TIDM40VY
RNS Number : 2962H
Scottish Widows Limited
23 March 2020
23 March 2020
SCOTTISH WIDOWS LIMITED
PUBLICATION OF THE ANNUAL REPORT AND ACCOUNTS FOR THE YEARED 31
DECEMBER 2019
Scottish Widows Limited has published its Annual Report and
Accounts for the year ended 31 December 2019 (the "Accounts") which
will shortly be available on the Scottish Widows website at
www.scottishwidows.co.uk Copies of the Accounts have also been
submitted to the National Storage Mechanism and will shortly be
available for inspection at www.morningstar.co.uk/uk/NSM
ADDITIONAL INFORMATION REQUIRED BY THE DISCLOSURE AND
TRANSPARENCY RULES ("DTR")
The information below is extracted from the Accounts and
constitutes the material required by DTR 6.3.5 to be communicated
to the media in unedited full text through a Regulatory Information
Service. This material is not a substitute for reading the full
Accounts and is provided solely for the purposes of complying with
DTR 6.3.5. Page numbers and cross-references in the extracted
information below refer to page numbers and cross-references in the
Accounts.
STATEMENT OF DIRECTORS' RESPONSIBILITIES
The Directors are responsible for preparing the Annual Report
and the financial statements in accordance with applicable law and
regulation.
Company law requires the Directors to prepare financial
statements for each financial year. Under that law the Directors
have prepared the Group financial statements in accordance with
International Financial Reporting Standards (IFRSs) as adopted by
the European Union and Company financial statements in accordance
with International Financial Reporting Standards (IFRSs) as adopted
by the European Union. Under Company law the Directors must not
approve the financial statements unless they are satisfied that
they give a true and fair view of the state of affairs of the Group
and Company and of the profit or loss of the Group and Company for
that period. In preparing the financial statements, the Directors
are required to:
-- select suitable accounting policies and then apply them consistently;
-- state whether applicable IFRSs as adopted by the European
Union have been followed for the Group financial statements and
IFRSs as adopted by the European Union have been followed for the
Company financial statements, subject to any material departures
disclosed and explained in the financial statements;
-- make judgments and accounting estimates that are reasonable and prudent; and
-- prepare the financial statements on the going concern basis
unless it is inappropriate to presume that the Group and Company
will continue in business.
The Directors are also responsible for safeguarding the assets
of the Group and Company and hence for taking reasonable steps for
the prevention and detection of fraud and other irregularities.
The Directors are responsible for keeping adequate accounting
records that are sufficient to show and explain the Group and
Company's transactions and disclose with reasonable accuracy at any
time the financial position of the Group and Company and enable
them to ensure that the financial statements comply with the
Companies Act 2006 and, as regards the Group financial statements,
Article 4 of the IAS Regulation.
The Directors are responsible for the maintenance and integrity
of the Company's website. Legislation in the United Kingdom
governing the preparation and dissemination of financial statements
may differ from legislation in other jurisdictions. A copy of the
financial statements is placed on our website
www.scottishwidows.co.uk .
Each of the Directors whose names are listed on page 3 confirms
that, to the best of their knowledge:
- the Group and Company financial statements, which have been
prepared in accordance with IFRSs as adopted by the European Union,
give a true and fair view of the assets, liabilities, financial
position and profit of the Group and Company; and
- the Group strategic report on pages 4 to 7, and the Directors'
Report on pages 8 to 10 include a fair review of the development
and performance of the business and the position of the Group and
Company, together with a description of the principal risks and
uncertainties that it faces.
PRINCIPAL RISKS AND UNCERTAINTIES
Details of key risks are set out in note 38. Key risks include
economic and political uncertainty alongside operational risk which
is heightened by the current level of change being undertaken to
execute our strategy. Risks and uncertainties to our strategic
plan, both positive and negative, are considered by product through
the planning process.
In addition, as described in note 28, during the ordinary course
of business the Group is subject to complaints and threatened or
actual legal proceedings (including class or Group action claims)
brought by or on behalf of current or former employees, customers,
investors or other third parties, as well as legal and regulatory
reviews, challenges, investigations and enforcement actions, both
in the United Kingdom and overseas.
All such material matters are periodically reassessed, with the
assistance of external professional advisors where appropriate, to
determine the likelihood of the Group incurring a liability. In
those instances where it is concluded that it is more likely than
not that a payment will be made, a provision is established to
management's best estimate of the amount required at the relevant
balance sheet date. In some cases it will not be possible to form a
view, for example because the facts are unclear or because further
time is needed to properly assess the situation, and no provisions
are held in relation to such matters. However the Group does not
currently expect the final outcome of any such case to have a
material adverse effect on its financial position, operations or
cash flows.
38. Risk management
The principal activity of the Group is the undertaking of
ordinary long-term insurance and savings business and associated
activities in the United Kingdom. The Group offers a wide range of
life insurance products such as annuities, pensions, whole life,
term life and investment type products through independent
financial advisors, the LBG network and direct sales. The Company
also reinsures business with insurance entities external to the
Group.
The Group assesses the relative costs and concentrations of each
type of risk and material issues are escalated to the appropriate
Insurance executive committees and onto the Board if required.
This note summarises these risks and the way in which the Group
manages them.
(a) Governance framework
The Group is part of LBG, which has established a risk
management function with responsibility for implementing the LBG
risk management framework (with appropriate Insurance focus) within
the Group.
This enterprise-wide risk management framework for the
identification, assessment, measurement and management of risk
covers the full spectrum of risks that the Group and Company are
exposed to, with risks categorised according to an approved LBG
risk language. This covers the principal risks faced by the Group,
including the exposures to market, insurance underwriting, model
risk, credit, capital, liquidity, regulatory & legal, conduct,
people, governance and operational risks. The performance of the
Group, its continuing ability to write business and the strategic
management of the business depend on its ability to manage these
risks.
Responsibility for setting and managing risk appetite and risk
policy resides with the Board. Risks are managed in line with LBG
and Insurance risk policies. The Board has delegated certain risk
matters to the Insurance Risk Oversight Committee ("ROC") with
operational implementation assigned to the Insurance and Wealth
Risk Committee ("IWRC").
The risk management approach aims to ensure effective
independent checking or "oversight" of key decisions by operating a
"three lines of defence" model. The first line of defence is line
management, who have direct accountability for risk decisions. The
Risk function provides oversight and challenge and is the second
line of defence. Internal Audit, the third line of defence, provide
independent assurance to the Insurance Audit Committee and the
Board that risks are recognised, monitored and managed within
acceptable parameters.
Policy owners, identified from appropriate areas of the LBG and
Insurance business, are responsible for drafting risk policies, for
ensuring that they remain up-to-date and for facilitating any
changes. Policies are subject to at least an annual review. Limits
are prescribed within which those responsible for the day to day
management of each Group company can take decisions. Line
management are required to follow prescribed reporting procedures
to the bodies responsible for monitoring compliance with policy and
controlling the risks.
(b) Risk appetite
Risk appetite is the amount and type of risk that the Board
prefers, accepts or wishes to avoid and is aligned to group and LBG
strategy. The Board has defined a framework for the management of
risk and approved a set of risk appetite statements that cover
financial risks (capital, insurance underwriting, credit, market
and liquidity), operational risks, people, conduct risks,
regulatory & legal risks, model risk and governance risks. The
risk appetite statements set limits for exposures to the key risks
faced by the business. Risk appetite is reviewed at least annually
by the Board. Executive owned Tier 2 and Tier 3 limits sit beneath
Board owned risk appetite (Tier 1) and are managed and governed
within the Insurance business.
Experience against Risk Appetite is reported monthly (by
exception) to each meeting of IWRC and ROC. Copies are also
supplied regularly to the Group's regulators as part of the close
and continuous relationship. Reporting focuses on ensuring, and
demonstrating to the Board, and their delegate the ROC that the
Group is run in line with approved risk appetite. Any breaches of
risk appetite require clear plans and timescales for
resolution.
(c) Financial risks
The Group writes a variety of insurance and investment contracts
which are subject to a variety of financial risks, as set out
below. Contracts can be either single or regular premium and
conventional (non-profit), With Profits or unit-linked in
nature.
The Group is exposed to a range of financial risks through its
financial assets, financial liabilities, assets arising from
reinsurance contracts and liabilities arising from insurance and
investment contracts. In particular, the key financial risk is that
long-term investment proceeds are not sufficient to fund the
obligations arising from its insurance and investment contracts.
The most important components of financial risk are market,
insurance underwriting, credit, capital and liquidity risk.
The Group manages these risks in a numbers of ways, including
risk appetite assessment and monitoring of capital resource
requirements. In addition, the Principles and Practices of
Financial Management ("PPFMs") set out the way in which the With
Profits business is managed. The Group also uses financial
instruments (including derivatives) as part of its business
activities and to reduce its own exposure to market risk and credit
risk.
38. Risk management (continued)
(c) Financial risks (continued)
For With Profits business, subject to minimum guarantees,
policyholders' benefits are influenced by the smoothed investment
returns on assets held in the With Profits Funds. The smoothing
cushions policyholders from daily fluctuations in investment
markets. This process is managed in accordance with the published
PPFMs.
The financial risks arising from providing minimum guaranteed
benefits are borne in the With Profits Funds, but the Group bears
financial risk in relation to the possibility that in extreme
market conditions the With Profits Funds might be unable to bear
the full costs of the guarantees. The amount of the guaranteed
benefits increases as additional benefits are declared and
allocated to policies.
For unit-linked business, policyholders' benefits are closely
linked to the investment returns on the underlying funds. In the
short term, profit and equity are therefore largely unaffected by
investment returns on assets in internal unit-linked funds as any
gains or losses will be largely offset by changes in the
corresponding insurance and investment contract liabilities,
provided that there is appropriate matching of assets and
liabilities within these funds. However, any change in the market
value of these funds will have an indirect impact on the Group and
Company through the collection of annual management and other fund
related charges. As markets rise or fall, the value of these
charges rises or falls correspondingly.
For non-participating business, the principal market risk is
interest rate risk, which arises because assets and liabilities may
exhibit differing changes in market value as a result of changes in
interest rates. Asset and liability matching is used to mitigate
the impact of changes in interest rates where the difference is
material.
Financial assets and financial liabilities are measured on an
ongoing basis either at fair value or at amortised cost. The
summary of significant accounting policies (note 1) describes how
the classes of financial instruments are measured and how income
and expenses, including fair value gains and losses, are
recognised.
The timing of the unwind of the deferred tax assets and
liabilities is dependent on the timing of the unwind of the
temporary timing differences, arising between the tax bases of the
assets and liabilities and their carrying amounts for financial
reporting purposes, to which these balances relate.
