REG - Chesnara PLC - Half Yearly Report <Origin Href="QuoteRef">CSN.L</Origin> - Part 5
29/10/2014 16:08
- Part 5: For the preceding part double click ID:nRSc2947Qd
Segmental expenses (55,517) (32,854) (4,694) (93,065) (163,104) (1,804) (257,973)
Segmental income less expenses 19,120 6,463 2,813 28,396 1,868 (1,580) 28,684
Share of profit from associates - - - - 608 - 608
Profit arising on business combinations - - - - - - -
Financing costs - - - (3) (724) (1,187) (1,914)
Profit/(loss) before tax 19,120 6,463 2,813 28,393 1,752 (2,767) 27,378
Income tax credit/(expense) (6,021) 868 595 (4,558)
Profit/(loss) after tax 22,372 2,620 (2,172) 22,820
(ii) Segmental balance sheet as at 30 June 2014
CA S&P PL Movestic Other Group Activities Total
£000 £000 £000 £000 £000 £000
Total assets 1,840,292 1,212,296 177,339 1,945,101 71,089 5,246,117
Total liabilities (1,768,580) (1,142,965) (119,876) (1,885,696) (77,080) (4,994,197)
Net assets/(liabilities) 71,712 69,331 57,463 59,405 (5,991) 251,920
Investment in associates - - - 4,367 - 4,367
Additions to non-current assets - - - 8,691 - 8,691
(iii) Segmental income statement for the six months ended 30 June 2013
CA S&P UK Total Movestic Other Group Activities Total
£000 £000 £000 £000 £000 £000
Net insurance premium revenue 25,718 3,895 29,613 8,356 - 37,969
Fee and commission income 16,880 1,308 18,188 16,679 - 34,867
Net investment return 98,395 69,684 168,079 70,854 80 239,013
Total revenue (net of reinsurance payable) 140,993 74,887 215,880 95,889 80 311,849
Other operating income 1,802 5,805 7,607 3,375 66 11,048
Segmental income 142,795 80,692 223,487 99,264 146 322,897
Net insurance contract claims and benefits incurred (82,565) (55,742) (138,307) (3,261) - (141,568)
Net change in investment contract liabilities (48,247) (1,799) (50,046) (70,620) - (120,666)
Fees, commission and other acquisition costs (388) (17) (405) (8,969) - (9,374)
Administrative expenses
Amortisation charge on software assets - - - (2,188) - (2,188)
Depreciation charge on property and equipment (22) - (22) (187) - (209)
Other (4,131) (4,985) (9,116) (6,323) (882) (16,321)
Other operating expenses
Charge for amortisation of acquired value of in-force business (1,189) (387) (1,576) (2,148) - (3,724)
Charge for amortisation of acquired value of customer relationships - -- - (153) - (153)
Other (617) (897) (1,514) (3,382) 33 (4,863)
Segmental expenses (137,159) (63,827) (200,986) (97,231) (849) (299,066)
Segmental income less expenses 5,636 16,865 22,501 2,033 (703) 23,831
Share of profit from associates - - - 417 - 417
Financing costs - (4) (4) (1,946) (488) (2,438)
Profit/(loss) before tax 5,636 16,861 22,497 504 (1,191) 21,810
Income tax credit/(expense) (4,722) (122) 277 (4,567)
Profit/(loss) after tax 17,775 382 (914) 17,243
(iv) Segmental balance sheet as at 30 June 2013
CA S&P Movestic Other Group Activities Total
£000 £000 £000 £000 £000
Total assets 1,842,234 1,255,273 1,698,321 58,776 4,854,604
Total liabilities (1,777,161) (1,180,503) (1,638,229) (34,405) (4,630,298)
Net assets/(liabilities) 65,073 74,770 60,092 24,371 224,306
Investment in associates - - 3,392 - 3,392
Additions to non-current assets - 966 8,982 - 9,948
(v) Segmental income statement for the year ended 31 December 2013
CA S&P PL UK Total Movestic Other Group Activities Total
£000 £000 £000 £000 £000 £000 £000
Net insurance premium revenue 49,331 7,325 1,183 57,839 16,630 - 74,469
Fee and commission income 31,893 2,499 - 34,392 35,598 - 69,990
