• EEV operating profit before tax up 6% to £933m (2007: £881m), generating a return on embedded value of 10.9% (2007: 11.5%) after making provision for customer payments to the Pension Sterling Fund
• Core capital and cash generation after tax £303m (2007: £334m)
• IFRS equity per share excluding intangible assets and minority interests of 151p (2007: 148p), with IFRS profit after tax attributable to equity holders of £100m (2007: £465m)
• Financial Groups Directive surplus of £3.3bn (2007: £3.4bn) after allowing for the payment of the final dividend
“Whilst we are pleased with this performance, our culture of continuous improvement is underlined by the next phase of efficiency savings we have set for the business today. A further £75m of annual savings are planned by the end of 2010 by driving further operational excellence, which also underpins our market-leading service to customers.
“With the outlook for world financial markets remaining difficult, we will continue to follow our proven conservative strategy, with a focus on driving efficiencies while pursuing growth to an extent consistent with the prevailing conditions and our limited appetite for capital exposure.”
Covered business by source New business contribution 264 345 In-force business expected return on existing business 431 401 experience variance 64 (48) assumption changes 195 148
Other covered (37) (6) Total covered business operating profit 917 840 Investment management 48 48
We report our RoEV under three components: core, efficiency and back book management.
Core EEV operating profit before tax was 13% lower at £685m (2007: £791m) delivering a core RoEV of 8.0% (2007: 10.2%). This has been principally driven by new business contribution, which was 23% lower at £264m (2007: £345m), due to reduced sales volumes and changes to our business mix against challenging markets. Our key new business metrics of internal rate of return (IRR) and discounted payback period were 16% (2007: 19%) and 8 years (2007: 8 years) respectively, the slight decrease in IRR having been driven by reduced asset values and product mix. The continued relative strength of these metrics reflects the benefit of our capital-lite approach.
We have continued to invest in our market leading SIPP and Wrap propositions in the UK and our fast growing Asian operations. This has led to an increase in development expenses and IFRS losses for our Asia Pacific operations, the impact of which has been partly offset by a further reduction in Group Corporate Centre costs to £50m (2007: £57m).
In February 2008 we reinsured £6.7bn of our UK immediate annuity liabilities to Canada Life International Re. This generated a one-off benefit to EEV operating profit before tax of £119m. Other positive factors within the back book management result include a £96m EEV profit from the release of deferred annuity reserves in the UK (2007: £191m5) following an ongoing review of annuity data, as well as experience variances and operating assumption changes in respect of tax, mortality and morbidity. Offsetting these positive factors, we have made modest revisions to lapse and paid up assumptions, relating to UK pension and Canadian products in light of more difficult economic conditions. In the UK, a strengthening of paid up assumptions reflects the decision of a number of customers to defer payment into their pension schemes during the current volatile market conditions, with assumptions regarding longer-term lapse trends remaining broadly unchanged. Overall, lapse-related experience variances and assumption changes have reduced embedded value operating profit by £39m.
Overall, operating capital and cash generation amounted to £423m (2007: £563m).
Normalised underlying profit excluding the impact of market volatility on Canadian surplus assets and reserves was £349m (2007: £432m). As highlighted in our Q4 2008 new business press release on 28 January, our IFRS profitability has been adversely affected by the weakness and volatility of investment markets during 2008. The impact of this volatility has been significant within our Canadian operations due to the way Canadian life companies typically structure non-segregated funds, with assets backing both policyholder liabilities and the shareholder surplus. Mark to market value adjustments in respect of surplus assets, coupled with reserve increases in respect of tax and guarantees have reduced Canadian normalised underlying profit by £187m compared with the prior year. Under EEV this volatility is treated as a non-operating item.
Including the impact of this volatility normalised underlying profit was £206m (2007: £476m). Within this, the UK life and pensions profit was £156m (2007: £122m). Other items impacting normalised underlying profit include bond impairments and defaults of £32m, lower management charges due to reduced asset values, and increased new business development costs incurred in respect of our growing Asian franchises.
The Financial Groups Directive (FGD) surplus of £3.5bn as at 31 December 2008 (31 December 2007: £3.6bn) has been largely insensitive to market movements, with a year end solvency cover of 218% (31 December 2007: 166%). The relative insensitivity of the FGD surplus reflects the unique structure of the Group post demutualisation as well as the impact of the hedges we have put in place. FGD solvency is largely insensitive to a further 30% fall in equity markets from the position at the end of December, with the surplus maintained at £3.3bn. In the event of a 40% fall in markets from the year end position our FGD surplus would remain strong at £2.9bn. At the end of February 2009 the FGD surplus was estimated to be £3.4bn. After allowing for the payment of the final dividend, our year end FGD surplus would be £3.3bn (2007: £3.4bn).
Shareholders are exposed to debt securities which back annuity liabilities in the UK and Europe and the liability in respect of longevity risk reinsured from the HWPF. These debt securities amount to £1.5bn and comprise £0.8bn of government and government backed bonds and £0.7bn of other corporate bonds. There were no defaults on the debt securities in this portfolio in 2008, however in light of the economic conditions the provision for future defaults within the valuation of liabilities has been increased to £40m (31 December 2007: £20m), representing a weighted average default assumption into perpetuity for corporate bonds of 87bps (31 December 2007: c37bps).
In these conditions Standard Life will continue to pursue a capital-lite strategy and to operate conservatively, ensuring that balance sheet strength and cash generation remain priorities.
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2. Excludes development costs directly related to back book management initiatives.
3. The only difference between IFRS normalised underlying profit and IFRS underlying profit for non-covered business arises within investment management. Fair value movements of assets brought directly on to the balance sheet following the restructuring of a sub-fund of Standard Life Investments (Global Liquidity Funds) plc, are included within IFRS underlying profit, but are excluded from IFRS normalised underlying profit.
5. In 2007 back book management profits included a £191m benefit from improved data modelling for UK deferred annuities.
6. The £108m charge to embedded value operating profit arising from the cash injection into the Pension Sterling Fund is the pre-tax equivalent of the £78m post-tax charge disclosed in our RNS dated 11 February 2009, grossed up at a rate of 28%.
7. In our Interim Management Statement released on 30 April 2008 we reported that the expected net of tax impact of the restructuring of a sub-fund of Standard Life Investments (Global Liquidity Funds) plc would be £37m. This represented the after tax effect of £62m restructuring costs less the £10m guarantee already provided for by Standard Life plc as at 31 December 2007. Since 30 April 2008 an additional £101m cost has been recognised representing the fair value movements for the period to 31 December 2008. The total cost to the Group of £163m has been recognised in our investment management business (£90m) and in our UK life and pensions business (£73m). Of the total cost of £163m, £124m has been reflected within the 2008 underlying IFRS result. The cash cost to the Group was £24m before tax (£17m after tax) with the balance of the cost being due to marked-to-market movements.
IFRS profit after tax attributable to equity holders £100m £465m (78%)
2 The new business PVNBP sales are different from those previously published in the full year new business press release issued on 28 January 2009, as they incorporate year end non-economic assumption changes.
Standard Life Insurance Company Limited as a whole to avoid distortion due to changes in the Group’s shareholding in the joint venture during 2007 and 2008. 4 Net of tax. 5 Based on draft regulatory returns.
Standard Life has produced a solid performance during 2008 despite the unprecedented market turbulence which has impacted the global financial services industry. We also witnessed unparalleled intervention by governments around the world to help support the global banking system and to protect savers and investors. These conditions have resulted in both a significant reduction in asset values and reduced consumer confidence. Our strategy and capital structure have resulted in a balance sheet that is both strong and resilient.
Financial performance Present value of new business premiums (PVNBP) decreased by 5% to £15,679m (2007: £16,539m). Despite lower sales and associated new business contribution (NBC), we achieved increased European Embedded Value (EEV) operating profits of £933m (2007: £881m) and a return on embedded value (RoEV) of 10.9% (2007: 11.5%). The increase in operating profit was due to strong gains from our management of the back book.
International Financial Reporting Standards (IFRS) underlying profit before tax fell by 78% to £154m (2007: £714m). Excluding significant one-off transactions in both years, IFRS normalised underlying profit before tax fell by 57% to £206m (2007: £476m). The reduction is primarily due to the weakness and volatility of investment markets during 2008. The impact of this volatility has been significant within our Canadian operations due to the way that Canadian life companies typically structure non-segregated funds, with assets backing both policyholder liabilities and the shareholder surplus. IFRS profit after tax attributable to equity holders fell by 78% to £100m (2007: £465m).
Cash generation has remained strong in volatile markets and although there was a reduction in operating profit capital and cash generation from £563m to £423m, this included the impact of the cash injection to the Pension Sterling Fund. Core capital and cash generation of £303m fell only £31m from 2007 levels, despite the volatile markets. New business strain (NBS) continued to be comfortably covered more than two times by capital and cash generation from existing business. We have continued our focus on selling capital-lite products, to generate profitable new business without committing high levels of capital. This strategy aims to deliver high returns on investment to support business growth.
The Board proposes a final dividend of 7.70p per share , making a total of 11.77p for 2008, an increase of 2.3%. This reflects the solid progress made during the year. Looking forward the Group will continue to apply its existing progressive dividend policy taking account of market conditions and the Group’s financial performance. Dividend cover in 2008 of 1.0 times compares to 2.9 times for total dividends paid in respect of 2007.
Acquisition of Vebnet (Holdings) plc On 10 October 2008, Standard Life made an unconditional offer to acquire 100% of the issued share capital of Vebnet (Holdings) plc (Vebnet) for a cash consideration of £26m. Vebnet has a well established position in the UK employee benefits and online reward market and has developed business activities in Europe and Asia. At 31 December 2008, Vebnet had 182 corporate clients and 340,393 employee users of its flexible benefits proposition. The transaction is consistent with Standard Life's strategy to accelerate the development of its corporate business through strengthening its customer base, opening up new routes to market and developing its existing product range.
In these conditions, Standard Life will continue to pursue a capital-lite strategy and to operate conservatively, ensuring that balance sheet strength and cash generation remain priorities.
Standard Life Insurance Company Limited as a whole to avoid distortion due to changes in the Group’s shareholding in the joint venture during 2007 and 2008. 3 2007 APE has been restated to reflect the inclusion of Sigma mutual funds. The 2008 impact is £9m (2007: £12m).
PVNBP sales in Canada increased by 23% in constant currency to £2,240m (2007: £1,654m) and reflect the continued repositioning of the business.