The sensitivity analyses given throughout this note are based on
a change in an assumption while holding all other assumptions
constant. In practice, this is unlikely to occur as changes in some
of the assumptions may be correlated, for example changes in
interest rates and changes in market values. The sensitivity
analysis presented also represents management's assessment of a
reasonably possible alternative in respect of each sensitivity,
rather than worst case scenario positions.
38. Risk management (continued)
(c) Financial risks (continued)
(1) Market risk
Market risk is defined as the risk that our capital or earnings
profile is affected by adverse market rates, in particular equity
and credit spreads in Insurance business.
Investment holdings within the Group are diversified across
markets and, within markets, across sectors. Holdings of individual
assets are diversified to minimise specific risk and large
individual exposures are monitored closely. For assets held with
unit-linked funds, investments are only permitted in countries and
markets which are sufficiently regulated and liquid.
Market risk policy is dependent on the nature of the funds in
question, and can be broadly summarised as follows:
-- Assets held in shareholder funds are invested in money market
funds, gilts, loans and investment grade bonds. Assets held in
excess of the Best Estimate of Liabilities are managed in line with
the policies of LBG to optimise shareholder risk and return; with
the exception of some credit assets to support the bulk annuity
proposition these assets are deemed to be safe assets.
-- Unit-linked assets are invested in accordance with the nature
of the fund mandates. "Unit matching" is adopted on a significant
proportion of unit-linked business, under which sufficient units
are created to cover Solvency II technical provisions.
-- Conventional non-profit liabilities are "close matched" as
far as possible in relation to currency, nature and duration.
-- With Profits Funds are managed in line with the published
PPFMs. Benchmarks and minimum and maximum holdings in asset classes
are specified to allow limited investment management discretion
whilst ensuring adequate diversification. Swaps and swaptions
provide significant protection to the With Profits Funds from the
effects of interest rate falls in respect of the cost of guaranteed
annuity rates.
Below is an analysis of assets and liabilities at fair value
through profit or loss and assets and liabilities for which a fair
value is required to be disclosed, according to their fair value
hierarchy (as defined in note 1 (d)).
Group As at 31 December 2019
Fair value hierarchy
Level Level Level Total
1 2 3 GBPm
GBPm GBPm GBPm
Investment properties - - 3,523 3,523
Assets arising from reinsurance
contracts held at fair value
through profit or loss - 22,837 - 22,837
Shares and other variable yield
securities 92,947 - 785 93,732
Debt and other fixed/variable
income securities 11,878 20,205 283 32,366
Loans and advances to customers - - 8,804 8,804
Loans and advances to banks - 2,255 - 2,255
Derivative financial assets 45 3,777 146 3,968
Total assets 104,870 49,074 13,541 167,485
Derivative financial liabilities 36 3,409 - 3,445
Liabilities arising from non-participating
investment contracts - 37,456 - 37,456
Subordinated debt - 1,795 - 1,795
Total liabilities 36 42,660 - 42,696
------------------------------------------- ------- ------ ------ -------
For all financial instruments held at amortised cost by the
Group and Company, carrying value is a reasonable approximation of
fair value.
38. Risk management (continued)
(c) Financial risks (continued)
(1) Market risk (continued)
Company As at 31 December 2019
Fair value hierarchy
Level Level Level Total
1 2 3 GBPm
GBPm GBPm GBPm
Investment properties - - 132 132
Assets arising from reinsurance
contracts held at fair value through
profit or loss - 22,837 - 22,837
Shares and other variable yield
securities 100,727 28 848 101,603
Debt and other fixed/variable
income securities 7,394 6,978 927 15,299
Loans and advances to customers - - 8,250 8,250
Loans and advances to banks - 1,203 - 1,203
Deposits with cedants - 1,507 - 1,507
Derivative financial assets 22 3,726 146 3,894
Transfer of Assets held for sale - - - -
Total assets 108,143 36,279 10,303 154,725
Derivative financial liabilities 31 3,403 - 3,434
Liabilities arising from non-participating
investment contracts - 37,455 - 37,455
Subordinated debt - 1,820 - 1,820
Total liabilities 31 42,678 - 42,709
------------------------------------------- ------- ------ ------ -------
For all financial instruments held at amortised cost by the
Group and Company, carrying value is a reasonable approximation of
fair value.
Group As at 31 December 2018
Fair value hierarchy
Level Level Level Total
1 2 3 GBPm
GBPm GBPm GBPm
Investment properties - - 3,729 3,729
Assets arising from reinsurance
contracts held at fair value through
profit or loss - 7,132 - 7,132
Shares and other variable yield
securities 74,718 - 666 75,384
Debt and other fixed/variable
income securities 10,819 19,962 252 31,033
Loans and advances to customers - - 7,845 7,845
Loans and advances to banks - 2,518 1 2,519
Derivative financial assets 90 3,028 39 3,157
Total assets 85,627 32,640 12,532 130,799
Derivative financial liabilities 132 2,587 - 2,719
Liabilities arising from non-participating
investment contracts - 13,855 - 13,855
Subordinated debt - 1,769 - 1,769
Total liabilities 132 18,211 - 18,343
------------------------------------------- ------ ------ ------ -------
38. Risk management (continued)
(c) Financial risks (continued)
(1) Market risk (continued)
Company As at 31 December 2018
Fair value hierarchy
Level Level Level Total
1 2 3 GBPm
GBPm GBPm GBPm
Investment properties - - 184 184
Assets arising from reinsurance
contracts held at fair value
through profit or loss - 7,132 - 7,132
Shares and other variable yield
securities 84,876 84 681 85,641
Debt and other fixed/variable
income securities 5,345 6,511 882 12,738
Loans and advances to customers - - 7,259 7,259
Loans and advances to banks - 1,470 - 1,470
Derivative financial assets 76 3,013 40 3,129
Transfer of Assets held for
sale (2,051) - (114) (2,165)
Total assets 88,246 18,210 8,932 115,388
Derivative financial liabilities 103 2,578 - 2,681
Liabilities arising from non-participating
investment contracts - 13,825 - 13,825
Subordinated debt - 1,799 - 1,799
Total liabilities 103 18,202 - 18,305
------------------------------------------- ------- ------ ----- -------
Assets arising from reinsurance contracts held at fair value
through profit and loss are valued using the published price for
the funds invested in. Participating investment contracts are not
included above, on the basis that fair value and carrying value
would not be materially different.
The derivative securities classified as Level 2 above have been
valued using a tri-party pricing model as determined by the Pricing
Source Agreement between Investment Manager(s) and the Third Party
Administrator (State Street). Further detail on valuation is given
in note 1(o).
Assets classified as Level 3 include portfolios of illiquid
loans and advances to customers, investments in private debt funds
and private equity assets, investment properties, investments in
asset-backed securities and corporate debt instruments.
Private equity investments are valued using the financial
statements of the underlying companies prepared by the general
partners, adjusted for known cash flows since valuation and subject
to a fair value review to take account of other relevant
information. Property investment vehicles are valued based on the
net asset value of the relevant Company which incorporates
surveyors' valuations of property. Investment property is
independently valued as described in note 17. Valuations are based
on observable market prices for similar properties. Adjustments are
applied, if necessary, for specific characteristics of the
property, such as the nature, location, or condition of the
specific asset. If such information is not available alternative
valuation methods such as discounted cash flow analysis or recent
prices in less active markets are used. Where any significant
adjustments to observable market prices are required, the property
would be classified as Level 3. Whilst such valuations are
sensitive to estimates, it is believed that changing one or more of
the assumptions to reasonably possible alternative assumptions
would not change the fair value significantly.
The following valuation methods and sensitivity of valuation
assumptions are applied to both the Group and the Company.
Loan assets
Loans classified as Level 3 within debt securities are valued
using a discounted cash flow model. The discount rate comprises
market observable interest rates, a risk margin that reflect loan
credit ratings and calibrated to weighted average life on borrower
level using sector bond spread curves for each rating, and an
incremental illiquidity premium that is estimated by reference to
historical spreads at origination on similar loans where available
and established measures of market liquidity. Libor tenor and base
rate options are valued by comparing the current tenor with the
lowest tenor option (basis swap approach). Prepayment options are
valued using a monthly time step binomial tree approach.
Unobservable inputs in the valuation model include an
Illiquidity premium (2019 loan to bond spreads: 18.5bps to 51.5bps
) and Inferred spreads (2019 credit spreads: 73.1bps to 140.5bps ).
The effect of applying reasonably possible alternative assumptions
to the value of these loans would be to decrease the fair value by
GBP332m (2018: GBP304m) or increase it by GBP345m (2018: GBP326m).
There are no material interdependencies between the above
assumptions.
38. Risk management (continued)
(c) Financial risks (continued)
(1) Market risk (continued)
Equity release mortgages - ERM SPV
A portfolio of Equity Release Mortgages is securitised through a
Special Purpose Vehicle into a Senior Note (A Note) and a Junior
Note (B Note).
The value of the B Note is determined using a discounted cash
flow approach with a spread based judging movements in the spread
for comparable instruments against the changes in expected
performance of the underlying portfolio of mortgages. The value of
the A Note is derived from the value of the underlying portfolio,
the value of the B note and the value of the remaining contracts of
the Special Purpose Vehicle. These notes are classified as Level 3
within debt securities due to the unobservable parameters required
in the valuation of the B note and in the valuation of the
portfolio of mortgages.
The equity release mortgages are valued using a discounted cash
flow approach. Decrements (mortality, voluntary early repayment,
entry into long-term care) are used to determine the incidence of
cash flows. The discount rate is based on a risk free rate plus a
spread with the spread assessed by reference to the market for new
Equity Release Mortgages, after adjusting for the relative risks
associated with this portfolio of loans and those of a notional
portfolio of new mortgages. In the assessment of the value of the
risks, the No Negative Equity Guarantee for Equity Release
Mortgages is valued using a time-dependent Black-Scholes model at
GBP14.7m as at 31 December 2019 (Dec 2018: GBP16.7m).
Inputs in the valuation model include the gross interest rate
applicable to a notional portfolio of new Equity Release Mortgages,
risk free rates, residential property volatilities, property
valuation haircuts and settlement lags as well as decrement
assumptions on mortality, voluntary early repayment and entry into
long-term care.
December 2019 Valuation Uncertainty calculations principally
reflect uncertainty in the market rates for comparable notional
portfolios and a range of decrement assumptions and their
corresponding impacts on the value of the A Note and B Note. The
range of notional portfolio rate assumptions was 3.26% to 4.94%
(Dec 2018: 4.26% to 5.58%).
The effect of applying the aforementioned reasonably possible
alternative assumptions in line with the ranges disclosed above on
the A & B Notes would be to decrease the fair value by GBP6m
(Dec 2018: GBP17m) or increase it by GBP12m (Dec 2018: GBP1m).
