ISSUED 02 FEBRUARY PROVIDER SECTOR Scottish Widows FINANCIAL STRENGTH ASSESSMENT

Transcription

1 ISSUED 02 FEBRUARY 2018 PROVIDER SECTOR Scottish Widows FINANCIAL STRENGTH ASSESSMENT

2 Scottish Widows PROVIDER SECTOR ABOUT THIS FINANCIAL STRENGTH ASSESSMENT This AKG report and the analysis and ratings contained within it provide assessment of financial strength and associated considerations. Financial Strength is focused on the ability of a company to deliver ongoing operational capability in the interest of its customers and in line with their fairly held expectations. AKG s perspective in the assessment of financial strength is wholly that of a customer of a product or service. From that foundation, this analysis is specifically designed to inform financial advisers and assist in their required understanding of a company s operational financial strength. Given the underlying customer perspective, the financial strength of companies needs to be focused at an operational level (i.e. the elements and functions of an organisation which operate to specifically deliver and manage a proposition or service to the customer), specifically on the company that is effecting the product or service that a customer is selecting. This is important, because from the customer s perspective it is that company that needs to survive in a form that maintains the requisite operational characteristics to meet their fairly held requirements. And it is thus at this level that the selection needs of the customers advisers must be met. This contrasts to credit rating, which will be undertaken at group or parent company level where investment or debt placement etc. is made. Further details on how analysis is undertaken is provided at the end of this report and may also be obtained from AKG. TABLE OF CONTENTS Company Analysis Rating & Assessment Commentary... 3 Ratings... 3 Summary... 3 Commentary... 3 Group & Parental Context... 6 Background... 6 Group Structure (simplified)... 7 Company Analysis: Scottish Widows Ltd... 8 Basic Information... 8 Operations... 9 Strategy Key Company Financial Data Guide Introduction Rating Definitions About AKG CONTACT INFORMATION AKG Financial Analytics Ltd, Anderton House, 92 South Street, Dorking, Surrey, RH4 2EW Tel: +44 (0) akg@akg.co.uk Web: Guide AKG Financial Analytics Ltd 2 02 February 2018

3 Scottish Widows PROVIDER SECTOR Rating & Assessment Commentary Rating & Assessment Commentary RATINGS Overall Financial Strength B+ PROVIDER SECTOR VERY STRONG SCOTTISH WIDOWS LTD Additional Financial Strength and Supporting Ratings Group & Parental Context Non Profit Financial Strength Unit Linked Financial Strength With Profits Financial Strength Service Image & Strategy Business Performance Scottish Widows Ltd SUMMARY Company Analysis Scottish Widows Ltd (SWL) represents the UK long term life insurance business of Lloyds Banking Group plc (LBG), and is the key provider of life assurance and pensions in the group with 124bn of funds under management (before the acquisition of Zurich workplace pensions) Financial performance in the company has been reasonable; in difficult trading conditions 2016 profits were down 13% on 2015 but still sufficient to pay a dividend of 250m in the year Solvency is considered good, with SWL reporting as part of the 'Insurance Group' of companies within LBG headed by Scottish Widows Group Ltd (SWG) Service has improved after a period of some significant difficulty, and various accolades received in 2016 and 2017 The rationalisation and simpliication of the Insurance Group has been a positive move with a well diversified portfolio of risks The purchase of the Zurch workplace business is demonstrative of a growth and development focus in key customer areas COMMENTARY Guide Financial Strength Ratings Scottish Widows Ltd The company, previously named Clerical Medical Investment Group Ltd, is now the sole UK long term insurance company of Lloyds Banking Group plc (LBG). With business now more evenly distributed between the intermediary market and its bancassurance parentage, the Insurance Group headed by Scottish Widows Group Ltd is a core component within LBG, both with regards to the width it provides for the overall proposition as well as its cash generation role and increasing dividend stream. Retained unit linked business forms the most significant part of the company's business and this is mainly non profit business. Whilst Scottish Widows and Clerical Medical both had strong with profits heritages, with profits business now forms only a minority of the company's business, at 15% of the total reserves ( 16.2bn out of a total of 108.0bn). Whilst AKG Financial Analytics Ltd 3 02 February 2018

