield on non‑risk‑free fixed interest securities and property to reflect credit risk.
Credit risk For IFRS reporting, the results for UK shareholder‑backed annuity business are particularly sensitive to the allowances made for credit risk on fixed interest securities. Further details on credit risk allowance are provided in note B3(c).
There are no guaranteed maturity values or guaranteed annuity options on unit‑linked policies except for minor amounts for certain policies linked to cash units within SAIF.
To calculate the non‑unit reserves for linked business, assumptions have been set for the gross unit growth rate and the rate of inflation of maintenance expenses, as well as for the valuation interest rate.
Prudential’s approach, in applying significant judgement and discretion in relation to determining bonus rates, is consistent conceptually with the approach adopted by other firms that manage a with‑profits business and is also consistent with the requirements of the Principles and Practices of Financial Management (PPFM) that are applied in the management of their with‑profits funds.
In accordance with industry‑wide regulatory requirements, the PAC Board has appointed: — A Chief Actuary who provides the PAC Board with all actuarial advice; — A With‑Profits Actuary whose specific duty is to advise the PAC Board on the reasonableness and proportionality of the manner in which its discretion has been exercised in applying the Principles and Practices of Financial Management and the manner in which any conflicting interests have been addressed; and
The degree of smoothing is illustrated numerically by comparing in the following table the relatively ‘smoothed’ level of policyholder bonuses declared as part of the surplus for distribution, with the more volatile movement in investment return and other items of income and expenditure of the UK component of the PAC with‑profits fund for each year presented.
Net income of the fund: Investment return 9,985 13,185 Claims incurred (8,449) (7,410) Movement in policyholder liabilities (10,011) (11,824) Add back policyholder bonuses for the year (as shown below) 2,071 1,934 Claims incurred and movement in policyholder liabilities
Net income of the fund before movement in unallocated surplus 4,073 3,318 Movement in unallocated surplus (1,769) (1,169)
Cost At beginning of year 1,475 153 1,628 1,648 Disposals/reclassifications to held for sale (16) (139) (155) (56) Additional consideration paid on previously acquired business – 9 9 7
Assessment of whether goodwill may be impaired Goodwill is tested for impairment by comparing the cash‑generating units’ carrying amount, including any goodwill, with its recoverable amount.
Total of deferred acquisition costs and other intangible assets 11,011 10,807
The deferred acquisition costs and other intangible assets attributable to shareholders comprise: Deferred acquisition costs related to insurance contracts as classified under IFRS 4 9,170 9,114 Deferred acquisition costs related to investment management contracts, including life assurance contracts classified as financial instruments and investment management contracts under IFRS 4 63 64
Total of deferred acquisition costs and other intangible assets 10,866 10,755
Total DAC for US operations 8,197 8,303 * Consequent upon the positive unrealised valuation movement in 2017 of £617 million (2016: negative unrealised valuation movement of £28 million), there is a loss of £76 million (2016: a gain of £76 million) for altered shadow DAC amortisation booked within other comprehensive income. These adjustments reflect movement from period to period, in the changes to the pattern of reported gross profits that would have occurred if the assets reflected in the statement of financial position had been sold, crystallising the unrealised gains and losses, and the proceeds reinvested at the yields currently available in the market. At 31 December 2017, the cumulative shadow DAC balance as shown in the table above was negative £289 million (2016: negative £237 million).
Sensitivity of amortisation charge The amortisation charge to the income statement is reflected in both operating profit and short‑term fluctuations in investment returns. The amortisation charge to the operating profit in a reporting period comprises: (i) A core amount that reflects a relatively stable proportion of underlying premiums or profit; and (ii) An element of acceleration or deceleration arising from market movements differing from expectations.
In periods where the cap and floor feature of the mean reversion technique (which is used for moderating the effect of short‑term volatility in investment returns) are not relevant, the technique operates to dampen the second element above. Nevertheless, extreme market movements can cause material acceleration or deceleration of amortisation in spite of this dampening effect.
In 2017, the DAC amortisation charge for operating profit was determined after including a credit for decelerated amortisation of £86 million (2016: credit for decelerated amortisation of £93 million). The 2017 amount primarily reflects the impact of the positive separate account performance, which is higher than the assumed level for the year.
The application of the mean reversion formula, (described in note A3.1) has the effect of dampening the impact of equity market movements on DAC amortisation while the mean reversion assumption lies within the corridor. In 2018, it would take approximate movements in separate account values of more than either negative 32 per cent or positive 37 per cent for the mean reversion assumption to move outside the corridor.
Deferred acquisition costs and other intangible assets attributable to with-profits funds Other intangible assets in the Group consolidated statement of financial position attributable to with‑profits funds consist of: Deferred acquisition costs related to insurance contracts attributable to the PAC with‑profits fund – 2 Computer software and other intangibles attributable to with‑profits funds 145 50
(i) Deferred acquisition costs related to insurance and investment contracts The movements in deferred acquisition costs relating to insurance and investment contracts are as follows: Insurance contracts
Exchange differences (791) – 1,408 – Disposals and transfers – – (251) – Change in shadow DAC related to movement in unrealised appreciation of Jackson’s securities classified as available‑for‑sale (76) – 76 –
Comprising: Notes (i) All of the PVIF balances relate to insurance contracts. The PVIF attaching to investment contracts have been fully amortised. Amortisation is charged over the period of provision of asset management services as those profits emerge.
