Michael McLintock will retire as Chief Executive of M&G Investments and as an Executive Director of Prudential plc later this year. He will be succeeded by Anne Richards. Anne’s basic salary will be £400,000. She will have a maximum AIP opportunity of the lower of 0.75 per cent of M&G’s IFRS profit or 600 per cent of base salary. Forty per cent of any bonus will be deferred into the Company’s shares. Long-term incentive awards will be 150 per cent of base salary under the PLTIP and 300 per cent of salary under the M&G Executive Long Term Incentive Plan. Any unvested share awards that Anne forfeits as a consequence of joining the Group will be replaced on a like-for-like basis, with replacement awards released in accordance with the original vesting timeframe attached to the forfeited awards. Anne’s service contract contains a notice provision under which either party may terminate upon 12 months’ notice.
As set out in the report of the Nomination Committee, the appointment of chairmen of the boards of M&G Limited and Prudential Corporation Asia Limited has been proposed. The Remuneration Committee has approved a fee of £250,000 per annum for each of these roles, fixed for a period of two years from the date of the appointment. The fee for the chair of Prudential Corporation Asia Limited will be payable in Hong Kong dollars using an exchange rate fixed on the date of appointment.
Note Under the M&G Executive LTIP, the value of each unit at award is £1. The value of units changes based on M&G’s profit growth and investment performance over the performance period. For the 2012 award of 952,960 units, the unit price at the end of the performance period was £2.07, which resulted in a payment of £1,972,627 to Michael McLintock in 2015. For the 2013 award of 1,112,400 units, the unit price at the end of the performance period was £1.79, which will result in a payment of £1,991,196 to Michael McLintock in 2016.
Penny James Deferred 2011 Group deferred bonus plan award 2012 7,069 7,069 – 31 Dec 14 30 Mar 15 783 1,697
Deferred 2011 annual incentive award 2012 55,154 55,154 – 31 Dec 14 30 Mar 15 750 1,697
Deferred 2014 annual incentive award 2015 27,324 668 27,992 31 Dec 17 1,672
Deferred 2012 annual incentive award 2013 84,514 2,072 86,586 31 Dec 15 1,055
deferred bonus plan award 2013 80,570 80,570 – 31 Dec 15 30 Mar 15 1,083 1,697
Deferred 2014 PCA deferred bonus plan award 2015 80,833 1,457 82,290 31 Dec 17 1,672
2 The number of shares initially awarded is calculated using the average share price over the three business days prior to the date of grant. For the awards from the 2014 annual incentives, made in 2015, the average share price was 1,688 pence. 3 A DRIP dividend equivalent was accumulated on these awards.
Save As You Earn (SAYE) schemes UK-based Executive Directors are eligible to participate in the HM Revenue and Customs (HMRC) approved Prudential Savings-Related Share Option Scheme. This scheme allows all eligible employees to save towards the exercise of options over Prudential plc shares with the option price set at the beginning of the savings period at a discount of up to 20 per cent of the market price.
In 2014, participants could elect to enter into savings contracts of up to £500 per month for a period of three or five years. At the end of this term, participants may exercise their options within six months and purchase shares. If an option is not exercised within six months, participants are entitled to a refund of their cash savings plus interest if applicable under the rules. Shares are issued to satisfy those options which are exercised. No options may be granted under the schemes if the grant would cause the number of shares which have been issued, or which remain issuable pursuant to options granted in the preceding 10 years under the scheme and any other option schemes operated by the Company, or which have been issued under any other share incentive scheme of the Company, to exceed 10 per cent of the Company’s ordinary share capital at the proposed date of grant.
Share Incentive Plan awards held in trust at 1 Jan 2015
Share Incentive Plan awards held in trust at 31 Dec 2015 (Number of shares)
The table below provides information about shares purchased under the PruSharePlus together with Matching Shares (awarded on a 1:2 basis) and dividend shares.
* Following his appointment to the Board, Tony Wilkey is no longer eligible to participate in the PSP with effect from the anniversary of his joining the plan.
Of the five individuals with the highest emoluments in 2015, two were directors whose emoluments are disclosed in this report. The aggregate of the emoluments of the other three individuals for 2015 were as follows: Base salaries, allowances and benefits in kind 1,378 Pension contributions 270 Performance-related pay 20,793
Their emoluments were within the following bands: Number of five highest paid employees 2015
Prudential’s multi-media programme Cha-Ching helps instil ‘money-smart skills’ in children aged seven to 12. Find out more on page 61.
Section A: Background and accounting policies 140 A1 Basis of preparation and exchange rates 140 A2 Adoption of new accounting pronouncements in 2015 A3 Accounting policies 141 A3.1 Accounting policies and use of estimates and judgements 153 A3.2 New accounting pronouncements not yet effective
Section B: Earnings performance B1 Analysis of performance by segment 155 B1.1 Segment results – profit before tax 156 B1.2 Short-term fluctuations in investment returns on shareholder-backed business 158 B1.3 Determining operating segments and performance measure of operating segments 162 B1.4 Segmental income statement 165 B1.5 Revenue 167 B2 Profit before tax – asset management operations B3 Acquisition costs and other expenditure 168 B3.1 Staff and employment costs 169 B3.2 Share-based payment 171 B3.3 Key management remuneration 171 B3.4 Fees payable to the auditor 172 B4 Effect of changes and other accounting features on insurance assets and liabilities 173 B5 Tax charge 177 B6 Earnings per share 178 B7 Dividends
C4 Policyholder liabilities and unallocated surplus of with-profits funds 219 C4.1 Movement and duration of liabilities 219 C4.1(a) Group overview 222 C4.1(b) Asia insurance operations 224 C4.1(c) US insurance operations 225 C4.1(d) UK insurance operations 227 C4.2 Products and determining contract liabilities 227 C4.2(a) Asia 228 C4.2(b) US 232 C4.2(c) UK C5 Intangible assets 236 C5.1 Intangible assets attributable to shareholders 236 C5.1(a) Goodwill attributable to shareholders 237 C5.1(b) Deferred acquisition costs and other intangible assets attributable to shareholders 240 C5.2 Intangible assets attributable to with-profits funds C6 Borrowings 241 C6.1 Core structural borrowings of shareholder–financed operations 241 C6.2 Other borrowings 242 C6.3 Maturity analysis C7 Risk and sensitivity analysis 242 C7.1 Group overview 244 C7.2 Asia insurance operations 246 C7.3 US insurance operations 251 C7.4 UK insurance operations 253 C7.5 Asset management and other operations C8 Tax assets and liabilities 254 C8.1 Deferred tax 255 C8.2 Current tax 255 C9 Defined benefit pension schemes 261 C10 Share capital, share premium and own shares C11 Capital position statement 262 C11.1 Life assurance business 267 C11.2 Asset management operations – regulatory and other surplus 267 C12 Provisions 268 C13 Property, plant and equipment 269 C14 Investment properties
Earned premiums, net of reinsurance B1.5 35,506 32,033 Investment return B1.5 3,304 25,787 Other income B1.5 2,495 2,306
Benefits and claims (30,547) (50,736) Outward reinsurers’ share of benefits and claims 1,389 631 Movement in unallocated surplus of with-profits funds (498) (64)
Benefits and claims and movement in unallocated surplus of with-profits funds, net of reinsurance (29,656) (50,169)
Acquisition costs and other expenditure B3 (8,208) (6,752) Finance costs: interest on core structural borrowings of shareholder-financed operations (312) (341) Disposal of Japan life business: Cumulative exchange loss recycled from other comprehensive income D1 (46) – Remeasurement adjustments D1 – (13)
Share of profits from joint ventures and associates, net of related tax D6 238 303
Profit for the year attributable to equity holders of the Company 2,579 2,216
Other comprehensive income: Items that may be reclassified subsequently to profit or loss Exchange movements on foreign operations and net investment hedges: Exchange movements arising during the year A1 68 215 Cumulative exchange loss of Japan life business recycled through profit or loss 46 – Related tax 4 5
Items that will not be reclassified to profit or loss Shareholders’ share of actuarial gains and losses on defined benefit pension schemes: Related tax (5) 2
Other comprehensive (loss) income for the year, net of related tax (489) 775
Total comprehensive income for the year attributable to the equity holders of the Company 2,090 2,991
Reserves Profit for the year – – 2,579 – – 2,579 – 2,579 Other comprehensive income: Exchange movements on foreign operations and net investment hedges, net of related tax – – – 118 – 118 – 118
Shareholders’ share of actuarial gains and losses on defined benefit pension schemes, net of tax – – 22 – – 22 – 22
Reserve movements in respect of share-based payments – – 39 – – 39 – 39
Reserves Profit for the year – – 2,216 – – 2,216 – 2,216 Other comprehensive income: Exchange movements on foreign operations and net investment hedges, net of related tax – – – 220 – 220 – 220
Reserve movements in respect of share-based payments – – 106 – – 106 – 106
Intangible assets attributable to shareholders: Deferred acquisition costs and other intangible assets C5.1(b) 8,422 7,261
Other non-investment and non-cash assets: Property, plant and equipment C13 1,197 978 Reinsurers’ share of insurance contract liabilities C4.1(a)(iv) 7,903 7,167 Deferred tax assets C8.1 2,819 2,765 Current tax recoverable C8.2 477 117 Accrued investment income C1.1 2,751 2,667 Other debtors C1.1 1,955 1,852
Equity securities and portfolio holdings in unit trusts 157,453 144,862 Debt securities C3.3 147,671 145,251 Other investments 7,353 7,623
Total assets C1,C3.1 386,985 369,204 * Included within financial investments are £5,995 million (2014: £4,578 million) of lent securities.
Other non-insurance liabilities: Obligations under funding, securities lending and sale and repurchase agreements 3,765 2,347 Net asset value attributable to unit holders of consolidated unit trusts and similar funds 7,873 7,357 Deferred tax liabilities C8.1 4,010 4,291 Current tax liabilities 325 617 Accruals and deferred income 952 947 Other creditors 4,876 4,262
The consolidated financial statements on pages 133 to 281 were approved by the Board of Directors on 8 March 2016. They were signed on its behalf: Paul Manduca Chairman
Interest income and expense and dividend income included in result before tax (8,726) (8,315) Other non-cash items note (ii) 234 174 Operating cash items: Interest receipts 7,316 7,155 Dividend receipts 1,777 1,559 Tax paid (1,340) (721)
Cash flows from financing activities Structural borrowings of the Group: Shareholder-financed operations: note (iii) C6.1
Net increase (decrease) in cash and cash equivalents 1,390 (383) Cash and cash equivalents at beginning of year 6,409 6,785 Effect of exchange rate changes on cash and cash equivalents (17) 7
borrowings of investment subsidiaries of shareholder-financed operations and other borrowings of shareholder-financed operations. Cash flows in respect of these borrowings are included within cash flows from operating activities.
Basis of preparation These statements have been prepared in accordance with IFRS as issued by the International Accounting Standards Board (IASB) and as endorsed by the European Union (EU) as required by EU law (IAS Regulation EC1606/2032). EU-endorsed IFRS may differ from IFRS issued by the IASB if, at any point in time, new or amended IFRS have not been endorsed by the EU. At 31 December 2015, there were no unendorsed standards effective for the two years ended 31 December 2015 affecting the consolidated financial information of the Group and there were no differences between IFRS endorsed by the EU and IFRS issued by the IASB in terms of their application to the Group. The parent company statement of financial position prepared in accordance with the UK Generally Accepted Accounting Practice (including Financial Reporting Standard 101 Reduced Disclosure Framework) is presented on page 282.
Certain notes to the financial statements present 2014 comparative information at Constant Exchange Rates (CER), in addition to the reporting at Actual Exchange Rates (AER) used throughout the consolidated financial statements. AER are actual historical exchange rates for the specific accounting period, being the average rates over the period for the income statement and the closing rates for the balance sheet at the balance sheet date. CER results are calculated by translating prior period results using the current period foreign exchange rate ie current period average rates for the income statement and current period closing rates for the balance sheet.
* Includes cumulative exchange loss of Japan life business of £46 million. † The exchange rate movement unallocated to a segment mainly reflects the translation of currency borrowings which have been designated as a net investment
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 141
a Critical accounting policies, accounting estimates and judgements Prudential believes that its critical accounting policies are limited to those referenced in the table below: Critical accounting policies Accounting policy reference
The Group performs a reassessment of consolidation whenever there is a change in the substance of the relationship between the Group and a limited partnership. Where the Group is deemed to control a limited partnership, it is treated as a subsidiary and its results, assets and liabilities are consolidated. Where the Group holds a minority share in a limited partnership, with no control over their associated general partners, the investments are carried at fair value through profit or loss within financial investments in the consolidated statement of financial position.
A3.1 Accounting policies and use of estimates and judgements continued ii Joint ventures and associates Joint ventures are joint arrangements arising from a contractual agreement whereby the Group and other investors have joint control of the net assets of the arrangement. In a number of these arrangements, the Group’s share of the underlying net assets may be less than 50 per cent but the terms of the relevant agreement make it clear that control is jointly exercised between the Group and the third party. Associates are entities over which the Group has significant influence, but it does not control. Generally it is presumed that the Group has significant influence if it holds between 20 per cent and 50 per cent voting rights of the entity.
With the exception of those referred to below, the Group accounts for its investments in joint ventures and associates by using the equity method of accounting. The Group’s share of profit or loss of its joint ventures and associates is recognised in the income statement and its share of movements in other comprehensive income is recognised in other comprehensive income. The equity method of accounting does not apply to investments in associates and joint ventures held by the Group’s insurance or investment funds including venture capital business or mutual funds or unit trusts, which as allowed by IAS 28, ‘Investments in Associates and Joint Ventures’, are carried at fair value through profit or loss.
iii Structured entities Structured entities are those which have been designed so that voting or similar rights are not the dominant factor in deciding who controls the entity such as when any voting rights relate to administrative tasks only and the relevant activities are directed by means of contractual arrangements. In addition to the entities discussed above in A3.1b(i), the Group as part of its business strategy invests in structured entities such as Open-Ended Investment Companies (OEICs), Unit Trusts (UTs), variable interest entities, investment vehicles within separate accounts offered through variable annuities, collateralised debt obligations, mortgage-backed securities, and similar asset-backed securities.
For an entity managed by asset managers outside the Group with no current ability to direct its activities, the Group is deemed to have no power over such an entity.
Where the Group’s asset manager sets up the OEICs and UTs as part of asset management operations, the Group’s interest is limited to the administration fees charged to manage the assets of such entities. With no participation in these entities, the Group does not retain risks associated with OEICs and UTs. For these open-ended investment companies and unit trusts, the Group is not deemed to control the entities but to be acting as an agent.
The Group generates returns and retains the ownership risks in investment vehicles commensurate to its participation and does not have any further exposure to the residual risks of these investment vehicles.
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 143
UK — With-profits contracts — Bulk and individual annuity business — Non-participating term contracts
For with-profits funds, as the shareholders’ participation in the cost of bonuses arises only on distribution, the Group has elected to account for the unallocated surplus of UK regulated with-profits funds as a liability with no allocation to equity.
US insurance operations In accordance with the modified statutory basis, the policyholder liabilities for Jackson’s conventional protection-type policies are determined under US GAAP principles with locked-in assumptions for mortality, interest, policy lapses and expenses along with provisions for adverse deviations. For other policies, the policyholder liabilities includes the policyholder account balance. Acquisition costs are accounted for as explained in note A3.1(f) below.
The with-profits benefits reserve is primarily based on the retrospective calculation of accumulated asset shares but is adjusted to reflect future policyholder benefits and other outgoings. Asset shares broadly reflect the policyholders’ share of the with-profits fund assets attributable to their policies. The future policy-related liabilities must include a market consistent valuation of costs of guarantees, options and smoothing, less any related charges, and this amount is determined using either a stochastic approach, hedging costs or a series of deterministic projections with attributed probabilities. The Peak 2 basis realistic liabilities for with-profits business currently include the element for the shareholders’ share of the future cost of bonuses consistent with the contract asset shares. For accounting purposes under FRS 27, this latter item is not shown as part of contract liabilities. This is because, consistent with the current basis of financial reporting, shareholder transfers are recognised only on declaration. Instead, the shareholders’ share of future costs of bonuses is included within the liabilities for unallocated surplus.
For those investment contracts in the US with fixed and guaranteed terms, the Group uses the amortised cost model to measure the liability. Those investment contracts without fixed and guaranteed terms are designated as fair value through profit or loss because the resulting liabilities are managed and their performance is evaluated on a fair value basis. Where the contract includes a surrender option its carrying value is subject to a minimum carrying value equal to its surrender value.
f Deferred acquisition costs for insurance contracts Except for acquisition costs of with-profits contracts of the UK regulated with-profits funds, which are accounted for under the realistic PRA regime, costs of acquiring new insurance business are accounted for in a way that is consistent with the principles of the ABI SORP with deferral and amortisation against margins in future revenues on the related insurance policies. Costs of acquiring new insurance business, principally commissions, marketing and advertising and certain other costs associated with policy insurance and underwriting that are not reimbursed by policy charges, are specifically identified and capitalised as part of deferred acquisition costs. In general, this deferral is presentationally shown by an explicit carrying value in the balance sheet. However, in some Asia operations the deferral is implicit through the reserving methodology. The recoverability of the explicitly and implicitly deferred acquisition costs is measured and are deemed impaired if the projected margins are less than the carrying value. To the extent that the future margins differ from those anticipated, then an adjustment to the carrying value will be necessary.
The deferral and amortisation of acquisition costs is of most relevance to the Group’s results for Asia and US insurance operations. The deferred acquisition costs for US and some Asia operations are determined with reference to US GAAP principles.
h Earned premiums, policy fees and claims paid Premium and annuity considerations for conventional with-profits policies and other protection type insurance policies are recognised as revenue when due. Premiums and annuity considerations for linked policies, unitised with-profits and other investment type policies are recognised as revenue when received or, in the case of unitised or unit-linked policies, when units are issued. These amounts exclude premium taxes and similar duties where Prudential collects and settles taxes borne by the customer.
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 147 j Financial investments other than instruments classified as long-term business contracts i Investment classification The Group holds financial investments in accordance with IAS 39, whereby subject to specific criteria, financial instruments are required to be accounted for under one of the following categories: — Financial assets and liabilities at fair value through profit or loss – this comprises assets and liabilities designated by management as fair value through profit or loss on inception and derivatives that are held for trading. These investments are measured at fair value with all changes thereon being recognised in investment return in the income statement; — Financial investments on an available-for-sale basis – this comprises assets that are designated by management as available-for-sale and/or do not fall into any of the other categories. These assets are initially recognised at fair value plus attributable transaction costs. For available-for-sale debt securities, the difference between their cost and par value is amortised to the income statement using the effective interest rate. The effective interest rate is the rate that exactly discounts estimated future cash receipts through the expected life of the financial instrument or, when appropriate, a shorter period to the net carrying amount of the financial asset; — Available-for-sale assets are subsequently measured at fair value. Interest income is recognised on an effective interest basis in the income statement. Except for foreign exchange gains and losses on debt securities, not in functional currency, which are included in the income statement, unrealised gains and losses are recognised in other comprehensive income. Upon disposal or impairment, accumulated unrealised gains and losses are transferred from other comprehensive income to the income statement as realised gains or losses; and
A substantial decline in fair value might be indicative of a credit loss event that would lead to a measurable decrease in the estimated future cash flows.
For Jackson’s residential mortgage-backed and other asset-backed securities, all of which are classified as available-for-sale, the model used to analyse cash flows begins with the current delinquency experience of the underlying collateral pool for the structure, by applying assumptions about how much of the currently delinquent loans will eventually default, and multiplying this by an assumed loss severity. Additional factors are applied to anticipate ageing effects. After applying a cash flow simulation an indication is obtained as to whether or not the security has suffered, or is anticipated to suffer, contractual principal or interest payment shortfalls. If a shortfall applies an impairment charge is recorded. The difference between the fair value and book cost for unimpaired securities designated as available-for-sale is accounted for as unrealised gains or losses, with the movements unless impaired in the accounting period being included in other comprehensive income.
