We have improved profitability of new business, cash flows to Group and our operating capital generation Page 10
Our achievements in 2012: Dear shareholder Management is demonstrating professional execution as well as prudence. I am confident about the future of Aviva.
The appointment of Nick Amin as Group transformation director improves our ability to deliver the turnaround plan. The appointments of David McMillan as CEO of Aviva Europe and Jason Windsor to the Group Executive, strengthen our executive team. The appointment of Khor Hock Seng as CEO of Aviva Asia, reaffirms our commitment to selected markets in that region and gives us strong Asian leadership with deep market experience. Christine Deputy’s appointment as our new Group HR Director gives us the necessary leadership and experience for our cultural change. In addition, given the economic climate and the recent performance of the Group, I have implemented a pay freeze for the top 400 managers and focused our resources towards other levels. I believe very strongly in paying for performance. Our overall spend on bonuses at senior levels will match the business performance and will be based on rigorous differentiation between performance levels. We will focus the money available on our top performers who made the largest contribution.
“The economic capital position has significantly improved but, as a result of the disposals we have made, leverage has increased.
Life insurance IFRS operating profit from our life insurance business fell by 5% to £1,831 million (2011: £1,926 million) primarily as a result of adverse foreign exchange movements. In the UK, operating profit reduced to £887 million (2011: £917 million). On an underlying basis, excluding net one-off items in 2011 and 2012, operating profit improved by 2%. New business profitability increased by 17% to give an overall increase in new business income of 9%. Key drivers of this were increased protection sales and pricing actions together with lower bulk purchase annuity sales reflecting our focus on improving profitability. There was also a reduction in the proportion of lower margin Irish business following the closure of our joint venture with AIB. We continue to expand our protection business with an exclusive five year agreement with Tesco, building on the strong bancassurance franchise already in place in the UK. The improvement in new business income has been offset by lower investment returns due to lower opening funds under management, reduced yields on shareholder assets and higher acquisition expenses due to changes in business mix.
§ We aim to maintain a COR for the Group of 97% or better. § Profitably in our general insurance business improved to 97% (2011: 98%) as we continue to benefit from our focus on underwriting excellence and active management of claims costs and expenses.
§ In 2012, ROE was 10.3% (2011: 12.0%), driven by a reduction in our post-tax operating profit, which was due principally to the sale of RAC in 2011 and adverse foreign exchange movements.
§ Despite the tough external environment and the levels of change within our business, engagement levels remained steady. This highlights our employees’ commitment to Aviva.
Many social and economic factors will provide opportunities for the insurance and asset management industry. Here are some of them: The non-life and protection market continues to grow The market for general insurance, health insurance and protection continues to grow, despite the financial crisis. In an uncertain economic environment, consumers still buy insurance to protect the things that matter to them, such as their health, their homes and their cars.
Our health business performed strongly, with net written premiums up 12% at £528 million (2011: £473 million). We were voted Health Insurance Company of the Year for the third year in succession at the 2012 Health Insurance Awards. Aviva has been campaigning for a long time to bring greater transparency to the annuity market to encourage customers to shop around on the open market to get the best annuity for their retirement. Aviva does not differentiate its pricing between internal and external customers, and we welcome the FSA’s thematic review of annuities. The UK industry is entering an uncertain period as an unprecedented level of regulatory change takes effect, including the Retail Distribution Review, Auto-Enrolment and Gender Directive. We are fully prepared and well-placed to benefit from the changes, with both a broad product range and extensive distribution network. The integration of Aviva’s Irish life business is progressing well, but Ireland remains a difficult market and profitability is not yet at acceptable levels. Ireland operating profit was down 89% at £5 million and sales were down 31% at £632 million due to the closure of our joint venture with AIB from 31 March 2012. Excluding this joint venture, operating profits were up 156% to £23 million and sales rose 9% to £530 million.
General insurance and health underwriting cycle Our general insurance and health business is comprised of our property and casualty insurance and health insurance operations. In 2012, general insurance and health sales accounted for 42% of Group net written premiums (“NWP”) from continuing operations. Demand for general insurance is usually price-sensitive because of the limited degree of product differentiation inherent in the industry. As a result, the price of insuring property and casualty risks is subject to a cycle (called an underwriting cycle). In periods when the price of risk is high, the high profitability of selling insurance attracts new entrants and hence new capital into the market. Increased competition, however, drives prices down. Eventually the business becomes uneconomic and some industry players, suffering from losses, exit the market whilst others fail, resulting in lower capital invested within the market. Decreased competition leads to increasing prices, thereby repeating the cycle. Our various general insurance markets are not always at the same stage of the underwriting cycle. In the UK, the personal motor market has seen rate reductions in 2012 reflecting intense competition and regulatory change. This follows a period of rate increases in previous periods in response to rising claims costs and frequencies. Challenging rating conditions also apply to other UK classes of business. We expect the underwriting cycle to continue in the future but to be less pronounced than in the past because of structural changes to the industry over the past decade. Capital markets are imposing financial discipline by being increasingly more demanding about performance from insurance companies before extending new capital. Such discipline, together with the increased concentration of competitors within the market, recent natural disasters and the adoption of more advanced pricing methods, is expected to make the underwriting cycle less pronounced in the future.