In Europe, PVNBP sales decreased by 26% in constant currency to £1,016m (2007: £1,179m). Our business in Ireland continues to be affected by the volatile Irish equity and property markets. In Germany, customer uncertainty in the face of market volatilty negatively impacted sales. Conditions were further exacerbated by changes in German insurance contract law which reduced new business volumes.
Operations in Asia continued to have attractive growth potential. PVNBP sales increased by 17%2 in constant currency as branch expansion and agency recruitment continued in our joint ventures in China and India.
Europe £11,928m £13,440m £11,436m £2,240m £1,654m £2,091m £1,016m £1,179m £866m £495m £266m £206m
Against a backdrop of difficult markets, investment management sales of third party gross new business decreased by 21% and net new business by 57%. Excluding volatile flows into our money market funds, third party net inflows were £4,741m (2007: £6,853m). Third party assets under management (AUM) decreased by 5% to £45.5bn (2007: £47.7bn). Excluding the impact of the reinsurance of UK immediate annuities which resulted in £6.7bn of funds outflow, total AUM decreased by 9% during 2008. This reduction compares favourably with the fall in financial markets during the period.
New business profitability New business profitability has been impacted by the adverse market conditions. New business contribution (NBC) decreased by 23% to £264m. The total internal rate of return (IRR) for the Group was 16% (2007: 19%) and the discounted payback period remained at eight years. We remain committed to our strategy of focusing on capital-lite products which deliver high capital returns and fast recovery of investment.
In the UK, NBC fell by 25% to £212m (2007: £282m) due to lower sales volumes and a reduction in margins resulting from sales mix including larger transactions secured at low margins. The UK IRR decreased from 20% to 18% for the full product range and the payback period has extended from seven to eight years.
In Canada, NBC decreased by 8% to £34m. PVNBP margin and IRR reduced from 2007 levels and payback period increased. These trends were mainly due to lower margin sales required in the current market and an increase in acquisition costs incurred as part of the strategy to reposition the business.
In Europe, NBC reflects lower sales due to the particularly difficult market conditions in Ireland and customer uncertainty in the face of market volatility in Germany, which was exacerbated by their recent contractual law changes. IRR and payback period were maintained at prior year levels.
Further analysis of the individual segment results can be found in Section 1.5 – Business segment performance.
EEV profit before tax The EEV consolidated income statement, in the supplementary EEV financial statements section of this report, presents the total EEV result showing both operating and non-operating items. Total EEV loss before tax of £158m (2007: £838m profit) arose as a result of the reduction in non-operating profits. This fall was driven by the significant market volatility during the year and in particular lower than expected investment returns. We believe that EEV operating profit (before non-operating items) provides a more meaningful indication of the underlying performance of the Group. Non-operating profits and losses are mainly market driven and occur as a result of short-term investment performance being different from the long-term return anticipated in the opening EEV. Further details on the operating profit and non-operating loss are given below.
EEV operating profit before tax – core, efficiency and back book management We analyse our EEV profits by three components that reflect the focus of our business effort – core, efficiency and back book management.
Efficiency These gains reflect our continued focus on cost control and have contributed towards the achievement of our 2008 expense targets.
Management of the back book focuses on reducing risks and enhancing the value of expected shareholder profits as well as capturing the impact of changes in insurance experience and assumptions. The two major insurance risks to which shareholders are exposed are lapses and mortality.
On 11 February 2009, we announced that we would be making an immediate cash injection into the Pension Sterling Fund to reinstate the value of customers’ units following an earlier decision to reduce the value of units to take account of market movements in the underlying assets. The cost of this on an EEV basis was £108m before tax and represents the £78m after tax charge included in the original announcement grossed up at a rate of 28%.
EEV operating profit before tax – by segment Against volatile market conditions, EEV operating profit before tax increased by 6% to £933m (2007: £881m).
18 www.standardlife.com 1.3 EEV – Group continued Operating profit for Canada increased by £37m to £215m. This increase included higher than expected returns from in-force business, within which £13m of the £21m increase was due to favourable exchange rate movements. Positive tax experience gains of £38m compared to £25m in 2007 represent a benefit from previously unclaimed tax assets. Operating assumption changes were positive £24m (2007: £21m) and included efficiency gains and positive modelling changes offset by negative lapse assumptions of £25m to reflect overall deteriorating economic conditions. NBC was £3m less than 2007.
Europe EEV operating profit increased by 127% in constant currency, despite an £8m decrease in NBC. Lapse assumption changes of negative £1m in 2008, compared to negative £22m in 2007, when Irish lapse assumption changes were made to align to long-term assumptions. A £12m assumption change impact was as a result of improved risk margins following the reinsurance of UK immediate annuities. Expected return on existing business also increased by £7m, £3m of which was due to favourable exchange rates.
Losses in our Asia Pacific business on an IFRS basis reflect continued market expansion.
Return on embedded value (RoEV) RoEV was 10.9% in 2008 compared to 11.5% in 2007. Back book management contributed 2.1% to total RoEV compared to negative 0.2% in 2007. This movement in back book management RoEV was primarily driven by an improvement in lapse variances and assumption changes which contributed 3.0%. In addition, the reinsurance of UK immediate annuities contributed 1.5% to the movement in back book management RoEV. These increases were partially offset by the charge to the Pension Sterling Fund which had a negative impact of 1.4%, and a smaller contribution from UK deferred annuities.
Diluted EEV operating earnings per share (EPS) The diluted EEV operating EPS grew from 28.3p in 2007 to 29.8p in 2008. The basic EEV operating EPS also increased from 28.9p in 2007 to 29.8p in 2008. These positive movements were largely driven by the 5% improvement in operating profit after tax compared to 2007. EPS is based on operating profit after tax and on 2,176m shares for basic EPS (2007: 2,138m) and 2,180m shares for diluted EPS (2007: 2,177m).
Non-operating loss after tax The non-operating loss after tax was £783m (2007: loss £30m). The attributed tax rate in 2008 was 28% compared to 30% in 2007.
EEV (loss)/profit after tax Profit after tax fell from £587m in 2007 to a loss after tax of £134m in 2008.
Before taking into account other non-trading movements, the present value of the in-force (PVIF) business net of cost of capital has decreased by £470m predominantly due to an expected return of negative £239m and adverse investment return and tax variances of £708m, offset by an increase from NBC written in the year of £413m.
Included within the PVIF net of cost of capital is the TVOG for the Group. This includes the UK and Europe HWPF TVOG which reflects the value of the shareholder exposure to the policyholder guarantees within the HWPF. This has increased significantly during 2008 to £220m from £41m for 2007, primarily due to adverse market movements. TVOG in Canada and Europe has also increased due to adverse market movements.
For 2008, the one-off items totalled a charge of £52m. These included a £105m release of reserves following the reinsurance of £6.7bn of UK immediate annuities, as announced in February 2008, and a £98m release of reserves in relation to deferred annuity business. Offsetting these oneoff benefits was a £102m cash injection into the Pension Sterling Fund and a charge of £29m recognised during the year relating to the reinsurance of certain contracts held by our business in Canada. In addition, as reported in April 2008, we also restructured a sub-fund of Standard Life Investments (Global Liquidity Funds) plc during the year. The total cost of this to the Group was £163m3. Of the total costs, £124m related to the fair value movement on assets brought directly onto the balance sheet, and this is included in the underlying profit for the year.
3 In our Interim Management Statement released on 30 April 2008, we reported that the expected net of tax impact of the restructuring of a sub-fund of Standard Life Investments (Global Liquidity Funds) plc would be £37m. This represented the after tax effect of £62m restructuring costs less the £10m guarantee already provided for by Standard Life plc as at 31 December 2007. Since 30 April 2008, an additional £101m cost has been recognised representing further fair value movements for the period to 31 December 2008. The total cost to the Group of £163m has been recognised in our investment management business (£90m) and in our UK life and pensions business (£73m). The cash cost to the Group was £24m before tax (£17m after tax) with the balance of the cost being due to marked-to-market movements.
Prior to 23 September 2008, all fair value risk associated with the assets taken directly onto the balance sheet in connection with the restructuring of a sub-fund of Standard Life Investments (Global Liquidity Funds) plc was borne by our investment management business. On 23 September 2008, a contract was signed between Standard Life Investments and UK life and pensions which transferred future market risk on part of this sub-fund to UK life and pensions in exchange for a risk premium. Losses of £51m prior to the contract being signed have been recognised in our investment management business and since then losses of £73m have been recognised in our UK life and pensions business.
Excluding the one-off transactions noted above, the normalised underlying profit decreased by 57% to £206m (2007: £476m) with profitability being significantly impacted by the weakness and volatility of investment markets during 2008. The impact of this volatility has been significant within our Canadian operations due to the way that Canadian life companies typically structure non-segregated funds, with assets backing both policyholder liabilities and the shareholder surplus. Marked-tomarket value adjustments in respect of surplus assets coupled with reserve increases in respect of tax and guarantees have reduced Canadian normalised underlying profit by £187m compared with the prior year. In the UK, bond impairments and defaults resulted in investment related losses of £32m. Management charges decreased by £38m due to a fall in asset values and profitability was further impacted by increased new business development costs of £23m. Operational efficiencies and strict control of expenditure in the Group Corporate Centre (GCC) had a positive impact on profitability of £7m.
Underlying profitability in our healthcare business decreased to £11m (2007: £13m) with an increase in earned premiums being offset by lower investment income.
Group Corporate Centre costs and other GCC costs reduced by £7m to £50m (2007: £57m) reflecting continued operational efficiency and ‘other’ decreased by £16m to £13m (2007: £29m), primarily due to lower return on investments in money market funds held by Standard Life plc.
22 www.standardlife.com 1.5 Business segment performance 1.5.1 UK financial services UK financial services (UKFS) investment and capital management policies have resulted in a balance sheet that is both strong and resilient despite the market turbulence experienced during the year. The combining of UK life and pensions, savings and mortgages, and healthcare businesses in 2007 has allowed the bringing together of capabilities across these lines of business to maximise efficiencies within the core UK market. Due to the innovative product set, reputation for customer service, and strong distribution relationships the UK business is well placed to benefit from the recovery in financial markets and the wider economy.
3 Includes Heritage With Profits Fund (HWPF) time value of options and guarantees (TVOG). 4 Includes UK defined benefit pension scheme charge and Wrap platform result.
