AEGON has highlighted operating earnings as a key item in the segment presentation of its financial results in order to enable analysts, investors and other stakeholders to assess the underlying business performance. The term operating earnings is explained in further detail elsewhere in this report (please refer to page 89). Embedded value and value of new business are also highlighted as key items in business performance. AEGON will report its embedded value and value of new business results for 2005 in conformity with the European Embedded Value standards on May 10, 2006. Moreover, AEGON will report value of new business numbers on a quarterly basis as of the first quarter of 2006.
SPAIN NUMBER OF EMPLOYEES 228, (excl. employees in joint ventures and/or partnerships)
In the Netherlands, recent efforts to streamline operations and improve service to customers have yielded positive results. AEGON The Netherlands, with its expertise in the group life sector, was successful in capturing several large group pension
The June 2005 Board meeting was devoted to AEGON’s corporate strategy and the risks of the business activities, to the assessment by the Executive Board of the structure and operation of the internal risk management and control systems, and to the Group Management Overview and management development. This meeting was preceded and prepared by the Strategy Committee. It was hosted by AEGON USA and took place in Cedar Rapids, Iowa, USA. The occasion provided a good opportunity for AEGON USA’s management and Board of Directors to exchange a broad range of information about AEGON in general and AEGON USA in particular. The Supervisory Board will pursue further opportunities to engage with AEGON’s international senior management.
Following the advice of the Nominating Committee, the Supervisory Board has decided to nominate Mr. Clifford M. Sobel for appointment by shareholders during the AGM in 2006. Details of Mr. Sobel will be provided together with the agenda for the AGM on April 25, 2006.
AEGON actively manages its asset and liability mismatch in a disciplined way and as such current interest rates are not cause for concern.
The information set forth below closely follows the structure of the Dutch Corporate Governance Code. Where appropriate, the headings of the Code’s chapters and paragraphs have been included for easy reference.
The current composition of the Supervisory Board is in compliance with the best practice provisions of the Dutch Corporate Governance Code that relate to the independence of supervisory directors. The sole member that does not qualify as ‘independent’ within the meaning of these provisions is Mr. Storm who served as chairman of the Executive Board immediately prior to his appointment as a member of the Supervisory Board in 2002.
The Supervisory Board’s yearly report, which is included in this annual report, provides information on the activities of each its Committees. This report also lists the members of each Committee.
• II.3.3: this best practice provision provides that a member of the Executive Board may not take part in discussions and decision making that involves a subject or transaction in relation to which he or she has a conflict of interest. Given the position of AEGON’s CEO and CFO on the Executive Committee of AEGON’s largest shareholder, Vereniging AEGON, this could technically give rise to a deemed conflict of interest. The Supervisory Board has determined that, also given the historic relationship with Vereniging AEGON, it is not in the best interests of AEGON that the CEO and CFO would be precluded from participating in discussions and decision-making relating to Vereniging AEGON. For this reason a protocol was drafted authorizing the CEO and CFO to continue the existing practice in dealing with Vereniging AEGON.
AEGON’s first CR report was published for 2003. The report was a comprehensive and accurate reflection of AEGON’s CR progress and the Group’s core strategy of decentralization. AEGON also published an updated report for 2004. Both reports can be found on the company’s website www.aegon.com. AEGON plans to produce a 2005 CR report in mid-2006, which will also be posted on the Group website.
The Supervisory Board has determined that as of January 1, 2005, employment contracts for new members of the Executive Board will contain a notice period of three months for the Executive Board member, six months for the company, and termination arrangements will be in line with the Dutch Corporate Governance Code.
The Compensation Committee will monitor that the peer group composition and the performance incentive zone continue to provide an appropriate reference.
