We generated £567 million of cash from our operating companies in 2014, exceeding our 2014 annual cash generation target of £500 million to £550 million (excluding the proceeds of the Ignis divestment). Against our long-term cash generation target for the period from 2014 to 2019 of £2.8 billion, we have already achieved £957 million (including the proceeds of the Ignis divestment). Today, we reiterate this long-term cash generation target, despite the uncertainties that continue to face the industry with respect to the final Solvency II regulations.
– The refinancing of the Group’s remaining senior bank debt and PIK notes into a five-year £900 million unsecured bank facility borrowed by PGH Capital Limited. The new facility was agreed with a core set of lending banks, which included some new lenders, and as part of the bank refinancing a further prepayment of £206 million of existing debt was made, financed by internal resources.
This is a strong list of achievements and we will continue to seek ways to add value for customers and shareholders during 2015.
We also continue to maintain strong Group solvency levels and have almost £1 billion of cash at the holding company level, providing further support for our stable and sustainable dividend policy. We expect that the overall Group will remain well capitalised under the new Solvency II regime.
We ensure our customers’ pension funds are protected from potential fraudsters by working closely with industry bodies and other providers to keep abreast of the latest schemes.
KEY INITIATIVES AND PROGRESS IN 2014 – We have increased policyholder payments through inherited estate distribution totalling £185 million.
– We have developed new mobile and tablet-friendly versions of the Phoenix Life website.
ANALYSIS Continued strong cash generation of £567 million by the Group’s operating companies enabled the Group to exceed its full year cash generation target for 2014 of £500 million to £550 million. The receipt of gross Ignis divestment proceeds generated a further £390 million of cash in the period.
QUANTIFIED TARGET The Group’s incremental MCEV target is £300 million between 2014 and 2016, of which £261 million has now been delivered. Management have set a new target of £400 million of incremental MCEV between 2014 and 2016.
QUANTIFIED TARGET Having successfully completed comprehensive debt refinancing in July, we achieved our 40% gearing target ahead of schedule. Following the Tier 1 notes exchange announced in January 2015 and in order to align the Group’s measure of its level of debt with that used to determine the interest margin payable on its bank facility, the Group will monitor gearing by reference to the financial leverage ratio going forwards. Details on the calculation of this metric are included below.
3 11-15 year term: AAA – 46bps, AA – 69bps, A – 102bps, BBB – 144bps.
Expected existing business contribution The Group uses long-term investment returns in calculating the expected existing business contribution. The expected contribution in 2014 of £137 million after tax is £12 million higher than in 2013, primarily due to an increase in the long-term risk-free rate used to calculate operating earnings. The long-term risk-free rate is based on the opening position at 1 January 2014.
The financial leverage ratio is calculated as gross shareholder debt (financial leverage basis) as a percentage of gross MCEV. The definition of gross shareholder debt (financial leverage basis) differs from that used in the gearing ratio, as the debt instruments are included at their notional face values as opposed to their IFRS carrying values. The Tier 1 notes are included at 100% of their face value. Gross MCEV is calculated on a consistent basis to the gearing ratio calculation.
The new provisions of the UK Corporate Governance Code (September 2014) apply to Phoenix Group Holdings from the financial year commencing 1 January 2015. We are well placed to comply with the new risk management and internal control provisions and, as required, will report against them in our 2015 Annual Report.
Second line: Risk Oversight Risk oversight is provided by the Group Risk function and the Board Risk Committee. The Board Risk Committee comprises four Non-Executive Directors, three of whom are independent. It is supported by the Chief Risk Officer and met seven times during 2014.
Changes in the retirement marketplace may result in poor outcomes for customers.
Political Risk Unexpected changes driven by political agenda in run up to, and following, the general election in May 2015.
– 87% of staff believing we do the right amount to promote CR
– Leads development and delivery of the Phoenix Life business strategy, including the continued integration of life businesses
– Leads provision of legal advice to the Group Board, other Phoenix Group Boards, ExCo and senior management
AUDIT COMMITTEE’S ROLE – Receiving and reviewing the Annual Report and Accounts and other related financial disclosures, although the ultimate responsibility for these matters remain with the Board
– Provision of advice to the Board to enable the Board to report on whether the Annual Report and Accounts, taken as a whole, are fair, balanced and understandable and provide the information necessary for shareholders to assess the Group’s performance, business model and strategy
– Management presented papers to the Phoenix Life Audit Committee detailing recommendations for the actuarial assumptions and methodologies to be used for the interim and year-end reporting periods with justification and benchmarking as appropriate. These assumptions and methodologies were debated and challenged by the Phoenix Life Audit Committee, focusing on longevity and persistency in relation to demographics and on credit in relation to economics, prior to their approval.
