TIDMLGEN
RNS Number : 3773O
Legal & General Group Plc
06 August 2014
Capital and Investments 75
4.01 Group regulatory capital
(a) Insurance Group's Directive (IGD)
The Group is required to measure and monitor its capital resources on
a regulatory basis and to comply with the minimum capital requirements
of regulators in each territory in which it operates. At a Group level,
Legal & General must comply with the requirements of the IGD. The table
below shows the estimated total Group capital resources, Group capital
resources requirement and the Group surplus.
At At At
30.06.14 30.06.13 31.12.13
GBPbn GBPbn GBPbn
Core tier 1 6.7 6.6 6.3
Innovative tier 1 0.6 0.6 0.6
Tier 2(1) 1.8 1.2 1.2
Deductions (0.9) (1.0) (0.8)
Group capital resources 8.2 7.4 7.3
Group capital resources requirement(2) 3.5 3.3 3.3
IGD surplus 4.7 4.1 4.0
Coverage ratio (Group capital resources
/ 2.36 2.26 2.21
Group capital resources requirement)(3) times times times
1. The Group has issued GBP0.6bn subordinated notes constituting Lower
Tier 2 Capital in H1 14.
2. The Group capital resources requirement includes a With-profits Insurance
Capital Component (WPICC) of GBP0.3bn (H1 13: GBP0.3bn; FY 13: GBP0.2bn).
3. Coverage ratio is calculated on unrounded values.
A reconciliation of the Group capital resources on an IGD basis to the
capital and reserves attributable to the equity holders of the Company
on an IFRS basis is given below.
At At At
30.06.14 30.06.13 31.12.13
GBPbn GBPbn GBPbn
Capital and reserves attributable
to equity holders on an IFRS basis 5.7 5.5 5.6
Innovative tier 1 0.6 0.6 0.6
Tier 2 1.8 1.2 1.2
UK unallocated divisible surplus 1.0 1.0 1.1
Proposed dividends (0.2) (0.1) (0.4)
Intangibles (0.4) (0.4) (0.4)
Other regulatory adjustments(1) (0.3) (0.4) (0.4)
Group capital resources 8.2 7.4 7.3
1. Other regulatory adjustments include differences between accounting
and regulatory bases.
The table below demonstrates how the Group's net cash generation
flows to the IGD capital surplus position.(1)
At
30.06.14
GBPbn
IGD surplus at 1 January 4.0
Net cash generation 0.6
New subordinated debt issued 0.6
Dividends (0.2)
New business capital required (0.3)
Existing business capital release 0.1
Capital impact of acquisitions 0.1
Other variances and regulatory adjustments (0.2)
IGD surplus at 30 June 4.7
1. All IGD amounts are estimated, unaudited and after accrual of the
interim dividend of GBP172m.
Capital and Investments 76
4.01 Group regulatory capital (continued)
(b) Legal & General Assurance Society Limited capital surplus
Legal & General Assurance Society Limited is the principal insurance
regulated entity in the Group. The society is required to measure and
monitor its capital resources on a regulatory basis.
At At At At At At
30.06.14 30.06.14 30.06.13 30.06.13 31.12.13 31.12.13
Long General Long General Long General
term insu- term insu- term insu-
business rance business rance business rance
GBPbn GBPbn GBPbn GBPbn GBPbn GBPbn
Available capital resources - Tier
1 6.1 0.2 6.1 0.2 5.8 0.1
Insurance capital requirement 2.8 0.1 2.5 0.1 2.6 0.1
Capital requirements of regulated
related undertakings 0.2 - 0.2 - 0.3 -
With-profits Insurance Capital Component 0.3 - 0.3 - 0.2 -
Capital resources requirement 3.3 0.1 3.0 0.1 3.1 0.1
Regulatory capital surplus 2.8 0.1 3.1 0.1 2.7 -
The table below shows the breakdown of Legal & General Assurance Society
Limited's long term insurance capital requirement.
At At At
30.06.14 30.06.13 31.12.13
Pillar 1 capital requirement GBPbn GBPbn GBPbn
Protection 0.8 0.7 0.7
LGR 1.4 1.2 1.2
Non profit pensions and unit linked
bonds 0.1 0.1 0.1
Non profit 2.3 2.0 2.0
With-profits 0.5 0.5 0.6
Long term insurance capital requirement 2.8 2.5 2.6
On a regulatory basis (Peak 1), Society long term business regulatory
capital surplus of GBP2.8bn (H1 13: GBP3.1bn; FY 13: GBP2.7bn) comprises
capital
resources within the long term fund of GBP3.0bn (H1 13: GBP2.9bn; FY
13: GBP3.0bn) and capital resources outside the long term fund of GBP3.1bn
(H1 13: GBP3.2bn; FY 13: GBP2.8bn) less the capital resources requirement
of GBP3.3bn (H1 13: GBP3.0bn; FY 13: GBP3.1bn).
The With-profits Insurance Capital Component (WPICC) is an additional
capital requirement calculated if the surplus in the with-profits fund
on a Peak 2 basis is lower than on a Peak 1 basis and represents the
difference in the surplus between the two bases. It is calculated based
on the most onerous risk capital margin stress referred to in 4.01(c).
(c) With-profits realistic balance
sheet
The table below summarises the realistic position of the with-profits
part of Legal & General Assurance Society Limited's long term fund.
At At At
30.06.14 30.06.13 31.12.13
GBPbn GBPbn GBPbn
With-profits surplus 0.7 0.7 0.8
Risk capital margin (0.1) (0.1) (0.1)
Surplus 0.6 0.6 0.7
Legal & General Assurance Society Limited is required to maintain a
surplus in the with-profits part of the fund on a realistic basis (Peak
2). The risk capital margin is calculated based on the most onerous
capital requirement calculated after performing five stresses specified
by the PRA. The surplus includes the present value of future shareholder
transfers of GBP0.3bn (H1 13: GBP0.3bn; FY 13: GBP0.3bn) as a liability
in the calculation.
Capital and Investments 77
4.02 Group Economic Capital
Economic capital is the amount of capital that the Board
believes the Group needs to hold, over and above its liabilities,
in order to meet the Group's strategic objectives. This is not the
same as regulatory capital which reflects regulatory rules and
constraints. The Group's objectives include being able to meet its
liabilities as they fall due whilst maintaining the confidence of
its investors, rating agencies, customers and intermediaries that
this will be the case.
Over the past few years Legal & General has invested
considerable time and resource in developing a risk based capital
model that is used to calculate the Group's economic capital
balance sheet and support the management of risk within the Group.
The Group continues to develop the economic capital model in light
of developments in the Group's business model, refinements in
modelling and the analysis of experience, emerging market practice
and feedback from independent reviewers. The Group's economic
capital position will reflect these changes as they are
implemented.It is intended that this modelling framework, suitably
adjusted, should also meet the needs of the Solvency II regime, due
to come in to force on 1 January 2016. Our Economic Capital model
has not been reviewed by the Prudential Regulatory Authority
("PRA"), nor will it be.
The economic capital numbers presented here do not represent our
view of the Solvency II outcome for the Group. Solvency II has
elements which are considered to be inconsistent with the Group's
definition of economic capital, so there will be differences
between the two balance sheets.
The Group has been discussing progress on Solvency II with the
PRA and in 2015 it will make a formal application for approval of
an internal model. As yet the Group's Solvency II internal model
has not been reviewed or approved by the PRA.
(a) Capital position
As at 31 December 2013 the Group had an economic capital surplus of
GBP6.9bn, corresponding to an economic capital coverage ratio of 251%.
The economic capital position is as follows:
At
31.12.13
GBPbn
Eligible own funds 11.4
Economic capital requirement 4.5
Surplus/ (deficit) 6.9
1-in-200 coverage ratio (%)(1) 251
1. Coverage ratio is calculated on
unrounded values.
The figures that appear in this note are all pre-accrual for any dividend.
Further explanation of the underlying methodology and assumptions are
set out in the sections below.
(b) Methodology
Eligible own funds are defined to be the excess of the value of
assets over the liabilities. Subordinated debt issued by the Group
is considered to be part of available capital, rather than a
liability, as it is subordinate to policyholder claims.
Assets are valued at IFRS fair value with certain elements
adjusted to move to an economic capital basis. Liabilities are
valued on a best estimate market consistent basis, with the
application of an economic matching adjustment for valuing annuity
liabilities.
The economic capital requirement is the amount of capital
required to cover the 1-in-200 worst projected future outcome in
the year following the valuation, allowing for realistic management
and policyholder actions and the impact of the stress on the tax
position of the Group. This allows for diversification between the
different subsidiaries within the Group and between the risks that
they are exposed to.
The liabilities include a recapitalisation cost to allow for the
cost of recapitalising the balance sheet following the 1-in-200
stress in order to maintain confidence that the Group's future
liabilities will be met. This is calculated using a cost of capital
that reflects the long term average rates at which it is expected
that the Group could raise capital and allows for diversification
between all Group entities.
All material insurance subsidiaries, including Legal &
General Assurance Society Limited, Legal & General Pensions
Management Limited and LGA operating subsidiaries are incorporated
into the Group's economic capital model assessment of required
capital, assuming diversification of the risks between those
subsidiaries.
Insurance subsidiaries for which the capital requirements are
less material, for example LGF, LGN and Suffolk Life, are valued on
the Group's latest interpretation of the Solvency II Standard
Formula basis. The business ceded to Legal & General Pensions
Limited, an internal Insurance Special Purpose Vehicle, has been
valued on a "look through" basis and capital requirements
calculated as if the business was not internally reassured.
Non-insurance subsidiaries are included using their current
regulatory surplus, without allowing for any diversification with
the rest of the Group.
The allowance for the Group's defined benefit pension scheme in
the base balance sheet is made on the scheme's funding basis, and
the allowance within the capital requirement is made by stressing
the funding position using the same economic capital basis as for
the insurance subsidiaries.
The results and the model are unaudited but certain elements of
the methodology, assumptions and processes have been reviewed for
the Group by PricewaterhouseCoopers LLP. As stated previously this
model has not been reviewed by the PRA.
Capital and Investments 78
4.02 Group Economic Capital (continued)
(c) Assumptions
The calculation of the economic balance sheet and associated
capital requirement requires a significant number of assumptions,
including:
(i) assumptions required to derive the present value of best
estimate liability cash flows. Non market assumptions are broadly
the same as those used to derive the Group's EEV disclosures.
Future investment returns and discount rates are based on market
data where a deep and liquid market exists or using appropriate
estimation techniques where this is not the case. The risk-free
rates used to discount liabilities are market swap rates, with a 10
basis point deduction to allow for a 'credit risk adjustment';
(ii) assumptions regarding management actions and policyholder
behaviour across the full range of scenarios. The only management
actions allowed for are those that have been approved by the Board
and are in place at the Balance Sheet date;
(iii) assumptions regarding the volatility of the risks to which
the Group is exposed to are used to calculate the economic capital
requirement. Assumptions have been set using a combination of
historic market, demographic and operating experience data. In
areas where data is not considered robust, judgement has been used;
and
(iv) assumptions on the dependencies between risks, which are
calibrated using a combination of historic data and expert
judgement.
As stated above, for annuities the liability discount rate
includes an economic matching adjustment. This uses the same
approach as the Solvency II matching adjustment but any constraints
the Group considers economically artificial, such as capping the
yield on assets with a credit rating below BBB and any
ineligibility of certain assets, have not been applied.