US$1,000m 6.5% Notes (Tier 2) note (v) – 809 US$250m 6.75% Notes (Tier 1) note (vi) 185 202 US$300m 6.5% Notes (Tier 1) note (vi) 222 243
Holding company total 5,821 6,321 Prudential Capital bank loan note (iii) 275 275 Jackson US$250m 8.15% Surplus Notes 2027 note (viii) 184 202
(iv) In October 2017, the Company issued core structural borrowings of US$750 million 4.875 per cent Tier 2 perpetual subordinated notes. The proceeds, net of costs, were £565 million.
Prudential preference shares. (vii) The ¤20 million borrowings were issued at 20‑year Euro Constant Maturity Swap (capped at 6.5 per cent). These have been swapped into borrowings of £14 million with interest payable at three‑month GBP LIBOR plus 1.2 per cent. (viii) Jackson’s borrowings are unsecured and subordinated to all present and future indebtedness, policy claims and other creditor claims of Jackson.
Prudential Assurance Co. Singapore (Pte) Ltd.’s (Prudential Singapore) financial strength is rated AA by Standard & Poor’s. All ratings on Prudential and its subsidiaries have been reaffirmed on stable outlook. All ratings stated as at 13 March 2018.
Bank loans and overdrafts 70 19 Obligations under finance leases 5 5 Other borrowings 631 642
Non‑recourse borrowings of consolidated investment funds* 3,570 1,189 £100m 8.5% undated subordinated guaranteed bonds of Scottish Amicable Finance plc† 100 100 Other borrowings (predominantly obligations under finance leases) 46 60 * In all instances the holders of the debt instruments issued by these subsidiaries and funds do not have recourse beyond the assets of these subsidiaries and funds. The increase since 31 December 2016 primarily relates to the debt instruments issued by new consolidated securitisation entities backed by a portfolio of mortgage loans (see note C3.3(c) for further details).
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SAIF sub‑fund Net neutral direct exposure (indirect exposure only) Asset management fees earned
Interest rate risk for assets in excess of liabilities ie assets representing shareholder capital
Detailed analyses of sensitivity of IFRS basis profit or loss and shareholders’ equity to key market and other risks by business unit are provided in notes C7.2, C7.3, C7.4 and C7.5. The sensitivity analyses provided show the effect on profit or loss and shareholders’ equity to changes in the relevant risk variables, all of which are reasonably possible at the relevant balance sheet date. In the equity risk sensitivity analysis shown below, the Group has considered the impact of an instantaneous 20 per cent fall in equity markets. If equity markets were to fall by more than 20 per cent, the Group believes that this would not be an instantaneous fall but rather would be expected to occur over a period of time during which the Group would be able to put mitigating management actions in place. In addition, the equity risk sensitivity analysis provided assumed that all equity indices fall by the same percentage.
Other limitations on the sensitivities include: the use of hypothetical market movements to demonstrate potential risk that only represent Prudential’s view of reasonably possible near‑term market changes and that cannot be predicted with any certainty; the assumption that interest rates in all countries move identically; the assumption that all global currencies move in tandem with the US dollar against pound sterling; and the lack of consideration of the inter‑relation of interest rates, equity markets and foreign currency exchange rates.
C7.2 Asia insurance operations Exposure and sensitivity of IFRS basis profit and shareholders’ equity to market and other risks The Asia operations sell with‑profits and unit‑linked policies, and the investment portfolio of the with‑profits funds contains a proportion of equities. Non‑participating business is largely backed by debt securities or deposits. The Group’s exposure to market risk arising from its Asia operations is therefore at modest levels. This reflects the fact that the Asia operations have a balanced portfolio of with‑profits, unit‑linked and other types of business.
In summary, for Asia operations, the operating profit based on longer‑term investment returns is mainly affected by the impact of market levels on unit‑linked persistency, and other insurance risks. At the total IFRS profit level the Asia result is affected by short‑term value movements on the asset portfolio for non‑linked shareholder‑backed business.
For the purposes of analysing sensitivity to variations in interest rates, reference has been made to the movements in the 10‑year government bond rates of the territories. At 31 December 2017, 10‑year government bond rates vary from territory to territory and range from 1.0 per cent to 7.5 per cent (2016: 1.2 per cent to 8.1 per cent).
Profit before tax attributable to shareholders 2 (443) 213 (509) Related deferred tax (where applicable) (7) 20 (41) 62
Net effect on profit and shareholders’ equity (5) (423) 172 (447)
The estimated sensitivity to a 10 per cent and 20 per cent change in equity and property prices for shareholder‑backed Asia other business (including those held by the Group’s joint venture and associate businesses), which would be reflected in the short‑term fluctuation component of the Group’s segmental analysis of profit before tax, at 31 December 2017 and 2016 is as follows: Decrease Decrease of 20% of 10% of 20% of 10%
Insurance risk Many of the business units in Asia are exposed to mortality/morbidity risk and provision is made within policyholder liabilities on a prudent regulatory basis to cover the potential exposure. If these prudent assumptions were strengthened by 5 per cent then it is estimated that post‑tax profit and shareholders’ equity would be decreased by approximately £66 million (2016: £61 million). Mortality and morbidity have a symmetrical effect on the portfolio and any weakening of these assumptions would have a similar equal and opposite impact.