– Reviewed, prior to their appointments, the proposed new Non-Executive Director appointment to the subsidiary Phoenix Life Board and the new Phoenix Life Chief Executive appointment.
The establishment of a Risk Committee is not a requirement of the Code. However, the Board believes such a committee is important to ensure the robust oversight of the management of risk within the Group. The composition of the Risk Committee, with a majority of independent Non-Executive Directors, is in accordance with the final recommendations of the report by Sir David Walker titled ‘A review of corporate governance in UK banks and other financial industry entities’. The Risk Committee met seven times in 2014. Its meetings are attended by the Chairman of the Audit Committee (who is also a member of the Risk Committee), the Chief Risk Officer, the Group Head of Internal Audit and, on several occasions during the year, also by the Group Chairman and the Group Chief Executive Officer.
The Board (and its subsidiary company boards) monitor internal controls on a continual basis, in particular through Audit and Risk Committees. There is an ongoing process for identifying, evaluating and managing the significant risks faced by the Group, which has been in place throughout the period covered by this report and up to the date of approval of the Annual Report and Accounts for 2014, in accordance with the ‘Internal Control: Guidance to Directors’ published by the Financial Reporting Council.
2 Following the year-end, the Group Chief Executive Officer elected to waive voluntarily his entitlement to any vesting of the 2012 LTIP in excess of two-thirds of the shares which would otherwise have vested.
The Directors noted the percentage of shareholders voting against these resolutions and, having engaged with its shareholders, believe that the reasons for this include: – the first salary rise for the Group Finance Director since his appointment in 2012; – not disclosing AIP performance targets on a retrospective basis for 2013; – the absence of a further holding period within the LTIP following the completion of the three-year performance period; and
8 Figure restated for 2013. See notes 2 and 4 above.
3 For the 2012 awards the TSR performance period commenced on 2 April 2012. For the 2013 award (and future awards) the TSR performance period was aligned to the period of financial years applying to the two financial measures.
As explained in the Remuneration Policy, the Executive Directors are subject to Shareholding Guidelines.
Subject to Board approval, Executive Directors are permitted to accept outside appointments on external boards as long as these are not deemed to interfere with the business of the Group. During 2014, Clive Bannister received £45,000 from Punter Southall Group and CHF60,000 from UniGestion in respect of two external directorships. James McConville received £37,908 from Tesco Personal Finance plc following his appointment to their Board with effect from 1 September 2014.
– Base salaries are reviewed each year against companies of similar size and complexity and set by reference to the median data of comparators which the Remuneration Committee considers to be suitable, with consideration given to both relevant insurance companies and the FTSE 31-100 as a whole
– AIP outcomes are paid in cash in one tranche (less the deferred share award)
– During the period until vesting of DBSS awards, the number of shares within such awards are cumulatively increased by the value of dividends notionally payable in respect of the vesting shares
For example change in control or winding up of the Company
– David Barnes resigned from the Board on 22 October 2014.
At the Company’s AGM held on 30 April 2014, shareholders granted the Company authority to purchase up to 10% of its issued ordinary shares. Any ordinary shares purchased under the authority would, subject to the Cayman Islands Companies Law (as amended), either be cancelled by operation of law or held in treasury. These authorities were not used during the year or up to the date of this report.
The Board has followed the UK Financial Reporting Council’s ‘Going Concern and Liquidity Risk: Guidance for Directors of UK Companies 2009’ when performing its going concern assessment. As part of its comprehensive assessment of whether the Group and the Company are a going concern, the Board has undertaken a review of the valuation and liquidity of its investments as at the date of preparation of the statement of consolidated financial position. The Board has also reviewed solvency and cash flow projections under both normal and stressed conditions.
OUR ASSESSMENT OF RISK OF MATERIAL MISSTATEMENT AND OUR RESPONSE TO THAT RISK We designed our audit by determining materiality and assessing the risks of material misstatement in the financial statements. We primarily focused our work in the areas where the Directors made significant judgements, for example in respect of significant accounting estimates that involved making assumptions about future events that are inherently uncertain.