Net investment return 198,807 152,413 (143) 351,077 216,182 204 567,463
Total revenue (net of reinsurance payable) 280,031 162,237 1,040 443,308 268,410 204 711,922
Other operating income 6,484 11,761 - 18,245 4,025 - 22,270
Segmental income 286,515 173,998 1,040 461,553 272,435 204 734,192
Net insurance contract claims and benefits incurred (159,179) (120,333) (249) (279,761) (7,284) - (287,045)
Net change in investment contract liabilities (92,878) (6,163) - (99,041) (215,523) - (314,564)
Fees, commission and other acquisition costs (738) (32) (92) (862) (18,588) - (19,450)
Administrative expenses -
Amortisation charge on software assets - - - - (2,188) - (2,188)
Depreciation charge on property and equipment (22) - - (22) (187) - (209)
Other (7,663) (9,878) (114) (17,655) (14,870) (3,839) (36,364)
Other operating expenses
Charge for amortisation of acquired value of in-force business (2,358) (774) (169) (3,301) (4,229) - (7,530)
Charge for amortisation of acquired value of customer relationships - - - - (301) - (301)
Other (924) (1,143) (391) (2,458) (4,085) 60 (6,483)
Segmental expenses (263,762) (138,323) (1,015) (403,100) (267,255) (3,779) (674,134)
Segmental income less expenses 22,753 35,675 25 58,453 5,180 (3,575) 60,058
Share of profit from associates - - - - 1,252 - 1,252
Profit arising on business combinations - - - - - 2,807 2,807
Financing costs - (4) - (4) (2,140) (1,383) (3,527)
Profit/(loss) before tax 22,753 35,671 25 58,449 4,292 (2,151) 60,590
Income tax credit/(expense) (11,604) (423) 800 (11,227)
Profit/(loss) after tax 46,845 3,869 (1,351) 49,363
(vi) Segmental balance sheet as at 31 December 2013
CA S&P PL Movestic Other Group Activities Total
£000 £000 £000 £000 £000 £000
Total assets 1,898,687 1,263,269 181,059 1,853,374 40,319 5,236,708
Total liabilities (1,823,693) (1,169,406) (125,783) (1,791,943) (78,781) (4,989,606)
Net assets/(liabilities) 74,994 93,863 55,276 61,431 (38,462) 247,102
Investment in associates - - - 4,088 - 4,088
Additions to non-current assets - - 20,211 17,787 - 37,998
5 Borrowings
Unaudited 30 June 31 December
2014 2013 2013
£000 £000 £000
Bank loan 73,190 29,747 73,040
Amount due in relation to financial reinsurance 22,030 20,353 21,337
Total 95,220 50,100 94,377
The bank loan subsisting at 30 June 2014 comprises the following:
· on 7 October 2013 tranche one of a new facility was drawn down, amounting to £30.0m. This facility is unsecured and
is repayable in five increasing annual instalments on the anniversary of the draw down date. The outstanding principal on
the loan bears interest at a rate of 2.25 percentage points above the London Inter-Bank Offer Rate and is repayable over a
period which varies between one and six months at the option of the borrower.
· on 27 November 2013 tranche two of the new loan facility was drawn down, amounting to £31.0m. As with tranche one,
this facility is unsecured and is repayable in five increasing annual instalments on the anniversary of the draw down date.
The outstanding principal on the loan bears interest at a rate of 2.25 percentage points above the London Inter-Bank Offer
Rate and is repayable over a period which varies between one and six months at the option of the borrower.
· on 27 November 2013 a short-term loan of £12.8m was drawn down. This is repayable in full on 27 May 2015. The
outstanding principal on the loan bears interest at a rate of 2.75 percentage points above the London Inter-Bank Offer
Rate.
The fair value of the bank loan at 30 June 2014 was £73,800,000 (31 December 2013: £73,800,000).