A 10 per cent increase (strengthening of the pound sterling) or decrease (weakening of the pound sterling) in these rates would have reduced or increased profit before tax attributable to shareholders, profit for the year and shareholders’ equity, excluding goodwill attributable to Asia insurance operations respectively as follows: A 10% increase in local currency to £ exchange rates
C7.3 US insurance operations Exposure and sensitivity of IFRS basis profit and shareholders’ equity to market and other risks Jackson’s reported operating profit based on longer‑term investment returns is sensitive to market conditions, both with respect to income earned on spread‑based products and indirectly with respect to income earned on variable annuity asset management fees. Jackson’s main exposures to market risk are to interest rate risk and equity risk.
Equity risk — Related to the incidence of benefits related to guarantees issued in connection with its variable annuity contracts; and
— The risk of mismatch between the expected duration of certain annuity liabilities and prepayment risk and extension risk inherent in mortgage‑backed securities.
Jackson uses free‑standing derivative instruments for hedging purposes. Additionally, certain liabilities, primarily trust instruments supported by funding agreements, fixed index annuities, certain variable annuity guaranteed benefit features and reinsured Guaranteed Minimum Income Benefit variable annuity features are similar to derivatives. Jackson does not account for such items as either fair value or cash flow hedges as might be permitted if the specific hedge documentation requirements of IAS 39 were followed. Financial derivatives, including derivatives embedded in certain host liabilities that have been separated for accounting and financial reporting purposes are carried at fair value.
Interest rate swaps These generally involve the exchange of fixed and floating payments over the period for which Jackson holds the instrument without an exchange of the underlying principal amount. These agreements are used to hedge Jackson’s exposure to movements in interest rates.
Cross‑currency swaps Cross‑currency swaps, which embody spot and forward currency swaps and additionally, in some cases, interest rate swaps and equity index swaps, are entered into for the purpose of hedging Jackson’s foreign currency denominated funding agreements supporting trust instrument obligations.
Credit default swaps These swaps represent agreements under which Jackson has purchased default protection on certain underlying corporate bonds held in its portfolio. These contracts allow Jackson to sell the protected bonds at par value to the counterparty if a default event occurs in exchange for periodic payments made by Jackson for the life of the agreement. Jackson does not write default protection using credit derivatives.
C Balance sheet notes continued i Sensitivity to equity risk At 31 December 2017 and 2016, Jackson had variable annuity contracts with guarantees, for which the net amount at risk (NAR) is defined as the amount of guaranteed benefit in excess of current account value, as follows: Minimum return
Combination net deposits plus minimum return, highest specified anniversary account value minus withdrawals post‑anniversary * Amounts shown for GMWB comprise sums for the ‘not for life’ portion (where the guaranteed withdrawal base less the account value equals to the net amount at risk (NAR)), and a ‘for life’ portion (where the NAR has been estimated as the present value of future expected benefit payment remaining after the amount of the ‘not for life’ guaranteed benefits is zero).
† Ranges shown based on simple interest. The upper limits of 5 per cent or 8 per cent simple interest are approximately equal to 4.1 per cent and 6 per cent respectively, on a compound interest basis over a typical 10‑year bonus period. For example 1 + 10 x 0.05 is similar to 1.04 growing at a compound rate of 4 per cent for a further nine years.
As noted above, Jackson is exposed to equity risk through the options embedded in the fixed index annuity liabilities and guarantees included in certain variable annuity benefits as illustrated above. This risk is managed using an equity hedging programme to minimise the risk of a significant economic impact as a result of increases or decreases in equity market levels while taking advantage of naturally offsetting exposures in Jackson’s operations. Jackson purchases futures and options that hedge the risks inherent in these products, while also considering the impact of rising and falling guaranteed benefit fees.
Due to the nature and the valuation under IFRS of the free‑standing derivatives and the variable annuity guarantee features, this hedge, while highly effective on an economic basis, would not be completely mute in the financial reporting as the immediate impact of equity market movements reset the free‑standing derivatives immediately while the hedged liabilities reset more slowly and fees are recognised prospectively in the period in which they are earned.
At 31 December 2017, the estimated sensitivity of Jackson’s profit and shareholders’ equity to immediate increases and decreases in equity markets is shown below. The sensitivities are shown net of related changes in DAC amortisation.
Pre‑tax profit, net of related changes in amortisation of DAC 1,107 336 619 262 1,061 488 370 59
The directional movements in the sensitivities reflect the hedging programme in place at 31 December 2017 and 2016.
Related effect on charge for deferred tax 857 401 (288) (532) 1,015 488 (373) (701)
C7.4 UK and Europe insurance operations Exposure and sensitivity of IFRS basis profit and shareholders’ equity to market and other risks The IFRS basis results of the UK and Europe insurance operations are most sensitive to the following factors: — Asset/liability matching; — Default rate experience; — Mortality; — Longevity assumptions; and — The difference between the return on corporate bond and risk‑free rate for shareholder‑backed annuity business of The Prudential Assurance Company Limited.
Further details are described below. The IFRS operating profit based on longer‑term investment returns for UK and Europe insurance operations is sensitive to changes in longevity assumptions affecting the carrying value of liabilities to policyholders for UK shareholder‑backed annuity business. At the total IFRS profit level, the result is particularly sensitive to temporary value movements on assets backing the capital of the shareholder‑ backed annuity business.
With-profits business With-profits sub-fund business The shareholder results of the UK with‑profits business (including non‑participating annuity business of the with‑profits sub‑fund) are only sensitive to market risk through the indirect effect of investment performance on declared policyholder bonuses.