Assets held at amortised cost Financial assets classified as loans and receivables under IAS 39 are carried at amortised cost using the effective interest rate method. The loans and receivables include loans collateralised by mortgages, deposits and loans to policyholders. In estimating future cash flows, the Group looks at the expected cash flows of the assets and applies historical loss experience of assets with similar credit risks that has been adjusted for conditions in the historical loss experience which no longer exist, or for conditions that are expected to arise. The estimated future cash flows are discounted using the financial asset’s original or variable effective interest rate and exclude credit losses that have not yet been incurred.
Taking account of these considerations, the Group has decided that, except for occasional circumstances, it is not appropriate to seek to achieve hedge accounting under IAS 39. As a result of this decision, the total income statement results are more volatile as the movements in the value of Jackson’s derivatives are reflected within it. This volatility is reflected in the level of short-term fluctuations in investment returns, as shown in notes B1.1 and B1.2.
A3.1 Accounting policies and use of estimates and judgements continued vi Embedded derivatives Embedded derivatives are present in host contracts issued by various Group companies, in particular Jackson. They are embedded within other non-derivative host financial instruments and insurance contracts to create hybrid instruments. Embedded derivatives meeting the definition of an insurance contract are accounted for under IFRS 4. Where economic characteristics and risks of the embedded derivatives are not closely related to the economic characteristics and risks of the host instrument, and where the hybrid instrument is not measured at fair value with the changes in fair value recognised in the income statement, the embedded derivative is bifurcated and carried at fair value as a derivative in accordance with IAS 39. For Jackson’s ‘not for life’ Guaranteed Minimum Withdrawal Benefit and Fixed Index Annuity reserves the determination of fair value requires assumptions regarding future mix of Separate Account assets, equity volatility levels, and policyholder behaviour.
In addition, the Group applies the option under IFRS 4 to not separate and fair value surrender options embedded in host contracts and with-profits investment contracts whose strike price is either a fixed amount or a fixed amount plus interest. Further details on the valuation basis for embedded derivatives attaching to Jackson’s life assurance contracts are provided in note C4.2.
The Group is also party to various reverse repurchase agreements under which securities are purchased from third parties with an obligation to resell the securities. The securities are not recognised as investments in the statement of financial position.
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 151 m Segmental analysis of results and earnings attributable to shareholders The Group uses operating profit based on longer-term investment returns as the segmental measure of its results. The basis of calculation is disclosed in note B1.3.
For shareholder-backed business, with the exception of debt securities held by Jackson and assets classified as loans and receivables at amortised cost, all financial investments and investment property are designated as assets at fair value through profit or loss. The short-term fluctuations affect the result for the year and the Group provides additional analysis of results before and after the effects of short-term fluctuations in investment returns, together with other items that are of a short-term, volatile or one-off nature. The effects of short-term fluctuations include asymmetric impacts where the measurement bases of the liabilities and associated derivatives used to manage the Jackson annuity business differ as described in note B1.2.
n Borrowings Although initially recognised at fair value, net of transaction costs, borrowings, excluding liabilities of consolidated collateralised debt obligations, are subsequently accounted for on an amortised cost basis using the effective interest method. Under the effective interest method, the difference between the redemption value of the borrowing and the initial proceeds (net of related issue costs) is amortised through the income statement to the date of maturity or for hybrid debt, over the expected life of the instrument.
o Investment properties Investments in leasehold and freehold properties not for occupation by the Group, including properties under development for future use as investment properties, are carried at fair value, with changes in fair value included in the income statement. Properties are valued annually either by the Group’s qualified surveyors or by taking into consideration the advice of professional external valuers using the Royal Institution of Chartered Surveyors valuation standards. Each property is externally valued at least once every three years. Leases of investment property where the Group has substantially all the risks and rewards of ownership are classified as finance leases (leasehold property). Finance leases are capitalised at the lease’s inception at the lower of the fair value of the leased property and the present value of the minimum lease payments.
p Pension schemes For the Group’s defined benefit schemes, if the present value of the defined benefit obligation exceeds the fair value of the scheme assets, then a liability is recorded in the Group’s statement of financial position. By contrast, if the fair value of the assets exceeds the present value of the defined benefit obligation then the surplus will only be recognised if the nature of the arrangements under the trust deed, and funding arrangements between the Trustee and the Company, support the availability of refunds or recoverability through agreed reductions in future contributions. In addition, if there is a constructive obligation for the Company to pay deficit funding, this is also recognised such that the financial position recorded for the scheme reflects the higher of any underlying IAS 19 deficit and the obligation for deficit funding. The Group utilises the projected unit credit method to calculate the defined benefit obligation. This method sees each period of service as giving rise to an additional unit of benefit entitlement and measures each unit separately to build up the final obligation. Estimated future cash flows are then discounted at a high-quality corporate bond rate, adjusted to allow for the difference in duration between the bond index and the pension liabilities where appropriate, to determine its present value. These calculations are performed by independent actuaries. The plan assets of the Group’s pension schemes include several insurance contracts that have been issued by the Group. These assets are excluded from plan assets in determining the pension surplus or deficit recognised in the consolidated statement of financial position.
q Share-based payments and related movements in own shares The Group offers share award and option plans for certain key employees and a Save As You Earn plan for all UK and certain overseas employees. Shares held in trust relating to these plans are conditionally gifted to employees. The compensation expense charged to the income statement is primarily based upon the fair value of the options granted, the vesting period and the vesting conditions.
The total tax charge includes tax expense attributable to both policyholders and shareholders. The tax expense attributable to policyholders comprises the tax on the income of the consolidated with-profits and unit-linked funds. In certain jurisdictions, such as the UK, life insurance companies are taxed on both their shareholders’ profits and on their policyholders’ insurance and investment returns on certain insurance and investment products. Although both types of tax are included in the total tax charge in the Group’s consolidated income statement, they are presented separately in the consolidated income statement to provide the most relevant information about tax that the Group pays on its profits.
s Business acquisitions and disposals Business acquisitions are accounted for by applying the purchase method of accounting, which adjusts the net assets of the acquired company to fair value at the date of purchase. The excess of the acquisition consideration over the fair value of the assets and liabilities of the acquired entity is recorded as goodwill. Expenses related to acquiring new subsidiaries are expensed in the period in which they are incurred. Income and expenses of acquired entities are included in the income statement from the date of acquisition.
v Cash and cash equivalents Cash and cash equivalents consist of cash at bank and in hand, deposits held at call with banks, treasury bills and other short-term highly liquid investments with less than 90 days maturity from the date of acquisition.
IFRS 15 ‘Revenue from Contracts with Customers’ This standard effective for annual periods beginning on or after 1 January 2018, provides a single framework to recognise revenue from contracts with different characteristics and overrides the framework provided for such contracts in other standards. The contracts excluded from the scope of this standard include: — Lease contracts within the scope of IAS 17 ’Leases’; — Insurance contracts within the scope of IFRS 4 ‘Insurance Contracts’; and — Financial instruments within the scope of IAS 39 ‘Financial Instruments’.
A3.2 New accounting pronouncements not yet effective continued IFRS 16 ‘Leases’ In January 2016, the IASB published a new standard, IFRS 16 ‘Leases’. The new standard brings most leases on-balance sheet for lessees under a single model, eliminating the distinction between operating and finance leases. Lessor accounting however remains largely unchanged and the distinction between operating and finance leases is retained. IFRS 16 is effective for periods beginning on or after 1 January 2019, with earlier adoption permitted if IFRS 15 ‘Revenue from Contracts with Customers’ has also been applied. The Group is assessing the impact of this standard.
— The hedge accounting requirements which are more closely aligned with the risk management activities of the Company.
The Group is assessing the impact of this standard in conjunction with the requirements of the IASB’s proposals for insurance contracts accounting as they are developed to a final standard. The adoption of the requirements of IFRS 9 may result in reclassification of certain of the Group’s financial assets and hence lead to a change in the measurement of these instruments or the performance reporting of value movements. In addition, for any investments classified as FVOCI, as noted above, the impairment provisioning approach is altered from the current IAS 39 approach. The Group does not currently apply hedge accounting for most of its derivative programmes but will reconsider its approach in light of new requirements under the standard on adoption.
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 155
Results of the sold PruHealth and PruProtect businesses* – 23 23 n/a n/a
Amortisation of acquisition accounting adjustments note (iv) (76) (79) (85) 4% 11% Gain on sale of PruHealth and PruProtect businesses note (v) – 86 86 n/a n/a Cumulative exchange loss on the sold Japan life business recycled from other comprehensive income (46) – – n/a n/a Costs of domestication of Hong Kong branch note (vi) D2 – (5) (5) n/a n/a
Profit before tax attributable to shareholders 3,148 2,614 2,636 20% 19%
Insurance operations: Asia note (i) (119) 178 US note (ii) (424) (1,103) UK note (iii) (120) 464
rises in bond yields across the region during the year. (ii) US insurance operations The short-term fluctuations in investment returns for US insurance operations are reported net of related credit for amortisation of deferred acquisition costs,
of £93 million as shown in note C5.1(b) (2014: £653 million) and comprise amounts in respect of the following items: Net equity hedge result note (a) (504) (1,574) Other than equity-related derivatives note (b) 29 391 Debt securities note (c) 1 47 Equity-type investments: actual less longer-term return 19 16 Other items 31 17
The result comprises the net effect of: – The accounting value movements on the variable and fixed index annuity guarantee liabilities; – Adjustments in respect of fee assessments and claim payments; – Fair value movements on free standing equity derivatives; and – Related changes to DAC amortisation in accordance with the policy that DAC is amortised in line with emergence of margins. Movements in the accounting values of the variable annuity guarantee liabilities include those for: – The Guaranteed Minimum Death Benefit (GMDB), and the ‘for life’ portion of Guaranteed Minimum Withdrawal Benefit (GMWB) guarantees which are
– The ‘not for life’ portion of GMWB embedded derivative liabilities which are required to be fair valued. Fair value movements on these liabilities include the effects of changes to levels of equity markets, implied volatility and interest rates.
result. These other factors include: – The variable annuity guarantees and fixed index annuity embedded options being only partially fair valued under ‘grandfathered’ GAAP; – The interest rate exposure being managed through the other than equity-related derivative programme explained in note (b) below; and – Jackson’s management of its economic exposures for a number of other factors that are treated differently in the accounting frameworks such as future
The fluctuations for this item comprise the net effect of: – Fair value movements on free standing, other than equity-related derivatives; – Accounting effects of the Guaranteed Minimum Income Benefit (GMIB) reinsurance; and – Related amortisation of DAC.
variable annuity guarantees and fixed index annuity embedded options described in note (a) above. The direct Guaranteed Minimum Income Benefit (GMIB) liability is valued using the US GAAP measurement basis applied for IFRS reporting in a way
that substantially does not recognise the effects of market movements. Reinsurance arrangements are in place so as to essentially fully insulate Jackson from the GMIB exposure. Notwithstanding that the liability is essentially fully reinsured, as the reinsurance asset is net settled, it is deemed a derivative under IAS 39 which requires fair valuation.
The fluctuations for this item therefore include significant accounting mismatches caused by: – The fair value movements booked in the income statement on the derivative programme being in respect of the management of interest rate exposures
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 157
normalised returns included in operating profit with variations from year to year included in the short-term fluctuations category. The risk margin reserve charge for longer-term credit-related losses included in operating profit based on longer-term investment returns of Jackson for 2015 is based on an average annual risk margin reserve of 23 basis points (2014: 24 basis points) on average book values of US$54.6 billion (2014: US$54.5 billion) as shown below: Average book value RMR Annual
movements on fixed income assets supporting the capital of the shareholder-backed annuity business, reflecting the rise in bond yields since the end of 2014. (iv) Other The negative short-term fluctuations in investment returns for other operations of £(74) million (2014: negative £(113) million) include unrealised value
movements on investments and foreign exchange items. (v) Default losses The Group did not experience any default losses on its shareholder-backed debt securities portfolio in 2015 or 2014.
B1.3 Determining operating segments and performance measure of operating segments Operating segments The Group’s operating segments, determined in accordance with IFRS 8 ‘Operating Segments’, are as follows: Insurance operations: Asset management operations: — Asia — Eastspring Investments
Performance measure The performance measure of operating segments utilised by the Company is IFRS operating profit attributable to shareholders based on longer-term investment returns, as described below. This measurement basis distinguishes operating profit based on long-term investment returns from other constituents of the total profit as follows: — Short-term fluctuations in investment returns on shareholder-backed business*; — Gain on the sale of the Group’s stake in the PruHealth and PruProtect businesses in 2014; — Amortisation of acquisition accounting adjustments arising on the purchase of business. This comprises principally the charge for the adjustments arising on the purchase of REALIC in 2012; — The recycling of the cumulative exchange translation loss on the sold Japan life business from other comprehensive income to the income statement in 2015. See note D1 for further details; and
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 159
Except in the case of assets backing liabilities which are directly matched (such as linked business) or closely correlated with value movements (as discussed below) operating profit based on longer-term investment returns for shareholder-financed business is determined on the basis of expected longer-term investment returns.
At 31 December 2015, the level of unamortised interest-related realised gains and losses related to previously sold bonds for the Group was a net gain of £567 million (2014: £467 million).
b Asia insurance operations (i) Business where policyholder liabilities are sensitive to market conditions For certain Asia non-participating business, for example in Hong Kong, the economic features are more akin to asset management products with policyholder liabilities reflecting asset shares over the contract term. For these products, the charge for policyholder benefits in the operating results should reflect the asset share feature rather than volatile movements that would otherwise be reflected if the local regulatory basis (also applied for IFRS basis) was used.
B1.3 Determining operating segments and performance measure of operating segments continued Equity-type securities For Asia insurance operations, investments in equity securities held for non-linked shareholder-financed operations amounted to £840 million as at 31 December 2015 (2014: £932 million). The rates of return applied in the years 2015 and 2014 ranged from 2.73 per cent to 13.75 per cent with the rates applied varying by territory. These rates are determined after consideration by the Group’s in-house economists of long-term expected real government bond returns, equity risk premium and long-term inflation. These rates are broadly stable from period to period but may be different between countries reflecting, for example, differing expectations of inflation in each territory. The assumptions are for returns expected to apply in equilibrium conditions. The assumed rates of return do not reflect any cyclical variability in economic performance and are not set by reference to prevailing asset valuations.
c US Insurance operations (i) Separate account business For such business the policyholder unit liabilities are directly reflective of the asset value movements. Accordingly, the operating results based on longer-term investment returns reflect the current period value movements in unit liabilities and the backing assets.
(ii) US variable and fixed index annuity business The following value movements for Jackson’s variable and fixed index annuity business are excluded from operating profit based on longer-term investment returns. See note B1.2 note (ii): — Fair value movements for equity-based derivatives; — Fair value movements for embedded derivatives for the ‘not for life’ portion of Guaranteed Minimum Withdrawal Benefit and fixed index annuity business, and Guaranteed Minimum Income Benefit reinsurance (see below); — Movements in the accounts carrying value of Guaranteed Minimum Death Benefit and the ‘for life’ portion of Guaranteed Minimum Withdrawal Benefits and Guaranteed Minimum Income Benefit liabilities, for which, under the ‘grandfathered’ US GAAP applied under IFRS for Jackson’s insurance assets and liabilities, the measurement basis gives rise to a muted impact of current period market movements; — A portion of the fee assessments as well as claim payments, in respect of guarantee liabilities; and — Related amortisation of deferred acquisition costs for each of the above items.
(iv) Other US shareholder-financed business Debt securities Jackson is the shareholder-backed operation for which the distinction between impairment losses and interest-related realised gains and losses is in practice relevant to a significant extent. Jackson has used the ratings by Nationally Recognised Statistical Ratings Organisations (NRSRO) or ratings resulting from the regulatory ratings detail issued by the National Association of Insurance Commissioners (NAIC) developed by external third parties such as BlackRock Solutions to determine the average annual risk margin reserve to apply to debt securities held to back general account business. Debt securities held to back separate account and reinsurance funds withheld are not subject to risk margin reserve charge. Further details of the risk margin reserve charge, as well as the amortisation of interest-related realised gains and losses, for Jackson are shown in note B1.2.
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 161
d UK Insurance operations (i) Shareholder-backed annuity business For this business, policyholder liabilities are determined by reference to current interest rates. The value movements of the assets covering liabilities are closely correlated with the related change in liabilities. Accordingly, asset value movements are recorded within the ‘operating results based on longer-term investment returns’. Policyholder liabilities include a margin for credit risk. Variations between actual and best estimate expected impairments are recorded as a component of short-term fluctuations in investment returns.
(ii) Non-linked shareholder-financed business For debt securities backing non-linked shareholder-financed business of the UK insurance operations (other than the annuity business) the realised gains and losses are principally interest-related. Accordingly, all realised gains and losses to date for these operations are being amortised over the period to the date those securities would otherwise have matured, with no explicit risk margin reserve charge.
Movement in unallocated surplus of with-profits funds (330) – (168) – – – – (498) – (498)
Benefits and claims and movements in unallocated surplus of with-profits funds, net of reinsurance (6,543) (13,029) (10,084) – – – – (29,656) – (29,656)
Disposal of Japan life business: Cumulative loss exchange loss recycled from other comprehensive income (46) – – – – – – (46) – (46)
Share of profit from joint ventures and associates, net of related tax 130 – 53 14 – – 41 238 – 238
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 163
Operating profit (loss) based on longer-term investment returns 1,209 1,691 1,195 442 19 11 115 4,682 (675) 4,007
Short-term fluctuations in investment returns on shareholder-backed business (119) (424) (120) (1) (64) – – (728) (9) (737)
Total revenue, net of reinsurance 14,819 20,825 22,449 1,284 111 806 310 60,604 (478) 60,126
Movement in unallocated surplus of with-profits funds 20 – (84) – – – – (64) – (64)
Total charges, net of reinsurance (13,627) (20,568) (20,821) (843) (94) (794) (249) (56,996) (279) (57,275)
Share of profit from joint ventures and associates, net of related tax 133 – 128 13 – – 29 303 – 303
Tax charge attributable to policyholders’ returns (105) – (435) – – – – (540) – (540)
Profit (loss) before tax attributable to shareholders 1,220 257 1,321 454 17 12 90 3,371 (757) 2,614
Gain on sale of PruHealth and PruProtect – – 86 – – – – 86 – 86
Costs of domestication of Hong Kong branch – – (5) – – – – (5) – (5)
Notes (i) This measure is the formal profit (loss) before tax measure under IFRS but is not the result attributable to shareholders. (ii) Investment return principally comprises: – Interest and dividends; – Realised and unrealised gains and losses on securities and derivatives classified as fair value through profit or loss under IAS 39; and – Realised gains and losses, including impairment losses, on securities classified as available-for-sale under IAS 39.
(iii) In addition to the results of the central operations, unallocated to a segment includes intra-group eliminations. This column includes the elimination of the intra-group reinsurance contract between the UK with-profits and Asia with-profits operations.
Long-term business premiums Insurance contract premiums 33,618 29,973 Investment contracts with discretionary participation feature premiums 2,839 2,637 Inwards reinsurance premiums 206 222 Less: reinsurance premiums ceded (1,157) (799)
Investment return Realised and unrealised (losses) and gains on securities at fair value through profit or loss (4,572) 16,532 Realised and unrealised (losses) and gains on derivatives at fair value through profit or loss (1,701) 142 Realised gains on available-for-sale securities, previously recognised in other comprehensive income* 49 84 Realised losses on loans (50) (61) Interest notes (i),(ii) 7,018 6,802
Fee income from investment contract business and asset management notes (iii),(iv) 2,495 2,306
related to prepayment fees, late fees and syndication fees. (iv) The following table provides additional segmental analysis of revenue from external customers: Asia US UK Intragroup Total Asia US UK Intragroup Total
The asset management operations, M&G, Prudential Capital, Eastspring Investments and US asset management provide services to the Group insurance operations. Intra-group fees included within asset management revenue were earned by the following asset management segments: Intra-group revenue generated by: US broker-dealer and asset management 90 84 Eastspring Investments 178 146
Revenue from external customers of Asia, US and UK insurance operations shown above are net of outwards reinsurance premiums of £364 million, £320 million, and £473 million respectively (2014: £311 million, £265 million and £223 million respectively). In Asia, revenue from external customers from no individual country exceeds 10 per cent of the Group total. The largest country is Hong Kong with a total revenue from external customers of £3,836 million (2014: Hong Kong £2,554 million).