Adjusted operating profit We report to our chief operating decision makers in the businesses the results of our operating segments using a financial performance measure we refer to as ‘adjusted operating profit’. We define our segment adjusted operating profit as profit before income taxes and non-controlling interests in earnings, excluding the following items: investment return variances and economic assumption changes on long-term and non-long-term business, impairment of goodwill, joint ventures and associates, amortisation and impairment of other intangibles (excluding the acquired value of in-force business), profit or loss on the disposal and remeasurement of subsidiaries and associates, integration and restructuring costs and exceptional items. Whilst these excluded items are significant components in understanding and assessing our consolidated financial performance, we believe that the presentation of adjusted operating profit enhances the understanding and comparability of the underlying performance of our segments by highlighting net income attributable to on-going segment operations. Adjusted operating profit for long-term insurance and savings business is based on expected investment returns on financial investments backing shareholder and policyholder funds over the period, with consistent allowance for the corresponding expected movements in liabilities. The expected rate of return is determined using consistent assumptions between operations, having regard to local economic and market forecasts of investment return and asset classification. Where assets are classified as fair value through profit and loss, expected return is based on the same assumptions used under embedded value principles for fixed income securities, equities and properties. Where fixed interest securities are classified as available for sale, such as in the US, the expected return comprises interest or dividend payments and amortisation of the premium or discount at purchase. Adjusted operating profit includes the effect of variances in experience for non-economic items, such as mortality, persistency and expenses, and the effect of changes in non-economic assumptions. Changes due to economic items, such as market value movement and interest rate changes, which give rise to variances between actual and expected investment returns, and the impact of changes in economic assumptions on liabilities, are disclosed as nonoperating items.
Adjusted operating profit before tax after integration and restructuring costs 1,427 1,828 1,608
Year ended 31 December 2012 Total long-term savings sales fell by £1,756 million, 34% to £3,425 million (2011: £5,181 million). In Italy, lower savings and protection sales reflected the challenging conditions and decreased by £1,022 million, or 34%, to £1,971 million (2011: £2,993 million). In Spain, life sales decreased by £631 million, or 33%, to £1,295 million (2011: £1,926 million) reflecting the continued tough economic conditions. Our general insurance and health sales decreased by £60 million, or 12%, to £424 million (2011: £484 million). The decrease was driven by Italy where credit protection sales fell reflecting low levels of loan activity by partner banks and motor sales were also lower. Net written premiums for the segment decreased £1,570 million, or 35%, to £2,942 million (2011: £4,512 million) due to lower sales as described above. Total adjusted operating profit increased £80 million, or 24%, to £414 million (2011: £334 million). General insurance and health adjusted operating profit increased by £55 million to £53 million profits (2011: £2 million loss) driven mainly by the Italian business which saw its combined operating ratio fall below 100%. The profit before tax attributable to shareholders’ profits was £340 million (2011: £48 million loss).
 Corporate partnerships, bancassurance and joint ventures – Aviva is a corporate partner for many organisations, including banks and other financial institutions, who wish to offer their customers insurance products. We have various distribution agreements with bancassurance partners and joint ventures across the markets in which we operate. In return for offering our products to their customers, the bank or joint venture partners receive a commission as a percentage of sales and in some cases achieve extra commission if agreed target levels of sales are met. Certain agreements have a profit sharing element based on a predetermined percentage. In some cases, if the agreed targets are not met, certain terms of the contract can be renegotiated. Under the joint venture agreements, the cost of running the venture are often split between the partners.
In Ireland, the economic environment remains challenging. The life insurance market in Ireland is largely consolidated. We consider our main competitors to be Bank of Ireland Life, Irish Life, Canada Life and Friends First.
Distribution Our products are distributed through bancassurance partnerships with UniCredit Group, Banco Popolare Group and Unione di Banche Italiane (UBI). These partnerships give us access to more than 5,900 branches. In addition, we also have approximately 5,500 sales advisers, and 600 insurance (multi-mandate) agents and brokers as at the end of 2012.
Spain Business overview and strategy Aviva Spain is the country’s fifth largest long-term insurer by gross written premiums with a market share of 5% in the third quarter of 2012.15 Aviva Spain sells protection, long-term savings and pensions, health and accident insurance through a bancassurance network based on joint ventures with six banks. We also sell through Aviva Vida y Pensiones, the wholly-owned Aviva branded long-term insurance company and through our exclusive distribution agreement with Spanish mutual insurance company Pelayo. Our strategy in Spain is to maintain our bancassurance footprint and further develop our retail operations and attract new partners when the opportunities arise. In December 2012, we announced our intention to sell our share of our joint venture with Aseval to Bankia S.A for £494 million. We expect this transaction to be completed during the second quarter of 2013.
Products We offer a wide range of bonds, savings, and protection products. Investment products include both unit linked and traditional plans, where profit sharing is regularly used to increase the policy return. Our traditional plans include savings schemes and income products. Pension savings products have valuable tax advantages. We offer a flexible range of individual and group pension plans with alternative investment choices. We also offer protection products, covering both mortgages and credit loans typically providing cover for the family in the event of death or disability. The ongoing focus is on less capital intensive products.
Subsidiaries The principal subsidiaries of the Company are listed below by country of incorporation. All are wholly-owned, directly or indirectly, and transact insurance or reinsurance business, fund management activities or services in connection therewith, unless otherwise stated.
26 MCEV: market consistent embedded value: In preparing the MCEV information, the directors have done so in accordance with the MCEV principles with the exception of stating held for sale operations at their expected fair value, as represented by expected sale proceeds, less cost to sell.
4 The WPSF fund includes the Provident Mutual (PM) fund, which has realistic assets and liabilities of £1.7 billion and therefore does not impact the realistic inherited estate.