The compensation of the members of the Supervisory Board is reviewed every three years. In line with this guideline, an analysis was performed by outside experts in order to benchmark the remuneration. On the basis of this study, the AGM in April 2005, approved the introduction of a three-components structure: (1) a base fee (for membership of the Supervisory Board); (2) an additional fee (for membership of a Committee); and (3) an attendance fee for ‘face-to-face’ Committee meetings (i.e. where physical attendance has taken place). This structure has been applied starting January 1, 2005, as follows: 1. BASE FEE PER ANNUM FOR MEMBERSHIP OF THE SUPERVISORY BOARD
Chairman 7,000 Member 5,000 3. ATTENDANCE FEE FOR MEETINGS OF THE COMMITTEES
Net income, which includes net realized gains and losses on investments and impairment charges, increased 21% to USD 2,014 million compared to USD 1,670 million in 2004. In 2005, net realized gains on investments and impairment recoveries were USD 352 million (net of USD 92 million DPAC adjustment) compared to USD 82 million (net of USD 112 million DPAC adjustment) in 2004.
AEGON does not hedge the income streams from the main non-euro units and, as a result, earnings may fluctuate due to currency translation. As AEGON has significant business segments in the Americas and in the United Kingdom, the principal sources of exposure from currency fluctuations are from the differences between the US dollar and the euro and between the UK pound and the euro. AEGON may experience significant changes in net income and shareholders’ equity because of these fluctuations.
Country units apply specific guidelines for the acceptable levels of credit risk. AEGON monitors its aggregate exposure to credit counterparties at group level. For this purpose, AEGON aggregates exposures from its country units to assess overall credit risk. To manage its credit risk, AEGON has a single credit counterparty limit policy to be applied to all forms of credit risk. All forms of credit risk are aggregated by counterparty and measured for compliance against country unit credit limits and group wide credit limits. The group wide limits are shown in table 7.
If an exposure exceeds the stated limit as a result of a downgrade, the exposure must be readjusted to the limit for that rating category as soon as practicable. The limits vary with the asset quality of the security as can be seen in table 7. Exceptions to these limits can only be made after explicit approval from AEGON’s Group Risk and Capital Committee.
Total equity, real estate and other 1 Of AEGON The Netherlands’ common shares, EUR 338 million are invested in a property company and are therefore internally viewed as real estate exposure. For the purpose of the sensitivities, this exposure is included in the real estate section.
Liquidity risk is inherent in much of AEGON’s business. Each asset purchased and liability sold has liquidity characteristics that are unique. Some liabilities are surrenderable while some assets, such as privately placed loans, mortgage loans, real estate and limited partnership interests, have low liquidity. If AEGON requires significant amounts of cash on short notice in excess of normal cash requirements and existing credit facilities, AEGON may have difficulty selling these investments at attractive prices, in a timely manner, or both.
AEGON faces significant risks of litigation and regulatory investigations and actions in connection with activities as an insurer, securities issuer, employer, investment advisor, investor and taxpayer. In recent years, the insurance industry has increasingly been subject of litigation, investigation and regulatory activity by various governmental and enforcement authorities concerning industry practices such as the disclosure of contingent commissions and the accounting treatment of finite reinsurance or other non-traditional insurance products. AEGON cannot predict at this time the effect this current trend towards litigation and investigation will have on the insurance industry or the business. Lawsuits, including class actions and regulatory actions, may be difficult to assess or quantify, may seek recovery of very large and/or indeterminate amounts, including punitive and treble damages, and their existence and magnitude may remain unknown for substantial periods of time. A substantial legal liability or a significant regulatory action could have a material adverse effect on AEGON’s business, results of operations and financial condition.
AEGON applies leverage tolerances to its capital base. The capital base reflects the capital employed in core activities and consists of shareholders’ equity, capital securities, and dated subordinated and senior debt. AEGON targets its capital base to comprise at least 70% shareholders’ equity, at least 5% capital securities, and a maximum of 25% dated subordinated and senior debt. At December 31, 2005, AEGON’s capital base was within these prescribed tolerances: shareholders’ equity capital represented 76% of its total capital base, while perpetual capital securities comprised 13% of its total capital base. Senior and dated subordinated debt accounted for the remaining 11%.
AEGON’s primary insurance subsidiaries in the United States, all of which are wholly owned, are: • Life Investors Insurance Company of America • Monumental Life Insurance Company • Peoples Benefit Life Insurance Company • Stonebridge Casualty Insurance Company • Stonebridge Life Insurance Company • Transamerica Financial Life Insurance Company, Inc. • Transamerica Life Insurance & Annuity Company • Transamerica Life Insurance Company • Transamerica Occidental Life Insurance Company • Veterans Life Insurance Company • Western Reserve Life Assurance Co. of Ohio The operations in the United States (carried out by the collective group of operating companies in the United States) primarily sell life insurance products. AEGON’s operations in the United States also sell accident and health insurance, but have made the strategic decision to move away from primary health coverage a number of years ago to concentrate health operations in the supplemental coverage sector. Traditional life is AEGON USA’s largest segment in business.