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 167
Share of profit from joint ventures and associates, net of related tax 14 – – 41 55 42
commercial nature the amounts are also wholly reflected as charges within the income statement. After allowing for these charges, there is no effect on profit from this item. The presentation in the table above shows separately the amounts attributable to this item so that the underlying revenue and charges can be seen.
Asset management fee income 934 953 Other income 5 1 Staff costs (293) (351) Other costs (240) (203)
Underlying profit before performance-related fees 406 400 Share of associate results 14 13 Performance-related fees 22 33
Acquisition costs incurred for insurance policies (3,275) (2,668) Acquisition costs deferred less amortisation of acquisition costs 431 916 Administration costs and other expenditure (4,746) (4,486) Movements in amounts attributable to external unit holders of consolidated investment funds (618) (514)
Total acquisition costs and other expenditure includes: (a) Total depreciation and amortisation expense of £(755) million (2014: £(159) million) relates primarily to amortisation of deferred acquisition costs of insurance contracts and asset management contracts. The segmental analysis of total depreciation and amortisation expense is analysed below.
(c) Interest expense, excluding interest on core structural borrowings of shareholder-financed operations, amounted to £(147) million (2014: £(128) million) and is included as part of administrative costs and other expenditure. The segmental interest expense is analysed below.
(f) Analysis of depreciation and amortisation expense, and interest expense: £m
(g) There were no fee expenses relating to financial liabilities held at amortised cost included in acquisition costs in 2015 and 2014.
The costs of employment were: Business operations: Wages and salaries 1,370 1,323 Social security costs 101 100
B3.2 Share-based payment a Description of the plans The Group operates a number of share award and share option plans that provides Prudential plc shares to participants upon vesting. The plans which are in operation include Prudential Long-Term Incentive Plan (PLTIP), Annual Incentive Plan (AIP), Group Performance Share Plan (GPSP), Jackson Long-Term Incentive Plan (Jackson LTIP), savings-related share option schemes, share purchase plans and deferred bonus plans. Some of these plans are participated in by executive directors, the details of which are described in the directors’ remuneration report. In addition, the following information is provided.
The PCA LTIP provides eligible employees with conditional awards. Awards are discretionary and on a year-by-year basis determined by Prudential’s full year financial results and the employee’s contribution to the business. Awards vests after three years subject to the employee being in employment. Vesting of awards may also be subject to performance conditions. All awards are made in Prudential shares, or ADRs, except for countries where share awards are not feasible due to securities and/or tax reasons, where awards will be replaced by the cash value of the shares that would otherwise have been transferred.
Employees and eligible agents in a number of geographies are eligible for plans similar to the HMRCapproved Save As You Earn (SAYE) share option scheme in the UK. Eligible employees participate in the international savings-related share option scheme while eligible agents based in certain regions of Asia can participate in the non-employee savings-related share option scheme.
B3.2 Share-based payment continued b Outstanding options and awards The following table shows movement in outstanding options and awards under the Group’s share-based compensation plans at 31 December 2015 and 2014: Options outstanding under SAYE schemes
The weighted average share price of Prudential plc for the year ended 31 December 2015 was £15.49 compared to £13.75 for the year ended 31 December 2014.
The years shown above for weighted average remaining contractual life include the time period from end of vesting period to expiration of contract.
Dividend yield (%) – 2.35 – – 2.40 – Expected volatility (%) 21.48 22.73 – 21.91 20.77 – Risk-free interest rate (%) 0.88 1.02 – 1.25 1.51 – Expected option life (years) – 3.79 – – 3.77 – Weighted average exercise price (£) – 11.11 – – 11.55 – Weighted average share price (£) 16.67 13.52 – 13.18 14.02 – Weighted average fair value (£) 7.97 2.95 16.28 6.07 3.00 12.84
Total key management remuneration includes total directors’ remuneration of £42.7 million (2014: £50.5 million) less LTIP releases of £19.4 million (2014: £28.4 million) as shown in the directors’ remuneration table and related footnotes in the directors’ remuneration report. Further information on directors’ remuneration is given in the directors’ remuneration report.
Fees payable to the Company’s auditor for the audit of the Company’s annual accounts 2.0 2.0 Fees payable to the Company’s auditor and its associates for other services: Audit of subsidiaries pursuant to legislation 7.2 6.6 Audit-related assurance services 3.1 2.9 Tax compliance services 0.7 0.7 Other assurance services 2.2 1.9 Services relating to corporate finance transactions 0.2 0.1 All other services 1.2 2.4
The following features are of relevance to the determination of the 2015 results: a Asia insurance operations In 2015, the IFRS operating profit based on longer-term investment returns for Asia insurance operations included a profit of £62 million (2014: £49 million) representing a number of non-recurring items, none of which are individually significant.
Credit risk allowance: Long-term expected defaults note (ii) 13 – 13 14 – 14
Notes (i) Bond spread over swap rates reflect market observed data. (ii) Long-term expected defaults are derived by applying Moody’s data from 1970 to 2009 and the definition of the credit rating used is the second highest credit
Overall, the movement has led to the credit allowance for Pillar 1 purposes to be 32 per cent (2014: 41 per cent) of the bond spread over swap rates. For IFRS purposes it represents 25 per cent (2014: 32 per cent) of the bond spread over swap rates.
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 173
The reserves for credit risk allowance at 31 December 2015 for the UK shareholder annuity fund were as follows: Pillar 1 regulatory basis Total £bn
Other one-off transactions During 2015 the UK insurance operations entered into additional longevity reinsurance transactions to extend total coverage from £2.3 billion of annuity liabilities at the start of the year to £8.7 billion at the end of 2015 (on a Pillar 1 basis). Overall these transactions generated profit of £231 million (2014: £30 million). Of the £231 million, £170 million relates to transactions undertaken in the second half of 2015 covering £4.8 billion of annuity liabilities (on a Pillar 1 basis). These transactions, together with other specific management actions undertaken to position the balance sheet more efficiently under the new Solvency II regime, gave rise to IFRS operating profit in the second half of 2015 of £339 million in total, which is not expected to recur in future periods.
The total tax charge comprises: Current tax expense: Corporation tax (782) (1,102) Adjustments in respect of prior years 48 (6)
Deferred tax arising from: Origination and reversal of temporary differences 4 163 Impact of changes in local statutory tax rates (22) 1 Expense in respect of a previously unrecognised tax loss, tax credit or temporary difference from a prior period 10 6
Tax (charge) credit to policyholders’ returns (188) 15 (173) (540) Tax charge attributable to shareholders (546) (23) (569) (398)
The principal reason for the decrease in the tax charge attributable to policyholders’ returns is a reduction in the current tax owing to a significant decrease on investment returns in the second half of the year in the with-profits life fund in the UK insurance operations. The main elements of the deferred tax charge shown in the table below are a credit of £272 million relating to unrealised gains and losses on investments reflecting a decrease in unrealised gains on investments in the Group’s insurance operations and a charge of £200 million relating to short-term temporary differences reflecting future tax relief arising on decreases in policy reserves in the US insurance operations balances.
The total deferred tax (charge) credit arises as follows: Unrealised gains and losses on investments 272 (127) Balances relating to investment and insurance contracts (55) (43) Short-term temporary differences (200) 309 Capital allowances 1 (4) Unused tax losses (26) 35
In 2015, a deferred tax credit of £333 million (2014: charge of £(295) million) has been taken through other comprehensive income.
Profit (loss) before tax attributable to shareholders 1,036 1,199 1,075 (162) 3,148
Including non-recurring tax reconciling items 15% 24% 19% 22% 20% Excluding non-recurring tax reconciling items 15% 28% 21% 15% 22%
B5: Tax charge continued b Reconciliation of effective tax rate continued
Profit (loss) before tax attributable to shareholders 1,220 257 1,298 (161) 2,614
Effects of recurring tax reconciliation items: Income not taxable or taxable at concessionary rates (17) (6) – (2) (25) Deductions not allowable for tax purposes 13 – 7 9 29 Items related to taxation of life insurance businesses (44) (76) – – (120)
* The expected tax rates (rounded to the nearest whole percentage) reflect the corporation tax rates generally applied to taxable profit of the relevant country jurisdictions. For Asia operations the expected tax rates reflect the corporation tax rates weighted by reference to the source of profit of operations contributing to the aggregate business result. The expected tax rate for Other operations reflects the mix of business between UK and overseas non-insurance operations, which are taxed at a variety of rates. The rates will fluctuate from year to year dependent on the mix of profit.
Based on profit for the year 3,148 (569) 2,579 101.0p 100.9p
Gain on sale of PruHealth and PruProtect 86 – 86 3.4p 3.4p Amortisation of acquisition accounting
Weighted average number of shares for calculation of: Basic earnings per share 2,553 2,549 Shares under option at end of year 9 9 Number of shares that would have been issued at fair value on assumed option price (6) (6)
Dividends relating to reporting year: Second interim dividend/Final dividend 26.47p 681 25.74p 658 Special dividend 10.00p 257
Dividends declared and paid in reporting year: Current year interim dividend 12.31p 315 11.19p 285 Final dividend for prior year 25.74p 659 23.84p 610
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 179
C1.1 Group statement of financial position – analysis by segment a Position as at 31 December 2015
Assets Intangible assets attributable to shareholders: Deferred acquisition costs and other
Investments of long-term business and other operations: Investments in joint ventures and associates accounted for using the equity method D6 475 – 434 909 125 – – 1,034
C1.1 Group statement of financial position – analysis by segment continued
Total policyholder liabilities and unallocated surplus of with-profits funds C4.1(a) 45,069 138,913 152,893 336,875 – – (1,261) 335,614
Operational borrowings attributable to shareholder-financed operations C6.2 – 66 179 245 10 1,705 – 1,960 Borrowings attributable to with-profits
Other non-insurance liabilities: Obligations under funding, securities lending and sale and repurchase agreements – 1,914 1,651 3,565 200 – – 3,765
Net asset value attributable to unit holders of consolidated unit trusts and similar funds 2,802 22 5,049 7,873 – – – 7,873
Intangible assets attributable to with-profits funds: Goodwill in respect of acquired subsidiaries for venture fund and other investment purposes C5.2(a) – – 186 186 – – – 186
Total policyholder liabilities and unallocated surplus of with-profits funds C4.1(a) 42,170 126,746 154,436 323,352 – – (1,363) 321,989
Operational borrowings attributable to shareholder-financed operations C6.2(a) – 179 74 253 6 2,004 – 2,263
Notes (i) Included within other non-investment and non-cash assets are accrued investment income of £2,751 million (2014: £2,667 million) and other debtors
Of the £4,706 million (2014: £4,519 million) of accrued investment income and other debtors, £433 million (2014: £381 million) is expected to be settled after one year or more.
Intangible assets attributable to with-profits funds: In respect of acquired subsidiaries for venture fund and other investment purposes 185 – – – – – 185 186
Deferred acquisition costs and other intangible assets 50 – – – – – 50 61
Assets held for sale 2 – – – – – 2 824
Total policyholder liabilities and unallocated surplus of with-profits funds C4.1(a) 121,003 125,819 88,792 – – – 335,614 321,989
Core structural borrowings of shareholder-financed operations: Subordinated debt – – – – 4,018 – 4,018 3,320
Operational borrowings attributable to shareholder-financed operations C6.2(a) – 4 241 10 1,705 – 1,960 2,263
Borrowings attributable to with-profits operations C6.2(b) 1,332 – – – – – 1,332 1,093
Other non-investment and non-cash assets 1,981 207 1,433 3,621 3,111 Investments of long-term business and other operations: Investment properties – – 5 5 – Investments in joint ventures and associates accounted for using the equity method – – 475 475 374 Financial investments: Equity securities and portfolio holdings
Note The statement of financial position for with-profits business comprises the with-profits assets and liabilities of the Hong Kong, Malaysia and Singapore operations. Assets and liabilities of other participating business are included in the column for ‘Other business’.
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 187
Contract liabilities (including amounts in respect of contracts classified as investment contracts under IFRS 4) note (v) 91,022 47,891 138,913 126,746
Core structural borrowings of shareholder-financed operations – 169 169 160 Operational borrowings attributable to shareholder-financed
† Partnerships in investment pools and other comprise primarily investments in limited partnerships. These include interests in the PPM America Private Equity Fund and diversified investments in 162 (2014: 164) other partnerships by independent money managers that generally invest in various equities and fixed income loans and securities.
(v) In addition to the policyholder liabilities above, Jackson has entered into a programme of funding arrangements under contracts, which, in substance are almost identical to GICs. The liabilities under these funding agreements totalled £1,725 million (2014: £844 million) and are included in other non-insurance liabilities in the statement of financial position above.
Total unrealised valuation movements (1,305) 956 Related change in amortisation of deferred acquisition costs C5.1(b) 337 (87) Related tax 339 (304)
Total comprehensive income for the year 564 1,049 Dividends, interest payments to central companies and other movements (477) (428)
Net increase in equity 87 621 Shareholders’ equity at beginning of year 4,067 3,446
Intangible assets attributable to with-profits funds: In respect of acquired subsidiaries for venture fund and other investment purposes – 185 – – – 185 186 Deferred acquisition costs – 8 – – – 8 7
Other non-investment and non-cash assets 171 4,131 371 2,536 2,907 7,209 6,826 Investments of long-term business and other operations: Investments in joint ventures and associates accounted for using the equity method – 434 – – – 434 536 Financial investments: Equity securities and portfolio holdings
Liabilities Policyholder liabilities and unallocated surplus of with-profits funds: Contract liabilities (including amounts in respect of contracts classified as investment contracts under IFRS 4) 5,919 83,607 21,442 31,382 52,824 142,350 144,088
Unallocated surplus of with-profits funds (reflecting application of ‘realistic’ basis provisions for UK regulated with-profits funds) – 10,543 – – – 10,543 10,348
Borrowings attributable to with-profits funds 12 1,320 – – – 1,332 1,093
(iv) The shareholders’ equity at 31 December 2015 includes the effect of a classification change of £702 million from Other operations to UK insurance operations in order to align with Solvency II segmental reporting, with no overall effect on the Group’s shareholders’ equity.
Assets Intangible assets: Deferred acquisition costs and other intangible assets 16 – 3 2 21 21
Other non-investment and non-cash assets 715 614 236 79 1,644 1,605 Investments in joint ventures and associates accounted for using the equity method 29 – – 96 125 107 Financial investments: Equity securities and portfolio holdings in unit trusts 70 – – 15 85 79
Intra-group debt represented by operational borrowings at Group level note (i) – 1,705 – – 1,705 2,004 Other non-insurance liabilities note (ii) 644 2,142 207 116 3,109 3,066
C3.1 Group assets and liabilities – classification The classification of the Group’s assets and liabilities, and its corresponding accounting carrying values reflect the requirements of IFRS. For financial investments, the basis of valuation reflects the Group’s application of IAS 39 ‘Financial Instruments: Recognition and Measurement’ as described further below. Where assets and liabilities have been valued at fair value or measured on a different basis but fair value is disclosed, the Group has followed the principles under IFRS 13 ‘Fair Value Measurement’. The basis applied is summarised below: At fair value
Assets Intangible assets attributable to shareholders: Deferred acquisition costs and other intangible assets – – 8,422 8,422
Investments accounted for using the equity method – – 1,034 1,034
Assets held for sale note (vii) 2 – – 2 2 Cash and cash equivalents – – 7,782 7,782 7,782
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 193
Other non-insurance liabilities: Obligations under funding, securities lending and sale and repurchase agreements – – 3,765 3,765 3,775 Net asset value attributable to unit holders of consolidated unit trusts and similar funds 7,873 – – 7,873 7,873 Deferred tax liabilities – – 4,010 4,010 Current tax liabilities – – 325 325 Accruals and deferred income – – 952 952
Assets Intangible assets attributable to shareholders: Deferred acquisition costs and other intangible assets – – 7,261 7,261
Investments accounted for using the equity method – – 1,017 1,017
Other non-insurance liabilities: Obligations under funding, securities lending and sale and repurchase agreements – – 2,347 2,347 2,361 Net asset value attributable to unit holders of consolidated unit trusts and similar funds 7,357 – – 7,357 7,357 Deferred tax liabilities – – 4,291 4,291 Current tax liabilities – – 617 617 Accruals and deferred income – – 947 947
Liabilities held for sale note (vii) 770 – – 770 770
(ii) Realised gains and losses on the Group’s investments for 2015 recognised in the income statement amounted to a net gain of £3.0 billion (2014: £2.9 billion). (iii) The carrying value of investment contracts with discretionary participation features is on IFRS 4 basis. It is impractical to determine the fair value of these
contracts due to the lack of a reliable basis to measure participation features. (iv) Loans and receivables are reported net of allowance for loan losses of £10 million (2014: £21 million). (v) As at 31 December 2015, £481 million (2014: £477 million) of convertible bonds were included in debt securities and £1,217 million (2014: £1,148 million) were
The estimated fair value of derivative financial instruments reflects the estimated amount the Group would receive or pay in an arm’s length transaction. This amount is determined using quoted prices if exchange listed, quotations from independent third parties or valued internally using standard market practices.
The fair value of the subordinated and senior debt issued by the parent company is determined using quoted prices from independent third parties.
b Fair value measurement hierarchy of Group assets and liabilities Assets and liabilities carried at fair value on the statement of financial position The table on the next page shows the assets and liabilities carried at fair value analysed by level of the IFRS 13 ‘Fair Value Measurement’ defined fair value hierarchy. This hierarchy is based on the inputs to the fair value measurement and reflects the lowest level input that is significant to that measurement.
With-profits Equity securities and portfolio holdings in unit trusts 35,441 3,200 554 39,195
Total financial investments, net of derivative liabilities 121,044 5,298 26 126,368
Total financial investments, net of derivative liabilities 195,689 108,616 7,491 311,796 Investment contracts liabilities without discretionary participation features held at fair value – (16,022) – (16,022) Net asset value attributable to unit holders of consolidated unit trusts and
Total financial instruments at fair value 189,907 91,217 4,108 285,232 * Loans in the above table are those classified as fair value through profit and loss in note C3.1.
Equity securities and portfolio holdings in unit trusts 140,831 3,284 747 144,862
In addition to the financial instruments shown above, the assets and liabilities held for sale on the consolidated statement of financial position at 31 December 2014 in respect of Japan life business included a net financial instruments balance of £844 million, primarily for equity securities and debt securities. Of this amount, £814 million was classified as level 1 and £30 million as level 2.
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 199
Total financial instruments at fair value 3,760 14 62 817 (1,093) 462 (28) 206 (92) 4,108
Net asset value attributable to unit holders of consolidated unit trusts and similar funds (1,327) (14) – (18) 18 123 (73) – – (1,291)
Total financial instruments at fair value 3,385 565 20 428 (675) 227 (169) 13 (34) 3,760
C3.2 Group assets and liabilities – measurement continued Of the total net gains and losses in the income statement of £14 million (2014: £565 million), £67 million (2014: £344 million) relates to net unrealised gains of financial instruments still held at the end of the year, which can be analysed as follows: Equity securities 94 70 Debt securities (12) 149 Other investments 160 284 Derivative liabilities (15) (137) Net asset value attributable to unit holders of consolidated unit trusts and similar funds (160) (14) Other financial liabilities – (8)
Of the total net gains and losses in the income statement of £537 million (2014: £914 million), £505 million (2014: £851 million) relates to net unrealised gains of investment properties still held at the end of the year.
In accordance with the Group’s risk management framework, the estimated fair value of derivative financial instruments valued internally using standard market practices are subject to assessment against external counterparties’ valuations.