The amount of operating capital remitted to Group is dependent upon a number of factors including non-operating items and local regulatory requirements.
 acting responsibly in our communities, considering the impact of what we do
Our customers At Aviva we recognise that we carry a huge responsibility. We’re the people our customers turn to for the big things in life; planning retirement, securing investments, an accident, an illness, even a death in the family. They’re often unsure of what to do, confused, stressed, even frightened about what the future might hold. At Aviva we pride ourselves on doing all that we can to help, both in the services we offer, and in the way in which we offer them. We need to give them every bit of support and reassurance that we can. We can act quickly and decisively when the situation demands it or we can allow our customers time and space if that’s what they prefer. Either way, we respond with sensitivity and empathy, and we know that just a friendly word can mean a lot. They may seem like little things, but we believe they’re little things that can make a big difference.
Focusing on transition points for our leaders Critical to the high performance culture we seek, is the capability of our leaders who need to be decisive, agile, inclusive, and innovative. In 2012, we refreshed our leadership development strategy in partnership with Oxford Saïd Business School. In building leadership capability, Aviva’s main focus is on development at key transition points in the leader’s career. We believe that successful leadership transitions, measured through shorter time to performance and value-added effort, are increased when leaders are supported in their transition through appropriate learning and development opportunities. Together with the global Front Line Manager Programme and our senior management group induction, we are helping our leaders to continually grow and stay relevant in our changing world, reaching high performance in as short a time as possible.
Employee wellbeing Providing a safe and healthy environment for employees, contractors, customers and visitors remains a priority across Aviva. Whilst we have well established policies and systems in place to ensure health, safety and minimise risks, we aim to create a supportive working environment that encourages our employees to perform at their best whilst finding the right balance between work and home life. To help our employees manage their health and wellbeing we have developed various flexible working practices and wellbeing initiatives. This continues to build our organisational health which is critical to our businesses performance. Some of the options available include, part-time working, home working, flexible hours, career breaks, employee assistance programmes, fitness centres, discounted health club memberships and subsidised travel and ‘bike checks’ for commuters. We continuously review our approach to health, safety and wellbeing and during 2013 we will be developing a more integrated wellbeing approach to provide excellent services to our employees, strengthen our focus on mental health in the workplace and improve our organisational health insight.
% of employees who feel that Aviva is doing a good job of retaining the most talented people
Number of employee hours spent volunteering 79,900 57,250 60,390 56,357 Increase the % of employee participation in volunteering
Absolute CO2e data – CO2e data includes emissions from our buildings, business travel, outsourced data centres, water and waste to landfill.
Targets  annual 4% reduction in total waste;  annual recycling rate greater than 80%; and  long-term target – zero to landfill for UK operations by 2015 and worldwide by 2020.
We have been ranked for the second year running as 3rd in the FTSE 100 by Carbon Clear.
Aviva’s responsibilities The Directors of Aviva are responsible for:  designing, implementing and maintaining internal controls over information relevant to the preparation of the Selected Information that is free from material misstatement, whether due to fraud or error;  establishing objective Reporting Criteria for preparing the Selected Information;  measuring Aviva’s performance based on the Reporting Criteria; and
Major shareholdings The table below shows the holdings of major shareholders in the Company’s issued ordinary share capital in accordance with the Disclosure and Transparency Rules as at 31 December 2012 and 5 March 2013.
Political donations At the 2012 AGM, shareholders passed a resolution, on a precautionary basis, to authorise the Company to make political donations and/or incur political expenditure (as such terms are defined in sections 362 to 379 of the Companies Act 2006), in each case in amounts not exceeding £100,000 in aggregate. As the authority granted will expire on 9 May 2013, renewal of this authority will be sought at this year’s AGM. Further details are available in the Notice of AGM. The definitions of political donations and political expenditure used in the Companies Act 2006 are broad in nature and this authority is sought to ensure that any activities undertaken throughout the Group, which could otherwise be construed to fall within these provisions, can be undertaken without inadvertently infringing them. It is not the policy of the Company to make donations to EU political organisations or to incur other political expenditure. During the year, the Aviva USA Political Action Committee, which is funded solely by voluntary contributions from employees of Aviva USA Corporation (a subsidiary of the Company), made contributions to six candidate campaigns and industry political action committees. The total sum of the donations made was $32,500 and the donations were used to support candidates for nomination and/or election to public office.
Group, build financial strength and improve financial performance;  Approved the Group transformation project to implement the revised strategic plan;  Appointed PwC as the Company’s auditor following a tender process;  Approved the sale of Aviva USA Corporation;  Approved a further sale of Aviva’s stake in Delta Lloyd N.V.;  Approved the issue of Tier 1 hybrid debt;  Approved the project to merge the Group’s Irish General
Governance structure The Board is responsible for promoting the long term success of the Company for the benefit of shareholders. This includes ensuring that an appropriate system of governance is in place throughout the Group. To discharge this responsibility, the Board has established frameworks for risk management and internal control using a ‘three lines of defence’ model and reserves to itself the setting of the Group’s risk appetite. In-depth monitoring of the establishment and operation of prudent and effective controls in order to assess and manage risks associated with the Group’s operations is delegated to the Audit Committee and the Risk Committee which report regularly to the Board. However, the Board retains ultimate responsibility for the Company’s systems of internal control and risk management and their effectiveness. These frameworks play a key role in the management of risks that may impact the fulfilment of the Board’s objectives. They are designed to identify and manage, rather than eliminate, the risk of failure to achieve business objectives and can only provide reasonable and not absolute assurance against material misstatement or losses. These frameworks are regularly reviewed and comply with the Turnbull Guidance (Internal Control: Revised Guidance for Directors).
