Part 3 - Supplement
Old Mutual PLC
6 March 2001
Old Mutual plc
Supplemental Embedded Value Information
1. Embedded value
The embedded value of Old Mutual plc at 31 December 2000 is set out below,
together with the corresponding position at 31 December 1999.
31 Dec 2000 31 Dec 1999 31 Dec 2000 31 Dec 1999
£m £m Rm Rm
Adjusted net worth 4,730 4,608 53,517 45,791
Equity shareholders' 3,618 3,513 40,937 34,907
funds
Excess of market value 1,132 1,114 12,805 11,069
of listed subsidiaries
over their net asset
value
Adjustment to include (20) (19) (225) (185)
OMI life subsidiaries
on a statutory solvency
basis
Value of in-force 823 806 9,314 8,003
business
Value of in-force 886 884 10,028 8,781
business before cost of
solvency capital
Cost of solvency (63) (78) (714) (778)
capital
Embedded value 5,553 5,414 62,831 53,794
An embedded value is an actuarially determined estimate of the economic
value of a life assurance company, excluding any value that may be
attributed to future new business. Old Mutual plc's embedded value is the
sum of its adjusted net worth and the present value of the projected
stream of future after-tax profits from its life assurance business in
force at the valuation date, adjusted for the cost of holding solvency
capital equal to the South African Statutory Capital Adequacy Requirement
(or equivalent for non-African operations).
The adjusted net worth is equal to the consolidated equity shareholders'
funds adjusted to reflect the group's listed subsidiaries at market value,
and Old Mutual International (OMI) life assurance subsidiaries on a
statutory solvency basis.
The embedded value does not include a market valuation of the group's
asset management subsidiaries (including asset management business written
through the life assurance companies), nor of any other in-force non-life
business of the group.
No account has been taken of capital gains tax proposed to be introduced
in South Africa with effect from 1 October 2001. Draft legislation was
issued by the South African tax authorities in December for comment. As
there may still be changes to the proposed legislation it was considered
premature to adjust the embedded value to include the impact of capital
gains tax as envisaged by the draft legislation. An indication of the
impact of the proposed legislation on the embedded value has however been
provided in section 5.
The assumptions used to calculate the embedded value are set out in
section 4.
The table below sets out a geographical analysis of the value of in-force
business at 31 December 2000 and 31 December 1999.
31 Dec 31 Dec 31 Dec 31 Dec
2000 1999 2000 1999
£m £m Rm Rm
South Africa 706 687 7,988 6,830
Individual business 451 448 5,098 4,455
Group business 255 239 2,890 2,375
Rest of World 117 119 1,326 1,173
Value of in-force business 823 806 9,314 8,003
2. Embedded value profits
Embedded value profits represent the change in embedded value over the period,
adjusted for any capital raised and dividends proposed. The after-tax embedded
value profits for the twelve months to 31 December 2000 are set out below,
together with the corresponding figures for the twelve months to 31 December
1999.
12 12 12 12
months months months months
31 Dec 31 Dec 31 Dec 31 Dec
2000 1999 2000 1999
£m £m Rm Rm
Embedded value profits 125 1,434 8,795 14,991
Increase in embedded value 139 2,328 9,037 23,620
Less capital raised (177) (963)(1,956) (9,309)
Self-investment transaction - (404) - (3,954)
New capital raised (153) (559) (1,691)(5,355)
Proceeds from sale of shares previously held to
satisfy claims and errors on demutualisation (24) - (265) -
Plus dividends proposed 163 69 1,714 680
Embedded value at end of year 5,553 5,414 62,831 53,794
Embedded value at beginning of year 5,414 3,086 53,794 30,174
The components of the embedded value profits are set out below:
12 12 12 12
months months months months
31 Dec 31 Dec 31 Dec 31 Dec
2000 1999 2000 1999
£m £m Rm Rm
Profits from new business 74 75 782 741
* Point of sale 68 69 718 678
* Expected return to end of year 6 6 64 63
Expected return 144 160 1,514 1,581
Experience variances 28 ) 289 )
) 13 ) 129
Experience assumption changes 72 ) 757 )
Profits before investment and exceptional 318 248 3,342 2,451
items
Investment variances (14) ) (143) )
) 99 ) 972
Investment assumption changes 10 ) 101 )
Investment return on adjusted net worth 484 1,331 5,092 13,118
Exceptional items - (185) - (1,826)
* Impact of 2000 SA tax change - (121) - (1,190)
* Sale of UK life operation - (12) - (118)
* Additional pensions mis-selling
provisions - (52) - (518)
Exchange rate movements (673) (59) 403 276
Embedded value profits 125 1,434 8,795 14,991
The profits from new life assurance business comprise the value of new
business written during the year, determined initially at the point of sale
and then accumulated to the end of the year by applying the discount rate to
the value of new business at the point of sale and adding back the expected
cost of solvency capital between the point of sale and the end of the year.