The other key assumption relating to the annuity business is the
modelling of stresses to longevity. As for IFRS and EEV, the Group
models base mortality and future improvements separately. For the
Group's economic capital assessment, the Group believes it is
appropriate to ensure that the balance sheet makes sufficient
allowance to meet the 1-in-200 stress to longevity over the run off
of the liabilities rather than just over a 1 year timeframe as
required by Solvency II.
(d) Sensitivity analysis
The following sensitivities are provided to give an indication of how
the Group's economic capital surplus as at 31 December 2013 would have
changed in a variety of adverse events. These are all independent stresses
to a single risk. In practice the balance sheet is impacted by combinations
of stresses and the combined impact can be larger than adding together
the impacts of the same stresses in isolation. It is expected that,
particularly for market risks, adverse stresses will happen together.
Impact
on
Impact economic
on
net of capital
capital coverage
surplus ratio
31.12.13 31.12.13
GBPbn %
Credit spread widens by 100bps with no change in long term
default expectations (0.3) (8)
A 3 notch downgrade, e.g. AA- to A-, of 20% of the corporate
bond portfolio backing annuity business, (0.5) (11)
with no change to the assumed spread sensitivity or long
term default expectations
20% fall in equity
market (0.3) (3)
40% fall in equity
markets (0.6) (6)
15% fall in property
markets (0.2) (4)
100bps increase in risk free
rates (0.3) 1
100bps fall in risk
free rates 0.1 -
1% reduction in annuitant
base mortality (0.1) (3)
Capital and Investments 79
4.02 Group Economic Capital (continued)
(e) Reconciliation of IFRS Shareholders' Equity to Economic Capital
Eligible Own Funds
The table below gives a reconciliation of the Eligible own funds on
an EC basis and the Group's IFRS shareholders' equity.
At
31.12.13
GBPbn
IFRS shareholders' equity at 31 December
2013 5.6
Remove DAC, goodwill and other intangible
assets and liabilities (1.7)
Add subordinated debt treated as
economic available capital 1.9
Insurance contract valuation differences 6.2
Add value of shareholder transfers 0.3
Increase in value of net deferred tax liabilities (resulting
from valuation differences) (0.7)
Other 0.4
Adjustment - Basic own funds to Eligible
own funds (0.6)
Eligible own funds at 31 December 2013 11.4
The figures that appear in this note are all pre-accrual for any dividend.
(f) Analysis of Group Economic Capital Requirement
The table below shows a breakdown of the Group's Economic Capital Requirement
by risk type. The split is shown after the effects of diversification.
At
31.12.13
%
Interest Rate 5
Equity 16
Credit 44
Property 8
Currency (3)
Inflation (1)
Total Market Risk 69
Counterparty Risk 1
Life Mortality & Life Catastrophe 5
Life Longevity 12
Life Lapse 7
Non-life underwriting 2
Health underwriting -
Total Insurance Risk 26
Operational Risk 4
Total Economic Capital Requirement 100
- Credit risk is the Group's most significant exposure, predominantly
arising from corporate bond exposure backing the Group's annuity portfolio.
- The Group also has significant exposure to other market risks, predominantly
due to the investment holdings within the shareholder funds but also
the risk to fee income from assets backing unit linked and with-profit
Savings businesses.
- Longevity risk is the Group's most significant insurance risk exposure,
again arising from the annuity book on which the majority of the longevity
risk is retained.
- Lapse risk arises through the risk of mass lapse on investment management
and savings businesses and the risk of non-renewal on the Group's protection
businesses.
Capital and Investments 80
4.02 Group Economic Capital (continued)
(g) Solvency II
As indicated above, the economic capital results set out above
do not reflect the Solvency II regime. They have been derived using
the same modelling framework that the Group intends to use for
Solvency II. The Solvency II internal model has not, as yet, been
reviewed or approved by the PRA. The Group intends to submit its
internal model to the PRA in 2015 to gain approval to use the model
from Solvency II go live on 1 January 2016. The Group expects the
final outcome on Solvency II to result in a lower Group solvency
ratio than the economic capital coverage ratio shown above.
(h) Half-Year 2014 surplus
The economic capital surplus as at 30 June 2014 has increased
from 31 December 2013 to a surplus of GBP7.6bn (FY 13: GBP6.9bn)
and coverage ratio of 261% (FY 13: 251%), with the increase in
surplus supported by the raising of GBP0.6bn of subordinated debt
in June 2014.
Capital and Investments 81
4.03 Investment portfolio
Market Market Market
value value(1) value(1)
At At At
30.06.14 30.06.13 31.12.13
GBPm GBPm GBPm
Worldwide assets under management 467,176 440,152 452,260
Client and policyholder
assets (401,874) (380,388) (391,151)
Non-unit linked with-profits
assets(2) (17,061) (17,906) (17,391)
Investments to which shareholders are directly
exposed 48,241 41,858 43,718
1. Comparatives have been restated following the adoption of IFRS 10.
2. Includes assets backing participating business in LGF of GBP2,378m
(H1 13: GBP2,434m; FY 13: GBP2,347m).
Analysed by investment class:
Other
non profit Other
LGR insurance LGC shareholder
investments(1) investments investments investments Total Total Total
At At At At At At At
30.06.14 30.06.14 30.06.14 30.06.14 30.06.14 30.06.13 31.12.13
Note GBPm GBPm GBPm GBPm GBPm GBPm GBPm
Equities(2) 84 - 1,592 9 1,685 1,507 1,760
Bonds 4.05 34,062 2,401 1,538 1,241 39,242 34,647 35,697
Derivative assets(3) 2,184 28 125 - 2,337 2,314 2,307
Property 1,692 - 324 4 2,020 1,065 1,447
Cash (including cash
equivalents), loans
& receivables 582 252 1,602 366 2,802 2,184 2,331
Financial investments 38,604 2,681 5,181 1,620 48,086 41,717 43,542
Other assets(4) 155 - - - 155 141 176
Total investments 38,759 2,681 5,181 1,620 48,241 41,858 43,718
1. LGR Investments includes all business written in LGPL
and excludes with-profits non-participating business.
2. Includes equity investment in
CALA Group Limited.
3. Derivative assets are shown gross of derivative liabilities. Exposures
arise from the use of derivatives for efficient portfolio management,
especially the use of interest rate swaps, inflation swaps, credit default
swaps and foreign exchange forward contracts for asset and liability
management.
4. Other assets include finance lease debtors and properties under construction.
Capital and Investments 82
4.04 Direct Investments(1)
(a) Analysed by asset
class
Direct(1) Traded(2) Direct(1) Traded(2)
Investments securities Total Investments securities Total
At At At At At At
30.06.14 30.06.14 30.06.14 31.12.13 31.12.13 31.12.13
GBPm GBPm GBPm GBPm GBPm GBPm
Equities 298 1,387 1,685 202 1,558 1,760
Bonds 2,036 37,206 39,242 1,048 34,649 35,697
Derivative assets - 2,337 2,337 - 2,307 2,307
Property 2,020 - 2,020 1,447 - 1,447
Cash (including cash
equivalents), loans & receivables 75 2,727 2,802 6 2,325 2,331
Other assets 155 - 155 176 - 176
4,584 43,657 48,241 2,879 40,839 43,718
1. Direct Investments constitute an agreement with another party and
represent an exposure to untraded and often less liquid asset classes.
Direct Investments include physical assets, bilateral loans and private
equity but exclude hedge funds.
2. Traded securities are defined by exclusion. If an instrument is not
a Direct Investment, then it is classed as a traded security.
(b) Analysed by segment
LGR LGC LGA LGAS Total
At At At At At
30.06.14 30.06.14 30.06.14 30.06.14 30.06.14
GBPm GBPm GBPm GBPm GBPm
Equities - 298 - - 298
Bonds 1,885 - 151 - 2,036
Property 1,692 324 - 4 2,020
Cash (including
cash
equivalents), loans
& receivables - - 75 - 75
Other assets 155 - - - 155
3,732 622 226 4 4,584
LGR LGC LGA LGAS Total
At At At At At
31.12.13 31.12.13 31.12.13 31.12.13 31.12.13
GBPm GBPm GBPm GBPm GBPm
Equities - 202 - - 202
Bonds 997 - 51 - 1,048
Property 1,294 149 - 4 1,447
Cash (including
cash
equivalents), loans
& receivables - - 6 - 6
Other assets 176 - - - 176
2,467 351 57 4 2,879
Capital and Investments 83
4.05 Bond portfolio summary
(a) Analysed by sector
LGR LGR Total Total
At At At At
30.06.14 30.06.14 30.06.14 30.06.14
Note GBPm % GBPm %
Sovereigns, Supras and
Sub-Sovereigns 4.05(b) 6,578 19 8,257 21
Banks:
- Tier 1 60 - 66 -
- Tier 2 and other subordinated 590 2 649 2
- Senior 1,359 4 1,901 5
Financial Services:
- Tier 1 4 - 6 -
- Tier 2 and other subordinated 136 - 174 1
- Senior 882 3 1,153 3
Insurance:
- Tier 1 146 - 156 -
- Tier 2 and other subordinated 544 2 581 2
- Senior 493 2 565 2
Utilities 4,456 13 4,764 12
Consumer Services and
Goods & Health Care 3,246 10 3,795 10
Technology and Telecoms 2,099 6 2,382 6
Industrials & Oil and
Gas 3,333 10 3,879 10
Property 998 3 1,073 3
Asset backed securities:(1)
- Traditional 703 2 1,222 3
- Securitisations and
debentures 7,337 21 7,521 18
CDOs(2) 1,098 3 1,098 2
Total 34,062 100 39,242 100
1. Traditional asset backed securities are securities, often with variable
expected redemption profiles issued by Special Purpose Vehicles and
typically backed by pools of receivables from loans or personal credit.
Securitisations are securities with fixed redemption profiles that are
issued by Special Purpose Vehicles and secured on revenues from specific
assets or operating companies and Debentures are securities with fixed
redemption profiles issued by firms typically secured on property.
2. The underlying reference portfolio has had no reference entity defaults
during the period ended 30 June 2014. The CDOs are termed as super senior
since default losses on the reference portfolio have to exceed 27.5%,
on average across the reference portfolio, before the CDOs incur any
default losses. Assuming an average recovery rate of 30%, then over
39% of the reference names would have to default before the CDOs incur
any default losses. The CDOs are valued using an external valuation
which is based on observable market inputs. This is then validated against
the market valuation.
Capital and Investments 84
4.05 Bond portfolio summary (continued)
(a) Analysed by sector
(continued)
LGR LGR Total Total
At At At At
30.06.13 30.06.13 30.06.13 30.06.13
Note GBPm % GBPm %
Sovereigns, Supras and
Sub-Sovereigns 4.05(b) 4,292 15 6,573 19
Banks:
- Tier 1 180 1 189 1
- Tier 2 and other subordinated 482 2 549 2
- Senior 1,508 5 2,304 7
Financial Services:
- Tier 1 1 - 2 -
- Tier 2 and other subordinated 40 - 69 -
- Senior 925 3 1,137 3
Insurance:
- Tier 1 128 - 132 1
- Tier 2 and other subordinated 319 1 345 1
- Senior 726 3 804 2
Utilities 3,902 14 4,155 12
Consumer Services and
Goods & Health Care 3,177 11 3,674 10
Technology and Telecoms 1,961 7 2,301 6
Industrials & Oil and
Gas 3,160 11 3,659 11
Property 636 2 703 2
Asset backed securities:(1)
- Traditional 754 3 1,451 4
- Securitisations and
debentures 5,325 18 5,481 16
CDOs(2) 1,119 4 1,119 3
Total 28,635 100 34,647 100
1. Traditional asset backed securities are securities, often with variable
expected redemption profiles issued by Special Purpose Vehicles and
typically backed by pools of receivables from loans or personal credit.
