Interim Results - Part 2

Aviva PLC 09 August 2006 Part 2 of 4 EEV basis -------------------------------------------------------------------------------------------------------------------- PAGE 24 Summarised consolidated income statement - EEV basis For the six months ended 30 June 2006 Page 6 months 6 months 6 months Full year 2006 2006 2005 2005 â‚¬m Â£m Â£m Â£m Operating profit before tax attributable to shareholders' profits 31 1,501 Life EEV operating return 1,021 857 1,814 56 49 Fund management* 33 26 83 57 1,274 General insurance and health 866 694 1,551 Other: 58 42 Other operations** 29 37 28 59 (107) Corporate costs (73) (83) (136) 59 (260) Unallocated interest charges (177) (213) (436) -------------------------------------------------------------------------------------------------------------------- 2,499 Operating profit before tax attributable to shareholders' profits 1,699 1,318 2,904 Adjusted for the following: - Impairment of goodwill - (10) (43) (15) Amortisation and impairment of intangibles (10) (8) (21) 9 Financial Services Compensation Scheme and other levies 6 - - (1,389) Variation from longer-term investment return (944) 839 2,805 693 Effect of economic assumption changes 471 (531) (406) 54 126 Profit on the disposal of subsidiaries and associates 86 145 153 55 (35) Integration costs (24) (14) (109) --------------------------------------------------------------------------------------------------------------------- 1,888 Profit before tax 1,284 1,739 5,283 (843) Tax on operating profit (573) (412) (927) 73 Tax on other activities 49 (118) (674) -------------------------------------------------------------------------------------------------------------------- 1,118 Profit for the period 760 1,209 3,682 ==================================================================================================================== Attributable to: 991 Equity shareholders of Aviva plc 674 1,120 3,470 127 Minority interests 86 89 212 -------------------------------------------------------------------------------------------------------------------- 1,118 760 1,209 3,682 ==================================================================================================================== All profit is from continuing operations. * Excludes the proportion of the results of Morley's fund management businesses and of our French asset management operation Aviva Gestion d'Actifs (AGA) that arises from the provision of fund management services to our life businesses. These results are included within the Life EEV operating return. ** Excludes the proportion of the results of Norwich Union Life Services relating to the services provided to the UK Life business. These results are included within the Life EEV operating return. Other subsidiaries providing services to our life businesses do not materially impact the Group results. Earnings per share - EEV basis For the six months ended 30 June 2006 6 months 6 months 6 months Full year 2006 Earnings per share 2006 2005 2005 Operating profit on an EEV basis after tax, attributable to ordinary shareholders in respect of Aviva plc 61.9c Basic (pence per share) 42.1p 35.6p 74.5p 61.3c Diluted (pence per share) 41.7p 35.2p 73.9p Profit after tax for the period on an EEV basis, attributable to ordinary shareholders of Aviva plc 40.7c Basic (pence per share) 27.7p 48.3p 146.3p 40.3c Diluted (pence per share) 27.4p 47.8p 145.1p -------------------------------------------------------------------------------------------------------------------- PAGE 25 Summarised consolidated statement of recognised income and expense - EEV basis For the six months ended 30 June 2006 6 months 6 months 6 months Full year 2006 2006 2005 2005 â‚¬m Â£m Â£m Â£m Fair value (losses)/gains on AFS securities, owner-occupied properties (84) and hedging instruments (57) (79) 92 (6) Fair value (losses)/gains transferred to profit (4) 74 14 - Impairment losses on revalued assets - - (45) 695 Actuarial gains/(losses) on pension schemes 473 (46) (547) - Share of fair value changes in joint ventures and associates taken - 4 - to equity (35) Foreign exchange rate movements (24) (340) (44) (194) Aggregate tax effect - shareholder tax (132) 18 224 -------------------------------------------------------------------------------------------------------------------- 376 Net income/(expense) recognised directly in equity 256 (369) (306) 1,118 Profit for the period 760 1,209 3,682 -------------------------------------------------------------------------------------------------------------------- 1,494 Total recognised income and expense for the period 1,016 840 3,376 ==================================================================================================================== Attributable to: 1,369 Equity shareholders of Aviva plc 931 774 3,184 125 Minority interests 85 66 192 -------------------------------------------------------------------------------------------------------------------- 1,494 1,016 840 3,376 ==================================================================================================================== Summarised reconciliation of movements in consolidated shareholders' funds - EEV basis For the six months ended 30 June 2006 6 months 6 months 6 months Full year 2006 2006 2005 2005 â‚¬m Â£m Â£m Â£m 25,429 Balance at 1 January 17,546 14,011 14,011 1,472 Total recognised income and expense for the period 1,016 840 3,376 (619) Dividends and appropriations (note 15) (427) (373) (657) - Issue of share capital for the acquisition of RAC plc - 530 530 68 Other issues of share capital, net of transaction costs 47 27 59 112 Shares issued in lieu of dividends 77 12 100 51 Capital contribution from minority shareholders 35 93 212 (83) Minority share of dividends declared in the period (57) (36) (70) 323 Minority interest in acquired/(disposed) subsidiaries 223 - (36) 7 Reserves credit for equity compensation plans 5 2 22 - Other movements - - (1) -------------------------------------------------------------------------------------------------------------------- 26,760 Total equity 18,465 15,106 17,546 (2,525) Minority interests (1,743) (1,283) (1,457) -------------------------------------------------------------------------------------------------------------------- 24,235 Balance at 30 June / 31 December 16,722 13,823 16,089 ==================================================================================================================== -------------------------------------------------------------------------------------------------------------------- PAGE 26 Summarised consolidated balance sheet - EEV basis As at 30 June 2006 30 June 30 June 30 June 31 December 2006 2006 2005 2005 â‚¬m Â£m Â£m Â£m Assets 3,386 Goodwill 2,336 2,289 2,274 1,455 Acquired value of in-force business and intangible assets 1,004 918 803 9,195 Additional value of in-force long-term business 6,345 5,335 6,454 3,507 Investments in joint ventures 2,420 1,394 2,129 1,300 Investments in associates 897 893 885 1,280 Property and equipment 883 875 885 20,451 Investment property 14,111 11,073 13,275 35,477 Loans 24,479 21,921 24,544 Financial investments 144,132 Debt securities 99,451 98,739 103,917 79,281 Equity securities 54,704 47,905 52,044 44,611 Other investments 30,782 22,734 26,427 10,998 Reinsurance assets 7,589 8,780 7,130 949 Deferred tax assets 655 839 1,018 125 Current tax assets 86 49 87 12,550 Receivables and other financial assets 8,660 9,575 7,706 5,422 Deferred acquisition costs and other assets 3,741 3,215 3,766 4,338 Prepayments and accrued income 2,993 2,580 2,363 22,128 Cash and cash equivalents 15,268 14,405 13,732 1,461 Assets of operations classified as held for sale 1,008 111 462 -------------------------------------------------------------------------------------------------------------------- 402,046 Total assets 277,412 253,630 269,901 ==================================================================================================================== Equity 875 Ordinary share capital 604 594 599 6,493 Capital reserves 4,480 4,411 4,438 1,116 Other reserves 770 509 834 4,984 Retained earnings 3,439 2,079 2,597 9,042 Additional retained profit on an EEV basis 6,239 5,040 6,431 -------------------------------------------------------------------------------------------------------------------- 22,510 Equity attributable to ordinary shareholders of Aviva plc 15,532 12,633 14,899 1,725 Preference share capital and direct capital instrument 1,190 1,190 1,190 2,525 Minority interests 1,743 1,283 1,457 -------------------------------------------------------------------------------------------------------------------- 26,760 Total equity 18,465 15,106 17,546 ==================================================================================================================== Liabilities 192,852 Gross insurance liabilities 133,068 128,060 132,602 120,081 Gross liability for investment contracts 82,856 71,005 77,309 11,935 Unallocated divisible surplus 8,235 7,732 8,978 4,464 Net asset value attributable to unitholders 3,080 2,469 3,137 3,426 Provisions 2,364 2,501 2,875 3,367 Deferred tax liabilities 2,323 1,655 2,458 1,387 Current tax liabilities 957 1,077 1,033 16,043 Borrowings 11,070 10,700 11,013 13,596 Payables and other financial liabilities 9,381 8,774 9,485 6,935 Other liabilities 4,785 4,518 3,320 1,200 Liabilities of operations classified as held for sale 828 33 145 ==================================================================================================================== 375,286 Total liabilities 258,947 238,524 252,355 -------------------------------------------------------------------------------------------------------------------- -------------------------------------------------------------------------------------------------------------------- 402,046 Total equity and liabilities 277,412 253,630 269,901 ==================================================================================================================== -------------------------------------------------------------------------------------------------------------------- PAGE 27 Segmentation of summarised consolidated balance sheet - EEV basis As at 30 June 2006 31 December 30 June 2006 30 June 2005 2005 ---------------------------------- ---------------------------------- Life and General Life and General related business related business businesses and other Group businesses and other Group Group Â£m Â£m Â£m Â£m Â£m Â£m Â£m Total assets before acquired additional value of in-force long-term business 231,790 38,916 270,706 211,209 36,760 247,969 263,132 Acquired additional value of in-force long-term business 361 - 361 326 - 326 315 -------------------------------------------------------------------------------------------------------------------- Total assets included in the statutory IFRS balance sheet 232,151 38,916 271,067 211,535 36,760 248,295 263,447 ==================================================================================================================== Liabilities of the long-term business (222,264) - (222,264) (203,113) - (203,113) (215,624) Liabilities of the general insurance and other businesses - (36,683) (36,683) - (35,411) (35,411) (36,731) -------------------------------------------------------------------------------------------------------------------- Net assets on a statutory IFRS basis 9,887 2,233 12,120 8,422 1,349 9,771 11,092 Additional value of in-force long-term business* 6,345 - 6,345 5,335 - 5,335 6,454 -------------------------------------------------------------------------------------------------------------------- Net assets on an EEV basis** 16,232 2,233 18,465 13,757 1,349 15,106 17,546 ==================================================================================================================== Equity capital, capital reserves, shares held by employee trusts and other reserves 5,854 5,514 5,871 IFRS basis retained earnings 3,439 2,079 2,597 Additional EEV basis retained profit 6,239 5,040 6,431 -------------------------------------------------------------------------------------------------------------------- Equity attributable to ordinary shareholders of Aviva plc on an EEV basis 15,532 12,633 14,899 Preference share capital and direct capital instrument 1,190 1,190 1,190 Minority interests 1,743 1,283 1,457 -------------------------------------------------------------------------------------------------------------------- EEV basis total equity 18,465 15,106 17,546 ==================================================================================================================== * The analysis between the Group's and the minority interest's share of the additional value of in-force long-term business is as follows: 30 June 31 December Movement in 2006 2005 the period Â£m Â£m Â£m Group's share included in shareholders' funds 6,239 6,431 (192) Minority interest share 339 329 10 Movement in AFS securities (233) (306) 73 -------------------------------------------------------------------------------------------------------------------- Balance at 30 June / 31 December 6,345 6,454 (109) ==================================================================================================================== ** Analysis of net assets on an EEV basis is made up as follows: 30 June 30 June 31 December 2006 2005 2005 Â£m Â£m Â£m Long-term business net assets on an EEV basis 16,232 13,757 15,598 -------------------------------------------------------------------------------------------------------------------- Comprises: Embedded value 15,532 12,989 15,113 RBSG goodwill 217 217 217 Goodwill and other intangibles allocated to long-term business 696 551 631 Notional allocation of IAS 19 pension fund deficit to long-term business*** (213) - (363) -------------------------------------------------------------------------------------------------------------------- Long-term business net assets on an EEV basis 16,232 13,757 15,598 ==================================================================================================================== *** Effective from 31 December 2005, the value of the Aviva Staff Pension Scheme deficit has been notionally allocated between segments, based on current funding and the life proportion has been included within the long-term business net assets on an EEV basis. Accordingly, 30 June 2005 figures have not been restated. --------------------------------------------------------------------------------------------------------------------- PAGE 28 Basis of preparation - EEV basis The consolidated income statement and balance sheet on pages 24 to 27 present the Group's results and financial position for the life and related businesses on the European Embedded Value (EEV) basis and for its non-life businesses on the International Financial Reporting Standards (IFRS) basis. The EEV methodology adopted is in accordance with the EEV Principles introduced by the CFO Forum in May 2004. In October 2005 the CFO Forum published Additional Guidance on EEV Disclosures applicable for financial reporting for the year ending 31 December 2006 which has been reflected as far as is possible in this interim announcement, in accordance with our previous reporting. In the Directors' opinion, the EEV basis provides a more accurate reflection of the performance of the Group's life and related operations year on year than results presented under the IFRS basis. The Directors consider that the EEV methodology represents a more meaningful basis of reporting the underlying value of the Group's life and related businesses and the underlying drivers of performance. This basis allows for the impact of uncertainty in the future investment returns more explicitly and is consistent with the way the business is priced and managed. The Group's approach to establishing economic assumptions (specifically investment returns, required capital and discount rates) was reviewed by Tillinghast, a firm of actuarial consultants, at the time of adopting the EEV Principles in 2004. The approach is based on the well-established capital asset pricing model theory and is in line with the EEV Principles and Guidance. The results for the 6 month periods to 30 June 2006 and 30 June 2005 are unaudited but have been reviewed by our auditors. Their report in respect of 30 June 2006 is included in the interim report on page 78 of that document. The interim accounts do not constitute statutory accounts as defined by section 240 of the Companies Act 85. The results for the full year 2005 have been taken from the Group's 2005 Annual Report and Accounts. Covered business The EEV calculations cover the following lines of business: life insurance, long-term health and accident insurance, savings, pensions and annuity business written by our life insurance subsidiaries, including managed pension fund business and our share of the other life and related business written in our associated undertakings and joint ventures, as well as the equity release business written in the UK. The adoption of IFRS has resulted in no change to the Group's definition of new business under EEV and so includes contracts that meet the definition of 'non-participating investment' contracts under IFRS. Covered business includes the Group's share of our joint venture operations including our arrangement with The Royal Bank of Scotland Group (RBSG) and our operations in India and China. In addition, the results of Group companies providing significant administration, investment management and other services and of Group holding companies have been included to the extent that they relate to covered business. Together these businesses are referred to as 'Life and related businesses'. New business premiums New business premiums include: â€¢ premiums arising from the sales of new contracts during the year; â€¢ non-contractual additional premiums, including future Department of Work and Pensions (DWP) rebate premiums; and â€¢ expected renewals on new contracts and expected future contractual alterations to new contracts. For products sold to individuals, premiums are generally considered to represent new business in certain circumstances, including where a new contract has been signed, or where underwriting has been performed. Renewal premiums include contractual renewals, non-contractual variations that are reasonably predictable and recurrent single premiums that are pre-defined and reasonably predictable. For group products, new business includes new contracts and increases to aggregate premiums under existing contracts. Renewal premiums are based on the level of premium received during the reporting period and allow for premiums expected to be received beyond the expiry of any guaranteed premium rates. Foreign exchange adjustments Embedded value and other balance sheet items denominated in foreign currencies have been translated to sterling using the appropriate closing exchange rate. New business contribution and other income statement items have been translated using an average exchange rate for the relevant period. The exchange rates adopted in this announcement are shown on page 51. EEV methodology Overview Under the EEV methodology, profit is recognised as it is earned over the life of products defined within covered business. The total profit recognised over the lifetime of a policy is the same as under the IFRS basis of reporting, but the timing of recognition is different. Calculation of the embedded value The shareholders' interest in the life and related businesses is represented by the embedded value. The embedded value is the total of the net worth of the life and related businesses and the value of in-force covered business. Calculations are performed separately for each business and are based on the cash flows of that business, after allowing for both external and intra-group reinsurance. Where one life business has an interest in another life business, the net worth of that business excludes the interest in the dependent company. --------------------------------------------------------------------------------------------------------------------- PAGE 29 The embedded value is calculated on an after-tax basis applying current legislation and practice together with future known changes. Profits are then grossed up for tax at the full rate of corporation tax for the UK and at an appropriate rate for each of the other countries based on opening year tax rates. Net worth The net worth is the market value of the shareholders' funds and the shareholders' interest in the surplus held in the non-profit component of the long-term business funds, determined on a statutory solvency basis and adjusted to add back any non-admissible assets, and consists of the required capital and free surplus. Required capital is reported net of implicit items permitted on a local regulatory basis to cover minimum solvency margins which are assessed at a local entity basis. The level of required capital for each business, which ranges between 100% and 150% of the EU minimum solvency requirement for our main European businesses, reflects the level of capital considered by the Directors to be appropriate to manage the business, allowing for our internal assessment of the level of market, insurance and operating risk inherent in the underlying products. The same definition of required capital is used for both existing and new business. The free surplus comprises the market value of shareholder assets in excess of local statutory reserves and required capital. Value of in-force covered business The value of in-force covered business is the present value at the appropriate risk discount rate (which incorporates a risk margin) of the distributable profits to shareholders arising from the in-force covered business projected on a best estimate basis, less a deduction for the cost of holding the required level of capital. In the UK, shareholders' distributable profits