Annual Financial Report 2009

RNS Number : 5822J

Old Mutual PLC

01 April 2010

 



Ref 18/10 (Part 2)

GROUP CHIEF EXECUTIVE'S STATEMENT

Review of Operations

Introduction

Our operating results for 2009 are ahead of the previous year despite the highly volatile markets over the period. This is largely due to the improvement in market conditions during the second half, which resulted in greater demand for equity-based products from our clients and our drive to improve business performance, including the aggressive expense management programme completed in the US. We had especially good sales growth during the fourth quarter, the strongest quarterly sales performance for the LTS business for at least two years.

During 2009 our priority was to address the issues facing the Group, exacerbated by the global financial crisis. The turnaround in US Life is complete, the business in Bermuda is in run-off, we have built a strong capital and liquidity base and implemented strong central governance and controls. Despite previously announced expectations, we did not need to make any further capital injection in US Life in the early part of this year and do not anticipate any capital injection will be required during 2010. 

We have made good progress in the process of simplifying our portfolio of businesses and improving operational performance, with a particular focus on our long-term savings, protection and investment businesses. These represent the heart of the Group and building them is central to our future strategy, which is set out in my Strategy Update below. We are confident that by leveraging our core capabilities and applying them consistently across the Group we will deliver sustainable long-term value for all our stakeholders.

One of the strategic priorities announced in March last year was to strengthen and maintain our capital and liquidity position. I am pleased to report that we now have good balance sheet stability, as demonstrated by an increase in our FGD surplus to £1.5 billion as at 31 December 2009, from £0.7 billion at the end of 2008, and total liquidity of £1.2 billion. With the Group now in good financial health, we are able to turn our attention to the future.

Long-Term Savings (LTS)

Our LTS division delivered strong results for the year with operating profits up 52% from 2008, largely driven by the turnaround in US Life. Sales were down just 6% for the year and were up 5% in the second half compared to the same period in 2008. Margins improved, and net client cash flows and funds under management grew considerably during the year.

Two further strategic priorities that were announced in March last year were to leverage scale in our Long-Term Savings businesses and to streamline our portfolio of businesses. During the year we integrated our Long-Term Savings businesses into a single division under Paul Hanratty, Chief Executive Officer of LTS. The division was restructured around geographic and customer-related market segments, with a focus on identifying where we could extract costs and generate profitable organic growth through enhancing the customer value proposition.

We sold a number of businesses and exited a number of markets where we lacked scale and where the cost of building scale would not deliver sufficient returns, including Australia, Portugal, Hungary, the Czech Republic and Chile. We also sold Bankhall in the UK and closed our Asia Pacific regional office and our ELAM head office as part of the restructuring.

LTS: Emerging Markets

In South Africa, we have shown good resilience with strong profitability and a continuing high return on equity in very difficult economic conditions. Like-for-like sales on an APE basis were up marginally compared to the prior year. We continued to invest in our distribution capability and, as a result, we grew market share in our core product ranges and are well positioned to benefit from the recovery in consumer confidence.

In Latin America, profits were up 133% in very difficult market conditions and we have developed a new retail mass product in Mexico which will be launched this year. In India, sales were down by 19%, which was better than the industry average and in China, sales were up 19%. Drawing on our South African expertise, we are developing several new products which we believe are highly suitable for these markets, some of which we have already begun selling in India.

Despite South Africa emerging from recession in the third quarter, consumer confidence remains low. However, the outlook for the Long-Term Savings, protection and investment environment is positive given South Africa's low dependence on credit, prudent economic policies, growing emerging black middle class and affluent markets, and improving regulatory frameworks and transparency of financial products. During 2010 we will continue our transition from a traditional life insurer to a modern savings, protection and investment business, while focusing on growing distribution, improving investment performance and service levels, and reducing cost.

LTS: Nordic

Life APE sales were up 8% on 2008 as our retail market continued to demonstrate resilience to the adverse economic environment, partly buoyed by increased direct sales of certain products through Skandiabanken. The recession did have an adverse impact on occupational pension sales in the corporate sector although we saw lower outflows from maturities and surrenders. Mutual fund sales were strong, up 47% on 2008 in line with wider market trends.

All of this contributed to very strong positive net client cash flows representing 13% of opening funds under management. Along with the improvement in equity markets, this helped to boost overall funds under management by 38% to a record level from the position at the end of 2008. Skandia Link in Sweden generated excellent investment returns during 2009 as customers' risk appetite improved, as demonstrated by their increased weighting in equities. Our relationship with Skandia Liv is improving, although normalising the corporate and economic linkages will take time to come to fruition.