– Obtained valuation statements provided by third party administrators in respect of direct equity and hedge funds and compared them with management’s valuations.
1 Insurance Companies (Full Scope) 86% 2 Group Function (Full Scope) 4% 3 Ignis (Full Scope) 3% 4 Other Companies (Specific Scope) 7%
– The financial statements are not in agreements with the accounting records and returns; or
Cash flows from operating activities Cash (utilised)/generated by operations 38 (3,716) 1,023 Taxation paid (54) (11) Net cash flows from operating activities (3,770) 1,012
Basis of consolidation The consolidated financial statements include the financial statements of the Company and its subsidiary undertakings including collective investment schemes where the Group exercises overall control. In accordance with the principles set out in IFRS 10 Consolidated Financial Statements, the Group controls an investee if and only if the Group has all the following: – power over the investee; – exposure, or rights, to variable returns from its involvement with the investee; and
The Group uses the purchase method to account for the acquisition of subsidiary undertakings. The cost of an acquisition is measured at the fair value of the consideration. Any excess of the cost of acquisition over the fair value of the net assets acquired is recognised as goodwill. Any excess of the fair value of the net assets acquired over the cost of acquisition is recognised in the consolidated income statement. Directly attributable acquisition costs are included within administrative expenses, except for acquisitions undertaken prior to 2010 when they are included within the cost of the acquisition. Costs directly related to the issuing of debt or equity securities are included within the initial carrying amount of debt or equity securities where these are not carried at fair value. Intra-group balances and income and expenses arising from intra-group transactions are eliminated in preparing the consolidated financial statements.
Fair value of financial assets and liabilities Financial assets and liabilities are measured at fair value and accounted for as set out in accounting policies (r) and (g) respectively. Where possible, financial assets and liabilities are valued on the basis of listed market prices by reference to quoted market bid prices for assets and offer prices for liabilities. These are categorised as Level 1 financial instruments and do not involve estimates. If prices are not readily determinable, fair value is determined using valuation techniques including pricing models, discounted cash flow techniques or broker quotes. Financial instruments valued where valuation techniques based on observable market data at the period end are categorised as Level 2 financial instruments. Financial instruments valued using valuation techniques based on non-observable inputs are categorised as Level 3 financial instruments. Level 2 and Level 3 financial instruments therefore involve the use of estimates. Further details of the estimates made are included in note 34.
– IFRS 11 Joint Arrangements (2013) establishes principles for financial reporting by parties to a joint arrangement. The standard distinguishes between two types of joint arrangements, joint ventures and joint operations. The adoption of IFRS 11 results in the presentation of a property investment structure as an investment in joint ventures within financial assets (previously disclosed as an equity investment). As a result of the Group’s accounting policy to value interests in joint ventures at fair value through profit or loss there has been no change in the measurement basis.
Total liabilities: Derivatives 5 Net asset value attributable to unitholders 435 Other payables (44)
As part of the divestment, the Group agreed to a purchase price adjustment for a period of 10 years from the date of the divestment in the event that assets held by the Life companies are withdrawn from management by Ignis, other than for specific reasons such as poor investment performance or for material breaches of investment management contracts. Management has determined that no obligation should be recognised under this mechanism as at 31 December 2014.
Gain on disposal of discontinued operations 107 – Attributable tax credit 3 –
4.1.3 Effect of disposal on the financial position of the Group 2014 £m
For management purposes, the Group is organised into business units based on their products and services and has two operating segments as follows: – Phoenix Life – this segment provides a range of whole life, term assurance and pension products; and
– Ignis – this segment provided investment management services to the life companies within the Group and to third parties, covering both retail and institutional investors. The segment has been disposed of effective from 1 July 2014 (see note 4.1).
Other operating expenses: Profit/(loss) before finance costs and tax 383 51 (14) – 51 471
Financing costs attributable to owners (23) – (65) (88) Segmental result before the tax attributable to owners 309 11 96 416
The negative variance on owners’ funds of £14 million for 2014 (2013: £31 million negative) is principally driven by fair value losses on swap and hedging positions held within the shareholder funds of the life companies. The reduction in the negative variance compared to 2013 reflects lower losses on equity index futures and credit default swaps compared to the prior year. The majority of interest rate swaps held by the shareholder funds and holding companies in relation to the Group’s bank debt were closed out during 2013.