IMD has been able to enhance its leadership position through product customization, strong service capabilities, and profitable underwriting. IMD’s skills in product development, distribution, investment, and risk management have resulted in a diversified customer and market base and multi-channel distribution. Building on these skills, IMD is also responsible for a Structured Products group that is generally involved in various
Additionally, clients looking for ways to stay competitive in the individual life insurance market can work jointly with Transamerica Reinsurance experts to develop, underwrite, and administer these products. Transamerica Reinsurance offers a continuum of back office services for life insurance: product development to private label creation.
UK bonds. The bond market in the United Kingdom is one of considerable size and is still seen by most financial advisors and product providers as a core part of their business. Onshore bonds offer a tax-efficient method of investing for a wide range of investors.
AEGON Hungary charges asset management fees, policy fees, and risk charges to the fund. The unit-linked products cover all types of life insurance including, pensions, endowment and savings.
Traditional life • • • • • • • • • • Fixed annuities • • Institutional guaranteed products* • ACCOUNT OF POLICYHOLDERS
2,106 1,925 Income from reinsurance ceded 1,691 1,548 869 256 Fair value and foreign exchange gains 34 698 206 14,125 7,304 Gains on investments for account of policyholders 35 11,340 5,873
a. Subsidiaries The consolidated financial statements include the financial statements of AEGON N.V. and its subsidiaries. Subsidiaries are entities over which AEGON has direct or indirect power to govern the financial and operating policies so as to obtain benefits from its activities (‘control’). The assessment of control is based on the substance of the relationship between the Group and the entity and, among other things, considers existing and potential voting rights that are currently exercisable and convertible.
Investment funds Investment funds managed by the Group in which the Group holds an interest are consolidated in the financial statements if the Group can govern the financial and operating policies of the fund. In assessing control all interests held by the Group in the fund are considered, regardless of whether the financial risk related to the investment is borne by the Group or by the policyholders.
Security lending and repurchase agreements Financial assets that are lent to a third party or that are transferred subject to a repurchase agreement at a fixed price are not derecognized as the Group retains substantially all the risks and rewards of the asset. A liability is recognized for cash collateral received, on which interest is accrued.
Collateral With the exception of cash collateral, assets received as collateral are not separately recognized as an asset until the financial asset they secure is foreclosed. When cash collateral is recognized, a liability is recorded for the same amount.
Reinsurance assets are measured consistently with the amounts associated with the reinsured contracts and in accordance with the terms of each reinsurance contract. They are subject to impairment testing and are derecognized when the contractual rights are extinguished or expire or when the contract is transferred to another party.
The liability for the insurance contracts for account of policyholders is measured at the policyholder account balance. Contracts with unit-denominated payments are measured at current unit values, which reflect the fair values of the assets of the fund. If applicable, the liability representing the nominal value of the policyholder unit account is smoothed so that interest on actuarial funding is at an expected rate of return.
Debt instruments are impaired when it is considered probable that not all amounts due will be collected as scheduled. Factors considered include industry risk factors, financial condition, liquidity position and near-term prospects of the issuer, nationally recognized credit rating declines and a breach of contract.
In addition to life reinsurance, fixed and variable annuity reinsurance programs are offered. AEGON USA assumes a certain guaranteed minimum withdrawal benefit rider from a client company. This guaranteed minimum withdrawal benefit rider provides an option for the insured to withdraw up to 7% of the premium deposit each year until their full premium is withdrawn. This permits the insured to recover their full premium despite any potential reductions in their account balance due to market fluctuations. Transamerica Reinsurance participates only in the guaranteed minimum withdrawal benefit portion of the underlying variable annuity contract and funds policyholder withdrawals, if any, at the point their account balance is exhausted.