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 203
Excluding the loans and funds withheld liability under REALIC’s reinsurance arrangements as described above, which amounted to a net liability of £(164) million (2014: £(176) million), the level 3 fair valued financial assets net of financial liabilities were £4,272 million (2014: £3,936 million). Of this amount, a net liability of £(77) million (2014: net asset of £11 million) was internally valued, representing less than 0.1 per cent of the total fair valued financial assets net of financial liabilities (2014: less than 0.1 per cent). Internal valuations are inherently more subjective than external valuations. Included within these internally valued net asset/liability were: (a) Debt securities of £381 million (2014: £298 million), which were either valued on a discounted cash flow method with an internally developed discount rate or on external prices adjusted to reflect the specific known conditions relating to these securities (eg distressed securities or securities which were being restructured).
(d) Derivative liabilities of £(353) million (2014: £(23) million) which are valued internally using standard market practices but are subject to independent assessment against external counterparties’ valuations.
Of the internally valued net liability referred to above of £(77) million (2014: net asset of £11 million): (a) A net asset of £29 million (2014: net liability of £(133) million) was held by the Group’s participating funds and therefore shareholders’ profit and equity are not impacted by movements in the valuation of these financial instruments.
In addition, in 2015, the transfers into level 3 were £136 million and the transfers out of level 3 were £92 million. These transfers were between levels 3 and 2 and primarily for equity securities and debt securities.
f Valuation processes applied by the Group The Group’s valuation policies, procedures and analyses for instruments categorised as level 3 are overseen by Business Unit committees as part of the Group’s wider financial reporting governance processes. The procedures undertaken include approval of valuation methodologies, verification processes, and resolution of significant or complex valuation issues. In undertaking these activities the Group makes use of the extensive expertise of its asset management functions.
Debt securities are carried at fair value. The amounts included in the statement of financial position are analysed as follows, with further information relating to the credit quality of the Group’s debt securities at 31 December 2015 provided in the notes below.
US note (b) 34,071 32,980 UK note (c) 83,101 86,349 Other operations note (d) 2,207 2,293
Government bonds 162 174 Corporate bonds* 481 654 * Rated as investment grade by local external ratings agencies.
Corporate and government security and commercial loans: Publicly traded and SEC Rule 144A securities* 21,776 20,745 Non-SEC Rule 144A securities 3,733 3,745
Total US debt securities† 34,071 32,980 * A 1990 SEC rule that facilitates the resale of privately placed securities under Rule 144A that are without SEC registration to qualified institutional investors. The rule was designed to develop a more liquid and efficient institutional resale market for unregistered securities.
† Debt securities for US operations included in the statement of financial position comprise: Available-for-sale 33,984 32,897 Fair value through profit or loss: Securities held to back liabilities for funds withheld under reinsurance arrangement 87 83 ii Valuation basis, presentation of gains and losses and securities in an unrealised loss position Under IAS 39, unless categorised as ‘held to maturity’ or ‘loans and receivables’, debt securities are required to be fair valued. Where available, quoted market prices are used. However, where securities do not have an externally quoted price based on regular trades or where markets for the securities are no longer active as a result of market conditions, IAS 39 requires that valuation techniques be applied. IFRS 13 requires classification of the fair values applied by the Group into a three-level hierarchy. At 31 December 2015, 0.1 per cent of Jackson’s debt securities were classified as level 3 (31 December 2014: 0.1 per cent) comprising of fair values where there are significant inputs which are not based on observable market data.
Assets fair valued at below book value Book value* 13,163 5,899
Fair value (as included in statement of financial position) 12,490 5,719
Fair value (as included in statement of financial position) 21,494 27,178
C3.3 Debt securities continued Debt securities classified as available-for-sale in an unrealised loss position a Fair value of securities as a percentage of book value The following table shows the fair value of the debt securities in a gross unrealised loss position for various percentages of book value: Fair value
More than 10 years (247) (54) Mortgage-backed and other debt securities (41) (31)
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 207 iii Ratings The following table summarises the securities detailed above by rating using S&P, Moody’s, Fitch and implicit ratings of mortgage-backed securities based on National Association of Insurance Commissioners (NAIC) valuations.
S&P – AAA 196 164 S&P – AA+ to AA- 5,512 6,067 S&P – A+ to A- 8,592 8,640 S&P – BBB+ to BBB- 11,378 10,308 S&P – Other 817 1,016
Total debt securities (see overview table in note (i) above) 34,071 32,980 * The Securities Valuation Office of the NAIC classifies debt securities into six quality categories ranging from Class 1 (the highest) to Class 6 (the lowest). Performing securities are designated as Classes 1 to 5 and securities in or near default are designated Class 6.
Where no external ratings are available, internal ratings produced by the Group’s asset management operation, which are prepared on the Company’s assessment of a comparable basis to external ratings, are used where possible. The £10,382 million total debt securities held at 31 December 2015 (2014: £10,087 million) which are not externally rated are either internally rated or unrated. These are analysed as follows: Internal ratings or unrated: AAA to A- 5,570 4,917 BBB to B- 3,234 3,755 Below B- or unrated 1,578 1,415
d Other operations The debt securities are principally held by Prudential Capital.
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 209 e Asset-backed securities The Group’s holdings in Asset-Backed Securities (ABS), which comprise Residential Mortgage-Backed Securities (RMBS), Commercial Mortgage-Backed Securities (CMBS), Collateralised Debt Obligations (CDO) funds and other asset-backed securities, at 31 December 2015 are as follows: Shareholder-backed operations: Asia insurance operations note (i) 111 104 US insurance operations note (ii) 4,320 4,518 UK insurance operations (2015: 21% AAA, 40% AA) note (iii) 1,531 1,864 Asset management operations note (iv) 911 875
(31 December 2014: 99 per cent) are investment grade. (ii) US insurance operations US insurance operations’ exposure to asset-backed securities at 31 December 2015 comprises: RMBS RMBS Sub-prime (2015: 4% AAA, 13% AA, 7% A) 191 235
CDO funds (2015: 44% AAA, 2% AA, 23% A), including £nil exposure to sub-prime 52 53 Other ABS (2015: 24% AAA, 12% AA, 54% A), including £69 million exposure to sub-prime 581 555
C3.3 Debt securities continued f Group sovereign debt and bank debt exposure The Group exposures held by the shareholder-backed business and with-profits funds in sovereign debts and bank debt securities at 31 December 2015 are analysed as follows: Exposure to sovereign debts
Other Eurozone (principally Belgium) 62 44 5 29 * Including bonds guaranteed by the federal government. † The exposure to the United States sovereign debt comprises holdings of Jackson, the UK and Asia insurance operations.
C3.4 Loans portfolio Loans are accounted for at amortised cost net of impairment except for: — Certain mortgage loans which have been designated at fair value through profit or loss of the UK insurance operations as this loan portfolio is managed and evaluated on a fair value basis; and
— Certain policy loans of the US insurance operations which are held to back liabilities for funds withheld under reinsurance arrangement and are also accounted on a fair value basis. See note (b).
Total Asia insurance operations loans 1,084 1,014 * The mortgage and policy loans are secured by properties and life insurance policies respectively. † The majority of the other loans are commercial loans held by the Malaysia operation and which are all investment graded by two local rating agencies.
b US insurance operations The loans of the Group’s US insurance operations comprise: Loans backing liabilities for
† The policy loans are fully secured by individual life insurance policies or annuity policies. Policy loans backing liabilities for funds withheld under reinsurance arrangements are accounted for at fair value through profit or loss. All other policy loans are accounted for at amortised cost, less any impairment.
d Asset management operations These relate to loans and receivables managed by Prudential Capital. These assets are generally secured but most have no external credit ratings. Internal ratings prepared by the Group’s asset management operations, as part of the risk management process, are: Loans and receivables internal ratings: AAA – 101 A+ to A- 157 161 BBB+ to BBB- 607 244 BB+ to BB- 119 49 B and other 2 299
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 213
C3.5 Financial instruments – additional information a Financial risk i Liquidity analysis Contractual maturities of financial liabilities on an undiscounted cash flow basis The following table sets out the contractual maturities for applicable classes of financial liabilities, excluding derivative liabilities and investment contracts that are separately presented. The financial liabilities are included in the column relating to the contractual maturities at the undiscounted cash flows (including contractual interest payments) due to be paid assuming conditions are consistent with those of year end.
C3.5 Financial instruments – additional information continued The majority of derivative assets and liabilities have been included at fair value within the one year or less column, representing the basis on which they are managed (ie to manage principally asset or liability value exposures). The Group has no cash flow hedges and in general, contractual maturities are not considered essential for an understanding of the timing of the cash flows for these instruments. The only exception is certain identified interest rate swaps which are fully expected to be held until maturity solely for the purposes of matching cash flows on separately held assets and liabilities. For these instruments the undiscounted cash flows (including contractual interest amounts) due to be paid under the swap contract assuming conditions are consistent with those at year end are included in the column relating to the contractual maturity of the derivative.
For the reasons above, an analysis of the Group’s assets by contractual maturity is not considered appropriate to evaluate the nature and extent of the Group’s liquidity risk.
ii Credit risk The Group’s maximum exposure to credit risk of financial instruments (before any allowance for collateral or allocation of losses to policyholders) is represented by the carrying value of financial instruments on the balance sheet that have exposures to credit risk comprising cash and cash equivalents, deposits, debt securities, loans and derivative assets, and other debtors, the carrying value of which are disclosed at the start of this note and note 3.5(b) below for derivative assets. The collateral in place in relation to derivatives is described in note C3.5(c) below. Note C3.4, describes the security for these loans held by the Group.
Of the total loans and receivables held, £27 million (2014: £11 million) are past their due date but are not impaired. Of the total past due but not impaired, £22 million are less than one year past their due date (2014: £5 million). The Group expects full recovery of these loans and receivables.
In addition, during 2015 and 2014 the Group did not take possession of any other collateral held as security. Further details of collateral and pledges are provided in note C3.5(c) below.
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 215 iii Foreign exchange risk As at 31 December 2015, the Group held 22 per cent (2014: 22 per cent) and 11 per cent (2014: 9 per cent) of its financial assets and financial liabilities respectively, in currencies, mainly US dollar and Euro, other than the functional currency of the relevant business unit.
Of these financial assets, 53 per cent (2014: 56 per cent) are held by the PAC with-profits fund, allowing the fund to obtain exposure to foreign equity markets.
b Derivatives and hedging Derivatives The Group enters into a variety of exchange traded and over-the-counter derivative financial instruments, including futures, options, forward currency contracts and swaps such as interest rate swaps, cross-currency swaps, swaptions and credit default swaps.
All over-the-counter derivative transactions, with the exception of some Asia transactions, are conducted under standardised ISDA (International Swaps and Derivatives Association Inc) master agreements and the Group has collateral agreements between the individual Group entities and relevant counterparties in place under each of these market master agreements.
The Group has no cash flow hedges or fair value hedges in place.
At 31 December 2015, the Group had lent £5,995 million (2014: £4,578 million) of securities of which £4,687 million (2014: £3,129 million) was lent by the PAC with-profits fund and held cash and securities collateral under such agreements of £6,342 million (2014: £4,887 million) of which £5,002 million (2014: £3,400 million) was held by the PAC with-profits fund.
At 31 December 2015, the Group had entered into reverse repurchase transactions under which it purchased securities and had taken on the obligation to resell the securities. The fair value of the collateral held in respect of these transactions was £10,076 million (2014: £12,857 million).
In addition, at 31 December 2015, the Group had entered into repurchase transactions for which the fair value of the collateral pledged was £190 million in the form of securities and £10 million in the form of cash (2014: £186 million in the form of securities).
Financial liabilities: Securities lending (1,317) – 1,317 – – Repurchase agreements (186) – – 186 –
Notes (i) The Group has not offset any of the amounts presented in the consolidated statement of financial position. (ii) Represents the amount that could be offset under master netting or similar arrangements where Group does not satisfy the full criteria to offset
on the consolidated statement of financial position. (iii) Excludes initial margin amounts for exchange-traded derivatives.
During the year ended 31 December 2015, net impairment charges of £(35) million (2014: net impairment reversals of £37 million) were recognised for available-for-sale securities and loans and receivables analysed as follows: Available-for-sale debt securities held by Jackson (19) (7) Loans and receivables* (16) 44
Impairment recognised on available-for-sale securities amounted to £(19) million (2014: £(7) million) arising from: Residential mortgage-backed securities (8) (2) Public fixed income (2) –
C3.5 Financial instruments – additional information continued The impairment recorded on the residential mortgage-backed securities was primarily due to reduced cash flow expectations on such securities that are collateralised by diversified pools of primarily below investment grade securities. Of the impaired losses of £19 million (2014: £7 million), the top five individual corporate issuers made up 74 per cent (2014: 76 per cent), reflecting a deteriorating business outlook of the companies concerned. The impairment losses have been recorded in ‘investment return’ in the income statement.
Jackson’s portfolio of debt securities is managed proactively with credit analysts closely monitoring and reporting on the credit quality of its holdings. Jackson continues to review its investments on a case-by-case basis to determine whether any decline in fair value represents an impairment. In addition, investments in structured securities are subject to a rigorous review of their future estimated cash flows, including expected and stress case scenarios, to identify potential shortfalls in contractual payments (both interest and principal). Impairment charges are recorded on structured securities when the Company forecasts a contractual payment shortfall. Situations where such a shortfall would not lead to a recognition of a loss are rare. However, some structured securities do not have a single determined set of future cash flows and instead, there can be a reasonable range of estimates that could potentially emerge. With this variability, there could be instances where the projected cash flow shortfall under management’s base case set of assumptions is so minor that relatively small and justifiable changes to the base case assumptions would eliminate the need for an impairment loss to be recognised. The impairment loss reflects the difference between the fair value and book value.
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 219
Net flows: Shareholders’ transfers post-tax (40) – (200) (240) Investment-related items and other movements 3,480 3,712 14,310 21,502 Foreign exchange translation differences 1,372 7,360 (90) 8,642
Comprising: Policyholder liabilities on the consolidated statement of financial position‡ 41,255 138,913 142,350 322,518 Unallocated surplus of with-profits funds on the consolidated statement of financial position§ 2,553 – 10,543 13,096 Group’s share of policyholder liabilities of joint ventures* 4,970 – – 4,970
† On 1 January 2014, following consultation with the policyholders of PAC and regulators and court approval, the Hong Kong branch of PAC was transferred to separate subsidiaries established in Hong Kong. From this date, the unallocated surplus of the Hong Kong with-profits business is reported within the Asia insurance operations segment.
Comprising: Policyholder liabilities on the consolidated statement of financial position 22,874 138,913 52,824 214,611 Group’s share of policyholder liabilities relating to joint ventures 4,970 – – 4,970
Notes (a) Including net flows of the Group’s insurance joint ventures. (b) Policyholder liabilities relating to shareholder-backed business grew by £11.4 billion from £208.2 billion at 31 December 2014 to £219.6 billion at 31 December
Income and expense included in the income statement and other comprehensive income 23,532 (41) 54 Foreign exchange translation differences 8,321 338 335
At 31 December 2014 / 1 January 2015 250,038 6,315 12,450 Income and expense included in the income statement and other comprehensive income 3,456 342 522 Foreign exchange translation differences 7,259 335 124 iv Reinsurers’ share of insurance contract liabilities
The Group cedes certain business to other insurance companies. Although the ceding of insurance does not relieve the Group from its liability to its policyholders, the Group participates in such agreements for the purpose of managing its loss exposure. The Group evaluates the financial condition of its reinsurers and monitors concentration of credit risk from similar geographic regions, activities or economic characteristics of the reinsurers to minimise its exposure from reinsurer insolvencies. Of the reinsurers’ share of insurance contract liabilities balance of £7,903 million at 31 December 2015 (2014: £7,167 million), 90 per cent (2014: 93 per cent) were ceded by the Group’s UK and US operations, of which 96 per cent (2014: 95 per cent) of the balances were from reinsurers with Standard & Poor’s rating A- and above.
C4.1 Movement and duration of liabilities continued C4.1(b) Asia insurance operations i Analysis of movements in policyholder liabilities and unallocated surplus of with-profits funds A reconciliation of the total policyholder liabilities and unallocated surplus of with-profits funds of Asia insurance operations from the beginning of the year to the end of the year is as follows: With-profits business £m
Reallocation of unallocated surplus for the domestication of the Hong Kong branch note (b) 1,690 – – 1,690
Shareholders’ transfers post-tax (40) – – (40) Investment-related items and other movements note (e) 1,621 1,336 523 3,480 Foreign exchange translation differences note (a) 689 375 308 1,372
Comprising: Policyholder liabilities on the consolidated statement of financial position 16,510 13,874 8,321 38,705 Unallocated surplus of with-profits funds on the consolidated statement of financial position 2,102 – – 2,102 Group’s share of policyholder liabilities relating to joint ventures* – 2,335 1,880 4,215
Shareholders’ transfers post-tax (43) – – (43) Investment-related items and other movements note (e) (243) (536) 415 (364) Foreign exchange translation differences note (a) 506 (394) 82 194
Comprising: Policyholder liabilities on the consolidated statement of financial position† 18,381 13,355 9,519 41,255 Unallocated surplus of with-profits funds on the consolidated statement of financial position 2,553 – – 2,553 Group’s share of policyholder liabilities relating to joint ventures* – 2,611 2,359 4,970
* The Group’s investment in joint ventures are accounted for on an equity method basis and the Group’s share of the policyholder liabilities as shown above relate to the joint venture life businesses in China, India and of the Takaful business in Malaysia.
† The policyholder liabilities of the with-profits business of £18,381 million, shown in the table above, is after deducting the intra-group reinsurance liabilities ceded by the UK insurance operations of £1,261 million to the Hong Kong with-profits business (2014: £1,363 million). Including this amount the Asia with-profits policyholder liabilities are £19,642 million.
Notes (a) Movements in the year have been translated at the average exchange rates for the year ended 31 December 2015. The closing balance has been translated
(c) Net flows have increased by £595 million to £3,969 million in 2015 compared with £3,374 million in 2014 reflecting increased flows from new business and growth in the in-force books.
(e) Investment-related items and other movements for 2015 principally represents unrealised losses on bonds and equities, following rising bond yields and lower Asia equity markets in 2015.
ii Duration of liabilities The table below shows the carrying value of policyholder liabilities and the maturity profile of the cash flows on a discounted basis for 2015 and 2014, taking account of expected future premiums and investment returns: Policyholder liabilities 41,255 38,705
Net flows note (b) 7,887 589 8,476 Transfers from general to separate account 847 (847) – Investment-related items and other movements note (c) (4,351) 527 (3,824) Foreign exchange translation differences note (a) 4,898 2,617 7,515
Notes (a) Movements in the year have been translated at an average rate of US$1.53/£1.00 (2014: US$1.65/£1.00). The closing balances have been translated at closing rate
decreases in equities and bond values during the year. Fixed annuity, GIC and other business investment and other movements of £527 million primarily reflect the increase in interest credited to the policyholder accounts in the year and an increase in other guarantee reserves.
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 225
Investment-related items and other movements 9,637 1,597 3,076 14,310 Foreign exchange translation differences (90) – – (90)
Investment-related items and other movements note (c) 1,999 579 (259) 2,319 Foreign exchange translation differences 14 – – 14
Notes (a) On 1 January 2014, following consultation with the policyholders of PAC and regulators and court approval, the Hong Kong branch of PAC was transferred
The following tables show the carrying value of the policyholder liabilities and the maturity profile of the cash flows, on a discounted basis for 2015 and 2014, for insurance contracts, as defined by IFRS: With-profits business Annuity business
Expected maturity: Expected maturity: — The cash flow projections of expected benefit payments used in the maturity profile table above are from value of in-force business and exclude the value of future new business, including future vesting of internal pension contracts.
— Benefit payments do not reflect the pattern of bonuses and shareholder transfers in respect of the with-profits business. — Investment contracts under ‘Other’ comprise certain unit-linked and similar contracts accounted for under IAS 39 and IAS 18. — For business with no maturity term included within the contracts, for example with-profits investment bonds such as Prudence Bonds, an assumption is made as to likely duration based on prior experience.