The fair value of amounts due in relation to financial reinsurance was £22,209,430 (31 December 2013: £21,657,269). The
fair value of other borrowings is not materially different from their carrying value.
Bank loans are presented net of unamortised arrangement fees. Arrangement fees are recognised in profit or loss using the
effective interest rate method.
6 Financial instruments fair value disclosures
The table below shows the determination of the fair value of financial assets and financial liabilities according to a
three-level valuation hierarchy. Fair values are generally determined at prices quoted in active markets (Level 1).
However, where such information is not available, the Group applies valuation techniques to measure such instruments.
These valuation techniques make use of market-observable data for all significant inputs where possible (Level 2), but, in
some cases it may be necessary to estimate other than market-observable data within a valuation model for significant
inputs (Level 3).
The Group held the following financial instruments at fair value at 30 June 2014. There have not been any transfers of
assets or liabilities between levels of the fair value hierarchy. There are no non-recurring fair value measurements.
Fair value measurement at 30 June 2014 using
Level 1 Level 2 Level 3 Total
£000 £000 £000 £000
Equities
Listed 475,344 - - 475,344
Holdings in collective investment schemes 3,462,938 473 - 3,463,411
Debt securities - fixed rate
Government Bonds 283,542 - - 283,542
Listed 54,236 - - 54,236
Debt securities - floating rate Listed 6,337 - - 6,337
Total debt securities 344,115 - - 344,115
Policyholders' funds held by the group 158,461 - - 158,461
Derivative financial instruments 152 2,272 - 2,424
Total 4,441,010 2,745 - 4,443,755
Current 1,886,788
Non-current 2,556,967
Total 4,443,755
Financial liabilities
Investment contracts at fair value through income 2,333,609 4,253 - 2,337,862
Liabilities related to policyholders' funds held by the group 158,461 - - 158,461
Derivative financial instruments 4 521 - 525
Total 2,492,074 4,774 - 2,496,848
Included within Holdings in collective investment schemes are amounts held with JPMorgan Life Limited through a reinsurance
arrangement, under which the Group has reassured certain unit-linked liabilities. The contract does not transfer
significant insurance risk and is accounted for as Holdings in collective investment schemes, representing the substance of
the arrangement in place. These amounts have been classified as level 2 in the above hierarchy table as the reinsurance
contract itself is not quoted but is valued using market-observable data.
Within derivative financial instruments is a financial reinsurance embedded derivative related to our Movestic operation.
The Group has entered into a reinsurance contract with a third party that has a section that is deemed to transfer
significant insurance risk and a section that is deemed not to transfer significant insurance risk. The element of the
contract that does not transfer significant insurance risk has two components and has been accounted for as a financial
liability at amortised cost and an embedded derivative asset at fair value.
The embedded derivative represents an option to repay the amounts due under the contract early at a discount to the
amortised cost, with its fair value being determined by reference to market interest rate at the balance sheet date. It is,
accordingly, determined at Level 2 in the three-level fair value determination hierarchy set out above.
The Investment contract liabilities in Level 2 of the valuation hierarchy represent the fair value of non-linked and
guaranteed income and growth bonds liabilities valued using established actuarial techniques utilising market observable
data for all significant inputs, such as investment yields.
Except as detailed in the following table, the Directors consider that the carrying value amounts of financial assets and
financial liabilities recorded at amortised cost in the financial statements are approximately equal to their fair values:
Carrying amount Fair value
30 June 30 June 31 December 30 June 30 June 31 December
2014 2013 2013 2014 2013 2013
£000 £000 £000 £000 £000 £000
Financial liabilities:
Borrowings 95,220 50,100 94,377 96,009 50,788 95,457
Borrowings consist of bank loans and an amount due in relation to financial reinsurance.
The fair value of the bank loans are taken as the principal outstanding at the balance sheet date.
The amount due in relation to financial reinsurance is fair valued with reference to market interest rates at the balance
sheet date.
There were no transfers between levels 1, 2 and 3 during the period.