4 Scottish Widows PROVIDER SECTOR Rating & Assessment Commentary Group & Parental Context up slightly from 14% in 2015, the proportion is expected to reduce now that the company's new business efforts are focused on non profit and unit linked product lines. On a Solvency II basis, the company disclosed a Solvency Capital Requirement (SCR) Coverage Ratio of 144% at the end of 2016, based on Own Funds of 8.2bn and a SCR of 5.7bn. This was after recognising a dividend of 600m, paid from SWL to SWG in February 2017, and prior to the payment of that dividend, the Solvency ratio was 155%. Service Rating The approach to service has become a key operational area of focus in recent years, when challenges were faced by Scottish Widows in terms of a below standard level of service delivered in the face of high volumes of auto-enrolment and pension freedoms business. The importance of service delivery has been recognised strategically by LBG and a range of initiatives have been transforming the service experience for employers, advisers and members over the last few years. Significant investment in staff training has resulted in case ownership of customer service requests and a transformed telephony service completion at first point of contact. Investment and focus on systems and infrastructure which underpin service delivery has also been deployed. Corporate Pensions received CCA Global Standard Accreditation for the service provided to customers in November Scottish Widows is making greater use of telephony teams to work on dedicated service areas for individual pensions administration. In October 2015 a telephony service for advisers was launched in order to enhance the Retirement Account service experience and SWL reports positive service delivery results from this initiative. Net Promoter Score (NPS) across LBG as a whole as at December 2016 had increased by 50% since 2011, standing at 62.7, and more specifically in respect of pension administration between H and H1 2017, telephony and face-toface NPS measures increased by over 100%. Despite a necessary focus on clearing problems and rebuilding capability the business has also been undertaking lateral innovative development in customer interaction and this has the potential for advancing and differentiating the business in the future. Company Analysis Guide Image & Strategy Rating The group has identified four core areas of focus within the broader Life and Pensions markets - Protection, Corporate Pensions, Retirement and Bulk Annuities - with Scottish Widows the lead group brand and proposition used in each of these areas. The Protection and Bulk Annuity propositions are relatively new, but both are showing early signs of promising market penetration. Opportunities for a recognised customer brand in the retirement market following the pension freedoms changes are obvious and Retirement Account will need to play a key role in business acquisition/retention in this area. However, access to, and valid interpretation of, deep customer insight will be key to understanding and converting these opportunities. Given LBG s wider business experience and customer reach there is scope for knowledge sharing and relationship leveraging for the benefit of Scottish Widows, but this activity will need to be carefully aligned and managed in order to be productive. The ability to deliver across multiple distribution channels will also be critical but the balancing act between these different channels, propositions and segments also needs to be carefully managed to ensure optimum penetration. The strategy for Scottish Widows acknowledges the requirement for investment in digital capability and IT infrastructure, both of which will be crucial for the successful delivery of the various product/proposition, service and distribution initiatives within the business. But cost, process and systems efficiencies still need to be targeted post integration of various businesses in LBG. Awareness of the brand remains strong in terms of positive customer recognition and Scottish Widows continues to support initiatives which raise awareness of key market themes, including the requirement for long term savings, and to participate in discussion which informs the future direction of the Life & Pensions industry. Business Performance Rating 2016 was a year of consolidation and focus on bedding down the new business after a transformational year in 2015 for the Scottish Widows Group which culminated in the business transfers into SWL. AKG Financial Analytics Ltd 4 02 February 2018

5 Scottish Widows PROVIDER SECTOR Rating & Assessment Commentary Group & Parental Context The scale of the company increased substantially after the major group re-structuring on 31 December 2015, and the company declared a pre-tax profit of 346m in 2016 [2015: 80m] and paid dividends of 250m [2015: 245m]. The results benefited from profits on the annuity portfolio and positive market conditions, but was again impacted by the German Insurance Business litigation. SWL successfully completed four bulk annuity transactions in 2016, taking the combined external deal size to over 1.85bn since entering the market in late It continued to leverage LBG capabilities to source attractive, low risk, higher yielding assets to back annuity liabilities. Total assets acquired to date are 7bn. Growth in corporate pension sales has continued in a competitive environment, driven by increased uptake of new schemes. Scottish Widows Protect monthly applications have increased almost tenfold, providing 2.4bn of life assurance and critical illness cover to individuals and businesses across the UK. Scottish Widows has been through a concerted period of change and challenge but is now a key component within LBG s future strategy. Scottish Widows has managed to address its previous service issues but it needs to continue to address legacy book modernisation. It is, however, now able to look forward with greater clarity around the Life and Pensions proposition, where it is actively targeting new business opportunities in both the protection and bulk annuity markets, and looks set to benefit from LBG's continued investment in all its core businesses, particularly relating to digital enhancements. The UK Government injected over 20bn into LBG by way of bail out in 2008 but commenced selling off of its holding in 2013 and the remaining shares were sold in May 2017, returning LBG to private ownership. Guide Company Analysis AKG Financial Analytics Ltd 5 02 February 2018