Securitisations are securities with fixed redemption profiles that are
issued by Special Purpose Vehicles and secured on revenues from specific
assets or operating companies and Debentures are securities with fixed
redemption profiles issued by firms typically secured on property.
2. The underlying reference portfolio has had no reference entity defaults
during the period ended 30 June 2013. The CDOs are termed as super senior
since default losses on the reference portfolio have to exceed 27.5%,
on average across the reference portfolio, before the CDOs incur any
default losses. Assuming an average recovery rate of 30%, then over
39% of the reference names would have to default before the CDOs incur
any default losses.The CDO's are valued using an external valuation
which is based on observable market inputs. This is then validated against
the market valuation.
Capital and Investments 85
4.05 Bond portfolio summary (continued)
(a) Analysed by sector
(continued)
LGR LGR Total Total
At At At At
31.12.13 31.12.13 31.12.13 31.12.13
Note GBPm % GBPm %
Sovereigns, Supras and Sub-Sovereigns 4.05(b) 4,772 16 6,502 18
Banks:
- Tier 1 100 - 105 -
- Tier 2 and other subordinated 637 2 698 2
- Senior 1,406 5 2,169 6
Financial Services:
- Tier 1 2 - 5 -
- Tier 2 and other subordinated 206 1 251 1
- Senior 800 3 1,041 3
Insurance:
- Tier 1 144 1 152 -
- Tier 2 and other subordinated 579 2 625 2
- Senior 481 2 552 2
Utilities 4,013 13 4,329 12
Consumer Services and
Goods & Health Care 3,128 10 3,716 10
Technology and Telecoms 1,995 7 2,333 7
Industrials & Oil and
Gas 3,074 10 3,626 10
Property 981 3 1,053 3
Asset backed securities:(1)
- Traditional 763 3 1,395 4
- Securitisations and
debentures 5,839 19 6,047 17
CDOs(2) 1,098 3 1,098 3
Total 30,018 100 35,697 100
1. Traditional asset backed securities are securities, often with variable
expected redemption profiles issued by Special Purpose Vehicles and
typically backed by pools of receivables from loans or personal credit.
Securitisations are securities with fixed redemption profiles that are
issued by Special Purpose Vehicles and secured on revenues from specific
assets or operating companies and Debentures are securities with fixed
redemption profiles issued by firms typically secured on property.
2. The underlying reference portfolio has had no reference entity defaults
in 2013. The CDOs are termed as super senior since default losses on
the reference portfolio have to exceed 27.5%, on average across the
reference portfolio, before the CDOs incur any default losses. Assuming
an average recovery rate of 30%, then over 39% of the reference names
would have to default before the CDOs incur any default losses.The CDO's
are valued using an external valuation which is based on observable
market inputs. This is then validated against the market valuation.
Capital and Investments 86
4.05 Bond portfolio summary (continued)
(b) Analysed by domicile
The tables below are based on the legal domicile of the security.
LGR Total LGR Total LGR Total
30.06.14 30.06.14 30.06.13 30.06.13 31.12.13 31.12.13
GBPm GBPm GBPm GBPm GBPm GBPm
Market value by region:
United Kingdom 16,299 17,224 11,696 12,708 13,099 14,178
USA 7,747 10,034 7,834 10,555 7,237 9,779
Netherlands 1,778 2,119 1,671 2,289 1,736 2,164
France 1,289 1,642 1,190 1,581 1,382 1,681
Germany 378 737 337 650 411 791
GIIPS:
- Greece - 5 - 3 - -
- Ireland(1) 225 264 249 287 234 271
- Italy 485 636 644 792 636 786
- Portugal 3 14 15 28 15 31
- Spain 158 224 195 290 178 263
Rest of Europe 1,643 2,013 1,175 1,583 1,299 1,721
Rest of World 2,959 3,232 2,510 2,762 2,693 2,934
CDOs 1,098 1,098 1,119 1,119 1,098 1,098
Total 34,062 39,242 28,635 34,647 30,018 35,697
1. Within LGR, out of the GBP225m of bonds domiciled in Ireland, GBP223m
relate to financing vehicles where the underlying exposure lies outside
Ireland.
Additional analysis of sovereign debt exposures
Sovereigns, Supras and Sub-Sovereigns
LGR Total LGR Total LGR Total
30.06.14 30.06.14 30.06.13 30.06.13 31.12.13 31.12.13
GBPm GBPm GBPm GBPm GBPm GBPm
Market value by region:
United Kingdom 4,768 5,102 2,884 3,279 3,340 3,725
USA 407 830 325 889 282 664
Netherlands 13 167 1 387 10 194
France 118 246 89 312 90 220
Germany 195 437 189 382 212 472
GIIPS:
- Greece - 5 - 3 - -
- Ireland - 12 - 14 - 7
- Italy 109 192 253 368 236 323
- Portugal - 6 - 12 - 16
- Spain - 6 1 58 - 14
Rest of Europe 793 989 453 691 474 661
Rest of World 175 265 97 178 128 206
Total 6,578 8,257 4,292 6,573 4,772 6,502
Capital and Investments 87
4.05 Bond portfolio summary (continued)
(c) Analysed by credit rating
LGR LGR Total Total
At At At At
30.06.14 30.06.14 30.06.14 30.06.14
GBPm % GBPm %
AAA 1,711 5 3,3769
AA 8,471 25 9,217 23
A 11,082 32 12,333 31
BBB 8,716 26 9,891 25
BB or below 566 2 7612
Unrated: Bespoke CDOs(2) 983 3 9833
Other(3) 2,533 7 2,6817
34,062 100 39,242 100
LGR LGR Total Total
At At At At
30.06.13 30.06.13 30.06.13 30.06.13
GBPm % GBPm%
AAA(1) 1,235 4 3,502 10
AA 6,263 22 7,373 21
A 10,080 35 11,507 33
BBB 8,321 29 9,422 27
BB or below 448 2 5282
Unrated: Bespoke CDOs(2) 991 3 9913
Other(3) 1,297 5 1,3244
28,635 100 34,647 100
LGR LGR Total Total
At At At At
31.12.13 31.12.13 31.12.13 31.12.13
GBPm % GBPm%
AAA(1) 1,378 5 3,1449
AA 6,743 22 7,599 21
A 10,236 34 11,703 34
BBB 8,326 28 9,456 26
BB or below 603 2 8742
Unrated: Bespoke CDOs(2) 983 3 9833
Other(3) 1,749 6 1,9385
30,018 100 35,697 100
1. During 2013, UK sovereign debt was downgraded from AAA to AA+.
2. The CDOs are termed as super senior since default losses have to
exceed 27.5%, on average across the reference portfolio, before the
CDOs incur any default losses. The underlying reference portfolio has
had no reference entity defaults in 2013 or 2014. Losses are limited
under the terms off the CDOs to assets and collateral invested.
3. Other unrated bonds have been assessed and rated internally. Over
GBP1.5bn at H1 14 (H1 13: GBP0.6bn; FY 13: GBP0.7bn) relates to secured
asset backed securities.
4.06 Value of policyholder assets held in Society and LGPL
At At At
30.06.14 30.06.13 31.12.13
GBPm GBPm GBPm
With-profits business 23,475 24,027 23,959
Non profit business 54,272 47,150 49,949
77,747 71,177 73,908
Capital and Investments 88
Blank page
European Embedded Value 89
Group embedded value - summary
Covered business
---------------------------
LGAS Non-
UK overseas covered
business business LGA business Total
For the six months ended 30 GBPm GBPm GBPm GBPm GBPm
June 2014
At 1 January 2014
Value of in-force business
(VIF) 4,693 197 699 - 5,589
Shareholder net worth (SNW) 3,249 315 234 199 3,997
Embedded value at 1 January
2014 7,942 512 933 199 9,586
Exchange rate movements - (19) (30) 12 (37)
Operating profit after tax
for the period 539 11 47 68 665
Non-operating profit/(loss)
for the period 59 3 (1) (7) 54
Profit for the period 598 14 46 61 719
Intra-group distributions(1) 18 (15) (44) 41 -
Dividends to equity holders
of the Company - - - (408) (408)
Transfer to non-covered business(2) (15) - - 15 -
Other reserve movements including
pension deficit(3) 12 - - (29) (17)
Embedded value at 30 June 2014 8,555 492 905 (109) 9,843
Value of in-force business 4,928 167 717 - 5,812
Shareholder net worth 3,627 325 188 (109) 4,031
Embedded value per share (p)(4) 166
1. UK intra-group distributions primarily reflect EUR18m (H1 13: EURnil;
FY 13: EUR16m) dividend from LGN and GBP4m dividend from Nationwide
Life (H1 13: GBP10m; FY 13: GBP10m) paid to Society. Dividends of $73m
(H1 13: $66m; FY 13: $69m) from LGA and EUR2m (H1 13: EUR1m; FY 13:
EUR2m) from LGF were paid to the group.
2. The transfer to non-covered business represents the IFRS profits
arising in the period from the provisions of investment management services
by LGIM to the UK covered business, which have been included in the
operating profit of the covered business on the look through basis.
3. The other reserve movements of UK covered business primarily reflects
the effect of reinsurance arrangement transactions between UK and US
covered business. Non-covered business mainly reflects the movement
in the savings related share options scheme and the actuarial loss on
the pension deficit movement.
4. The number of shares in issue at 30 June 2014 was 5,935,497,507 (30
June 2013: 5,915,445,369; 31 December 2013: 5,917,066,636).
Further analysis of the LGAS and LGR covered business can be found in
Note 5.01.
European Embedded Value 90
Group embedded value - summary (continued)
Covered business
----------------------------
LGAS Non-
UK overseas covered
business business LGA business Total
For the six months ended GBPm GBPm GBPm GBPm GBPm
30 June 2013
At 1 January 2013
Value of in-force business
(VIF) 4,402 146 735 - 5,283
Shareholder net worth (SNW) 3,178 296 239 (96) 3,617
Embedded value at 1 January
2013 7,580 442 974 (96) 8,900
Exchange rate movements - 23 72 (74) 21
Operating profit after tax
for the period 392 4 35 73 504
Non-operating profit/(loss)
for the period 282 34 (31) (4) 281
Profit for the period 674 38 4 69 785
Intra-group distributions(1) 10 (1) (43) 34 -
Dividends to equity holders
of the Company - - - (337) (337)
Transfer to non-covered business(2) (12) - - 12 -
Other reserve movements including
pension deficit(3) (44) - - 4 (40)
Embedded value at 30 June
2013 8,208 502 1,007 (388) 9,329
Value of in-force business 4,570 178 890 - 5,638
Shareholder net worth 3,638 324 117 (388) 3,691
Embedded value per share
(p)(4) 158
1. UK intragroup distributions reflect dividends of GBP10m paid to Society
from subsidiaries (primarily Nationwide Life). Dividends of $66m from
LGA, EURnil from LGN and EUR1m from LGF were also paid to the group.
2. The transfer to non-covered business represents the IFRS profits
arising in the period from the provisions of investment management services
by Legal & General Investment Management to the UK covered business,
which have been included in the operating profit of the covered business
on the look through basis.