New business sales Total PVNBP sales were £11,928m (2007: £13,440m) a fall of 11%. Individual pensions, which includes SIPPs and increments to existing policies, decreased by 18% to £4,334m (2007: £5,302m). Within this, individual SIPP sales were £3,719m (2007: £4,536m), a fall of 18% driven by a strong comparative in 2007 and the impact of negative market movements on incoming transfer values, however, during the year we increased SIPP customer numbers by over 19,000 (2007: 21,000). Group pensions sales including retail TIP, fell by 8% to £2,600m (2007: £2,817m) reflecting lower asset values and increment levels, however, the number of scheme members increased by 20,000 during the year. Savings and investments sales decreased by 4% to £2,690m (2007: £2,788m). Within this, offshore bond sales increased by £377m to £661m (2007: £284m), due to the success of our International portfolio bond. This was offset by lower onshore bond sales, which fell by 29% to £1,298m (2007: £1,824m) due to CGT changes introduced earlier in the year, and ongoing market uncertainty. Mutual funds sales increased by 8% to £731m (2007: £680m). Protection was closed to new business at the end of 2007, with 2008 sales representing pipeline business in place at the end of 2007.
Annuities 74 54 15.8 11.0 Infinite Infinite Immediate Immediate * Discontinued 1 2007 PVNBP margin has not been restated to include Sigma mutual funds.
Institutional pensions £4,334m £5,302m £4,602m £2,600m £2,817m £2,107m £1,826m £2,015m £2,310m £2,690m £2,788m £1,937m £471m £494m £438m £7m £24m £42m
Savings and investments: NBC was £6m (2007: £34m), with a reduced margin of 0.2% compared to 1.3% in 2007. Overall IRR on savings and investments was 8% in 2008 (2007: 11%), with a payback period of 24 years (2007: 12 years). The fall in margin, payback period and IRR was mainly due to lower onshore bond sales and lower margin bulk deals as previously reported. This was partially offset by an increase in offshore bond margin which benefited from an increase in the scale of our offshore bond operations. We have taken action to improve PVNBP margin on our onshore bond and will launch a new capital-lite onshore bond in 2009.
Protection: Protection was closed to new business at the end of 2007. The NBC in 2008 reflects the contribution from existing pipeline business at the end of 2007.
Our offering will also be further enhanced through our acquisition of Vebnet, which has a well established position within the UK flexible employee benefits and online reward market. This acquisition is part of our strategic vision to strengthen our position within the rapidly evolving employee flexible benefits market. Vebnet brings an added layer of choice and flexibility to Standard Life’s existing and future propositions, while enabling us to further develop our platform internationally.
Wrap and Fundzone As at 31 December 2008, we had 16,900 Wrap customers compared to 8,100 at 31 December 2007 and the number of IFA firms using the platform had grown to 409 compared to 209 at 31 December 2007. With total funds on the platform increasing to £1.8bn compared to £1.1bn as at 31 December 2007, we expect momentum in Wrap and Fundzone to continue building through 2009 and beyond.
EEV operating profit before tax UK EEV operating profit including HWPF TVOG and non-covered business increased by 2% during the year to £636m (2007: £624m). Core profit of £487m was the main contributor to operating profit in the year and comprised NBC, expected return on in-force business, non-covered business losses and new business development costs. The main driver of the £72m reduction in Core compared to 2007 was a fall in NBC of £70m. Efficiency contributed £26m (2007: £77m) to operating profit which was generated from ongoing cost control and efficiencies. Back book management of £123m (2007: negative £12m) was boosted by a £107m one-off positive impact as a result of the reduction in risk discount rate following the reinsurance of £6.7bn of UK immediate annuities. The £107m benefit is stated after sharing the benefits of the transaction with the with profits policyholders. An allowance has also been made for the loss of look-through margins in Standard Life Investments in respect of covered business. In addition, an EEV operating profit benefit of £96m (2007: £191m) arising from a review of our deferred annuity data in 2008, was offset by a charge of £108m on an EEV basis in relation to the recently announced cash injection into the Pension Sterling Fund.
Overall the result of persistency experience variance and assumption changes was negative £17m. The negative impact is primarily due to a strengthening of paid up assumptions across the pensions book, including the anticipated impact of lower levels of customer contributions into their pension during the current volatile market conditions. Lapse experience on onshore bonds was in line with long-term assumptions and was favourable compared to our short-term provision for unit linked onshore bonds established at the end of 2007.
In 2008, development costs were £33m compared to £11m in 2007. The increase in development costs is due to investments in pensions, bonds and Wrap, including technology enhancements to SIPP online, the development of our variable annuity proposition and implementing legislation changes.
IFRS underlying profit before tax UK life and pensions IFRS underlying profit before tax was £184m (2007: £395m). As outlined in Section 1.4 – IFRS – Group, included in the result is a £73m adverse impact following the restructuring of a sub-fund of Standard Life Investments (Global Liquidity Funds) plc. In addition, the result also includes a £102m charge for the recently announced cash injection into the Pension Sterling Fund. The result in 2008 also includes two positive one-off items, being a £98m (2007: £143m) release of reserves in relation to deferred annuity business and a £105m reserve release following the £6.7bn reinsurance of UK immediate annuities. The 2007 result also benefited from a reserve release of £136m due to the one-off impact of adopting the FSA’s Policy Statement PS06/14, and was reduced by other reserve changes of £6m. Excluding one-off operating items, the normalised underlying IFRS profit was £156m (2007: £122m), an increase of £34m.
Competition in the UK mortgage market declined during 2008 due to the continuing effects of the global credit crisis, which has driven up costs of funding, resulting in reduced availability of mortgage products as lenders look to control their level of mortgage exposure. The market also came under pressure from falling house prices and rising unemployment as the economy began to slow down. As a result, gross lending reduced to £1.1bn (2007: £3.7bn) as we focused on strategic measures to reduce liquidity risk and manage profitability in response to market conditions. This strategy was in line with many mortgage lenders, with gross lending across the entire industry reducing by 30% to £256bn in 2008 (2007: £364bn), according to the Council of Mortgage Lenders (CML).
Funding We remain well capitalised with a high quality mortgage book and have access to a range of funding sources. We have actively reduced our funding requirements during 2008 and did not draw down on any committed facilities. All regulatory liquidity and capital ratios remained within target ranges during the year. £1.8bn of maturities within the Lothian securitisation programme were successfully refinanced during 2008 with no further securitisation maturities until 2011.
New business Our overall new business sales increased by 14% to £25m (2007: £22m), while in-force premium income increased to £295m (2007: £284m) despite the impact of adverse economic conditions. This was achieved whilst adhering to our strategy of writing only profitable business. Building on our developments in 2007 we launched a new modular product for Small and Medium Enterprises (SMEs). This allowed sales to our SME and corporate customers to grow by 28% compared to 2007, offsetting lower individual new business sales.
UK financial services operational efficiencies We have worked hard through our Continuous Improvement Programme to grow our business and control costs across UKFS. This has made us more efficient, generated additional productivity savings in 2008 and allowed us to reduce headcount during the year. We will continue to focus on realising productivity gains across UKFS in 2009.
IFRS underlying (loss)/profit before tax (£102m) £168m (161%) 1 The new business PVNBP sales are different from those previously published in the full year new business press release issued on 28 January 2009 as they incorporate year end non-economic assumption changes.
Net flows and new business sales Net flows have increased eightfold in constant currency to £340m (2007: £39m). This was underpinned by strong sales growth following the successful repositioning of the business, and higher inflows across group savings and retirement products, which exceeded scheduled annuity payments.
PVNBP sales increased by 23% in constant currency to £2,240m (2007: £1,654m). Group savings and retirement sales increased by 24% in constant currency to £1,138m, despite aggressive competition within the market. We strengthened our leadership in our core target market segment of mid-to-large defined contribution business with various enhancements to our offering, highlighting our investment programme, servicing capabilities and operating platform. Sales of mid-to-large defined contribution business represented more than half of total group savings and retirement sales, and were up 62% in constant currency to £612m. Members in our defined contributions plans increased by 6% to more than 587,000. This includes our successful retention of policyholders who have transferred out of a group scheme into our roll-over programme, Standard Life Advantage, with an increase of 16% to 71,000 members. The increase in PVNBP sales was also driven by a large defined benefit administration mandate secured in the second quarter. The constant currency reduction in individual insurance, savings and retirement sales reflects the difficult market conditions for retail investment funds. Sales of mutual funds were severely impacted by the volatile equity markets, and decreased 27% in constant currency. In group insurance, sales volumes increased by 168% in constant currency, largely due to modelling changes regarding renewal assumptions. Excluding these changes, sales increased by 29% in constant currency, reflecting the continued success of our differentiated value proposition in the disability insurance segment. Sales in this core segment of long-term disability insurance increased by 164%2 in constant currency, including £26m in sales of Consultaction, our innovative capital-free disability and absence management consulting product.
Group insurance £1,138m £838m £1,188m £360m £357m £460m £513m £175m £143m £229m £284m £300m
Business development We have set out to increase our distribution and sales capabilities, most notably in our retail line, and strengthen our corporate visibility in Canada, while maintaining our commitment to product innovation and profitability. We have made investments in staff and training and increased our sales force since the end of 2007. Most of the impact of this enhanced capability in our retail line was counteracted by the adverse market conditions. Our visibility campaign was successful, with enhanced presence in media across Canada. Our global design studio again delivered top quality and innovative material, highlighted by three Insurance and Financial Communicators Association awards for the quality of our media and print campaigns.
We continued to enhance our group savings and retirement offering with new product features, better customer service and improved transactional capabilities, including electronic solutions. We refined our client strategy and approach and were able to maintain a good retention rate of assets and clients, despite the volatile market conditions. Our new leading-edge website, which helps members manage their retirement assets and gives sponsors one-stop access to information and self-service, was another strong enabler of growth and client retention. We have entered into an alliance with a distributor to offer creditor insurance, reinforcing our traditional group insurance products. We actively pursue cross-selling initiatives within our group lines and delivered further sales during the year. We expanded our retail offering with new funds, and further leveraged our global fund management expertise by introducing new international funds in the Canadian marketplace. We also leveraged our recognised institutional fund management expertise by positioning it within our retail market proposition, introducing marketing tools that enhance the interaction between our fund management experts and our sales force and distributors. This increased collaboration will enable us to bolster the positioning of our funds in a crowded marketplace. Investment management performance was solid in 2008, with close to 70% of our retail funds ranking in the top two quartiles for one year returns1.
£37m £34m * 2005 and 2006 results are shown on a pro forma basis.