6 Scottish Widows PROVIDER SECTOR BACKGROUND Group & Parental Context Lloyds TSB Group plc was renamed Lloyds Banking Group plc in January This followed the acquisition of HBOS plc, which created the largest retail bank in the UK, then part-owned by HM Treasury. Within this, the Insurance Division encompassed all the insurance companies that previously operated within the two banks. Scottish Widows was acquired by Lloyds TSB plc in March It distributed through the Lloyds branch network and intermediaries, and directly via telephone and with an online presence. It had four UK life subsidiaries - the main company Scottish Widows plc (SWplc), together with the specialist subsidiaries Scottish Widows Unit Funds Ltd (SWUF - linked pensions business), Scottish Widows Annuities Ltd (SWA - non-profit pension annuities), and Pensions Management (SWF) Ltd (PMSWF). HBOS operated a multi-brand, multi-channel approach, with Clerical Medical Investment Group Ltd (CMIG), Halifax Life Ltd (HLL), St Andrew's Life Assurance plc (SAL) and St. James s Place UK plc, which was sold in CMIG was the primary HBOS intermediary product provider, together with Clerical Medical Managed Funds Ltd (CMMF), CMI Insurance Company Ltd (an Isle of Man based company now closed to new business and sold to RL360) and HBOS Investment Fund Managers Ltd. From December 2010, the LBG Insurance Division distributed all its intermediary life, pensions and investment business through a combined salesforce operating under the Scottish Widows brand. In July 2011, a corporate restructuring led to the formation of one insurance group, under the ownership of Scottish Widows Group Ltd (SWG). In 2013 LBG completed the sale of Scottish Widows Investment Partnership (SWIP) to Aberdeen Asset Management. On 31 December 2015, a major simplification of the Scottish Widows Group took place. The business of SWplc, SWUF, SWA, PMSWF, HLL, SAL and CMMF was transferred into CMIG, which was renamed Scottish Widows Ltd (SWL). The Insurance Group now comprises SWG and its subsidiaries SWL, Lloyds Bank General Insurance Ltd (LBGIL) and St Andrew's Insurance plc (StAI). The Insurance Group is one of LBG's four main business areas and contributed 11% of LBG's 2016 year end underlying profit (which excluded run-off and central items). The other divisions and corresponding contribution were: Retail (40%), Commercial Banking (32%) and Consumer Finance (17%). As at 31 December 2016 the Insurance Group had an estimated Solvency II surplus of 2.6bn, giving a Solvency Ratio of 143%, including around 1bn of transitional benefits which will be phased out over 16 years. LBG reported an estimated shareholder view Solvency II ratio (pre dividend) of 160% [2015: 160%). In October 2017 Scottish Widows announced the purchase of Zurich UK's workplace pensions and savings business assets of 15bn, to add to its own 35bn of workplace assets. The acquisition was expected to partially close in the first quarter of 2018, with subsequent completion and transfer of assets following the required regulatory and legal approvals. The transaction also included a multi-year, exclusive distribution partnership for Zurich to provide group life protection solutions to certain corporate clients of LBG s Commercial Banking services. AKG Financial Analytics Ltd 6 02 February 2018

7 Scottish Widows PROVIDER SECTOR GROUP STRUCTURE (SIMPLIFIED) AKG Financial Analytics Ltd 7 02 February 2018

8 Scottish Widows Ltd PROVIDER SECTOR Company Analysis: Scottish Widows Ltd BASIC INFORMATION Company Type Life Insurer Ownership & Control Lloyds Banking Group plc Year Established 1996 Country of Registration UK Head Office Port Hamilton, 69 Morrison Street, Edinburgh EH3 8BW Contact Web: Key Personnel Role Chairman Chief Executive Officer Finance Director Chief Risk Officer Distribution Director - Insurance Business Protection Director Investment Strategy & Execution Director Head of Policy Development Annuities and Retirement Income Director Chief Actuary With Profits Actuary Name N E T Prettejohn A Lorenzo M Harris P Thomas J Leiper S Cadger G Stewart P Glancy S Paton Evans J C S Hillman A C Smith Company Background The Clerical, Medical & General Life Assurance Society was established in 1824 to cater for the insurance needs of the professionals of the day - the clergy and medics, subsequently broadening its target market to all types of professions and beyond this to a wider target market. At the end of 1996, the Society demutualised, becoming part of the Halifax, and its business was transferred into the newly formed Clerical Medical Investment Group Ltd (CMIG). December 2009 saw CMIG recapture the annuity business previously reinsured to CMMF. This involved assets of 2bn and a loss of 112.2m. In January 2009, the company began accepting reinsured protection business from Scottish Widows plc. In July 2009, CMIG ceased writing new pensions business and in 2010 CMIG started to distribute the excess estate from its with profits fund. Ownership of CMIG, which became a direct subsidiary of SWplc in 2011, was transferred to Scottish Widows Group Ltd in advance of the business transfers in December AKG Financial Analytics Ltd 8 02 February 2018