Any material risks not previously identified, control weaknesses or non-compliance with the Group’s risk policies and business standards or local delegations of authority, must be highlighted as part of this process. This is then supplemented by investigations carried out at Group level and ultimately a Group CEO and group chief risk and capital officer certification for Aviva plc. In respect of 2012 and in view of the recent start of the Group CEO, the certification was made by the chief financial officer instead of the Group CEO. The effectiveness assessment also draws on the regular cycle of assurance activity carried out during the year. The Audit Committee, working closely with the Risk Committee, on behalf of the Board, last reviewed the effectiveness of the systems of internal control and risk management in March 2013, covering all material controls, including financial, operational and compliance controls and the risk management framework and processes. The necessary actions have been or are being taken to remedy any significant failings and weaknesses identified from these reviews. The Board confirms that there is an ongoing process for identifying, measuring, managing, monitoring and reporting the significant risks faced by the Group, which has been in place for the year under review and up to the date of approval of the Annual Report and Accounts.
Nomination Committee Report This Nomination Committee Report was reviewed and approved by the Board on 6 March 2013.
The Committee met on thirteen occasions in 2012, of which two meetings were called at short notice. Two of the meetings were held jointly with the Risk Committee to focus on the business of Aviva France and the Group’s capital and liquidity position, and five of the meetings were held in relation to the Group’s financial results only. Training and information sessions were held during the year on the Group tax and treasury functions and the integrated assurance framework. The group company secretary acts as the secretary to the Committee.
 Work with the Remuneration Committee, to ensure that risk is considered in setting the overall remuneration policy for the Group.
External environment The external environment was once again one of much international economic uncertainty. Doubts about the strength and economic recovery rates in the OECD, political uncertainty in the world’s two largest economies with leadership changes in China and presidential elections in the United States, and the increased regulatory and capital burden on the financial services industry, dampened the risk appetite of investors. This resulted in the continued reduction in OECD interest rates, further quantitative easing from the US, Japanese, UK and European Governments, high levels of OECD unemployment, and times of excessive volatility in credit spreads. Towards the end of the year, the emergence of early growth in the US, greater clarity surrounding the political changes in the US and China, and a continuation of low interest rates saw a rally in the equity markets and a tightening of credit spreads and lower volatility. The question one asks, is whether these perceived improvements in the world’s economic environment are sustainable or short lived?
Personnel and remuneration policy During the year, the Committee approved the appointment of the group chief risk and capital officer. In early 2013 it approved his objectives for the coming year and reviewed his performance against 2012 objectives. The Committee also assessed senior management’s performance against the agreed common risk objective and considered the appropriateness of the risk metrics when setting senior management remuneration policy.
Appointment of Group chief executive officer The Board was delighted to announce, on 20 November 2012, the appointment of Mark Wilson as Group CEO. He joined the Board on 1 December 2012 and took up the role of Group CEO from 1 January 2013. Details of his remuneration arrangements were announced at the time of his appointment.
Revised Committee terms of reference were adopted in January 2013 following an annual refresh. The responsibilities of the Committee were clarified to include:  Having regard to remuneration trends across the Group when setting remuneration policy for directors;  Ensuring that remuneration arrangements for all employees are commensurate with promoting ethical behaviour;  Ensuring the effectiveness of the process for assessing the senior management group for talent and succession planning purposes, ensuring appropriate reward for performance and a consistent approach to the development of talent throughout the Group;  Extending the list of employees whose remuneration is reviewed by the Committee to include a wider senior management group, those in controlled functions and identified staff;  Approving any exceptional remuneration activity that is outside the agreed reward policy;  Annually approving the list of FSA Code Staff and any severance packages for Code Staff; and  Approving the Group remuneration business standard.
Total remuneration earned in respect of 2012 The Committee recognises the need for transparency on the link between remuneration decisions and performance. We have therefore set out below detail of pay earned by the current EDs in respect of performance to December 2012 and how payments under both the ABP and LTIP have been determined.
Table 8: EDs’ base salaries 1 April 2012 salary 1 April 2013 salary Change from 2012
For the 2010, 2011 and 2012 LTIP grants, relative TSR is assessed against the following companies: Aegon, Ageas (formerly known as Fortis until January 2011), Allianz, AXA, Generali, ING, Legal & General, Lloyds Banking Group, Prudential, Resolution Limited, Royal Bank of Scotland, Royal & Sun Alliance, Standard Life and Zurich.
Employee contribution during the year — — — — Defined contribution/defined benefit employer contributions during the year2 96.3 — 32.9 50.0
Developments in 2013 On 7 February 2013, Aviva announced that Trevor Matthews, executive director and chairman, Developed Markets, will step down from the Board prior to the 2013 AGM. Mr Matthews’ departure terms are not yet agreed, and will be reported in the 2013 Directors’ Remuneration Report. On 14 January 2013, Aviva announced that Sir Adrian Montague had joined the Board as a non-executive director with effect from the same date. On 28 January 2013, Aviva announced that Bob Stein had joined the Board as a non-executive director with effect from the same date. On 6 March 2013, Aviva announced that Richard Karl Goeltz, senior independent director, and Russell Walls, non-executive director, will step down from the Board prior to the 2013 AGM.
