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Business Review


Extracted from the Preliminary Results 2007

UNITED KINGDOM AND OFFSHORE


Highlights (£m)
2007
Pro forma*
2006
% Change

IFRS adjusted operating profit (pre-tax) **
173
134
29%

EV adjusted operating profit (covered business) (pre-tax)
266
226
18%

Life assurance sales (APE)

740
646
15%

UK life assurance sales (APE)

468
396
18%

Unit trust sales

2,275
3,227
(30%)

Value of new business (post-tax)
77
65
18%

New business margin (post-tax)
10%
10%

PVNBP
6,297
5,350
18%

Net client cash flows (£bn)
3.9
4.9
(20%)

Funds under management (£bn)
41.9
36.0
16%

* The 2006 numbers are stated on a pro forma basis assuming ownership for 12 months rather than 11 months and have been restated to include the results of Old Mutual International.
** From 2007 the treatment of Selestia deferred fee income has been harmonised with Skandia MultiFUNDS reducing the 2007 result. The impact of policyholder tax has been smoothed from 2007.

Positive net client cash flows and strong growth in funds under management

Net client cash flows were £3.9 billion for the year, representing 11% of opening funds under management.  Whilst net client cash flows are down on 2006, they remain strongly positive, with 2006 being inflated by the post 'A-Day' effect and the exceptional institutional mutual fund business mentioned below. Good inflows, combined with favourable market movements during the first half of the year, have driven an increase in funds under management during 2007 as a whole.  In the second half, growth was constrained by volatile markets which affected investment performance and investor sentiment. This was partially offset by continued positive net client cash flows.

Pension sales higher

The increase in life assurance sales APE for 2007 is largely driven by UK pensions.  Single premiums were the key driver, with sales of both Selestia's Collective Retirement Account and Skandia's Monocharge pension up by over 25%.

International business increased in the year, benefiting from strong portfolio bond sales into the UK in the first half and single premium business in Latin America and the Far East.  A tail-off in offshore institutional short-term business following a tax change in the UK Budget has been offset by higher regular premium business in the latter part of the year.  Although this business has experienced increased competition we believe the offshore market has good potential for growth.

Unit trust performance impacted by revised business mix

Although the year started very positively, the latter part of 2007 reflected the influence of increased uncertainty and volatility in equity markets.  Unit trust sales were 30% down on 2006.  This is largely accounted for by the low margin institutional mutual fund business being significantly down in the year, with no recurrence of the exceptional business volumes experienced in the third quarter of 2006.  The year concluded with our new Selestia Investment Solutions, our market-leading open architecture platform experiencing increasing volumes, providing a solid base for future growth.

Strong growth in IFRS adjusted operating profit

IFRS AOP increased by 29% to £173 million for the year. The improvement has been driven by significantly higher level of funds under management throughout the year as a result of positive net client cash flows being sustained well into 2007 as well as improved rebate terms. The effect of both of these factors is a rise in asset-based fees. In addition, there has been a positive impact from the growth in investment income. Both revenue and cost benefits continue to be derived from increased scale and synergies.

Higher EV adjusted operating profit (covered business)

EV adjusted operating profit before tax increased by 18% to £266 million.  The value of new business improved 18% to £77 million.  Expense synergies and improved mix across the business helped sustain the new business margin of 10%, with sales of single premium pensions being especially strong.

The EV adjusted operating profits include £43 million post tax of positive impact from operating assumption changes largely due to a reduction in corporation tax assumption from 30% to 28%.  Operating experience for persistency and expenditure continued in line with expectations.  Modest offsetting revisions were required with positive impacts arising from improvement in the allowance for fee income following continuous commercial negotiations and increasing purchasing power.

Further innovative investment solutions

Skandia Investment Management Ltd's (SIML) unconstrained Best Ideas range was expanded with the launch of UK Strategic Best Ideas in September 2007.  UK Strategic Best Ideas is the first multi-manager UK UCITS III fund to use long and short equity positions, and has gathered over £90 million in assets since its launch, despite the difficult market environment. 

Skandia's risk-focussed multi-manager funds have delivered strong absolute returns, typically with volatility far lower than that of our peers and, consequently, the majority of these funds have delivered better risk-adjusted returns.  During the recent volatile market conditions these funds have performed ahead of our peers, showing the benefits of their specific mandates.

Continued progress with integration activity

Integration activities remain on target to deliver the committed savings as well as providing significant revenue potential.  The Selestia Investment Solutions platform was launched in August 2007, the full benefits of which will flow through following migration of Skandia MultiFUNDS investors on to the new platform in the second half of 2008.  We launched the Skandia Investment Group during the course of the year.  This brings sharper focus and energy to investment product manufacturing and strengthens our multi-manager business in a rapidly growing industry.  It also improves revenue for divisions and shareholders through broadened and strengthened investment products and greater leverage of buying power with fund groups.

Changes in the UK Market

Skandia responded positively to the FSA's review of the retail distribution market, supporting the proposal that there should be two types of distribution: an 'advice channel' and a 'no advice channel'. Skandia has also supported the concept of 'customer agreed remuneration' and has suggested that individuals interfacing with consumers should have appropriate qualifications and be a member of appropriate professional bodies that require commitment to a code of ethics.

The pre-Budget report of October 2007 proposed a change in capital gains tax (CGT) to 18% for unit trust investments, without a similar change in CGT for insurance bonds.  Investment bonds will continue to be tax advantageous for certain consumer segments and there will continue to be demand for such solutions.  However, total bond demand is likely to soften and we have already seen a material reduction in bond sales since November 2007.  It is likely that such demand will switch towards collective investments, outside of an insurance tax wrapper, where it should be noted that Skandia UK has a market leading position, albeit with lower margins than for investment bonds.

NORDIC


Highlights (SEKm)
2007
Pro forma*
2006
% Change

IFRS adjusted operating profit (pre-tax)
874
1,075
(19%)

EV adjusted operating profit (covered business) (pre-tax)
700
1,589
(56%)

Life assurance sales (APE)
1,992
1,942
3%

Mutual funds sales
3,474
2,940
18%

Value of new business (post-tax)
254
529
(52%)

New business margin (post-tax)
13%
27%

PVNBP
8,700
9,675
(10%)

Net client cash flows (SEK bn)
2.7
3.5
(23%)

Funds under management (SEK bn)
116.7
107.1
9%

* The 2006 numbers are a pro forma result assuming ownership for 12 months rather than 11 months.