We are focused on protecting our improving margins through continued expense management, further growth in sales and new product development, including products designed for direct distribution. We are increasingly focused on our customers' needs and business profitability, while our strong brand, broad product mix and good market position give us excellent competitive advantage. Although the financial markets continue to be volatile, the outlook for the Nordic markets is favourable.

LTS: Retail Europe

The difficult economic environment had a much more marked impact in our Retail Europe countries. Unit-linked markets were considerably weaker as demand for guarantee products increased, resulting in lower than anticipated new business in the second half. Life APE sales were down 34% compared to the prior year, and IFRS profit was adversely affected by a substantial one-off charge in respect of policyholder profit sharing agreement with the regulatory authorities in Germany between 2005 and 2007. The performance of the business improved dramatically in the fourth quarter, with sales up 57% compared to the previous three months, driven particularly by the German and Polish markets.

Overall net client cash flows for the year remained strong compared to 2008, remaining flat against 2008 levels and representing 15% of opening funds under management, driven by improved surrender experience. Funds under management were up 27% on the 2008 year-end position, supported by our asset mix and improved client investment appetite during the second half.

After the change in structure in LTS, we focused on laying the foundations for business improvement and growth. We are developing single-premium products in line with growing customer demand and through improved distribution of regular-premium products have good prospects for over two-thirds of anticipated sales for 2010. With further product expansion out of South Africa, from which lower cost administration will also be provided for the business, we will now seek to grow market share and sustainable profitability.

LTS: Wealth Management

Again, the volatile markets during 2009 had a considerable impact on customer confidence, although sentiment improved in the second half which helped to grow sales, net client cash inflows and assets under management. Despite the tough first half, net client cash inflows for the year were up 25% and funds under management were up 21% as at 31 December 2009.

In the UK, the transition to our platform-enabled model was evidenced by the 22% increase in non-covered mutual fund business over 2008 versus a 6% decline in covered business, as clients' investment preferences shifted from more traditional life products into mutual funds. On the back of our strong distributor relationships, APE sales in Italy increased significantly as we grew our share of the unit-linked market from 4% to 12%, while in France sales remained steady with good growth in the fourth quarter. Total Wealth Management APE sales for the fourth quarter increased 38% over the previous quarter.

We remain the leading UK platform provider with a market share of 33% of total assets as at the end of 2009. We have launched a significant operational efficiency drive as well as seeking to enhance our new product offerings using the skill base in South Africa, where we develop our own technology. This is a distinct advantage over our competitors and when marketing to new customers. We are well positioned to capture the strong anticipated inflows as a result of increased customer demand for low cost and transparent products, and as they look to exit maturing traditional products such as with-profits bonds and endowments.

LTS: US Life

2009 was a transformation year for US Life. Having reduced the product profile, scaled back distribution and reduced the overhead base by 33%, the business returned to profitability on an AOP basis. As planned, Life APE sales were down 57% but despite this decrease in sales volume, we maintained strong relationships with the top-tier producing agents through whom we are now selling more profitable, capital light products. Margins for the year were strong at 20%.

The business did not need additional capital from the Group in the early part of this year and we believe we will not need to inject any further capital during 2010. The business is now self-sustaining and is well positioned to deliver improved returns during 2010 on higher sales levels and a lower cost base, with new FIA and Universal Life products due to be introduced in the second quarter.

Bermuda

Our Bermuda business is now closed to new business, is in run-off and is treated as non-core. During 2009 the focus has been on de-risking, maintaining a stable operating environment, reducing costs, and managing capital and liquidity. We have continued to improve our understanding of the liabilities, with all positions monitored and marked to market on a daily basis. Most guarantees remain 'in the money' and the level of redemptions has remained low. However, if markets continue to rise and the value of customers' contracts move above the guarantee level, we anticipate a pronounced increase in the level of redemptions, which will accelerate the run-off.

Nedbank

The South African banking industry experienced an exceptionally tough and volatile year in 2009. Demand for credit grew at historically low rates and retail impairments increased dramatically as consumers came under severe pressure from falling income, job losses, declining asset prices and record high debt burdens. Despite the negative economic trends, underlying trading conditions showed early signs of improvement from the third quarter, when South Africa emerged from recession.

Nedbank's net interest income grew 0.8% to R16.3 billion and non-interest revenue, including the consolidation of the Bancassurance & Wealth joint ventures, grew by 11% to R11.9 billion. However, in line with expectations and with the other South African banks, earnings were impacted by rising bad debts. Although Nedbank's credit loss ratio declined to 1.47% for 2009, its liquidity position remains sound and its capital ratios remain above target levels. The Tier 1 capital adequacy ratio improved from 9.6% at the end of 2008 to 11.5% at the year-end, and the total capital adequacy ratio increased from 12.4% to 14.9%.