7 Approval of consolidated report for the six months ended 30 June 2014
This condensed consolidated report was approved by the Board of Directors on 28 August 2014. A copy of the report will be
available to the public at the Company's registered office, Harbour House, Portway, Preston, PR2 2PR, UK and at
www.chesnara.co.uk.
EEV BASIS SUPPLEMENTARY INFORMATION
directors' responsibilities statement in respect of the eev basis supplementary information
The Directors have chosen to prepare Supplementary Information in accordance with the EEV Principles issued in May 2004 by
the CFO Forum of European Insurance Companies and expanded by the Additional Guidance on European Embedded Value
Disclosures issued in October 2005.
When compliance with the EEV Principles is stated, those principles require the Directors to prepare supplementary
information in accordance with the Embedded Value Methodology ('EVM') contained in the EEV Principles and to disclose and
explain any non-compliance with the EEV guidance included in the EEV Principles.
In preparing the EEV basis supplementary information, the Directors have:
· Prepared the supplementary information in accordance with the EEV Principles;
· Identified and described the business covered by the EVM;
· Applied the EVM consistently to the covered business;
· Determined assumptions on a realistic basis, having regard to past, current and expected future experience and to
any relevant external data, and then applied them consistently;
· Made estimates that are reasonable and consistent; and
· Described the basis on which business that is not covered business has been included in the supplementary
information, including any material departures from the accounting framework applicable to the Group's financial
statements.
By order of the Board
Peter Mason Graham Kettleborough
Chairman Chief Executive Officer
28 August 2014 28 August 2014
Independent Auditor's Report to the directors of chesnara plc on the EEV basis supplementary information
We have been engaged by the Company to review the EEV Basis Supplementary Information in the half-year financial report for
the six months ended 30 June 2014 which comprises the summarised EEV Consolidated Income Statement, the Summarised EEV
Consolidated Balance Sheet and the related notes 1 to 11. We have read the other information contained in the half-year
financial report and considered whether it contains any apparent misstatements or material inconsistencies with the
information in the EEV Basis Supplementary Information.
We have reported separately on the condensed financial statements of Chesnara plc for the six months ended 30 June 2014.
The information contained in the EEV Basis Supplementary Information should be read in conjunction with the condensed set
of financial statements prepared on an IFRS basis. This information is described within the Chesnara plc condensed set of
financial statements in the half-year financial report as having been reviewed.
This report is made solely to the Company's Directors in accordance with our engagement letter and solely for the purpose
of expressing an opinion as to whether anything has come to our attention that causes us to believe that the EEV Basis
Supplementary Information for the six months ended 30 June 2014 is not prepared, in all material respects, in accordance
with the European Embedded Value ('EEV') principles issued in May 2004 by the European CFO Forum and supplemented by
Additional Guidance on EEV Disclosures issued by the same body in October 2005. Our work has been undertaken so that we
might state to the Company's Directors those matters we are required to state to them in an independent review report and
for no other purpose. To the fullest extent permitted by law, we do not accept or assume responsibility to anyone other
than the Company's Directors, for our review work, for this report, or for the conclusions we have formed.
Directors' responsibilities
The EEV Basis Supplementary Information is the responsibility of, and has been approved by, the Directors. The Directors
are responsible for preparing the EEV Basis Supplementary Information in accordance with the European Embedded Value
('EEV') principles issued in May 2004 by the European CFO Forum and supplemented by Additional Guidance on EEV Disclosures
issued by the same body in October 2005.
Our responsibility
Our responsibility in relation to the EEV Basis Supplementary Information is to express to the Company a conclusion on the
EEV Basis Supplementary Information based on our review.
Scope of review
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 interim financial information consists of making inquiries, 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.
Conclusion
Based on our review, nothing has come to our attention that causes us to believe that the EEV Basis Supplementary
Information for the six months ended 30 June 2014 has not been properly prepared in accordance with the EEV principles
using the methodology and assumptions set out in Notes 3 and 4 to the EEV Basis Supplementary Information.