Strong market performance contributed to funds under management

Funds under management increased to SEK116.7 billion due to solid investment performance and continued positive net client cash flows.  Volatile equity markets during the latter part of 2007 slowed asset growth, but closing funds under management were still up 9% over 2006. 

Sales performance improving

Life sales on an APE basis exceeded the prior year by 3%. The negative sales trend experienced in the first half of 2007 was finally reversed in the third quarter and continued to improve significantly during the fourth quarter with the subsequent turnaround in market share.  The unit-linked business in Denmark also contributed to this turnaround with a strong sales performance.  The turnaround in Sweden was the result of broadening the product and fund ranges and a refocus of our sales initiatives through our tied sales force (up 47% comparing the fourth quarter of 2007 to the fourth quarter of 2006) and the broker channel (up 15% comparing the fourth quarter of 2007 to the fourth quarter of 2006).  The tied sales force performance was driven by a greater focus on unit-linked products.  From 1 February 2007 the tax advantages of the Swedish Kapitalpension product were removed following a change in regulations.  This negatively impacted sales as Kapitalpension products accounted for 10% of sales in 2006.

Margins under pressure in the short term

Life new business margin was down from an exceptional 27% in 2006 to 13% in 2007.  The decline can be attributed to a change in arrangements between Skandia AB and Skandia Liv (the Liv-Link agreement), the strengthened lapse assumptions, lowered charges (due to market competition), and a change in business mix in Sweden, particularly since Kapitalpension product tax advantages were removed. 

In the medium term, the new business margin is expected to improve to reach high teens.  This will be achieved through continued growth in sales leading to economies of scale, product development and the introduction of a new more cost-efficient IT platform and other expense led initiatives.  During 2007, investment in IT commenced with the development of the new Investment Portfolio system which enables an enhanced product offering.

Underlying IFRS AOP profit solid

IFRS AOP decreased by 19% for the year primarily due to the introduction of the Liv-Link agreement, which deals with the administration and distribution costs associated with the jointly marketed products.

EV adjusted operating profit impacted by market pressure

EV AOP is down 56% on 2006 mainly driven by a net negative effect from assumption changes and recalibration of risk margin of SEK735 million in 2007. There is strong price pressure in the Swedish market and in order to adapt to market conditions fees have been reduced for the 'tick-the-box' collective agreements and the tendered corporate business during 2007. Persistency assumptions have also been strengthened which is offset by capitalisation of future waiver of premium business profits which was previously not valued. The drop in value of new business is another driver for the lower EV AOP in 2007 compared to 2006.

Continued growth in banking business and increased focus

Both deposit and loan books at SkandiaBanken continued to increase in 2007.  The growth in loans has slowed down, but the net interest margin was maintained at prior year levels, despite stiff competition. Lending increased to SEK52.7 billion, up 20% on 2006, mainly due to good growth in Norway in both mortgage lending and car financing.  The number of customers increased 3% over 2006.  SkandiaBanken's operating profit for 2007 was SEK191 million, 31% higher than 2006. 

During 2007, SkandiaBanken started a major shift in strategic direction to a bank focused on a broader long-term savings and client offerings.  In October we announced the sale of SkandiaBanken Bilfinans, the vehicle finance business, to DnB NOR.  The total book profit expected to be realised is SEK1 billion.  The Danish banking operations were also divested in the third quarter of 2007 to strengthen profitability and to bring focus to the remaining businesses. 

Putting the business on a sound footing for the future

The focus during the year has been on improving operational efficiency and aggressive marketing activities and these are continuing in 2008. The investment programme and restructuring activities within Nordic reduced IFRS adjusted operating profit for the year by SEK81 million, however, we have strengthened the savings offering during 2007 by widening the fund range in both Skandia AB and SkandiaBanken.  The unit-linked products have been improved with several new product offerings during 2007 and further improvement is underway.  One example of the latter is the new Investment Portfolio product launched during February 2008.

Positive outlook

In future years, the Nordic savings market is likely to be affected by a number of legislative changes impacting tax neutrality between savings with and without insurance wrap, transfer rights, market competition and changes to collective pensions agreements.  However, with a full range of product offerings - traditional life, unit-linked, banking, financial advisory, mutual funds and healthcare - Skandia Nordic is well positioned in a growing savings market.

The key focus going forward is building an offering which provides both end-customers and distributors with advisory tools and top quality advice, innovative products, top-quartile returns and the market's best client service.    There are strong synergies in terms of scale, brand and cross-selling and administration.  The second half of 2007 marked a watershed for Skandia Nordic, particularly in Sweden, with renewed optimism founded on a new CEO, sales increases, product launches and much improved relations with Skandia Liv, the media and customers.

EUROPE AND LATIN AMERICA (ELAM)


Highlights (€m)
2007
Pro forma*
2006
% Change

IFRS adjusted operating profit (pre-tax)
43
42
2%

EV adjusted operating profit (covered business) (pre-tax)
48
121
(60%)

Life assurance sales (APE)
276
252
10%

Mutual fund sales
3,071
2,188
40%

Value of new business (post-tax)
54
52
4%

New business margin (post-tax)
20%
21%

PVNBP
2,139
2,062
4%

Net client cash flows (€bn)
1.8
1.7
6%

Funds under management (€bn)
13.0
10.8
20%

* The 2006 numbers are restated on a pro forma basis assuming ownership for 12 months and excludes the Skandia Vida business sold in 2007, except EV AOP, which includes Vida.

Funds under management growing significantly

Net client cash flows during the year represented 17% of opening funds under management, or 23% of opening funds under management when adjusted for the planned divestiture from the Spanish institutional business reflecting the continued growth of the business.  Market movements for ELAM were positive for the first six months of the year, but experienced a downturn in the second half of the year following market trends across the world, to end the year broadly flat.  Despite the market volatility created by the sub-prime mortgage crisis and credit crunch, as well as the closure of the Spanish institutional asset management business (resulting in a €0.6 billion reduction in net client cash flows against 2006), funds under management increased 20% from the start of the year as a result of strong inflows.