Private Credit Funds
SWL hold investments in two private credit funds that hold
portfolios of loans to European medium-sized enterprises where
loans are often backed by commercial real estate. The assets are
classified as Level 3 and are included within equity securities.
The underlying loan values, on which the investment values are
based, are assessed by the fund manager on a discounted cash flow
approach using spreads determined from the credit quality and
illiquidity of the loans as compared to other credit assets. Our
valuation uncertainty on these investments is assessed based on the
valuation uncertainty characteristics of the underlying illiquid
loans.
The effect of applying reasonably possible alternative
assumptions to the value of these assets would be to decrease the
fair value by GBP7m (Dec 2018: GBP6m) or increase it by GBP1m (Dec
2018: GBP2m).
Agricultural Loans - AMC SPV
A portfolio of agricultural loans is securitised through a
Special Purpose Vehicle into a Senior Note (A Note) and a Junior
Note (E Note). These notes are classified as Level 3 within debt
securities. The underlying agricultural loans are valued using a
discounted cash flow approach. The discount rate comprises market
observable interest rates, a risk margin that reflect underlying
loan credit ratings, a spread to represent the risks associated
with the Agricultural sector (Via Utility bonds as a proxy) and an
incremental illiquidity premium as well as a prepayment cost of
capital premium. The discount rate is based on a risk free rate
plus a spread to compensate for the risks associated with the
loans, which is determined on a portfolio level.
Unobservable inputs in the Agriculture valuation model include:
Generic spreads based of Merrill Lynch pool of bonds (change of
+14.0bps and 0bps to base), Illiquidity premium (2019 loan to bond
spreads: 18.5bps to 51.5bps), and Utility Securities inferred
spreads (2019 spreads: -4bps to -34bps) and prepayment rates (2019
rates: 0.11% to 0.13% for 1-5yrs and 0.14% for 5+ yrs).
The effect of applying reasonably possible alternative
assumptions to the valuation of the loans and senior note would be
to decrease the fair value of the SPV by GBP12m or increase it by
GBP9m. There are no material interdependencies between the above
assumptions.
38. Risk management (continued)
(c) Financial risks (continued)
(1) Market risk (continued)
Derivatives Unobservable inputs - Fair Value Hierarchy level
3
Complex derivatives can be transacted in order to hedge complex
risks within other level 3 assets. Complex derivatives which have
unobservable inputs, such as volatilities and correlations, in
their valuation model are assessed as level 3.
Favourable and adverse scenarios are determined by stressing
unobservable inputs into the valuation models, with reference to
the valuations of the instruments they hedge where appropriate, in
order to generate a plausible range of fair values that different
market participants might apply
The effect of applying reasonably possible alternative
assumptions to the value of these assets would be to decrease the
fair value by GBP26m (Dec 2018: GBP30m) or increase it by GBP1m
(Dec 2018: nil).
The table below shows movements in the assets and liabilities
measured at fair value based on valuation techniques for which any
significant input is not based on observable market data (Level 3
only).
Group
2019 2018
GBPm GBPm GBPm GBPm
Assets Liabilities Assets Liabilities
Balance at 1 January 12,532 - 12,235 -
Transfers in 421 - 703 -
Transfers out (147) - (664) -
Purchases 1,422 - 1,125 -
Disposals (984) - (950) -
Net gains recognised within net gains
on assets and liabilities at fair
value through profit or loss in the
statement of comprehensive income 297 - 83 -
Balance at 31 December 13,541 - 12,532 -
Total unrealised gains for the period
included in the statement of comprehensive
income for assets and liabilities
held at 31 December 245 - 32 -
-------------------------------------------- ------ ----------- ------ -----------
Company
2019 2018
GBPm GBPm GBPm GBPm
Assets Liabilities Assets Liabilities
Balance at 1 January 8,932 - 8,756 -
Transfers in 267 - 21 -
Transfers out - - (85) -
Purchases 1,355 - 953 -
Disposals (649) - (521) -
Assets held for sale - - (114) -
Net gains recognised within net gains
on assets and liabilities at fair
value through profit or loss in the
statement of comprehensive income 398 - (78) -
Balance at 31 December 10,303 - 8,932 -
Total unrealised gains for the period
included in the statement
of comprehensive income for assets
and liabilities held at 31 December 340 - 20 -
-------------------------------------- ------ ----------- ------ -----------
Total gains or losses for the period included in the statement
of comprehensive income, as well as total gains or losses relating
to assets and liabilities held at the reporting date, are presented
in the statement of comprehensive income, through net gains/losses
on assets and liabilities at fair value through profit or loss.
38. Risk management (continued)
(c) Financial risks (continued)
(1) Market risk (continued)
(i) Equity and property risk
The exposure of the Group's insurance and investment contract
business to equity risk relates to financial assets and financial
liabilities whose values will fluctuate as a result of changes in
market prices other than from interest and foreign exchange
fluctuations. This is due to factors specific to individual
instruments, their issuers or factors affecting all instruments
traded in the market. Accordingly, the Group monitors exposure
limits both to any one counterparty and any one market.
From 2018, exposure to market risk has been managed by the
implementation of unit matching and equity hedging to reduce the
sensitivity of future dividend payments to market movements. Unit
matching involves more effectively matching unit linked liabilities
on a best-estimate view (as defined by Solvency regulations). This
best-estimate view incorporates an allowance for expected future
income and expenses, which are not fully allowed for under IFRS. As
a result, this leads to a mismatch between IFRS statutory assets
and liabilities in respect of market movements. For example, in the
event of rising markets, a loss would now be recognised in the
accounts as a result of this mismatch, which would be offset in the
future due to higher income as fees are received.
The effect on the Group of changes in the value of investment
property held in respect of investment contract liabilities due to
fluctuations in property prices is negligible as any changes will
be offset by movements in the corresponding liability.
The sensitivity analysis below illustrates how the fair value of
future cash flows in respect of equities and properties, net of
offsetting movements in insurance and investment contract
liabilities, will fluctuate because of changes in market prices at
the reporting date. The equity sensitivity includes the impact of
unit matching and equity hedging which leads to a statutory profit,
mainly due to the hedge payoff under falling markets.
Impact on profit
after tax and equity
for the year
2019 2018
GBPm GBPm
10% (2018: 10%) decrease in equity prices 131 140
10% (2018: 10%) decrease in property prices (5) (5)
-------------------------------------------- ------------ ---------
(ii) Interest rate risk
Interest rate risk is the risk that the value of future cash
flows of a financial instrument will fluctuate because of changes
in interest rates and the shape of the yield curve. Interest rate
risk in respect of the Group's insurance and investment contracts
arises when there is a mismatch in duration or yield between
liabilities and the assets backing those liabilities.
The Group's interest rate risk policy requires that the maturity
profile of interest-bearing financial assets is appropriately
matched to the guaranteed elements of the financial
liabilities.
A fall in market interest rates will result in a lower yield on
the assets supporting guaranteed investment returns payable to
policyholders. This investment return guarantee risk is managed by
matching assets to liabilities as closely as possible. An increase
in market interest rates will result in a reduction in the value of
assets subject to fixed rates of interest which may result in
losses, as a result of an increase in the level of surrenders, the
corresponding fixed income securities have to be sold.
The effect of changes in interest rates in respect of financial
assets which back insurance contract liabilities is given in note
37. The effect on the Group of changes in the value of investments
held in respect of investment contract liabilities due to
fluctuations in market interest rates is negligible as any changes
will be offset by movements in the corresponding liability.
The sensitivity analysis below illustrates how the fair value of
future cash flows in respect of interest-bearing financial assets,
net of offsetting movements in insurance and investment contract
liabilities, will fluctuate because of changes in market interest
rates at the reporting date.
Impact on profit
after tax and equity
for the year
2019 2018
GBPm GBPm
25 basis points (2018: 25 basis points) increase
in yield curves 28 18
25 basis points (2018: 25 basis points) decrease
in yield curves (34) (24)
------------------------------------------------- ----------- ----------
38. Risk management (continued)
(c) Financial risks (continued)
(1) Market risk (continued)
(iii) Foreign exchange risk
Foreign exchange risk relates to the effects of movements in
exchange markets including changes in exchange rates.
The Group's foreign currency exposure is driven by holding
financial instruments to hedge changes in future investment
management fees resulting from exchange rate movements. These
investment management fees are based on charges to policyholder
funds invested in overseas equities. The hedges are placed by the
Company to reduce foreign exchange exposure in the SWL SII capital
position.
Sensitivity analysis for the impact of a 10% depreciation of
sterling against foreign currency shows a GBP(131)m impact for 2019
on profit after tax and equity (2018: nil).
With the exception of these holdings, the overall risk to the
Group is minimal due to the following:
-- The Group's principal transactions are carried out in pounds sterling;
-- The Group's financial assets are primarily denominated in the
same currencies as its insurance and investment contract
liabilities; and
-- Other than shareholder funds, all non-linked investments of
the non-profit funds are in sterling or are currency matched. The
effect on the Group of changes in the value of investments held in
respect of investment contract liabilities due to fluctuations in
foreign exchange rates is negligible as any changes will be offset
by movements in the corresponding liability.
(2) Insurance underwriting risk
Insurance underwriting risk is defined as the risk of adverse
developments in the timing, frequency and severity of claims for
insured/underwritten events and in customer behaviour, leading to
reductions in earnings and/or value.
The principal risk the Group faces under insurance contracts is
that the actual claims and benefit payments exceed the amounts
expected at the time of determining the insurance liabilities.
The nature of the Group's business involves the accepting of
insurance underwriting risks which primarily relate to mortality,
longevity, morbidity, persistency and expenses. When transacting
new business, the Group underwrites policies to ensure an
appropriate premium is charged for the risk or that the risk is
declined.
The Group principally writes the following types of life
insurance contracts:
-- Life assurance - where the life of the policyholder is
insured against death or permanent disability, usually for
pre-determined amounts;
-- Annuity products - where typically the policyholder is
entitled to payments which cease upon death; and
-- Morbidity products - where the policyholder is insured
against the risk of contracting a defined illness.
For contracts where death is the insured risk, the most
significant factors that could increase the overall level of claims
are epidemics or widespread changes in lifestyle, such as eating,
smoking and exercise habits, resulting in earlier or more claims
than expected. The possibility of a pandemic, for example one
arising from influenza, is regarded as a potentially significant
mortality risk. For contracts where survival is the insured risk,
the most significant factor is continued improvement in medical
science and social conditions that would increase longevity.
For contracts with fixed and guaranteed benefits and fixed
future premiums, there are no mitigating terms and conditions that
significantly reduce the insurance underwriting risk accepted. For
participating investment contracts, the participating nature of
these contracts results in a significant portion of the insurance
underwriting risk being shared with the policyholder.