Deloitte LLP
Chartered Accountants and Statutory Auditor
Manchester,
United Kingdom
28 August 2014
Summarised EEv consolidated income statement(UNAUDITED)
Unaudited Six months ended 30 June Year ended 31 December
2014 2013 2013
Note £000 £000 £000
Operating profit of covered business 6(b) 37,168 4,754 8,901
Other operational result 6(b) (673) (140) (2,276)
Operating profit 36,495 4,614 6,625
Variation from longer-term investment return 6(b) 25,845 20,813 54,646
Effect of economic assumption changes 6(b) (4,612) 12,317 16,447
Profit before tax and before exceptional item 57,728 37,744 77,178
Exceptional items
Profit recognised on business combination 9 - - 12,283
Effect of modelling adjustments 6(a) - 848 4,073
Profit before tax 57,728 38,592 94,074
Tax 6(b) (10,441) (2,315) (7,307)
Profit for the period attributable to the equity holders of the parent company 47,287 36,277 86,767
Earnings per share
Based on profit for the period 41.17p 31.59p 75.55p
Diluted profit per share
Based on profit for the period 41.17p 31.59p 75.55p
Summarised EEV Consolidated Balance Sheet (UNAUDITED)
Unaudited 30 June 31 December
2014 2013 2013
Assets Note £000 £000 £000
Value of in-force business 5, 8 279,305 226,269 262,161
Deferred acquisition costs arising on unmodelled business 447 800 487
Acquired value of customer relationships 323 506 419
Property and equipment 610 576 673
Investment in associate 4,367 3,392 4,088
Deferred tax asset 1,466 793 509
Reinsurers' share of insurance contract provisions 314,501 238,490 328,810
Amounts deposited with reinsurers 33,049 30,788 33,102
Investment properties 5,173 71,303 20,387
Financial assets
Equity securities at fair value through income 475,344 451,639 479,617
Holdings in collective investment schemes at fair value through income 3,463,411 3,205,255 3,440,992
Debt securities at fair value through income 344,115 349,525 370,666
Insurance and other receivables 47,201 34,849 46,382
Prepayments 5,155 3,663 4,889
Policyholders' funds held by the Group 158,461 95,499 130,237
Derivative financial instruments 2,424 2,032 2,956
Total financial assets 4,496,111 4,142,462 4,475,739
Reinsurers' share of accrued policy claims 12,457 8,017 11,399
Income taxes 1,917 2,413 2,608
Cash and cash equivalents 219,290 200,891 184,263
Total assets 5,369,016 4,926,700 5,324,645
Liabilities
Insurance contract provisions 2,267,960 2,183,782 2,323,643
Other provisions 4,052 4,669 5,348
Financial liabilities
Investment contracts at fair value through income 2,346,550 2,165,242 2,293,836
Borrowings 101,084 56,039 100,290
Derivative financial instruments 525 601 387
Liabilities relating to policyholders' funds held by the Group 158,461 95,499 130,237
Total financial liabilities 2,606,620 2,317,381 2,524,750
Reinsurance payables 9,613 14,850 11,154
Payables related to direct insurance and investment contracts 47,425 38,692 47,137
Income taxes 10,756 2,482 8,012
Other payables 20,631 25,838 27,104
Bank overdraft 1,703 1,635 1,127
Total liabilities 4,968,760 4,589,329 4,948,275
Net assets 400,256 337,371 376,370
Equity
Share capital 42,024 42,024 42,024
Share premium 42,526 42,525 42,526
Treasury shares (212) (213) (212)
Foreign exchange reserve 3,884 18,242 13,927
Other reserves 50 50 50
Retained earnings 311,984 234,743 278,055
Total shareholders' equity 5, 8 400,256 337,371 376,370
Approved by the Board of Directors on 28 August 2014 and signed on its behalf by:
David Rimmington Graham Kettleborough
Finance Director Chief Executive Officer
Notes to the EEV Supplementary Information (unaudited)
1 Basis of preparation
This section sets out the detailed methodology followed for producing these Group financial statements which are
supplementary to the Group's primary financial statements which have been prepared in accordance with International
Financial Reporting Standards ('IFRS'), as adopted by the EU. These financial statements have been prepared in accordance
with the European Embedded Value ('EEV') principles issued in May 2004 by the European CFO Forum and supplemented by
Additional Guidance on EEV Disclosures issued by the same body in October 2005. The principles provide a framework intended
to improve comparability and transparency in embedded value reporting across Europe.