Continuing growth in life sales (APE)

2007 was generally a tougher year for sales than 2006 in the majority of the ELAM countries.  In many of the markets, unit-linked sales slowed down, recording negative net cash flows, and the tax-driven incentives which positively impacted some of the markets in 2006 were not repeated in 2007.    Life sales on an APE basis rose 10% over the prior year, with strong growth in regular premium sales in Central Europe, partially offset by lower single premium sales in Southern Europe.   Overall, we are satisfied with the progress that the business made in the ELAM territories, with increased market share evident in the majority of instances.

Mutual fund sales up strongly and margins improved

Mutual fund sales were up 40% over 2006 with strong contributions from our discretionary asset manager, Skandia Global Funds, and from Palladyne.  Our Latin American pensions business performed well, supplemented by strong institutional inflows.  Average margins on mutual fund business improved as funds placed in the low margin institutional asset management business in Spain have been replaced by funds in the higher margin discretionary asset management and long-term businesses.  This led to a significantly improved adjusted operating result for the mutual fund portion of the business.

Value of new business increasing with profit margins exceeding the target range at 20%

VNB for the year was up slightly against the prior year.  The post-tax new business margin of 20% achieved for the year exceeded the medium-term target range of 16-18%.  During 2007, we reduced our margin on key products to maintain our competitive position and we expect that pricing pressure will continue in the future.

Continued strong underlying adjusted operating profit result

IFRS AOP was in line with the 2006 result, with 2007 results constrained by incurring costs of €7 million to realise synergies.  Growth was driven by the larger in-force book of business and by healthy net client cash flows.  As a consequence, fund-based fees are up on the prior year, while premium-based fees are at approximately the same level. 

Poland has grown strongly over the last 18 months and is a significant contributor to both new sales and ELAM's overall result.  This is a reflection of the efforts put into this business over recent years, with particular emphasis on growing distribution.  In our Italian business, we have renegotiated commercial terms with key distributor groups in order to secure the business model for the future.  Colombia has performed well in very difficult market conditions, growing market share considerably, while new business sales in Mexico have increased markedly on the back of the increase in the financial planner distribution force.

EV AOP impacted by assumption changes

EV AOP has been impacted by three main items during the year. Firstly, net unfavourable assumption changes of €70 million have been recorded in 2007. As reported during the year, we reassessed the operating assumptions in Italy, in particular the surrender assumptions, following unexpected surrender experience of products exiting the surrender penalty period during the first half of the year. This review resulted in an adjustment to EV AOP of €49 million, and changes to persistency assumptions in other countries were also undertaken that contributed further to a net unfavourable impact. Secondly, there have been changes to Divisional overhead capitalisation during 2007 following the changes made to the operating structures within Skandia since the acquisition. Finally, the current year EV AOP result was positively impacted by changes to the tax rate in Germany.

Well positioned

ELAM continues to be well placed to achieve further growth, as evidenced by rising market shares in most of the countries in which we operate.  Product development and innovation remain at the heart of our offering, with close to 40 new products and product enhancements launched during the year. Early indications are that innovative major new product launches in Austria and Switzerland have been very well received in their local markets. 

LONG-TERM BUSINESS & ASSET MANAGEMENT - OLD MUTUAL SOUTH AFRICA (OMSA)


Strong recurring premium sales performance in Retail Businesses.


Highlights (Rm)
2007
Pro forma*
2006
% Change

Long-term business adjusted operating profit
3,082
3,077
-

Asset management adjusted operating profit
946
874
8%

Long-term investment return (LTIR)
2,988
1,773
69%

IFRS adjusted operating profit
7,016
5,724
23%

Return on Allocated Capital
24%
23%

EV adjusted operating profit (covered business)
4,769
5,752
(17%)

EV (covered business)
34,678
33,274
4%

Return on EV (covered business)

11.2%
13.5%

Life assurance sales (APE)
4,699
4,416
6%

Unit trust sales
15,547
14,833
5%

Value of new business (post-tax)
756
781
(3%)

APE margin (post-tax)

16%
18%

PVNBP

31,380
30,004
5%

Net client cash flows (Rbn)
(18.7)
(29.1)
36%

SA client funds under management (Rbn)
445
424
5%

OMSA net client cash flow remained a challenge for us in 2007, primarily due to net outflows from institutional clients, notably from two multi-managers, following changes of portfolio managers and concerns about short-term performance in 2006. Inflows were lower as consultants and investors adopted a 'wait and see' approach because of uncertainty over the implications of the new boutique structure on performance.  Investment performance for 2007 remained disappointing, with figures for the year showing 24% of funds outperforming benchmarks and achievement of the positions four and six in the Alexander Forbes Large Manager Watch over one and three years respectively. We deliberately took defensive positions in most portfolios in 2007 anticipating a market correction and this cost us performance for the year.

Life sales on an APE basis increased by 6% over 2006. Recurring premium sales grew strongly, up 14% on the back of an increased sales force in the Retail Mass market business as well as competitive risk product and credit life sales in the Retail Affluent market. Life Single premium sales were down 7% on 2006 primarily due to competitor margin pressure, and also, because we had a significant deal in our Symmetry multi-manager business at the end of 2006 which was non-recurring. The launch of the Absolute Return Fund and enhancements to the fixed bond rates on the lnvestment Frontiers product at mid-year helped improve sales in the second half of the year.  We continued to gain market share in the Life retail sector.

Unit trust sales were up after including sales through Marriott for the full year in 2007. Excluding Marriott, sales were down 10% on 2006 because of residual concerns over portfolio manager changes and short-term investment performance on certain core funds (Dynamic Floor and Enhanced Income funds).  The new Stable Growth Fund, was launched in July 2007 and has had good early sales.

IFRS AOP was 23% higher than in 2006. Within this result, our long-term business AOP increased marginally and the LTIR increased 69% after changes in calculation method to more appropriately recognise the value of the shareholders' fund, and the higher asset base.  The marginal increase in long-term business profit was a result of the continued switch to less capital intensive, lower margin products. Positive contributions arose from an increase in the average level of policyholders' funds under management driven by higher market levels and a significantly lower IFRS2 share-based payments charge. These were offset by an increase in the investment guarantee reserve, which resulted from the adoption of a market-consistent basis for the valuation of these reserves as well as the application of a discretionary margin.