9 Scottish Widows Ltd PROVIDER SECTOR On 31 December 2015, the company became Scottish Widows' sole UK long term insurance company following the major simplification that took place. The business of SWplc, SWUF, SWA, PMSWF, HLL, SAL and CMMF was transferred into CMIG, which was renamed Scottish Widows Ltd (SWL). SWL was also reopened to new business. Historically a with profits company, recent new business has been written on a unit linked basis. Within SWL, funds under management relating to policyholder liabilities were 121.3bn as at 31 December 2016 [2016: 106.8bn], including 73.8bn transferred as a result of the Insurance Business Transfer Scheme at the end of In October 2017 Scottish Widows announced the purchase of Zurich's 15bn UK workplace pensions and savings business. The acquisition is expected to partially close in the first quarter of 2018, with subsequent completion and transfer of assets following the required regulatory and legal approvals. OPERATIONS Governance System and Structure In the lead up to the introduction of Solvency II, the Insurance Group developed and implemented a comprehensive system of governance. Further enhancements were made in 2016, including the creation of the Longstanding Life, Protection and Investment team to ensure continued focus and support for long-standing customers and the creation of a new Board committee, the Insurance People Committee, to challenge, support and influence the culture and values of SWG's employees and managers. The Insurance Group is governed by the Insurance Board, which has common membership, and meets concurrently, with the Boards of the insurance entities within the Insurance Group to discuss matters relating to the Insurance Group and the specific entities within it (including SWL, LBGIL and StAI). The Insurance Board comprises of 11 members, two of whom are Executive Directors and nine of whom are Nonexecutive Directors. Six of the Non-executive Directors are independent. The Insurance Board is collectively responsible for the long-term success of the Insurance Group. It sets the Insurance Group s strategy and oversees delivery against it, establishing the culture, values and standards and ensures that the Insurance Group manages its risk effectively, monitors reports appropriately, and has the necessary financial and human resources in place for the Insurance Group to meet its objectives. The Insurance Board and the individual Insurance Company Boards are responsible for the governance and management of SWG and its three insurance subsidiaries. The Boards are supported by a number of executive committees which carry out their tasks in support of the Boards (more details in SFCR). The Group Director, Insurance has executive responsibility for overall management of LBG s Insurance business and discharges his responsibility for the day-to-day management of the business through delegating elements of his authority to other Insurance executives and with the assistance of the Insurance Executive Committee (IEC), which is the principal executive management committee of the Insurance Group, and a series of subsidiary committees (detailed in SFCR). Risk Management The SWG/SWL business model aims to maximise the capital benefits from risk diversification available under Solvency II, with the life insurance Part VII Transfer Scheme undertaken on 31 December 2015 being a key part of this strategy. Overall, the Insurance Group has a well-diversified portfolio of risks arising from a wide variety of insurance and investment products, across both Life and Pensions and the General Insurance sectors. The most significant risks across the Insurance Group are underwriting risk, market risk and operational risk, together with a number of other material risks consisting primarily of the risks associated with the with profits funds. Within the underwriting and market risks the most significant risks include longevity, persistency, expenses, equity and credit spread movements on corporate bond and loan assets. The group states a diversification benefit of 48% of undiversified SCR at the level of the Insurance Group as indicative of the diverse portfolio. Reinsurance is primarily used to reduce insurance risk, in both life and general insurance businesses. However, it is also sought for other reasons such as improving profitability, reducing capital requirements and obtaining technical support, and to offer investment fund links which Scottish Widows is unable to provide through other means. The Insurance AKG Financial Analytics Ltd 9 02 February 2018

10 Scottish Widows Ltd PROVIDER SECTOR Group s reinsurance strategy is to reduce the volatility of profits through the use of reinsurance whilst managing the insurance and credit risk within the constraints of the risk appetite limits. Administration Scottish Widows has four business units servicing different consumer needs: - Inbound team (33 staff) supports most advisory leads from existing customers, providing guidance in the form of single Protection and Pensions products mainly - Retirement Hub (38 staff) looks to promote At Retirement products, providing guidance on D2C / Retirement Account propositions - Campaign team supports corporate clients and was particularly focused in 2017 on making contact with inactive customers and promoting the Retirement Account - Telephony advice team of 13 supports new business targeting of wealthy individuals (assets in excess of 80k) offering transactional, focused advice and holistic advice. Benchmarks During 2017, Scottish Widows won 'Company of the Year' in the Financial Adviser Service Awards. It also won Benefit Communications Innovation of the Year at the Workplace Savings and Benefits Awards, Advertising Campaign of the Year in the 2017 Money Marketing Awards and in the Pension Age Awards it was Pensions Provider of the Year. Scottish Widows retained 5 star awards in both the Life & Pensions and Investment categories of the 2017 Financial Adviser Service Awards. In 2016 it had won in addition the 'Most Improved' Life & Pensions Provider and was the M&A Awards winner of the Best UK Coprorate Pension Provider. Outsourcing Scottish Widows operates a number of outsourcing arrangements. These include Concentrix for the back office administration of Scottish Widows and ex-halifax (investments) products and Capita for ex-halifax CTF. Bulk Annuity administration is outsourced to Mercer. STRATEGY Market Positioning LBG has identified four core areas in the Life and Pensions markets - Protection, Corporate Pensions, Retirement and Bulk Annuities - and these will be the priority product/proposition areas for Scottish Widows moving forward. In Protection, SWL will continue to rebuild direct relationships through a multi-channel engagement model and build scale through entry into the intermediary channel. For Corporate Pensions, it intends to increase capacity to build a scale and efficient business that serves its growing customer base, also building on banking relationships to win new schemes in target segments. Retirement is an area where SWL sees a unique opportunity to use its position in LBG to invest in the Retirement Account proposition to further build on an already strong presence. And finally in Bulk Annuities, where it has competed successfully for varying sizes of schemes, it expects to grow market share building on wider LBG experience in asset origination. Scottish Widows Protect (SWP) was soft-launched with selected partners in October 2015 and then formally launched to the wider market in January SWP offers a portfolio of personal and business protection products. Scottish Widows built significant bulk annuity capability during 2015, leveraging wider LBG experience in asset origination, and launched its proposition later that year. It has subsequently announced a number of deals, including a 630 million pensioner buy-in by the ICI Pension Fund. For General Insurance, the Insurance Group strategy is to help its customers by being customer centric, having a clear market focus, and by leveraging its position as part of a banking group. AKG Financial Analytics Ltd February 2018