Insurance underwriting risk is also affected by the
policyholders' right to pay reduced or no future premiums, to
terminate the contract completely, to exercise a guaranteed annuity
option or, for bulk annuity business, for pensioners to exercise
options following retirement. As a result, the amount of insurance
underwriting risk is also subject to policyholder behaviour. On the
assumption that policyholders will make decisions that are in their
best interests, overall insurance underwriting risk will generally
be aggravated by policyholder behaviour. For example, it is likely
that policyholders whose health has deteriorated significantly will
be less inclined to terminate contracts insuring death benefits
than those policyholders who remain in good health.
The Group has taken account of the expected impact of
policyholder behaviour in setting the assumptions used to measure
insurance and investment contract liabilities.
38. Risk management (continued)
(c) Financial risks (continued)
(2) Insurance underwriting risk (continued)
The principal methods available to the Group to control or
mitigate longevity, mortality and morbidity risk are through the
following processes:
-- Underwriting (the process to ensure that new insurance proposals are properly assessed);
-- Pricing-to-risk (new insurance proposals would usually be
priced in accordance with the underwriting assessment);
-- Demographics to accurately assess mortality risk;
-- Claims management;
-- Product design;
-- Policy wording; and
-- The use of reinsurance and other risk mitigation techniques.
Rates of mortality and morbidity are investigated annually based
on the Group's recent experience. Future mortality improvement
assumptions are set using the latest population data available. In
addition, bulk annuity business pricing and valuation assumptions
also consider underlying experience of the scheme where available.
Where they exist, the reinsurance arrangements of each company in
the Group are reviewed at least annually.
Persistency risk is the risk associated with the ability to
retain long-term business and the ability to renew short-term
business. The Group aims to reduce its exposure to persistency risk
by undertaking various initiatives to promote customer loyalty.
These initiatives are aimed both at the point of sale and through
direct contact with existing policyholders, for example through
annual statement information packs.
Further information on assumptions, changes in assumptions and
sensitivities in respect of insurance and participating investment
contracts is given in note 37.
(3) Credit risk
The risk that parties with whom we have contracted, fail to meet
their financial obligations (both on and off balance sheet).
The Group accepts credit risk with a variety of counterparties
through invested assets which are primarily used to back annuity
business, cash in liquidity funds and bank accounts, derivatives
and reinsurance. These are managed through a credit control
framework which uses a tiered approach to set credit limits:
-- Tier 1: Credit limits are set by the Insurance Board as part
of the overall Insurance Risk Appetite.
-- Tier 2: Insurance and Wealth Investment Strategy Committee
('IWISC') assists the IWISC Chair to set additional controls, sub
limits and guidelines. These operate within the boundaries of the
Board's Tier 1 Risk Appetite statements and are designed to assist
the business with more efficient utilisation of higher level Board
Risk Appetite statements in delivery of Insurance's investment
strategy.
-- Tier 3: Insurance Credit approvers have individual personal
delegated authorities from the Insurance Board to approve exposures
to individual counterparties. Amounts above these delegated
authorities require approval by the Insurance Board.
Group exposure limits are set for the maximum single name
concentration, industry sector, country of risk and portfolio
quality. In addition, each individual counterparty exposure
requires a counterparty limit or is within the criteria of an
approved sanction matrix.
Group exposures are reported on a monthly basis to the Insurance
Shareholder Investment Management Committee ('ISIM') and
semi-annually to IWISC, and other senior committees. Any exceptions
to limits must be approved in advance by the relevant authority
that owns that limit, and any unapproved excesses notified to that
authority as a breach.
A core part of the invested asset portfolio which backs the
annuity business is invested in loan assets. These have
predominately been purchased from LBG although the Group has also
started originating new business. All loan assets are assessed and
monitored using established robust processes and controls.
Reinsurance is primarily used to reduce insurance risk. However,
it is also sought for other reasons such as improving
profitability, reducing capital requirements and obtaining
technical support. In addition, reinsurance is also used to offer
policyholders access to third party funds via Investment Fund Links
which we are unable to provide through other means. The 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.
38. Risk management (continued)
(c) Financial risks (continued)
(3) Credit risk (continued)
The Group has reinsurance on all significant lines of business
where mortality, morbidity or property risks exceed set retention
limits. This does not, however, discharge the Group's liability as
primary insurer. If a reinsurer fails to pay a claim for any
reason, the Group remains liable for the payment to the
policyholder. All new material reinsurance treaties are subject to
Board approval and reinsurance arrangements are reviewed annually
to ensure that the reinsurance strategy is being achieved.
Reinsurance for Investment Fund Links is not assessed as a
counterparty exposure for the Group since with invested assets
matching liabilities, any loss to the Group would only be the
result of operational failures of internal controls and as such it
is outside of the credit control framework described above.
Shareholder funds are managed in line with the Insurance Credit
Risk Policy and the wider LBG Credit Risk Policy which set out the
principles of the credit control framework outlined above.
Credit risk in respect of unit-linked funds and With Profits
Funds is largely borne by the policyholders. Consequently, the
Group has no significant exposure to credit risk for those
funds.
The tables below analyse financial assets and reinsurance assets
subject to credit risk exposure using Standard & Poor's rating
or equivalent. For certain classes of assets, internally generated
ratings have been used where external ratings are not available.
This includes credit assets held in both shareholder and
policyholder funds. No account is taken of any collateral held to
mitigate the risk.
Group As at 31 December 2019
BBB or
Total AAA AA A lower Not rated
GBPm GBPm GBPm GBPm GBPm GBPm
Stage 1 assets
Cash and cash equivalents 276 1 17 204 48 6
Loans and receivables
at amortised cost 483 - - 403 - 80
Loss allowance - - - - - -
Exposure to credit risk 759 1 17 607 48 86
Simplified approach
assets
Loans and receivables
at amortised cost 514 - - 22 - 492
Loss allowance (5) - - - - (5)
Exposure to credit risk 509 - - 22 - 487
Assets at FVTPL
Assets arising from
reinsurance contracts
held classified at fair
value through profit
and loss 22,837 - - 22,551 286 -
Debt and other fixed/variable
income securities 32,366 2,152 15,026 6,689 8,337 162
Derivative financial
instruments 3,968 - 454 3,395 74 45
Loans and advances to
customers 8,804 73 1,324 4,439 2,376 592
Loans and advances to
banks 2,255 - 18 2,172 58 7
Other
Reinsurance contracts 720 - 589 131 - -
Total 72,218 2,226 17,428 40,006 11,179 1,379
------------------------------ ------ ----- ------ ------ ------ ---------
Cash at bank, included with Stage 1 assets, is considered to
have low credit risk.
38. Risk management (continued)
(c) Financial risks (continued)
(3) Credit risk (continued)
Group As at 31 December 2018
BBB or
Total AAA AA A lower Not rated
GBPm GBPm GBPm GBPm GBPm GBPm
Stage 1 assets
Cash and cash equivalents 174 1 24 122 18 9
Loans and receivables
at amortised cost 2,312 - - 1,789 - 523
Loss allowance - - - - - -
Exposure to credit risk 2,486 1 24 1,911 18 532
Simplified approach
assets
Loans and receivables
at amortised cost 362 - - 72 - 290
Loss allowance (6) - - (3) - (3)
Exposure to credit risk 356 - - 69 - 287
Assets at FVTPL
Assets arising from
reinsurance contracts
held classified at fair
value through profit
and loss 7,132 - - 7,111 21 -
Debt and other fixed/variable
income securities 31,033 2,423 13,261 7,034 8,156 159
Derivative financial
instruments 3,157 - 322 2,413 333 89
Loans and advances to
customers 7,845 72 945 4,774 1,418 636
Loans and advances to
banks 2,519 - 540 448 110 1,421
Other
Reinsurance contracts 728 - 555 172 1 -
Total 55,256 2,496 15,647 23,932 10,057 3,124
------------------------------ ------ ----- ------ ------ ------ ---------
38. Risk management (continued)
(c) Financial risks (continued)
(3) Credit risk (continued)
Company As at 31 December 2019
BBB or
Total AAA AA A lower Not rated
GBPm GBPm GBPm GBPm GBPm GBPm
Stage 1 assets
Cash and cash equivalents 98 - - 53 45 -
Loans and receivables
at amortised cost 411 - - 402 - 9
Loss allowance - - - - - -
Exposure to credit risk 509 - - 455 45 9
Simplified approach
assets
Loans and receivables
at amortised cost 208 - - 22 - 186
Loss allowance (2) - - - - (2)
Exposure to credit risk 206 - - 22 - 184
Assets at FVTPL
Assets arising from
reinsurance contracts
held classified at fair
value through profit
and loss 22,837 - - 22,551 286 -
Debt and other fixed/variable
income securities 15,299 591 9,065 2,792 2,605 246
Derivative financial
instruments 3,894 - 452 3,347 74 21
Loans and advances to
customers 8,250 73 1,324 4,439 2,376 38
Loans and advances to
banks 1,203 - - 1,188 15 -
Deposits with cedants 1,507 - - - - 1,507
Other
Reinsurance contracts 726 - 595 131 - -
Total 54,431 664 11,436 34,925 5,401 2,005
------------------------------ ------ ---- ------ ------ ------ ---------
Cash at bank, included with Stage 1 assets, is considered to
have low credit risk.
38. Risk management (continued)
(c) Financial risks (continued)
(3) Credit risk (continued)
Company As at 31 December 2018
BBB or
Total AAA AA A lower Not rated
GBPm GBPm GBPm GBPm GBPm GBPm
Stage 1 assets
Cash and cash equivalents 41 - 7 21 13 -
Loans and receivables
at amortised cost 1,838 - - 1,797 - 41
Loss allowance - - - - - -
Exposure to credit risk 1,879 - 7 1,818 13 41
Simplified approach
assets
Loans and receivables
at amortised cost 358 - - 72 - 286
Loss allowance (2) - - (2) - -
Exposure to credit risk 356 - - 70 - 286
Assets at FVTPL
Assets arising from
reinsurance contracts
held classified at fair
value through profit
and loss 7,132 - - 7,111 21 -
Debt and other fixed/variable
income securities 12,738 652 7,059 2,552 2,237 238
Derivative financial
instruments 3,129 - 311 2,409 333 76
Loans and advances to
customers 7,259 72 945 4,774 1,417 51
Loans and advances to
banks 1,470 - 13 38 17 1,402
Transferred to Assets
held for sale (234) - - - - (234)
Other
Reinsurance contracts 728 - 555 172 1 -
Total 34,457 724 8,890 18,944 4,039 1,860
------------------------------ ------ ---- ----- ------ ------ ---------
Amounts classified as "not rated" within assets arising from
reinsurance contracts held principally relate to amounts due from
other Group companies which are not rated by Standard & Poor's
or an equivalent rating agency.