Asset management AOP was up 8% due to higher market levels. The good returns achieved also led to a good flow of performance-related fees, and higher property profits after the first full-year contribution from Marriott Income Specialists (Marriott). However the profit growth was tempered by additional advertising costs associated with the launch of the new boutique structure in OMIGSA, a review of incentive levels for fund managers and loss of fee income as a result of the withdrawal of client funds.

We declared strong bonuses in February 2008 on many of our with-profits products, in spite of market volatility in early 2008.  This reflects the good returns these products have generated.  Our portfolios' Bonus Smoothing Accounts remain in very strong positions following these strong bonus declarations.

Embedded Value was impacted by net capital transfers to Old Mutual plc of R5.9 billion during the year.  Excluding these capital transfers, EV increased by 22% over the year and was positively impacted by market levels.  However, the EV AOP is lower than in 2006 because the prior year profit was boosted by the recalibration of the risk margin in the discount rate of R1,093 million (R711 million post-tax), while the 2007 profit is reduced by the substantial increase in the investment guarantee reserve to reflect the use of a market consistent methodology, the switch to lower margin business of certain liabilities (which has resulted in lower capital requirements and improved ROC), and the reduction of certain margins in the Corporate segment aimed at providing better value for our customers.

Retail Mass


Rm
2007
2006
% Change

Life sales (APE)

Savings
613
476
29%

Protection

477
411
16%

Total
1,090
887
23%

Life VNB
322
263
22%

Life APE margin (post-tax)
30%
30%

Net client cash flow (Rbn)
1.9
1.7
12%

Retail Mass sales were up 23% on 2006. This result reflects the continued focus on growing the sales force, which at 31 December 2007 was 11% higher than at the beginning of the year.  Excellent growth was also achieved in sales through the broker channel, which were 106% up on the prior year. There was, however, a small swing to lower margin savings business.

VNB was 22% higher than 2006, with the new business APE margin constant at 30%, the latter benefitting from improved burial society results and a lower secondary tax on companies being offset by an increase in the proportion of low margin savings business.  We responded to the shift in mix and the lower margins on savings business following the Statement of Intent, which sets minimum standards for surrender and paid-up values, by implementing changes to adviser remuneration and increasing minimum premiums for savings business. This had a negligible impact on mix, but did improve the profitability of savings business slightly.

In 2007, we continued innovating and delivering financial solutions relevant to our customers. In October we launched the Domestic Workers Fund, in collaboration with the Presidential Working Group on Women, a fund targeted at extending retirement provisioning and risk benefits for domestic workers. In November we launched Pay-When-You-Can, an innovative flexible premium funeral product for the entry level market, in Shoprite stores nationwide. In December we launched Zimele compliant funeral plans (contributing to Financial Sector Charter scores), which also address the need for affordable products for the previously untapped entry-level market.

Retail Affluent


Rm
2007
2006
% Change

Life sales (APE)

Savings
1,321
1,278
3%

Protection
1,056
897
18%

Annuity
197
193
2%

Total

2,574
2,368
9%

Life sales (APE)

Single
868
838
4%

Recurring
1,706
1,530
12%

Non-life sales*
1,821
1,949
(7%)

Life VNB
330
289
14%

Life APE margin (post-tax)
13%
12%

Net client cash flow (Rbn)
(2.7)
0.9

* Includes non-life flows in respect of OMUT, Galaxy and Linked Investment Service Provider (LISP) sales on an APE basis.

Life recurring premium sales were 11% higher than for the prior year, driven by continued good sales of risk business, leveraged from enhancements to our Greenlight risk product range (17% higher) and good credit life sales (26% higher), reflecting the extension of personal credit through Nedbank. Recurring premium Max Investment savings business (both life and non-life wrappers) performed well ending the year 17% up, with significant growth (62%) of the non-life recurring option, but from a relatively low base.

Single premium life sales were 4% up on 2006. Single premium investment sales were flat as we were challenged by perceptions about OMIGSA restructuring, key staff losses and OMIGSA investment performance in some of the flagship funds, principally our Dynamic Floor and Enhanced Income funds. These effects were offset by improved investment performance, the new Absolute Return Fund launch and enhancements to the fixed bond rates of the life product. In the last quarter there were large non-recurring inflows into the private equity fund of Investment Frontiers.  Single premium sales of the offshore investment product through Old Mutual International continued to accelerate and were 56% up over 2006.

Life VNB was 14% higher than 2006, with the new business APE margin improving from 12% to 13%. The biggest driver of the improvement was the impact of increased volumes, particularly on the recurring premium book on the absorption of initial distribution costs, both at a product level and in the distribution channels.

Bancassurance sales through Nedbank continued to grow and were up 16% over 2006. The launch of a new, low cost, simple savings product through Nedbank branches was very well received. Credit life sales slowed following the introduction of the National Credit Act, but were offset by the new savings and risk product flows.

Corporate Segment


Rm
2007
2006
% Change

Life sales (APE)

Savings
597
629
(5%)

Protection
145
99
46%

Annuity
111
193
(42%)

Healthcare
183
239
(23%)

Total

1,036
1,160
(11%)

Life sales (APE)

Single
644
788
(18%)

Recurring
392
372
5%

Non-life sales*
755
1,678
(55%)

Life VNB
104
229
(55%)

APE margin (post-tax)
10%
20%

Net client cash flow (Rbn) **
(17.9)
(31.7)
44%

* Includes non-life flows in respect of OMIGSA and Old Mutual Properties on an APE basis.
** Includes NCCF for OMIGSA.

Net client cash flows in the Corporate market, although still strongly negative, were less severe than in 2006, and Employee Benefits net client cash flow was significantly better than 2006.  Termination experience, in particular, was very good and the impacts of the launch of the Absolute Growth Portfolios, as well as strong bonuses, were factors in this regard.  Net client cash flows in OMIGSA were adversely affected by withdrawals following the loss of two key portfolio managers, clients switching from core and balanced mandates and residual concerns about short-term performance in 2006.