17 Igal Mayer’s ABP awards vested on 1 June 2012, the first business day after his leaving the Company on 31 May 2012. Mr Mayer’s 2010, 2011 and 2012 LTIP awards and 2010 OATTV award lapsed on his leaving the Company on 31 May 2012.
There were no changes to the current directors’ interests in Aviva shares during the period 1 January 2013 to 5 March 2013.
Share capital The Company has four classes of shares:  Ordinary Shares of £0.25 each which constitute equity security and hold voting rights;  Cumulative Irredeemable Preference Shares of £1 each, which entitle holders to attend and vote at general meetings only when dividends on such shares are in arrears. Cumulative irredeemable preference shareholders may also attend general meetings and vote on particular proposals when such proposals relate to an alteration of the rights attaching to such shares, a reduction of capital (other than through a redemption or repurchase of shares) or a winding up of business. On a winding up, they carry a preferential right of return of capital ahead of the ordinary shares;  Sterling New Preference Shares of £1 each, which have such rights and terms (including terms related to the redemption of shares, ranking and entitlement to dividend and capital) as the Board determines; and
Shares issued under the Group’s Employee and Executive Share Option Schemes1 3,335,566 Shares issued in lieu of dividends2 36,923,757 1 For more information on our various option schemes, see note 30 in the financial statements. 2 The issue of shares in lieu of cash dividends is considered a bonus issue under the terms of the Companies Act 2006 and the nominal value of the shares is charged to the share premium account.
Otherwise our ability to make capital injections into our businesses is not materially limited by applicable legal and regulatory restrictions. Total capital injections into the business units were £169 million and £296 million in 2012 and 2011 respectively.
Year ended 31 December 2011 Net cash from operating activities Total net cash from operating activities decreased by £2,149 million to £342 million outflow in 2011 (2010: £1,807 million inflow). The decrease is primarily due to higher claims in the long-term business.
The EU IGD regulatory capital solvency surplus has increased by £1.6 billion since 31 December 2011 to £3.8 billion. The key movements over the period are set out in the following table: £bn
 Further provisions aimed at ensuring co-operation between competent regulatory authorities of member states.
Shareholder information continued liquidation, the FSCS may take measures to secure the transfer of all or part of the business to another insurance company. FSMA provides further protection to policyholders of insurance companies effecting or carrying out contracts of longterm insurance. Unless the court orders otherwise, a liquidator and/or administrator must carry on the insurer’s business so far as it consists of carrying out the insurer’s contracts of long-term insurance with a view to it being transferred as a going concern to a person who may lawfully carry out those contracts. In carrying on the business, the liquidator/administrator may agree to the variation of any contracts of insurance in existence when the winding-up order is made, but must not effect any new contracts of insurance.
We have a significant exposure to annuity business and a significant life insurance risk is associated with longevity. Longevity statistics are monitored in detail and compared with emerging industry trends. The results are used to inform both the reserving and pricing of annuities within the Group. It is likely that uncertainty will remain in the development of future longevity that cannot be mitigated. A strengthening in the longevity assumption, either to reflect changes in the underlying life expectancy of the population or of our particular portfolio used to calculate our long-term business liabilities, would result in an increase in these reserves and reduce our shareholders’ equity. See ‘Financial statements IFRS – Note 56 – Risk management’.
Respective responsibilities of directors and auditors As explained more fully in the Directors’ responsibility statement set out on page 88, the directors are responsible for the preparation of the financial statements and for being satisfied that they give a true and fair view. Our responsibility is to audit and express an opinion on the financial statements in accordance with applicable law and International Standards on Auditing (UK and Ireland). Those standards require us to comply with the Auditing Practices Board’s Ethical Standards for Auditors. This report, including the opinions, has been prepared for and only for the Company’s members as a body in accordance with Chapter 3 of Part 16 of the Companies Act 2006 and for no other purpose. We do not, in giving these opinions, accept or assume responsibility for any other purpose or to any other person to whom this report is shown or into whose hands it may come save where expressly agreed by our prior consent in writing.
Scope of the audit of the financial statements An audit involves obtaining evidence about the amounts and disclosures in the financial statements sufficient to give reasonable assurance that the financial statements are free from material misstatement, whether caused by fraud or error. This includes an assessment of: whether the accounting policies are appropriate to the Group’s and the Parent Company’s circumstances and have been consistently applied and adequately disclosed; the reasonableness of significant accounting estimates made by the directors; and the overall presentation of the financial statements. In addition, we read all the financial and non-financial information in the Aviva plc Annual report and accounts to identify material inconsistencies with the audited financial statements. If we become aware of any apparent material misstatements or inconsistencies we consider the implications for our report.
Based on our assessment to date, the Group does not expect the overall impact of the adoption of IFRS 10 on the Group’s equity and profit before tax for the year to be material. The implementation of IFRS 10 is expected to mainly result in the Group consolidating some investment vehicles that were previously not consolidated.
Intangible assets Intangibles consist primarily of contractual relationships such as access to distribution networks and customer lists. The economic lives of these are determined by considering relevant factors such as usage of the asset, typical product life cycles, potential obsolescence, maintenance costs, the stability of the industry, competitive position and the period of control over the assets. These intangibles are amortised over their useful lives, which range from five to 30 years, using the straight-line method. The amortisation charge for the year is included in the income statement under ‘Other operating expenses’. For intangibles with finite lives, impairment charges will be recognised in the income statement where evidence of such impairment is observed. Intangibles with indefinite lives are subject to regular impairment testing, as described below.