In order to improve understanding of the Group's financial position and performance, certain of the information presented
in these financial statements is presented on a segmental basis: the business segments are the same as those described in
Note 4 to the condensed consolidated interim financial statements prepared on the IFRS basis.
2 Covered business
The Group uses EEV methodology to value the bulk of its long-term business (the 'covered business'), which is written
primarily in the UK and Sweden, as follows:
(i) for the UK Business ,the covered business of CA and S&P comprises the business's long-term business being those
individual life insurance, pensions and annuity contracts falling under the definition of long-term insurance business for
UK regulatory purposes. The covered business for the PL segment comprises the business's long-term protection business and
Payment Protection Insurance business.
(ii) for the Swedish Business (comprising the Movestic segment), the covered business comprises the business's long-term
pensions and savings unit-linked business. Group life and sickness business, including waiver of premium and non-linked
individual life assurance policies are not included in the covered business: the result relating to this business is
established in accordance with IFRS principles and is included within 'other operational result' within the consolidated
summarised income statement.
(iii) The operating expenses of the holding company, Chesnara plc, are allocated across the segments.
Under EEV principles no distinction is made between insurance and investment contracts, as there is under IFRS, which
accords these classes of contracts different accounting treatments.
3 Methodology
(a) Embedded Value
Overview
Shareholders' equity comprises the embedded value of the covered business, together with the net equity of other Group
companies, including that of the holding company which is stated after writing down fully the carrying value of the covered
business.
The embedded value of the covered business is the aggregate of the shareholder net worth ('SNW') and the present value of
future shareholder cash flows from in-force covered business (value of in-force business) less any deduction for (i) the
cost of guarantees within S&P, and (ii) the cost of required capital. It is stated after allowance has been made for
aggregate risks in the business. SNW comprises those amounts in the long-term business, which are either regarded as
required capital or which represent surplus assets within that business.
New business
CA, S&P and PL
Much of the covered business is in run-off and is, accordingly, substantially closed to new business. Up to 31 December
2012 the UK businesses did still sell a small amount of new business but, overall, the contribution from new business to
the results established using EEV methodology is not material. Accordingly, not all of those items related to new business
values, which are recommended by the EEV guidelines, are reported in this supplementary financial information.
Movestic
New business, in relation to the pensions and savings covered business is taken as all business where contracts are signed
and new premiums paid during the reporting period, for both new policies and premium increases on existing business, but
excluding standard renewals. New business premium volumes as disclosed in "Swedish Business Review" are not consistent
with this definition, as they include non-covered business.
New business premium volumes for the period are as follows:
Pensions and savings covered business Unaudited Six months ended 30 June Year ended31 December
2014£m 2013£m 2013£m
New business premium income 31.2 19.9 46.0
Regular premium increments 10.0 8.1 16.0
Total new business premium income* 41.2 28.0 62.0
* Basis: annualised premium plus 1/10 single premium translated into sterling at the 2014 average rate of SEK 10.9034= £1
(2013: SEK 10.1901) = £1).
The new business contribution has been assessed as at the end of the period, using opening assumptions.
Value of in-force business
The cash flows attributable to shareholders arising from in-force business are projected using best estimate assumptions
for each component of cash flow.
The present value of the projected cash flows is established by using a discount rate which reflects the time value of
money and the risks associated with the cash flows which are not otherwise allowed for. There is a deduction for the cost
of holding the required capital, as set out below.
In respect of Movestic there are certain non-linear exposures of shareholder profit to asset returns arising from variable
administrative fees and variable investment fund rebates which are modelled deterministically rather than stochastically.
Participating business
For participating business within the S&P business the Group maintains the assets and liabilities in separate with-profits
funds. In accordance with the Principles and Practices of Financial Management, in the first instance all benefits, which
in some cases include guaranteed minimum investment returns, are paid from policyholder assets within the fund. The
participating business effectively operates as a smoothed unit-linked contract subject to minimum benefit guarantees. The
with-profits funds contain assets which are attributable to shareholders as well as those attributable to policyholders.