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 227
Product guarantees in Asia can be broadly classified into four main categories, namely premium rate, cash value or interest rate guarantees, policy renewability and convertibility options.
The risks on death coverage through premium rate guarantees are low due to the diversified nature of the business as well as rigorous product pricing.
Cash value and interest rate guarantees are of three types: Maturity values Maturity values are guaranteed for non-participating products and on the guaranteed portion of participating products. Declared regular bonuses are also guaranteed once vested. Future bonus rates and cash dividends are not guaranteed on participating products; Surrender values Surrender values are guaranteed for non-participating products and on the guaranteed portion of participating products. The surrender value of declared reversionary bonuses are also guaranteed once vested. Market value adjustments and surrender penalties are used for certain products and where the law permits such adjustments in cash values; and
The guarantees are borne by shareholders for non-participating and investment-linked (non-investment guarantees only) products. Participating product guarantees are predominantly supported by the segregated life funds and their estates.
C4.2 Products and determining contract liabilities continued Determining contract liabilities For the with-profits business, the total value of the with-profits funds is driven by the underlying asset valuation with movements reflected principally in the accounting value of policyholder liabilities and unallocated surplus. Similarly, for the unit-linked business, the attaching liabilities reflect the unit value obligation driven by the value of the investments of the unit fund.
The policy provides that at Jackson’s discretion it may reset the interest rate, subject to a guaranteed minimum. At 31 December 2015, Jackson had fixed interest rate annuities totalling £12.1 billion (2014: £11.7 billion) in account value with minimum guaranteed rates ranging from 1.0 per cent to 5.5 per cent and a 3.00 per cent average guaranteed rate (2014: 1.0 per cent to 5.5 per cent and a 3.03 per cent average guaranteed rate).
Fixed index annuities Fixed index annuities accounted for 6 per cent (2014: 6 per cent) of Jackson’s policy and contract liabilities at 31 December 2015. Fixed index annuities vary in structure, but generally are deferred annuities that enable policyholders to obtain a portion of an equity-linked return (based on participation rates and caps), and provide a guaranteed minimum return. These guaranteed minimum rates are generally set at 1.0 to 3.0 per cent. At 31 December 2015, Jackson had fixed index annuities allocated to indexed funds totalling £6.4 billion (2014: £6.3 billion) in account value with minimum guaranteed rates on index accounts ranging from 1.0 per cent to 3.0 per cent and a 1.79 per cent average guaranteed rate (2014: 1.0 per cent to 3.0 per cent and a 1.83 per cent average guarantee rate). At 31 December 2015, Jackson also offered fixed interest accounts on some fixed index annuity products. At 31 December 2015, fixed interest accounts of fixed index annuities totalled £1.9 billion (2014: £1.8 billion) in account value with minimum guaranteed rates ranging from 1.0 per cent to 3.0 per cent and a 2.52 per cent average guaranteed rate (2014: 1.0 per cent to 3.0 per cent and a 2.53 per cent average guaranteed rate).
Jackson hedges the equity return risk on fixed index products using offsetting equity exposure in the variable annuity product. The cost of hedging is taken into account in setting the index participation rates or caps. Jackson bears the investment risk and a portion of the surrender risk on these products.
Immediate annuities At 31 December 2015, immediate annuities accounted for 1 per cent (2014: 1 per cent) of Jackson’s policy and contract liabilities. Immediate annuities guarantee a series of payments beginning within a year of purchase and continuing over either a fixed period of years and/or the life of the policyholder. If the term is for the life of the policyholder, then Jackson’s primary risks are mortality and reinvestment. The implicit interest rate on these products is based on the market conditions that exist at the time the policy is issued and is guaranteed for the term of the annuity.
C4.2 Products and determining contract liabilities continued iii Life insurance Life insurance products accounted for 11 per cent (2014: 12 per cent) of Jackson’s policy and contract liabilities at 31 December 2015. Jackson discontinued new sales of life insurance products in 2012. Life products include term life and interest-sensitive life (universal life and variable universal life). Term life provides protection for a defined period and a benefit that is payable to a designated beneficiary upon death of the insured. Universal life provides permanent individual life insurance for the life of the insured and includes a savings element. Variable universal life is a type of life insurance policy that combines death benefit protection with the ability for the policyholder account to be invested in separate account funds. For certain fixed universal life plans, additional provisions are held to reflect the existence of guarantees offered in the past that are no longer supported by earnings on the existing asset portfolio, or for situations where future mortality charges are not expected to be sufficient to provide for future mortality costs.
Excluding the business that is subject to the retrocession treaties at 31 December 2015, Jackson had interest-sensitive life business in force with total account value of £6.1 billion (2014: £5.9 billion), with minimum guaranteed interest rates ranging from 2.5 per cent to 6.0 per cent with a 4.66 per cent average guaranteed rate (2014: 2.5 per cent to 6.0 per cent with a 4.65 per cent average guaranteed rate).
Under a funding agreement, the policyholder either makes a lump sum deposit or makes specified periodic deposits. Jackson agrees to pay a rate of interest, which may be fixed or a floating short-term interest rate linked to an external index. The duration of the funding agreements range between one and thirty years. In 2015 and 2014, there were no funding agreements terminable by the policyholder with less than 90 days’ notice.
Capitalised acquisition costs and deferred income for these contracts are amortised over the life of the book of contracts. The present value of the estimated gross profits is generally computed using the rate of interest that accrues to policyholder balances (sometimes referred to as the contract rate). Estimated gross profits include estimates of the following, each of which will be determined based on the best estimate of amounts over the life of the book of contracts without provision for adverse deviation: — Amounts expected to be assessed for mortality less benefit claims in excess of related policyholder balances; — Amounts expected to be assessed for contract administration less costs incurred for contract administration; — Amounts expected to be earned from the investment of policyholder balances less interest credited to policyholder balances; — Amounts expected to be assessed against policyholder balances upon termination of contracts (sometimes referred to as surrender charges); and
In the case of variable annuity contracts with guaranteed benefits as described above, liabilities for these benefits are accounted for under US GAAP and are valued as described below.
Jackson regularly evaluates estimates used and adjusts the additional Guaranteed Minimum Death Benefit, Guaranteed Minimum Income Benefit and Guaranteed Minimum Withdrawal Benefit ‘for life’ liability balances, with a related charge or credit to benefit expense if actual experience or other evidence suggests that earlier assumptions should be revised.
For Guaranteed Minimum Withdrawal Benefit and Guaranteed Minimum Income Benefit reinsurance embedded derivatives that are fair valued under IAS 39, Jackson bases its volatility assumptions on implied market volatility for periods ranging from 5 to 10 years, where sufficient market liquidity is assumed to exist, followed by grading to long-term historical volatility levels beyond that point, where such long-term historical volatility levels contain an explicit margin for conservatism.
Non-performance risk is incorporated into the calculation through the use of discount interest rates sourced from an AA corporate credit curve as a proxy for Jackson’s own credit risk. Other risk margins, particularly for policyholder behaviour and long-term volatility, are also incorporated into the model through the use of explicitly conservative assumptions. On a periodic basis, Jackson validates the resulting fair values based on comparisons to other models and market movements.
Institutional products are accounted for as investment contracts under IFRS with the liability classified as being in respect of financial instruments rather than insurance contracts, as defined by IFRS 4. In practice there is no material difference between the IFRS and US GAAP basis of recognition and measurement for these contracts.
C4.2 Products and determining contract liabilities continued Certain institutional products representing obligations issued in currencies other than US dollars have been hedged for changes in exchange rates using cross-currency swaps. The fair value of derivatives embedded in funding agreements, as well as foreign currency transaction gains and losses, are included in the carrying value of the trust instruments supported by funding agreements recorded in other non-insurance liabilities.
The WPSF held a provision of £47 million at 31 December 2015 (2014: £50 million) to honour guarantees on a small amount of guaranteed annuity products. SAIF’s exposure to guaranteed annuities is described below.
A high proportion of the assets backing the with-profits business are invested in equities and real estate. If the financial strength of the with-profits business is affected, then a higher proportion of fixed interest or similar assets might be held by the fund.
When target bonus levels change the PAC Board of Directors has regard to the overall strength of the long-term fund when determining the length of time over which it will seek to achieve the amended prudent target bonus level.
Final bonus rates A final bonus which is normally declared yearly, may be added when a claim is paid or when units of a unitised product are realised.
— For the SAIF and Scottish Amicable, the final bonus rates applicable on surrender may be adjusted to reflect expected future bonus rates.
— Determining at what level to set bonuses to ensure that they are competitive: The overall return to policyholders is an important competitive measure for attracting new business.
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 233
Furthermore, in accordance with industry-wide regulatory requirements, the PAC Board has appointed: — A Chief Actuary who provides the PAC Board with all actuarial advice; — A With-Profits Actuary whose specific duty is to advise the PAC Board on the reasonableness and proportionality of the manner in which its discretion has been exercised in applying the Principles and Practices of Financial Management and the manner in which any conflicting interests have been addressed; and
Net income of the fund: Investment return 3,130 8,958 Claims incurred (6,745) (6,115) Movement in policyholder liabilities (1,307) (4,366) Add back policyholder bonuses for the year (as shown below) 1,943 1,812 Claims incurred and movement in policyholder liabilities (including charge for provision for asset shares and excluding policyholder bonuses) (6,109) (8,669) Earned premiums, net of reinsurance 6,507 3,007 Other income 210 72 Acquisition costs and other expenditure (1,318) (961) Share of profits from investment joint ventures 53 129 Tax charge (148) (440)
Surplus for distribution allocated as follows: 90% policyholders’ bonus (as shown above) 1,943 1,812
C4.2 Products and determining contract liabilities continued ii Annuity business Prudential’s conventional annuities include level, fixed-increase and inflation-linked annuities, the link being to the Retail Price Index (RPI) in the majority of cases.
Prudential’s with-profits annuities, which are written in the WPSF, combine the income features of annuity products with the investment smoothing features of with-profits products and enable policyholders to obtain exposure to investment return on the WPSF’s equity shares, property and other investment categories over time. Policyholders select a ‘required smoothed return’ bonus from the specific range Prudential offers for the particular product. The amount of the annuity payment each year depends upon the relationship between the required smoothed return bonus rate selected by the policyholder when the product is purchased and the smoothed return bonus rates Prudential subsequently declares each year during the term of the product. If the total bonus rates fall below the anticipated rate, then the annuity income falls.
For with-profits business written in the WPSF or SAIF, a market consistent valuation is performed (as described in section (ii) below). Additional assumptions required are for persistency and the management actions under which the fund is managed. Assumptions used for a market-consistent valuation typically do not contain margins, whereas those used for the valuation of other classes of business do.
The actual renewal expenses incurred on behalf of SAIF by other Group companies are recharged in full to SAIF. The assumptions for asset management expenses are based on the charges specified in agreements with the Group’s asset management operations, plus a margin for adverse deviation for non-profit business.
Tax assumptions are set equal to current rates of taxation. For non-profit business excluding unit-linked business, the valuation interest rates used to discount the liabilities are based on the yields as at the valuation date on the assets backing the technical provisions. For fixed interest securities the gross redemption yield is used except for the non-profit annuities within PAC and PRIL annuity business where the internal rate of return of the assets backing the liabilities is used. Properties are valued using the lower of the rental yield and the redemption yield, and for equities it is the greater of the dividend yield and the average of the dividend yield and the earnings yield. An adjustment is made to the yield on non-risk-free fixed interest securities and property to reflect credit risk. To calculate the non-unit reserves for linked business, assumptions have been set for the gross unit growth rate and the rate of inflation of maintenance expenses, as well as for the valuation interest rate as described above.
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 235 ii WPSF and SAIF The policyholder liabilities reported for the WPSF are primarily for two broad types of business. These are accumulating and conventional with-profits contracts. The policyholder liabilities of the WPSF are accounted for under FRS 27.
Mortality The mortality assumptions are set in light of recent population and internal experience. The assumptions used are percentages of standard actuarial mortality tables with an allowance for future mortality improvements. Where annuities have been sold on an enhanced basis to impaired lives an additional age adjustment is made. The percentages of the standard table used are selected according to the source of business.
Males Females Males Females 2015 CMI 2014 For males: with a long-term improvement rate of 2.25% pa For females: with a long-term improvement rate of 1.50% pa 93% PCMA00 2014 CMI 2012 For males: with a long-term improvement rate of 2.25% pa For females: with a long-term improvement rate of 1.50% pa
For annuities in deferment, the tables used by both the non-profit annuities within the WPSF and PRIL were AM92 – 4 years (Males) and AF92 – 4 years (Females) for 2015 and 2014.
iv Unit-linked (non-annuity) and other non-profit business The majority of other long-term business written in the UK insurance operations is unit-linked business or other business with similar features. For these contracts the attaching liability reflects the unit value obligation and provision for expenses and mortality risk. The latter component is determined by applying mortality assumptions on a basis that is appropriate for the policyholder profile.
For unit-linked business, the assets covering unit liabilities are exposed to market risk, but the residual risk when considering the unit-linked liabilities and assets together is limited to the effect on fund-based charges.
Other assumption changes The effect of other assumption changes for the shareholder-backed business is set out in note B4(b).
Cost At beginning of year 1,583 1,581 Disposal of Japan life business (120) – Additional consideration paid on previously acquired business 2 – Exchange differences (2) 2
Goodwill attributable to shareholders comprises: Other goodwill represents amounts allocated to entities in Asia and the US operations. These goodwill amounts are not individually material. The aggregate goodwill impairment of £120 million at 31 December 2014 related to the goodwill held by the Japan life business, prior to its sale in February 2015.
With the exception of M&G, the goodwill attributable to shareholders mainly relates to acquired life businesses. The Company routinely compares the aggregate of net asset value and acquired goodwill on an IFRS basis of acquired life business with the value of the business as determined using the EEV methodology, as described in note 13. Any excess of IFRS over EEV carrying value is then compared with EEV basis value of current and projected future new business to determine whether there is any indication that the goodwill in the IFRS statement of financial position may be impaired. The assumptions underpinning the Group’s EEV basis of reporting are included in the EEV basis supplementary information in this Annual Report.
M&G The recoverable amount for the M&G cash-generating units has been determined by calculating its value in use. This has been calculated by aggregating the present value of future cash flows expected to be derived from the M&G operating segment (based upon management projections).
The value in use is particularly sensitive to a number of key assumptions as follows: i The set of economic, market and business assumptions used to derive the three-year plan. The direct and secondary effects of recent developments, eg changes in global equity markets, are considered by management in arriving at the expectations for the financial projections for the plan; ii The assumed growth rate on forecast cash flows beyond the terminal year of the plan. A growth rate of 2.5 per cent (2014: 2.5 per cent) has been used to extrapolate beyond the plan period representing management’s best estimate view of the long-term growth rate of the business after considering the future and past growth rates and external sources of data; iii The risk discount rate. Differing discount rates have been applied in accordance with the nature of the individual component businesses. For retail and institutional business, a risk discount rate of 12 per cent (2014: 12 per cent) has been applied to post-tax cash flows. The pre-tax risk discount rate was 16 per cent (2014: 16 per cent). Management have determined the risk discount rate by reference to an average implied discount rate for comparable UK listed asset managers calculated by reference to risk-free rates, equity risk premiums of 5 per cent and an average ‘beta’ factor for relative market risk of comparable UK listed asset managers. A similar approach has been applied for the other component businesses of M&G; and iv That asset management contracts continue on similar terms. Management believes that any reasonable change in the key assumptions would not cause the recoverable amount of M&G to fall below its carrying amount.
Present value of acquired in-force policies for insurance contracts as classified under IFRS 4 (PVIF) 45 59 Distribution rights and other intangibles 1,355 1,275
Total of deferred acquisition costs and other intangible assets 8,422 7,261
† Under the Group’s application of IFRS 4, US GAAP is used for measuring the insurance assets and liabilities of its US and certain Asia operations. Under US GAAP, most of Jackson’s products are accounted for under Accounting Standard no. 97 of the Financial Accounting Standards Board (FAS 97) whereby deferred acquisition costs are amortised in line with the emergence of actual and expected gross profits. The amounts included in the income statements and Other Comprehensive Income affect the pattern of profit emergence and thus the DAC amortisation attaching. DAC amortisation is allocated to the operating and non-operating components of the Group’s supplementary analysis of profit and Other Comprehensive Income by reference to the underlying items.
Variable annuity business 5,713 5,002 Other business 703 759 Cumulative shadow DAC (for unrealised gains booked in other comprehensive income)* (268) (584)
Acquisition costs for Jackson’s variable annuity products are also amortised in line with the emergence of profits. The measurement of amortisation depends on historical and expected future gross profits which include fees (including those for guaranteed minimum death, income, or withdrawal benefits) as well as components related to mortality, lapse and expense.
Mean reversion technique For variable annuity products, under US GAAP (as ‘grandfathered’ under IFRS 4) Jackson applies a mean reversion technique for its amortisation of deferred acquisition costs against projected gross profits. This technique is applied with the objective of adjusting the amortisation of deferred acquisition costs that would otherwise be highly volatile due to fluctuations in the level of future gross profits arising from changes in equity market levels. The mean reversion technique achieves this objective by applying a dynamic adjustment to the assumption for short-term future investment returns. Under the mean reversion technique applied by Jackson, the projected level of return for each of the next five years is adjusted from period to period so that in combination with the actual rates of return for the preceding three years, including the current period, the 7.4 per cent long-term annual return (gross of asset management fees and other charges to policyholders, but net of external fund management fees) is realised on average over the entire eight-year period. Projected returns after the mean reversion period revert back to the 7.4 per cent assumption.
Present value of acquired in-force (PVIF) and other intangibles attributable to shareholders
the period of provision of asset management services as those profits emerge. (ii) Distribution rights relate to fees paid in relation to the bancassurance partnership arrangements for the bank distribution of Prudential’s insurance products
for a fixed period of time. The distribution rights amounts are amortised over the term of the distribution contracts. (iii) Software is amortised over its useful economic life, which generally represents the licence period of the software acquired.
Additions in the year – 10 Impairment – – Exchange differences (1) (1)
b Deferred acquisition costs and other intangible assets Other intangible assets in the Group consolidated statement of financial position attributable to with-profits funds consist of: Deferred acquisition costs related to insurance contracts attributable to the PAC with-profits fund note (i) 3 3 Distribution rights attributable to with-profits funds of the Asia insurance operations note (ii) 27 47 Computer software attributable to with-profits funds 20 11
UK regulatory ‘realistic basis’, no deferred acquisition costs are established for this type of business. (ii) Distribution rights relate to fees paid in relation to the bancassurance partnership arrangements for the bank distribution of Prudential’s insurance products
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 241
¤20m Medium Term Notes 2023 note (vi) 15 16 £435m 6.125% Notes 2031 430 429 £400m 11.375% Notes 2039 393 391 £600m 5% Notes 2055 note (iv) 590 – £700m 5.7% Notes 2063 695 695
or more series of Prudential preference shares. (vi) The €20 million borrowings were issued at 20-year Euro Constant Maturity Swap (capped at 6.5 per cent). These have been swapped into borrowings
Bank loans and overdrafts 10 6 Obligations under finance leases 4 4 Other borrowings note (iii) 241 230
(ii) In January and November 2015, the Company issued £300 million Medium Term Notes which will mature in January 2018 and November 2018 respectively. The proceeds, net of costs, were £299 million for the January 2015 issue and £299 million for the November 2015 issue.
C7.1 Group overview The Group’s risk framework and the management of the risk including those attached to the Group’s financial statements including financial assets, financial liabilities and insurance liabilities, together with the inter-relationship with the management of capital have been included in the audited sections of Group Chief Risk Officer’s report on the risks facing our business and how these are managed.