7.2 COLLATERAL ARRANGEMENTS It is the Group’s practice to obtain collateral to mitigate the counterparty risk related to reinsurance transactions usually in the form of cash or marketable financial instruments. The accounting policy adopted in the preparation of this note is detailed in note 1(i).
12. FINANCE COSTS This note analyses the interest costs on the Group’s borrowings which are described in note 23 and is based upon the accounting policy detailed in note 1(z).
Total deferred tax charge/(credit) 24 (69) Total tax charge/(credit) 151 (1) Attributable to: Total tax charge/(credit) 151 (1)
The Notes may be redeemed at par at the option of PGH1 on the first reset date of 25 April 2016 or on any coupon payment date thereafter. Redemption is subject to the agreement of the PRA. In certain circumstances PGH1 has the right to substitute the Notes or to redeem the Notes before the first reset date.
Non current assets 612 457 Current assets 14 21 Non-current liabilities (111) (100) Current liabilities (10) (8)
143PHOENIX GROUP HOLDINGS ANNUAL REPORT AND ACCOUNTS 2014 30. PENSION SCHEMES This note describes the Group’s two main staff pension schemes for its employees, the Pearl Group Staff Pension Scheme and the PGL Pension Scheme and explains how the pension asset/liability is calculated. The accounting policy adopted in the preparation of this note is detailed in note 1(m).
30. PENSION SCHEMES CONTINUED 30.1 PEARL GROUP STAFF PENSION SCHEME Scheme details The Pearl Group Staff Pension Scheme (‘the Pearl Scheme’) comprises a final salary section, a money purchase section and a hybrid section (a mix of final salary and money purchase). The final salary and hybrid sections of the Pearl Scheme are closed to new members, and since 1 July 2011 are also closed to future accrual by active members.
Remeasurements: Return on plan assets excluding amounts included in interest income (6) – – – (6) Gain from change in demographic assumptions – 42 – – 42 Loss from change in financial assumptions – (43) – – (43) Experience losses – (1) – – (1) Change in provision for tax on economic surplus available as a refund – – (5) – (5) Change in minimum funding requirement obligation – – – 9 9
CUSTOMER RELATIONSHIPS AND OTHER The customer relationships intangible at 31 December 2014 relates to vesting pension premiums which captures the new business arising from policies in-force at the acquisition date, specifically top-ups made to existing policies and annuities vested from matured pension policies. The total value of this customer relationship intangible at acquisition was £297 million and has been allocated to the Phoenix Life segment. This intangible is being amortised over a 20 year period.
The impairment test was carried out using assumptions which management consider reasonable. However, there remains considerable uncertainty as to the impact on policyholder behaviour of the changes to the annuities rules as the final provisions do not come into force until April 2015. Were actual experience with regard to the take-up rates for annuity business to differ significantly from management’s current best estimate assumptions, there is a potential for the carrying value of the intangible to exceed the value in use.
Unrealised gains on properties held at end of period 194 57
Less amounts classified as held for sale (note 4.2) (55) – (55) Total financial assets 57,208 57,216
34.3.4 Loans and receivables collateral arrangements Until November 2014, the Group invested in Tri-party loans with Euroclear, a financial services company, whereby it lent cash to other reputable institutions. The cash on loan was derecognised and a loans and receivables balance recognised in the statement of consolidated financial position. The amount recognised as a financial asset in this regard as at 31 December 2013 was £1,789 million.
It is the Group’s practice to obtain collateral when undertaking such transactions. Such collateral is received in the form of marketable financial instruments which the Group is not permitted to sell or re-pledge except in the case of default, and is therefore not recognised in the statement of consolidated financial position. The fair value of such financial assets accepted as collateral at 31 December 2013 amounted to £1,902 million.
34.3.6 Other collateral arrangements Collateral has also been pledged and charges granted in respect of certain of the Group’s borrowings. The details of these arrangements are set out in note 23.