The investment assets of PAC with‑profits funds are subject to market risk. Changes in their carrying value, net of related changes to asset‑share liabilities of with‑profits contracts, affect the level of unallocated surplus of the fund. Therefore, the level of unallocated surplus is particularly sensitive to the level of investment returns on the portion of the assets that represents surplus. However, as unallocated surplus is accounted for as a liability under IFRS, movements in its value do not affect shareholders’ profit and equity.
Sensitivity to interest rate risk and other market risk By virtue of the fund structure, product features and basis of accounting, the policyholder liabilities of the UK and Europe insurance operations are, except annuity business, not generally exposed to interest rate risk. At 31 December 2017 annuity liabilities accounted for 98 per cent (2016: 98 per cent) of UK shareholder‑backed business liabilities. For annuity business, liabilities are exposed to interest rate risk. However, the net exposure substantially ameliorated by virtue of the close matching of assets with appropriate duration. The level of matching from period to period can vary depending on management actions and economic factors so it is possible for a degree of mis‑matching profits or losses to arise.
The estimated sensitivity of the UK non‑linked shareholder‑backed business (principally annuities business) to a movement in interest rates is as follows: A decrease of 2%
Net sensitivity of profit after tax and shareholders’ equity 3,413 1,341 (1,026) (1,898) 1,934 865 (740) (1,393)
In addition the shareholder‑backed portfolio of UK non‑linked insurance operations (covering policyholder liabilities and shareholders’ equity) includes equity securities and investment properties. Excluding any offsetting effects on the measurement of policyholder liabilities, a fall in their value would have given rise to the following effects on pre‑tax profit, profit after tax and shareholders’ equity.
Net sensitivity of profit after tax and shareholders’ equity (275) (138) (260) (130)
A 10 per cent increase in the relevant exchange rates (strengthening of the pound sterling) would have reduced reported profit before tax attributable to shareholders, and shareholders’ equity excluding goodwill attributable to Eastspring Investments and US asset management operations, by £30 million and £53 million respectively (2016: £12 million and £47 million, respectively).
ii Sensitivities to other financial risks for asset management operations The profits of asset management businesses are sensitive to the level of assets under management, as this significantly affects the value of management fees earned by the business in the current and future periods. The Group’s asset management operations do not hold significant investments in property or equities.
Other operations are sensitive to credit risk on the bridging loan portfolio of the Prudential Capital operation. Total debt securities held at 31 December 2017 by Prudential Capital were £2,238 million (2016: £2,359 million). Debt securities held by Prudential Capital are in general variable rate bonds and so market value is limited in sensitivity to interest rate movements and consequently any change in interest rates would not have a material impact on profit or shareholders’ equity.
Deferred tax assets Unrealised losses or gains on investments 23 (8) – (1) 14 Balances relating to investment and insurance contracts 1 – – – 1
Deferred tax liabilities Unrealised losses or gains on investments (1,534) (177) (55) 18 (1,748) Balances relating to investment and insurance contracts (730) (156) – 14 (872)
Of the short‑term temporary differences of £2,532 million relating to deferred tax assets, £1,799 million relating to the US insurance operations is expected to be recovered in line with the run off of the in‑force book, and the remaining balances of the £733 million are expected to be recovered within 10 years.
(a) Background and summary economic and IAS 19 financial positions The Group’s businesses operate a number of pension schemes. The specific features of these schemes vary in accordance with the regulations of the country in which the employees are located, although they are, in general, funded by the Group and based either on a cash balance formula or on years of service and salary earned in the last year or years of employment. The largest defined benefit scheme is the principal UK scheme, namely the Prudential Staff Pension Scheme (PSPS). PSPS accounts for 82 per cent (2016: 82 per cent) of the underlying scheme liabilities of the Group’s defined benefit schemes.
Economic surplus (deficit) (including investment in Prudential insurance policies) note (iii) 236 (137) 109 (1) 207 159 (237) 84 (1) 5
Notes (i) No deficit or other funding is required for PSPS. Deficit funding, where applicable, is apportioned in the ratio of 70/30 between the PAC with‑profits fund and shareholder‑backed operations following detailed considerations in 2005 of the sourcing of previous contributions. Employer contributions for ongoing service of current employees are apportioned in the ratio relevant to current activity.
(ii) The deficit of SASPS has been allocated 40 per cent to the PAC with‑profits fund and 60 per cent to the shareholders’ fund as at 31 December 2017 and 2016. (iii) The underlying position on an economic basis reflects the assets (including investments in Prudential insurance policies that are offset against liabilities to policyholders on the
The information on the latest completed actuarial valuation for the UK schemes is shown in the table below: PSPS SASPS M&GGPS
Funding level at the last valuation 107 per cent 75 per cent 99 per cent
Deficit funding arrangement agreed with the Trustees based on the last completed valuation
Deficit funding of £26 million per annum from 1 April 2017 until 31 March 2027, or earlier if the scheme’s funding level reaches 100 per cent before this date. The deficit funding will be reviewed every three years at subsequent valuations
For PSPS, the market value of the scheme assets as at the 5 April 2014 valuation was £6,165 million. The actuarial assumptions used in determining benefit obligations and the net periodic benefit costs for the purposes of the 2014 valuation were as follows.
www.prudential.co.uk Annual Report 2017 Prudential plc 273 01 G roup overview 02 Strategic report 03 G
Corporate governance The Group’s UK pension schemes are established under trust and are subject to UK legal requirements; this includes being subject to regulation by ‘The Pension Regulator’ in accordance with the Pension Act 1995. Each scheme has a corporate trustee to which some directors are appointed by Group employers with the remaining directors nominated by members in accordance with UK legal requirements. The trustees have the ultimate responsibility to ensure that the scheme is managed in accordance with the Trust Deed & Rules. The trustees act in the best interests of the schemes beneficiaries; this includes taking appropriate account of each employer’s legal obligation and financial ability to support the schemes, when setting investment strategy and when agreeing funding with the employers. The employers’ contribution commitments are formally updated at each triennial valuation; between valuations funding levels and employer strength continue to be monitored with the Trustees being able to bring forward the next triennial valuation if they consider it appropriate to do so.