11 Scottish Widows Ltd PROVIDER SECTOR Scottish Widows utilises a range of distribution methods across its core markets. Approaches differ depending on the distribution channel being employed, the account being targeted, key influencers in the channel and the positioning of Scottish Widows in each market. Products can be accessed through Financial Advisers, Direct Sales, and through Lloyds Bank, Bank of Scotland and Halifax branches. In the protection market there is an emphasis on securing panel status with key intermediaries. Scottish Widows Protect is on panel with Towry, Westminster Wealth, Wren Sterling, and London & Country. Consulting with key intermediaries, employers and pension trustees has been key to bulk annuity business development and Scottish Widows is also seeking to utilise LBG s existing Commercial Bank relationships with employers in this area. Retirement Account business development is being refocused on mainstream financial advisers with a balance of field presence and telephony support. More work is also being done on the development of direct distribution capability within LBG for pensions/retirement business. Scottish Widows' approach to workplace pension distribution is evolving with the changing profile of employers staging for auto enrolment, including the development of relationships with new influencers, such as payroll providers, and directly with employers and trustees. Proposition Scottish Widows has made clear its intention to make greater use of its position within LBG to deliver digital solutions for its customer base. In March 2016 it confirmed that investment had been set aside for a Driving Pensions Value programme which is designed to enhance customer service and engagement, improve adviser support and upgrade the digital support offered to corporates and individuals. Retirement Account remains the flagship personal pension drawdown product for Scottish Widows. It was modified to incorporate flexible drawdown functionality following the pension freedoms changes and steps are now in place to simplify the offering in order to appeal to advisers and customers in the mainstream market. In May 2016 Scottish Widows announced the launch of its Premier Pension Portfolio Funds, a range of risk-based multiasset funds available to both group and individual pension customers. The Corporate Pensions proposition consists of the auto enrolment scheme and associated services as well as the MyMoneyWorks proposition. Scottish Widows makes a number of e-business tools available via its adviser extranet to support advisers with planning processes and customer engagement across its Protect, Retirement, Investment, Corporate Pension, Bond and Mortgage product areas. There is also an eservices learning centre for advisers. Scottish Widows launched a new self-serve pension transfer facility in June 2016 as part of its wider digital transformation programme. The service is designed to allow corporate pension customers to transfer their pension pots on a secure website via a three-step process. Scottish Widows is committed to ongoing monitoring and governance of these funds and their managers, with the intention of providing access to quality funds, maintaining credibility and providing a source of differentiation. During 2016 and 2017 it undertook a significant refresh of its range of funds, launching 21 fund links in 2016 with a range of Beta funds and growing sectors such as multi asset, Absolute Return etc. In October 2017 it closed 13 fund links and in late 2017 launched a Retirement oriented fund. Scottish Widows continues to offer a wide range of funds from ready-made investment portfolios to specialist funds, the aim being to meet differing investment needs. Following the 2015 re-structure, the company's assets are divided into three sub-funds - the Clerical Medical With Profits Fund (CMWPF), the Scottish Widows With Profits Fund (SWWPF) and the Combined Fund. The CMWPF's bonus policy objectives are to share out fairly the fund's distributable performance and to control the payout carefully to ensure that each investor does not get too much or too little. Since February 2010, the CMWPF has been distributing excess from the estate to eligible policies by additions to asset shares, adding around 7% to payouts since August The SWWPF aims to safeguard solvency without assuming recourse to extra capital. Enhancements of up to 9% are being made to SWWPF payouts on pre-demutualisation business. AKG Financial Analytics Ltd February 2018

12 Scottish Widows Ltd PROVIDER SECTOR The Combined Fund was created on 1 January 2016 from a merger of the Shareholder Fund and the Non Profit Fund, since separation is no longer required under the Solvency II regime. It also includes the sizeable transfers in of non profit and unit linked business from the group's seven other UK life companies as part of the 2015 scheme. As a result, it is by far the largest of the three funds, with assets almost four times as big as the total of the two with profits funds ( 84bn) at the end of The vast majority of the company's new business is written in this fund, since only incremental new with profits business is now being written. At the end of 2016, the company's 108bn technical provisions comprised 16.2bn with profits, 75.9bn linked, 0.6bn reinsurance, 0.2bn health, and 15.1bn other business. KEY COMPANY FINANCIAL DATA Last 3 reporting periods up to 31 December 2016 Assets Fixed interest 12,807 Equities 0 Collectives 19,117 Property 30 Linked 71,235 Derivatives 3,539 Loans and mortgages 9,843 Reinsurance recoverables 6,970 Cash 340 Other 1,647 Total Assets 125,528 Liabilities Technical provisions - nonlife Technical provisions - health (similar to life) Technical provisions - life 31,864 Technical provisions - linked 75,929 Other 7,657 Total Liabilities 115,674 Excess of assets over liabilities The insurance business transfers in 2015 increased SWL's assets by 78bn, and total assets increased further to 126bn in All retained unit linked business now resides in SWL. Linked assets remained the most dominant, accounting for 57% of the total. Collectives at 15% remained significant, with Fixed Interest assets at 10% of total. Other assets include mortgage loans of 9.8bn, or 8% of total, reflecting the annuity portfolio - a core part of the invested asset portfolio which backs the annuity business is invested in loan assets. These have predominantly been purchased from LBG although SWL has also started originating new business. There is a fairly significant use of reinsurance recoverables in SWL (6% of total assets), where it is primarily used to reduce life insurance risk and also for improving profitability, reducing capital requirements and used to offer some of its investment fund links. Technical provisions included 6.7bn of primarily unit linked reinsurance. There is ongoing litigation concerning policies issued by CMIG (now SWL) sold by independent intermediaries in Germany in the late 1990s-early 2000s with a German industry-wide issue regarding notification of contractual cooling off periods leading to an increasing number of claims in Accordingly a provision increase of 94m was recognised in the year ended 31 December 2016, giving a total provision of 639m; the remaining unutilised provision as at 31 December 2016 was 168m. 9,854 AKG Financial Analytics Ltd February 2018