Intragroup Loan Interest – – – – – – 10 (2) 8 Changes in methodology and assumptions: Morbidity – – – – – – – – –
Tax risk is defined as the risk of financial or reputational loss arising from a lack of liquidity, funding or capital due to an unforeseen tax cost, or by the inappropriate reporting and disclosure of information in relation to taxation. The Group has exposure to tax risk through the production of its Interim Report and Annual Report and Accounts and the provisions for taxation therein. Tax risk is managed by maintaining an appropriately-staffed tax team who have the qualifications and experience to make judgements on tax issues, augmented by advice from external specialists where required. The Group has a formal tax risk policy, which sets out its risk appetite in relation to specific aspects of tax risk, and which details the controls the Group has in place to manage those risks. These controls are subject to a regular review process. The Group’s subsidiaries have exposure to tax risk through the annual statutory and regulatory reporting and through the processing of policyholder tax requirements.
Life: Immediate annuities 63 – 5 – Unitised with-profit 594 688 22 – Life with-profit 4,704 – 10 1
Operating lease rentals charged within administrative expenses amounted to £10 million (2013: £14 million).
– As disclosed in note 20, deferral of the coupon payable on the Notes may restrict the payment of dividends by certain Group companies.
On 25 April 2014, the Company received a £9 million dividend (2013: £8 million) from Opal Reassurance Limited in the form of preference shares in the company.
Loans due from PGH (LCA) Limited and PGH (LCB) Limited 164 148 257 246 Loans due from PGH (MC1) Limited and PGH (MC2) Limited 99 84 194 186 Loans due from other Group Entities 7 12 7 1
For the purposes of the additional fair value disclosures for assets recognised at amortised costs, all loans and receivables are categorised as Level 3 financial instruments. The fair value of loans and receivables with no external market is determined by internally developed discounted cash flow models using a risk adjusted discount rate corroborated with external market data where possible.
The primary operation of the Company is to act as the listed company for the Group. The Company’s other assets and liabilities mainly consist of receivables and borrowings from and to other Group entities.
Sovereign and supranational debt represented 48% of the debt portfolio in respect of shareholder exposure, or £5.8 billion, at 31 December 2014. The vast majority of the life companies’ exposure to sovereign and supranational debt holdings is to UK gilts.
An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the Phoenix Group MCEV supplementary information. The procedures selected depend on the auditor’s judgement, including the assessment of the risks of material misstatement of the Phoenix Group MCEV supplementary information, whether due to fraud or error. In making those risk assessments, we consider internal control relevant to the Group’s preparation of the Phoenix Group MCEV supplementary information in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Group’s internal control. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of significant accounting estimates made by the Directors, as well as evaluating the overall presentation of the Phoenix Group MCEV supplementary information.
For other business the cost would be £105 million (2013: £105 million). This equates to an equivalent average cost of capital charge of 0.95% (2013: 1.3%). The level of capital assumed in this calculation is determined based on a 99.5% confidence level over a 1 year time horizon, consistent with the ICA methodology. Allowance is made for diversification benefits between non-hedgeable risks, but not between hedgeable and non-hedgeable risks.
1. BASIS OF PREPARATION CONTINUED MCEV METHODOLOGY CONTINUED c) Valuation of debt Listed debt issued by the Group is valued at the market value quoted at the reporting date which is consistent with MCEV principles.
Assumption changes – 3 3 Other operating variances 9 74 83
(2) 1% decrease in risk-free rates 59 11 (3) 1% increase in risk-free rates (68) 7 (4) 10% decrease in equity market values (46) (41) (5) 10% increase in equity market values 46 47 (6) 10% decrease in property market values (46) (46) (7) 10% increase in property market values 45 45 (8) 100 bps increase in credit spreads1 (164) (143) (9) 100 bps decrease in credit spreads1 157 148 (10) 25% increase in equity/property implied volatilities (9) (7) (11) 25% increase in swaption implied volatilities (9) 6 (12) 25% decrease in lapse rates and paid-up rates (30) (25) (13) 5% decrease in annuitant mortality (140) (122) (14) 5% decrease in non-annuitant mortality 15 28 (15) Required capital equal to the minimum regulatory capital2 16 1 1 25 bps is assumed to relate to default risk.
– Check that they are properly authorised by the Financial Conduct Authority (‘FCA’) before getting involved by visiting www.fca.org.uk/ firms/systems-reporting/register
Annual General Meeting 23 April 2015 Announcement of first quarter Interim Management Statement 24 April 2015 Announcement of unaudited six months’ Interim Results 20 August 2015 Announcement of third quarter Interim Management Statement 22 October 2015