Expenses 6 Claims and benefits paid, net of recoveries from reinsurers (23,601) (2,721) (24,380) (4,029) Change in insurance liabilities, net of reinsurance (430) (1,566) (2,284) (2,523) Change in investment contract provisions (4,450) (77) 1,478 (180) Change in unallocated divisible surplus (6,316) — 2,721 (19) Fee and commission expense (4,472) (498) (4,326) (420)
Profit/(loss) before tax attributable to shareholders’ profits 25 (2,696) (2,671) 551 (464) 87
Changes in non- controlling interests in existing subsidiaries — — — — — — — — — — — — — (6) (6)
Shares issued in lieu of dividends 21 — (21) — — — — — — — 307 307 — — 307
Ordinary share capital 29 736 726 Preference Share Capital 32 200 200
Equity attributable to shareholders of Aviva plc 8,404 12,843 Direct capital instruments and fixed rate tier 1 notes 33 1,382 990 Non-controlling interests 37 1,574 1,530
Total net increase/(decrease) in cash and cash equivalents 1,160 (2,037) Cash and cash equivalents at 1 January 22,401 24,695 Effect of exchange rate changes on cash and cash equivalents (313) (257)
No tax arises on the profits and losses on these disposals.
Cash consideration, net of transaction costs 313 Fair value of financial investment holding at 5 July 2012 315
Capital expenditure (excluding business combinations) 63 42 176 29 21 15 7 24 — 377
Liabilities of operations classified as held for sale — — — — — 363 — — — 363
Claims and benefits paid to policyholders on general insurance and health business 6,050 6,264
Interest expense on operational borrowings Amounts owed to financial institutions 111 125 Securitised mortgage loan notes at fair value 90 88
(b) The longer-term investment return and short-term fluctuation for continuing operations are as follows: Non-long-term business – Continuing operations 2012 £m £m
The principal assumptions underlying the calculation of the longer-term investment return are: Longer-term rates of return Equities Longer-term rates of return Properties
The Group has applied the same economic assumptions for equities and properties as are used under MCEV principles to calculate the longer-term investment return for its non-long-term business in 2011 and 2012.
(g) The economic assumption changes mainly arise from movements in the rate used to discount latent claims. As explained in accounting policy K, provisions for latent claims are discounted, using rates based on the relevant swap curve, in the relevant currency at the reporting date, having regard to the duration of the expected settlement of the claims. The discount rate is set at the start of the accounting period, with any change in rates between the start and end of the accounting period being reflected below operating profit as an economic assumption change. The range of discount rates used is disclosed in note 39.
Total fees payable to E&Y LLP and its associates for services to Group companies 28.5
Deferred tax Origination and reversal of temporary differences (52) (599) Changes in tax rates or tax laws (12) (28) Write-down of deferred tax assets 43 58
(c) Tax credited to equity Tax credited directly to equity in the year amounted to £18 million (2011: £16 million), and is wholly in respect of coupon payments on the direct capital instruments and fixed rate tier 1 notes.
Different basis of tax – policyholders per tax reconciliation 170 (129)
Notes to the consolidated financial statements continued 16 – Goodwill This note analyses the changes to the carrying amount of goodwill during the year, and details the results of our impairment testing on both goodwill and intangible assets with indefinite lives.
(ii) The balances at 31 December comprised: Goodwill and intangibles £m
AvivaSA Emeklilik ve Hayat A.S. MCEV MCEV 9.2 4.0 18.0 12.8 Woori Aviva Life insurance Co. Ltd MCEV MCEV 4.0 4.0 13.1 13.6 1 Projection of future new business not required as MCEV exceeds carrying value.
The joint ventures have no significant contingent liabilities to which the Group is exposed. The Group has capital commitments to property management joint ventures of £157 million (2011: £258 million).
(iii) Additions Additions in 2012 relate to Aviva Life Insurance Company India Limited.
(a) Basis for determining fair value hierarchy of financial instruments For financial assets and liabilities carried at fair value, we have categorised the measurement basis into a ‘fair value hierarchy’ as follows: Quoted market prices in active markets – (‘Level 1’) Inputs to Level 1 fair values are quoted prices (unadjusted) in active markets for identical assets and liabilities. An active market is one in which transactions for the asset or liability occur with sufficient frequency and volume to provide pricing information on an ongoing basis. Examples are listed equities in active markets, listed debt securities in active markets and quoted unit trusts in active markets.
(b) Fair value hierarchy analysis An analysis of financial assets and liabilities according to fair value hierarchy is given below: Fair value hierarchy £m £m £m
Deposits with credit institutions — 739 — 739 — 427 — 427 Minority holdings in property management undertakings — 584 — 584 — 617 — 617
All unrealised gains and losses and impairments on financial investments classified as fair value through profit or loss have been recognised in the income statement. Gains and losses on financial investments from continuing operations classified as at fair value through profit or loss recognised in the income statement in the year were a net gain of £12,365 million (2011: £5,487 million net loss). Of this, £30 million net loss (2011: £69 million net gain) related to financial investments designated as trading and £12,395 million net gain (2011: £5,556 million net loss) related to investments designated as other than trading. The movement in the unrealised gain/loss position reported in the statement of financial position during the year, shown in the table above, includes foreign exchange movements on the translation of unrealised gains and losses on financial investments held by foreign subsidiaries, which are recognised in other comprehensive income, as well as transfers due to the realisation of gains and losses on disposal and the recognition of impairment losses. Total impairments of financial investments classified as AFS in the income statement in the year were £14 million (2011: £21 million). The total accumulated impairment provision for financial investments classified as available-for-sale included in the table above within unrealised losses and impairments was £97 million (2011: £138 million). Movements in this AFS provision are shown in section (c) below.