As mentioned before, the ‘free assets’ (i.e. assets which, as yet, have not been distributed to policyholders) help meet the cost of
UNITED STATES In the United States, a guaranteed minimum withdrawal benefit is either offered on some variable annuity products AEGON issued or assumed from a ceding company. This benefit guarantees a policyholder can withdraw a certain percentage of the account value, starting at a certain age or duration, for either a fixed period or the life of the policyholder.
or non-registered variable annuity, a collective investment trust (off balance sheet) or mutual funds (off balance sheet). Clients also have the flexibility to supplement institutionally managed funds with funds from retail fund families.
In the United States, synthetic GICs are sold primarily to tax-qualified institutional entities such as 401(k) plans and other retirement plans, as well as college savings plans. AEGON provides a synthetic GIC ‘wrapper’ around fixed-income invested assets, which are owned by the plan and managed by the plan or a third party money manager. A synthetic GIC is typically issued with an evergreen maturity and is cancelable by the plan sponsor under certain conditions. It helps to reduce fluctuations in the value of the wrapped assets for plan participants and provides book value benefit-responsiveness in the event that qualified plan benefit requests exceed plan cash flows. In certain contracts, AEGON agrees to make advances to meet benefit payment needs and earns a market interest rate on these advances. The periodically adjusted contract crediting rate is the means by which investment and benefit responsive experience is passed through to participants.
THE NETHERLANDS AEGON The Netherlands offers financial advice, provides asset management and administrative services and is involved in intercession activities in real estate. The financial advice activities include selling insurance, pensions, mortgages, financing, savings and investment products. The intercession activities in real estate comprise brokerage activities of residential as well as commercial real estate and real estate management business.
• Trust pass-through securities — — — — — — 378 7.69%
ABSs — Credit cards 2,995 — — — 2,995 2,181 1Includes investments of Holding and other activities.
The United Other Total Total Americas Netherlands Kingdom countries 2005 2004 d. Equity market and other investment risks Fluctuations in the equity, real estate and capital markets have adversely affected AEGON’s profitability, capital position and sales of equity related products in the past and may continue to do so. Exposure to equity, real estate and capital markets exists in both assets and liabilities. Asset exposure exists through direct equity investment, where AEGON bears all or most of the volatility in returns and investment performance risk. Significant terrorist actions, as well as general economic conditions, have led to and may again result in significant decreases in the value of AEGON’s equity investments.
The general account equity, real estate and other non-fixed-income portfolio of AEGON USA and AEGON The Netherlands accounted for 98% of the total general account equity, real estate and other non-fixed-income portfolio of the Group. Of AEGON’s country units, AEGON The Netherlands holds the largest amount of equities, both in absolute terms and expressed as a percentage of total general account investments. The largest part of the equity portfolio of AEGON The Netherlands consists of a diversified portfolio of global equities and 5% equity holdings in Dutch companies, which include non-redeemable preferred shares.
UNREALIZED GAINS AND LOSSES — 2004 cost gains losses value gains losses
Money market and other short-term investments 2,297 1,331 Deposits with financial institutions 1,288 1,942 Separate accounts and unconsolidated investment funds 48,775 41,104
AEGON uses derivative financial instruments to hedge its exposures related to investments, liabilities and borrowings, to optimize credit risk exposure and as part of its ordinary underwriting activities.
Credit derivatives are used to add credit risk by selling credit protection in the form of single name credit default swaps and AAA rated tranches of synthetic collateralized debt obligations. Another strategy used is to synthetically replicate corporate credit exposures with credit derivatives. This involves the purchase of high quality low risk assets and the sale of credit derivatives. The program is designed to purchase credits that are already subject to review by management, but may not be available under the same terms and conditions in the cash bond market.
United The 2005 United The 2004 States1 Canada1 Netherlands2 Total States1 Canada1 Netherlands2 Total 1Guaranteed minimum accumulation and withdrawal benefits 2Fund plan and unit-linked guarantees
<1 yr 1<5 yrs 5<10 yrs >10 yrs Amount Yield Amount Yield Amount Yield Amount Yield
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS OF AEGON GROUP Amounts in EUR millions, unless otherwise stated 23 BORROWINGS
MOVEMENTS DURING THE YEAR IN DEFINED BENEFIT PLANS Other post- Other post-
THE AMOUNTS RECOGNIZED IN THE BALANCE SHEET ARE DETERMINED AS FOLLOWS
The target asset allocation is moving over time from 75% equities and 25% bonds to a target of 65% equities and 35% bonds.