Expected credit losses are calculated using three key input
parameters: the probability of default ("PD") (except for lifetime
expected credit losses), the expected loss given default ("LGD")
and the exposure at default ("EAD"). The probability of default and
expected loss given default are determined using internally
generated credit ratings. For lease receivables, the past due
information is used to determine the expected loss given
default.
Expected credit losses are measured on a collective basis for
certain Groups of financial assets, such as control accounts, trade
receivables and intercompany receivables, which are considered to
be homogenous in terms of their risk of default.
Maximum credit exposure
The maximum credit risk exposure of the Group in the event of
other parties failing to perform their obligations is detailed
below. No account is taken of any collateral held and the maximum
exposure to loss, which includes amounts held to cover unit-linked
and With Profits Funds liabilities, is considered to be the balance
sheet carrying amount.
38. Risk management (continued)
(c) Financial risks (continued)
(3) Credit risk (continued)
Group 2019 2018
Maximum Maximum
exposure Offset Net exposure exposure Offset Net exposure
GBPm GBPm GBPm GBPm GBPm GBPm
Loans and receivables
at amortised cost 997 - 997 2,674 - 2,674
Investments at fair value
through profit or loss:
Assets arising from reinsurance
contracts held classified
at fair value through
profit and loss 22,837 - 22,837 7,132 - 7,132
Debt securities 32,366 - 32,366 31,033 - 31,033
Derivative Financial Instruments 3,968 - 3,968 3,157 - 3,157
Loans and advances to
customers 8,804 - 8,804 7,845 - 7,845
Loans and advances to
banks 2,255 - 2,255 2,519 - 2,519
Reinsurance contracts 720 - 720 728 - 728
Cash and cash equivalents 276 - 276 174 - 174
At 31 December 72,223 - 72,223 55,262 - 55,262
------------------------------------- --------- ------ ------------ --------- ------ ------------
Company 2019 2018
Maximum Maximum
exposure Offset Net exposure exposure Offset Net exposure
GBPm GBPm GBPm GBPm GBPm GBPm
Loans and receivables
at amortised cost 619 - 619 2,196 - 2,196
Investments at fair value
through profit or loss:
Assets arising from reinsurance
contracts held classified
at fair value through
profit and loss 22,837 - 22,837 7,132 - 7,132
Debt securities 15,299 - 15,299 12,738 - 12,738
Derivative Financial Instruments 3,894 - 3,894 3,129 - 3,129
Loans and advances to
customers 8,250 - 8,250 7,259 - 7,259
Loans and advances to
banks 1,203 - 1,203 1,470 - 1,470
Deposits with cedants 1,507 - 1,507 - - -
Reinsurance contracts 726 - 726 728 - 728
Cash and cash equivalents 98 - 98 41 - 41
At 31 December 54,433 - 54,433 34,693 - 34,693
------------------------------------- --------- ------ ------------ --------- ------ ------------
38. Risk management (continued)
(c) Financial risks (continued)
(3) Credit risk (continued)
(i) Concentration risk
Credit concentration risk
Credit concentration risk relates to the inadequate
diversification of credit risk.
Credit risk is managed through the setting and regular review of
counterparty credit and concentration limits on asset types which
are considered more likely to lead to a concentration of credit
risk. For other asset types, such as UK government securities or
investments in funds falling under the Undertakings for Collective
Investment in Transferable Securities "UCITS" Directive, no limits
are prescribed as the risk of credit concentration is deemed to be
immaterial. This policy supports the approach mandated by the PRA
for regulatory reporting.
At 31 December 2019 and 31 December 2018, the Group did not have
any significant concentration of credit risk with a single
counterparty or Group of counterparties where limits applied. With
the exception of Government bonds and UCITS funds, the largest
aggregated counterparty exposure is 0.2% (2018: 1.0% of the Group's
total assets).
Total
GBPm
Trade and other receivables:
Amounts due from brokers 62
Amounts due from group undertakings 413
Other receivables 522
Cash and cash equivalents with financial institutions 276
Total 1,273
------------------------------------------------------ -----
For other receivables, the largest single counterparty balance
is with policyholders, which totals GBP91m.
Liquidity concentration risk
Liquidity concentration risk arises where the Group is unable to
meet its obligations as they fall due or do so only at an excessive
cost, due to over-concentration of investments in particular
financial assets or classes of financial asset.
As most of the Group's invested assets are diversified across a
range of marketable equity and debt securities in line with the
investment options offered to policyholders it is unlikely that a
material concentration of liquidity concentration could arise.
This is supplemented by active liquidity management in the
Group, to ensure that even under stress conditions the Group has
sufficient liquidity as required to meet its obligations. This is
delegated by the Board to and monitored through the Insurance and
Wealth Asset and Liability Committee (IWALCO), IWRC, ISIM and
Banking and Liquidity Operating Committee (BLOC).
(ii) Collateral management
Collateral in respect of derivatives
The requirement for collateralisation of OTC derivatives,
including the levels at which collateral is required and the types
of asset that are deemed to be acceptable collateral, are set out
in a Credit Support Annex (CSA), which forms part of the
International Swaps and Derivatives Association (ISDA) agreement
between the Company and the counterparty.
The CSA will require collateralisation where any net exposure to
a counterparty exceeds the OTC counterparty limit, which must be
established in accordance with the Derivatives Risk Policy (DRP).
The aggregate uncollateralised exposure to any one counterparty
must not exceed limits specified in the DRP. Where derivative
counterparties are related, the aggregate net exposure is
considered for the purposes of applying these limits.
Acceptable collateral is defined in each instance and must take
into account the quality and appropriateness of the proposed
collateral as well as being acceptable to the entity receiving the
collateral. Collateral may include cash, corporate bonds,
supranational debt and government debt.
Assets with the following carrying amounts have been pledged in
accordance with the terms of the relevant CSAs entered into in
respect of various OTC and other derivative contracts:
38. Risk management (continued)
(c) Financial risks (continued)
(3) Credit risk (continued)
2019 2018
GBPm GBPm GBPm GBPm
Group Company Group Company
Financial assets:
Investments at fair value through
profit or loss 773 773 547 547
Cash and cash equivalents 369 369 378 378
Total 1,142 1,142 925 925
---------------------------------- ----- ------- ----- -------
Collateral pledged in form of financial assets, is continued to
be recognised in the balance sheet as the Group and Company retains
all risks and rewards of the transferred assets. The Group and the
Company has the right to recall any collateral pledged provided
that this is replaced with alternative acceptable assets. The
counterparty has right to repledge or sell the collateral in the
absence of default by the Group and Company.
Cash collateral pledged where the counterparty retains the risks
and rewards is derecognised from the balance sheet and a
corresponding receivable is recognised for its return.
Where the Group and Company receives collateral in form of
financial instruments for which the counterparty retains all risks
and rewards, it is not recognised in the balance sheet. The fair
value of financial assets accepted as collateral for OTC
derivatives but not recognised in the balance sheet amounts to
GBP1,191m (2018: GBP811m) by the Group and GBP1,191m (2018:
GBP811m) by the Company, all of which is permitted to be sold or
repledged in the absence of default. However the policy of the
Group and Company is not to repledge assets, and hence no
collateral was sold or repledged by the Group or Company during the
year or in the prior year.
Where the Group and Company receives collateral in form of cash,
it is recognised in the balance sheet along with a corresponding
liability to repay the amount of collateral received within other
financial liabilities. The amount of cash collateral received by
the Group and Company amounts to GBP281m (2018: GBP259m) and
GBP250m (2018: GBP259m) respectively.
Collateral in respect of Stock Lending
The Group and Company lend financial assets held in its
portfolio to other institutions. The IWISC and its sub-committee
Investment Management Operational Review Committee (IMOR) are
responsible for setting the parameters of stock lending. Stock
lending is permitted in accordance with the Insurance Stock Lending
Policy. All stock lending takes place on an open/call basis,
enabling the loan to be recalled at any time within the standard
settlement terms of the market concerned.
The financial assets lent do not qualify for derecognition as
the Group and Company retains all risks and rewards of the
transferred assets except for the voting rights. The aggregate
carrying value of securities on loan by the Group is GBP4,137m
(2018: GBP3,962m) and by the Company is GBP573m (2018:
GBP831m).
It is the Group's and Company's practice to obtain collateral in
stock lending transactions. The accepted collateral can include
cash, equities, certain bonds and money market instruments. On a
daily basis, the fair value of collateral is compared to the fair
value of stock on loan. The value of collateral must always exceed
the value of stock on loan.
Where the Group and Company receives collateral in form of
financial instruments for which counterparty retains all risks and
rewards, it is not recognised in the balance sheet. The fair value
of financial assets accepted as collateral but not recognised in
the balance sheet amounts to GBP4,059m (2018: GBP4,232m) by the
Group and GBP528m (2018: GBP873m) by the Company. The Group and the
Company is not permitted to sell or repledge the collateral in the
absence of default.
Where the Group and Company receives collateral in form of cash,
it is recognised in the balance sheet along with a corresponding
liability to repay the amount of collateral received within other
financial liabilities. The amount of cash collateral received by
the Group and Company amounts to GBP334m (2018: GBP622m) and GBP66m
(2018: GBP109m) respectively.
There were no defaults in respect of stock lending during the
year ended 31 December 2019 (2018: none) which required a call to
be made on collateral.
Collateral in respect of Reverse Repurchase Agreement
The Group and Company entered into Reverse Repurchase Agreements
whereby it purchased financial instruments with an agreement to
resell them back to the counterparty at an agreed price. These
transactions are in effect collateralised loans and are reported
accordingly. The cash on loan is recognised as Loans and
Receivables. The amount of cash on loan in this regard is GBP334m
(2018: GBP622m) for the Group and GBP66m (2018: GBP109m) for
Company.
The financial assets received as collateral are not recognised
on the balance sheet as the counterparty retains all risks and
rewards. The fair value of financial assets accepted as collateral
amounted to is GBP349m (2018: GBP651m) for the Group and GBP69m
(2018: GBP116m) for Company.
38. Risk management (continued)
(c) Financial risks (continued)
(3) Credit risk (continued)
Collateral in respect of Repurchase Agreement
A repurchase agreement between the Company and Lloyds Bank
Corporate Markets PLC was terminated in the year with the
collateral pledged returned to the Company (2018: Collateral
pledged GBP137m for Group and Company).
Collateral in respect of loans to related parties
In 2019 the Company terminated a GBP1,400m collateralised loan
agreement with Lloyds Bank PLC and the collateral held was returned
to the counterparty. (2018: value of loan GBP1,400m, collateral
held GBP1,860m for Group and Company).