Deconsolidation of Delta Lloyd — — — — (116) (79) — (195)
30 – Group’s share plans This note describes the Group’s various equity compensation plans, and shows how the Group values the options and awards of shares in the Company.
Notes to the consolidated financial statements continued 30 – Group’s share plans continued (vii) CFO recruitment share awards plan awards The following awards were granted to Patrick Regan under the CFO Recruitment Share Awards Plan following his recruitment in 2010: the Replacement Restricted Share Award (RRSA), the Bonus Replacement Deferred Share Award (BRDSA) and the One Aviva Twice the Value (OATTV) Award. The RRSA was awarded to compensate Mr Regan for the loss of share awards granted by his previous employer and the BRDSA was awarded to compensate Mr Regan for the loss of bonus from his previous employer. The awards are described in section (b) below and in the Directors’ Remuneration Report. No further awards will be made under this plan.
The shares are owned by employee share trusts with an undertaking to satisfy awards of shares in the Company under the Company’s share plans and schemes. Details of the features of the plans can be found in the Directors’ Remuneration Report and in note 30. These shares were purchased in the market and are carried at cost. At 31 December 2012, they had an aggregate nominal value of £2,513,379 (2011: £3,321,119) and a market value of £37,499,611 (2011: £39,959,704). The trustees have waived their rights to dividends on the shares held in the trusts.
Notes to the consolidated financial statements continued 33 – Direct capital instruments and fixed rate tier 1 notes
In relation to the FxdRNs, deferred coupons may be satisfied at any time, at the sole option of the Company. The Company is required to satisfy deferred coupons on the FxdRNs only in the following circumstances:  Redemption; or  Substitution by preference shares.
Less: Amounts classified as held for sale (34,446) (1) (34,447) (344) — (344)
– ‘Non-profit’ funds of Aviva Annuity UK and UKLAP, where shareholders are entitled to 100% of the distributed profits. Shareholder profits on unitised with-profit business written by WPSF and on stakeholder unitised with-profit business are derived from management fees and policy charges, and emerge in the non-profit funds.
Equity returns 26.3% 26.4% Property returns 15.0% 15.0% Fixed interest yields 17.1% 18.0%
(iii) Assumptions Outstanding claims provisions are estimated based on known facts at the date of estimation. Case estimates are set by skilled claims technicians and established case setting procedures. Claim technicians apply their experience and knowledge to the circumstances of individual claims. They take into account all available information and correspondence regarding the circumstances of the claim, such as medical reports, investigations and inspections. Claims technicians set case estimates according to documented claims department policies and specialise in setting estimates for certain lines of business or types of claim. Claims above certain limits are referred to senior claims handlers for authorisation. No adjustments are made to the claims technicians’ case estimates included in booked claim provisions, except for rare occasions when the estimated ultimate cost of individual large or unusual claims may be adjusted, subject to internal reserve committee approval, to allow for uncertainty regarding, for example, the outcome of a court case. The ultimate cost of outstanding claims is then estimated by using a range of standard actuarial claims projection techniques, such as the Chain Ladder and Bornhuetter-Ferguson methods. The main assumption underlying these techniques is that a company’s past claims development experience can be used to project future claims development and hence ultimate claims costs. As such, these methods extrapolate the development of paid and incurred losses, average costs per claim and claim numbers based on the observed development of earlier years and expected loss ratios. Historical claims development is mainly analysed by accident period, although underwriting or notification period is also used where this is considered appropriate. Claim development is separately analysed for each geographic area, as well as by each line of business. Certain lines of business are also further analysed by claim type or type of coverage. In addition, large claims are usually separately addressed, either by being reserved at the face value of loss adjuster estimates or separately projected in order to reflect their future development.
Carrying amount at 1 January 4,483 4,855 Premiums written during the year 9,535 10,364 Less: Premiums earned during the year (9,514) (10,099)
Participating contracts 66,849 67,707 Non-participating contracts at fair value 46,299 43,990 Non-participating contracts at amortised cost 1,400 1,669
Carrying amount at 1 January 245 307 Premiums ceded to reinsurers in the year 641 650 Less: Reinsurers’ share of premiums earned during the year (636) (678) Change in reinsurance asset recognised as income 5 (28) Reinsurers’ share of portfolio transfers and acquisitions 3 — Deconsolidation of Delta Lloyd — (30) Foreign exchange rate movements (5) (4) Other movements — —
Subordinated debt 6.125% £700 million subordinated notes 2036 — 691 — 691 — 690 — 690
(iii) Commercial paper The commercial paper consists of £603 million issued by the Company (2011: £506 million) and is considered core structural funding. All commercial paper is repayable within one year and is issued in a number of different currencies, primarily sterling, euros and US dollars. Its fair value is considered to be the same as its carrying value.