arise when they are released following actuarial valuations. These valuations are carried out in accordance with statutory requirements designed to ensure and demonstrate solvency in long-term business funds. Future distributable profits will depend on experience in a number of areas such as investment return, discontinuance rates, mortality, administration costs, as well as management and policyholder actions. Releases to shareholders arising in future years from the in-force covered business and associated required capital can be projected using best estimate assumptions of future experience. In overseas businesses generally, there are similar requirements restricting payments to shareholders from life businesses. The value of in-force covered business includes an allowance for the impact of financial options and guarantees arising from best estimate assumptions (the intrinsic value) and from additional costs related to the variability of investment returns (the time value). The intrinsic value is included in the underlying value of the in-force covered business using deterministic assumptions. The time value of financial options and guarantees has been determined using stochastic modelling techniques. Stochastic modelling typically involves projecting the future cash flows of the business under thousands of economic scenarios that are representative of the possible future outcomes for market variables such as interest rates and equity returns. Allowance is made, where appropriate, for the effect of management and/or policyholder actions in different economic conditions on future assumptions such as asset mix, bonus rates and surrender rates. The time value is determined by deducting the average value of shareholder cash flows under these economic scenarios from the deterministic shareholder value under best estimate assumptions. The cost of holding required capital is the difference between the required capital and the present value at the appropriate risk discount rate of the projected release of the required capital and investment earnings on the assets deemed to back the required capital. Where the required capital is covered by policyholder assets, for example in the UK with-profit funds, there is no impact of cost of capital on shareholder value. The assets regarded as covering the required capital are those that the operation deems appropriate. The value of in-force covered business includes the capitalised value of profits and losses arising from subsidiary companies providing administration, investment management and other services to the extent that they relate to covered business. This is referred to as the 'look through' into service company expenses. In addition, expenses arising in holding companies that relate directly to acquiring or maintaining covered business have been allowed for. Where external companies provide services to the life and related businesses, their charges have been allowed for in the underlying projected cost base. Risk discount rates Under the EEV methodology, a risk discount rate (RDR) is required to express a stream of expected future distributable profits as a single value at a particular date (the present value). It is the interest rate that an investment equal to the present value would have to earn in order to be able to replicate exactly the stream of future profits. The RDR is a combination of a risk free rate to reflect the time value of money plus a risk margin to make prudent allowance for the risk that experience in future years may differ from that assumed. In particular, a risk margin is added to allow for the risk that expected additional returns on certain asset classes (e.g. equities) are not achieved. Risk discount rates for our life businesses have been calculated using a risk margin based upon a Group Weighted Average Cost of Capital (WACC). The Group WACC is calculated using a gross risk free interest rate, an equity risk margin, a market assessed risk factor (beta), and an allowance for the gearing impact of debt financing (including subordinated debt) on a market value basis. The market assessed risk factor captures the market's view of the effect of all types of risk on our business, including operational and other non-economic risk. The RDR is only one component of the overall allowance for risk in EEV calculations. Risk is also allowed for in the cost of holding statutory reserving margins, additional required capital and in the time value of options and guarantees. Hence to derive the RDR the Group WACC is adjusted to reflect the average level of required capital assumed to be held, and to reflect the explicit valuation of the time value of options and guarantees. --------------------------------------------------------------------------------------------------------------------- PAGE 30 In order to derive risk discount rates for each of our life businesses, the adjusted Group WACC is expressed as a risk margin in excess of the gross risk free interest rate used in the WACC calculation as described above. Business-specific discount rates are then calculated as the sum of this risk margin and the appropriate local gross risk free rate at the valuation date, based on returns on government bonds. A common risk free rate, and hence a common RDR, is used for all of our businesses within the Eurozone. Additional country-specific risk margins are applied to smaller businesses to reflect additional economic, political and business-specific risk. For example, risk margins ranging from 3.7% to 8.7% are applied to the Group's eastern European and Asian operations. Within each business, a constant RDR has been applied in all future time periods and in each of the economic scenarios underlying the calculation of the time value of options and guarantees. At each valuation date, the risk margin is reassessed based on current economic factors and is updated only if a significant change has occurred. In particular, changes in risk profile arising from movements in asset mix are allowed for via the updated risk margin calculation. Participating business Future regular bonuses on participating business are projected in a manner consistent with current bonus rates and expected future returns on assets deemed to back the policies. For with-profit funds in the UK and Ireland, for the purpose of recognising the value of the estate, it is assumed that terminal bonuses are increased to exhaust all of the assets in the fund over the future lifetime of the in-force with-profit policies. However, under stochastic modelling there may be some extreme economic scenarios when the total assets in the Group's with-profit funds are not sufficient to pay all policyholder claims. The average additional shareholder cost arising from this shortfall has been included in the time value of options and guarantees. For profit sharing business in continental Europe, where policy benefits and shareholder value depend on the timing of realising gains, apportionment of unrealised gains between policyholders' benefits and shareholders reflect contractual requirements as well as existing practice. Where under certain economic scenarios additional shareholder injections are required to meet policyholder payments, the average additional cost has been included in the time value of options and guarantees. Consolidation adjustments The effect of transactions between our life companies such as loans and reinsurance arrangements has been included in results split by territory in a consistent manner. No elimination is required on consolidation. As the EEV methodology incorporates the impact of profits and losses arising from subsidiary companies providing administration, investment management and other services to the Group's life companies, the equivalent profits and losses have been removed from the relevant segment (non insurance or fund management) and are instead included within the results of life and related businesses. In addition, the underlying basis of calculation for these profits has changed from the IFRS basis to the EEV basis. The capitalised value of the future profits and losses from such service companies are included in the embedded value and new business contribution calculations for the relevant territory, but the net assets (representing historical profits and other amounts) remain under non insurance or fund management. In order to reconcile the profits arising in the financial period within each segment with the assets on the opening and closing balance sheets, a transfer of IFRS profits from life and related business to the appropriate segment is deemed to occur. An equivalent approach has been adopted for expenses within our holding companies. --------------------------------------------------------------------------------------------------------------------- PAGE 31 Components of life EEV return The life EEV return comprises the following components: â€¢ new business contribution written during the period including value added between the point of sale and end of the period; â€¢ the profit from existing business equal to: - the expected return on the value of the in-force covered business at the beginning of the period, - experience variances caused by the differences between the actual experience during the period and expected experience based on the operating assumptions used to calculate the start of year value, - the impact of changes in operating assumptions including risk margins; â€¢ the expected investment return on the shareholders' net worth, based upon assumptions applying at the start of the year; â€¢ investment return variances caused by differences between the actual return in the period and the expected return based on economic assumptions used to calculate the start of year value; and â€¢ the impact of changes in economic assumptions in the period. The life EEV operating return comprises the first three of these components and is calculated using economic assumptions as at the start of the year and operating (demographic, expenses and tax) assumptions as at the end of the year. Life EEV return 6 months 6 months Full year 2006 2005 2005 Â£m Â£m Â£m New business contribution (after the effect of required capital) 352 286 612 Profit from existing business - expected return 503 434 895 - experience variances (9) (31) (39) - operating assumption changes 3 7 17 Expected return on shareholders' net worth 172 161 329 -------------------------------------------------------------------------------------------------------------------- Life EEV operating return before tax 1,021 857 1,814 Investment return variances (739) 719 2,288 Effect of economic assumption changes 471 (531) (406) -------------------------------------------------------------------------------------------------------------------- Life EEV return before tax 753 1,045 3,696 Tax on operating profit (315) (266) (566) Tax charge on other ordinary activities 75 (65) (579) -------------------------------------------------------------------------------------------------------------------- Life EEV return after tax 513 714 2,551 ==================================================================================================================== There were no separate development costs reported in these periods. -------------------------------------------------------------------------------------------------------------------- PAGE 32 New business contribution The following tables set out the premium volumes and contribution from new business written by the life and related businesses, consistent with the definition of new business set out on page 28. The contribution generated by new business written during the period is the present value of the projected stream of after tax distributable profit from that business. New business contribution before tax is calculated by grossing up the contribution after tax at the full corporation tax rate for UK business and at appropriate rates of tax for other countries. New business contribution has been calculated using the same economic assumptions as those used to determine the embedded value as at the start of the year and operating assumptions used to determine the embedded value as at the end of the year, and is rolled forward to the end of the financial period. New business contribution is shown before and after the effect of required capital, calculated on the same basis as for in-force covered business. New business sales are expressed on two bases: annual premium equivalent (APE) and the present value of new business premiums (PVNBP). The PVNBP calculation is equal to total single premium sales received in the year plus the discounted value of regular premiums expected to be received over the term of the new contracts, and is expressed at the point of sale. The premium volumes and projection assumptions used to calculate the present value of regular premiums for each product are the same as those used to calculate new business contribution, so the components of the new business margin are on a consistent basis. New business contribution New business margin Annual premium Present value of new before the effect of before the effect of equivalent business premiums required capital required capital* ----------------------- ----------------------- ----------------------- ----------------------- 6 months 6 months 6 months 6 months 6 months 6 months 6 months 6 months 2006 2005 2006 2005 2006 2005 2006 2005 Â£m Â£m Â£m Â£m Â£m Â£m % % Life and pensions France 219 202 2,028 1,854 87 71 4.3% 3.8% Ireland 80 51 558 349 11 9 2.0% 2.6% Italy 176 145 1,583 1,333 38 33 2.4% 2.5% Netherlands (including Belgium, Germany and Luxembourg) 135 159 1,170 1,383 34 39 2.9% 2.8% Poland 36 21 264 137 14 7 5.3% 5.1% Spain 112 113 916 965 88 80 9.6% 8.3% Other Europe 26 24 126 129 (4) - (3.2)% - Continental Europe 784 715 6,645 6,150 268 239 4.0% 3.9% Asia 43 30 252 172 12 8 4.8% 4.7% Australia 27 31 145 160 7 6 4.8% 3.8% United States 31 28 289 222 5 4 1.7% 1.8% Rest of the World 101 89 686 554 24 18 3.5% 3.2% International 885 804 7,331 6,704 292 257 4.0% 3.8% -------------------------------------------------------------------------------------------------------------------- United Kingdom 746 542 5,816 4,312 167 136 2.9% 3.2% -------------------------------------------------------------------------------------------------------------------- Total (before the effect of required capital) 1,631 1,346 13,147 11,016 459 393 3.5% 3.6% ==================================================================================================================== Germany has been reclassified from Other Europe to the Netherlands, Lithuania has been reclassified from Other Europe to Poland and Norwich Union's Dublin-based offshore life and savings business has been reclassified from Other Europe to the United Kingdom. * New business margin represents the ratio of new business contribution before the effect of required capital to PVNBP, expressed as a percentage. New business contribution before the effect of required capital includes minority interests for the six months to 30 June 2006 of Â£92 million (30 June 2005: Â£77 million). This comprises minority interests in France of Â£14 million (30 June 2005: Â£11 million), Ireland Â£3 million (30 June 2005: nil), Italy Â£22 million (30 June 2005: Â£20 million), Netherlands Â£6 million (30 June 2005: Â£5 million), Poland Â£2 million (30 June 2005: Â£1 million), and Spain Â£45 million (30 June 2005: Â£40 million). -------------------------------------------------------------------------------------------------------------------- PAGE 33 New business contribution New business margin Present value of new after the effect of after the effect of business premiums required capital required capital* ----------------------- ----------------------- ----------------------- 6 months 6 months 6 months 6 months 6 months 6 months 2006 2005 2006 2005 2006 2005 Â£m Â£m Â£m Â£m % % Life and pensions France 2,028 1,854 64 48 3.2% 2.6% Ireland 558 349 8 8 1.4% 2.3% Italy 1,583 1,333 26 20 1.6% 1.5% Netherlands (including Belgium, Germany and Luxembourg) 1,170 1,383 17 18 1.5% 1.3% Poland 264 137 12 6 4.5% 4.4% Spain 916 965 80 70 8.7% 7.3% Other Europe 126 129 (5) - (4.0)% - Continental Europe 6,645 6,150 202 170 3.0% 2.8% Asia 252 172 10 5 4.0% 2.9% Australia 145 160 3 3 2.1% 1.9% United States 289 222 2 2 0.7% 0.9% Rest of the World 686 554 15 10 2.2% 1.8% International 7,331 6,704 217 180 3.0% 2.7% United Kingdom 5,816 4,312 135 106 2.3% 2.5% -------------------------------------------------------------------------------------------------------------------- Total (after the effect of required capital) 13,147 11,016 352 286 2.7% 2.6% ==================================================================================================================== Germany has been reclassified from Other Europe to the Netherlands, Lithuania has been reclassified from Other Europe to Poland and Norwich Union's Dublin-based offshore life and savings business has been reclassified from Other Europe to the United Kingdom. * New business margin represents the ratio of new business contribution after deducting the effect of required capital to PVNBP, expressed as a percentage. New business contribution after the effect of required capital includes minority interests in the six months ended 30 June 2006 of Â£73 million (30 June 2005: Â£58 million). This comprises minority interests in France of Â£9 million (30 June 2005: Â£6 million), Ireland Â£2 million (30 June 2005: nil), Italy Â£15 million (30 June 2005: Â£12 million), Netherlands Â£5 million (30 June 2005: Â£4 million), Poland Â£2 million (30 June 2005: Â£1 million), and Spain Â£40 million (30 June 2005: Â£35 million). New business contribution before the effect of required capital, tax and minority interest Annual premium Present value of new New business New business equivalent business premiums contribution* margin** ------------------ -------------------- ------------------- -------------------- 6 months 6 months 6 months 6 months 6 months 6 months 6 months 6 months 2006 2005 2006 2005 2006 2005 2006 2005 Â£m Â£m Â£m Â£m Â£m Â£m % % Analysed between: - Bancassurance channels 472 369 3,958 3,222 187 149 4.7% 4.6% - Other distribution channels 1,159 977 9,189 7,794 272 244 3.0% 3.1% -------------------------------------------------------------------------------------------------------------------- Total 1,631 1,346 13,147 11,016 459 393 3.5% 3.6% ==================================================================================================================== * Stated before the effect of required capital ** New business margin represents the ratio of new business contribution before the effect of required capital to PVNBP, expressed as a percentage. New business contribution after the effect of required capital, tax and minority interest Annual premium Present value of new New business New business equivalent business premiums* contribution** margin*** ------------------ -------------------- ------------------- -------------------- 6 months 6 months 6 months 6 months 6 months 6 months 6 months 6 months 2006 2005 2006 2005 2006 2005 2006 2005 Â£m Â£m Â£m Â£m Â£m Â£m % % Analysed between: - Bancassurance channels 267 197 2,218 1,678 59 42 2.7% 2.5% - Other distribution channels 1,133 955 8,932 7,597 135 116 1.5% 1.5% -------------------------------------------------------------------------------------------------------------------- Total 1,400 1,152 11,150 9,275 194 158 1.7% 1.7% ==================================================================================================================== * Stated after deducting minority interests. ** Contribution stated after deducting the effect of required capital, tax and minority interests. *** New business margin represents the ratio of new business contribution after deducting the effect of required capital, tax and minority interests to PVNBP after deducting the minority interests, expressed as a percentage. -------------------------------------------------------------------------------------------------------------------- PAGE 34 Post-tax internal rate of return on life and pensions new business The internal rate of return (IRR) on life and pensions new business for the Group was 11.8% for the six months to 30 June 2006 (full year to 31 December 2005: 12.5%). The internal rate of return is equivalent to the discount rate at which the present value of the post-tax cash flows expected to be earned over the life time of the business written, including allowance for the time value of options and guarantees, is equal to the total invested capital to support the writing of the business. The capital included in the calculation of the IRR is the initial capital required to pay acquisition costs and set up statutory reserves in excess of premiums received ('initial capital'), plus required capital at the same level as for the calculation of new business contribution post cost of capital. 