3. The other reserve movements reflect the pension deficit movement,
the movement of investment project costs from covered to non-covered
business and the effect of reinsurance arrangement transactions between
UK and US covered business.
4. The number of shares in issue at 30 June 2013 was 5,915,445,369.
Further analysis of the LGAS and LGR covered business can be found in
Note 5.01.
European Embedded Value 91
Group embedded value - summary (continued)
Covered business
---------------------------
LGAS Non-
UK overseas covered
business business LGA business Total
For the year ended 31 December GBPm GBPm GBPm GBPm GBPm
2013
At 1 January 2013
Value of in-force business
(VIF) 4,402 146 735 - 5,283
Shareholder net worth (SNW) 3,178 296 239 (96) 3,617
Embedded value at 1 January
2013 7,580 442 974 (96) 8,900
Exchange rate movements - 9 (14) (10) (15)
Operating profit after tax
for the year 804 16 70 168 1,058
Non-operating profit/(loss)
for the year 222 60 (24) (17) 241
Profit for the year 1,026 76 46 151 1,299
Intra-group distributions(1) (602) (15) (44) 661 -
Dividends to equity holders
of the Company - - - (479) (479)
Transfer to non-covered business(2) (27) - - 27 -
Other reserve movements including
pension deficit(3) (35) - (29) (55) (119)
Embedded value at 31 December
2013 7,942 512 933 199 9,586
Value of in-force business 4,693 197 699 - 5,589
Shareholder net worth 3,249 315 234 199 3,997
Embedded value per share
(p)(4) 162
1. UK intra-group distributions reflect a GBP625m dividend paid from
Society to Group, and dividends of GBP10m paid to Society from subsidiaries
(primarily Nationwide Life). Dividends of EUR16m from LGN are also paid
to Society. Dividends of $69m from LGA and EUR2m from LGF were paid
to the group.
2. The transfer to non-covered business represents the IFRS profits
arising in the period from the provisions of investment management services
by LGIM to the UK covered business, which have been included in the
operating profit of the covered business on the look through basis.
3. The other reserve movements reflect the pension deficit movement,
the movement of investment project costs from covered to non-covered
business and the effect of reinsurance arrangement transactions between
UK and US covered business.
4. The number of shares in issue at 31 December 2013 was 5,917,066,636.
Further analysis of the LGAS and LGR covered business can be found in
Note 5.01.
European Embedded Value 92
5.01 LGAS and LGR embedded value reconciliation
Shareholder net Total
worth
--------------------------
Free Required Value embedded
of
surplus capital Total in-force value
For the six months ended 30 GBPm GBPm GBPm GBPm GBPm
June 2014
At 1 January 2014(1) 1,174 2,390 3,564 4,890 8,454
Exchange movement (15) 4 (11) (8) (19)
Operating profit/(loss) after
tax - UK business:
- New business contribution(2) (195) 184 (11) 305 294
- Expected return on VIF - - - 157 157
- Expected transfer from VIF
to SNW(3) 457 (113) 344 (344) -
- Expected return on SNW 26 62 88 - 88
-------- --------- ----- -------- --------
Generation of embedded value 288 133 421 118 539
- Experience variances (6) 3 (3) 34 31
- Operating assumption changes 11 - 11 (31) (20)
- Development costs (11) - (11) - (11)
-------- --------- ----- -------- --------
Variances (6) 3 (3) 3 -
Operating profit/(loss) after
tax - LGAS overseas 12 4 16 (5) 11
Operating profit after tax
- LGAS & LGR 294 140 434 116 550
Non-operating profit/(loss)
after tax - UK business:
- Economic variances (30) 42 12 26 38
- Other taxation impacts(4) (12) - (12) 33 21
Non-operating profit/(loss)
after tax - LGAS overseas 13 8 21 (18) 3
Non-operating profit/(loss)
after tax - LGAS & LGR (29) 50 21 41 62
Profit for the period - LGAS
& LGR 265 190 455 157 612
Intra-group distributions(5) 3 - 3 - 3
Transfer to non-covered business(6) (15) - (15) - (15)
Other reserve movements including
pension deficit(7) (44) - (44) 56 12
Embedded value at 30 June
2014 1,368 2,584 3,952 5,095 9,047
1. Opening balances at 1 January
2014 include LGF and LGN.
2. The UK free surplus reduction of GBP195m to finance new business
includes GBP11m new business strain and GBP184m additional required
capital.
3. The increase in UK free surplus of GBP457m from the expected transfer
from the in-force non profit business includes GBP344m of operational
cash generation and a GBP113m reduction in required capital.The GBP383m
operational cash generation from LGAS and LGR per Note 2.01 also includes
GBP14m dividend from LGN, GBP1m dividend from LGF and GBP24m primarily
reflecting profit from non-covered business.
4. Reflects the impact of change in treatment in deferred tax to align
with IFRS by removing the effect of discounting.
5. Intra-group distributions primarily reflect GBP4m dividend from the
non-covered subsidiary, Nationwide Life, to Society.
6. The transfer to non-covered business represents the IFRS profits
arising in the period from the provisions of investment management services
by LGIM to the UK covered business, which have been included in the
operating profit of the covered business on the look through basis.
7. The other reserve movements reflects the pension deficit movement
and the effect of reinsurance arrangement transactions between UK and
US covered business.
The value of in-force business of GBP5,095m is comprised of GBP4,676m
of non profit business and GBP419m of with-profits business.
European Embedded Value 93
5.01 LGAS and LGR embedded value reconciliation (continued)
Shareholder net worth Total
---------------------------
Free Required Value embedded
of
surplus capital Total in-force value
For the six months ended 30 GBPm GBPm GBPm GBPm GBPm
June 2013(1)
At 1 January 2013 1,259 2,215 3,474 4,548 8,022
Exchange movement 9 6 15 8 23
Operating profit/(loss) after
tax - UK business:
- New business contribution(2) (132) 95 (37) 205 168
- Expected return on VIF - - - 132 132
- Expected transfer from VIF
to SNW(3) 429 (89) 340 (340) -
- Expected return on SNW 22 36 58 - 58
-------- --------- ------ --------- --------
Generation of embedded value 319 42 361 (3) 358
- Experience variances (2) 3 1 35 36
- Operating assumption changes 21 - 21 (9) 12
- Development costs (14) - (14) - (14)
-------- --------- ------ --------- --------
Variances 5 3 8 26 34
Operating profit/(loss) after
tax - LGAS overseas 6 2 8 (4) 4
Operating profit after tax
- LGAS & LGR 330 47 377 19 396
Non-operating profit/(loss)
after tax - UK business:
- Economic variances 166 (34) 132 109 241
- Effect of tax rate changes
and other taxation impacts(4) - - - 41 41
Non-operating profit/(loss)
after tax - LGAS overseas 8 (2) 6 28 34
Non-operating profit/(loss)
after tax - LGAS & LGR 174 (36) 138 178 316
Profit for the period - LGAS
& LGR 504 11 515 197 712
Intra-group distributions(5) 9 - 9 - 9
Transfer to non-covered business(6) (12) - (12) - (12)
Other reserve movements including
pension deficit(7) (39) - (39) (5) (44)
Embedded value at 30 June
2013 1,730 2,232 3,962 4,748 8,710
1. Opening balances at 1 January 2013 include LGF and LGN.
2. The free surplus reduction of GBP132m to finance new business includes
GBP37m new business strain and GBP95m additional required capital.
3. The increase in free surplus of GBP429m from the expected transfer
from the in-force covered business includes GBP340m of operational cash
generation and a GBP89m reduction in required capital. The GBP361m operational
cash generation from LGAS and LGR per Note 2.01 also includes GBP1m
dividend from LGF and GBP20m primarily reflecting IFRS profit from non
covered business.
4. Reflects the implementation of the UK planned future reductions in
corporation tax to 20% on 1 April 2015.
5. UK intra-group dividends reflect dividends of GBP10m paid to Society
from subsidiaries (primarily Nationwide Life) and EUR1m from LGF paid
to Group.
6. The transfer to non-covered business represents the IFRS profits
arising in the period from the provisions of investment management services
by Legal & General Investment Management to the UK covered business,
which have been included in the operating profit of the covered business
on the look through basis.
7. The other reserve movements reflects the pension deficit movement,
the movement of investment project costs from covered to non-covered
business and the effect of reinsurance arrangement transactions between
UK and US covered business.
The UK value of in-force business of GBP4,748m is comprised of GBP4,330m
of non profit business and GBP418m of with-profits business.
European Embedded Value 94
5.01 LGAS and LGR embedded value reconciliation (continued)
Shareholder net worth Total
---------------------------
Free Required Value embedded
of
surplus capital Total in-force value
For the year ended 31 December GBPm GBPm GBPm GBPm GBPm
2013
At 1 January 2013(1) 1,259 2,215 3,474 4,548 8,022
Exchange movement 3 3 6 3 9
Operating profit/(loss) after
tax - UK business:
- New business contribution(2) (324) 284 (40) 484 444
- Expected return on VIF - - - 266 266
- Expected transfer from VIF
to SNW(3) 869 (181) 688 (688) -
- Expected return on SNW 40 76 116 - 116
-------- --------- ------ -------- --------
Generation of embedded value 585 179 764 62 826
- Experience variances 5 (9) (4) 14 10
- Operating assumption changes (24) 2 (22) 21 (1)
- Development costs (31) - (31) - (31)
-------- --------- ------ -------- --------
Variances (50) (7) (57) 35 (22)
Operating profit after tax
- LGAS overseas 7 1 8 8 16
Operating profit after tax
- LGAS & LGR 542 173 715 105 820
Non-operating profit/(loss)
after tax - UK business:
- Economic variances 109 (8) 101 80 181
- Effect of tax rate changes
and other taxation impacts(4) - - - 41 41
Non-operating profit after
tax - LGAS overseas 20 - 20 40 60
Non-operating profit/(loss)
after tax - LGAS & LGR 129 (8) 121 161 282
Profit for the year - LGAS
& LGR 671 165 836 266 1,102
Intra-group distributions(5) (617) - (617) - (617)
Transfer to non-covered business(6) (27) - (27) - (27)
Other reserve movements including
pension deficit(7) (115) 7 (108) 73 (35)
Embedded value at 31 December
2013 1,174 2,390 3,564 4,890 8,454
1. Opening balances at 1 January 2013 include LGF and LGN.
2. The UK free surplus reduction of GBP324m to finance new business
includes GBP40m new business strain and GBP284m additional required
capital.
3. The increase in UK free surplus of GBP869m from the expected transfer
from the in-force covered business includes GBP688m of operational cash
generation and a GBP181m reduction in required capital. The GBP734m
operational cash from LGAS and LGR per Note 2.01 also includes GBP2m
and GBP14m remitted from LGF and LGN respectively, and GBP30m primarily
reflecting IFRS profit from non covered business.
4. Reflects the implementation of the UK planned future reductions in
corporation tax to 20% on 1 April 2015.
5. UK intra-group dividends reflect a GBP625m dividend paid from Society
to Group and dividends of GBP10m paid to Society from subsidiaries (primarily
Nationwide Life). Dividends of EUR16m from LGN were also paid to Society.
6. The transfer to non-covered business represents the IFRS profits
arising in the period from the provisions of investment management services
by LGIM to the UK covered business, which have been included in the
operating profit of the covered business on the look through basis.
7. The other reserve movements reflects the pension deficit movement,
the movement of investment project costs from covered to non-covered
business and the effect of reinsurance arrangement transactions between
UK and US covered business.