The rebound in the South African economy is likely to be slower than in previous cycles given weak consumer and business confidence and tighter lending criteria. However, retail trading conditions are expected to improve and interest rates are likely to remain steady at current levels, leading to lower impairments. The strength of Nedbank's balance sheet positions it well to capitalise on growth opportunities and to benefit from the expected turnaround in economic conditions.

US Asset Management

Although market conditions in 2009 were challenging, we took a number of actions to drive more profitable growth in this business. We have reorganised our central distribution structure, and strengthened our shared services offer to our affiliates and key aspects of our successful multi-boutique model. We reduced operating expenses by 22% and carried out a reorganisation of Old Mutual Capital, our retail mutual fund business, which will deliver $15 million to $20 million of annual expense savings from 2010.

Our track record of investment performance has positioned us well relative to competitors, and our diversified asset mix between equities, fixed income and alternatives helped us weather market volatility. While net client cash flows were down, they were broadly in line with the average of our peer group for the year. This partially offset a 16% rise in asset values resulting in funds under management for the year increasing by 9% to $261 billion.

Non-US clients already represent 25% of total funds under management as at the end of the period, and a key objective is to grow and diversify by expanding our international distribution capability. Prior to the recent market turmoil, clients were migrating asset allocation decisions toward international, global and alternative strategies. We believe these trends will continue in 2010, and our track record of investment performance and global business focus positions us well to capture these asset flows. Churn of underperforming managers in traditional domestic equity and fixed income mandates will also present opportunities to win new mandates.

Dividend

The Board has carefully considered the position in respect of a final ordinary dividend for 2009, and is recommending the payment of a final 2009 dividend of 1.5p per share (or its equivalent in other currencies).

The Board intends to pursue a dividend policy consistent with our strategy, and having regard to overall capital requirements, liquidity and profitability, and targeting dividend cover of at least 2.5 times IFRS AOP earnings over time.

Strategy Update

During 2009 our priority was to stabilise the business by addressing the issues in US Life and Bermuda and restoring the capital and liquidity positions of the Group, whilst at the same time implementing more effective governance and controls. With substantial improvements in place, we also started the process of simplifying our portfolio of businesses and improving our operational performance, while further examining the Group to determine its optimal future shape. We now have a clear strategy to build a cohesive long-term savings, protection and investment group by leveraging the strength of our capabilities in South Africa and around the world.

The strategy is designed to focus, drive and optimise our businesses to enhance value for both our customers and shareholders. It will increase our international cash earnings and overall return on equity. It will result in a rationalisation of our activities over time, reducing substantially the complexity of the Group, and optimise our structure as we manage our businesses with a disciplined approach to risk management, governance and allocation of capital.

We will reduce our exposure to the US by exploring the disposal of US Life. We anticipate the listing of a minority shareholding in US Asset Management. We will continue to sell or exit markets where we do not have scale, have no prospect of achieving satisfactory returns or where the operations are outside of our risk tolerance. We expect the proceeds from this rationalisation and from retained earnings will be used to reduce debt by at least £1.5 billion and improve the quality of the Group's balance sheet.

We will retain businesses which meet our capital and risk requirements, can achieve a 15% return on equity, add value to other parts of the Group, have scope for sustainable future growth and are capable of creating future shareholder value. We will be ruthless in our application of these criteria and our businesses will be subject to continual review. By leveraging our core capabilities and maximising available synergies, we will deliver a good blend of profit growth, improved cash returns and generation of long-term embedded value. We will transfer technology and intellectual capital through shared skills and infrastructure, based on utilising our strong capabilities in South Africa and around the world to drive revenue and cost improvements.

We will focus on developing our customer proposition which is relevant to their needs, backed up by good distribution, support and service. We aim to deliver high performance in each of our businesses by driving profitable growth and operational efficiency, optimising risk and return and aligning reward schemes to activities that deliver value, with strengthened governance and control from the centre.

We have set specific targets of reducing costs by £100 million by the end of 2012, including £15 million of Group-wide corporate cost savings as the Group structure evolves. We have also set specific performance targets for our individual LTS businesses and for LTS as a whole, as set out below.

Long-Term Savings

Our LTS businesses can be categorised into three groups: those in mature markets which have scale and deliver high cash returns, such as Old Mutual South Africa (OMSA) within Emerging Markets; those that are established and growing but where profitability can be improved, such as Wealth Management and Nordic; and those that are sub-scale but have strong prospects for growing embedded value and delivering good return on equity, such as Retail Europe and, within Emerging Markets, India and China.