Canada EEV operating profit before tax £215m (2007: £178m, 2006: £163m)
IFRS underlying profit before tax IFRS underlying profit before tax decreased by 161% to a loss of £102m (2007: profit £168m), largely driven by investment losses resulting from unfavourable bond returns in line with rising bond yields and equity market volatility. Whereas most losses from assets supporting policyholder liabilities are offset by corresponding changes to those liabilities, volatility on assets supporting shareholder capital directly impacts earnings, and such losses totalled £43m (2007: gains of £44m). We have and will continue to take action to reduce volatility from our balance sheet. Equity and interest related charges due to policy guarantees and a strengthening of policyholder liabilities because of lower asset values, amounting to £42m and £58m respectively, were also recognised as a result of the challenging financial conditions. IFRS underlying profit before tax was further impacted by a one-off increase in policyholder liabilities of £29m in relation to a reinsurance treaty. Other movements included a fall in fee income related to lower asset values, increased investment in relation to re-starting growth and other reserving increases in 2008. The business had no material exposure to troubled US financial institutions and faced no assetbacked commercial paper or sub-prime issues.
www.standardlife.com 31 1.5.3 Europe The operations in Europe consist of Standard Life Ireland and Standard Life Germany, which operates in both Germany and Austria. The European businesses offer a range of investment and pension solutions and currently have £7bn of assets under administration. 2008 has been a difficult trading year for new business but back book efficiencies have significantly improved EEV operating profit. Looking forward, the European businesses intend to strengthen operations by repositioning distribution in existing markets and then expanding into new markets, exploiting the opportunities presented by changing regulations and the growing demand for wealth management solutions across Europe.
Net flows and new business sales Total net flows for 2008 in Europe have fallen slightly in constant currency with the strength of German gross inflows offsetting the weakness in the Irish market during the first three quarters of the year. Total new business sales in Europe decreased by 26% in constant currency to £1,016m (2007: £1,179m).
PVNBP sales in Ireland fell 22% in constant currency to £414m (2007: £457m). The Irish market had an extremely difficult year with total market sales down 30% including trustee investment plan (TIP) business and single premium sales down 48%. Based on a number of new product launches, we reversed the trend in the market in the last quarter by achieving an increase of 38% (excluding TIP business) relative to Q4 2007. We also strengthened our position in the single premium pensions market.
Business development Across Europe we are focused on strengthening our existing operations and improving efficiency while also responding to the difficult market conditions with innovative solutions for customers and distributors.
In Germany, we have a pipeline of planned product enhancements that will increase the capital efficiency of the business while also strengthening our position in the corporate and wealth management markets.
Performance EEV operating profit before tax EEV operating profit before tax increased by 127% in constant currency to £69m (2007: £26m), despite the impact of lower new business levels. This was mainly due to active back book management in both Germany and Ireland, with notable efficiency and persistency improvements.
Looking ahead Market and economic conditions in Europe continue to be challenging and we expect this will put pressure on sales during 2009. Until confidence is restored in investment markets we expect sales to be lower in both Germany and Ireland. Despite this, we believe assets under administration will continue to grow due to strong inflows from our in-force book in Germany.
In the short term, we are transforming our European operations into an asset managing business. This means launching new products, re-engineering our current product range to improve capital efficiency, aggressively managing our cost base and continuing to offer innovative solutions to the individual wealth management and corporate markets. We expect growth to be delayed while the business is transformed and new propositions are established.
In the medium and longer term, prospects for Europe are good. We are well positioned to build on our strength in distribution, market leading platform propositions and range of investment solutions to grow in both existing and new markets.
IFRS underlying loss before tax (£35m) (£12m) (192%) 1 The percentage change figures include percentage change figures for India which are computed based on the movement in the new business of HDFC
New business Despite difficult trading conditions towards the end of the year, Asia continued to achieve good growth, with total PVNBP sales up 17%1 in constant currency terms to £495m (2007: £266m). APE sales were up 49%1 in constant currency to £118m (2007: £49m).
In India, HDFC Standard Life Insurance Company Limited (HDFC SL) delivered good results with PVNBP of £345m (2007: £187m), growth of 4%1 in constant currency terms. APE sales were up 40%1 in constant currency to £93m (2007: £38m). The number of financial consultants appointed by the joint venture has increased by approximately 70,000 during the year to 202,000 (31 December 2007: 132,000) and the number of branches increased by 70 to 606 (31 December 2007: 536).
Looking ahead We expect that the global economic recession will have an impact on markets in general and hence affect our Asian businesses. As the economies in India and China are still growing and insurance penetration is low, we believe there is still attractive growth potential for us.
In China, HASL plans to increase the strength and scale of its business by continuing to expand into new cities. We expect to diversify distribution channels further and to continue to penetrate the group pensions market.
1 IFRS normalised underlying profit before tax excludes all costs associated with the restructuring of a sub-fund of Standard Life Investments (Global Liquidity
Financial market overview During 2008, the UK industry experienced substantial net outflows of funds. As in previous market downturns, this was particularly felt at the retail end of the market. Standard Life Investments’ business model, with around 80% of third party AUM coming from institutional clients, has provided substantial protection against the worst impacts of the current market conditions. Outflows across the business were broadly comparable to 2007 and no major institutional clients were lost. Revenue levels were therefore maintained and strengthened at a time when others are expected to have experienced substantial falls.
Investment performance Despite a dip in short-term UK equity performance due to market volatility, we continued to deliver good investment performance over the longer term. The money-weighted average investment performance over three, five and ten year periods continues to be comfortably above median and remains a key driver of our strong institutional sales and pipeline of new business. The strength of our investment process across a range of open-ended investment companies (OEICs) and unit trusts is demonstrated by the high proportion of eligible and actively managed funds (19 out of 25) rated ‘A’ or above by Standard & Poor’s, including the complete range of eligible fixed income OEIC funds.
Net flows and new business Standard Life Investments has performed well during 2008 despite the economic uncertainty, with third party net new business sales of £3,395m (2007: £7,944m). Excluding volatile flows into our money market funds, third party net inflows were £4,741m (2007: £6,853m), representing 11% of opening third party AUM excluding money market funds. Strong sales were recorded for segregated business and private equity through institutional channels. Retail sales were relatively flat for the year, a considerable achievement when the market as a whole has experienced substantial net outflows.
Third party AUM remained resilient in the face of extremely volatile markets, decreasing by just 5% to £45.5bn (2007: £47.7bn). In-house AUM fell by 18% to £78.3bn (2007: £95.7bn) due to a combination of adverse market movements, continuing outflows from with profits business and the reinsurance of £6.7bn of UK immediate annuities by the Group in order to reduce the long-term risk borne by shareholders.
Performance Financial performance was robust in 2008, despite the difficult trading conditions with EBIT up 9% to £82m (2007: £75m). Revenue growth remained solid despite the impact of reduced AUM from lower markets, the reinsurance of UK immediate annuity liabilities and the challenging economic environment. Total revenue rose 7% (£17m) to £270m driven by new business sales, increased penetration of high margin products such as global absolute return strategies and a revision to of certain management fees applied to in-house assets. Costs were tightly managed throughout the year and were held flat compared to the prior year at £184m (2007: £184m). We were, however, still able to continue to invest in key areas of the business to sustain our longer term growth.
Against this background we will continue to pursue our strategy of increasing the diversity of our earnings by growing our capability in selected product areas and increasing our global reach. We will also maintain tight control over our costs to drive further efficiencies and allow for necessary investment to support future growth.
Standard Life Investments third party assets under management (AUM) 47.7 8.9 (5.5) 3.4 (5.6) 45.5
Group assets under administration managed by: Standard Life Group entities 158.2 138.5
During the year, positive net flows of £2.4bn were offset by negative market/other movements of £14.6bn due to falling equity, property and fixed interest security values. As a result Group AUA fell by 7% to £156.8bn. Positive net flows were achieved in each of the life and pensions territories. However, worldwide life and pensions AUA fell by £9.5bn due to the adverse market movements experienced in 2008. Third party AUM remained resilient in the face of extremely volatile equity markets with a fall of just 5%. AUA in our banking business fell by £1.8bn reflecting measures taken to manage our mortgage exposure during difficult market conditions. The UK immediate annuity reinsurance transaction resulted in £6.7bn of assets being reinsured to Canada Life. This transaction reduced AUA managed by Group entities and correspondingly increased AUA managed by other third party managers.
A more detailed analysis of AUA and net flows is presented in Section 4.1.
Group capital and cash generation The Group’s IFRS cash flow statement, included in the Group IFRS consolidated financial statements section of this report, shows that our net cash inflows from operating activities were £2,304m (2007: £2,828m). This statement combines cash flows relating to both policyholders and equity holders, but the practical management of cash within the Group maintains a distinction between the two, as well as taking into account regulatory and other restrictions on availability and transferability of capital. As a result, we analyse cash flow within the Group on a number of additional bases, and take the view that an analysis of the movement in the EEV shareholders’ net worth is more representative of underlying shareholder capital and cash flow than the IFRS cash flow statement. Under existing EEV principles, we are also required to identify required capital for all covered business. Increases/(decreases) in required capital will not reduce the shareholders’ net worth because no external cash flows are made, but will decrease/(increase) the free surplus.
Capital and cash generation from existing business 546 - 546 561 (12) 549
Capital and cash generation from non-operating items (131) 44 (87) 45 (8) 37
Total capital and cash generation 246 90 336 566 34 600
All figures are net of tax. Net income directly recognised in the EEV balance sheet, including exchange differences and distributions to and injections from shareholders, are not included as these are not trading related cash flows.
The capital and cash held in the holding company is managed at a level to fund the dividend obligations and strategic investments of the Group. During 2008, Standard Life plc’s capital, excluding its investment in subsidiaries, increased by £121m, primarily as a result of receiving £436m of dividends from subsidiaries offset by dividends paid to shareholders of £257m and a further investment in subsidiaries of £54m.
• IFRS equity attributable to equity holders of Standard Life plc: 2008: £3.4bn (2007: £3.3bn)
• EEV operating capital and cash generation: 2008: £423m (2007: £563m)
Long-term business funds: Impact of changing financial conditions on the capital resources and capital resource requirement of the HWPF•
The FGD limits the amount of capital that can be recognised in Group capital resources, where that capital is held by a UK long-term business fund. This limits the capital resources within a long-term business fund to the level of the capital resource requirement for that fund and results in a restriction of approximately £1.3bn at 31 December 2008 (31 December 2007: £1.8bn).