Assets attributable to shareholders can only be released from the fund subject to meeting prudent liabilities in respect of
minimum benefits and the frictional cost of this restriction has been allowed for in determining the value of the in-force
business.
Fundamentally, the value of the with-profits in-force business is driven by the fund management charges levied on the
policyholder assets, subject to the effect of minimum benefit guarantees.
Taxation
The present value, of the projected cash flows arising from in-force business takes into account all tax which is expected
to be paid under current legislation, including tax which would arise if surplus assets within the covered business were
eventually to be distributed. For the UK business, allowance has been made for planned reductions in corporation tax, as
announced by the Chancellor in his budget speech on 20 March 2013.
The value of the in-force business has been calculated on an after-tax basis and is grossed up to the pre-tax level for
presentation in the income statement. The amount used for the grossing up is the amount of shareholder tax, excluding those
payments made on behalf of policyholders, being policyholder tax in the UK businesses and yield tax in Movestic.
Cost of capital
The valuation approach used requires consideration of 'frictional' costs of holding shareholder capital: in particular, the
cost of tax on investment returns and the impact of investment management fees can reduce the face value of shareholder
funds. For CA, the expenses relating to corporate governance functions eliminate any taxable investment return in
shareholder funds, while investment management fees are not material. The cost of holding the required capital to support
the covered business (see 3(b) below) is reflected as a deduction from the value of in-force business.
Financial options and guarantees
CA
The principal financial options and guarantees in CA are (i) guaranteed annuity rates offered on some unit-linked pension
contracts and (ii) a guarantee offered under Timed Investment Funds that the unit price available at the selected maturity
date (or at death, if earlier) will be the highest price attained over the policy's life. The cost of these options and
guarantees has been assessed, in principle, on a market-consistent basis, but, in practice, this has been carried out on
approximate bases, which are appropriate to the level of materiality of the results.
S&P
The principal financial options and guarantees in S&P are (i) minimum benefits payable on maturity or retirement for
participating business; (ii) the option to extend the term under the Personal Retirement Account contract on terms
potentially beneficial to the policyholder; (iii) the option to increase premiums under the Personal Retirement Account
contract on terms potentially beneficial to the policyholder; and (iv) certain insurability options offered.
The cost of guaranteeing a minimum investment return on participating contracts, being the only material guarantee, has
been assessed on a market consistent basis. This has involved the use of a stochastic asset model, which is designed to
establish a cost of guarantees which is consistent with prices in the market at the valuation date, for example the prices
of derivative instruments. For the remaining options and guarantees the cost has been assessed on an approximate basis,
appropriate to the level of materiality of the results.
PL
There are no material financial options and guarantees within PL.
Movestic
In respect of Movestic, some contracts provide policyholders with an investment guarantee, whereby a minimum rate of return
is guaranteed for the first 5 years of the policy, at a rate of 3% per annum. The value of the guarantee is ignored as it
is not material to the results.
Allowance for risk
Allowance for risk within the covered business is made by:
(i) setting required capital levels by reference to the assessment of capital needs made by the Directors of the
regulated entities within the respective businesses;
(ii) setting the risk discount rate, which is applied to the projected cash flows arising on the in-force business, at
a level which includes an appropriate risk margin (see 3(c) below); and
(iii) explicit allowance for the cost of financial options and guarantees and, where appropriate, for reinsurer
default.
Internal group company
EEV Guidance requires that actual and expected profit or loss incurred by an internal group company on services provided to
the covered business should be included in allowances for expenses. The covered business in Movestic is partially managed
by an internal group fund management company. Not all relevant future income and expenses of that company have been
included in the calculation of embedded value. However, the effect is not considered to be material.
Consolidation adjustments
Consolidation adjustments have been made to:
(i) eliminate the investment in subsidiaries;
(ii) allocate group debt finance against the segment to which it refers; and
(iii) allocate corporate expenses as explained in note 4(d) below.