The value of in-force business of GBP4,890m is comprised of GBP4,454m
of non profit business and GBP436m of with-profits business.
European Embedded Value 95
5.02 Analysis of shareholders' equity
LGC
LGAS and group
and
LGR LGIM expenses LGA Total
As at 30 June 2014 GBPm GBPm GBPm GBPm GBPm
Analysed as:
IFRS basis shareholders'
equity(1) 820 566 3,538 787 5,711
Additional retained profit/(loss)
on an EEV basis 5,041 - (1,027) 118 4,132
Shareholders' equity on
an EEV basis 5,861 566 2,511 905 9,843
Comprising:
Business reported on an
IFRS basis 441 566 (1,116) - (109)
Business reported on an
EEV basis:
Shareholder net worth
- Free surplus(2) 74 1,294 139 1,507
- Required capital to
cover solvency margin 251 2,333 49 2,633
Value of in-force
- Value of in-force business(3) 5,611 729 6,340
- Cost of capital (516) (12) (528)
LGC
LGAS and group
and
LGR LGIM expenses LGA Total
As at 30 June 2013 GBPm GBPm GBPm GBPm GBPm
Analysed as:
IFRS basis shareholders'
equity(1) 772 522 3,276 935 5,505
Additional retained profit/(loss)
on an EEV basis 4,672 - (920) 72 3,824
Shareholders' equity on
an EEV basis 5,444 522 2,356 1,007 9,329
Comprising:
Business reported on an
IFRS basis 372 522 (1,282) - (388)
Business reported on an
EEV basis:
Shareholder net worth
- Free surplus(2) 71 1,659 64 1,794
- Required capital to
cover solvency margin 253 1,979 53 2,285
Value of in-force
- Value of in-force business(3) 5,228 903 6,131
- Cost of capital (480) (13) (493)
1. Shareholders' equity supporting the UK non profit LGAS and LGR businesses
is held within Legal & General Assurance Society Limited and Legal &
General Pensions Limited and is managed on a groupwide basis within
the LGC and group expenses segment.
2. Free surplus is the value of any capital and surplus allocated to,
but not required to support, the in-force covered business at the valuation
date.
3. Value of in-force business includes a deduction for the time value
of options and guarantees of GBP14m (H1 13: GBP27m; FY13: GBP23m).
Further analysis of shareholders' equity is included in Note 5.03.
European Embedded Value 96
5.02 Analysis of shareholders' equity (continued)
LGC
LGAS and group
and
LGR LGIM expenses LGA Total
As at 31 December 2013 GBPm GBPm GBPm GBPm GBPm
Analysed as:
IFRS basis shareholders'
equity(1) 783 421 3,622 816 5,642
Additional retained profit/(loss)
on an EEV basis 4,830 - (1,003) 117 3,944
Shareholders' equity on
an EEV basis 5,613 421 2,619 933 9,586
Comprising:
Business reported on an
IFRS basis 408 421 (630) - 199
Business reported on an
EEV basis:
Shareholder net worth
- Free surplus(2) 67 1,107 192 1,366
- Required capital to
cover solvency margin 248 2,142 42 2,432
Value of in-force
- Value of in-force business(3) 5,398 711 6,109
- Cost of capital (508) (12) (520)
1. Shareholders' equity supporting the UK non profit LGAS and LGR businesses
is held within Legal & General Assurance Society Limited and Legal &
General Pensions Limited and is managed on a groupwide basis within
the LGC and group expenses segment.
2. Free surplus is the value of any capital and surplus allocated to,
but not required to support, the in-force covered business at the valuation
date.
3. Value of in-force business includes a deduction for the time value
of options and guarantees of GBP23m.
Further analysis of shareholders' equity is included in Note 5.03.
European Embedded Value 97
5.03 Segmental analysis of shareholders' equity
Covered Other Covered Other
business business business business
EEV IFRS EEV IFRS
basis basis Total basis basis Total
30.06.14 30.06.14 30.06.14 30.06.13 30.06.13 30.06.13
GBPm GBPm GBPm GBPm GBPm GBPm
LGAS
- LGAS UK Protection
and Savings 2,290 - 2,290 2,268 - 2,268
- LGAS overseas business 492 - 492 502 - 502
- General insurance and
other - 441 441 - 372 372
Total LGAS 2,782 441 3,223 2,770 372 3,142
LGR 2,638 - 2,638 2,302 - 2,302
LGIM - 566 566 - 522 522
LGC and group expenses 3,627 (1,116) 2,511 3,638 (1,282) 2,356
LGA 905 - 905 1,007 - 1,007
Total 9,952 (109) 9,843 9,717 (388) 9,329
Covered Other
business business
EEV IFRS
basis basis Total
31.12.13 31.12.13 31.12.13
GBPm GBPm GBPm
LGAS
- LGAS UK Protection
and Savings 2,331 - 2,331
- LGAS overseas business 512 - 512
- General insurance and
other - 408 408
Total LGAS 2,843 408 3,251
LGR 2,362 - 2,362
LGIM - 421 421
LGC and group expenses 3,249 (630) 2,619
LGA 933 - 933
Total 9,387 199 9,586
European Embedded Value 98
5.04 Reconciliation of shareholder
net worth
UK UK UK
covered covered covered
business Total business Total business Total
30.06.14 30.06.14 30.06.13 30.06.13 31.12.13 31.12.13
GBPm GBPm GBPm GBPm GBPm GBPm
SNW of long term operations
(IFRS basis) 4,645 5,820 4,603 5,893 4,291 5,443
Other (liabilities)/assets
(IFRS basis) - (109) - (388) - 199
Shareholders' equity on
the IFRS basis 4,645 5,711 4,603 5,505 4,291 5,642
Purchased interest in
long term business (51) (54) (58) (60) (52) (59)
Deferred acquisition costs/deferred
income liabilities (212) (1,140) (267) (1,213) (223) (1,129)
Deferred tax(1) (123) 282 (165) 195 (162) 232
Other(2) (632) (768) (475) (736) (605) (689)
Shareholder net worth
on the EEV basis 3,627 4,031 3,638 3,691 3,249 3,997
1. Deferred tax represents all tax which is expected to be paid under
current legislation.
2. Other primarily relates to the different treatment of annuities and
LGA Triple X securitisation between the EEV and IFRS basis.
European Embedded Value 99
5.05 Profit/(loss) for the
period
LGC
LGAS and group
and
LGR LGIM expenses LGA Total
For the six months ended 30 Note GBPm GBPm GBPm GBPm GBPm
June 2014
Business reported on an EEV
basis:
Contribution from new business
after cost of capital 5.06 370 51 421
Contribution from in-force
business:
- expected return(1) 210 28 238
- experience variances (2) 42 (10) 32
- operating assumption changes(3) (23) - (23)
Development costs (14) - (14)
Contribution from shareholder
net worth 3 87 3 93
Operating profit on covered
business 588 - 87 72 747
Business reported on an IFRS
basis(4,5,6) 27 140 (64) - 103
Total operating profit 615 140 23 72 850
Economic variances(7) 97 (5) (82) (2) 8
Gains on non-controlling interests - - 6 - 6
Profit/(loss) before tax 712 135 (53) 70 864
Tax (expense)/credit on profit from
ordinary activities (145) (30) 33 (24) (166)
Other taxation impacts(8) 21 - - - 21
Profit/(loss) for the period 588 105 (20) 46 719
Operating profit attributable
to:
LGAS 185
LGR 430
p
Earnings per share
Based on profit attributable to equity
holders of the Company 12.12
Diluted earnings per share
Based on profit attributable to equity
holders of the Company 11.99
1. The expected return on in-force for LGAS and LGR is based on the
unwind of the risk discount rate on the opening, adjusted base value
of in-force (VIF). The opening base VIF of the UK LGAS and LGR business
was GBP4,693m in 2014 (GBP4,402m in 2013). This is adjusted for the
effects of opening model changes of GBP4m (H1 13: GBP50m; FY 13: GBP27m)
to give an adjusted opening base VIF of GBP4,697m (H1 13: GBP4,452m;
FY 13: GBP4,429m). This is then multiplied by the opening risk discount
rate of 6.8% (H1 13: 6.0%; FY 13: 6.0%) and the result grossed up at
the notional attributed tax rate of 20% (H1 13: 20%; FY 13: 20%) to
give a return of GBP196m (H1 13: GBP165m; FY 13: GBP331m). The same
approach has been applied for the LGAS overseas businesses
2. LGAS and LGR variance primarily reflects UK cost of capital unwind,
bulk purchase annuity data loading and fewer retail protection lapses.
LGA experience variance primarily relates to adverse mortality experience
within term assurance and universal life products.
3. LGAS and LGR assumption changes primarily reflect mortality reserves
strengthening partly offset by a reduction in prudence margin in the
regulatory morbidity reserves within retail protection.
4. LGAS and LGR non-covered business primarily reflects GI operating
profit of GBP28m (H1 13: GBP39m; FY 13: GBP69m).
5. LGIM operating profit includes Retail Investments and excludes GBP19m
(H1 13: GBP15m; FY 13: GBP34m) of profits arising from the provision
of investment management services at market referenced rates to the
covered business on a look through basis and as a consequence are included
in the LGAS and LGR covered business on an EEV basis.
6. LGC and group expenses non-covered business primarily reflects Group
debt costs and investment projects and expenses, partly offset by investment
returns from non-covered shareholder assets.
7. The LGAS and LGR positive variance has resulted from a number of
factors including lower risk discount rate and enhanced yield on annuity
assets offset by a lower risk free rate and a narrowing credit spread.
LGC and group expenses primarily reflects lower equity return from shareholder
funds.
8. Other taxation impacts reflects the change in the treatment of deferred
tax on in-force business to align with IFRS by removing the effect of
discounting.
European Embedded Value 100
5.05 Profit/(loss) for the period
(continued)
LGC
LGAS and group
and
LGR LGIM expenses LGA Total
For the six months ended 30 Note GBPm GBPm GBPm GBPm GBPm
June 2013
Business reported on an EEV
basis:
Contribution from new business
after cost of capital 5.06 213 44 257
Contribution from in-force
business:
- expected return(1) 178 33 211
- experience variances (2) 42 (27) 15
- operating assumption changes(3) 14 - 14
Development costs (18) - (18)
Contribution from shareholder
net worth 2 65 4 71
Operating profit on covered
business 431 - 65 54 550
Business reported on an IFRS
basis(4,5,6) 18 137 (65) - 90
Total operating profit 449 137 - 54 640
Economic variances(7) 302 (2) 11 (47) 264
Gains on non-controlling interests - - 7 - 7
Profit before tax 751 135 18 7 911
Tax (expense)/credit on profit
from ordinary activities (152) (28) 16 (3) (167)
Effect of tax rate changes
and other taxation impacts(8) 41 - - - 41
Profit for the period 640 107 34 4 785
Operating profit attributable
to:
LGAS 167
LGR 282
p
Earnings per share
Based on profit attributable to equity
holders of the Company 13.24
Diluted earnings per share
Based on profit attributable to equity
holders of the Company 13.09
1. The expected return on in-force is based on the unwind of the risk
discount rate on the opening, adjusted base value of in-force (VIF).
The opening base VIF of the UK LGAS and LGR business was GBP4,402m.
This is adjusted for the effects of opening model changes of GBP50m
to give an adjusted opening base VIF of GBP4,452m. This is then multiplied
by the opening risk discount rate of 6.0% and the result grossed up
at the notional attributed tax rate of 20% to give a return of GBP165m.