The Trustees of each of the schemes manage the investment strategy of the scheme to achieve an acceptable balance between investing in the assets that most closely match the expected benefit payments and assets that are expected to achieve a greater return in the hope of reducing the contributions required or providing additional benefits to members.
SASPS and M&GGPS use very limited or no derivatives to manage their risks. The risks arising from these schemes are managed through a diversified mix of investments. SASPS has invested in a mix of both return‑seeking assets, such as equities and property and matching assets including a leveraged liability driven investment portfolio to reflect the liability profile of the scheme. A portion of the M&GGPS assets is invested in index‑linked gilts and leveraged index‑linked gilts as part of its asset liability management. The mix of the investments is kept under review by the Trustees of the respective schemes.
(b) Assumptions The actuarial assumptions used in determining benefit obligations and the net periodic benefit costs for the years ended 31 December were as follows: Discount rate* 2.5 2.6 Rate of increase in salaries 3.1 3.2 Rate of inflation†
Retail prices index (RPI) 3.1 3.2 Consumer prices index (CPI) 2.1 2.2
Rate of increase of pensions in payment for inflation: PSPS: Other schemes 3.1 3.2 * The discount rate has been determined by reference to an ‘AA’ corporate bond index, adjusted where applicable to allow for the difference in duration between the index and the pension liabilities.
† The rate of inflation reflects the long‑term assumption for UK RPI or CPI depending on the tranche of the schemes.
This section illustrates the financial position of the Group’s defined benefit pension schemes on an economic basis and the IAS 19 basis. The underlying pension position on an economic basis reflects the assets (including investments in Prudential policies that are offset against liabilities to policyholders on the Group consolidation) and the liabilities of the schemes. The IAS 19 basis excludes the investments in Prudential policies. At 31 December 2017, M&GGPS held investments in Prudential insurance policies of £151 million (2016: £134 million).
Movements on the pension scheme surplus determined on the economic basis are as follows, with the effect of the application of IFRIC 14 being shown separately: 2017 £m
Less: amount attributable to PAC with‑profits fund 409 10 (56) – 363
With the effect of IFRIC 14 Surplus (deficit) 5 (54) 206 50 207 Less: amount attributable to PAC with‑profits fund (16) 20 (95) (19) (110)
www.prudential.co.uk Annual Report 2017 Prudential plc 275 01 G roup overview 02 Strategic report 03 G
The losses of £1,733 million in 2016 on change in financial assumptions primarily reflect the effect of the decrease in the discount rate used in determining the scheme liabilities from 3.8 per cent in 2015 to 2.6 per cent in 2016. These 2016 losses were partially offset by the increase in the return on the scheme assets, which was greater than the amount included in interest income by £1,203 million.
(d) Sensitivity of the pension scheme liabilities to key variables The sensitivity information below is based on the core scheme liabilities and assumptions at the balance sheet date. The sensitivities are calculated based on a change in one assumption with all other assumptions being held constant. As such, interdependencies between the assumptions are excluded. The impact of the rate of inflation assumption sensitivity includes the impact of inflation on the rate of increase in salaries and rate of increase of pensions in payment.
The sensitivities of the underlying pension scheme liabilities as shown below do not directly equate to the impact on the profit or loss attributable to shareholders or shareholders’ equity due to the effect of the application of IFRIC 14 on PSPS and the allocation of a share of the interest in the financial position of PSPS and SASPS to the PAC with‑profits fund as described above.
Discount rate 2.5% 2.6% Increase by 0.2% Decrease in scheme liabilities by: Other schemes 4.9% 5.0%
Transactions by Prudential plc and its subsidiaries in Prudential plc shares The Group buys and sells Prudential plc shares (‘own shares’) either in relation to its employee share schemes or via transactions undertaken by authorised investment funds that the Group is deemed to control. The cost of own shares of £250 million as at 31 December 2017 (2016: £226 million) is deducted from retained earnings. The Company has established trusts to facilitate the delivery of shares under employee incentive plans. At 31 December 2017, 11.4 million (2016: 10.7 million) Prudential plc shares with a market value of £218 million (2016: £175 million) were held in such trusts all of which are for employee incentive plans. The maximum number of shares held during 2017 was 15.1 million which was in March 2017.
The Group has consolidated a number of authorised investment funds where it is deemed to control these funds under IFRS. Some of these funds hold shares in Prudential plc. The total number of shares held by these funds at 31 December 2017 was 6.4 million (2016: 6.0 million) and the cost of acquiring these shares of £71 million (2016: £61 million) is included in the cost of own shares. The market value of these shares as at 31 December 2017 was £121 million (2016: £97 million). During 2017, these funds made net acquisitions of 372,029 Prudential shares (2016: net disposals of 77,423) for a net increase of £9.4 million to book cost (2016: net increase of £7.9 million). All share transactions were made on an exchange other than the Stock Exchange of Hong Kong.