The new business profits for the twelve months to 31 December 1999 are shown
on the old South African tax basis - the restated figures on the new tax basis
(effective 1 January 2000) are set out in section 3 below.
The profits from existing life assurance business consist of the expected
return on the in-force business, experience variances and changes in
experience assumptions. The expected return is determined by applying the
discount rate to the value of in-force business at the beginning of the year
and adding back the expected cost of solvency capital over the year. The
experience variances are caused by differences between the actual experience
in the year and the assumptions used to calculate the value at the start of
the year. The amount under assumption changes is the result of revised
expectations of future experience and includes the value of certain margins
not previously valued.
The investment variances represent the differences between the actual returns
in the year and the assumptions used to calculate the value at the start of
the year. The investment assumption change primarily represents the 1%
reduction in all South African investment return assumptions and the risk
discount rate, reflecting the decline in interest rates in South Africa.
Differentials between the various investment assumptions and the risk discount
rate have been left unchanged.
The investment return on adjusted net worth represents the actual investment
return earned on the shareholder portfolio investments (which includes the
return on the market value of the shareholders' investments in Nedcor, Mutual
& Federal and Nedcor Investment Bank), as well as the profits arising from
other non-life businesses within the group.
The basis of taxation of life assurance companies in South Africa changed with
effect from 1 January 2000, but the impact was included in the value of
in-force as at 31 December 1999. The results for December 2000 do not include
the impact of the proposed introduction of capital gains tax in South Africa.
1. Value of new business
The value of new business (VNB) written in the year is the present value of
the projected stream of after-tax profits from that business, adjusted for the
cost of holding solvency capital. The value is determined initially at the
point of sale and then accumulated to the end of the year as described in
section 2 above.
The tables below set out a geographical analysis of the value of new business
for the twelve months to 31 December 2000 and the twelve months to 31 December
1999. New business profitability (as measured by the ratio of the value of new
business to the Annual Premium Equivalent) is also shown. Annual Premium
Equivalent (APE) is calculated as recurring premiums (RP) plus 10% of single
premiums (SP).
12 months to 31 Dec 12 months to 31 Dec 2000
2000
RP SP APE VNB Margin RP SP APE VNB
£m £m £m £m Rm Rm Rm Rm
South Africa 179 1,097 289 67 23% 1,886 11,542 3,040 708
Individual business 131 805 212 38 18% 1,384 8,465 2,230 399
Group business 48 292 77 29 38% 502 3,077 810 309
Rest of World 20 211 41 5 13% 212 2,216 434 56
Total (pro forma) 199 1,308 330 72 22% 2,098 13,758 3,474 764
SA Group (free 78 8 2 22% 818 82 18
shares)
Total 199 1,386 338 74* 22% 2,098 14,576 3,556 782*
* Value of new business net of cost of solvency capital of £5m (R52m)
12 months to 31 Dec 12 months to 31 Dec
1999 1999
RP SP APE VNB Margin RP SP APE VNB
£m £m £m £m Rm Rm Rm Rm
South Africa 162 1,043 266 55 21% 1,597 10,280 2,625 546
Individual business (new 141 697 211 28 13% 1,390 6,873 2,077 277
tax basis)
Group business (excl free 21 346 55 27 49% 207 3,407 548 269
shares)
7 13% 355 1,696 525 70
Rest of World 36 172 53
Total (pro forma - new tax 198 1,215 319 62 20% 1,952 11,976 3,150 616
basis)
SA Individual (tax change) 8 73
SA Group (free shares) 175 18 5£ 30% 1,727 172 52£
Total (old tax basis) 198 1,390 337 75* 22% 1,952 13,703 3,322 741*
£ Value of new business relating to demutualisation proceeds restated due to
overstatement of R19m (£2m) in December 1999
* Value of new business net of cost of solvency capital £7m (R65m)
The tax change in respect of Individual business in South Africa reflects the
impact of the new South African tax basis effective 1 January 2000. The value
of new group business for the year to 31 December 2000 includes an amount of £
1.7 million (R18 million) in respect of the proceeds from free shares issued
to retirement funds at demutualisation, and re-invested with Old Mutual. The
corresponding figure for the year to 31 December 1999 was £5.3 million (R52
million).