Refer to note 40.1 for a description of share appreciation rights and related expenses.
Positive fair value changes of general account financial assets and liabilities at fair value through profit or loss, other than derivatives 472 172 Positive fair value changes of derivatives 53 25 Positive foreign currency results 173 9
Other personnel costs 171 198 Share appreciation rights and share options 43 14
Diluted earnings per share is calculated by adjusting the average number of shares outstanding for the dilutive effect of share options. For the purpose of calculating diluted earnings per share, AEGON assumed that all dilutive share options have been exercised at the exercise price, or adjusted exercise price if necessary. The proceeds are regarded as having been received from the issue of ordinary shares at the average market price of the AEGON N.V. share during the year. The difference between the number of dilutive options issued and the number of ordinary shares that would have been issued at the average market price has been treated as an issue of ordinary shares for no consideration.
Financial assets pledged for liabilities 3,395 3,404 Other financial assets pledged as collateral 103 106
Other countries CAM AEGON Holding Financiero, Alicante (Spain) (49.99%) La Mondiale Participations S.A., Lille (France) (35%)
SHARE OPTIONS AND SHARE APPRECIATION RIGHTS AND INTERESTS IN AEGON N. V. HELD BY
Under IFRS, all derivatives have been valued at fair value. Under DAP, accounting for derivatives follows the accounting for the related investment or debt instrument.
The effective tax rate is affected by the reduction of deferred tax related to the liability for accrued policyholder surplus taxes that can be released as a result of a change in tax legislation.
NOTES TO THE FINANCIAL STATEMENTS OF AEGON N.V. Amounts in EUR millions, unless otherwise stated
The weighted average number of EUR 0.12 common shares for 2005 was 1,548,346,1 10 (2004: 1,503,127,441). The shares repurchased by AEGON, although included in the issued and outstanding number of shares, are excluded from the calculation of the weighted average number of shares. The number has been adjusted for share dividend.
Conversion from DAP to IFRS: Reclassification treasury shares — (1,001) 1,001 — — — —
The adjustment in the shareholders’ equity column of the reconciliation represents the goodwill capitalized under US GAAP before January 1, 2004. The 2004 net income column includes EUR 148 million, representing the write off of goodwill related to the sale of TFC businesses. Under US GAAP goodwill was capitalized for these businesses; under IFRS the goodwill was charged to shareholders’ equity in the year of acquisition (pre January 1, 2004).
Under IFRS a charge to shareholders' equity is recorded in connection with shadow loss recognition to the extent that a loss recognition charge to the income statements would have been recognized when unrealized results would have been realized. The reinvestment return assumption in the IFRS shadow loss recognition calculation is based on current market swap rates. Under US GAAP shadow loss recognition is calculated using reinvestment return assumptions based on management’s best estimate.
March 9 AEGON reported on full year 2005 results April 25 Annual General Meeting of Shareholders April 26 Ex-dividend date in the United States April 28 Final dividend 2005 record date May 2 Ex-dividend date in the Netherlands Up to and incl. May 5 Election period for cash or stock dividend May 10 AEGON will report on first three months 2006 results May 10 AEGON will release Embedded Value 2005 report May 16 Final dividend 2005 payment date May 22/23 Analyst & Investor Day (London) August 10 AEGON will report on first six months 2006 results, interim dividend announcement. August 1 1 Interim dividend 2006 record date in the Netherlands August 14 Ex-dividend date August 16 Interim dividend 2006 record date in the United States September Interim dividend 2006 payment (date has not been determined yet) November 9 AEGON will report on first nine months 2006 results November 28/29 Analyst & Investor Day (New York)
• That are contractually based on: — The performance of a specified pool of contracts or a specified type of contract; — Realized and/or unrealized investment returns on a specified pool of assets held by the issuer; or — The profit or loss of the company, fund or other entity that issues the contract.
Recognition is the process of incorporating in the balance sheet or income statement an item that meets the definition of an element and satisfies the following criteria for recognition: • It is probable that any future economic benefit associated with the item will flow to or from the entity; and