Collateral in respect of Bulk Annuity Business
Acceptable collateral is defined in each instance and must take
into account the quality and appropriateness of the proposed
collateral as well as being acceptable to the entity receiving the
collateral. Collateral may include cash, corporate bonds,
supranational debt and government debt.
During 2019, the Company purchased Bulk Annuity contracts which
provide buy in and buy out solutions to defined benefit pension
schemes. To enter into the transaction some trustees may seek
collateral to cover the counterparty default scenario. Collateral
pledged in respect of Bulk Annuity business was GBP1,471m (2018:
GBP1,504m) for Group and Company.
(iii) Offsetting
The following tables show financial assets and liabilities which
have been set off in the balance sheet and those which have not
been set off but for which the Group and the Company has
enforceable master netting agreements in place with counterparties.
They include Derivatives, Repurchase and Reverse Repurchase
arrangements.
a) Derivatives
The derivative assets and liabilities in the tables below
consist of OTC and exchange traded (ET) derivatives. The value of
gross/net amounts for derivatives in the table below comprises
those that are subject to master netting arrangements. The right to
set off balances under these master netting agreements or to set
off cash and securities collateral only arises in the event of non
payment or default and, as a result, these arrangements do not
qualify for offsetting under IAS 32. As a result no amount has been
set off in the balance sheet (2018: nil). Total derivatives
presented in the balance sheet are shown in note 20.
The "financial instruments" amounts in the tables below show the
values that can be set off against the relevant derivatives asset
and liabilities in the event of default under master netting
agreements. In addition, the Group and the Company holds and
provides cash and securities collateral in respect of derivative
transactions to mitigate credit risks.
In the tables below, the amounts of derivative assets or
liabilities presented are offset first by financial instruments
that have the right of offset under master netting with any
remaining amount reduced by the amount collateral.
b) Repurchase and Reverse Repurchase Arrangements
The Group and the Company participates in repurchase (repo) and
reverse repurchase arrangements (reverse repo). The gross/net
amount in the table shows the relevant assets that the Group and
the Company has transferred to counterparties under these
arrangements. Cash and non cash collateral is received by the Group
and the Company for securities transferred. Cash collateral may be
reinvested by the Group and Company through reverse repo against
non cash collateral.
In the tables below, the amounts that are subject to repo and
reverse repo are set off against the amount of collateral received
according to the relevant legal agreements, showing the potential
net amounts.
The actual fair value of collateral may be greater than amounts
presented in the tables below in the case of over
collateralisation.
38. Risk management (continued)
(c) Financial risks (continued)
(3) Credit risk (continued)
b) Repurchase and Reverse Repurchase Arrangements (continued)
Group as at 31 December 2019
Related amounts
where set off
not permitted
in the balance
sheet
(sub note 2)
Net amounts
presented Potential
Amounts in the net amounts
Gross set off balance if offset
amounts in the sheet of related
of assets balance (sub Financial amounts
/ liabilities sheet note 1) instruments Collateral permitted
GBPm GBPm GBPm GBPm GBPm GBPm
Financial assets
OTC Derivatives 3,923 - 3,923 (2,352) (1,499) 72
ET Derivatives 45 - 45 (7) (38) -
Reverse Repo 334 - 334 - (349) (15)
Financial liabilities
OTC Derivatives (3,409) - (3,409) 2,352 1,018 (39)
ET Derivatives (36) - (36) 7 29 -
---------------------- -------------- -------- ----------- ------------ ---------- ------------
Group as at 31 December 2018
Related amounts
where set off
not permitted
in the balance
sheet
(sub note 2)
Net amounts
presented Potential
Amounts in the net amounts
Gross set off balance if offset
amounts in the sheet of related
of assets balance (sub Financial amounts
/ liabilities sheet note 1) instruments Collateral permitted
GBPm GBPm GBPm GBPm GBPm GBPm
Financial assets
OTC Derivatives 3,067 - 3,067 (2,681) (355) 31
ET Derivatives 89 - 89 (28) (61) -
Repo 135 - 135 - (135) -
Reverse Repo 622 - 622 - (622) -
Financial liabilities
OTC Derivatives (2,586) - (2,586) 2,681 (113) (18)
ET Derivatives (132) - (132) 28 104 -
---------------------- -------------- -------- ----------- ------------ ---------- ------------
38. Risk management (continued)
(c) Financial risks (continued)
(3) Credit risk (continued)
b) Repurchase and Reverse Repurchase Arrangements (continued)
Company as at 31 December 2019
Related amounts
where set off
not permitted
in the balance
sheet
(sub note 2)
Gross Net amounts Potential
amounts presented net amounts
of assets Amounts in the if offset
/ liabilities set off balance of related
in the sheet amounts
balance (sub Financial permitted
sheet note 1) instruments Collateral
GBPm GBPm GBPm GBPm GBPm GBPm
Financial assets
OTC Derivatives 3,872 - 3,872 (2,352) (1,467) 53
ET Derivatives 22 - 22 (1) (20) 1
Reverse Repo 66 - 66 - (69) (3)
Financial liabilities
OTC Derivatives (3,403) - (3,403) 2,352 1,018 (33)
ET Derivatives (31) - (31) 1 30 -
---------------------- -------------- -------- ----------- ------------ ---------- ------------
Company as at 31 December 2018
Related amounts
where set off
not permitted
in the balance
sheet
(sub note 2)
Gross Net amounts
amounts presented Potential
of assets Amounts in the net amounts
/ liabilities set off balance if offset
in the sheet of related
balance (sub Financial amounts
sheet note 1) instruments Collateral permitted
GBPm GBPm GBPm GBPm GBPm GBPm
Financial assets
OTC Derivatives 3,052 - 3,052 (2,681) (355) 16
ET Derivatives 76 - 76 (19) (57) -
Repo 135 - 135 - (135) -
Reverse Repo 109 - 109 - (109) -
Financial liabilities
OTC Derivatives (2,578) - (2,578) 2,682 (114) (10)
ET Derivatives (103) - (103) 19 84 -
---------------------- -------------- -------- ----------- ------------ ---------- ------------
The following sub notes are relevant to the tables on this and
the preceding page:
1. The value of net amounts presented in the balance sheet for
derivatives comprises those derivatives held by the Group and the
Company that are subject to master netting arrangements. Total
derivatives presented in the balance sheet are shown in note
20.
2. The Group and the Company enters into derivative transactions
with various counterparties which are governed by industry standard
master netting agreements. The Group and the Company holds and
provides cash and securities collateral in respective of derivative
transactions covered by these agreements. The right to set off
balances under these master netting agreements or to set off cash
and securities collateral only arises in the event of non-payment
or default and, as a result, these arrangements do not qualify for
offsetting under IAS 32.
38. Risk management (continued)
(c) Financial risks (continued)
(4) Capital Risk
Capital risk is defined as the risk that the Group has a
sub-optimal quantity or quality of capital or that capital is
inefficiently deployed across the Group. The risk that:
-- the Group, or one of its separately regulated subsidiaries,
has insufficient capital to meet its regulatory capital
requirements;
-- the Group has insufficient capital to provide a stable
resource to absorb all losses up to a confidence level defined in
the risk appetite;
-- the Group loses reputational status by having capital that is
regarded as inappropriate, either in quantity, type or
distribution; and/or
-- the capital structure is inefficient.
The business of several of the companies within the Group is
regulated by the PRA and the FCA. The PRA rules, which incorporate
all Solvency II requirements, specify the minimum amount of capital
that must be held by the regulated companies within the Group in
addition to their insurance liabilities. Under the Solvency II
rules, each insurance Company within the Group must hold assets in
excess of this minimum amount, which is derived from an economic
capital assessment undertaken by each regulated Company and the
quality of capital held must also satisfy Solvency II tiering
rules. This is reviewed on a quarterly basis by the PRA.
The Solvency II minimum required capital must be maintained at
all times throughout the year. These capital requirements and the
capital available to meet them are regularly estimated in order to
ensure that capital maintenance requirements are being met.
The Group's objectives when managing capital are:
- to have sufficient capital to safeguard the Group's ability to
continue as a going concern so that it can continue to provide
returns for the shareholder and benefits for other
stakeholders;
- to comply with the insurance capital requirements set out by the PRA in the UK;
- when capital is needed, to require an adequate return to the
shareholder by pricing insurance and investment contracts according
to the level of risk associated with the business written; and
- to meet the requirements of the Schemes of Transfer.
The capital management strategy is such that the integrated
insurance business (comprising Scottish Widows Group Limited
("SWG") and its subsidiaries, including the Group) will hold
capital in line with the stated risk appetite for the business,
which is to be able to withstand a one in ten year stress event
without breaching the capital requirements. At SWG level it is
intended that all surplus capital above that required to absorb a
one in ten year stress event will be distributed to LBG.
The Company's capital comprises all components of equity,
movements in which are set out in the statement of changes in
equity and includes subordinated debt (note 31).
The table below sets out the regulatory capital held at 31
December in each year for the Company on a Solvency II basis. The
current year information is an estimate of the final result:
Company
2019 2018
GBPm GBPm
Regulatory Capital held 7,724 7,944
------------------------ ----- -----
All minimum regulatory requirements were met during the
year.
(5) Liquidity risk
Liquidity risk is defined as the risk that the Group does not
have sufficient financial resources to meet its commitments as they
fall due, or can only secure them at excessive cost.
Liquidity risk may result from either the inability to sell
financial assets quickly at their fair values; or from an insurance
liability falling due for payment earlier than expected; or from
the inability to generate cash inflows as anticipated.
Liquidity risk has been analysed as arising from payments to
policyholders (including those where payment is at the discretion
of the policyholder) and non policyholder related activity (such as
investment purchases and the payment of shareholder expenses).
38. Risk management (continued)
(c) Financial risks (continued)
(5) Liquidity risk (continued)
In order to measure liquidity risk exposure the Group's
liquidity is assessed in a stress scenario. Liquidity risk is
actively managed and monitored to ensure that, even under stress
conditions, the Company and Group has sufficient liquidity to meet
its obligations and remains within approved risk appetite.
Liquidity risk appetite considers two time periods; three month
stressed outflows are required to be covered by primary liquid
assets; and one year stressed outflows are required to be covered
by primary and secondary liquid assets. Primary liquid assets are
gilts or cash, and secondary liquid assets are corporate bonds. The
stressed outflows also make allowance for the increased collateral
that needs to be posted under derivative contracts in stressed
conditions. Liquidity risk is actively managed and monitored to
ensure that, even under stress conditions, the Group has sufficient
liquidity to meet its obligations and remains within approved risk
appetite.