Provision in respect of defined benefit pension schemesC9 180 288 Other provisions (see below) 943 659
Analysis of other provisions: Charged to income statement: Additional provisions 542 381 Unused amounts released (9) (53)
Other provisions comprise staff benefits provisions of £453 million (2016: £415 million) that are generally expected to be paid out within the next three years, other provisions of £121 million (2016: £69 million) and a provision for review of past annuity sales after utilisation during the year of £369 million (2016: £175 million). Prudential has agreed with the Financial Conduct Authority (FCA) to review annuities sold without advice after 1 July 2008 to its contract‑based defined contribution pension customers. The review will examine whether customers were given sufficient information about their potential eligibility to purchase an enhanced annuity, either from Prudential or another pension provider. The FCA formally released its redress calculation methodology in early 2018 and accordingly Prudential reassessed the provision held to cover the costs of undertaking the review and any potential redress. At 31 December 2017, following this reassessment, the gross provision was increased to £400 million (2016: £175 million), excluding any utilisation during the year. The ultimate amount that will be expended by the Group on the review, which is currently expected to be completed in 2019, remains uncertain. Although the Group’s professional indemnity insurance is expected to mitigate the overall financial impact of this review, with potential insurance recoveries of up to £175 million, no such recovery has been factored into the provision, in accordance with the requirements of IAS 37 ‘Provisions, Contingent Liabilities and Contingent Assets’.
(a) Group objectives, policies and processes for managing capital (i) Capital measure The Group manages its Group Solvency II own funds as its measure of capital. At 31 December 2017 estimated Group Solvency II own funds are £26.4 billion (2016: £24.8 billion).
(ii) External capital requirements Solvency II is the Group’s consolidated capital regime. Solvency II is a risk‑based solvency framework required under the European Solvency II Directive as implemented by the Prudential Regulatory Authority in the UK. The Solvency II surplus represents the aggregated capital held by the Group less Solvency Capital Requirements.
(iii) Meeting of capital management objectives The Group Solvency Capital Requirement has been met during 2017.
As well as holding sufficient capital to meet Solvency II requirements at Group level, the Group also closely manages the cash it holds within its central holding companies so that it can: a) Maintain flexibility, fund new opportunities and absorb shock events; b) Fund dividends; and c) Cover central costs and debt payments.
Stochastic modelling of assets and liabilities is undertaken in the UK, US and Asia to assess the economic capital requirements. A stochastic approach models the inter‑relationship between asset and liability movements, taking into account asset correlation, management actions and policyholder behaviour under a large number of alternative economic scenarios.
In addition, reserve adequacy testing under a range of scenarios and dynamic solvency testing is carried out, including under certain scenarios mandated by the UK, US and Asia regulators.
(b) Local capital regulations (i) Asia insurance operations The estimated capital position for Asia life insurance operations with reconciliation to shareholders’ equity is shown below: IFRS shareholders' equity 5,524 4,992
Total available capital resources of life assurance businesses on local regulatory bases 9,894 7,922
Adjustments to regulatory basis Deferred acquisition costs, distribution rights and goodwill of non‑participating business not recognised for regulatory reporting (8,197) (8,303) Jackson surplus notes 184 202 Investment and policyholder liabilities valuation differences between IFRS and regulatory basis for Jackson 5,325 6,657 Other adjustments 818 535
Total available capital resources of life assurance businesses on local regulatory bases 3,143 4,295
In December 2017 a significant US tax reform package, The Tax Cuts and Jobs Act, was enacted into law effective from 1 January 2018. These reforms led to a £628 million reduction in the level of statutory net admitted deferred tax assets.
(iv) Asset management operations – regulatory and other surplus Certain asset management subsidiaries of the Group are subject to regulatory requirements. The movement in the year of the surplus regulatory capital position of those subsidiaries, combined with the movement in the IFRS basis shareholders’ funds for unregulated asset management operations, is as follows: Asset management operations
Movement in capital requirement (65) – (8) (73) (54) Capital injection – 6 – 6 – Distributions made to the parent company (322) – (111) (433) (387) Exchange and other movements – (19) (5) (24) 53
www.prudential.co.uk Annual Report 2017 Prudential plc 281 01 G roup overview 02 Strategic report 03 G
For Jackson, capital retention is maintained at a level consistent with an appropriate rating by Standard & Poor’s. Currently Jackson is rated AA. Jackson can pay dividends on its capital stock only out of earned surplus unless prior regulatory approval is obtained. Furthermore, dividends which exceed the greater of statutory net gain from operations less net realised investments losses for the prior year or 10 per cent of Jackson’s prior year end statutory surplus, excluding any increase arising from the application of permitted practices, require prior regulatory approval.
Available capital of the non‑insurance business units is transferable after taking account of an appropriate level of operating capital, based on local regulatory solvency targets, over and above base liabilities.
Tangible assets Of the £494 million (2016: £392 million) of tangible assets, £360 million (2016: £247 million) were held by the Group’s with‑profits operations, primarily by the consolidated subsidiaries for venture fund and other investment purposes of the PAC with‑profits fund.