13 Scottish Widows Ltd PROVIDER SECTOR Life & Health SLT Technical Provisions Insurance with profit participation ,170 Linked insurance 75,929 Other life insurance 15,117 Annuities - from non-life health Annuities - from non-life non-health Health insurance 224 Health reinsurance 0 Life reinsurance 577 Total life and health SLT technical provisions ,017 Life Expenses Health insurance 1 Insurance with profit participation Linked insurance 547 Other life insurance 323 Annuities - from non-life health Annuities - from non-life non-health Health reinsurance 0 Life reinsurance 0 Other expenses 168 Total life expenses 1,126 SWL has written a mix of linked, non-profit and with profits business. In terms of technical provisions, linked business is the most significant representing 70% of the total. There remains a proportion of, mostly historic, with profits business, which represents 15% of the total, the balance being non profit business (shown as 'Other life insurance' above). Solvency Capital Requirement (SCR) Market risk 2,814 Counterparty default risk 86 Life underwriting risk 2,140 Health underwriting risk 0 Non-life underwriting risk 0 Diversification (2,547) Intangible asset risk 0 Operational risk 2,151 Capital add-ons already set 0 Other items 1,056 Solvency capital requirement 6,026 5,700 Own Funds Tier 1 unrestricted 6,508 Tier 1 restricted 0 Tier 2 1,721 Tier 3 0 Eligible own funds 8,229 Excess of own funds over SCR 2,530 SCR coverage ratio (%) SWG has permission from the PRA to publish a single SFCR covering the Insurance Group, and uses an Internal Model to calculate the SCR for both SWG and for SWL in isolation. The SCR for SWL reduced by 326m year on year, to 5.7bn as at 31 December 2016, due to a number of significant drivers explained in more detail in the SFCR (which also provides information about the effect of the transitional measures SWL is approved to use). The run-off of transitional deductions on 1 January 2017 resulted in a reduction in the SCR coverage ratio for SWL of 2.2% and for SWG of around 2.4%. The LBG group target (risk appetite) SCR coverage is 140% and there is a clear group policy to return surplus capital to the Bank. The most significant risks across the Insurance Group are market risk, operational risk and underwriting risk. Within the underwriting and market risks the most significant risks include longevity, persistency, expenses, equity and credit spread AKG Financial Analytics Ltd February 2018

14 Scottish Widows Ltd PROVIDER SECTOR movements on corporate bond and loan assets. 'Other items' consists primarily of the risks associated with the With Profits Funds. The level of diversification demonstrates SWL's diverse portfolio, with, for example, a diversification benefit of 48% of undiversified SCR (at the level of the Insurance Group). Gross Life Premiums Written By Line of Business Health insurance 15 Insurance with profit participation 217 Linked insurance 4,784 Other life insurance 2,361 Annuities - from non-life health Annuities - from non-life non-health Health reinsurance 0 Life reinsurance 4 Total gross life premiums written 0 0 7,381 Gross Life Premiums Written By Country Home country 7,252 Country 1 0 Country 2 0 Country 3 0 Country 4 0 Country 5 0 Other countries 130 Total gross life premiums written All new business is written into SWL with effect from 1 January Over 98% of gross premiums written related to the UK, with very small amounts written in Europe (namely Luxembourg, Germany, the Netherlands, Isle of Man and Jersey) together with Hong Kong, all a result of historic legacy business and not material to the current strategy. Out of the total premiums in 2016, 60% were single premium (the balance all regular premium business). Further analysis shows that a significant amount (42%) of gross premiums were written into corporate pensions, followed by bulk annuities (20%) and the Scottish Widows Retirement Account (16%). The PVNBP (present value of new business premiums) for 2016 was 9.9bn, down from 9.5bn in Exluding the internal with profit fund bulk annuity transfers in 2015 and 2016, PVNBP increased by 23%.excluding the internal with profits fund bulk annuity transfers in 2015 and Profit Profit (loss) before taxation Taxation (55) 63 (173) Profit (loss) after taxation Other comprehensive income 8 4,338 (72) Dividends 0 (245) (250) Retained profit (loss) 113 4,236 (149) Life Business Flows , Net life premiums earned ,233 Net life claims incurred (2,622) (2,358) (8,520) Net flow of business (1,696) (1,622) (1,287) PAT of 173m was up considerably on 2015 [ 143m] and SWL reported that this reflected improved valuation rates on the annuity business due to further investment in low risk higher yielding assets and positive market conditions in the year, offset by the continuing impact of German Insurance Business litigation. AKG Financial Analytics Ltd February 2018