The Group’s capital, as measured by the FGD, can be split into three elements: Shareholder capital, used to invest in the strategy of the Group, covers the capital requirements borne directly by • shareholders and manages risk borne by shareholders
Further analysis of Group borrowings is provided in Note 3.10 – Borrowings•
Bond default allowances Shareholders are exposed to debt securities which back annuity liabilities in the UK and Europe and the liability in respect of longevity risk reinsured from SLAL's HWPF. These debt securities amount to £1.5bn and comprise £0.8bn of government and government backed bonds and £0.7bn of other corporate bonds. There were no defaults on the debt securities in this portfolio in 2008, however in light of the economic conditions the provision for future defaults within the valuation of liabilities has been increased to £40m (31 December 2007: £20m), representing a weighted average default assumption into perpetuity for corporate bonds of 87bps (31 December 2007: c37bps).
Financial assets valuation and exposures Asset-backed securities Standard Life’s total investment (including third party funds) in the asset-backed securities markets across both short-term treasury instruments and long-term fixed interest is approximately £5.3bn or 3.3% (31 December 2007: £7.7bn or 4.6%) of Group assets under administration (AUA), predominantly in UK securities. Of the total of £5.3bn, £1.3bn relates to shareholder funds, of which £1.2bn is AAA rated. The overall level of asset-backed securities has reduced compared to 31 December 2007 as a result of a number of securities reaching maturity and also due to market movements. The Group has continued to actively manage its exposure to asset-backed securities and the portfolio remains a high quality credit portfolio with no direct exposures to the US mortgage market, minimal exposure to leveraged structures, no current direct exposure to Monolines and very modest exposure to credit within a Monoline wrapper. Following the restructuring of a sub-fund of Standard Life Investments (Global Liquidity Funds) plc, shareholder funds now have a total exposure of £83m (31 December 2007: £27m) to assets within a Monoline wrapper or leveraged structures, representing 0.3% (31 December 2007: 0.1%) of shareholder financial assets.
In addition, shareholders had direct exposure to loans and receivables of £11.7bn which included £9.5bn in respect of the retail mortgage book of Standard Life Bank and £2.2bn in respect of the commercial mortgage book of the business in Canada. Both mortgage books are deemed to be of very high quality. For further information on the Standard Life Bank mortgage book see Section 1.5.1. The mortgage book in Canada had an average loan to value ratio of 44%, the value of mortgages where the loan to value ratio exceeded 70% amounted to just £31m and there were no mortgages three or more months in arrears or in repossession at the end of 2008.
Further analysis of the Group’s financial assets including shareholder exposure is shown in Section 4.2 – Fair value hierarchy of financial instruments.
Credit ratings External credit ratings agencies perform independent assessments of the financial strength of companies. The current insurer financial strength ratings for SLAL are A1/Stable and A+/Stable from Moody’s and Standard & Poor’s respectively. The only changes from the position at 31 December 2007 was the Standard & Poor’s outlook, which was raised to A/Positive from A/Stable in May 2008 and then raised again to A+/Stable in February 2009. The change in the credit rating was in part due to the strength of the capital position.
44 www.standardlife.com 1.8 Risk management Risk management is an integral part of the Group’s corporate agenda. We have developed and embedded an Enterprise Risk Management framework that enables the risks of the Group to be identified, assessed, controlled and monitored consistently, objectively and holistically.
Over the course of 2008, the Group has further enhanced its framework, addressing and strengthening all the key elements and aligning it with external best practice models.
Risks facing the Group are: Risk type Key risks Key risk controls
Regular monitoring of risk exposures to ensure • that risks remain within approved risk appetite Specific limits on counterparty exposure, based • on credit rating, approved by the Group Board Group companies establish and maintain • adequate controls to manage exposure within these specified limits
Fraud or irregularities• Regulatory or legal• Customer treatment• Business interruption• Supplier failure• Planning• Process execution• People, e.g. loss of key people•
www.standardlife.com 45 1.9 Basis of preparation Overview Our Business review for the period to 31 December 2008 has been prepared in line with the Companies Act 2006 and the Disclosure and Transparency Rules (DTR) issued by the Financial Services Authority (FSA). Under Section 417 of the Companies Act 2006 and DTR 4.1.8, the Group is required to provide a fair review of the business and a description of the principal risks facing the Group. Principal risks are detailed in Section 1.8 – Risk management. To provide clear and helpful information, we have also considered the voluntary best practice principles of the Reporting statement: Operating and Financial Review (OFR) issued by the Accounting Standards Board (ASB).
The Group’s financial statements have been prepared in accordance with International Financial Reporting Standards (IFRS), as endorsed by the European Union (EU). However, our Board believes that non-Generally Accepted Accounting Principles (GAAP) measures, which we have used in the Business review, together with other measures that are calculated in accordance with IFRS, are useful for both management and investors and make it easier to understand our Group’s performance.
All non-GAAP measures should be read together with the Group’s IFRS income statement, balance sheet and cash flow statement which are presented in the IFRS Group financial statements section of this report.
EEV and IFRS reporting The financial results are prepared on both an EEV basis and an IFRS basis. All EU listed companies are required to prepare consolidated financial statements using IFRS issued by the International Accounting Standards Board (IASB) as endorsed by the EU. EEV measures the net assets of the business plus the present value of future profits expected to arise from in-force long-term life assurance and pensions policies and is designed to give a more accurate reflection of the performance of longterm savings business. The EEV basis has been determined in accordance with the EEV Principles and Guidance issued in May 2004 and October 2005 by the CFO forum. The CFO forum represents the chief financial officers of major European insurers, including Standard Life. EEV methodology has been applied to ‘covered’ business, which mainly comprises the Group’s life and pensions business. Non-covered business is reported on an IFRS basis. The EEV financial results in Section 1.3 of the Business review and in the EEV financial statements section of this report have been prepared in accordance with the EEV methodology applied by the Group in Note 2.16 of the EEV financial statements section of this report for 2008, and in the relevant EEV methodology note included in the 2007 Annual Report and Accounts in respect of the comparative period. The IFRS financial results in Section 1.4 of the Business review and in the IFRS Group financial statements section of this report have been prepared on the basis of the IFRS accounting policies in Note 3.1.
EEV operating and IFRS underlying profit The segmental analysis of IFRS underlying profit before tax presents profit before tax attributable to equity holders adjusted for non-operating items. The 2008 EEV consolidated income statement presents EEV profit showing both operating and non-operating items. In doing so, the Directors believe they are presenting a more meaningful indication of the underlying business performance of the Group. The 2008 EEV consolidated income statement and the 2008 IFRS reconciliation of Group underlying profit to profit before tax are presented in the relevant financial statements sections of this report.
EEV consolidated income statement For the year ended 31 December 2008
(Loss)/profit after tax (134) 587 1 Investment management operating profit before tax is stated after excluding profits of £45m (2007: £35m) which have been generated by life and pensions business.
Weighted average number of ordinary shares in issue (millions) 2,176 2,138
www.standardlife.com 51 2.1 Basis of preparation The European Embedded Value (EEV) basis results have been prepared in accordance with the EEV Principles and Guidance issued in May 2004 by the CFO Forum of European Insurance Companies and the Additional Guidance issued in October 2005. EEV reports the value of business in-force based on a set of best estimate assumptions, allowing for the impact of uncertainty inherent in future assumptions, the cost of holding required capital and the value of free surplus. The total profit recognised over the lifetime of a policy is the same as under International Financial Reporting Standards (IFRS), but the timing of recognition of profits is different.
Covered business in the 2007 published results was expanded to include certain mutual funds sold in the UK and Canada and are therefore reflected in the comparative results. Covered business has been further expanded in 2008 to include all Sigma mutual funds, previously sold and administered by our Investments business.
EEV operating profit for the 12 months to 31 December 2008 is defined as IFRS normalised underlying profit.1,2 In 2007 EEV operating profit was defined as IFRS underlying profit.1 For the 12 months to 31 December 2007, IFRS underlying profit and IFRS normalised underlying profit for non-covered business were the same.
Subordinated liabilities within EEV covered business are based on the market value of the debt. The free surplus of covered business shown in Note 2.2(c) is net of these liabilities.
The market value of the subordinated liability in Canada has reduced over 2008 as a result of significant increases in credit spreads, offset in part from foreign exchange movements. This has produced a covered business pre-tax profit of £58m within the 2008 effect of economic assumption changes shown in Note 2.2(a) for Canada. This subordinated debt is owned by a non-covered subsidiary of the Group, where the asset is valued on an amortised cost basis. No profit has arisen within the year within non-covered business from changes in the value of this asset. Group EEV profit has been adjusted by £58m pre-tax, £42m post-tax to remove this profit from different accounting bases, as shown on the EEV consolidated income statement.
Contribution from in-force business: Expected return on existing business 290 109 32 - - 431
Investment return and tax variances (491) (173) (55) - (130) (849)
Effect of economic assumption changes (69) 236 11 - (130) 48
www.standardlife.com 53 12 months to 31 December 2007 Notes UK £m
Investment return and tax variances (105) 80 (10) - 18 (17)
An analysis of profit after tax by territory is provided in Note 2.9.
The increase in the expected return on existing business has been due in part to favourable exchange rate movements, arising from the use of average exchange rates for the reporting period. This accounts for £13m of the £21m increase in Canada, and for £3m of the total £7m increase in Europe.
Effect of economic assumption changes include the effect of changes to risk discount rates of £277m (2007: (£132m)), which are explained in Note 2.12, and a gain of £22m in 2008 from the impact of changes to the assumed long-term tax rate in Canada. Further comments on the movement in the market value of subordinated liabilities are provided in Note 2.11. Investment return and tax variances for the UK includes a loss of £73m arising from losses in the contract between UK life and pensions and Standard Life Investments arising from the restructuring of Standard Life Investments (Global Liquidity Funds) plc.
Restructuring expenses primarily represent the covered business costs associated with the CIP as described in Note 2.1.
Transfer back of surplus to Standard Life Investments (28) (3) (2) - - (33)
Aggregate tax effect of items not recognised in income statement - (3) - - - (3)
Transfer back of surplus to Standard Life Investments (23) (2) - - - (25)
Actuarial gains on defined benefit pension schemes - 14 5 - - 19
Opening adjustments in the UK and Canada reflect the inclusion of certain mutual funds in covered business as explained in Note 2.1 – Basis of preparation.
Notes to the EEV financial information continued 2.3 Analysis of new business contribution The following table sets out the premium volumes and contribution from new business written by the life and related businesses, consistent with the definition of new business set out in Note 2.16.