Capital expenditure: property, plant and equipment by segment The capital expenditure of £117 million (2016: £333 million) arose as follows: £41 million in UK and Europe, £19 million in US and £55 million in Asia with the remaining balance of £2 million arising from unallocated corporate expenditure (2016: £251 million in UK and Europe, £18 million in US and £62 million in Asia with the remaining balance of £2 million arising from unallocated corporate expenditure).
Investment properties principally relate to the PAC with‑profits fund and are carried at fair value. A reconciliation of the carrying amount of investment properties at the beginning and end of the year is set out below: Additions: Resulting from property acquisitions 2,009 1,338 Resulting from expenditure capitalised 39 189
Net gain from fair value adjustments 415 273 Net foreign exchange differences (21) 97 Transfers to held for sale assets – (41)
The 2017 income statement includes rental income from investment properties of £876 million (2016: £781 million) and direct operating expenses including repairs and maintenance arising from these properties of £82 million (2016: £67 million).
Investment properties of £5,689 million (2016: £6,020 million) are held under finance leases. The present value of minimum lease payments under these leases is £43 million (2016: £49 million) and 73 per cent (2016: 76 per cent) of lease payments are due in over five years.
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On 15 August 2017, the Group, through its subsidiary National Planning Holdings, Inc. (NPH) sold its US independent broker‑dealer network to LPL Financial LLC. The initial consideration received was £252 million (US$325 million) resulting in a profit on disposal of £162 million (US$209 million) before tax and after costs and net losses that have been incurred in the year.
— Scottish Amicable Insurance sub‑fund – Policies within this sub‑fund (a with‑profits sub‑fund closed to new business) contain minimum levels of guaranteed benefit to policyholders. Should the assets of the sub‑fund be inadequate to meet the guaranteed benefit obligations of the policyholders of SAIF, the PAC with‑profits sub‑fund would be liable to cover any such deficiency in the first instance. In addition, certain pensions products within this sub‑fund have guaranteed annuity rates at retirement, for which a provision of £503 million was held within the sub‑fund (2016: £571 million).
Intra-group capital support arrangements Prudential and PAC have put in place intra‑group arrangements to formalise circumstances in which capital support would be made available by Prudential. While Prudential considers it unlikely that such support will be required, the arrangements are intended to provide additional comfort to PAC and its policyholders.
Dividends The second interim ordinary dividend for the year ended 31 December 2017, that was approved by the Board of Directors after 31 December 2017 is described in note B6.
Transactions between the Company and its subsidiaries are eliminated on consolidation. The Company has transactions and outstanding balances with certain unit trusts, Open‑Ended Investment Companies (OEICs), collateralised debt obligations and similar entities which are not consolidated and where a Group company acts as manager which are regarded as related parties for the purposes of IAS 24. The balances are included in the Group’s statement of financial position at fair value or amortised cost in accordance with their IAS 39 classifications. The transactions are included in the income statement and include amounts paid on issue of shares or units, amounts received on cancellation of shares or units and paid in respect of the periodic charge and administration fee. In addition, there are no material transactions between the Group’s joint ventures which are accounted for on an equity method basis and other Group companies.
Operating leases and capital commitments The Group leases various offices to conduct its business. Leases in which a significant portion of the risks and rewards of ownership are retained by the lessor are classified as operating leases. Payments made under operating leases (net of any incentives received from the lessor) are charged to the income statement on a straight‑line basis over the period of the lease.
Under UK company law, UK companies can only declare dividends if they have sufficient distributable reserves. Further, UK insurance companies are required to maintain solvency margins in accordance with the rules of the Prudential Regulation Authority. M&G Prudential’s asset management company, M&G Investment Management Limited, is also required to maintain capital in accordance with regulatory requirements before making any distribution to the parent company.
Jackson is subject to state laws that limit the dividends payable to its parent company based on statutory capital, surplus and prior year earnings. Dividends in excess of these limitations require prior regulatory approval.
The Group has various joint ventures relating to property investments held by the PAC with‑profits fund. The results of these joint ventures are reflected in the movement in the unallocated surplus of the PAC with‑profits funds and therefore do not affect shareholders’ results.
Share of profits from joint ventures and associates, net of related tax 94 54 – – 21 13 182 – 182
The joint ventures have no significant contingent liabilities or capital commitments to which the Group is exposed nor does the Group have any significant contingent liabilities or capital commitments in relation to its interests in the joint ventures.
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(c) Related undertakings In accordance with Section 409 of the Companies Act 2006 a list of Prudential Group’s subsidiaries, joint ventures, associates and significant holdings (being holdings of more than 20 per cent) along with the classes of shares held, the registered office address and the country of incorporation and the effective percentage of equity owned at 31 December 2017 is disclosed below.