15 Scottish Widows Ltd PROVIDER SECTOR The result includes the impact of the Insurance Business Transfer that occurred on 31 December 2015 (reflected under 'Other comprehensive income' in the table above) when the long term insurance business of various entities within the group were moved to SWL. As a result of which SWL became the sole life insurance underwriter within the Insurance Group of LBG. The business of SWL is managed within the terms of the Insurance Group, whose results are published within the segmental reporting of the LBG's annual report and accounts under 'Divisional results - Insurance'. Underlying profit decreased by 13% to 837m. New business income increased by 55m (17%), driven by the growth in planning and retirement and protection propositions. This more than offset lower income from corporate pensions. Existing business income has decreased 101m, primarily driven by adverse economics. There was a net benefit of 223m as a result of experience and other items. This included one off benefits following an update to the methodology for calculating the illiquidity premium and the additional of a new death benefit to legacy pension contracts to align terms with other pensions products. These were partly offset by the effect of recent reforms on activity within the pensions market. General insurance gross written premiums (GWP) decreased by 3%, reflecting the continued softening of the Home market and the run off of legacy products. General insurance income net of claims has increased by 31m primarily driven by lower weather-related claims. Costs increased by 10 percent to 772m, reflecting increased investment and 28m annual levy associated with the Flood Re scheme. AKG Financial Analytics Ltd February 2018

16 Scottish Widows PROVIDER SECTOR INTRODUCTION Guide For over 20 years AKG has particularly focused on the financial strength requirements of financial advisers, who when acting on behalf of their clients, need to ascertain a company's ability to deliver sustained provision. From this customer perspective, the financial strength of companies needs to be focused at an operational level, specifically on the company that is effecting the product or service that a customer is selecting. This is important, because from the customer s perspective it is that company (not some higher corporate entity) that needs to survive in a form that maintains the requisite operational characteristics to meet their fairly held requirements. And it is thus at this level that the selection needs of the customers advisers must be met. It is also important to understand the sector approach (comparative peer groups) that is adopted in financial strength assessment and rating process. At AKG, this is again driven by the end customer perspective and the fact that assessment is designed solely for this purpose, i.e. as a component in helping customers advisers to select between comparable companies competing to deliver relevant products or services. AKG s focus and approach has remained consistent over the years since it commenced assessment and rating support for the market. However, coverage, format and presentation has rightly evolved over this period, in line with the needs and expectations of assessment and rating users in the market. And AKG considers further changes on a continual basis. Further details including an explanation of what is included in the assessment reports and coverage can be found online at AKG s process for assessment and rating is to use a balanced scorecard of measures and comparative information, relevant to the companies contained within each peer group. This is gathered via Public Information only for non-participatory assessments and public information plus company interactions with companies for participatory assessments. Further details on AKG s process can be found at This includes further information on the different participatory and non-participatory basis and for companies wishing to learn more about participatory assessment AKG is pleased to outline this and welcomes contact. This is a participatory assessment. RATING DEFINITIONS Overall Financial Strength Rating The objective is to provide a simple indication of the general financial strength of a company from the perspective of those financial advisers who when acting on behalf of their clients need to ascertain a company's ability to deliver sustained operational provision of products or services. The overall rating inherently reflects the mix of business within the company, since different types of customer or policyholder have different requirements and expectations, and the company may have particular strengths and weaknesses in respect of its key product or service areas. However, it also takes account of comparison across the sector in which it is assessed. The rating takes into account those of the following criteria which are relevant (depending upon the company's mix of business in-force): capital and asset position, expense position and profitability, any specifically onerous elements such as guarantees, structure (and size) of funds within the company, parental strength (and likely attitude towards supporting the company), operational capability, management strength and capability, strategic position and rationale, brand and image, AKG Financial Analytics Ltd February 2018

17 Scottish Widows PROVIDER SECTOR typical fund performance achievements or product / service features, its operating environment and ability to withstand external forces. Rating Scale A B+ B B- C D Superior Very Strong Strong Satisfactory Weak Very Weak Not applicable With Profits Financial Strength Rating The objective is to assess the overall strength of the company s with profits funds. The initial concern is the company's ability to meet its ongoing guaranteed, or promised, commitments to customers, i.e. existing sum assured and bonuses. However, the company's ability to continue to compete successfully in the with profits market is also particularly relevant, given that closed funds are sometimes bad news for policyholders. In such situations, overall expenses tend to increase as a proportion of the fund and investment performance may well deteriorate. These, together with other factors, may make it difficult for companies in such situations to maintain competitive bonus rates at future declarations, although existing declared bonuses are not affected (other than possibly by MVRs). This is from the perspective of those financial advisers who when acting on behalf of their clients, for this product type, need to ascertain a company's ability to deliver sustained operational provision of with profits funds, products or propositions. Its comparison is with other companies within the assessment sector that offer or have with profits business. The main criteria taken into account are: capital and asset position, expense position and profitability, the amount of with profits business in-force, parental strength (and likely attitude towards supporting the company), and image and strategy. NOTE: More detailed analysis of with profits companies is included in AKG s UK Life Office With Profits Reports. Rating Scale Excellent Very Good Good Adequate Poor Not Rated Unit Linked Financial Strength Rating The objective is to provide a simple indication of the unit linked financial strength of a company, where it currently offers unit linked business or has existing unit linked business within it. This is from the perspective of those financial advisers who when acting on behalf of their clients, for this product type, need to ascertain a company's ability to deliver sustained operational provision of unit linked products or propositions. Its comparison is with other companies within the assessment sector that offer or have unit linked business. The main criteria taken into account are: capital and asset position, expense position and profitability, structure (and size) of funds within the company, parental strength (and likely attitude towards supporting the company), operational capability, management strength and capability, strategic position and rationale, brand and image, typical fund performance achievements or product / service features, its operating environment and ability to withstand external forces. Rating Scale Excellent Very Good Good Adequate Poor Not Rated Non Profit Financial Strength Rating The objective is to provide a simple indication of the non profit financial strength of a company, where it currently offers or has existing products and propositions such as term assurance and annuities. This includes the company s ability to meet all guaranteed payments arising from such products, but also the company s wider ability to deliver sustained operational provision of such non profit products or propositions. Its comparison is with other companies within the assessment sector that offer or have non profit business. AKG Financial Analytics Ltd February 2018