6 months 2006 -------------------------------------------------------------------------------------------------------------------- Total invested Internal rate of return Initial capital Required capital capital % Â£m Â£m Â£m Continental Europe France 14% 13 52 65 Ireland 9% 27 14 41 Italy 11% 17 33 50 Netherlands (including Belgium, Germany and Luxembourg) 8% 26 47 73 Poland 18% 5 3 8 Spain 29% 8 28 36 Other Europe 6% 17 1 18 Rest of the World 16% 25 21 46 International 13% 138 199 337 UK 10% 219 76 295 -------------------------------------------------------------------------------------------------------------------- Total 12% 357 275 632 ==================================================================================================================== The total initial capital for life and pensions new business for the six months to 30 June 2006 of Â£357 million (six months to 30 June 2005: Â£258 million) shown above is expressed at the point of sale. Hence it is higher than the impact of writing that new business on net worth of Â£344 million (six months to 30 June 2005: Â£210 million) shown on page 37, because the latter amount includes expected profits from the point of sale to the end of the reporting period, partly offset by the expected return on the initial capital. Aviva's reported internal rates of return calculations are based on the total invested capital used to support the writing of the new business. However, this underestimates the returns due to the Group's shareholders as the total invested capital includes the cash flows attributable to both the Group's debt holders as well as the Group's shareholders. As the cost of debt capital is significantly lower than the Group's IRRs this underestimates the returns on new business for our shareholders measured through the reported internal rate of return calculations. The Group could equally have defined the internal rate of return calculations based on the cash flows that are attributable to the Group's shareholders as opposed to total cash flows. The effect on the reported calculation of the internal rates of return on this basis is to increase the IRR for UK Life from 10.3% to 12.1%. The revised calculation assumes that the external capital composition of the Group, 30% debt and 70% equity, is used to finance the initial and required capital, and allows for the cost of debt by deducting the relevant proportion of the Group's debt servicing costs from the future cash flows earned over the life time of the products. The leveraged new business returns comfortably exceed the Group's cost of equity at 30 June 2006 of 8.0% (based on a risk free rate of 4.7%, an equity risk margin of 3% and a market assessed beta of 1.1). -------------------------------------------------------------------------------------------------------------------- PAGE 35 Experience variances Experience variances include the impact of the difference between expense, demographic and persistency assumptions, and actual experience incurred in the year. Also included are variances arising from tax, where such variances are due to management action. 6 months 6 months Full year 2006 2005 2005 Â£m Â£m Â£m France 29 18 32 Netherlands (including Belgium, Germany and Luxembourg) 15 (13) 2 Rest of Europe 8 (6) 13 Continental Europe 52 (1) 47 Rest of the World 6 1 9 International 58 - 56 United Kingdom (67) (31) (95) --------------------------------------------------------------------------------------------------------------------- Total (9) (31) (39) ===================================================================================================================== Germany has been reclassified from Other Europe to the Netherlands, Lithuania has been reclassified from Other Europe to Poland and Norwich Union's Dublin-based offshore life and savings business has been reclassified from Other Europe to the United Kingdom. Operating assumption changes Changes in operating assumptions are made when the assumed future levels of expenses, mortality or other operating assumptions are expected to change permanently. 6 months 6 months Full year 2006 2005 2005 Â£m Â£m Â£m France - - 14 Netherlands (including Belgium, Germany and Luxembourg) 20 7 55 Rest of Europe (17) - 2 Continental Europe 3 7 71 Rest of the World - - 2 International 3 7 73 United Kingdom - - (56) -------------------------------------------------------------------------------------------------------------------- Total 3 7 17 ==================================================================================================================== Germany has been reclassified from Other Europe to the Netherlands, Lithuania has been reclassified from Other Europe to Poland and Norwich Union's Dublin-based offshore life and savings business has been reclassified from Other Europe to the United Kingdom. Further disclosures on experience variances and operating assumption changes on an EEV basis are provided on pages 74, 75 and 76. -------------------------------------------------------------------------------------------------------------------- PAGE 36 Geographical analysis of life EEV operating return 6 months 6 months Full year 2006 2005 2005 Â£m Â£m Â£m France 196 158 321 Ireland 8 22 20 Italy 53 47 96 Netherlands (including Belgium, Germany and Luxembourg) 185 125 349 Poland 66 48 132 Spain 112 92 214 Other Europe (3) (1) (6) Continental Europe 617 491 1,126 Asia 19 9 30 Australia 19 17 44 United States 16 10 25 Rest of the World 54 36 99 International 671 527 1,225 United Kingdom 350 330 589 -------------------------------------------------------------------------------------------------------------------- Total 1,021 857 1,814 ==================================================================================================================== Germany has been reclassified from Other Europe to the Netherlands, Lithuania has been reclassified from Other Europe to Poland and Norwich Union's Dublin-based offshore life and savings business has been reclassified from Other Europe to the United Kingdom. Life EEV operating return includes minority interests in the six months ended 30 June 2006 of Â£126 million (30 June 2005: Â£98 million). This comprises minority interests in France of Â£19 million (30 June 2005: Â£13 million), Ireland Â£2 million (30 June 2005: nil), Italy Â£29 million (30 June 2005: Â£26 million), Netherlands Â£9 million (30 June 2005: Â£7 million), Poland Â£10 million (30 June 2005: Â£6 million), Spain Â£56 million (30 June 2005: Â£45 million), Other Europe nil (30 June 2005: Â£1 million), and Asia Â£1 million (30 June 2005: nil). -------------------------------------------------------------------------------------------------------------------- PAGE 37 Analysis of movement in life and related businesses embedded value The following tables provide an analysis of the movement in embedded value for the life and related businesses for the six months ended 30 June 2006 and 2005. The analysis is shown separately for net worth and the value of in-force covered business, and includes amounts transferred between these categories. The transfer to life and related businesses from other segments consists of service company profits and losses during the reported period that have emerged from the value of in-force. Since the 'look through' into service companies includes only future profits and losses, these amounts must be eliminated from the closing embedded value. All figures are shown net of tax. 6 months 2006 ------------------------------------ Value of Net worth in-force Total Â£m Â£m Â£m Embedded value at the beginning of the period - Free surplus 2,772 - Required capital* 4,448 Total 7,220 7,893 15,113 -------------------------------------------------------------------------------------------------------------------- New business contribution (after the effect of required capital) (344) 586 242 Expected return on existing business - return on VIF - 353 353 Expected return on existing business - transfer to net worth 488 (488) - Experience variances and operating assumption changes 179 (188) (9) Expected return on shareholders' net worth 119 - 119 Investment return variances and economic assumption changes (114) (78) (192) -------------------------------------------------------------------------------------------------------------------- Life EEV return after tax 328 185 513 Exchange rate movements (9) (20) (29) Embedded value from business acquired 170 176 346 Amounts injected into life and related businesses 100 - 100 Amounts released from life and related businesses (551) - (551) Transfer to life and related businesses from other segments 40 - 40 -------------------------------------------------------------------------------------------------------------------- Embedded value at the end of the period - Free surplus 2,682 - Required capital* 4,616 Total 7,298 8,234 15,532 ==================================================================================================================== * Required capital is shown net of implicit items permitted by local regulators to cover minimum solvency margins. The embedded value of business acquired in the six months to 30 June 2006 of Â£346 million represents the embedded value of Ark Life Assurance Company Limited and Eagle Insurance Company Limited. Required capital has increased in the period by Â£168 million. The movement comprises an increase of Â£275 million in relation to new business written, a reduction of Â£216 million in relation to in-force business, Â£118 million additional in-force required capital relating to acquisitions during the period and a Â£9 million decrease due to foreign exchange rate movements. The decrease in the in-force required capital includes the effect of the increase in long-term interest rates, which has decreased statutory reserves and, therefore, capital requirements. 6 months 2005 ------------------------------------ Value of Net worth in-force Total Â£m Â£m Â£m Embedded value at the beginning of the period - Free surplus 1,894 - Required capital* 4,362 Total 6,256 6,758 13,014 -------------------------------------------------------------------------------------------------------------------- New business contribution (after the effect of required capital) (210) 405 195 Expected return on existing business - return on VIF - 303 303 Expected return on existing business - transfer to net worth 455 (455) - Experience variances and operating assumption changes 81 (98) (17) Expected return on shareholders' net worth 110 - 110 Investment return variances and economic assumption changes 288 (165) 123 -------------------------------------------------------------------------------------------------------------------- Life EEV return after tax 724 (10) 714 Exchange rate movements (165) (129) (294) Amounts injected into life and related businesses 192 - 192 Amounts released from life and related businesses (647) - (647) Transfer to life and related businesses from other segments 10 - 10 -------------------------------------------------------------------------------------------------------------------- Embedded value at the end of the period - Free surplus 2,122 - Required capital* 4,248 Total 6,370 6,619 12,989 ==================================================================================================================== * Required capital is shown net of implicit items permitted by local regulators to cover minimum solvency margins. -------------------------------------------------------------------------------------------------------------------- PAGE 38 Segmental analysis of life and related businesses embedded value Value of in-force Net worth covered business Total ----------------------- ----------------------- ----------------------- Present Cost of Required Free value of required capital* surplus in-force capital Embedded value 30 June 2006 Â£m Â£m Â£m Â£m Â£m