ANRP II (AIV VI FC), LP LPI 36.58% Cayman Corporate Centre, 27 Hospital Road, George Town, KY‑9008, Cayman Islands
BOCHK Balanced Growth Fund OS 48.19% 12th Floor and 25th Floor, Citicorp Centre, 18 Whitfield Road, Causeway Bay, Hong Kong
BOCI ‑ Prudential Trustee Limited OS 36.00% 12th Floor and 25th Floor, Citicorp Centre, 18 Whitfield Road, Causeway Bay, Hong Kong
Brier Capital LLC OS 100.00% 1 Corporate Way, Lansing, MI 48951, USA
Brooke (Holdco 1) Inc OS 100.00% 1105 North Market Street, Suite 1300, Wilmington, DE 19801, USA
Brooke Holdings (UK) (In liquidation) OS 100.00% c/o Mazars LLP, 45 Church Street, Birmingham, B3 2RT, UK
Brooke Life Insurance Company OS 100.00% 1 Corporate Way, Lansing, MI 48951, USA
BWAT Retail Nominee (1) Limited OS 50.00% Laurence Pountney Hill, London, EC4R 0HH, UK
Calvin F1 GP Limited OS 100.00% 50 Lothian Road, Festival Square, Edinburgh, EH3 9WJ, UK
Canada Property Holdings Limited OS 100.00% Laurence Pountney Hill, London, EC4R 0HH, UK
Cardinal Distribution Park Management Limited OS 66.00% 5th Floor Cavendish House, 39 Waterloo Street, Birmingham, B2 5PP, UK
Carraway Guildford General Partner Limited OS 100.00% Laurence Pountney Hill, London, EC4R 0HH, UK
Carraway Guildford LP LPI 100.00% Lloyds Chambers, 1 Portsoken Street, London, E1 8HZ, UK
Central Square Leeds Limited (In liquidation) OS 100.00% c/o Mazars LLP, 45 Church Street, Birmingham, B3 2RT, UK
CEP IV‑A CWV AIV, LP LPI 31.95% 850 New Burton Road, Suite 201, Dover, DE 19904, USA
CF Prudential North American QIS Fund OS 98.33% 135 Bishopsgate, London, EC2M 3UR, UK
Digital Infrastructure Investment Partners GP LLP LPI 65.00% Laurence Pountney Hill, London, EC4R 0HH, UK
Eastspring Asset Management Korea Co. Ltd. OS 100.00% 15th Floor, Shinhan Investment Tower, 70 Yoidae‑ro, Youngdungpo‑gu, Seoul 07325, Korea
Eastspring Infrastructure Debt Fund L.P. PI 100.00% PO Box 309, Ugland House, Grand Cayman, KY1‑1104, Cayman Islands
Eastspring Investments ‑ Emerging Europe, Middle East and Africa Dynamic Fund OS 100.00%
Eastspring Investments ‑ Global Emerging Markets Customized Equity Fund OS 99.90%
Eastspring Investments ‑ Pan European Fund OS 56.25% 10 Marina Boulevard, #32‑01, Marina Bay Financial Centre, Singapore 018983
Eastspring Investments ‑ US Equity Income Fund OS 100.00% 26, Boulevard Royal, L‑2449, Luxembourg
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Eastspring Investments Asia Pacific Equity Fund OS 99.93% 26, Boulevard Royal, L‑2449, Luxembourg
Eastspring Investments Global Emerging Markets Bond Fund OS 94.59% 26, Boulevard Royal, L‑2449, Luxembourg
Eastspring Investments Global Multi Asset Income Plus Growth Fund OS 100.00%
Eastspring Investments Latin American Equity Fund OS 89.29% 26, Boulevard Royal, L‑2449, Luxembourg
Eastspring Investments Limited OS 100.00% Marunouchi Park Building, 6‑1 Marunouchi 2‑chome, Chiyoda‑Ku, Tokyo, Japan
Eastspring Investments North America Value Fund OS 99.97% 26, Boulevard Royal, L‑2449, Luxembourg
Eastspring Investments SICAV‑FIS – Alternative Investments Fund OS 100.00% 26, Boulevard Royal, L‑2449, Luxembourg
Eastspring Investments UT Singapore ASEAN Equity Fund OS 99.72% 10 Marina Boulevard, #32‑01, Marina Bay Financial Centre, Singapore 018983
Eastspring Investments World Value Equity Fund OS 88.41% 26, Boulevard Royal, L‑2449, Luxembourg
Eastspring Real Assets Partners OS 100.00% PO Box 309, Ugland House, Grand Cayman, KY1‑1104, Cayman Islands
Name of entity Classes of shares held Proportion held Registered office address and country of incorporation
Euro Salas Properties Limited (In liquidation) OS 100.00% c/o Mazars LLP, 90 St. Vincent Street, Glasgow, G2 5UB, UK
European Specialist Investment Funds – M&G Total Return Credit Investment Fund
Falan GP Limited OS 100.00% 50 Lothian Road, Festival Square, Edinburgh, EH3 9WJ, UK
First Dakota, Inc OS 50.00% 314 East Thayer Avenue, Bismarck, ND 58501, USA
Five Hotel Holding, LLC MI 100.00% 208 South LaSalle Street, Suite 814, Chicago, IL 60604, USA
Foudry Properties Limited OS 50.00% Clearwater Court, Vastern Road, Reading, RG1 8DB, UK
George Digital GP Limited OS 100.00% 50 Lothian Road, Festival Square, Edinburgh, EH3 9WJ, UK
Greenpark (Reading) General Partner Limited OS 100.00% Laurence Pountney Hill, London, EC4R 0HH, UK
Holborn Bars Nominees Limited OS 100.00% Laurence Pountney Hill, London, EC4R 0HH, UK
Holtwood Limited OS 100.00% International House, Castle Hill, Victoria Road, Douglas, IM2 4RB, Isle of Man
ICICI Prudential Life Insurance Company Limited OS 25.83% ICICI PruLife Towers, 1089 Appasaheb Marathe Marg, Prabhadevi, Mumbai 400025, India
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Infracapital Greenfield DF GP LLP LPI 100.00% 50 Lothian Road, Festival Square, Edinburgh, EH3 9WJ, UK