Liquidity risk is managed in line with the Insurance Liquidity
Risk Policy and the wider LBG Funding and Liquidity Policy.
Liquidity risk in respect of each of the major product areas is
primarily mitigated as follows:
Annuity contracts
Assets are held which are specifically chosen to correspond to
the expectation of timing of annuity payments. Gilts, corporate
bonds, loans and, where required, derivatives are selected to
reflect the expected annuity payments as closely as possible and
are regularly rebalanced to ensure that this remains the case in
future.
With Profits contracts
For With Profits business, a portfolio of assets is held in line
with investment mandates which will reflect policyholders'
reasonable expectations.
Liquidity is maintained within the portfolio via the holding of
cash balances and a substantial number of highly liquid assets,
principally gilts, bonds and listed equities.
Non-participating contracts
For unit-linked products, portfolios are invested in accordance
with unit fund mandates. Deferral clauses are included in
policyholder contracts to give time, when necessary, to realise
linked assets without being a forced seller. As at 31 December
2019, there are no funds under management subject to deferral
(2018: none).
For non-linked products other than annuity contracts, backing
investments are mostly held in gilts with minimal liquidity risk.
Investments are arranged to minimise the possibility of being a
distressed seller whilst at the same time investing to meet
policyholder obligations. This is achieved by anticipating
policyholder behaviour and sales of underlying assets within
funds.
Shareholder funds
For shareholder funds, liquidity is maintained within the
portfolio via the holding of cash balances and a substantial number
of highly liquid assets, principally gilts and bonds.
The following tables indicate the timing of the contractual cash
flows arising from the Group and Company's financial liabilities,
as required by IFRS 7. The table is based on the undiscounted cash
flows of financial liabilities based on the earliest date on which
the Group and Company are obliged to pay. The table includes both
interest and principal cash flows.
Liquidity risk in respect of liabilities arising from insurance
contracts and participating investment contracts has been analysed
based on the expected pattern of maturities as permitted by IFRS 4
rather than by contractual maturity. A maturity analysis of
liabilities arising from non-participating investment contracts
based on expected contract maturities is also given as it is
considered that this analysis provides additional useful
information in respect of the liquidity risk relating to contracts
written by the Group and Company.
38. Risk management (continued)
(c) Financial risks (continued)
(5) Liquidity risk (continued)
Group As at 31 December Contractual cash flows
2019
Liabilities Carrying No stated Less 1-3 months 3-12 1-5 years More
amount maturity than months than
1 month 5 years
GBPm GBPm GBPm GBPm GBPm GBPm GBPm
Liabilities arising
from non-participating
investment contracts 37,456 - 37,456 - - - -
External interests
in collective investment
vehicles 11,966 11,855 - - - - -
Derivatives held
for trading 3,445 - 16 67 110 677 2,872
Subordinated debt 1,795 - - - 112 1,128 1,465
Borrowings 3 - 3 - - - -
Lease liabilities 197 - - - 2 7 188
Other financial
liabilities 1,889 297 1,557 28 7 - -
Total 56,751 12,152 39,032 95 231 1,812 4,525
-------------------------- -------- --------- -------- ---------- ------- --------- --------
Group As at 31 December Contractual cash flows
2018
Carrying No stated Less 1-3 months 3-12 1-5 years More
amount maturity than months than
Liabilities 1 month 5 years
GBPm GBPm GBPm GBPm GBPm GBPm GBPm
Liabilities arising
from non-participating
investment contracts 13,855 - 13,855 - - - -
External interests
in collective investment
vehicles 12,944 12,886 - - - - -
Derivatives held
for trading 2,719 - 10 98 128 340 2,823
Subordinated debt 1,769 48 - - 113 1,173 1,505
Borrowings 4 - 4 - - - -
Other financial
liabilities 2,331 260 1,884 28 159 - -
Total 33,622 13,194 15,753 126 400 1,513 4,328
-------------------------- -------- --------- -------- ---------- ------- --------- --------
The contractual cash flow analysis set out above has been based
on the earliest possible contractual date, regardless of the
surrender penalties that might apply and has not been adjusted to
take account of such penalties.
An analysis of the contractual cash flows in respect of
insurance and investment contract liabilities by expected contract
maturity, on a discounted basis, is shown below:
Group As at 31 December More
2019 Less than
than 1-3 3-12 1-5 5
Total 1 month months months years years
Maturity Analysis for
liabilities arising from
insurance and investment
contracts GBPm GBPm GBPm GBPm GBPm GBPm
Insurance and participating
investment contracts 110,919 893 1,335 4,020 26,343 78,328
Non-participating investment
contracts 37,456 334 360 1,596 8,077 27,089
----------------------------- ------- -------- ------- ------- ------ ------
38. Risk management (continued)
(c) Financial risks (continued)
(5) Liquidity risk (continued)
Group As at 31 December More
2018 Less than
than 1-3 3-12 1-5 5
Total 1 month Months months years years
Maturity Analysis for
liabilities arising from
insurance and investment
contracts GBPm GBPm GBPm GBPm GBPm GBPm
Insurance and participating
investment contracts 98,252 1,147 1,496 5,039 23,678 66,892
Non-participating investment
contracts 13,855 308 258 1,056 4,534 7,699
----------------------------- ------ -------- ------- ------- ------ ------
Company As at 31 Contractual cash flows
December 2019
Less More
Carrying No stated than 3-12 than
amount maturity 1 month 1-3 months months 1-5 years 5 years
Liabilities GBPm GBPm GBPm GBPm GBPm GBPm GBPm
Liabilities arising
from non-participating
investment contracts 37,455 - 37,455 - - - -
Derivative financial
instruments 3,434 - 10 62 110 677 2,872
Subordinated debt 1,820 - - - 92 1,147 1,490
Other financial
liabilities 1,422 313 1,109 - - - -
Total 44,131 313 38,574 62 202 1,824 4,362
------------------------ -------- --------- -------- ---------- ------- --------- --------
Company As at 31 December Contractual cash flows
2018
Less More
Carrying No stated than 3-12 than
amount maturity 1 month 1-3 months months 1-5 years 5 years
Liabilities GBPm GBPm GBPm GBPm GBPm GBPm GBPm
Liabilities arising
from non-participating
investment contracts 13,825 - 13,825 - - - -
Derivative financial
instruments 2,681 - 9 64 127 338 2,143
Subordinated debt 1,799 48 - - 92 1,194 1,536
Other financial liabilities 1,608 257 1,215 - 136 - -
Total 19,913 305 15,049 64 355 1,532 3,679
---------------------------- -------- --------- -------- ---------- ------- --------- --------
The contractual cash flow analysis set out above has been based
on the earliest possible contractual date, regardless of the
surrender penalties that might apply and has not been adjusted to
take account of such penalties.
An analysis of liabilities arising from insurance and investment
contracts by expected contract maturity, on a discounted basis, is
shown below:
Company As at 31 December More
2019 Less than
than 1-3 3-12 1-5 5
Total 1 month months months years years
Maturity Analysis for
liabilities arising from
insurance contracts and
investment contracts GBPm GBPm GBPm GBPm GBPm GBPm
Insurance and participating
investment contracts 110,599 882 1,313 5,458 25,903 77,042
Non-participating investment
contracts 37,455 334 360 1,593 8,070 27,098
----------------------------- ------- -------- ------- ------- ------ ------
38. Risk management (continued)
(c) Financial risks (continued)
(5) Liquidity risk (continued)
Company As at 31 December More
2018 Less than
than 1-3 3-12 1-5 5
Total 1 month months months years years
Maturity Analysis for
liabilities arising from
insurance and investment
contracts GBPm GBPm GBPm GBPm GBPm GBPm
Insurance and participating
investment contracts 96,117 1,125 1,464 4,922 23,166 65,440
Non-participating investment
contracts 13,825 308 257 1,052 4,519 7,689
----------------------------- ------ -------- ------- ------- ------ ------
- Non-financial risks
The Group faces a variety of non-financial risks through its
operations and service provision. The Group manages these risks by
following the embedded Risk Management Framework, which uses
methodologies and systems consistent with those implemented across
the Group. The various stages of the framework are:
Identification
-- Risks identified in products, processes, channels, customers and people
-- Emerging risks
-- Changes to the risk profile through ongoing tracking, pricing
reviews and monitoring of external factors
-- Change Management at project, programme or portfolio level
-- Implement Risk and Control Framework and standards, including
loss estimation and provisioning
Measurement
-- Evaluate risk exposure vs appetite
-- Modelling and stress testing, including Internal Model outputs
-- Actual vs expected losses
-- Scenario analysis
-- Reverse stress testing
Management
-- Identify and operate controls
-- Perform day-to-day control activities
-- Ensure appropriate segregation of duties
-- Control assessment and estimation of residual risk
-- Controls testing activities including Sarbanes-Oxley and Own
Risk and Solvency Assessment (ORSA) review
-- Effectiveness reviews
Monitoring
-- Performance vs risk appetite
-- Internal Model performance monitoring
-- Risk metrics on for example products, processes, customer experience, service, retention
-- Change portfolio
-- Regulatory and external environment
-- Quality checking
-- Action management
38. Risk management (continued)
(d) Non-financial risks (continued)
Reporting
-- Monthly Executive Risk Reporting presented through the
corporate governance structure leads to top down review and
challenge evidenced via the Insurance Consolidated Risk Report
-- Material Events escalation, including related actions
-- ORSA reporting
The primary non-financial risk categories are:
Conduct risk
Conduct risk is defined as the risk of customer detriment across
the customer lifecycle including: failures in product management,
distribution and servicing activities; from other risks
materialising, or other activities which could undermine the
integrity of the market or distort competition, leading to unfair
customer outcomes, regulatory censure, reputational damage or
financial loss.
Governance risk
Governance risk is defined as the risk that the Group's
organisational infrastructure fails to provide robust oversight of
decision making and the control mechanisms to ensure strategies and
management instructions are implemented effectively.
Model risk
The risk of financial loss, regulatory censure, reputational
damage or customer detriment, as a result of deficiencies in the
development, application and ongoing operation of Models and
Ratings systems.
Operational risk
Operational risk is defined as the risk of loss from inadequate
or failed internal processes, people and systems or from external
events. As operational risk covers such a range of elements, there
are secondary risk types within this area, including:
- Change risk
Change risk is defined as the risk that, in delivering its
change agenda, the Group fails to ensure compliance with laws and
regulation, maintain effective customer service and availability,
and/or operate within the Group's risk appetite.
- Cyber and information security
The risk of financial loss, disruption or damage to the
reputation of LBG from a malicious attack that impacts the
confidentiality and/or integrity of electronic data or the
availability of systems. The risk also to the security of
information and data.