(b) Level of required capital
The level of required capital of the covered business reflects the amount of capital that the Directors consider necessary
and appropriate to manage the respective businesses. In forming their policy the Directors have regard to the minimum
statutory requirements and an internal assessment of the market, insurance and operational risks inherent in the underlying
products and business operations. The capital requirement resulting from this assessment represents:
(i) for CA plc (comprising the CA and S&P segments), 162.5% of the long-term insurance capital requirement ('LTICR')
together with 100% of the resilience capital requirement ('RCR'), as determined by the regulations of the Prudential
Regulatory Authority in the UK;
(ii) for PL, 150% of the long-term insurance capital requirement ('LTICR'), as determined by the regulations of the
Prudential Regulatory Authority; and
(iii) for Movestic, 150% of the regulatory solvency requirement as determined by Finansinspektionen in Sweden.
The required level of regulatory capital is provided as follows:
(i) for the UK Business, by the retained surplus within the long-term business fund and by share capital and retained
earnings within the shareholder funds of the regulated entity; and
(ii) for Movestic, by share capital and additional equity contributions from the parent company, net of the accumulated
deficit in the regulated entity, these components together comprising shareholder's equity.
Movestic is reliant, in the short to medium term, on further equity contributions from the parent company, Chesnara plc.
(c) Discount rates
The discount rates are a combination of the reference rate and a risk margin. The reference rate reflects the time value of
money and the risk margin reflects any residual risks inherent in the covered business and makes allowance for the risk
that future experience will differ from that assumed. In order to reduce the subjectivity when setting the discount rates,
the Group has decided to adopt a 'bottom up' market-consistent approach to allow explicitly for market risk.
Using the market-consistent approach, each cash flow is valued at a discount rate consistent with that used in the capital
markets: in accordance with this, equity-based cash flows are discounted at an equity discount rate and bond-based cash
flows at a bond discount rate. In practice a short-cut method known as the 'certainty equivalent' approach has been
adopted. This method assumes that all cash flows earn the reference rate of return and are discounted at the reference
rate.
In general, and consistent with the market's approach to valuing financial instruments for hedging purposes, the reference
rate is based on swap yields. These have been taken as mid swap yields available in the market at the end of the reporting
period.
Allowance also needs to be made for non-market risks. For some of these risks, such as mortality and expense risk, it is
assumed that the shareholder can diversify away any uncertainty where the impact of variations in experience on future cash
flows is symmetrical. For those risks that are assumed to be diversifiable, no adjustment has been made. For any remaining
risks that are considered to be non-diversifiable risks, there is no risk premium observable in the market and, therefore,
a constant margin has been added to the risk margin. The margin added reflects the assumed risks within the businesses and
is 50 basis points for CA, S&P and PL (as at 30 June 2013 and 31 December 2013: 50 basis points), and 100 basis points for
Movestic (30 June 2013: 70 basis points and 31 December 2013: 100 basis points). This margin is applied to the basic value
of in-force business prior to the deductions for financial options and guarantees and the cost of required capital.
(d) Analysis of profit
The contribution to operating profit, which is identified at a level which reflects an assumed longer-term level of
investment return, arises from three sources:
(i) new business;
(ii) return from in-force business; and
(iii) return from shareholder net worth.
Additional contributions to profit arise from:
(i) variances between the actual investment return in the period and the assumed long-term investment return; and
(ii) the effect of economic assumption changes.
The contribution from new business represents the value recognised at the end of each period in respect of new business
written in that period, after allowing for the cost of acquiring the business, the cost of establishing the required
technical provisions and after making allowance for the cost of capital, calculated on opening assumptions.
The return from in-force business is calculated using closing assumptions and comprises:
(i) the expected return, being the unwind of the discount rates over the period applied to establish the value of
in-force business at the beginning of the period;
(ii) variances between the actual experience over the period and the assumptions made to establish the value of
business in force at the beginning of the period; and
(iii) the net effect of changes in future assumptions, made prospectively at the end of the period, from those used in
establishing the value of business in force at the
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