Interest rate risk for assets in excess of liabilities, ie assets representing shareholder capital
C7.1 Group overview continued Detailed analyses of sensitivity of IFRS basis profit or loss and shareholders’ equity to key market and other risks by business unit are provided in notes C7.2, C7.3, C7.4 and C7.5. The sensitivity analyses provided show the effect on profit or loss and shareholders’ equity to changes in the relevant risk variables, all of which are reasonably possible at the relevant balance sheet date. In the equity risk sensitivity analysis shown below, the Group has considered the impact of an instantaneous 20 per cent fall in equity markets. If equity markets were to fall by more than 20 per cent, the Group believes that this would not be an instantaneous fall but rather this would be expected to occur over a period of time during which the Group would be able to put mitigating management actions in place. In addition, the equity risk sensitivity analysis provided assumed that all equity indices fall by the same percentage.
In Asia, adverse persistency experience can impact the IFRS profitability of certain types of business written in the region. This risk is managed at a business unit level through regular monitoring of experience and the implementation of management actions as necessary. These actions could include product enhancements, increased management focus on premium collection as well as other customer retention efforts. The potential financial impact of lapses is often mitigated through the specific features of the products, eg surrender charges, or through the availability of premium holiday or partial withdrawal policy features.
i Sensitivity to risks other than foreign exchange risk With-profits business Similar principles to those explained for UK with-profits business in note C7.4 apply to profit emergence for the Asia with-profits business. Correspondingly, the profit emergence reflects bonus declaration and is relatively insensitive to period by period fluctuations in insurance risk or interest rate movements.
Other business Interest rate risk Excluding its with-profits and unit-linked businesses, the results of the Asia business are sensitive to the vagaries of routine movements in interest rates.
For the purposes of analysing sensitivity to variations in interest rates, reference has been made to the movements in the 10-year government bond rates of the territories. At 31 December 2015, 10-year government bond rates vary from territory to territory and range from 1.0 per cent to 8.9 per cent (2014: 1.6 per cent to 8.0 per cent).
The estimated sensitivity to the decrease and increase in interest rates at 31 December 2015 and 2014 is as follows: Decrease
Net effect on profit and shareholders’ equity 151 (280) (59) (113)
Profit before tax attributable to shareholders (169) (85) (187) (93) Related deferred tax (where applicable) 21 10 23 11
Net effect on profit and shareholders’ equity (148) (75) (164) (82)
A 10 or 20 per cent increase in their value would have an approximately equal and opposite effect on profit and shareholders’ equity to the sensitivities shown above. The market risk sensitivities shown above reflect the impact of temporary market movements and, therefore, the primary effect of such movements would, in the Group’s segmental analysis of profits, be included within the short-term fluctuations in investment returns.
Insurance risk Many of the territories in Asia are exposed to mortality/morbidity risk and provision is made within policyholder liabilities on a prudent regulatory basis to cover the potential exposure. If these prudent assumptions were strengthened by 5 per cent then it is estimated that post-tax profit and shareholders’ equity would be decreased by approximately £43 million (2014: £40 million). Mortality and morbidity have a symmetrical effect on the portfolio and any weakening of these assumptions would have a similar equal and opposite impact.
C7.2 Asia insurance operations continued ii Sensitivity to foreign exchange risk Consistent with the Group’s accounting policies, the profits of the Asia insurance operations are translated at average exchange rates and shareholders’ equity at the closing rate for the reporting period. For 2015, the rates for the most significant operations are given in note A1.
Profit before tax attributable to shareholders (94) (111) 115 135 Profit for the year (79) (95) 97 117
Shareholders’ equity, excluding goodwill, attributable to Asia operations (367) (315) 449 384
Equity risk — related to the incidence of benefits related to guarantees issued in connection with its variable annuity contracts; and
— related to meeting contractual accumulation requirements in fixed index annuity contracts.
Interest rate risk — related to meeting guaranteed rates of accumulation on fixed annuity products following a sharp and sustained fall in interest rates; — related to increases in the present value of projected benefits related to guarantees issued in connection with its variable annuity contracts following a sharp and sustained fall in interest rates in conjunction with a fall in equity markets; — related to the surrender value guarantee features attached to the Company’s fixed annuity products and to policyholder withdrawals following a sharp and sustained increase in interest rates; and
— the risk of mismatch between the expected duration of certain annuity liabilities and prepayment risk and extension risk inherent in mortgage-backed securities.
These derivatives (including various call and put options and interest rate contingent options) are used to hedge Jackson’s obligations associated with its issuance of certain VA guarantees. Some of these annuities and guarantees contain embedded options which are fair valued for financial reporting purposes.
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 249
As noted above, Jackson is exposed to equity risk through the options embedded in the fixed index annuity liabilities and Guaranteed Minimum Death Benefit and Guaranteed Minimum Withdrawal Benefit guarantees included in certain variable annuity benefits as illustrated above. This risk is managed using an equity hedging programme to minimise the risk of a significant economic impact as a result of increases or decreases in equity market levels while taking advantage of naturally offsetting exposures in Jackson’s operations. Jackson purchases external futures and options that hedge the risks inherent in these products, while also considering the impact of rising and falling guaranteed benefit fees.
Pre-tax profit, net of related changes in amortisation of DAC 738 259 (86) (128) 360 130 8 (25)
Net sensitivity of profit after tax and shareholders’ equity 480 168 (56) (83) 234 84 5 (16)
The above table provides sensitivity movements as at a point in time while the actual impact on financial results would vary contingent upon the volume of new product sales and lapses, changes to the derivative portfolio, correlation of market returns and various other factors including volatility, interest rates and elapsed time.
Debt securities and related derivatives are marked to fair value. Value movements on derivatives, again net of related changes to amortisation of DAC and deferred tax, are recorded within the income statement. Fair value movements on debt securities, net of related changes to amortisation of DAC and deferred tax, are recorded within other comprehensive income. The estimated sensitivity of these items and policyholder liabilities to a 1 per cent and 2 per cent decrease and increase in interest rates at 31 December 2015 and 2014 is as follows: Decrease Increase Decrease Increase of 2% of 1% of 1% of 2% of 2% of 1% of 1% of 2%
(net of related changes in amortisation of DAC) 3,167 1,782 (1,782) (3,167) 2,979 1,663 (1,663) (2,979) Related effect on movement in deferred tax (1,108) (624) 624 1,108 (1,043) (582) 582 1,043
Profit before tax attributable to shareholders note (109) (23) 133 29 Profit for the year (87) (23) 107 28 Shareholders’ equity attributable to US insurance operations (378) (370) 462 452
Note Sensitivity on profit (loss) before tax, ie aggregate of the operating profit based on longer-term investment returns and short-term fluctuations in investment returns.
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 251 iv Other sensitivities Total profit of Jackson is sensitive to market risk on the assets covering liabilities other than variable annuity business segregated in the separate accounts.
Jackson is sensitive to lapse risk and other types of policyholder behaviour, such as the take-up of its Guaranteed Minimum Withdrawal Benefit product features. In the absence of hedging, equity and interest rate movements can both cause a loss directly and cause an increased future sensitivity to policyholder behaviour. Jackson has an extensive derivative programme that seeks to manage the exposure to such altered equity markets and interest rates.
For variable annuity business, the key assumption is the expected long-term level of separate account returns, which for 2015 was 7.4 per cent (2014: 7.4 per cent). The impact of using this return is reflected in two principal ways, namely: — Through the projected expected gross profits which are used to determine the amortisation of deferred acquisition costs. This is applied through the use of a mean reversion technique which is described in more detail in note C5.1(b) above; and
C7.4 UK insurance operations Exposure and sensitivity of IFRS basis profit and shareholders’ equity to market and other risks The IFRS basis results of the UK insurance operations are most sensitive to asset/liability matching, mortality and default rate experience and longevity assumptions and the difference between the return on corporate bond and risk-free rate for shareholder-backed annuity business of Prudential Retirement Income Limited and the Prudential Assurance Company non-profit sub-fund. Further details are described below.
The main market risk sensitivity for the UK shareholder-backed annuity business arises from interest rate risk on the debt securities which substantially represent shareholders’ equity. This shareholders’ equity comprises the net assets held within the long-term fund of the Company that cover regulatory basis liabilities that are not recognised for IFRS reporting purposes, for example contingency reserves, and shareholder capital held outside the long-term fund.
In addition, the level of profit is affected by change in the level of reinsurance cover. A decrease in assumed mortality rates of 1 per cent would decrease pre-tax profit by approximately £67 million (2014: £94 million).
A decrease in credit default assumptions of five basis points would increase pre-tax profit by £176 million (2014: £190 million). A decrease in renewal expenses (excluding asset management expenses) of 5 per cent would increase pre-tax profit by £35 million (2014: £30 million). The effect on profit would be approximately symmetrical for changes in assumptions that are directionally opposite to those explained above. The net effect on profit after tax and shareholders’ equity from all the changes in assumptions as described above would be an increase of approximately £115 million (2014: £101 million).
Net sensitivity of profit after tax and shareholders’ equity (261) (130) (272) (136)
A 10 per cent increase in the relevant exchange rates (strengthening of the pound sterling) would have reduced reported profit before tax attributable to shareholders and shareholders’ equity, excluding goodwill attributable to Eastspring Investments and US asset management operations, by £11 million and £38 million respectively (2014: £9 million and £33 million, respectively).
ii Sensitivities to other financial risks for asset management operations The principal sensitivities to other financial risk of asset management operations are credit risk on the bridging loan portfolio of the Prudential Capital operation and the indirect effect of changes to market values of funds under management. Due to the nature of the asset management operations there is limited direct sensitivity to movements in interest rates. Total debt securities held at 31 December 2015 by asset management operations were £2,204 million (2014: £2,293 million), the majority of which are held by the Prudential Capital’s operation. Debt securities held by Prudential Capital are in general variable rate bonds and so market value is limited in sensitivity to interest rate movements and consequently any change in interest rates would not have a material impact on profit or shareholders’ equity. The Group’s asset management operations do not hold significant investments in property or equities.
Unrealised losses or gains on investments 21 83 (1,036) (1,697) Balances relating to investment and insurance contracts 1 4 (543) (499) Short-term temporary differences 2,752 2,607 (2,400) (2,065)
The taxation regimes applicable across the Group often apply separate rules to trading and capital profits and losses. The distinction between temporary differences that arise from items of either a trading or capital nature may affect the recognition of deferred tax assets. Accordingly, for the 2015 results and financial position at 31 December 2015 the possible tax benefit of approximately £98 million (2014: £110 million), which may arise from capital losses valued at approximately £0.5 billion (2014: £0.5 billion), is sufficiently uncertain that it has not been recognised. In addition, a potential deferred tax asset of £52 million (2014: £47 million), which may arise from trading tax losses and other potential temporary differences totalling £0.3 billion (2014: £0.2 billion) is sufficiently uncertain that it has not been recognised. Of these, losses of £36 million will expire within the next seven years. Of the remaining losses, £1 million will expire within 20 years and the rest have no expiry date.
The table that follows provides a breakdown of the recognised deferred tax assets set out in the table above for both the short-term temporary differences and unused tax losses split by business unit. The table also shows the period of estimated recoverability for each respective business unit. For these and each category of deferred tax asset recognised their recoverability against forecast taxable profits is not significantly impacted by any current proposed changes to future accounting standards.
Asia insurance operations 34 1 to 3 years 30 3 to 5 years US insurance operations 2,433 With run-off of in-force book
The current tax liability decreased to £325 million (2014: £617 million) reflecting accelerated tax payments in the US insurance operations during the year.
C9: Defined benefit pension schemes a Background and summary economic and IAS 19 financial positions The Group’s businesses operate a number of pension schemes. The specific features of these plans vary in accordance with the regulations of the country in which the employees are located, although they are, in general, funded by the Group and based either on a cash balance formula or on years of service and salary earned in the last year or years of employment. The largest defined benefit scheme is the principal UK scheme, namely the Prudential Staff Pension Scheme (PSPS). PSPS accounts for 84 per cent (2014: 84 per cent) of the underlying scheme liabilities of the Group’s defined benefit schemes.
Less: unrecognised surplus note (i) (800) – – – (800) (710) – – – (710)
Consolidation adjustment against policyholder liabilities for investment in Prudential insurance policies note (iii) – – (77) – (77) – – (132) – (132)
Notes (i) For PSPS, the Group does not have an unconditional right of refund to any surplus of the scheme. The PSPS pension asset represents the present value of the
(iii) The underlying position on an economic basis reflects the assets (including investments in Prudential insurance policies that are offset against liabilities to policyholders on the Group consolidation) and the liabilities of the schemes.
The last completed actuarial valuation of SASPS was as at 31 March 2014 by Jonathan Seed, Fellow of the Institute of Actuaries, of Xafinity Consulting Limited. This valuation was finalised in the first half of 2015 and demonstrated the scheme to be 78 per cent funded. It has been agreed with the Trustees that the level of deficit funding be increased from the previous level of £13.1 million per annum to £21.0 million per annum from 1 January 2015 until 31 March 2024, or earlier if the scheme’s funding level reaches 100 per cent before this date, to eliminate the actuarial deficit. The deficit funding will be reviewed every three years at subsequent valuations.
The last completed actuarial valuation of M&GGPS was as at 31 December 2014 by Paul Belok, Fellow of the Institute of Actuaries, of AON Hewitt Limited. This valuation was finalised in the second half of 2015 and demonstrated the scheme to be 98.6 per cent funded. It has been agreed with the Trustees that no deficit funding is required from 1 January 2016. Deficit funding of £9.3 million was paid in 2015 (2014: £18.6 million).
Allowance for future improvements to post-retirement mortality For males (females) up to 2009 100% (75%) of Medium Cohort subject to a minimum rate of improvement of 2.00% pa (1.25% pa) up to age 90, decreasing linearly to zero by age 120. From 2010 onwards, in line with the CMI’s 2009 projection model with a long-term rate of 1.75% pa (1.50% pa), and minor scheme-specific calibrations.
Risks to which the defined benefit schemes expose the Group Responsibility of making good of any deficit that may arise in the schemes lies with the employers of the schemes, which are subsidiaries of the Group. Accordingly, the pension schemes expose the Group to a number of risks, the most significant of which are interest rate and investment risk, inflation risk and mortality risk.
The Trustee of each of the schemes manages the investment strategy of the scheme to achieve an acceptable balance between investing in the assets that most closely match the expected benefit payments and assets that are expected to achieve a greater return in the hope of reducing the contributions required or providing additional benefits to members.
Rate of increase of pensions in payment for inflation: PSPS: Other schemes 3.0 3.0 * The discount rate has been determined by reference to an ‘AA’ corporate bond index, adjusted where applicable, to allow for the difference in duration between the index and the pension liabilities.
The underlying pension position on an economic basis reflects the assets (including investments in Prudential policies that are offset against liabilities to policyholders on the Group consolidation) and the liabilities of the schemes. The IAS 19 basis excludes the investments in Prudential policies. At 31 December 2015, the investments in Prudential insurance policies comprise £125 million (2014: £131 million) for PSPS and £77 million (2014: £132 million) for the M&GGPS. In principle, on consolidation the investments are eliminated against policyholder liabilities of UK insurance operations, so that the formal IAS 19 position for the scheme in isolation excludes these items. This treatment applies to the M&GGPS investments. However, as a substantial portion of the Company’s interest in the underlying surplus of PSPS is not recognised, the adjustment is not necessary for the PSPS investments.
Less: amount attributable to PAC with-profits fund 506 18 49 – 573
Shareholders’ share: Gross of tax deficit (204) (8) (15) – (227)
Bonds * 93 per cent of the bonds are investment grade (2014: 94 per cent). † 98 per cent of the total value of the scheme assets are derived from quoted prices in an active market. None of the scheme assets included shares in Prudential plc
Benefit payments (301) 301 – – – Employers’ contributions note (iii) 56 56 56 56 Employees’ contributions 2 (2) – – – Actuarial gains and losses note (iv) (278) 393 115 (64) 51 6 57 Settlements or curtailments – – – – – – – Transfer out of investment in
Benefit payments (266) 266 – – – Employers’ contributions note (iii) 55 – 55 55 55 Employees’ contributions 2 (2) – – – Actuarial gains and losses note (iv) 1,037 (975) 62 (82) (20) (4) (24)
C9: Defined benefit pension schemes continued c Estimated pension scheme surpluses and deficits continued
Notes (i) Maturity profile of the benefit obligations The weighted average duration of the benefit obligations of the schemes is 18.2 years (2014: 18.4 years).
The following table provides an expected maturity analysis of the benefit obligations as at 31 December: All schemes £m 1 year or less
(ii) The adjustments for investments in Prudential insurance policies are consolidation adjustments for intragroup assets and liabilities with no impact to operating results.
Effect of derecognition of PSPS surplus (64) (82) Consolidation adjustment for investments in Prudential insurance policies and other adjustments 6 (4)
d Sensitivity of the pension scheme liabilities to key variables The sensitivity information below is based on the core scheme liabilities and assumptions at the balance sheet date. The sensitivity is calculated based on a change in one assumption with all other assumptions being held constant. As such, interdependencies between the assumptions are excluded.
Rate of inflation 3.0% 3.0% RPI: Decrease by 0.2% Decrease in scheme liabilities by: with consequent reduction Other schemes 4.0% 4.2% in salary increases
The Company purchased the following number of shares in respect of employee incentive plans. The shares purchased each month are as follows: Number of shares 2015 Share Price
Deferred acquisition costs, distribution rights and goodwill of non-participating business not recognised for regulatory reporting – (3) (81) (6,148) (1,301) (7,533) (6,450)
Jackson surplus notes note (ii) – – – 169 – 169 160 Investment and policyholder liabilities valuation differences between IFRS and regulatory basis for Jackson note (iv) – – – 4,927 – 4,927 3,710
Notes (i) Excluding PAC shareholders’ equity that is included in ‘parent company and shareholders’ equity of other subsidiaries and funds’. (See note (b) below). (ii) For regulatory purposes the Jackson surplus notes are accounted for as capital. (iii) Other adjustments to shareholders’ equity and unallocated surplus include amounts for the value of non-participating business for UK regulated with-profits
funds, deferred tax, admissibility and other items measured differently on the regulatory basis. For Jackson the principal reconciling item is deferred tax related to the differences between IFRS and regulatory basis as shown in the table above and other methodology differences.
Note (i) Including PAC shareholders’ equity. The £429 million (2014: £411 million) includes the core structural borrowings and the elimination of the investment
For linked business, the value of units is held together with the non-unit reserves calculated in accordance with the standard actuarial methodology and prevailing regulations.
Under the risk-based capital solvency requirement, the ratio of an insurer’s available capital to required capital is calculated and the analysis of equity capital used to determine capital adequacy must take into account market, credit, operational, insurance and interest rate risks. The scheme requires the ratio be calculated based on integrated financial statements reflecting assets, liabilities and capital of affiliates and subsidiaries.
C11.1 Life assurance business continued Malaysia A risk-based capital framework applies in Malaysia.
For participating business, a gross premium reserve on the guaranteed and non-guaranteed benefits determined using best estimate assumptions is held. The amount held is subject to a minimum of a gross premium reserve on the guaranteed benefits, determined using best estimate assumptions along with provisions of risk margin for adverse deviations discounted at the risk-free rate.
For participating business, a gross premium reserve, determined using prudent best estimate assumptions and which makes allowance for future bonus, is held. The amount held is subject to a minimum of the higher of the assets attributed to participating business and a gross premium reserve calculated on specified assumptions, but without allowance for future bonus, that includes prescribed provisions for adverse deviations (PADs).
For non-participating business, gross premium reserves are held. For linked business, the value of units is held together with a non-unit reserve calculated in accordance with standard actuarial methodology.
Capital adequacy is measured based on the Capital Adequacy Ratio (‘CAR’), which is determined as the Total Capital Available divided by the Total Capital Required. Life insurers are required by law to maintain capital funds which are not less than the greater of (i) the sum of capital for all risks and asset as prescribed in the regulation and (ii) a minimum amount of 50 million Thai Baht. Insurers are required by law to maintain capital greater than the prescribed minimum CAR of not less than 100 per cent. However, in case the insurer has a CAR of less than 140 per cent, the regulator may intervene to oversee the insurer’s financial status.