France 1,130 183 1,099 (231) 2,181 Ireland 266 193 543 (46) 956 Italy 314 309 205 (63) 765 Netherlands (including Belgium, 1,074 1,213 1,377 (321) 3,343 Germany and Luxembourg) Poland 98 69 461 (29) 599 Spain 268 7 533 (59) 749 Other 19 23 68 (12) 98 Continental Europe 3,169 1,997 4,286 (761) 8,691 Rest of the World 277 194 313 (74) 710 International 3,446 2,191 4,599 (835) 9,401 United Kingdom 1,170 491 4,906 (436) 6,131 -------------------------------------------------------------------------------------------------------------------- Total 4,616 2,682 9,505 (1,271) 15,532 ==================================================================================================================== Germany has been reclassified from Other Europe to the Netherlands, Lithuania has been reclassified from Other Europe to Poland and Norwich Union's Dublin-based offshore life and savings business has been reclassified from Other Europe to the United Kingdom. * Required capital is shown net of implicit items permitted by local regulators to cover minimum solvency margins. Value of in-force Net worth covered business Embedded value ----------------------- ----------------------- ----------------------- 6 months 6 months 6 months 6 months 6 months 6 months 2006 2005 2006 2005 2006 2005 Â£m Â£m Â£m Â£m Â£m Â£m France 1,313 1,156 868 716 2,181 1,872 Ireland 459 277 497 318 956 595 Italy 623 571 142 111 765 682 Netherlands (including Belgium, Germany and Luxembourg) 2,287 1,729 1,056 761 3,343 2,490 Poland 167 155 432 361 599 516 Spain 275 236 474 397 749 633 Other 42 38 56 55 98 93 Continental Europe 5,166 4,162 3,525 2,719 8,691 6,881 Rest of the World 471 488 239 125 710 613 International 5,637 4,650 3,764 2,844 9,401 7,494 United Kingdom 1,661 1,720 4,470 3,775 6,131 5,495 -------------------------------------------------------------------------------------------------------------------- Total 7,298 6,370 8,234 6,619 15,532 12,989 ==================================================================================================================== Germany has been reclassified from Other Europe to the Netherlands, Lithuania has been reclassified from Other Europe to Poland and Norwich Union's Dublin-based offshore life and savings business has been reclassified from Other Europe to the United Kingdom. The shareholders' net worth is the market value of the shareholders' funds and the shareholders' interest in the surplus held in the non-profit component of the long-term business funds, determined on a statutory solvency basis and adjusted to add back any non-admissible assets. Required capital, net of implicit items, of Â£4,616 million at 30 June 2006 (30 June 2005: Â£4,248 million) is included within the net worth. The value of in-force covered business includes the effect of holding shareholders' capital to support the level of required capital and allowing for projected future releases. This impact reduces the value of in-force covered business at 30 June 2006 by Â£1,271 million (30 June 2005: Â£1,178 million). The embedded value at 30 June 2006 includes minority interests of Â£1,283 million (30 June 2005: Â£903 million). This comprises minority interests in France of Â£151 million (30 June 2005: Â£135 million), Ireland Â£232 million (30 June 2005: nil), Italy Â£396 million (30 June 2005: Â£347 million), Netherlands Â£73 million (30 June 2005: Â£62 million), Poland Â£98 million (30 June 2005: Â£84 million), Spain Â£322 million (30 June 2005: Â£267 million) and Other Europe nil (30 June 2005: Â£8 million), and Rest of the World Â£11 million (30 June 2005: nil). -------------------------------------------------------------------------------------------------------------------- PAGE 39 Time value of options and guarantees The following table sets out the time value of options and guarantees relating to covered business by territory at 30 June 2006, 30 June 2005 and 31 December 2005. 30 June 30 June 31 December 2006 2005 2005 Â£m Â£m Â£m France 56 81 84 Ireland 5 2 3 Italy 17 12 19 Netherlands (including Belgium, Germany and Luxembourg) 117 112 118 Poland 5 4 5 Spain 4 8 8 Other Europe - 1 2 Continental Europe 204 220 239 Rest of the World 15 12 16 International 219 232 255 United Kingdom 46 44 48 -------------------------------------------------------------------------------------------------------------------- Total 265 276 303 ==================================================================================================================== Germany has been reclassified from Other Europe to the Netherlands, Lithuania has been reclassified from Other Europe to Poland and Norwich Union's Dublin-based offshore life and savings business has been reclassified from Other Europe to the United Kingdom. The time value of options and guarantees (TVOG) is most significant in the United Kingdom, France and the Netherlands. In the United Kingdom, this relates mainly to non-market value adjustment (MVA) guarantees on unitised with-profit business and guaranteed annuity rates. In France, this relates mainly to guaranteed crediting rates and surrender values on traditional business including the AFER fund. In the Netherlands, this relates mainly to maturity guarantees on unit-linked products and interest rate guarantees on traditional individual and group profit sharing business. The TVOG has decreased to Â£265 million reflecting the Â£39 million impact of the 80 and 60 basis point increases in Continental Europe and the UK respectively over the period. Also included is an increase of Â£12 million due to the allowance within new business contribution which is offset by the expected reduction in TVOG for existing business. Minority interest in life and related businesses' EEV results 30 June 31 December 2006 2005 ------------------------------------- ------------- Shareholders' Minority interest interest Group Group Â£m Â£m Â£m Â£m New business contribution before effect of required capital 367 92 459 808 Effect of required capital (88) (19) (107) (196) -------------------------------------------------------------------------------------------------------------------- New business contribution including effect of required capital 279 73 352 612 ==================================================================================================================== Life EEV operating return before tax 895 126 1,021 1,814 ==================================================================================================================== Life EEV return before tax 655 98 753 3,696 Attributed tax (205) (35) (240) (1,145) -------------------------------------------------------------------------------------------------------------------- Life EEV return after tax 450 63 513 2,551 ==================================================================================================================== Closing life and related businesses' embedded value 14,249 1,283 15,532 15,113 ==================================================================================================================== -------------------------------------------------------------------------------------------------------------------- PAGE 40 Principal economic assumptions - deterministic calculations Economic assumptions are derived actively, based on market yields on risk-free fixed interest assets at the end of each reporting period. The same margins are applied on a consistent basis across the Group to gross risk-free yields to obtain investment return assumptions for ordinary shares and property and to produce risk discount rates. Additional country-specific risk margins are applied to smaller businesses to reflect additional economic, political and business-specific risk, which result in the application of risk margins ranging from 3.7% to 8.7% in our eastern European and Asian business operations. Expense inflation is derived as a fixed margin above a local measure of long-term price inflation. Risk free rates and price inflation have been harmonised across territories within the Euro currency zone, except for expense inflation in Ireland where significant differences remain. Required capital is shown as a multiple of the EU statutory minimum solvency margin. Investment return assumptions are generally derived by major product class, based on hypothecating the assets at the valuation date. Future assumed reinvestment rates are consistent with implied market returns at 30 June 2006. Rates have been derived using rates from the current yield curve at a duration based on the term of the liabilities, or directly from forward yield curves where considered appropriate. Assumptions about future investment mix are consistent with long-term plans. In most cases, the investment mix is assumed to continue unchanged throughout the projection period. The changes in assumptions between reporting dates reflect the actual movements in risk free yields in the United Kingdom, the Eurozone and other territories. The principal economic assumptions used are as follows: United Kingdom France ------------------------------------------- ---------------------------------- 30 June 31 Dec 30 June 31 Dec 30 June 31 Dec 30 June 31 Dec 2006 2005 2005 2004 2006 2005 2005 2004 Risk discount rate 7.4% 6.8% 6.9% 7.3% 6.8% 6.0% 5.9% 6.4% Pre-tax investment returns: Base government fixed interest 4.7% 4.1% 4.2% 4.6% 4.1% 3.3% 3.2% 3.7% Ordinary shares 7.7% 7.1% 7.2% 7.6% 7.1% 6.3% 6.2% 6.7% Property 6.7% 6.1% 6.2% 6.6% 6.1% 5.3% 5.2% 5.7% Future expense inflation 3.3% 3.2% 3.1% 3.3% 2.5% 2.5% 2.5% 2.5% Tax rate 30.0% 30.0% 30.0% 30.0% 34.4% 34.4% 34.9% 34.9% Required Capital(% EU minimum) 150%/100% 150%/100% 200%/100% 200%/100% 115% 115% 115% 115% Ireland Italy ------------------------------------------- ---------------------------------- 30 June 31 Dec 30 June 31 Dec 30 June 31 Dec 30 June 31 Dec 2006 2005 2005 2004 2006 2005 2005 2004 Risk discount rate 6.8% 6.0% 5.9% 6.4% 6.8% 6.0% 5.9% 6.4% Pre-tax investment returns: Base government fixed interest 4.1% 3.3% 3.2% 3.7% 4.1% 3.3% 3.2% 3.7% Ordinary shares 7.1% 6.3% 6.2% 6.7% 7.1% 6.3% 6.2% 6.7% Property 6.1% 5.3% 5.2% 5.7% 6.1% 5.3% 5.2% 5.7% Future expense inflation 4.0% 4.0% 4.0% 4.0% 2.5% 2.5% 2.5% 2.5% Tax rate 12.5% 12.5% 12.5% 12.5% 38.3% 38.3% 38.3% 38.3% Required Capital (% EU minimum) 150% 150% 150% 150% 115% 115% 115% 115% Netherlands Poland ------------------------------------------- ---------------------------------- 30 June 31 Dec 30 June 31 Dec 30 June 31 Dec 30 June 31 Dec 2006 2005 2005 2004 2006 2005 2005 2004 Risk discount rate 6.8% 6.0% 5.9% 6.4% 8.8% 8.6% 8.7% 9.7% Pre-tax investment returns: Base government fixed interest 4.1% 3.3% 3.2% 3.7% 5.1% 4.9% 5.0% 6.0% Ordinary shares 7.1% 6.3% 6.2% 6.7% 8.1% 7.9% 8.0% 9.0% Property 6.1% 5.3% 5.2% 5.7% n/a n/a n/a n/a Future expense inflation 2.5% 2.5% 2.5% 2.5% 3.5% 3.3% 2.4% 3.4% Tax rate 29.1% 29.1% 31.5% 31.5% 19.0% 19.0% 19.0% 19.0% Required Capital (% EU minimum) 150% 150% 150% 150% 150% 150% 