Total Corporate sales were lower than 2006, driven by lower sales of Symmetry (who had a very large deal in 2006), Annuities and Healthcare. There was a strong performance in the second half of 2007 in the Guaranteed Products where the launch of the Absolute Growth Portfolios was successful and has started to attract good new sales.  Risk sales were also strong in 2007 compared to the prior year.  Although Annuity sales were lower than 2006, the pipeline for 2008 is strong and business was secured at the end of 2007 which should flow through to 2008. 

Healthcare sales are below last year due to a shrinking market, with government employees moving to GEMS, and a somewhat reduced focus on Oxygen within the distribution channels. Appointments have been made to drive the distribution of Healthcare more effectively, especially in the Retail distribution channels.

The decrease in new business margins and VNB relative to 2006 is mainly a result of a reduction in the Platinum Pensions 2003 capital charge which was done so as to offer better value to customers and drive future sales, as well as lower volumes of high margin annuity business towards smoothed bonus products.  Lower sales volume in Symmetry and Healthcare also contributed.  This has had a knock-on impact reducing the overall life new business margin. 

Old Mutual Investment Group South Africa (OMIGSA)


Sources of FUM (Rbn)
2007
2006
% Change

Life

319
283
13%

Unit trusts
48
40
20%

Third party
88
95
(7%)

Total OMIGSA managed assets
455
418
9%

Managed by external fund managers

34
30
13%

Total OMSA FUM
489
448
9%

Less: managed by group companies for OMSA
(44)
(24)
(83%)

Total OMSA client funds managed in SA
445
424
5%

The implementation of the boutique structure in OMIGSA has been a key feature for 2007. We continue to focus on stabilising the structure and increasing investors' confidence in individual boutique investment philosophies.

Non-life sales (OMIGSA) are significantly lower than prior year as a result of the non-repetition of two very large deals in the first half of 2006 (R11.1 billion), and the smaller pipeline at the start of 2007.  The investor and consultant concerns relating to OMIGSA's restructuring into a multi-boutique business and some areas of investment performance have also contributed to low sales.  These, however, have started to improve.

2007 ended on a highly volatile note as the unravelling global sub-prime crisis dented investor confidence and global financial markets. Against this uncertain backdrop, the investment performance across our different boutiques was satisfactory.  Although the three year performance slipped as poorer short-term equity performance fed through to the longer term performance numbers, we had anticipated a market correction and generally the portfolios were defensively positioned. Overall, just over half of the funds outperformed their benchmarks over one and three years respectively to the end of December. For the peer cognisant institutional funds, 45% and 9% of mandates were above the industry median over one and three years respectively. More than half of institutional mandates outperformed their benchmarks over these same periods. The Macro Strategy Investments boutique's Profile Balanced Fund was ranked fourth over one year, sixth over three years and third over five years ending 31 December 2007 in the Alexander Forbes Global Large Manager Watch survey.

In 2007, half of the key unit trust funds, representing 69% of unit trust assets, were first and second quartile performers over one year, 69% were first and second quartile over three years and 64% over five years to the end of December 2007.

The boutiques with the most notable performance for the three years ending 2007 were the Absolute Return, Macro Strategy Investments, Fixed Income and Select Equity boutiques, with 100%, 99%, 95% and 76% respectively of their funds under management beating their benchmarks.

During the year, Marriott Income Specialists' launched the Marriott International Income Growth Fund, OMIGSA Property launched Triangle, an industry defining direct property fund, Umbono Fund Managers launched the RAFI 40 Index Fund and OMUT launched their Stable Growth Funds.

Outlook

The long-term outlook for savings and wealth management in South Africa remains positive, with the following points as key contributors:

In the short term, a slow down in growth rates of both the economy and disposable incomes is expected as monetary policy is tightened to contain inflationary pressures and as global economic growth slows. Increased competition is expected for the flows into the market, and also for existing assets, especially for retirement annuities that have been transferable between funds from October 2007. In this environment, distribution, superior investment performance and coverage of all asset classes will be crucial for success. Old Mutual is well placed to compete in this environment, with our investment boutiques continuing to grow and the coverage of asset classes increasing, and we have the ability to leverage our large distribution network to deliver financial solutions to our advantage.

We also see great short term opportunities of growth of insurance products in the lower to middle income market where product penetration is low. Old Mutual has strong market leadership through our Retail Mass Market business to benefit from these opportunities.

BANKING - NEDBANK GROUP (NEDBANK)


2007 financial targets achieved


Highlights (Rm)
2007
2006
% Change

IFRS adjusted operating profit
9,220
6,973
32%

Headline earnings*
5,921
4,435
34%

Net interest income*
14,146
10,963
29%

Non-interest revenue*
10,445
9,468
10%

Net interest margin*
3.94%
3.94%

Cost to income ratio*
54.9%
58.2%

ROE*
21.4%
18.6%

ROE* (excluding goodwill)
24.8%
22.1%

* As reported by Nedbank

We are pleased with the balance we have achieved between delivering on our short-term performance targets and investing to build a platform for long-term growth. Although the financial performance is now benchmarking closer to that of Nedbank's peers, we aspire to improve further.

Headline earnings increased by 34% to R5,921 million. Basic earnings grew by 33% to R6,025 million.

Headline earnings per share (EPS) increased by 34% to 1,485 cents (2006: 1,110 cents). Diluted headline EPS increased by 33% from 1,076 cents to 1,429 cents. Basic EPS grew by 33% from 1,135 cents in 2006 to 1,511 cents in 2007.

Nedbank's return on average ordinary shareholders' equity (ROE) improved from 18.6% to 21.4% for the year, exceeding the target of 20% that was set in 2004 at the start of our recovery programme. ROE, excluding goodwill, improved from 22.1% to 24.8%.

Net interest income (NII)

NII grew 29% to R14,146 million (2006: R10,963 million) due to strong growth in average interest-earning banking assets of 29%.