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 265 ii US insurance operations The regulatory framework for Jackson is governed by the requirements of the US NAIC approved Risk-Based Capital standards. Under these requirements life insurance companies report using a formula-based capital standard which includes components calculated by applying factors to various asset, premium and reserve items and a separate model-based component for market risk associated primarily with variable annuity products. The Risk-Based Capital formula takes into account the risk characteristics of a company, including asset risk, insurance risk, interest rate risk, market risk and business risk.
PAC with-profits sub-fund and Scottish Amicable Insurance Fund (under Solvency I basis) Under PRA Solvency I rules, insurers with with-profits liabilities of more than £500 million must hold capital equal to the higher of the MCR and the Enhanced Capital Requirement (ECR). The ECR is intended to provide a more risk responsive and ‘realistic’ measure of a with-profits insurer’s capital requirements, whereas the MCR is broadly speaking equivalent to the previous required minimum margin under the Interim Prudential Sourcebook and satisfies the minimum EU Standards.
The capital resources requirement for these companies broadly reflects a formula which, for active funds, equates to a percentage of regulatory reserves plus a percentage of death strains. Death strains represent the payments made to policyholders upon death in excess of amounts explicitly allocated to fund the provisions for policyholder’s claims and maturities.
iv Group capital requirements In addition to the requirements at individual company level, PRA requirements apply additional prudential requirements for the Group as a whole. Up until 31 December 2015 these requirements were under the IGD. Solvency II, which came into force on 1 January 2016, replaces the IGD capital requirements. Discussion of the Group’s estimated IGD and Solvency II positions at 31 December 2015 is provided in the Strategic Report.
C11.1 Life assurance business continued d Transferability of available capital Up until 31 December 2015, under Solvency I basis for PAC and all other UK long-term insurers, long-term business assets and liabilities must, by law, be maintained in funds separate from those for the assets and liabilities attributable to non-life insurance business or to shareholders. Only the ‘established surplus’, the excess of assets over liabilities in the long-term fund determined through a formal valuation, may be transferred so as to be available for other purposes. Distributions from the with-profits sub-fund to shareholders reflect the shareholders’ one-ninth share of the cost of declared policyholders’ bonuses.
Stochastic modelling of assets and liabilities is undertaken in the UK, Jackson and Asia to assess the economic capital requirements. A stochastic approach models the inter-relationship between asset and liability movements, taking into account asset correlation, management actions and policyholder behaviour under a large number of alternative economic scenarios.
For example, for businesses that are most sensitive to interest rate changes, such as immediate annuity business, Prudential uses cash flow analysis to create a portfolio of debt securities whose value is expected to change in line with the value of liabilities when interest rates change. This type of analysis helps protect profits from changing interest rates and is used in the UK for annuity business and by Jackson for its fixed interest rate and fixed index annuities and institutional products.
C11.2 Asset management operations – regulatory and other surplus Certain asset management subsidiaries of the Group are subject to regulatory requirements. The movement in the year of the surplus regulatory capital position of those subsidiaries, combined with the movement in the IFRS basis shareholders’ funds for unregulated asset management operations is as follows: Asset management operations
Gains (losses) during the year 357 16 (39) 58 392 396 Movement in capital requirement 31 – – 5 36 (34)
Distributions made to the parent company (150) – (55) (57) (262) (409) Exchange and other movements – 9 90 – 99 8
Charged to income statement: Notes (i) Restructuring provisions primarily relate to restructuring activities of UK insurance operations. The provisions pertain to property liabilities resulting from the
At 31 December * Principally arising on an acquisition made for venture fund purposes by the PAC with-profits fund.
Tangible assets Of the £786 million of tangible assets, £657 million were held by the Group’s with-profits operations, primarily by the consolidated subsidiaries for venture fund and other investment purposes of the PAC with-profits fund.
Net gain from fair value adjustments 537 914 Net foreign exchange differences 21 20 Transfers from (to) held for sale assets 5 (5)
The total minimum future rentals to be received on non-cancellable sub-leases for the Group’s investment properties held under finance leases at 31 December 2015 are £2,888 million (2014: £2,600 million).
On 5 February 2015, the Group announced that it had completed the sale of its closed book life insurance business in Japan, PCA Life Insurance Company Limited to SBI Holdings, Inc. following regulatory approvals. The transaction was announced on 16 July 2013. Of the agreed US$85 million cash consideration, the Group received US$68 million on completion of the transaction, and a further payment of up to US$17 million will be received contingent upon the future performance of the Japan life business.
The Japan life business had been classified as held for sale on the statement of financial position of the Group since 2013. The held for sale assets and liabilities of the Japan life business on the statement of financial position as at 31 December 2014 were as follows: Assets Investments 898 Other assets 45
Upon its classification as held for sale in 2013, the IFRS carrying value of the Japan life business was set to represent the proceeds, net of related expenses. Subsequent remeasurement of the carrying value of the Japan life business in 2014 resulted in a charge in the income statement of £(13) million in 2014. These amounts, together with the results of the business including short-term value movements on investments also included in the income statement, netted to an insignificant amount for those periods.
Matters affecting shareholders’ funds Unclaimed Property Provision Jackson had previously received regulatory enquiries on an industry-wide matter regarding claims settlement practices and compliance with unclaimed property laws. During 2015, Jackson has reached agreements to settle issues related to these enquiries. At 31 December 2015, Jackson has accrued £16 million (2014: £13 million) to cover any such liability.
The Group has provided other guarantees and commitments to third parties entered into in the normal course of business, but the Company does not consider that the amounts involved are significant.
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 271
Intra-group capital support arrangements Prudential and PAC have put in place intra-group arrangements to formalise circumstances in which capital support would be made available by Prudential (including in the scenarios referred to in respect of the pension mis-selling review as referenced below). While Prudential considers it unlikely that such support will be required, the arrangements are intended to provide additional comfort to PAC and its policyholders.
Inherited estate of the PAC long-term fund The assets of the with-profits sub-fund (WPSF) within the long-term insurance fund of PAC comprise the amounts that it expects to pay out to meet its obligations to existing policyholders and an additional amount used as working capital. The amount payable over time to policyholders from the WPSF is equal to the policyholders’ accumulated asset shares plus any additional payments that may be required by way of smoothing or to meet guarantees. The balance of the assets of the WPSF is called the ‘inherited estate’ and has accumulated over many years from various sources.
This inherited estate enables PAC to support with-profits business by providing the benefits associated with smoothing and guarantees, by providing investment flexibility for the fund’s assets, by meeting the regulatory capital requirements that demonstrate solvency and by absorbing the costs of certain significant events or fundamental changes in its long-term business without affecting the bonus and investment policies. The size of the inherited estate fluctuates from year to year depending on the investment return and the extent of its utilisation.
Pension mis-selling review The pensions review by the UK insurance regulator of past sales of personal pension policies required all UK life insurance companies to review their cases of potential mis-selling and record a provision for the estimated costs. The Group met the requirement of the UK insurance regulator to issue offers to all cases by 30 June 2002. The pension mis-selling provision is included within the policyholder liabilities of the PAC with-profits funds.
Dividends The second interim and special dividends for the year ended 31 December 2015, which were approved by the Board of Directors after 31 December 2015 are described in note B7.
Transactions between the Company and its subsidiaries are eliminated on consolidation. The Company has transactions and outstanding balances with certain unit trusts, Open-Ended Investment Companies (OEICs), collateralised debt obligations and similar entities which are not consolidated and where a Group company acts as manager which are regarded as related parties for the purposes of IAS 24. The balances are included in the Group’s statement of financial position at fair value or amortised cost in accordance with their IAS 39 classifications. The transactions are included in the income statement and include amounts paid on issue of shares or units, amounts received on cancellation of shares or units and paid in respect of the periodic charge and administration fee.
Future minimum lease payments for non-cancellable operating leases fall due during the following periods: Not later than 1 year 98 89 Later than 1 year and not later than 5 years 231 214 Later than 5 years 116 105
Future minimum sub-lease rentals received for non-cancellable operating leases for land and buildings 66 17 Minimum lease rental payments included in consolidated income statement 105 95
In addition, the Group has provided, from time to time, certain guarantees and commitments to third parties including funding the purchase or development of land and buildings and other related matters. The contractual obligations to purchase or develop investment properties at 31 December 2015 were £409 million (2014: £232 million).
Under UK company law, UK companies can only declare dividends if they have sufficient distributable reserves. Further, UK insurance companies are required to maintain solvency margins in accordance with the rules of the Prudential Regulation Authority. The Group UK asset management company, M&G Investment Management Ltd is also required to maintain capital in accordance with regulatory requirements before making any distribution to the parent company.
The Group’s associates, which are also accounted for under the equity method include PPM South Africa and PruHealth (until its sale in 2014). In addition, the Group has investments in OEICs, unit trusts, funds holding collateralised debt obligations, property unit trusts and venture capital investments of the PAC with-profits funds where the Group has significant influence. As allowed under IAS 28, these investments are accounted for on a fair value through profit or loss basis. The aggregate fair value of associates accounted for at fair value through profit or loss, where there are published price quotations, is approximately £1.4 billion at 31 December 2015 (2014: £1.2 billion).
PAC with-profits fund (prior to offsetting effect in movement in unallocated surplus) 53 129 – –
The definitions of a subsidiary undertaking, joint venture and associate in accordance with the Companies Act 2006 are different from the definition under IFRS. As a result, the related undertakings included within the following list may not be the same as the undertakings consolidated in the Group IFRS financial statements. The Group’s consolidation policy is described in note A3.1(b).
D6: Investments in subsidiary undertakings, joint ventures and associates continued c Related undertakings continued Other subsidiaries, joint ventures, associates and significant holdings of the Group – no shares held directly by the parent company, Prudential plc or its nominees: Name Classes of shares held Proportion held Country of incorporation
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 275
Eastspring Al-Wara Investments Berhad Ordinary shares 100.00% Malaysia Eastspring Asset Management Korea Co. Ltd. Ordinary shares 100.00% Korea Eastspring Investments – Asia Pacific Equity Fund Ordinary shares 75.64% Luxembourg Eastspring Investments Global Bond Navigator Fund Ordinary shares 96.29% Luxembourg Eastspring Investments – Pan European Fund Ordinary shares 88.40% Singapore Eastspring Investments – US High Yield Bond Fund Ordinary shares 33.90% Luxembourg Eastspring Investments (Hong Kong) Limited Ordinary shares 100.00% Hong Kong Eastspring Investments (Luxembourg) S.A. Ordinary shares 100.00% Luxembourg Eastspring Investments (Singapore) Limited Ordinary shares 100.00% Singapore Eastspring Investments Asean Income Private Fund A1 Ordinary shares 100.00% Korea Eastspring Investments Asian Bond Fund Ordinary shares 42.02% Luxembourg Eastspring Investments Asian Dynamic Fund Ordinary shares 96.75% Luxembourg Eastspring Investments Asian Equity Fund Ordinary shares 79.32% Luxembourg Eastspring Investments Asian Equity Income Fund Ordinary shares 57.18% Luxembourg Eastspring Investments Asian High Yield Bond Fund Ordinary shares 45.61% Luxembourg Eastspring Investments Asian Infrastructure Equity Fund Ordinary shares 62.04% Luxembourg Eastspring Investments Asian Property Securities Fund Ordinary shares 96.35% Luxembourg Eastspring Investments Berhad Ordinary shares 100.00% Malaysia Eastspring Investments Best Growth Securities Investments Trust 4 Ordinary shares 83.40% Korea Eastspring Investments China Equity Fund Ordinary shares 39.31% Hong Kong Eastspring Investments Dragon Peacock Fund Ordinary shares 81.43% Luxembourg Eastspring Investments Emerging EMEA Dynamic Fund Ordinary shares 83.31% Luxembourg Eastspring Investments European Investments Grade Bond Fund Ordinary shares 95.96% Luxembourg Eastspring Investments Fund Management Limited Liability Company Ownership interest 100.00% Vietnam Eastspring Investments Global Emerging Markets Bond Fund Ordinary shares 93.40% Luxembourg Eastspring Investments Global Equity Navigator Fund Ordinary shares 99.99% Luxembourg Eastspring Investments Global Market Navigator Fund Ordinary shares 47.80% Luxembourg Eastspring Investments Global Technology Fund Ordinary shares 90.18% Luxembourg Eastspring Investments Greater China Equity Fund Ordinary shares 90.24% Luxembourg Eastspring Investments Hong Kong Equity Fund Ordinary shares 99.53% Luxembourg Eastspring Investments Incorporated Ordinary shares 100.00% USA Eastspring Investments India Consumer Equity Open Limited Ordinary shares 100.00% Mauritius Eastspring Investments India Equity Fund Ordinary shares 75.25% Luxembourg Eastspring Investments India Equity Open Limited Ordinary shares 100.00% Mauritius Eastspring Investments India Infrastructure Equity Open Limited Ordinary shares 100.00% Mauritius Eastspring Investments Japan Fundamental Value Fund Ordinary shares 100.00% Luxembourg Eastspring Investments Limited Ordinary shares 100.00% United Arab Emirates Eastspring Investments Limited Ordinary shares 100.00% Japan Eastspring Investments North America Value Fund Ordinary shares 100.00% Luxembourg Eastspring Investments Pan European Fund Ordinary shares 76.55% Luxembourg Eastspring Investments Portfolio Management Limited
Eastspring Investments Services Pte. Ltd. Ordinary shares 100.00% Singapore Eastspring Investments SICAV-FIS – Alternative Investments Fund Ordinary shares 100.00% Luxembourg Eastspring Investments SICAV-FIS – Asia Pacific Loan Fund Ordinary shares 94.36% Luxembourg Eastspring Investments SICAV-FIS Universal USD Bond Fund Ordinary shares 100.00% Luxembourg Eastspring Investments SICAV-FIS Universal USD Bond II Fund Ordinary shares 100.00% Luxembourg Eastspring Investments Unit Trusts – Asian Infrastructure Equity Fund Ordinary shares 93.50% Singapore Eastspring Investments Unit Trusts – Global Technology Fund Ordinary shares 96.80% Singapore Eastspring Investments US Bond Fund Ordinary shares 49.30% Luxembourg Eastspring Investments US Corporate Bond Fund Ordinary shares 86.39% Luxembourg Eastspring Investments US High Investments Grade Bond Fund Ordinary shares 84.60% Luxembourg Eastspring Investments US Investments Grade Bond Private
Eastspring Investments UT Dragon Peacock Fund Ordinary shares 96.63% Singapore Eastspring Investments UT Singapore ASEAN Equity Fund Ordinary shares 99.93% Singapore Eastspring Investments UT Singapore Select Bond Fund Ordinary shares 94.67% Singapore Eastspring Investments World Value Equity Fund Ordinary shares 83.06% Luxembourg Eastspring Investments – Cash Reserve Fund Ordinary shares 95.08% Indonesia Eastspring Securities Investment Trust Company Limited Ordinary shares 99.54% Taiwan Edger Investments Limited Ordinary shares 100.00% United Kingdom Empire Holding S.à.r.l. (in liquidation) Ordinary shares 100.00% Luxembourg
Euro Salas Properties Limited Ordinary shares 100.00% United Kingdom Falan GP Limited Ordinary shares 100.00% United Kingdom Fee Retail S.à.r.l Ordinary shares 52.24% Luxembourg First Dakota, Inc. Ordinary shares 100.00% USA Five Hotel Holdings, LLC Membership interest 100.00% USA Foudry Properties Limited Ordinary shares 50.00% United Kingdom Furnival Insurance Company PCC Limited Ordinary shares 100.00% Guernsey GCI Holdings Corporation Ordinary shares 75.80% USA Geoffrey Snushall Limited (in liquidation) Ordinary shares 100.00% United Kingdom Gerlach GP Limited Ordinary shares 100.00% United Kingdom Global Low Volatility Equity Fund D Acc Ordinary shares 100.00% Luxembourg Greenpark (Reading) General Partner Limited Ordinary shares 100.00% United Kingdom Greenpark (Reading) Limited Partnership (The) Limited partnership interest 100.00% United Kingdom Greenpark (Reading) Nominee No. 1 Limited Ordinary shares 100.00% United Kingdom Greenpark (Reading) Nominee No. 2 Limited Ordinary shares 100.00% United Kingdom GS Twenty Two Limited Ordinary shares 100.00% United Kingdom Harvest Partners V, L.P. Membership interest 25.13% USA Hermitage Management LLC Membership interest 100.00% USA Holborn Bars Nominees Limited Ordinary shares 100.00% United Kingdom Holborn Finance Holding Company (in liquidation) Ordinary shares 100.00% United Kingdom Holtwood Limited Ordinary shares 100.00% Isle of Man Hyde Holdco 1 Limited Ordinary shares 100.00% United Kingdom ICICI Prudential Asset Management Company Limited Ordinary shares 49.00% India ICICI Prudential Life Insurance Company Limited Ordinary shares 25.89% India ICICI Prudential Pension Funds Management Company Ltd Ordinary shares 25.89% India ICICI Prudential Trust Limited Ordinary shares 49.00% India ICP (TTT) GP Limited Ordinary shares 100.00% United Kingdom ICP F2 (TTT) GP Limited Ordinary shares 100.00% United Kingdom IFC Holdings, Inc Ordinary shares 100.00% USA Infracapital (Bio) GP Limited Ordinary shares 100.00% United Kingdom Infracapital (GC) GP Limited Ordinary shares 100.00% United Kingdom Infracapital (TLSB) GP Limited Ordinary shares 100.00% United Kingdom Infracapital ABP GP Limited Ordinary shares 100.00% United Kingdom Infracapital CI II Limited Ordinary shares 100.00% United Kingdom Infracapital DF II GP LLP Limited partnership interest 40.00% United Kingdom Infracapital DF II Limited Ordinary shares 100.00% United Kingdom Infracapital EF II GP LLP Limited partnership interest 40.00% United Kingdom Infracapital Employee Feeder GP 1 LLP Limited partnership interest 40.00% United Kingdom Infracapital Employee Feeder GP 2 LLP Limited partnership interest 40.00% United Kingdom Infracapital Employee Feeder GP Limited Ordinary shares 100.00% United Kingdom Infracapital F1 GP2 Limited Ordinary shares 100.00% United Kingdom Infracapital F2 GP1 Limited Ordinary shares 100.00% United Kingdom Infracapital F2 GP2 Limited Ordinary shares 100.00% United Kingdom Infracapital GP 1 LLP Limited partnership interest 40.00% United Kingdom Infracapital GP 2 LLP Limited partnership interest 40.00% United Kingdom Infracapital GP II Limited Ordinary shares 100.00% United Kingdom Infracapital GP Limited Ordinary shares 100.00% United Kingdom Infracapital Greenfield Partners I GP 1 Limited Ordinary shares 100.00% United Kingdom Infracapital Greenfield Partners I GP 2 Limited Ordinary shares 100.00% United Kingdom Infracapital Greenfield Partners I GP LLP Limited partnership interest 100.00% United Kingdom Infracapital Long Term Income Partners GP 1 Limited Ordinary shares 100.00% United Kingdom Infracapital Long Term Income Partners GP 2 Limited Ordinary shares 100.00% United Kingdom Infracapital Long Term Income Partners GP LLP Limited partnership interest 100.00% United Kingdom Infracapital Nominees Limited Ordinary shares 100.00% United Kingdom Infracapital Partners Limited partnership interest 33.04% United Kingdom Infracapital Partners II LP Limited partnership interest 25.98% United Kingdom Infracapital Sisu GP Limited Ordinary shares 100.00% United Kingdom Infracapital SLP II GP LLP Limited partnership interest 40.00% United Kingdom Infracapital SLP Limited Ordinary shares 100.00% United Kingdom
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 277
Innisfree M&G PPP LLP Limited partnership interest 35.00% United Kingdom INVEST Financial Corporation Insurance Agency, Inc. of Delaware Ordinary shares 100.00% USA INVEST Financial Corporation Insurance Agency, Inc. of Illinois Ordinary shares 100.00% USA INVEST Financial Corporation Insurance Agency, Inc. of Maryland
M&G Real Estate Funds Management S.à.r.l. Ordinary shares 100.00% Luxembourg M&G Real Estate Japan Co. Ltd Ordinary shares 100.00% Japan M&G Real Estate Korea Co. Ltd Ordinary shares 100.00% Korea M&G Real Estate Limited Ordinary shares 100.00% United Kingdom M&G RED Employee Feeder GP Limited Ordinary shares 100.00% United Kingdom M&G RED GP Limited Ordinary shares 100.00% Guernsey M&G RED II Employee Feeder GP Limited Ordinary shares 100.00% United Kingdom M&G RED II GP Limited Ordinary shares 100.00% Guernsey M&G RED II SLP GP Limited Ordinary shares 100.00% United Kingdom M&G RED III Employee Feeder GP Limited Ordinary shares 100.00% United Kingdom M&G RED III GP Limited Ordinary shares 100.00% United Kingdom M&G RED III SLP GP Limited Ordinary shares 100.00% United Kingdom M&G RED SLP GP Limited Ordinary shares 100.00% United Kingdom M&G RPF GP Limited Ordinary shares 100.00% United Kingdom M&G RPF Nominee 1 Limited Ordinary shares 100.00% United Kingdom M&G RPF Nominee 2 Limited Ordinary shares 100.00% United Kingdom M&G Securities Limited Ordinary shares 100.00% United Kingdom M&G SIF Management Company (Ireland) Limited Ordinary shares 100.00% Ireland M&G Smaller Companies Fund Ordinary shares 47.74% United Kingdom M&G Traditional Credit Fund Ordinary shares 40.24% Ireland M&G UK Companies Financing Fund II LP Limited partnership interest 48.32% United Kingdom M&G UK Property GP Limited Ordinary shares 100.00% United Kingdom M&G UK Property Nominee 1 Limited Ordinary shares 100.00% United Kingdom M&G UK Property Nominee 2 Limited Ordinary shares 100.00% United Kingdom M&G UKCF II GP Limited Ordinary shares 100.00% United Kingdom Manchester JV Limited Ordinary shares 50.00% United Kingdom Manchester Nominee (1) Limited Ordinary shares 100.00% United Kingdom Manhattan Property Finance Company Limited Ordinary shares 100.00% Gibraltar Mission Plans of America, Inc Ordinary shares 100.00% USA MM&S (2375) Limited (in liquidation) Ordinary shares 100.00% United Kingdom Murphy & Partners Fund, LP Limited partnership interest 21.07% USA NAPI REIT, Inc. Ordinary shares 99.00% USA National Planning Corporation Ordinary shares 100.00% USA National Planning Holdings, Inc. Ordinary shares 100.00% USA National Planning Insurance Agency, Inc. (Florida) (in liquidation) Ordinary shares 100.00% USA National Planning Insurance Agency, Inc. (Massachusetts)
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 279
Fixed assets Investments: Shares in subsidiary undertakings 5 12,514 5,373 Loans to subsidiary undertakings 5 – 6,329
Current assets Debtors: Amounts owed by subsidiary undertakings 4,783 3,785 Other debtors 3 3
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 283
Total comprehensive income for the year Profit for the year – – 1,463 1,463 Actuarial gains recognised in respect of the pension scheme – – 6 6
Transactions with owners, recorded directly in equity New share capital subscribed – 13 – 13 Share-based payment transactions – – 6 6
Total contributions by and distributions to owners – 13 (889) (876)
Total comprehensive income for the year Profit for the year – – 920 920 Actuarial gains recognised in respect of the pension scheme – – 4 4
Prudential plc (the ‘Company’) is a parent holding company. The Company together with its subsidiaries (collectively, the ‘Group’) is an international financial services group with its principal operations in Asia, the US and the UK. In Asia, the Group has operations in Hong Kong, Indonesia, Malaysia, Singapore and other countries. In the US, the Group’s principal subsidiary is Jackson National Life Insurance Company. In the UK, the Group operates through its subsidiaries, primarily The Prudential Assurance Company Limited, Prudential Retirement Income Limited and M&G Investment Management Limited.