150% 150% Spain ------------------------------------------- 30 June 31 Dec 30 June 31 Dec 2006 2005 2005 2004 Risk discount rate 6.8% 6.0% 5.9% 6.4% Pre-tax investment returns: Base government fixed interest 4.1% 3.3% 3.2% 3.7% Ordinary shares 7.1% 6.3% 6.2% 6.7% Property 6.1% 5.3% 5.2% 5.7% Future expense inflation 2.5% 2.5% 2.5% 2.5% Tax rate 35.0% 35.0% 35.0% 35.0% Required Capital (% EU minimum) 125%/110% 125%/110% 125%/110% 125%/110% For service companies, expense inflation relates to the underlying expenses rather than the fees charged to the life company. Future returns on corporate fixed interest investments are calculated from prospective yields less an adjustment for credit risk. Required capital in the United Kingdom is 150% EU minimum for Norwich Union Annuity Limited and 100% for other companies. Required capital in Spain is 125% EU minimum for Aviva Vida y Pensiones and 110% for bancassurance companies. Other economic assumptions Required capital relating to with-profit business is assumed to be covered by the surplus within the with-profit funds and no effect has been attributed to shareholders. -------------------------------------------------------------------------------------------------------------------- PAGE 41 Bonus rates on participating business have been set at levels consistent with the economic assumptions and Aviva's medium-term bonus plans. The distribution of profit between policyholders and shareholders within the with-profit funds assumes that the shareholder interest in conventional with-profit business in the United Kingdom and Ireland continues at the current rate of one ninth of the cost of bonus. Principal economic assumptions - stochastic calculations The time value of options and guarantees calculation allows for expected management and policyholder actions in response to varying future investment conditions. The management actions modelled include changes to asset mix and bonus rates. Modelled policyholder actions are described under 'Other assumptions'. This section describes the models used to generate future investment simulations, and gives some sample statistics for the simulations used. Two separate models have been used, for the UK businesses and for the Europe (excluding UK) and International businesses, as each of these models better reflect the characteristics of the businesses. United Kingdom Model Overall asset returns have been generated assuming that the portfolio total return has a lognormal distribution. The mean and standard deviation of the overall asset return have been calculated using the evolving asset mix of the fund and assumptions over the mean and standard deviation of each asset class, together with correlations between them. Asset classes The significant asset classes for UK participating business are equities, property and long-term fixed rate bonds. The most significant assumption is the distribution of future long-term interest rates, since this is the most important factor in the cost of guaranteed annuity options. Summary statistics The following table sets out the means and standard deviations (StDev) of future returns at 30 June 2006 for the three most significant asset classes. Interest rates are assumed to have a lognormal distribution with an annualised standard deviation of 13% p.a. for the natural logarithm of the interest rate. Mean* StDev** -------------------------------------------------------------- Equities 7.7% 20% Property 6.7% 15% Government Bonds 4.7% 3.25 - 4.75%*** * Means have been calculated by accumulating a unit investment for the required number of years in each simulation, averaging the accumulation across all simulations, and converting the result to an equivalent annual rate (by taking the nth root of the average accumulation minus 1). ** Standard deviations have been calculated by accumulating a unit investment for the required number of years in each simulation, taking the natural logarithm of the result, calculating the variance of this statistic, dividing by the projection period (n years) and taking the square root. This makes the result comparable to implied volatilities quoted in investment markets. *** Depending on the duration of the portfolio. For the UK, the statistics are the same over all projection horizons. Assumptions are also required for correlations between asset classes. These have been set based on an assessment of historical data. Returns for corporate fixed interest investments in each scenario are equal to the return on Government bonds plus a fixed additional amount, based on current spreads less a margin for credit risk. Europe (excluding UK) and the Rest of the World Model Government nominal interest rates are generated by a model that projects a full yield curve at annual intervals. The model assumes that the logarithm of the short rate follows a mean reverting process subject to two normally distributed random shocks. This ensures that nominal interest rates are always positive, the distribution of future interest rates remains credible, and the model can be calibrated to give a good fit to the initial yield curve. The total annual return on equities is calculated as the return on one year bonds plus an excess return. The excess return is assumed to have a lognormal distribution. The model also generates property total returns and real yield curves, although these are not significant asset classes for Aviva outside the UK. Asset classes The most important assets are fixed rate bonds of various durations. In some businesses equities are also an important asset class. Summary statistics The following table sets out the means and standard deviations of future euro returns at 30 June 2006 for the three most significant asset classes: equities, short-term bonds (defined to be of one year duration) and long-term bonds (defined to be 10 year zero coupon bonds). In the accumulation of 10 year bonds, it is assumed that these are held for one year, sold as nine year bonds then the proceeds are reinvested in 10 year bonds, although in practice businesses follow more complex asset strategies or tend to adopt a buy and hold strategy. Correlations between asset classes have been set using the same approach as described for the United Kingdom. -------------------------------------------------------------------------------------------------------------------- PAGE 42 5- year return 10- year return 20- year return ----------------------- ----------------------- ----------------------- Mean* StDev** Mean* StDev** Mean* StDev** -------------------------------------------------------------------- ----------------------- ----------------------- Short Government Bonds 3.6% 1.9% 3.8% 3.4% 4.0% 6.0% Long Government Bonds 4.2% 4.3% 4.3% 3.3% 4.4% 3.6% Equities 6.9% 19.6% 7.0% 19.2% 7.0% 19.0% * Means have been calculated by accumulating a unit investment for the required number of years in each simulation, averaging the accumulation across all simulations, and converting the result to an equivalent annual rate (by taking the nth root of the average accumulation minus 1). ** Standard deviations have been calculated by accumulating a unit investment for the required number of years in each simulation, taking the natural logarithm of the result, calculating the variance of this statistic, dividing by the projection period (n years) and taking the square root. This makes the result comparable to implied volatilities quoted in investment markets. Other assumptions Taxation Current tax legislation and rates have been assumed to continue unaltered, except where changes in future tax rates have been announced. Demographic assumptions Assumed future mortality, morbidity and lapse rates have been derived from an analysis of Aviva's recent operating experience. Where appropriate, surrender and option take up rate assumptions that vary according to the investment scenario under consideration have been used in the calculation of the time value of options and guarantees, based on our assessment of likely policyholder behaviour in different investment scenarios. Expense assumptions Management expenses and operating expenses of holding companies attributed to life and related businesses have been included in the EEV calculations and split between expenses relating to the acquisition of new business, the maintenance of business in-force and project expenses. Future expense assumptions include an allowance for maintenance expenses and a proportion of recurring project expenses. Certain expenses of an exceptional nature, when they occur, are identified separately and are generally charged as incurred. No future productivity gains have been anticipated. Where subsidiary companies provide administration, investment management or other services to businesses included in the European Embedded Value calculations, the value of profits or losses arising from these services have been included in the embedded value and new business contribution. Valuation of debt Borrowings in the EEV consolidated balance sheet are valued on an IFRS basis, consistent with the primary financial statements. At 30 June 2006 the market value of the Group's external debt, subordinated debt, preference shares including General Accident plc preference shares of Â£250 million (classified as minority interests) and direct capital instrument was Â£5,407 million (31 December 2005: Â£5,868 million). 