Nedbank's net interest margin for the year was 3.94%, unchanged from 2006. The margin benefitted from the endowment impact of interest rate increases on capital and current and savings accounts of 0.4%, and decreased from liability margin compression of 0.1% as deposit interest rates continued to price in upside risk and as the sector had to source a higher proportion of funding from the wholesale deposit market. In addition, the NII margin decreased from asset margin compression of 0.3% mainly from the impact of strategic changes in the product mix of personal loans and competitive pricing behaviour particularly in home loans and commercial mortgages.

Impairments charge on loans and advances

The credit loss ratio increased from 0.52% in 2006 to 0.62% in 2007. The growth in advances and the increase in the credit loss ratio are reflected in a 46% increase in the impairments charge to R2,164 million. Impairment levels have risen in Nedbank Retail and Imperial Bank, while the credit loss ratios in Nedbank Capital and Nedbank Corporate have remained at lower than expected levels, assisted by active credit management and unusually high levels of recoveries. The effect of the deteriorating retail environment has been mitigated to some extent through tighter credit policies and an early focus on collection processes and systems. Nedbank has continued to apply stringent credit management policies and has tightened credit granting requirements in the retail areas most affected by the worsening credit cycle over the last two years.

Nedbank has no direct exposure to US sub-prime mortgages. The Group is indirectly exposed in that it does have some banking relationships with institutions with sub-prime exposure. These are relatively small and are not currently expected to lead to any losses in the Nedbank group.

Nedbank Retail raised an additional Incurred But Not Reported (IBNR) provision of R167 million in December 2007 to anticipate the effect of the current higher interest rates not yet evident in the historic data used for provisioning calculations.

Non-interest revenue (NIR)

NIR for the year increased by 10% to R10,445 million.

This growth in NIR was driven primarily by commission and fee income growth of 15% and an increase in private equity revaluations, realisations and dividend income.

This growth was partially offset by weak trading results as reported in the first half, mainly due to poor trading within the business alliance with Macquarie, the competitive pricing structure for transactional products adopted in Nedbank Retail, where fees have been reduced by an average of 19% since mid-2006, and a continuing move from cheques to electronic channels by business banking clients.

Expenses

Expenses continue to be tightly managed increasing by 14% to R13,489 million. The 'jaws' ratio continued to improve throughout the year, with total revenue growth of 20% being 6% above expense growth of 14%, resulting in the efficiency ratio improving from 58.2% for 2006 to 54.9%.

Growth in operating expenses slowed, as anticipated, while staff expenses increased reflecting the investment Nedbank has made in client-facing staff and an increase in variable pay as a result of the continued improvement in operating performance. Marketing costs increased as planned as Nedbank continued to invest in repositioning the Nedbank brand.

Expenses included the costs for the integration of Old Mutual Bank into Nedbank, Bond Choice's expenses and the IFRS2 charge in respect of the group's BEE transaction.

Advances and Deposits

During 2007, advances grew 21% to R374 billion, with average interest-earning banking assets increasing by 29% to R359 billion.

As a result of the strong advances growth, total assets increased 15% to R489 billion. Growth in higher-risk areas, such as personal loans, slowed as the group tightened credit criteria and focused on higher-quality, lower-margin personal loans. Deposits increased by 18% from December 2006 to R385 billion at December 2007.

Nedbank's liquidity remains sound in an overall liquidity environment that was made more challenging by the negative international liquidity developments.  Contagion of South African markets has been limited, with little direct exposure by local banks to the US sub-prime markets. The primary impact has been limited to a reduction in international liquidity, which has traditionally not been a large portion of the funding base, and an increase in the cost of capital market debt. This has had a small negative impact on the cost of rolling over conduit paper and new subordinated-debt issues.

During 2007 Nedbank successfully launched its inaugural auto loans and residential mortgage-backed securitisation programmes, raising R1.7 billion and R1.87 billion respectively. These programmes have diversified the funding base and added tenor to the bank's existing funding profile. In addition, Nedbank issued a further foreign syndicated loan of $500 million in February 2007, raising additional foreign funding and creating further funding diversification.

Risk and capital management

Nedbank has successfully implemented its Basel II blueprint.  This is in line with the revisions to the Banks Act and the new internationally based Basel II banking regulations introduced by the South African Reserve Bank (SARB), which were effective from 1 January 2008.  The main purpose of Basel II is to promote significant enhancement and sophistication of risk and capital measurement and management, thereby further elevating the safety and soundness of the banking industry.

Nedbank has received formal approval from the SARB for the Advanced Internal Ratings Based (AIRB) approach for credit risk for its principle operations in SA, while Imperial Bank and the African subsidiaries have adopted the standardised approach.  Nedbank's risk and capital management capabilities allow it to optimise the risk/return trade-offs equation and grow the businesses profitably within a clearly established risk appetite.

During the year Nedbank continued to actively manage its capital:

Certain hybrid capital instruments now qualify as Tier 1 regulatory capital under Basel II and Nedbank is well-advanced in planning its inaugural hybrid Tier 1 issue.

Nedbank Group, Nedbank Limited and Imperial Bank Limited all received rating upgrades from Moody's and Fitch during 2007.  This was very pleasing and recognises the successful turnaround of Nedbank over the past few years.

Nedbank expects to issue further Tier 2 capital and hybrid forms of Tier 1 capital in 2008.  Nedbank is committed to improving its profile as an issuer in the debt capital markets and this should result in a more robust subordinated-debt yield curve.

Prospects

The slowdown in consumer spending, the increase in consumer credit stress, continuing electricity shortages and sustained dislocation in credit and equity markets are likely to make the year ahead significantly more challenging for the South African economy and the banking sector. The key factors influencing performance in 2008 are:

While the general banking environment will be much tougher than in previous years, Nedbank is confident of continuing to improve its performance off the solid platform built over the past four years. Nedbank's focus is now on working towards its vision of becoming southern Africa's most highly rated and respected bank.  

The main focus areas for Nedbank in 2008 include building on its transformation journey, and growing our retail distribution network, transactional banking market share, relevance in the public sector, business banking franchise and mass-market strategy.

In addition, Nedbank is focussed on being involved in social and community projects, managing the credit cycle, disciplined expense management, ongoing capital management activities, with an active process of continuous improvement in all operations and applying economic-value-based management. From 2008 economic profit (EP) replaces ROE as the primary internal financial performance measure in the group. EP is a best-practice measure since it incentivises an appropriate balance between return and growth, and better aligns with shareholder value creation.