18 Scottish Widows PROVIDER SECTOR The main criteria taken into account are: capital and asset position, expense position and profitability, structure (and size) of funds within the company, parental strength (and likely attitude towards supporting the company), operational capability, management strength and capability, strategic position and rationale, brand and image, product / service features, its operating environment and ability to withstand external forces. Rating Scale Excellent Very Good Good Adequate Poor Not Rated Service Rating The objective is to assess the quality of the organisation's service to the intermediary market in respect of the brand concerned. Criteria taken into account include: performance in surveys, awards and benchmarking exercises (external and internal), the organisation's philosophy, service charters, the extent of investments designed to improve service, and feedback from intermediaries. Rating Scale Excellent Very Good Good Adequate Poor Not Rated Image & Strategy Rating The objective is to assess the effectiveness of the means by which the organisation currently positions itself to distribute its products for the brand concerned and the plans it has to maintain and/or develop its position. Criteria taken into account include: overall trends in the company s market share position, brand visibility and reputation, feedback from intermediaries and industry commentators, and AKG s view of the company s general strategy. Rating Scale Excellent Very Good Good Adequate Poor Not Rated Business Performance Rating This review is an assessment of how the company and the brand has fared against its peers, and how it is perceived externally. Effectively this is how it has performed recently in the market. Whilst it will include performance indicators from the most recent available statutory reporting (report and accounts and SFCRs in the case of insurance companies, for example) it will also draw on other recent key performance elements before and after such disclosure, up to the point at which the assessment is undertaken. Criteria taken into account include: increase/decrease in market shares, expense containment, publicity good or bad, press or market commentary, regulatory fines, and competitive position. Rating Scale Excellent Very Good Good Adequate Poor Not Rated AKG Financial Analytics Ltd February 2018

19 Scottish Widows PROVIDER SECTOR ABOUT AKG AKG is an independent organisation. Originally established as an actuarial consultancy AKG has, for over 20 years, specialised in the provision of assessment, ratings, information and market assistance to the financial services industry. As the market has evolved over this period, the range of entities considered by AKG has expanded. Consequently, AKG has brought additional skill sets into its operations. This has meant the inclusion of accounting, corporate finance, IT and market intelligence experience, alongside actuarial resources, to deliver an expanded professional capability. Today AKG s core purpose is in the provision of financial analysis and review services to support the wider financial services sector and its customers. AKG Financial Analytics Ltd (AKG) 2018 This report is issued as at a certain date, and it remains AKG's current assessment with current ratings until it is superseded by a subsequently issued report or subsequently issued ratings (at which point the newly issued report or ratings should be used), or until AKG ceases to make such a report or ratings available. The report contains assessment based on available information at the date as shown on the report s cover and in its page footer. This includes prior regulatory data which may have an earlier date associated with it, but the report also takes into account all relevant events and information, available to and considered by AKG, which have occurred prior to this stated cover and footer date. Events and information subsequent to this date are not covered within it, but AKG continually monitors and reviews such events and information and where individually or in aggregate such events or information give rise to rating revision an updated report under an updated date is issued as soon as possible. All rights reserved. This report is protected by copyright. This report and the data/information contained herein is provided on a single site multi user basis. It may therefore be utilised by a number of individuals within a location. If provided in paper form this may be as part of a physical library arrangement, but copying is prohibited under copyright. If provided in electronic form, this may be by means of a shared server environment, but copying or installation onto more than one computer is prohibited under copyright. Printing from electronic form is permitted for own (single location) use only and multiple printing for onward distribution is prohibited under copyright. Further distribution and uses of the report, either in its entirety or part thereof, may be permitted by separate agreement, under licence. Please contact AKG in this regard or with any questions: akg@akg.co.uk, Tel +44 (0) AKG has made every effort to ensure the accuracy of the content of this report and to ensure that the information contained is as current as possible at the date of issue, but AKG (inclusive of its directors, officers, staff and shareholders and any affiliated third parties) cannot accept any liability to any party in respect of, or resulting from, errors or omissions. AKG information, comments and opinion, as expressed in the form of its analysis and ratings, do not establish or seek to establish suitability in any individual regard and AKG does not provide, explicitly or implicitly, through this report and its content, or any other assessment, rating or commentary, any form of investment advice or fiduciary service. AKG Financial Analytics Ltd February 2018

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