(g) Other In the course of conducting insurance and investment business, various Group companies receive liability claims, and become involved in actual or threatened related litigation. In the opinion of the directors, adequate provisions have been established for such claims and no material loss will arise in this respect. At 31 December 2012, the Company and several of its subsidiaries have guaranteed the overdrafts and borrowings of certain other Group companies. At 31 December 2012, the Group and Company had no exposure (2011: £nil and £334 million respectively). In addition, in line with standard business practice, various Group companies have given guarantees, indemnities and warranties in connection with disposals in recent years of subsidiaries and associates to parties outside the Aviva Group. In the opinion of the directors, no material loss will arise in respect of these guarantees, indemnities and warranties. There are a number of charges registered over the assets of Group companies in favour of other Group companies or third parties. In addition, certain of the Company’s assets are charged in favour of certain or its subsidiaries as security for intra Group loans. The Group’s insurance subsidiaries pay contributions to levy schemes in several countries in which we operate. Given the economic environment, there is a heightened risk that the levy contributions will need to be increased to protect policyholders if an insurance company falls into financial difficulties. The directors continue to monitor the situation but are not aware of any need to increase provisions at the statement of financial position date.
general insurance operations, giving rise to notional lending between the general insurance and holding company activities. These mechanisms also allow for some of the assets of the general insurance business to be made available for use across the Group.
Changes in working capital (Increase)/decrease in reinsurance assets (416) (611) Decrease in deferred acquisition costs 216 45 Increase in insurance liabilities and investment contracts 4,325 550 Increase in other assets and liabilities 1,742 1,123
Cash proceeds from disposal of subsidiaries, joint ventures and associates 442 988 Less: Net cash and cash equivalents divested with subsidiaries (21) (111)
Amounts classified as held for sale — — — — — — (4,054) (4,054) — (4,054) —
Notes to the consolidated financial statements continued 56 – Risk management continued (ii) Financial exposures to peripheral European countries Included in our debt securities and other financial assets, are exposures to peripheral European countries. Gross of non-controlling interests, our direct shareholder assets exposure to the governments (and local authorities and agencies) of Greece, Ireland, Portugal, Italy and Spain has reduced since 2011 and is detailed in 25 (e). We continue to monitor closely the situation in the eurozone and have had additional restrictions on further investment in place since late 2009 as well as taking actions to reduce exposure to higher risk assets.
Notes to the consolidated financial statements continued 56 – Risk management continued (x) Impairment of financial assets In assessing whether financial assets are impaired, due consideration is given to the factors outlined in accounting policy (S). The following table provides information regarding the carrying value of financial assets that have been impaired and the ageing of financial assets that are past due but not impaired. The table excludes assets ‘held for sale’.
(c) Market risk Market risk is the risk of adverse financial impact resulting, directly or indirectly from fluctuations in interest rates, foreign currency exchange rates, equity and property prices. Market risk arises in business units due to fluctuations in both the value of liabilities and the value of investments held. At Group level, it also arises in relation to the overall portfolio of international businesses and in the value of investment assets owned directly by the shareholders. We actively seek some market risks as part of our investment and product strategy however have limited appetite for interest rate risk as we do not believe it is adequately rewarded. The management of market risk is undertaken at business unit and at Group level. Businesses manage market risks locally using the Group market risk framework and within local regulatory constraints. Group Risk is responsible for monitoring and managing market risk at Group level and has an established criteria for matching assets and liabilities to limit the impact of mismatches due to market movements. In addition, where the Group’s long-term savings businesses have written insurance and investment products where the majority of investment risks are borne by its policyholders, these risks are managed in line with local regulations and marketing literature, in order to satisfy the policyholders’ risk and reward objectives. The Group writes unit-linked business in a number of its operations. The shareholders’ exposure to market risk on this business is limited to the extent that income arising from asset management charges is based on the value of assets in the fund. The most material types of market risk that the Group is exposed to are described below.
in sterling/ euro rate £m in sterling/ euro rate £m 10% increase in sterling/ US$ rate £m in sterling/ US$ rate £m
Total excluding Delta Lloyd and United States (150) 35 (460) 115 (235) (140) (55) (520)
Net of reinsurance excluding Delta Lloyd (275) 275 (125) 50 (55) (30) (290)
For general insurance, the impact of the expense sensitivity on profit also includes the increase in ongoing administration expenses, in addition to the increase in the claims handling expense provision.
Transactions with joint ventures in the UK relate to the property management undertakings, the most material of which are listed in note 18(b). Our interest in these joint ventures comprises a mix of equity and loans, together with the provision of administration services and financial management to many of them. Our UK life insurance companies earn interest on loans advanced to these entities, movements in which may be found in note 18(a). Our fund management companies also charge fees to these joint ventures for administration services and for arranging external finance. Our UK fund management companies manage most of the assets held by the Group’s main UK staff pension scheme, for which they charge fees based on the level of funds under management. The main UK scheme holds investments in Group-managed funds and insurance policies with other Group companies, as explained in note 47(e)(iii). The related parties’ receivables are not secured and no guarantees were received in respect thereof. The receivables will be settled in accordance with normal credit terms. Details of guarantees, indemnities and warranties provided on behalf of related parties are given in note 51(g).
Shares issued in lieu of dividends 29 & 36 9 — (9) — — — 127 127 — 127 Employee trust shares distributed
Assets Non-current assets Investments in subsidiaries B 31,023 28,889 31,284 Investment in joint venture 18c 141 150 115 Loans owed by subsidiaries H 1,054 2,375 2,411 Deferred tax assets C 180 — — Current tax assets C 50 261 388
B – Investments in subsidiaries (i) Movements in the Company’s investments in its subsidiaries are as follows: £m
General terms Available for sale (AFS) Securities that have been acquired neither for short-term sale nor to be held to maturity. These are shown at fair value on the statement of financial position and changes in value are taken straight to equity instead of the income statement.
Funds under management by Aviva Represents all assets actively managed or administered by the fund management operations of the Group.