Medium- to long-term financial targets

After successfully delivering on the short-term financial targets of a 20% ROE and 55% efficiency ratio in 2007, Nedbank set the following key medium- to long-term external targets:

In the medium term Nedbank targets to meet or exceed the comparable performance of its peers.

GENERAL INSURANCE - MUTUAL & FEDERAL


Solid performance in a challenging year


Highlights (Rm)
2007
2006
% Change

IFRS adjusted operating profit
1,256
1,039
21%

Gross premiums*
9,323
8,549
9%

Earned premiums*
7,948
7,458
7%

Claims ratio*
66%
63%

Combined ratio*
95.4%
93.9%

Solvency ratio*
42%
49%

Return on capital* (3 year average)
31.7%
27.5%

* As reported by Mutual & Federal

Mutual & Federal maintained solid results in the context of a highly competitive trading environment and a gradual decline in the underwriting cycle following the record results achieved in 2004 and 2005.

The underwriting result for the year was adversely impacted by an increase in the severity and frequency of large claims, particularly industrial fires.  Severe weather conditions experienced in South Africa also negatively impacted the results.  In addition, despite strong rating adjustments and underwriting interventions, results in the motor account continued to be negatively impacted by an increase in claims emanating from high levels of accidents on South African roads.

Gross premiums

Gross premiums in Risk Finance grew by only 2%, but the Personal and Commercial portfolios grew 9% and 13% respectively, giving an overall increase of 9% against the prior year. This was achieved despite the cancellation of certain uneconomical blocks of business within the Personal division. Mutual & Federal does not accept risks at sub-economic rates and has diligently followed prudent underwriting practices.

Combined ratio weakens

Mutual & Federal generated an underwriting surplus of R366 million (2006: R455 million), or a ratio of 4.6% to earned premiums (2006: 6.1%), which is above our long-term objective of 4%. The estimation methods used in providing for claims and other technical liabilities were further refined and this released R96 million (2006: R215 million) into the underwriting result. If these adjustments are excluded, the underwriting result improved over the previous year by R52 million.

The trading environment remains conducive to producing an improved underwriting profit in 2008 with signs of a hardening of rates in certain sectors.  Recent electricity load shedding has created substantial inconvenience to Mutual & Federal, but it is unlikely to impact the underwriting account significantly.

Solvency ratio

The solvency ratio has decreased from 49% to 42% following the payment of a special dividend of R2 per share in December 2007.

Strong growth in adjusted operating profit and return on capital exceeding target

The adjusted operating profit includes R262 million arising from a change in the long-term investment return rate from 11.1% to 15.6%. This, together with the special dividend of R8 per share paid in 2006, and R2 per share in 2007 has contributed to the increase in the return on capital from 27.5% in 2006 to 31.7% in 2007. This is well ahead of our targeted return of 20%.

Sale discussions continue

Old Mutual announced in November 2007 that it had entered discussions with community-based investment group, Royal Bafokeng Holdings, regarding a potential sale of its controlling interest in Mutual & Federal. The discussions are continuing, and a further announcement will be made in due course.

US LIFE


Continuing strong international variable annuity sales add to diversity of earnings


Highlights ($m)
2007
2006
% Change

IFRS adjusted operating profit (pre-tax)
195
230
(15%)

Return on equity
5.9%
7.3%*

EV adjusted operating profit (pre-tax)
126
181
(30%)

Return on Embedded Value
3.8%
6.1%

Life assurance sales (APE)
671
455**
47%

Value of new business (post-tax)
144
83
73%

New business margin (post-tax)
21%
18%**

PVNBP

6,305
4,093**
54%

Funds under management ($bn)
24.1
22.1
9%

* Restated due to change in ROE methodology.
** Restated due to change in US Life APE calculation to align with the volume of new business calculation.

Growth in funds under management

Funds under management of $24.1 billion at year end were up 9% due to positive net client cash flows of $2.4 billion, primarily driven by strong Old Mutual Bermuda variable annuity sales partially offset by increased surrenders on the Multi-Year Guaranteed Annuity block of business and a 1% decrease in fair value of invested assets.

The business returned cash in 2007, while exceeding targeted risk-based capital ratios in the operating entities including OM Financial Life Insurance Company and Old Mutual Bermuda.

Excellent sales growth in international variable annuity business

Total life sales were $6.1 billion on a gross basis, up 58% over 2006.  Total life sales APE were $671 million, a 47% increase over 2006.  Sales by Old Mutual Bermuda were the largest contributor to the increase over the prior year.

Old Mutual Bermuda increased sales on an APE basis by 201% to $360 million compared to 2006, representing 54% of APE sales in the US Life business.  The increase in sales was due to a new product launch in April 2007 and new distribution agreements in Asia.  Bermuda now represents 25% of the total funds under management.  Universal Life sales were up over the comparative period by 28% as part of a shift from a term life focused distribution to a more balanced life portfolio.  Continued demand for fixed indexed annuities was also a contributing factor.  We have an attractive and diverse mix of product offerings including variable annuities, fixed indexed annuities, term life and universal life.

Value of new business and healthy margins driven by strong offshore variable annuity sales

VNB for the year of $144 million was up 73% due to the higher volume of Bermuda variable annuity business.  The new business margin of 21% was at the high end of our longer-term expectations primarily driven by Bermuda variable annuity business. The overall business continues to benefit from good investment performance and enhanced distribution.  Our coordinated retail distribution strategy has made good progress.

Underlying results solid

IFRS and EV adjusted operating profit and returns decreased in 2007 compared to 2006.  This was due to assumption and modelling changes recorded during 2007 and non-recurring net investment income in the first half of 2006 of $18 million.  As indicated at our interim results, we strengthened our annuitant mortality assumptions and adopted a more conservative approach to future assumed spreads. These changes resulted in a $277 million ($186 million post-tax) adjustment to Embedded Value (of which $195 million ($131 million post-tax) is in respect of annuitant mortality assumptions which are included within EV adjusted operating profit) and a $60 million adjustment to pre-tax IFRS adjusted operating profits.  Excluding these impacts, IFRS adjusted operating profit was up 20%, driven by higher average asset levels.