The value of new business excludes the value of new individual unit trust and
some group market-linked business written through the life companies, as the
profits on this business arise in the asset management subsidiaries. It also
excludes premium increases arising from indexation arrangements in respect of
existing business, as these are already included in the value of in-force
business. The value of new business however includes the value of new
Investment Frontiers business that originated from existing policies that
matured. A reconciliation of the new business premiums shown in the notes to
the financial statements to those shown above is set out below.
Recurring Single Recurring Single
premiums premiums
Premiums Premiums
Rm Rm
£m £m
New business premiums in the notes to 248 1,612 2,609 16,960
the financial statements
Less:
* Group market-linked business not - (268) - (2,819)
valued
* Unit trust business not valued
* New business premiums arising - (108) - (1,142)
from indexation
Plus transfer of maturing policies to (49) - (511) -
Investment Frontiers
- 150 - 1,577
New business premiums as per 199 1,386 2,098 14,576
embedded value report
4. Assumptions
The principal assumptions used in the calculation of the value of in-force
business and the value of new business are set out below.
* The pre-tax investment and economic assumptions used for South African
business were as follows:
South Africa 31 Dec 31 Dec
2000 1999
Fixed Interest Return 13.0% 14.0%
Equity & Property Return 16.0% 17.0%
Inflation 9.0% 10.0%
Risk Discount Rate 17.0% 18.0%
For the non-South African operations, appropriate investment and economic
assumptions were chosen on bases consistent with those adopted in South
Africa.
* Rates of future bonuses have been set at levels consistent with the
investment return assumptions.
* For the in-force business, projected company taxation is based on the
current tax basis that applies to South African life assurers, and
includes full allowance for secondary tax on companies that may be payable
in South Africa. No account has been taken of proposed capital gains tax
in South Africa.
* The assumed future mortality, morbidity and voluntary discontinuance
rates have been based as far as possible on analyses of recent operating
experience. Allowance has been made where appropriate for the effect of
expected AIDS-related claims.
* The management expenses attributable to life assurance business have
been analysed between expenses relating to the acquisition of new business
and the maintenance of business in force. Assumed future expenses were
based on levels experienced up to 31 December 2000. The future expenses
attributable to life assurance business do not include group holding
company expenses.
* Future investment expenses were based on the current scales of fees
payable by the life assurance companies to the asset management
subsidiaries. To the extent that these fees include profit margins for the
asset management subsidiaries, these margins have not been included in the
value of in-force business or the value of new business.
* The effect of increases in premiums over the period for policies
in-force as at 31 December 2000 and 31 December 1999 has been included in
the value of in-force business only where such increases are associated
with indexation arrangements. Other increases in premiums of existing
policies are included in the value of new business.
* The experience assumptions have been changed to reflect revised
expectations of future experience and to include certain margins not
previously valued. In particular, Group Schemes mortality assumptions were
revised, Employee Benefits expense and retention assumptions were revised,
and some sources of Individual Life profit not previously valued have now
been valued.
* Conversions between Rand and Sterling were carried out at the following
exchange rates:
Exchange rates Rand per Sterling
At 31 Dec 2000 11.3148
At 31 December 1999 9.9364
12 months to 31 December 2000 (average) 10.5213
12 months to 31 December 1999 (average) 9.8588
5. Alternative Assumptions
The discount rate appropriate to an investor will depend on the investor's own
requirements, tax position and perception of the risks associated with the
realisation of the future profits. To illustrate the effect of using different
discount rates, the table below shows the embedded value of Old Mutual plc at
31 December 2000 at alternative discount rates. In determining the values at
different discount rates, all other assumptions have been left unchanged.