30 June 30 June 31 December 2006 2005 2005 Â£m Â£m Â£m Borrowings per summarised consolidated balance sheet - EEV basis 11,070 10,700 11,013 Less: Securitised mortgage funding (6,689) (5,481) (6,303) -------------------------------------------------------------------------------------------------------------------- Borrowings excluding non-recourse funding - EEV basis 4,381 5,219 4,710 Less: Operational financing by businesses (762) (881) (900) -------------------------------------------------------------------------------------------------------------------- External debt and subordinated debt - EEV basis 3,619 4,338 3,810 Add: Preference shares (including General Accident plc) and direct capital instrument 1,440 1,440 1,440 -------------------------------------------------------------------------------------------------------------------- External debt, subordinated debt, preference shares and direct capital instrument - EEV basis 5,059 5,778 5,250 Effect of marking these instruments to market 354 605 618 -------------------------------------------------------------------------------------------------------------------- Market value of external debt, subordinated debt, preference shares and direct capital instrument 5,413 6,383 5,868 ==================================================================================================================== Other It has been assumed that there will be no changes to the methods and bases used to calculate the statutory technical provisions and current surrender values, except where driven by varying future investment conditions under stochastic economic scenarios. -------------------------------------------------------------------------------------------------------------------- PAGE 43 Sensitivity analysis - economic assumptions The tables below show the sensitivity of the embedded value as at 30 June 2006 and the new business contribution before the effect of required capital for the six months to 30 June 2006 to: â€¢ one percentage point increase and decrease in the discount rates; â€¢ one percentage point increase and decrease in interest rates, including all consequential changes (including assumed investment returns for all asset classes, market values of fixed interest assets, risk discount rates); â€¢ one percentage point increase and decrease in the assumed investment returns for equity and property investments, excluding any consequential changes to the risk discount rate; â€¢ 10% rise and fall in market value of equity and property assets (not applicable for new business contribution); and â€¢ decrease in the level of required capital to 100% EU minimum (or equivalent) (not applicable for new business contribution). In each sensitivity calculation, all other assumptions remain unchanged except where they are directly affected by the revised economic conditions. For example, future bonus rates are automatically adjusted to reflect sensitivity changes to future investment returns. Embedded value As reported on 1% increase in 1% decrease in 1% increase in 1% decrease in (net of tax) page 38 discount rates discount rates interest rates interest rates 30 June 2006 Â£m Â£m Â£m Â£m Â£m France 2,181 (125) 140 (95) 55 Ireland 956 (45) 50 (40) 45 Italy 765 (20) 25 5 (20) Netherlands (including Belgium, Germany and Luxembourg) 3,343 (160) 190 (10) (165) Poland 599 (30) 35 (5) 5 Spain 749 (45) 50 (35) 35 Other 98 (5) 5 - - Continental Europe 8,691 (430) 495 (180) (45) Rest of the World 710 (30) 35 (10) 5 International 9,401 (460) 530 (190) (40) United Kingdom 6,131 (450) 525 (295) 360 -------------------------------------------------------------------------------------------------------------------- Total 15,532 (910) 1,055 (485) 320 ==================================================================================================================== 1% increase 1% decrease 10% rise in 10% fall in EU in equity/ in equity/ in equity/ in equity/ minimum Embedded value As reported property property property property capital (net of tax) on page 38 returns returns market values market values (or equivalent) 30 June 2006 Â£m Â£m Â£m Â£m Â£m Â£m France 2,181 80 (80) 125 (130) 40 Ireland 956 25 (25) 35 (35) 15 Italy 765 10 (10) 10 (15) 10 Netherlands (including Belgium, Germany and Luxembourg) 3,343 205 (205) 350 (340) 105 Poland 599 5 (5) 5 (5) 10 Spain 749 25 (25) 20 (20) 5 Other 98 - - - - - Continental Europe 8,691 350 (350) 545 (545) 185 Rest of the World 710 5 (5) 5 (5) 20 International 9,401 355 (355) 550 (550) 205 United Kingdom 6,131 225 (235) 420 (430) 95 -------------------------------------------------------------------------------------------------------------------- Total 15,532 580 (590) 970 (980) 300 ==================================================================================================================== In general, the magnitude of the sensitivities will reflect the size of the embedded values, though this will vary as the sensitivities have different impacts on the different components of the embedded value. In addition, other factors can have a material impact, such as the nature of the options and guarantees, as well as the types of investments held. The interest rate sensitivity will vary significantly by territory, depending on the type of business written: for example, where non-profit business is well matched by backing assets, the favourable impact of reducing the risk discount rate is the dominant factor. -------------------------------------------------------------------------------------------------------------------- PAGE 44 Sensitivities will also vary according to the current economic assumptions, mainly due to the impact of changes to both the intrinsic cost and time value of options and guarantees. Options and guarantees are the main reason for the asymmetry of the sensitivities where the guarantee impacts to different extents under the different scenarios. This can be seen in the sensitivity of a 1% movement in the interest rate for the Netherlands, where there is a significant amount of business with investment return guarantees. The increase of 80 basis points to the assumed pre-tax investment returns at 30 June 2006 has significantly decreased this sensitivity, reflecting the level of the guarantees relative to the interest rate assumption. Sensitivities to a 1% movement in the equity/property return will only impact the value of the in-force covered business, whereas a 10% movement in equity/property values may impact both the net worth and the value of in-force, depending on the allocation of assets. New business contribution before required capital As reported on 1% increase in 1% decrease in 1% increase in 1% decrease in (gross of tax) page 32 discount rates discount rates interest rates interest rates 6 months to 30 June 2006 Â£m Â£m Â£m Â£m Â£m France 87 (7) 9 1 (3) Ireland 11 (2) 3 (1) 1 Italy 38 (2) 2 2 (5) Netherlands (including Belgium, Germany and Luxembourg) 34 (5) 6 12 (22) Poland 14 (1) 1 - - Spain 88 (6) 7 (4) 4 Other (4) (1) - - (1) Continental Europe 268 (24) 28 10 (26) Rest of the World 24 (4) 4 - - International 292 (28) 32 10 (26) United Kingdom 167 (32) 37 (14) 16 -------------------------------------------------------------------------------------------------------------------- Total 459 (60) 69 (4) (10) ==================================================================================================================== New business contribution before required capital As reported on 1% increase in 1% decrease in (gross of tax) page 32 equity/property returns equity/property returns 6 months to 30 June 2006 Â£m Â£m Â£m France 87 4 (4) Ireland 11 1 (1) Italy 38 1 (1) Netherlands (including Belgium, Germany and Luxembourg) 34 8 (7) Poland 14 - - Spain 88 - - Other (4) - - Continental Europe 268 14 (13) Rest of the World 24 1 (1) International 292 15 (14) United Kingdom 167 16 (15) -------------------------------------------------------------------------------------------------------------------- Total 459 31 (29) ==================================================================================================================== One of the key assumptions underpinning the new business contribution is the appropriate level of required capital supporting different types of products. The effect of the assumptions relating to levels of required capital is most significant in relation to annuity business written in the UK. Following a review of the Individual Capital Assessment results in the third quarter of 2005, Aviva concluded that the appropriate level of capital required to support the risks for this business is equivalent to 150% (30 June 2005: 200%) of the EU required minimum margins (RMM), notwithstanding the prudent margins incorporated in the technical provisions. This brings the required capital used to report business performance closer in line with the economic capital required to support the business. Changing the assumption of the required capital backing annuities to 100%, increases the reported value of new business contribution reported after the effect of required capital for the six months to 30 June 2006 by Â£5 million and increases the embedded value by Â£95 million, as shown on page 43. -------------------------------------------------------------------------------------------------------------------- PAGE 45 Sensitivity analysis - non-economic assumptions The tables below show the sensitivity of the embedded value as at 30 June 2006 and the new business contribution before the effect of required capital for the six months to 30 June 2006 to the following changes in non-economic assumptions: â€¢ 10% decrease in maintenance expenses (a 10% sensitivity on a base expense assumption of Â£10pa would represent an expense assumption of Â£9pa). Where there is a 'look through' into service company expenses, the fee charged by the service company is unchanged while the underlying expense decreases; â€¢ 10% decrease in lapse rates (a 10% sensitivity on a base assumption of 5%pa would represent a lapse rate of 4.5%pa); â€¢ 10% decrease in both mortality and morbidity rates. No future management actions are modelled in reaction to the changing non-economic assumptions. In each sensitivity calculation, all other assumptions remain unchanged. 10% decrease in 10% decrease in Embedded value As reported on maintainance 10% decrease in mortality/ (net of tax) page 38 expenses lapse rates morbidity rates 30 June 2006 Â£m Â£m Â£m Â£m France 2,181 30 25 35 Ireland 956 20 15 - Italy 765 5 - 5 Netherlands (including Belgium, Germany and Luxembourg) 3,343 65 15 (45) Poland 599 20 35 15 Spain 749 10 35 15 Other 98 - 5 - Continental Europe 8,691 150 130 25 Rest of the World 710 10 10 20 International 9,401 160 140 45 United Kingdom 6,131 195 75 (125) -------------------------------------------------------------------------------------------------------------------- Total 15,532 355 215 (80) ==================================================================================================================== New business contribution 10% decrease in 10% decrease in before required capital As reported on maintainance 10% decrease in mortality/ (gross of tax) page 32 expenses lapse rates morbidity rates 6 months to 30 June 2006 Â£m Â£m Â£m Â£m France 87 3 4 4 Ireland 11 1 1 - Italy 38 1 1 1 Netherlands (including Belgium, Germany and Luxembourg) 34 5 2 1 Poland 14 1 2 2 Spain 88 2 9 5 Other (4) - (1) - Continental Europe 268 13 18 13 Rest of the World 24 1 2 1 International 292 14 20 14 United Kingdom 167 17 12 14 -------------------------------------------------------------------------------------------------------------------- Total 459 31 32 28 ==================================================================================================================== The demographic sensitivities shown above represent a standard change to the assumptions for all products. Different products will be more or less sensitive to the change, and impacts may partially offset. End of Part 2 of 4 This information is provided by RNS The company news service from the London Stock Exchange

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Aviva (AV.)

Thursday, 23rd May 2024

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HL. QQ. AJB

Another day and another round of takeover talk with Hargreaves Lansdown being eyed by private equity suitors. AJ Bell also advances on upbeat earnings news whilst QinetiQ upgrades its profit guidance, too.

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