Sigma mutual funds. Single premiums and PVNBP for UK savings and investments for 2007 have been restated to include £116m for Sigma mutual funds. 5 2007 NBC does not include any contribution from Sigma mutual funds.
www.standardlife.com 57 2.4 Experience variances 12 months to 31 December 2008 UK £m
UK tax variances reflect the benefit of ongoing tax management plus favourable tax variances from the further release of deferred annuity provisions.
Tax variances in Canada mainly arise from previously unclaimed tax assets.
Notes to the EEV financial information continued 2.5 Operating assumption changes 12 months to 31 December 2008 UK £m
Lapse assumption changes in Canada were increased to prudently safeguard against overall deteriorating economic conditions.
UK gains from mortality and morbidity assumption changes arise from the adoption of updated assumptions for assurance and annuity business.
£119m of the ‘Other’ operating assumption changes, consisting of £96m in the UK, £12m in Europe and £11m in HWPF TVOG, arise from the impact of the UK annuity reassurance, as described in Note 2.2(a).
www.standardlife.com 59 2.6 Non-covered business Non-covered business EEV operating profit is represented by IFRS normalised underlying profit as adjusted for Standard Life Investments look through profits and the return on mutual funds which are recognised in covered business.
Investment management profits are included in EEV on a look through basis. This means that the profits from investment management generated from the life and pensions business are allocated to covered business. However, the excluded life and pension profits include £20m (12 months to 31 December 2007: £13m) of profits relating to products which are actively marketed and sold to third parties through investment management distribution channels. If these profits are added to the third party profits disclosed for non-covered business there are £68m (12 months to 31 December 2007: £61m) of third party related profits for investment management.
Life and pensions look through profits before tax excluding third party profits 25 22
Third party related life and pensions profits before tax 20 13
(c) Other EEV operating profits before tax 12 months to 31 December 2008 £m 12 months to 31 December 2007 £m
Standard Life Savings Limited is the company that writes the UK mutual funds business included within covered business.
The covered business results for the 12 months to 31 December 2008 include some Sigma mutual funds business sold by the UK financial services business, which was previously sold and administered through our Investment business. There is no restatement of the results for the 12 months to 31 December 2007 and this adjustment is explained in more detail in Note 2.1 – Basis of preparation. A detailed description of EEV covered business is provided within the EEV methodology in Note 2.16.
www.standardlife.com 61 2.7 EEV – reconciliation of movements in consolidated balance sheet 12 months to 31 December 2008 £m 12 months to 31 December 2007 £m
Present value of in-force life and pensions business net of cost of capital (3,053) (3,327)
‘Other’ predominantly relates to deferred tax differences of £180m and the capitalisation of software development costs of £19m.
Notes to the EEV financial information continued 2.9 Analysis of covered business EEV PVIF and net worth movements (net of tax) (a) Total 12 months to 31 December 2008 Free surplus £m
Expected return transfer to net worth 552 (33) 519 (519) -
Transfer back of mutual funds net worth 16 - 16 - 16
Actuarial gains on defined benefit pension schemes 2 - 2 - 2
Actuarial gains on defined benefit pension schemes 19 - 19 - 19
Transfer back of surplus to Standard Life Investments (28) - (28) - (28)
Transfer back of mutual funds net worth 17 - 17 - 17
Contribution from in-force business: Expected return on existing business - 1 1 206 207
Transfer back of mutual funds net worth 15 - 15 - 15
Actuarial gains on defined benefit pension schemes - - - - -
(c) Canada 12 months to 31 December 2008 Free surplus £m
Expected return transfer to net worth 98 (33) 65 (65) -
Transfer back of mutual funds net worth (1) - (1) - (1)
www.standardlife.com 67 12 months to 31 December 2007 Free surplus £m
Transfer back of surplus to Standard Life Investments (2) - (2) - (2)
Transfer back of mutual funds net worth (4) - (4) - (4)
Expected return transfer to net worth 71 1 72 (72) -
Transfer back of mutual funds net worth - - - - -
Actuarial losses on defined benefit pension schemes (10) - (10) - (10)
Asia Pacific is included within covered business on an IFRS basis, with the IFRS opening and closing net assets for this business included within the opening and closing EEV free surplus, and the IFRS underlying loss after tax included within expected return on free surplus.
www.standardlife.com 69 12 months to 31 December 2007 Free surplus £m
Transfer back of surplus to Standard Life Investments - - - - -
Actuarial gains on defined benefit pension schemes 5 - 5 - 5
Notes to the EEV financial information continued 2.10 Time value of options and guarantees (TVOG)
Adverse investment experience and changes in economic assumptions have also resulted in increases to TVOG in Canada and Europe.
2.11 Market value of subordinated liabilities within covered business £m £m
The market value of the subordinated liabilities in the UK and Canada has reduced over 2008 as a result of significant increases in credit spreads, offset in part from foreign exchange movements.
The fall in the market value of the Canadian subordinated liability has produced a pre-tax profit of £58m within the 2008 effect of economic assumption changes shown in Note 2.2(a). This has been offset by the Group EEV consolidation adjustment in respect of Canadian subordinated liability, as shown in the EEV consolidated income statement.
Ireland 2.18 1 Current holdings are assumed to yield in future years the earned rate for the year preceding the valuation. Future reinvestments are assumed to be in government bonds.
2 0.94% in 2008. The rate in subsequent years is based on a moving 30 year bond yield less a variable deduction. 3 Excludes corporate bond returns on annuities. For annuities in UK equity holder funds, the overall investment return, after allowing for assumed defaults, is 6.44% for annuities that are level or subject to fixed escalations and 3.42% for annuities where escalations are linked to a price index.
Ireland 3.80 1 Current holdings are assumed to yield in future years the earned rate for the year preceding the valuation. Future reinvestments are assumed to be in government bonds.
Risk margin before cost of capital adjustment: Risk margin after cost of capital adjustment 3.60 2.90 2.90 3.60 2.90
Risk discount rates – in-force business 1 Using the value of in-force business as weights, the weighted average risk margins for the UK and Europe were 3.5% and 3.3% respectively.
Changes in market risk margins generally arise from changes in asset allocation, product mix and reserving changes.
The UK and Europe HWPF non-market risk margin has remained at 1.60%. However, this consists of two separate movements. As reported in the Interim Results for 2008, the reinsurance of the UK annuity liabilities led to a 0.70% reduction in the nonmarket risk margin. The impact of this reduction in the risk discount rate was a profit of £129m which is reported through UK and Europe ‘Other’ operating assumption changes, as described in Notes 2.2(a) and 2.5, reflecting the EEV benefit of the reduced non-market risk that has arisen from this transaction. As part of the year end calibration, the UK and Europe HWPF non-market risk margin increased by 0.70% due to changes in persistency risk assumptions and also from changes in business mix. The impact of this 0.70% increase in the risk discount rate is included within the effect of economic assumption changes, as shown in Note 2.2(a).
The increases in the non-market risk margin for UK and Europe equity holder owned funds mainly arise from changes in persistency risk assumptions, whilst the 0.20% increase in Canada arises from changes in business mix.
Risk discount rates – new business 1 As the new business contribution is calculated using start of period economic assumptions, the risk free rates shown here represent market yields at 31 December 2006. 2 Using the value of in-force business as weights, the weighted average risk margins for the UK and Europe were 2.8% and 2.9% respectively.
The ESG allows option-pricing techniques to be used to value the TVOG.
Cash and bond returns These variables are calibrated using the following instruments: Conventional government bond yields adjusted to allow for any ‘convenience premium’ associated with • government bond prices
Dividend and rental yields As market consistent estimates for dividend and rental yields cannot be derived from liquid market instruments, best estimates are used.
www.standardlife.com 75 2.14 Foreign exchange A description of the approach to the currency translation for foreign entities is provided in Note 2.16.
Interest rates 1% higher and lower than base case, with consequential changes in fixed interest asset values, reserving • assumptions, risk discount rates and investment returns on equities and properties 10% fall in market value of equity and property assets (not applicable for new business contribution)•
Fall in equity / property market values by 10% (112) (92) (13) - (8) (225)
Notes to the EEV financial information continued 2.15 Sensitivity analysis – economic and non-economic assumptions continued As explained in Note 2.16, Asia Pacific is not reported on an embedded value basis. Since the embedded value has been included at the IFRS value, no embedded value sensitivities are produced.
As a result of the UK annuity reinsurance transaction, the exposure of our UK business to changes in annuitant mortality is significantly reduced. Therefore, the impact of a 5% decrease in mortality for annuitant policies is reduced from (£100m) as reported in our 2007 Annual Report and Accounts to (£44m).
The sensitivity of the Canada embedded value as shown above includes the effect of changes in the market value of the subordinated liability. Whilst Group EEV is adjusted for the different subordinated debt valuation bases used for covered and non-covered business as explained in Note 2.1, the impact of these sensitivities on the Group EEV consolidation adjustment is not included in this sensitivity analysis.
For the purposes of EEV reporting, a distinction is drawn between covered business to which EEV methodology is applied and non-covered business where results and balances are based on those determined under IFRS and included in the IFRS financial statements shown in the Annual Report and Accounts, unless otherwise stated.
The Group’s covered business is its life assurance and pensions businesses in the UK, Canada, Europe (Germany including Austria, and Ireland) and Asia Pacific, as well as the current and future profits and losses from Standard Life Investments arising on its management of funds relating to the life and pensions businesses. As Asia Pacific is not material in the context of both the Group embedded value and the Group EEV operating profit, EEV Principles and Guidance do not require them to be reported on an embedded value basis. They have therefore been included at their IFRS value which is consistent with the IFRS primary statements. This IFRS value should not be interpreted as a proxy for their embedded value.
UK covered business also includes: Non-insured self invested personal pension (SIPP) business•
The Group’s non-covered business mainly includes the business of Standard Life Bank, Standard Life Healthcare, Standard Life plc, the third party investment management business of Standard Life Investments, the non-covered business of Standard Life Savings and other non-life and pensions entities.
Under the EEV Principles and Guidance, risks within the covered business are allowed for in the following ways: Application of risk discount rates to projected cash flows, which are derived by adding a risk margin to a risk free rate•
Holding of required capital for the covered business, determined by reference to both regulatory requirements and internal • economic capital assessments
Risk discount rates have been determined as the risk free government bond yield plus a risk margin. The risk margins have been determined for market risk and non-market risk separately. For market risk, we have opted for an approach whereby the risk margin is determined such that the PVIF, excluding the allowance for the TVOG, calculated using expected ‘real world’ asset returns equates with the PVIF calculated using ‘risk neutral’ investment returns and discount rates. In this way, the benefits of assuming higher than risk free returns on future cash flows are offset by using a higher discount rate. However, when returns above the risk free rate arise from the additional returns available from investing in illiquid assets, namely corporate bonds and mortgages, where they are matched to appropriate liabilities, these are not offset in determining the discount rate. Allowance has then been made for non-market risk by applying stress tests to the PVIF using our internal capital model, and quantifying an additional risk margin based on the results of the stress tests.