- Data management
The risk that the Group fails to effectively govern, manage and
protect its data (or the data shared with Third Party Suppliers)
impacting the Group's agility, accuracy, access and availability of
data, ultimately leading to poor customer outcomes, loss of value
to the Group and mistrust from regulators.
- External service provision
Failure in the provision of the formally agreed services (i.e.
within the scope for the Group Service Provision Policy /
supporting Procedures) which are required so Business Units meet
their agreed deliverables.
- Financial crime
Financial crime is the risk of acts intended to bribe, corrupt,
launder money, fund terrorist activity or circumvent sanctions
intended for personal gain or to cause loss to another party, by
customers/clients, suppliers, third parties or colleagues.
- Financial reporting risk
Financial reporting risk is defined as the risk that the Group
suffers reputational damage, loss of investor confidence and/or
financial loss arising from the adoption of inappropriate
accounting policies, ineffective controls over business or finance
processes impacting financial, prudential regulatory, and tax
reporting, failure to manage the associated risks of changes in
taxation rates, law, corporate ownership or structure and the
failure to disclose timely and appropriate information in
accordance with regulatory requirements.
- Fraud
The risk of acts of deception or omission intended for personal
gain or to cause loss to another party, by customers/clients, third
parties or colleagues,
- Internal service provision
The risk associated with the management of internal service
arrangements.
38. Risk management (continued)
(d) Non-financial risks (continued)
- IT systems
The risk of failure in technology governance and the
development, delivery and maintenance of effective IT
solutions.
- Operational resilience risk
Operational resilience risk covers the risk that the Group fails
to design resilience into business operations, underlying
infrastructure and controls (people, process, technical) so that it
is able to withstand external or internal events which could impact
the continuation of operations, and fails to respond in a way which
meets stakeholder expectations and needs when the continuity of
operations is compromised.
- Physical security risk
The risk to the security of people and property (including
damage (malicious or non-malicious) to LBG branches and buildings
managed through Group Property).
- Sourcing
Sourcing risk covers the risk associated with the activity
related to the agreement and management of services provided by
third parties including outsourcing (excludes internal service
arrangements).
People risk
People risk is defined as the risk that the Group fails to
provide an appropriate colleague and customer centric culture,
supported by robust regard and wellbeing policies and processes;
effective leadership to manage colleague resources; effective
talent and succession management; and robust control to ensure all
colleague-related requirements are met.
Regulatory and legal risk
The risk of financial penalties, regulatory censure, criminal or
civil enforcement action or customer detriment as a result of
failure to identify, assess, correctly interpret, comply with, or
manage regulatory and/or legal requirements.
(e) UK political uncertainties including EU exit
Following the UK's exit from the EU, significant negotiation is
now required on the terms of the future trade agreement. As a
result, the possibility of a limited or no deal at the end of the
transition period remains and could manifest in prolonged business
uncertainty across the UK, including the financial services sector.
The continued lack of clarity over the UK's eventual relationship
with the EU and other foreign countries, and ongoing challenges in
the Eurozone, including weak growth raises additional uncertainty
for the UK economic outlook. The Group's response to these risks
and uncertainty is as follows:
-- Internal contingency plans recalibrated and regularly
reviewed for potential strategic, operational and reputational
impacts.
-- As part of LBG, engagement with politicians, officials,
media, trade and other bodies to reassure our commitment to Helping
Britain Prosper.
-- Committed investments for our new entity in the EU to ensure
continuity of certain business activities, and contingency planning
in relation to wider areas of impact
-- No deal EU exit outcome analysed to identify impacts and
assess robustness of contingency plans.
-- Economic Risk
UK economic growth remains muted and the lack of clarity around
an EU trade deal is likely to keep investment subdued. High levels
of credit market liquidity have reduced spreads and weakened terms
in some sectors, creating a potential under-pricing of risk and
heightened risk of a market correction. The Group's response to
these risks is as follows:
-- Internal contingency plans recalibrated and regularly
reviewed for potential strategic, operational and reputational
impacts, with a plan specifically for working through the potential
impacts of the EU exit on the Group.
-- Wide array of risks considered in setting strategic plans.
-- Capital and liquidity are reviewed regularly through
committees, ensuring compliance with risk appetite and regulatory
requirements.
-- The Group has a robust through the cycle credit risk
appetite, including individual limit guidelines, specific sector
appetite statements and policies, and affordability and
indebtedness controls at origination. In addition to ongoing
focused monitoring, we conduct portfolio deep dives and larger
exposure reviews. We have enhanced our use of early warning
indicators including sector specific indicators.
Additionally, the more recent coronavirus outbreak and related
global health issues are already starting to impact economies and
markets. Whilst the ultimate impact is currently unknown, we are
exploring the credit risk impact, with a focus on illiquid assets,
noting we have little exposure to retail, automobiles and
manufacturing loans.
RELATED PARTY TRANSACTIONS
39. Related party transactions
(a) Ultimate parent and shareholding
The Group's immediate parent undertaking is Scottish Widows
Group Limited, a Company registered in the United Kingdom. Scottish
Widows Group Limited has taken advantage of the provisions of the
Companies Act 2006 and has not produced consolidated financial
statements.
The ultimate parent undertaking and controlling party is Lloyds
Banking Group plc, which is the parent undertaking of the only
group to consolidate these financial statements. Once approved,
copies of the consolidated Annual Report and Accounts of Lloyds
Banking Group plc may be obtained from Lloyds Banking Group's head
office at 25 Gresham Street, London EC2V 7HN or downloaded via
www.lloydsbankinggroup.com .
(b) Transactions and balances with related parties
Transactions with other LBG companies
In accordance with IAS 24 "Related Party Disclosures",
transactions and balances between Group companies have been
eliminated on consolidation and have not been reported as part of
the consolidated financial statements.
The Group has entered into transactions with related parties in
the normal course of business during the year.
2019
Income Expenses Payable Receivable
during during at period at period
period period end end
GBPm GBPm GBPm GBPm
Relationship
Parent 15 (300) - 351
Other related parties 335 (822) (1,831) 2,275
2018
Income Expenses Payable Receivable
during during at period at period
period period end end
GBPm GBPm GBPm GBPm
Relationship
Parent 15 (1,765) - 348
Other related parties 600 (894) (1,419) 3,213
---------------------- ------- -------- ---------- ----------
The Company has entered into transactions with related parties
in the normal course of business during the year. Holdings by the
Group, including consolidated OEIC investments, give rise to
GBP574m (2018: GBP476m) of shares in the ultimate parent
undertaking on the balance sheet, with associated transactions of
GBP(30)m (2018: GBP14m) during the year.
2019
Income Expenses Payable Receivable
during during at period at period
period period end end
GBPm GBPm GBPm GBPm
Relationship
Parent 15 (300) - 351
Subsidiary 1,588 (88) (1,612) 662
Other related parties 335 (743) (1,826) 2,175
2018
Income Expenses Payable Receivable
during during at period at period
period period end end
GBPm GBPm GBPm GBPm
Relationship
Parent 15 (1,765) - 348
Subsidiary 112 (193) (6) 671
Other related parties 522 (1,037) (2,376) 4,064
---------------------- ------- -------- ---------- ----------
Further, amounts relating to other related parties of GBP3,418m
due from OEICs investments were outstanding at 31 December 2019
(2018: GBP2,153m). The above balances are unsecured in nature and
are expected to be settled in cash.
Included within the consolidated statement of comprehensive
income were net (expense)/income amounts related to other parties
of GBP330m (2018: GBP(139)m) from OEIC investments.
39. Related party transactions (continued)
(b) Transactions and balances with related parties (continued)
Transactions with other LBG companies (continued)
Parent undertaking transactions relate to all reported
transactions and balances with Scottish Widows Group Limited, the
Group's immediate parent. Such transactions with the parent Company
are primarily financing (through capital and sub-ordinated debt),
provision of loans and payment of dividends.
Transactions with other related parties (which includes
Subsidiary and Other categories above) are primarily in relation to
operating and employee expenses.
Transactions between the Group and entity employing key
management
Key management personnel are those persons having authority and
responsibility for planning, directing and controlling the
activities of the Company which, for the Company, are all Directors
and Insurance and Wealth Executive Committee ("IWEC") members. Key
management personnel, as defined by IAS 24, are employed by a
management entity, transactions with this entity are as
follows:
Key management compensation:
2019 2019 2018 2018
GBPm GBPm GBPm GBPm
Group Company Group Company
Short-term employee benefits 7 7 8 8
Share-based payments 2 2 2 2
Total 9 9 10 10
----------------------------- ----- ------- ----- -------
Included in short term employee benefits is the aggregate amount
of emoluments paid to or receivable by Directors in respect of
qualifying services of GBP3m (2018: GBP3m).
There were no retirement benefits accruing to Directors (2018:
nil) under defined benefit pension schemes. Three Directors (2018:
six Directors) are paying into a defined contribution scheme. There
were no contributions paid to a pension scheme for qualifying
services (2018: nil) for Group and Company.
Certain members of key management in the Group, including the
highest paid Director, provide services to other companies within
LBG. In such cases, for the purposes of this note, figures have
been included based on an apportionment to the Group of the total
compensation earned.
The aggregate amount of money receivable and the net value of
assets received/receivable under share based incentive schemes in
respect of Directors qualifying services was GBP1m (2018: GBP1m).
During the year, two Director exercised share options (2018: 1
Directors) and three Directors received qualifying service shares
under long term incentive schemes (2018: two Directors). Movements
in share options are as follows:
2019 2018
GBPm GBPm
Options Options
Outstanding at 1 January 15 13
Granted 8 6
Exercised (4) (3)
Forfeited (4) (1)
Outstanding at 31 December 15 15
--------------------------- ------- -------
Detail regarding the highest paid Director is as follows:
2019 2019 2018 2018
GBPm GBPm GBPm GBPm
Group Company Group Company
Apportioned aggregate emoluments 2 2 2 2
Apportioned share-based payments 1 1 1 1
The highest paid Director did not exercise share options during
the year. (2018: The highest paid Director did exercise share
options during the year).
Further details of the above can also be obtained by contacting
Secretariat, Insurance, Lloyds Banking Group plc, Level 7 Block E,
Port Hamilton, 69 Morrison Street, Edinburgh EH3 8YF.
LEI NUMBER: 549300ZT0RVWCG8T4L55
This information is provided by RNS, the news service of the
London Stock Exchange. RNS is approved by the Financial Conduct
Authority to act as a Primary Information Provider in the United
Kingdom. Terms and conditions relating to the use and distribution
of this information may apply. For further information, please
contact rns@lseg.com or visit www.rns.com.
END
FR SEAEEDESSESD
(END) Dow Jones Newswires
March 24, 2020 03:00 ET (07:00 GMT)
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