The same approach has been applied for the LGAS overseas business.
2. LGAS and LGR reflects UK cost of capital unwind and bulk purchase
annuity data loading and model changes. LGA reflects a higher than anticipated
lapses in the period.
3. LGAS and LGR primarily reflects mortality assumption changes in retail
protection.
4. LGAS and LGR non-covered business primarily reflects GI operating
profit of GBP39m.
5. LGIM operating profit excludes GBP15m of profits arising from the
provision of investment management services at market referenced rates
to the covered business. These are reported on a look through basis
and as a consequence are included in the LGAS and LGR covered business
on an EEV basis.
6. LGC and group expenses non-covered business primarily reflects Group
debt costs and investment projects and expenses, partly offset by investment
returns from non-covered shareholder assets.
7. LGAS and LGR positive variance primarily reflects equity market outperformance,
actions to improve the yield on annuities assets and a lower risk margin.
8. Primarily reflects the implementation of the UK planned future reductions
in the corporation tax rate to 20% on 1 April 2015.
European Embedded Value 101
5.05 Profit/(loss) for the year (continued)
LGC
LGAS and group
and
LGR LGIM expenses LGA Total
For the year ended 31 December Note GBPm GBPm GBPm GBPm GBPm
2013
Business reported on an EEV
basis:
Contribution from new business
after cost of capital 5.06 544 107 651
Contribution from in-force
business:
- expected return(1) 358 68 426
- experience variances (2) 52 (23) 29
- operating assumption changes(3) (9) (52) (61)
Development costs (40) - (40)
Contribution from shareholder
net worth 5 113 7 125
Operating profit on covered
business 910 - 113 107 1,130
Business reported on an IFRS
basis(4,5,6) 47 270 (106) - 211
Total operating profit 957 270 7 107 1,341
Economic variances(7) 250 (6) 8 (37) 215
Gains on non-controlling interests - - 13 - 13
Profit before tax 1,207 264 28 70 1,569
Tax (expense)/credit on profit
from ordinary activities (251) (57) 21 (24) (311)
Effect of tax rate changes
and other taxation impacts(8) 41 - - - 41
Profit for the year 997 207 49 46 1,299
Operating profit attributable
to:
LGAS 360
LGR 597
p
Earnings per share
Based on profit attributable to equity
holders of the Company 21.91
Diluted earnings per share
Based on profit attributable to equity
holders of the Company 21.61
1. The expected return on in-force is based on the unwind of the risk
discount rate on the opening, adjusted base value of in-force (VIF).
The opening base VIF of the UK LGAS and LGR business was GBP4,402m in
2013. This is adjusted for the effects of opening model changes of GBP27m
to give an adjusted opening base VIF of GBP4,429m. This is then multiplied
by the opening risk discount rate of 6.0% and the result grossed up
at the notional attributed tax rate of 20% to give a return of GBP331m.
The same approach has been applied for the LGAS overseas businesses.
2. LGAS and LGR variance primarily reflects UK cost of capital unwind,
bulk purchase annuity data loading, fewer retail protection lapses and
better longevity experience. LGA experience variance primarily relates
to adverse persistency experience and mortality experience within term
assurance and universal life products respectively.
3. LGAS and LGR assumption changes primarily reflects mortality assumption
changes in LGR. LGA assumption changes primarily relate to improved
modelling of term business in the period after the end of the guaranteed
level premium period.
4. LGAS and LGR non-covered business primarily reflects GI operating
profit of GBP69m.
5. LGIM operating profit includes Retail Investments and excludes GBP34m
of profits arising from the provision of investment management services
at market referenced rates to the covered business on a look through
basis and as a consequence are included in the LGAS and LGR covered
business on an EEV basis.
6. LGC and group expenses non-covered business primarily reflects Group
debt costs and investment projects and expenses, partly offset by investment
returns from non-covered shareholder assets.
7. The LGAS and LGR positive variance has resulted from a number of
factors including equity market outperformance, favourable default experience,
actions to improve the yield on annuity assets and a lower risk margin
offset by a higher risk free rate. The higher risk free rate has contributed
to a negative variance in LGA.
8. Primarily reflects the implementation of the UK planned future reductions
in the corporation tax rate to 20% on 1 April 2015.
European Embedded Value 102
5.06 New business by product(1)
Present Contri-
value Capital- bution
of
Annual annual isation Single from
new
premiums premiums factor(2) premiums PVNBP business(3) Margin
For the six months ended GBPm GBPm GBPm GBPm GBPm %
30 June 2014
UK Protection 123 668 5.4 - 668 62 9.3
Overseas business 38 266 7.0 180 446 2 0.4
UK Savings 341 1,212 3.6 1,420 2,632 11 0.4
Total LGAS 502 2,146 4.3 1,600 3,746 75 2.0
LGR n/a - n/a 3,518 3,518 295 8.4
LGA 47 474 10.1 - 474 51 10.8
Total new business 549 2,620 4.8 5,118 7,738 421 5.4
Cost of capital 82
Contribution from new business
before cost of capital 503
Present Contri-
value Capital- bution
of
Annual annual isation Single from
new
premiums premiums factor(2) premiums PVNBP business(3) Margin
For the six months ended GBPm GBPm GBPm GBPm GBPm %
30 June 2013
UK Protection 105 528 5.0 - 528 35 6.7
Overseas business 30 230 7.7 183 413 3 0.8
UK Savings 314 1,162 3.7 1,203 2,365 (2) (0.1)
Total LGAS 449 1,920 4.3 1,386 3,306 36 1.1
LGR(4) n/a 692 n/a 1,424 2,116 177 8.4
LGA 45 440 9.7 - 440 44 10.0
Total new business 494 3,052 6.2 2,810 5,862 257 4.4
Cost of capital 30
Contribution from new business
before cost of capital 287
1. Covered business only.
2. The capitalisation factor is the present value of annual premiums
divided by the amount of annual premiums.
3. The contribution from new business is defined as the present value
at the point of sale of assumed profits from new business written
in the period and then rolled forward to the end of the financial
period using the risk discount rate applicable at the end of the reporting
period.
4. LGR for H1 13 and FY 13 includes present value of annual premiums
for longevity insurance on a net of reinsurance basis to enable a
more representative margin figure. The gross of reinsurance longevity
insurance annual premium for H1 13 is GBP175m; FY 13: GBP270m. The
LGR PVNBP contribution from new business and margin for H1 13 and
FY 13 are also inclusive of longevity insurance. There has been no
longevity insurance sales during H1 14.
European Embedded Value 103
5.06 New business by product (continued)(1)
Present Contri-
value Capital- bution
of
Annual annual isation Single from new
premiums premiums factor(2) premiums PVNBP business(3) Margin
For the year ended 31 December GBPm GBPm GBPm GBPm GBPm %
2013
UK Protection 218 1,141 5.2 - 1,141 101 8.9
Overseas business 30 229 7.6 371 600 5 0.8
UK Savings 724 2,516 3.5 2,495 5,011 2 -
Total LGAS 972 3,886 4.0 2,866 6,752 108 1.6
LGR(4) n/a 939 n/a 4,089 5,028 436 8.7
LGA 99 926 9.4 - 926 107 11.6
Total new business 1,071 5,751 5.4 6,955 12,706 651 5.1
Cost of capital 72
Contribution from new business
before cost of capital 723
1. Covered business only.
2. The capitalisation factor is the present value of annual premiums
divided by the amount of annual premiums.
3. The contribution from new business is defined as the present value
at the point of sale of assumed profits from new business written in
the period and then rolled forward to the end of the financial period
using the risk discount rate applicable at the end of the reporting
period.
4. LGR includes present value of annual premiums for longevity insurance
on a net of reinsurance basis to enable a more representative margin
figure. The gross of reinsurance longevity insurance annual premium
is GBP270m. The LGR PVNBP contribution from new business and margin
are also inclusive of longevity insurance.
European Embedded Value 104
5.07 Assumptions
UK assumptions
The assumed future pre-tax returns on fixed interest and RPI
linked securities are set by reference to the portfolio yield on
the relevant backing assets held at market value at the end of the
reporting period. The calculated return takes account of
derivatives and other credit instruments in the investment
portfolio. Indicative yields on the portfolio, excluding annuities
within LGR, but after allowance for long term default risk, are
shown below.
For LGR, separate returns are calculated for new and existing
business. Indicative combined yields, after allowance for long term
default risk and the following additional assumptions, are also
shown below. These additional assumptions are:
i. Where cash balances and debt securities are held at the
reporting date in excess of, or below strategic investment
guidelines, then it is assumed that these cash balances or debt
securities are immediately invested or disinvested at current
yields.
ii. Where interest rate swaps are used to reduce risk, it is
assumed that these swaps will be sold before expiry and the
proceeds reinvested in corporate bonds with a redemption yield
0.70% p.a. (0.70% p.a. at 30 June 2013; 0.70% p.a. at 31 December
2013) greater than the swap rate at that time (i.e. the long term
credit rate).
iii. Where reinvestment or disinvestment is necessary to
rebalance the asset portfolio in line with projected outgo, this is
also assumed to take place at the long term credit rate above the
swap rate at that time.
The returns on fixed and index-linked securities are calculated
net of an allowance for default risk which takes account of the
credit rating, outstanding term of the securities, and increase in
the expectation of credit defaults over the economic cycle. The
allowance for corporate securities expressed as a level rate
deduction from the expected returns for annuities was 26bps at 30
June 2014 (26bps at 30 June 2013; 27bps at 31 December 2013).
UK covered business
i. Assets are valued at market value.
ii. Future bonus rates have been set at levels which would fully
utilise the assets supporting the policyholders' portion of the
with-profits business in accordance with established practice. The
proportion of profits derived from with-profits business allocated
to shareholders amounts to almost 10% throughout the
projection.
iii. The value of in-force business reflects the cost, including
administration expenses, of providing for benefit enhancement or
compensation in relation to certain products.
iv. Other actuarial assumptions have been set at levels
commensurate with recent operating experience, including those for
mortality, morbidity, persistency and maintenance expenses
(excluding the development costs referred to below). These are
normally reviewed annually.
An allowance is made for future mortality improvement. For new
business, mortality assumptions may be modified to take certain
scheme specific features into account.
v. Development costs relate to investment in strategic systems
and development capability that are charged to the covered
business. Projects charged to the non-covered business are included
within Group Investment projects in LGC and group expenses.
Overseas covered business
vi. Other actuarial assumptions have been set at levels
commensurate with recent operating experience, including those for
mortality, morbidity, persistency and maintenance expenses.
European Embedded Value 105
5.07 Assumptions (continued)
Economic assumptions
As at As at As at
30.06.14 30.06.13 31.12.13
% p.a. % p.a. % p.a.
Risk margin 3.3 3.5 3.4
Risk free rate(1)
- UK 3.2 3.0 3.4
- Europe 1.4 2.1 2.2
- US 2.5 2.6 3.1
Risk discount
rate (net of
tax)
- UK 6.5 6.5 6.8
- Europe 4.7 5.6 5.6
- US 5.8 6.1 6.5
Reinvestment
rate (US) 5.0 5.1 5.8
Other UK business assumptions
Equity risk
premium 3.3 3.3 3.3
Property risk
premium 2.0 2.0 2.0
Investment return (excluding annuities
in LGR )
- Gilts:
- Fixed interest 2.5 - 3.2 2.5 - 3.0 2.7 - 3.4
- RPI linked 3.2 3.1 3.6
- Non gilts:
- Fixed interest 2.2 - 3.3 1.9 - 3.4 2.2 - 3.6
- Equities 6.5 6.3 6.7
- Property 5.2 5.0 5.4
Long-term rate
of return on
non profit annuities
in LGR 4.3 4.7 4.6
Inflation
- Expenses/earnings 3.9 3.8 4.1
- Indexation 3.4 3.3 3.6
1. The risk free rate is the gross redemption yield on the 15
year gilt index. The Europe risk free rate is the 10 year ECB
AAA-rated euro area central government bond par yield. The LGA risk
free rate is the 10 year US Treasury effective yield.