Value at Value at Value at Value at Value at Value at
Central Central Central Central Central Central
Discount Discount Discount Discount Discount Discount
Rate Rate Rate Rate Rate Rate
-1% +1% -1% +1%
£m £m £m Rm Rm Rm
Adjusted 4,730 4,730 4,730 53,517 53,517 53,517
net worth
Value of
in-force
business 928 823 731 10,502 9,314 8,267
Value 929 886 847 10,513 10,028 9,580
before
cost of
capital
Cost of (1) (63) (116) (11) (714) (1,313)
solvency
capital
Embedded 5,658 5,553 5,461 64,019 62,831 61,784
value
The table below sets out the value of new life assurance business for the 12
months to 31 December 2000 at alternative discount rates.
12 months to 31 Dec 2000
Value at Value at Value at Value at Value at Value at
Central Central Central Central Central Central
Discount Discount Discount Discount Discount Discount
Rate Rate Rate Rate Rate Rate
-1% +1% -1% +1%
£m £m £m Rm Rm Rm
Value 84 79 75 885 834 786
before
cost of
capital
Cost of - (5) (9) - (52) (99)
solvency
capital
Value of 84 74 66 885 782 687
new
business
at point
of sale
The table below shows the sensitivity of the value of in-force business at 31
December 2000 and the value of new business for the 12 months to 31 December
2000 to changes in key assumptions. All of the sensitivities have been
determined at the central discount rates and for each sensitivity illustrated,
all other assumptions have been left unchanged.
Value of Value of new Value of Value of new
in-force life business in-force life business
business at for year to business at for year to
31 Dec 2000 31 Dec 2000 31 Dec 2000 31 Dec 2000
£m £m Rm Rm
Central assumptions 823 74 9,314 782
Effect of:
* Decreasing the (89) (7) (1,007) (74)
pre-tax investment
return assumptions by
1% with bonus rates
changing commensuratel
- Value before cost of (33) (3) (366) (27)
capital
- Cost of solvency (56) (4) (641) (47)
capital
* Voluntary (33) (12) (368) (127)
discontinuance rates
increasing by 25%
* Maintenance expense (78) (7) (881) (74)
levels increasing by
20% with no
corresponding increase
in policy charges
* Increasing the (11) (1) (125) (10)
inflation assumption by
1%
As mentioned in section 1, no account has yet been taken of the capital gains
tax (CGT) proposed to be introduced in South Africa with effect from 1 October
2001. Given that about 10% of the company's equity portfolio is traded each
year, we have estimated that CGT as currently proposed could reduce the equity
investment return in the Individual Policyholder Fund (IPF) by about 0.5% per
annum, and in the Corporate Policyholder Fund (CPF) and Corporate Fund (CF) by
about 0.9% per annum. Based on the company's current product and investment
portfolio mix, the overall investment return on total policyholder funds is
expected to reduce by about 0.1% per annum. This would cause the value of
in-force life business (before cost of capital) to reduce by about £3.3
million (R37 million). The corresponding reduction in the value of new
business (before cost of capital) is £0.3 million (R3 million).
A 0.9% per annum reduction in the investment return on solvency capital would
increase the cost of solvency capital (and reduce the net value of in-force
life business) by £50 million (R577 million), if the risk discount rate
remained unchanged. The corresponding figure for the cost of solvency capital
in respect of new business is £0.4 million (R4 million). Should the risk
discount rate be reduced from 17% to 16% when CGT is introduced, then the net
impact on the cost of solvency capital would cause a small increase in the
value of new and in-force life business.
6. External review
These results have been reviewed by Tillinghast-Towers Perrin who have
confirmed to the Directors that the methodology and assumptions used to
determine the embedded value are reasonable and that the embedded value
profits are reasonable in the context of the operating performance and
experience of the assurance business during the 12 months to 31 December 2000.
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