The risk margins are also reduced to allow for any cost of required capital (excluding double taxation cost) which is already reflected within the EEV.
The values of the risk discount rates used for this reporting period are provided in Note 2.12.
The levels of required capital in the current EEV calculations are therefore as follows: UK and Europe (business in HWPF) – no capital requirement in excess of statutory reserves or asset shares is valued in the EEV•
UK and Europe (business in equity holder owned funds) – 100% of EU minimum regulatory capital, which is higher in • aggregate than Standard Life’s internal risk-based capital requirement
The cost of required capital has been calculated using assumptions consistent with those used in the value of in-force (VIF) calculations.
Investment conditions in terms of bond yields, equity and property values, and implied market volatility•
Each projection allows for the gradual release of the residual estate over time to policyholders where there are sufficient • funds to do so
The assumed investment returns reflect our estimates of expected returns on principal asset classes, and are, in general, based on market conditions at the date of calculation of the EEV.
The inflation rates assumed are, in general, based on the market implied long-term price inflation plus a margin to allow for salary inflation.
Costs related to restructuring have been excluded from the EEV results where it has been agreed that these costs are to be met by the HWPF and therefore would not form part of the surplus cash flows.
Restructuring expenses for covered and non-covered business include the current year cost of the Continuous Improvement Programme (CIP) and any additional restructuring expenses consistent with those identified in the IFRS underlying profit adjustments. The total restructuring expenses are included together with the cost of any corporate activity in restructuring and corporate transaction expense.
Department of Work and Pensions (DWP) rebates are deemed to be new single premiums•
Pensions vesting into annuity contracts under existing group defined benefits contracts are not included as new business•
Products substituted due to the exercise of standard contract terms are not deemed to be new business•
All increments and indexations to existing policies, including new members, and increments and indexations paid by • existing members of group schemes, are deemed to be new business
For Ireland, new business comprises: New contracts written during the period•
New business contribution (NBC) The contribution generated by new business written during the period is the present value of the projected stream of aftertax distributable profit from that business. NBC before tax is calculated by grossing up the contribution after tax at the full corporation tax rate for UK business and at other equivalent rates of tax for other countries. NBC is calculated as at the end of the reporting period.
The economic assumptions used are those at the start of the reporting period, and the non-economic assumptions are those at the end of the reporting period. An exception to this policy is annuity business in the UK and Ireland where, to ensure consistency between the economic assumptions used in the NBC and those used in pricing the business and in the calculation of mathematical reserves, the economic assumptions used are the average rates for each quarter during the reporting period, and the asset allocations are those used in the pricing basis.
The opening and closing EEV numbers for the covered business are determined on an after tax basis. The tax assumptions used are based upon the best estimate of the actual tax expected to arise. Attributable tax and profit before tax are derived by grossing up profit after tax at the long-term rate of corporation tax appropriate to each territory. While for some territories this rate does not equate to the actual effective rate of tax used in the calculation of after tax profits, it provides a consistent grossing up basis upon which to compare results from one year to another and is in line with the Group's expectation of the rate of tax applicable to new business.
Embedded value and other balance sheet items denominated in foreign currencies have been translated to sterling using the appropriate closing exchange rates. NBC and other profit and loss account items have been translated using average exchange rates. Gains and losses arising from foreign exchange differences on consolidation are presented separately within the EEV consolidated statement of recognised income and expense.
Summary IFRS consolidated income statement For the year ended 31 December 2008
IFRS pro forma reconciliation of Group underlying profit to profit for the period For the year ended 31 December 2008
Adjusted for the following items: Volatility arising on different asset and liability valuation bases 3.5 (141) (302)
Customer accounts related to banking activities and deposits by banks 6,991 6,080
Share of other recognised income from associates and joint ventures 2 -
Cash and cash equivalents at the beginning of the year 9,120 6,194
Notes to the IFRS financial information 3.1 Accounting policies (a) Basis of preparation
The preliminary announcement has been prepared in accordance with International Financial Reporting Standards (IFRS) and interpretations issued by the International Accounting Standards Board (IASB) as endorsed by the European Union (EU) and with those parts of the Companies Act 1985 applicable to companies reporting under IFRS.
The accounting policies as set out in the Group’s Annual Report and Accounts for the year ended 31 December 2008 have been applied in the preparation of this preliminary announcement.
The Group is managed and organised into five (2007: five) reportable business segments: Life and pensions Life and pensions offers a broad range of pensions, protection, savings and investment products to individual and corporate customers. Within these product classes are executive and group pension products, pooled pension funds and income protection products.
Notes to the IFRS financial information continued 3.2 Segmental analysis continued (i) Segmental income statement 12 months to 31 December 2008
Total revenue from external customers (16,591) 271 178 635 6 (89) (15,590)
Share of profits from associates and joint ventures 98 - (4) - 7 - 101
Segment result for the year (373) 7 - (70) (40) - (476)
Other items included in the income statement are: Amortisation of deferred acquisition costs 133 30 2 - - - 165
Segment result for the year 593 8 100 (7) (74) - 620
Other items included in the income statement are: Amortisation of deferred acquisition costs 99 34 2 - - - 135
Depreciation of property, plant and equipment 3 1 - - 5 - 9
There has been a reallocation of inter-segment revenue and expense between Investment management and life and pensions from that published in the consolidated financial statements for the year ended 31 December 2007. There has been no change to each segment's results for the year.
Inter-segment transfers are entered into under normal commercial terms and conditions that would be available to unrelated third parties.
The expected future value of the additional expenses to be charged on German unitised with profits contracts is recognised as a liability within the unallocated divisible surplus. As these additional expenses are charged they are no longer included in the measurement of the unallocated divisible surplus and thus contribute to equity holder profit.
In the year ended 31 December 2008 the recourse cash flows resulted in a positive amount (2007: positive), the transfer of which out of the HWPF was not subject to any constraint.
94 www.standardlife.com 3.2 Segmental analysis continued (ii) Segmental balance sheet continued
Investment management £m Banking £m Other £m Elimination £m Total £m
The geographical segments are the United Kingdom, Canada and international operations, which includes all other geographic regions.
Of the total restructuring costs of £73m, £72m (2007: £31m) is adjusted when determining underlying profit for the year, with the remaining £1m (2007: £nil) relating to CIP expenses incurred by the Heritage With Profits Fund.
On 30 April 2008 Standard Life Investments (Global Liquidity Funds) plc restructured one of its sub-funds, changing the pricing structure from an amortised cost to marked-to-market basis. The total costs to the Group associated with the restructuring of the sub-fund at the date of the transaction were £39m, of which £24m are restructuring costs and £15m is recognised in net investment return since it reflects the difference between the amortised cost and marked-to-market value of assets brought directly on to the Group balance sheet.
During the year ended 31 December 2007 the Company had issued a guarantee to Standard Life Investments (Global Liquidity Funds) plc to cover the difference between amortised cost and marked-to-market value of the underlying assets of two sub-funds, should there be a need to sell assets below amortised cost to meet investor withdrawals. The guarantee was for a maximum of £60m and a provision of £10m was recognised in the year ended 31 December 2007. As a result of the restructuring, the guarantee was replaced by a revised agreement in respect of the other sub-fund with a maximum guarantee of £5m.
3.5 Volatility arising on different asset and liability valuation bases Group underlying profit has been adjusted in respect of volatility that arises from different IFRS measurement bases for liabilities and backing assets. The adjustment is analysed as follows: £m £m
Derivative volatility comprises amounts in respect of volatility arising from derivatives that are part of economic hedges but do not qualify as hedge relationships under IAS 39 Financial Instruments: Recognition and Measurement.
www.standardlife.com 97 3.6 Earnings per share (a) Basic earnings per share
Diluted earnings per share is calculated by adjusting the weighted average number of ordinary shares outstanding to assume conversion of all dilutive potential ordinary shares. The Group has one category of dilutive potential ordinary shares - share awards and share options awarded to employees.
As part of the offer on the flotation of the Company, holders of demutualisation shares, employee shares or shares acquired in the preferential offer who held such shares for a continuous period of one year were eligible to receive, at the end of that one year period, one bonus share for every 20 shares retained. The number of bonus shares included as dilutive potential shares for the period 10 July 2006 to 9 July 2007 is based on the actual number issued on 10 July 2007.
The dilutive effect of share awards and options included in the weighted average number of ordinary shares above was 4 million (2007: 3 million). The effect of these dilutive potential ordinary shares did not impact the profit attributable to equity holders of the Company.
In 2007, the dilutive effect of the bonus shares included in the weighted average number of ordinary shares above was 36 million.
98 www.standardlife.com 3.6 Earnings per share continued (c) Alternative earnings per share
Volatility arising on different asset and liability valuation bases (141) (6.5) (302) (14.1)
(Loss)/profit before tax attributable to equity holders' profits (142) (6.5) 509 23.8
Subsequent to 31 December 2008, the Directors have proposed a dividend for the year ended 31 December 2008 of 7.70 pence per ordinary share, £168m in total. The dividend will be paid on 29 May 2009, subject to approval at the Annual General Meeting on 15 May 2009. This dividend will be recorded as an appropriation of retained earnings in the financial statements for the year ended 31 December 2009.
Non-participating insurance contracts include £160m (2007: £161m) relating to Standard Life Healthcare and £3m (2007: £3m) relating to general insurance, conventional term assurances (Lifetime Protection Series), life contingent annuities, Perspecta Universal Life in Canada, and a small amount of linked Homeplan business.
The Heritage With Profits Fund (HWPF) was established as part of the demutualisation transaction on 10 July 2006. Under the Scheme of Demutualisation (the Scheme) certain non-participating contracts were transferred to the HWPF. The present value of future profits (PVFP) on these non-participating contracts can be apportioned between the component related to contracts whose future cash flows under the Scheme are expected to be transferred out of the HWPF to equity holders, and the component related to contracts whose future cash flows will remain in the HWPF to be applied either to meet amounts that may be charged to the HWPF under the Scheme or distributed over time as enhancements to final bonuses payable on the remaining policies invested in the fund.