Credit update

3% of US Life's fixed income portfolio of $21 billion has direct exposure to sub-prime debt and this helped US Life weather the market turbulence during the second half of 2007.  The sub-prime exposure is highly rated (86% is AAA, 99% is AA and higher, and 100% is A and higher), concentrated in first mortgages without rate-reset risk, and owner-occupied, rather than investor properties.

Approximately 2.3% of US Life's investment portfolio has exposure to monoline insurers, of which $493 million (85% of the total exposure) is indirect (wrapped) exposure, with a 95% fair value-to-book value ratio, and $90 million is direct (unsecured) exposure, with a 87% fair value-to-book value ratio.  Of the 15% that represents the unsecured exposure, most are being recapitalised, or have sufficient funds to go into run-off mode, if necessary.

US Life was not fully immune to the unfavourable credit conditions and recorded $64 million of impairment provisions during the fourth quarter.  For IFRS adjusted operating profit, the impairment provision did not impact the long-term investment return in 2007.

The investment portfolio's aggregate credit experience remained within expectations and is in line with long-term assumptions.

US ASSET MANAGEMENT


Another year of strong investment performance and asset growth


Highlights ($m)
2007
2006 *
% Change

IFRS adjusted operating profit
324
259
25%

Mutual fund / unit trust sales
3,782
3,088
22%

Net client cash flows ($bn)
35.2
31.0
14%

Operating margin

27%
27%

Funds under management ($bn)
332.6
272.6
22%

* 2006 comparative information has been restated to include OMAM (UK) (transferred from the Skandia UK segment to the US asset management segment), and to exclude fund flows related to eSecLending, which was sold in 2006.

Investment performance drives growth in funds under management

Strong investment performance at our affiliates continued to attract new funds during a volatile year in global equity markets.  At 31 December 2007, 83% of assets had outperformed their benchmarks and 83% were ranked above the median of their peer group over the trailing three year period.  A pleasing $35.2 billion of net client cash flows, 13% of opening funds under management, were up 14% on 2006 with Rogge, Acadian, Barrow Hanley and Dwight the largest contributors.  Market appreciation of $22 billion and the acquisition of $3 billion in assets at Ashfield Capital Partners contributed to an overall increase in funds under management of 22% to $332.6 billion at 31 December 2007.

Retail sales growth continues

Old Mutual Capital's gross mutual fund sales increased 3% from 2006 to $1,408 million despite the impact of volatile markets during the second half of the year.  At year end, fourteen of Old Mutual Capital's mutual funds carried four or five star rankings by Morningstar.  OMAM (UK) unit trust sales increased 38% over 2006 to $2,374 million, benefiting from investments made during 2006 to enhance the product offering and distribution capabilities of the business. 

IFRS adjusted operating profit increases 25%

AOP for the year was up 25% compared to the prior year, primarily as a result of increased funds under management and higher performance fees.  The operating margin remained in line with the prior year, dampened during 2007 by expenses associated with long-term equity plan implementations.  The loss of margin is offset, however, by above average net client cash flows.  Aligning the interests of our affiliates and shareholders through equity plans is critical to setting us apart in this regard.

ASIA PACIFIC


Highlights (£m)
2007
2006
% Change

Australia unit trust / mutual funds sales
604
560*
8%

Australia institutional sales
115
-
n/a

Skandia:BSAM (China) Gross Premiums **
122
38
221%

Advisors selling Skandia: BSAM products
2,477
799
210%

KMOM (India) Gross Premiums **
163
108
51%

KMOM branches
106
65
63%

* Skandia businesses included in the  2006 numbers have been adjusted on a pro forma basis assuming ownership for 12 months rather than 11 months.
** This represents 100% of the businesses; OM owns 50% of Skandia:BSAM and 26% of KMOM.

In January we announced the appointment of Steffen Gilbert as Regional Head of Asia Pacific and we announced the establishment of our Asia Pacific headquarters, based in Hong Kong.  This will form the base from which we intend to expand our existing operations throughout the region.

Australia

Operations in Skandia Group Australia include retail mutual funds and institutional investment funds. After breaking even for the first time in 2006, the business generated an operating profit of AUD7.8 million (£3.3 million) in 2007.  At 31 December 2007, funds under management were AUD14.5 billion (£6.4 billion), up 2% from AUD14.2 billion (£5.7 billion) at 31 December 2006.  This was made up of institutional funds of AUD8.7 billion and retail funds of AUD5.8 billion.  Integration of the institutional business, acquired in late 2006, is now complete and on track to generate the expected cost savings.  The 2007 John West Platform awards in Australia named Australian Skandia Limited as the rising star for having above average platform funds under management growth.

China

Skandia:BSAM, our 50:50 joint venture with the Beijing State-owned Asset Management Company (BSAM), is now in its third full year of operation and continues to show strong sales growth (gross premiums for the year were over three times the comparative prior year).  The business sells unit-linked products and has licences to operate in Beijing, Shanghai, Jiangsu Province and Guangdong Province.  Despite its recent entry into the market, of the 24 foreign owned joint venture insurance companies in China, Skandia:BSAM had, for 2007, the eighth largest gross premium flows (up two places compared to 2006).  Our unit-linked product range was granted 'the most welcome financial product' award at the Shanghai Financial Expo 2007. New business margins are just over 25% which is higher than our long-term expectations.

India

Kotak Mahindra Old Mutual Life Insurance Ltd (KMOM), our joint venture with the Kotak Mahindra Group, in which we have a 26% stake, continues to show steady progress.  The business now operates in 74 cities and 106 branches across India.  Gross premiums for the calendar year were £163 million, up 51% from £108 million for the comparative period.  In September we agreed to boost the venture with a capital injection of INR1.5 billion (approximately £19 million) in order for the business to extend its office network and increase its workforce. New business margins are healthy and are consistent with those of listed competitors in the country.

Outlook

Our key Asia Pacific objective is to develop a credible operation in terms of both size and profitability. As well as building and widening our presence in existing markets, we will develop opportunities for geographic expansion. 

We will continue to provide working capital to our Indian and Chinese joint ventures to support their further expansion and expect our Australian business to continue to grow profit