Tax
vii. The profits on the covered business, except for the profits
on the Society shareholder capital held outside the long term fund,
are calculated on an after tax basis and are grossed up by the
notional attributed tax rate for presentation in the income
statement. For the UK, the after tax basis assumes the annualised
current tax rate of 21.5% and the subsequent enacted future
reduction in corporation tax to 20% from 1 April 2015. The tax rate
used for grossing up is the long term corporate tax rate in the
territory concerned, which for the UK is 20% (30 June 2013: 20%; 31
December 2013: 20%) taking into account the expected further rate
reduction to 20% by 1 April 2015. The profits on the Society
shareholder capital held outside the long term fund are calculated
before tax and therefore tax is calculated on an actual basis.
US, Netherlands and France covered business profits are also
grossed up using the long term corporate tax rates of the
respective territories i.e. US is 35% (30 June 2013: 35%; 31
December 2013: 35%), France is 34.43% (30 June 2013: 34.43%; 31
December 2013: 34.43%) and Netherlands is 25% (30 June 2013: 25%;
31 December 2013: 25%).
European Embedded Value 106
5.07 Assumptions (continued)
Stochastic calculations
viii. The time value of options and guarantees is calculated
using economic and non-economic assumptions consistent with those
used for the deterministic embedded value calculations.
A single model has been used for UK and international business,
with different economic assumptions for each territory reflecting
the significant asset classes in each territory.
Government nominal interest rates are generated using a LIBOR
Market Model projecting full yield curves at annual intervals. The
model provides a good fit to the initial yield curve.
The total annual returns on equities and property are calculated
as the return on 1 year bonds plus an excess return. The excess
return is assumed to have a lognormal distribution. Corporate bonds
are modelled separately by credit rating using stochastic credit
spreads over the risk free rates, transition matrices and default
recovery rates. The real yield curve model assumes that the real
short rate follows a mean-reverting process subject to two normally
distributed random shocks.
The significant asset classes are:
- UK with-profits business - equities, property and fixed rate
bonds of various durations;
- UK annuity business - fixed rate and index-linked bonds of
various durations; and
- International business - fixed rate bonds of various
durations.
The risk discount rate is scenario dependent within the
stochastic projection. It is calculated by applying the
deterministic risk margin to the risk free rate in each stochastic
projection.
European Embedded Value 107
5.08 Methodology
Basis of preparation
The supplementary financial information has been prepared in
accordance with the European Embedded Value (EEV) Principles issued
in May 2004 by the European Insurance CFO Forum.
The supplementary financial information has been reviewed by
PricewaterhouseCoopers LLP and prepared with assistance from our
consulting actuary Milliman in the USA.
Changes to accounting policy - IASB consolidation project
On 1st January 2014 the application of IFRS 10, 'Consolidated
Financial Statements' became compulsory for entities reporting in
the EU.
IFRS 10, 'Consolidated Financial Statements' defines the
principal of control and establishes control as the basis for
determining which entities are consolidated in the consolidated
financial statements. This states that an investor controls an
investee when it is exposed, or has rights, to variable returns
from its involvement with the investee and has the ability to
affect those returns through its power over the investee. The
application of IFRS 10 has resulted in the Group consolidating a
small number of investment vehicles which were not previously
consolidated which impacted the gain attributable to
non-controlling interest.
As a result, the prior period disclosure in the Group embedded
value summary and Note 5.05 have been restated to reflect the
adoption by the Group of IFRS 10, 'Consolidated Financial
Statements'. The effect on amounts previously reported at 30 June
2013 and 31 December 2013 is shown below. Embedded value at 30 June
2013 and 31 December 2013 remains unaffected by the adoption.
30.06.13 31.12.13
GBPm GBPm
Profit for the period as previously
reported 783 1,289
Gains on non-controlling interest
IFRS 10 'Consolidated Financial
Statements' amendment 2 10
Revised profit for the
period (after tax) 785 1,299
Covered business
The Group uses EEV methodology to value individual and group
life assurance, pensions and annuity business written in the UK,
Continental Europe and the US. The UK covered business also
includes non-insured self invested personal pension (SIPP)
business.
The managed pension funds business has been excluded from
covered business and is reported on an IFRS basis.
All other businesses are accounted for on the IFRS basis adopted
in the primary financial statements.
There is no distinction made between insurance and investment
contracts in our covered business as there is under IFRS.
European Embedded Value 108
5.08 Methodology (continued)
Description of methodology
The objective of EEV is to provide shareholders with realistic
information on the financial position and current performance of
the Group.
The methodology requires assets of an insurance company, as
reported in the primary financial statements, to be attributed
between those supporting the covered business and the remainder.
The method accounts for assets in the covered business on an EEV
basis and the remainder of the Group's assets on the IFRS basis
adopted in the primary financial statements.
The EEV methodology recognises profit from the covered business
as the total of:
i. cash transfers during the relevant period from the covered
business to the remainder of the Group's assets; and
ii. the movement in the present value of future distributable
profits to shareholders arising from the covered business over the
relevant reporting period.
Embedded value
Shareholders' equity on the EEV basis comprises the embedded
value of the covered business plus the shareholders' equity of
other businesses, less the value included for purchased interests
in long term business.
The embedded value is the sum of the shareholder net worth (SNW)
and the value of the in-force business (VIF). SNW is defined as
those amounts, within covered business (both within the long term
fund and held outside the long term fund but used to support long
term business), which are regarded either as required capital or
which represent free surplus.
The VIF is the present value of future shareholder profits
arising from the covered business, projected using best estimate
assumptions, less an appropriate deduction for the cost of holding
the required level of capital and the time value of financial
options and guarantees (FOGs).
Service companies
All services relating to the UK covered business are charged on
a cost recovery basis, with the exception of investment management
services provided to Legal & General Pensions Limited (LGPL)
and to Legal & General Assurance Society Limited (Society).
Profits arising on the provision of these services are valued on a
look through basis.
As the EEV methodology incorporates the future capitalised cost
of these internal investment management services, the equivalent
IFRS profits have been removed from the Investment management
segment and are instead included in the results of the LGAS and LGR
segments on an EEV basis.
The capitalised value of future profits emerging from internal
investment management services are therefore included in the
embedded value and new business contribution calculations for the
LGAS and LGR segments. However, the historical profits which have
emerged continue to be reported in the shareholders' equity of the
LGIM segment on an IFRS basis. Since the look through into service
companies includes only future profits and losses, current
intra-group profits or losses must be eliminated from the closing
embedded value and in order to reconcile the profits arising in the
financial period within each segment with the net assets on the
opening and closing balance sheet, a transfer of IFRS profits for
the period from the UK SNW is deemed to occur.
New business
New business premiums reflect income arising from the sale of
new contracts during the reporting period and any changes to
existing contracts, which were not anticipated at the outset of the
contract.
In-force business comprises previously written single premium,
regular premium, recurrent single premium contracts and payments in
relation to existing longevity insurance. Longevity insurance
product comprises the exchange of a stream of fixed leg payments
for a stream of floating payments, with the value of the income
stream being the difference between the two legs. New business
annual premiums have been excluded for longevity insurance due to
the unpredictable deal flow from this type of business.
New business contribution arising from the new business premiums
written during the reporting period has been calculated on the same
economic and operating assumptions used in the embedded value at
the end of the financial period. This has then been rolled forward
to the end of the financial period using the risk discount rate
applicable at the end of the reporting period.
The present value of future new business premiums (PVNBP) has
been calculated and expressed at the point of sale. The PVNBP is
equivalent to total single premiums plus the discounted value of
regular premiums expected to be received over the term of the
contracts using the same economic and operating assumptions used
for the embedded value at the end of the financial period. The
discounted value of longevity insurance regular premiums is
calculated on a net of reinsurance basis to enable a more
representative margin figure.
The new business margin is defined as new business contribution
at the end of the reporting period divided by the PVNBP. The
premium volumes and projection assumptions used to calculate the
PVNBP are the same as those used to calculate new business
contribution.
Intra-group reinsurance arrangements are in place between the US
and UK businesses, and it is expected that these arrangements will
be periodically extended to cover recent new business. LGA new
business premiums and contribution reflect the groupwide expected
impact of LGA directly-written business.
European Embedded Value 109
5.08 Methodology (continued)
Projection assumptions
Cash flow projections are determined using best estimate
assumptions for each component of cash flow and for each policy
group. Future economic and investment return assumptions are based
on conditions at the end of the financial period. Future investment
returns are projected by one of two methods. The first method is
based on an assumed investment return attributed to assets at their
market value. The second, which is used by LGA, where the
investments of that subsidiary are substantially all fixed
interest, projects the cash flows from the current portfolio of
assets and assumes an investment return on reinvestment of surplus
cash flows. The assumed discount and inflation rates are consistent
with the investment return assumptions.
Detailed projection assumptions including mortality, morbidity,
persistency and expenses reflect recent operating experience and
are normally reviewed annually. Allowance is made for future
improvements in annuitant mortality based on experience and
externally published data. Favourable changes in operating
experience are not anticipated until the improvement in experience
has been observed.
All costs relating to the covered business, whether incurred in
the covered business or elsewhere in the Group, are allocated to
that business. The expense assumptions used for the cash flow
projections therefore include the full cost of servicing this
business.
Tax
The projections take into account all tax which is expected to
be paid, based on best estimate assumptions, applying current
legislation and practice together with known future changes.
Allowance for risk
Aggregate risks within the covered business are allowed for
through the following principal mechanisms:
i. setting required capital levels with reference to both the
Group's internal risk based capital models, and an assessment of
the strength of regulatory reserves in the covered business;
ii. allowing explicitly for the time value of financial options
and guarantees within the Group's products; and
iii. setting risk discount rates by deriving a Group level risk
margin to be applied consistently to local risk free rates.
Required capital and free surplus
Regulatory capital for the UK LGAS and LGR businesses is
provided by assets backing the with-profits business or by the SNW.
The SNW comprises all shareholders' capital within Society,
including those funds retained within the long term fund and the
excess assets in LGPL (collectively Society shareholder
capital).
Society shareholder capital is either required to cover EU
solvency margin or is free surplus as its distribution to
shareholders is not restricted.
For UK with-profits business, the required capital is covered by
the surplus within the with-profits part of the fund and no effect
is attributed to shareholders except for the burn-through cost,
which is described later. This treatment is consistent with the
Principles and Practices of Financial Management for this part of
the fund.
For UK non profit business, the required capital will be
maintained at no less than the level of the EU minimum solvency
requirement. This level, together with the margins for adverse
deviation in the regulatory reserves, is, in aggregate, in excess
of internal capital targets assessed in conjunction with the
Individual Capital Assessment (ICA) and the with-profits support
account.