Standard Life Assurance Limited (SLAL) entered into a reinsurance arrangement with Canada Life International Re on 14 February 2008 in respect of certain annuity contracts. For the gross participating insurance and investment liabilities the impact of the annuity reinsurance transaction shown reflects the change in the residual estate which therefore impacts the value of the planned enhancements (on an FSA realistic basis) included within these liabilities as covered by the Scheme. The increase in the reinsurance asset associated with the transaction represents the increase in the value of the reinsurance assets with external reinsurers due to this new arrangement. Refer to Note 3.9 for further detail on this transaction.
Non-economic experience changes in the year primarily represents higher than expected claims.
Change in unearned premium reserve - 5 - 5 - 5
Account balances paid on surrender and other terminations in the year (6,584) (6,685)
Reinsurance contracts are generally structured to match liabilities on a class of business basis. This has a mixture of terms. The reinsurance assets are therefore broadly expected to be realised in line with the settlement of liabilities (as per the terms of the particular treaty) within a reinsured class of business.
‘Expenses under arrangements with reinsurers’ includes interest on the deposit payable to the reinsurer using the effective interest method, and Premium Adjustments receivable in the period. Accrued interest and accrued Premium Adjustments are presented in ‘Deposits received from reinsurers’.
At 31 December 2008 a reinsurance asset of £5.6bn and a deposit liability of £6.0bn arising from this transaction were recognised.
Certificates of deposit, commercial paper and medium term notes 3.10(a) 573 1,843
Standard Life Bank certificates of deposit – EUR - 4.77% - 60
Total certificate of deposits, commercial paper and medium term notes 573 1,843
Although the Group does not directly or indirectly own any of the share capital of the SPEs, the nature of these entities, which are in substance controlled by the Group, means that the Group retains substantially all of the risks and rewards of the securitised mortgages.
Lothian Mortgages No. 1 plc – GBP – Maturity 2035 - 6.85% - 572
Lothian Mortgages No. 2 plc – EUR – Maturity 2038 - 5.10% - 559
Lothian Mortgages No. 3 plc – USD – Maturity 2019 - 5.36% - 38
Lothian Mortgages No. 3 plc – GBP – Maturity 2039 6.47% 6.71% 730 789
Lothian Mortgages No. 4 plc – EUR – Maturity 2040 5.12% 4.81% 175 263
Lothian Mortgages Master Issuer plc – USD - Maturity 2050 3.71% 5.31% 35 25
Lothian Mortgages Master Issuer plc – EUR – Maturity 2050 5.16% 4.85% 460 348
Total mortgages backed floating rate notes 2,411 3,983 3.11 Contingencies (a) Legal proceedings and regulations
The Group is subject to insurance solvency regulations in all the territories in which it issues insurance and investment contracts, and it has complied with all of the local solvency and other regulations. Therefore, there are no contingencies in respect of these regulations.
The Scheme of Demutualisation sets a ten-year time limit for those eligible members of The Standard Life Assurance Company who were not allocated shares at the date of demutualisation to claim their entitlements. As future issues of these shares are dependent upon the actions of eligible members, it is not practical to estimate the financial effect of this potential obligation.
During the year ended 31 December 2007 the Company issued a guarantee to Standard Life Investments (Global Liquidity Funds) plc to cover the difference between amortised cost and marked-to-market value of the underlying assets of a sub-fund, should there be a need to sell assets below amortised cost to meet investor withdrawals. The guarantee was for a maximum of £60m. During the year a sub-fund was restructured as referred to in Note 3.3 and this guarantee was replaced by a revised agreement with a maximum guarantee of £5m in respect of another sub-fund.
A contingent liability also exists in relation to future FSCS levies, including the actual compensation costs due in relation to the banks which defaulted during 2008. As this liability cannot be reliably calculated and is dependent on a determination at some point in the future, the Group has not attempted to quantify this amount. The Group will continue to monitor this position and a provision will be made if and when a determinable outflow becomes probable in relation to this liability.
Managing capital is the ongoing process of determining and maintaining the quantity and quality of capital appropriate for the Group, and ensuring capital is deployed in a manner consistent with the expectations of our stakeholders. For these purposes, the Board considers our key stakeholders to be the providers of capital (our equity holders, policyholders and holders of our subordinated liabilities) and the Financial Services Authority (FSA).
The capital requirements of each business unit are routinely forecast on a periodic basis, and the requirements are assessed against both forecast available capital and local regulatory capital requirements. In addition, internal rates of return achieved on capital invested are assessed against hurdle rates, which are intended to represent the minimum acceptable return given the risks associated with each investment. The capital planning process is the responsibility of the Group Finance Director. Capital plans are ultimately subject to approval by the Board.
The Group is classified as a financial conglomerate by the FSA by virtue of its significant regulated activities including insurance, investment management and banking operations. The largest regulated entity within the Group is Standard Life Assurance Limited (SLAL), which undertakes life assurance and pension business principally in the UK, Ireland and Germany.
The majority of life assurance and pensions business undertaken by UK regulated entities is written within long-term business funds within each regulated company. These long-term business funds are distinct from the equity holders’ funds. Business written prior to demutualisation, and the increments to that business, are written in the Heritage With Profits Fund (HWPF). Business written after demutualisation is written in the other long-term business funds, principally the Proprietary Business Funds (PBF).
The HWPF’s capital resources of £2,974m at 31 December 2008 (2007: £6,157m) and future surplus arising can be used to provide support for the HWPF, enhance payments to with profits policyholders or, in relation to the recourse cash flows, transfer defined amounts out of the fund to accrue to the benefit of equity holders. Additional restrictions are placed on the HWPF by the Scheme of Demutualisation (the Scheme), which provides that the recourse cash flows will be subject to a solvency test which prevents transfers of the recourse cash flows if, as a result of the transfer, the HWPF would have a realistic deficit or would have a regulatory surplus below the level which the board of SLAL considers necessary to declare bonuses in accordance with reasonable benefit expectations of with profits policyholders without creating a regulatory deficit.
The Group’s capital position is analysed between UK regulated life business, overseas life operations and other activities. The UK regulated life business is analysed by the nature of the underlying funds and includes German and Irish business written by branches of UK regulated companies. Other activities comprise investment management, general insurance and Group Corporate Centre. Standard Life Bank plc is a subsidiary of SLAL and therefore its capital resources are included within life business shareholders’ funds. The Group’s capital position, based on draft regulatory returns, is set out below:
Total available capital resources to meet regulatory requirement 2,976 267 2,756 5,999 1,188 7,187 558 7,745
Analysed as follows: Capital not subject to constraints - - 2,380 2,380 436 2,816 424 3,240
Held outside life assurance funds - - 1,479 1,479 1,017 2,496 555 3,051
Held within life assurance funds - 231 - 231 - 231 - 231
Equity attributable to ordinary equity holders of Standard Life plc - 231 1,479 1,710 1,017 2,727 555 3,282
Changes to the valuation of other assets and liabilities (14) 76 (73) (11) 83 72 233 305
Analysed as follows: Capital not subject to constraints - - 2,670 2,670 579 3,249 439 3,688
Total other non-participating liabilities 12,353 1,555 - 13,908 6,278 20,186 174 20,360 * Capital resources amounting to £2m (2007: £1m) in respect of other with profits funds are disclosed within the Heritage With Profits Fund column shown above.
Capital resources of £1,188m (2007: £1,149m) which relate mainly to operations in Canada, also include operations in the Asia Pacific region. The capital resources of the Canadian operations are based on local Generally Accepted Accounting Principles (GAAP) financial statements adjusted where necessary to reflect the fair value of assets with a corresponding adjustment to liabilities. The Canadian regulator sets the minimum required capital. It also requires certain assets to be held in trust to increase policyholder protection (vested assets). As a result of the combination of the capital requirement and vested assets, the overseas life capital subject to constraints amounted to £752m at 31 December 2008 (2007: £570m).
The Group, through subsidiaries and joint ventures, provides insurance and other financial services in the UK, Canada, India and China and also through branches, provides such services in Ireland and Germany. With the exception of the requirements of the Scheme and the intra-group subordinated debt referred to below and the capital support mechanisms, there are no formal arrangements to provide capital to particular funds or business units. Any allocations of capital would need to be approved on a case-by-case basis by the Board.
SLAL has issued subordinated loans to the Company, which SLAL treats as capital for regulatory purposes. The Standard Life Assurance Company of Canada and Standard Life Investments Limited have issued subordinated debt of £225m (2007: £204m) and £45m (2007: £15m) respectively, to the Company. These amounts of subordinated debt are included within the capital resources of those businesses, but at Group level only subordinated debt issued to external parties is included in the Group’s capital resources.
The estimated FGD position at 31 December 2008 is shown in the Business review Section 1.7 – Capital and cash generation.
The movements in the total capital resources shown in the capital statement are set out below.
The investment surplus arises from changes in market conditions and reflects the total returns earned on the assets compared with the valuation interest rates previously assumed. It also reflects the consequent change in liabilities as a result of the change in the yield currently available on the assets and therefore the current valuation interest rates.
Level 2: fair values measured using quoted prices in active markets for similar assets or liabilities or other valuation techniques for which all significant inputs are based on observable market data
Level 3: fair values measured using valuation techniques for which any significant input is not based on observable market data
Level 2 financial instruments principally include listed corporate bonds, commercial paper, certificates of deposit and derivative instruments which are not exchange traded with the exception of credit default swaps. Corporate bonds have generally been classified as Level 2 as the composite price provided by third party pricing providers may include, as an input, quotes provided by some banks that are not based on actual transaction prices.
Third party interests in consolidated funds and minority interest exposure – 2008 Level 1 £m
Less claims, commissions and changes in provisions and liabilities 17,238 (12,844)
Less areas not participating in Continuous Improvement Programme (CIP) (Canada, Europe, Asia Pacific, Standard Life Investments, Standard Life Wealth) (406) (352)
Total closing operating cost base 2008 485 1 Notional level of inflation that would have impacted the operating cost base during the year. Blended rate used for staff and non-staff of 3.7% for 2008 (2007: 4.3%) (less any inflation allowed for in ‘organic growth’).
2 Increase in the cost base implied by the growth of the organisation – annual premium income used as proxy for Standard Life Healthcare; a combination of PVNBP and policies in force movements used for the life and pensions businesses.
Eco-thinking: We all think much more about paper these days, and we’ve printed this information on paper that’s 100% recycled – it’s just one of the ways that we go about running our business responsibly.