In preparing these financial statements, the Company applies the recognition, measurement and disclosure requirements in International Financial Reporting Standards (‘IFRSs’) as issued by the International Accounting Standards Board (‘IASB’) and endorsed by the EU, but makes amendments where necessary in order to comply with the Companies Act 2006, and has set out below where advantage of the FRS 101 disclosure exemptions has been taken. The Company has also taken advantage of the exemption under Section 408 of the Companies Act 2006 from presenting its own profit and loss account.
In preparing these financial statements, the Company has adopted FRS 101 for the first time. In the transition to FRS 101, the Company has made no measurement and recognition adjustments. An explanation of how the transition to FRS 101 has affected the presentation of the financial statements of the Company is provided in note 14.
The accounting policies set out in note 3 below have, unless otherwise stated, been applied consistently to all periods presented in these financial statements and in preparing an opening FRS 101 statement of financial position at 1 January 2014 for the purposes of the transition to FRS 101.
Loans to subsidiary undertakings Loans to subsidiary undertakings are shown at cost less provisions.
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 285
The assets and liabilities of the defined benefit pension schemes of the Prudential Group are subject to a full triennial actuarial valuation using the projected unit method. Estimated future cash flows are then discounted at a high quality corporate bond rate, adjusted to allow for the difference in duration between the bond index and the pension liabilities where appropriate, to determine their present value. These calculations are performed by independent actuaries.
The parent company financial statements are prepared in accordance with FRS 101 and the Group financial statements are prepared in accordance with IFRSs as issued by the IASB and endorsed by the EU. At 31 December 2015, there were no differences between FRS 101 and IFRSs as issued by the IASB and endorsed by the EU in terms of their application to the parent company.
Profit after tax of the Group attributable to shareholders in accordance with IFRS 2,579 2,216
Net equity Shareholders’ equity of the Company in accordance with FRS 101 and IFRS 7,909 7,945 Share in the IFRS net equity of the Group * 5,046 3,866
Shareholders' equity of the Group in accordance with IFRS 12,955 11,811 * The ‘shares in the IFRS result and net equity of the Group’ lines represent the parent company’s equity in the earnings and net assets of its subsidiaries and associates.
As stated in note 3, under FRS 101, the Company accounts for its investments in subsidiary undertakings at cost less impairment. For the purpose of this reconciliation, no adjustment is made to the Company in respect of any valuation adjustments to shares in subsidiary undertakings which would be eliminated on consolidation.
During the year, the Company entered into a number of intra-group transactions in order to simplify the Group’s corporate structure relating to central finance subsidiaries. The transactions resulted in an increase of £7,247 million in the cost of shares in subsidiary undertakings, of which £5,489 million related to the conversion to equity of existing intra-group loans and the remainder to movements in other intercompany balances. No profit or loss arose on the transactions. Further changes to the amounts relating to shares in, and loans to, subsidiary undertakings are set out in the table above.
Short-term temporary differences – 1 Unused deferred tax losses – 7
Deferred tax liability of £(9) million (2014: £(8) million) disclosure arises from the change in the presentation of the pension scheme asset on the balance sheet from net to gross of related deferred tax at the balance sheet date following adoption of FRS 101.
Borrowings are repayable as follows: Within 1 year or on demand – – 1,307 2,204 1,307 2,204
Notes (i) Further details on the core structural borrowings of the Company are provided in note C6.1 of the Group financial statements. (ii) The interests of the holders of the subordinated liabilities are subordinate to the entitlements of other creditors of the Company. (iii) These borrowings support a short-term fixed income securities programme.
(iv) The Company issued £200 million Floating Rate Notes in October 2015 which will mature in October 2016. These Notes have been wholly subscribed
Notes on the parent company financial statements continued 8 Derivative financial instruments
Cross-currency swap 1 – 2 – Inflation-linked swap – 322 – 315
At 31 December 2005, the allocation of surpluses and deficits attaching to the Scheme between the Company and the unallocated surplus of The Prudential Assurance Company Limited (‘PAC’) with-profits fund was apportioned in the ratio 30/70 following detailed consideration of the sourcing of previous contributions. This ratio was applied to the base deficit position at 1 January 2006 and for the purpose of determining the allocation of the movements in that position up to 31 December 2015. The IAS 19 service charge and ongoing employer contributions are allocated by reference to the cost allocation for current activity.
The last completed triennial actuarial valuation of the Scheme was as at 5 April 2014. Further details on the results of this valuation and the total employer contributions to the Scheme for the year are provided in note C9 of the Group financial statements, together with the key assumptions adopted, including mortality assumptions.
Movements in net defined benefit liability/asset The assets and liabilities of the Scheme were: Quoted prices in an active market Other Total
Fair value of Scheme assets 6,578 149 6,727 6,858 139 6,997
Surplus in the Scheme recognised by the * 96 per cent (2014: 97 per cent) of the bonds are investment graded. † The surplus in the Scheme recognised in the balance sheet of the Company represents the amount which is recoverable through reduced future contributions and
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 289
The change in the present value of the underlying Scheme liabilities and the change in the fair value of the underlying Scheme assets are as follows: Scheme assets
Current service cost – (17) (17) (17) Past service cost – (4) (4) (4)
of the benefit obligations as at 31 December: 1 year or less After 1 year to 5 years After 5 years to 10 years After 10 years to 15 years After 15 years to 20 years Over 20 years Total
(ii) The actuarial gains attributable to policyholders and shareholders are analysed as follows: Return on scheme assets excluding interest income* (248) 927 Actuarial gains (losses): Experience gains (losses) on Scheme liabilities 28 (34) Actuarial losses – demographic assumptions (3) (22) Actuarial gains (losses) – financial assumptions 287 (774)
Total actuarial gains without the effect of IFRIC 14 64 97 Actuarial gains attributable to the Company before tax† 4 8 * The total return on scheme assets in 2015 was a loss of £8 million (2014: gain of £1,188 million). † Actuarial gains attributable to the Company are net of the apportionment to the PAC with-profits fund and are related to the surplus recognised in the balance
sheet of the Company. In 2015, the gains included a charge of £15 million (2014: £21 million) for the adjustment to the unrecognised portion of surplus which has not been deducted from the pension charge.
The gains after tax of £4 million (2014: £6 million) are recorded in other comprehensive income.
(iii) Employer contributions to be paid into the Scheme for the year ending 31 December 2016 are expected to amount to £11 million, comprising ongoing service contributions and expenses.
Notes on the parent company financial statements continued 10 Share capital and share premium
Retained profit at 31 December 2015 amounted to £5,866 million (2014: £5,909 million). The retained profit includes distributable reserves of £3,385 million and non-distributable reserves of £2,481 million. The non-distributable reserves comprise £2,405 million relating to gains made by intermediate holding companies following the transfer at fair value of certain subsidiaries to other parts of the Group as part of internal restructuring exercises and £76 million of share-based payment reserves. The amount of £2,405 million is not able to be regarded as part of the distributable reserves of the parent company because the gains relate to intra-group transactions.
12 Other information a Information on directors’ remuneration is given in the directors’ remuneration report section of this Annual Report and note B3.3 of the Group financial statements.
The second interim and special dividends for the year ended 31 December 2015, which were approved by the Board of Directors after 31 December 2015, are described in note B7 of the Group financial statements.
In preparing its FRS 101 balance sheet, the Company has adjusted amounts reported previously in financial statements prepared in accordance with its old basis of accounting, UK GAAP. An explanation of how the transition from UK GAAP to FRS 101 has affected the Company’s financial statements is set out in the following tables and the notes that accompany the tables.
Liabilities: amounts falling due after more than one year (3,869) – (3,869)
Profit for the year 1,460 3 1,463 Actuarial gains (losses) recognised in respect of the pension scheme, net of tax 9 (3) 6
of the pension charge and the change in the recording of the surplus restriction resulted in a reclassification of £3 million gross and net of tax between the 2014 pension charge in the profit and loss account and the actuarial gains in other comprehensive income.
Company law requires the directors to prepare Group and parent company financial statements for each financial year. Under that law, the directors are required to prepare the Group financial statements in accordance with International Financial Reporting Standards (IFRSs) as adopted by the European Union (EU) and applicable law and have elected to prepare the parent company financial statements in accordance with UK Accounting Standards and applicable law (UK Generally Accepted Accounting Practice) including FRS 101 ‘Reduced Disclosure Framework’.
The risk – The Group’s investment portfolio represents 91 per cent of the Group’s total assets. The valuation of the portfolio involves judgement in selecting the valuation basis for each investment and further judgement in performing the valuation for harder to value investments.
The areas that involved significant audit effort and judgement in 2015 were the valuation of illiquid positions within the financial investments portfolio representing 3 per cent of the Group’s total assets. These included unlisted equity, unlisted debt securities, certain derivatives and loans such as commercial mortgage loans and bridge loans. For these positions, a reliable third-party price was not readily available and therefore involved the application of expert judgement in the valuations adopted.
Our response – We used our own valuation specialists and pricing services to assist us in performing our procedures in this area, which included: — Assessing the availability of quoted prices in liquid markets; — Assessing whether the valuation process is appropriately designed and captures relevant valuation inputs; — Testing whether associated controls in respect of the valuation process are functioning properly; — Performing our own independent price checks from our own pricing services using external quotes for liquid positions and, where available, for illiquid positions; — Assessing pricing model methodologies and assumptions against industry practice and valuation guidelines; — Evaluating the testing performed by the Group in order to identify any impairment in relation to loans; and
— Performing our own assessment of loan files to understand the performance of the loans. We obtained an understanding of existing and prospective investee company cash flows to understand whether loans can be serviced or refinancing may be required and considered the impact on impairment testing performed.
The valuation of the guarantees in the US variable annuity business is a complex exercise as it involves exercising significant judgement over the relationship between the investment return attaching to these products and the guarantees contractually provided to policyholders and the likely policyholder behaviour in response to changes in investment performance.
Other key procedures included assessing the Group’s methodology for calculating the insurance liabilities and their analysis of the movements in insurance liabilities during the year, including consideration of whether the movements are in line with the assumptions adopted by the Group, our understanding of developments in the business and our expectation derived from market experience. We considered the validity of management’s liability adequacy testing which is a key test performed to check that the liabilities are adequate in the context of expected experience. Our work on the liability adequacy test includes assessing the reasonableness of the projected cash flows and challenging the assumptions adopted in the context of company and industry experience data and specific product features. We also performed test work to ensure the appropriateness of changes made to the reserving models during the year.
Deferred Acquisition Costs (‘DAC’) (2015: £7,022 million, 2014: £5,927 million) Refer to page 89 (Audit Committee report), page 145 (accounting policy) and pages 236 to 240 (financial disclosures)
Our response – We used our own actuarial specialists to assist us in performing our audit procedures in this area, which included: — Evaluating the appropriateness of the Group’s deferral policy by comparing it against the requirements of relevant accounting standards; — Evaluating whether costs are deferred in accordance with the Group’s deferral policy; and
) basis results 7 A dditional inform ation www.prudential.co.uk Annual Report 2015 Prudential plc 295 3. Our application of materiality and an overview of the scope of our audit Materiality for the Group financial statements as a whole was set at £350 million (2014: £307 million) determined with reference to a benchmark of IFRS shareholders’ equity of £13.0 billion (of which it represents 2.7 per cent (2014: 2.6 per cent)). We consider IFRS shareholders’ equity to be the most appropriate benchmark as it represents the residual interest that can be ascribed to shareholders after policyholder assets and corresponding liabilities have been accounted for. We compared our materiality against other relevant benchmarks, such as total assets, total revenue and profit before tax to ensure the materiality selected was appropriate for our audit.
We set out below the materiality thresholds that are key to the audit.
We report to the Group Audit Committee any corrected or uncorrected identified misstatements exceeding £18 million (2014: £15 million) in addition to other identified misstatements that warrant reporting on qualitative grounds.
We subjected the Group’s operations to audits for Group reporting purposes as follows: — Audits for Group reporting purposes in relation to the financial information of the insurance operations in the UK, the US, Hong Kong, Indonesia, Singapore, Malaysia, Korea, Thailand and fund management operations in the UK (M&G).
These components accounted for the following percentages of the Group’s results in 2015: Group profit before tax
Audit for group reporting (2014: 88%) Audit of account balances (2014: 4%) Analysis at group level (2014: 8%)
The Group audit team visited 10 component locations, comprising the insurance operations in the UK, the US, Hong Kong, Indonesia, Singapore, Malaysia, Korea and Thailand, the fund management operations in M&G and Prudential Capital. Video and telephone conference meetings were also held with these component auditors and certain others that were not physically visited. At these visits and meetings, an assessment was made of audit risk and strategy, the findings reported to the Group audit team were discussed in more detail, key working papers were reviewed and any further work required by the Group audit team was then performed by the component auditor.
4. Our opinion on other matters prescribed by the Companies Act 2006 is unmodified In our opinion: — The part of the Directors’ Remuneration Report to be audited has been properly prepared in accordance with the Companies Act 2006; and
5. We have nothing to report on the disclosures of principal risks Based on the knowledge we acquired during our audit, we have nothing material to add or draw attention to in relation to: — The directors’ viability statement on page 56 concerning the principal risks, their management, and, based on that, the directors’ assessment and expectations of the Group’s continuing in operation over the three years to 2018; or
— The disclosure on page 98 of the Annual Report concerning the use of the going concern basis of accounting.
Under the Listing Rules we are required to review: — The directors’ statement, set out on pages 98 and 56, in relation to going concern and longer-term viability; and
) basis results 7 A dditional inform ation 6 298 Index to EEV basis results
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Index to European Embedded Value (EEV) basis results 299 Post-tax operating profit based on longer-term investment returns 300 Post-tax summarised consolidated income statement 300 Movement in shareholders’ equity 301 Summary statement of financial position
The European Embedded Value principles were published by the CFO Forum of major European insurers in May 2004 and subsequently supplemented by Additional Guidance issued in October 2005. The impact of Solvency II is not reflected in these results in line with the guidance issued by the CFO Forum in October 2015 (see note 15 for further details). The principles provide consistent definitions, a framework for setting actuarial assumptions and an approach to the underlying methodology and disclosures.
Results prepared under the EEV principles capture the discounted value of future profits expected to arise from the current book of long-term business. The results are prepared by projecting cash flows by product, using best estimate assumptions for all relevant factors. Furthermore, in determining these expected profits, full allowance is made for the risks attached to their emergence and the associated cost of capital, taking into account recent experience in assessing likely future persistency, mortality, morbidity and expenses. Further details are explained in notes 13 and 14.
Analysed as profit (loss) from: Business in force* 4 2,375 2,048
Long-term business* 4,992 4,163 Asset management 484 470 Other results (595) (537)
(ii) Solvency II and restructuring costs comprise the net of tax charge recognised on an IFRS basis and the additional amount recognised on the EEV basis for the shareholders’ share incurred by the PAC with-profits fund.
Profit for the year attributable to equity holders of the Company 3,951 4,343 * In order to show the UK long-term business on a comparable basis, the 2014 comparative results exclude the contribution from the sold PruHealth and PruProtect businesses which is shown separately.
Profit for the year attributable to equity shareholders 3,951 4,343 Items taken directly to equity: Exchange movements on foreign operations and net investment hedges 244 737
New share capital subscribed 7 13 Shareholders’ share of actuarial and other gains and losses on defined benefit pension schemes 25 (11) Reserve movements in respect of share-based payments 39 106 Treasury shares (18) (54) Mark to market value movements on Jackson assets backing surplus and required capital (76) 77
Net increase in shareholders’ equity 9 3,198 4,316 Shareholders’ equity at beginning of year: As previously reported 9 29,161 24,856 Effect of the domestication of Hong Kong branch on 1 January 2014* – (11)
Shareholders’ equity at end of year 9 32,359 29,161 * On 1 January 2014, the Hong Kong branch of PAC was transferred to separate subsidiaries established in Hong Kong. The overall EEV basis effect of £(11) million represents the cost of holding higher required capital levels in the stand-alone Hong Kong shareholder-backed long-term insurance business.
Total assets less liabilities, before deduction for insurance funds 340,666 326,633 Less insurance funds:*