The initial strains relating to new non profit business,
together with the related EU solvency margin, are supported by
releases from existing non profit business and the Society
shareholder capital. As a consequence, the writing of new business
defers the release of capital to free surplus. The cost of holding
required capital is defined as the difference between the value of
the required capital and the present value of future releases of
that capital. For new business, the cost of capital is taken as the
difference in the value of that capital assuming it was available
for release immediately and the present value of the future
releases of that capital. As the investment return, net of tax, on
that capital is less than the risk discount rate, there is a
resulting cost of capital which is reflected in the value of new
business.
For LGA, the Company Action Level (CAL) of capital has been
treated as required capital for modelling purposes. The CAL is the
regulatory capital level at which the company would have to take
prescribed action, such as submission of plans to the State
insurance regulator, but would be able to continue operating on the
existing basis. The CAL is currently twice the level of capital at
which the regulator is permitted to take control of the
business.
For LGN, required capital has been set at 100% of EU minimum
solvency margin for all products without FOGs. For those products
with FOGs, capital of between 100% and 425% of the EU minimum
solvency margin has been used. At total level a check is made to
ensure the total requirement meets the 160% Solvency I (both EEV
and NBVA) from the capital policy. The level of capital has been
determined using risk based capital techniques.
For LGF, 100% of EU minimum solvency margin has been used for EV
modelling purposes for all products both with and without FOGs. The
level of capital has been determined using risk based capital
techniques.
The contribution from new business for our International
businesses reflects an appropriate allowance for the cost of
holding the required capital.
European Embedded Value 110
5.08 Methodology (continued)
Financial options and guarantees
Under the EEV Principles an allowance for time value of FOGs is
required where a financial option exists which is exercisable at
the discretion of the policyholder. These types of option
principally arise within the with-profits part of the fund and
their time value is recognised within the with-profits burn-through
cost described below. Additional financial options for non profit
business exist only for a small amount of deferred annuity business
where guaranteed early retirement and cash commutation terms apply
when the policyholders choose their actual retirement date.
Further financial guarantees exist for non profit business, in
relation to index-linked annuities where capped or collared
restrictions apply. Due to the nature of these restrictions and the
manner in which they vary depending on the prevailing inflation
conditions, they are also treated as FOGs and a time value cost
recognised accordingly.
The time value of FOGs has been calculated stochastically using
a large number of real world economic scenarios derived from
assumptions consistent with the deterministic EEV assumptions and
allowing for appropriate management actions where applicable. The
management action primarily relates to the setting of bonus rates.
Future regular and terminal bonuses on participating business
within the projections are set in a manner consistent with expected
future returns available on assets deemed to back the policies
within the stochastic scenarios.
In recognising the residual value of any projected surplus
assets within the with-profits part of the fund in the
deterministic projection, it is assumed that terminal bonuses are
increased to exhaust all of the assets in the part of the fund over
the future lifetime of the in-force with-profits policies. However,
under stochastic modelling, there may be some extreme economic
scenarios when the total projected assets within the with-profits
part of the fund are insufficient to pay all projected policyholder
claims and associated costs. The average additional shareholder
cost arising from this shortfall has been included in the time
value cost of financial options and guarantees and is referred to
as the with-profits burn-through cost.
Economic scenarios have been used to assess the time value of
the financial guarantees for non profit business by using the
inflation rate generated in each scenario. The inflation rate used
to project index-linked annuities will be constrained in certain
real world scenarios, for example, where negative inflation occurs
but the annuity payments do not reduce below pre-existing levels.
The time value cost of FOGs allows for the projected average cost
of these constrained payments for the index-linked annuities. It
also allows for the small additional cost of the guaranteed early
retirement and cash commutation terms for the minority of deferred
annuity business where such guarantees have been written.
LGA FOGs relate to guaranteed minimum crediting rates and
surrender values on a range of contracts, as well as impacts on
no-lapse guarantees (NLG). The guaranteed surrender value of the
contract is based on the accumulated value of the contract
including accrued interest. The crediting rates are discretionary
but related to the accounting income for the amortising bond
portfolio. The majority of the guaranteed minimum crediting rates
are between 3% and 4%. The assets backing these contracts are
invested in US Dollar denominated fixed interest securities.
LGN separately provides for two types of guarantees: interest
rate guarantees and maturity guarantees. Certain contracts provide
an interest rate guarantee where there is a minimum crediting rate
based on the higher of 1-year Euribor and the policy guarantee
rate. This guarantee applies on a monthly basis. Certain other
linked contracts provide a guaranteed minimum value at maturity
where the maturity amount is the higher of the fund value and a
guarantee amount. The fund values for both these contracts are
invested in Euro denominated fixed interest securities.
For LGF, FOGs which have been separately provided for relate to
guaranteed minimum crediting rates and surrender values on a range
of contracts. The guaranteed surrender value of the contract is the
accumulated value of the contract including accrued bonuses. The
bonuses are based on the accounting income for the amortising bond
portfolios plus income and releases from realised gains on any
equity type investments. Policy liabilities equal guaranteed
surrender values. In general, the guaranteed annual bonus rates are
between 0% and 4.5%.
Risk free rate
The risk free rate is set to reflect both the pattern of the
emerging profits under EEV and the relevant duration of the
liabilities where backing assets reflect this assumption (e.g.
equity returns). For the UK, it is set by reference to the gross
redemption yield on the 15 year gilt index. For LGA, the risk free
rate is the 10 year US Treasury effective yield, while the 10 year
ECB AAA-rated Euro area central government bond par yield is used
for LGN and LGF.
European Embedded Value 111
5.08 Methodology (continued)
Risk discount rate
The risk discount rate (RDR) is a combination of the risk free
rate and a risk margin, which reflects the residual risks inherent
in the Group's covered businesses, after taking account of
prudential margins in the statutory provisions, the required
capital and the specific allowance for FOGs.
The risk margin has been determined based on an assessment of
the Group's weighted average cost of capital (WACC). This
assessment incorporates a beta for the Group, which measures the
correlation of movements in the Group's share price to movements in
a relevant index. Beta values therefore allow for the market's
assessment of the risks inherent in the business relative to other
companies in the chosen index.
The WACC is derived from the Group's cost of equity and debt,
and the proportion of equity to debt in the Group's capital
structure measured using market values. Each of these three
parameters is forward looking, although informed by historic
information and appropriate judgements where necessary. The cost of
equity is calculated as the risk free rate plus the equity risk
premium for the chosen index multiplied by the Company's beta.
Forward-looking or adjusted betas make allowance for the observed
tendency for betas to revert to 1 and therefore a weighted average
of the historic beta and 1 tends to be a better estimate of the
Company's beta for the future period. We have computed the WACC
using an arithmetical average of forward-looking betas against the
FTSE 100 index.
The cost of debt used in the WACC calculations takes account of
the actual locked-in rates for our senior and subordinated long
term debt. All debt interest attracts tax relief at a rate of
20.1%.
Whilst the WACC approach is a relatively simple and transparent
calculation to apply, subjectivity remains within a number of the
assumptions. Management believes that the chosen margin, together
with the levels of required capital, the inherent strength of the
Group's regulatory reserves and the explicit deduction for the cost
of options and guarantees, is appropriate to reflect the risks
within the covered business.
Analysis of profit
Operating profit is identified at a level which reflects an
assumed longer term level of investment return.
The contribution to operating profit in a period is attributed
to four sources:
i. new business;
ii. the management of in-force business;
iii. development costs; and
iv. return on shareholder net worth.
Further profit contributions arise from actual investment return
differing from the assumed long term investment return (investment
return variances), and from the effect of economic assumption
changes.
The contribution from new business represents the value
recognised at the end of each period from new business written in
that period, after allowing for the actual cost of acquiring the
business and of establishing the required technical provisions and
reserves and after making allowance for the cost of capital. New
business contributions are calculated using closing
assumptions.
The contribution from in-force business is calculated using
opening assumptions and comprises:
i. expected return - the discount earned from the value of
business in-force at the start of the year;
ii. experience variances - the variance in the actual experience
over the reporting period from that assumed in the value of
business in-force as at the start of the year; and
iii. operating assumption changes - the effects of changes in
future assumptions, other than changes in economic assumptions from
those used in valuing the business at the start of the year. These
changes are made prospectively from the end of the period.
Development costs relate to investment in strategic systems and
development capability.
The contribution from shareholder net worth comprises the
increase in embedded value based on assumptions at the start of the
year in respect of the expected investment return on the Society
shareholder capital.
Further profit contributions arise from investment return
variances and the effect of economic assumption changes.
Economic variances represent:
i. the effect of actual investment performance and changes to
investment policy on SNW and VIF business from that assumed at the
beginning of the period; and
ii. the effect of changes in economic variables on SNW and VIF
business from that assumed at the beginning of the period, which
are beyond the control of management, including associated changes
to valuation bases to the extent that they are reflected in revised
assumptions.
European Embedded Value 112
Independent review report to Legal & General Group Plc -
EEV
Report on the supplementary interim financial information
Our conclusion
We have reviewed the supplementary interim financial
information, defined below, in the interim management report of
Legal & General Group Plc for the six months ended 30 June
2014. Based on our review, nothing has come to our attention that
causes us to believe that the supplementary interim financial
information is not prepared, in all material respects, in
accordance with the EEV basis set out in Note 5.08.
This conclusion is to be read in the context of what we say in
the remainder of this report.
What we have reviewed
The supplementary interim financial information, which is
prepared by Legal & General Group Plc, comprises:
-- the Group embedded value summary as at 30 June 2014; and
-- the explanatory notes to the supplementary interim financial information.
As disclosed in Note 5.08 the supplementary interim financial
information has been prepared on the European Embedded Value
("EEV") basis.
What a review of supplementary interim financial information
involves
We conducted our review in accordance with International
Standard on Review Engagements (UK and Ireland) 2410, 'Review of
Interim Financial Information Performed by the Independent Auditor
of the Entity' issued by the Auditing Practices Board for use in
the United Kingdom. A review of supplementary interim financial
information consists of making enquiries, primarily of persons
responsible for financial and accounting matters, and applying
analytical and other review procedures.
A review is substantially less in scope than an audit conducted
in accordance with International Standards on Auditing (UK and
Ireland) and, consequently, does not enable us to obtain assurance
that we would become aware of all significant matters that might be
identified in an audit. Accordingly, we do not express an audit
opinion.
We have read the other information contained in the interim
management report and considered whether it contains any apparent
misstatements or material inconsistencies with the information in
the supplementary interim financial information.
Responsibilities for the supplementary interim financial
information and the review
Our responsibilities and those of the directors
The interim management report, including the supplementary
interim financial information, is the responsibility of, and has
been approved by, the directors. The directors are responsible for
preparing the supplementary interim financial information in
accordance with the EEV basis set out in Note 5.08.
Our responsibility is to express to the company a conclusion on
the supplementary interim financial information in the interim
management report based on our review. This report, including the
conclusion, has been prepared for and only for the company and for
no other purpose. We do not, in giving this conclusion, 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.
PricewaterhouseCoopers LLP
Chartered Accountants
5 August 2014
London
Notes:
(a) The maintenance and integrity of the Legal & General
Group Plc website is the responsibility of the directors; the work
carried out by the auditors does not involve consideration of these
matters and, accordingly, the auditors accept no responsibility for
any changes that may have occurred to the financial information
since it was initially presented on the website.
(b) Legislation in the United Kingdom governing the preparation
and dissemination of financial information may differ from
legislation in other jurisdictions.
This information is provided by RNS
The company news service from the London Stock Exchange
END
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