We have set targets to deliver cost savings of £75 million per annum and to improve overall return on equity from 14.9% (excluding US Life and reflecting the LTIR rate for Emerging Markets for 2010) as at 31 December 2009 to between 16%-18%, both by the end of 2012. To achieve this, we have set specific return on equity and cost savings targets for each of our LTS businesses.

Over and above this, we have identified opportunities for further cost and revenue synergies in three principal areas: in IT, by extending outsourcing to a global level, rationalising technology platforms and sharing applications; in administration by taking advantage of the efficient cost base in South Africa; and in product development, through sharing products and investment funds across our businesses.

In Emerging Markets, we are already distributing products designed in South Africa into India and expect to do the same into the other large and under-penetrated markets such as China and Mexico. South Africa has a well regulated long-term savings industry and a growing middle income and affluent market, which we are penetrating through our strong brand and powerful distribution platforms. We are therefore co-ordinating our Emerging Markets business, which includes our Africa operations, from OMSA. Having acquired the minorities in Mutual & Federal, we are also developing Old Mutual branded short-term insurance products for the South African middle income market. We have set a cost reduction target for Emerging Markets of £5 million per annum and a return on equity target of between 20%-25% by the end of 2012.

In Sweden, we already have a strong market share and are now broadening our product and service offering to the direct market through Skandiabanken, the region's most successful internet bank. For example, through Skandia Investment Group (SIG) we have exported the highly successful Spectrum concept of risk-targeted funds from the UK to Sweden, and Skandia Nordic has developed its own supporting web-based advisory tools for its direct customers. For the Nordic business we have set a cost reduction target of £10 million per annum and a return on equity target of between 12%-15% by the end of 2012.

In Retail Europe, we are already making good progress in transferring IT and back office functions to South Africa, which will significantly improve margins. We will also broaden its product set, including introducing protection products. We have set a cost reduction target for Retail Europe of £15 million per annum and return on equity target of 15%-18% by the end of 2012.

We have commenced an expense reduction exercise in Wealth Management which is intended to deliver cost savings across the business of £45 million per annum by 2012, with associated one-off restructuring costs at approximately the same level. The bulk of this is in Skandia UK, which is aiming to reduce its cost base in order to operate profitably and sustainably in the new low-margin environment. We already have an excellent platform capability and will be developing increased functionality and new products, sourced in South Africa, which are capital-light but provide good downside protection. We have also set a Wealth Management return on equity target of between 12%-15% by the end of 2012.

We have made a number of new appointments in LTS to help ensure delivery against these targets. We have appointed a new head of product development from within OMSA, and expanded the roles of other senior OMSA executives to enhance operational efficiency and distribution across our LTS businesses. We are also in the process of appointing a new head of IT. They will all report directly to Paul Hanratty, Chief Executive Officer of LTS.

Following the completion of the expense management programme in US Life, the business is now profitable on an AOP basis and is able to grow without further support from the Group. However, it lacks scale, has little overlap with the rest of our LTS businesses and, given its capital intensive nature, the risk-adjusted return on further investment does not meet our hurdle rate. As a result, with market conditions improving, we are exploring the disposal of US Life to allow the business to achieve its potential under different ownership. We remain firmly committed to supporting the business at an RBC ratio of 300%.

Asset Management

We have excellent, well established asset management businesses which are highly profitable and generate good cash flow. In South Africa, we are already the market leader and with investment performance improving we are confident of driving future net client inflows. In Europe, we expect guided architecture to complement our open-architecture platform, allowing us to capture significant inflows within SIG, our manager-of-managers business.

In the US, there are considerable opportunities for growing the business and expanding our existing franchises into international markets. We have already completed an expense management programme which reduced costs by 22%. The resulting margin improvement, together with anticipated growth in performance fees in line with the recovery in markets, will drive strong profitability and cash flows to the centre. We have also set a new cost reduction target of £10 million per annum and margin target of 25%-30% by the end of 2012.

We believe this will position the business well for a future listing and anticipate a partial IPO for the business within the next three years. The timing is dependent on margin progression, investment performance and market conditions. The IPO will allow it to benefit from an enhanced market profile and more visible valuation. It will provide access to capital markets and a mechanism for growth, and allow us to continue to improve the alignment of management.

Banking

In line with the South African banking industry, Nedbank's result was affected by the cyclical credit stress in the domestic economy. Despite the increased level of retail impairments, Nedbank has continued to strengthen its capital base. The sophisticated and well regulated South African banking system has ensured that the banks in South Africa were well insulated from the worst of the global financial crisis, while Nedbank's strong management team has continued to drive world-class risk management practices and outstanding performance in nearly all areas of the business. Despite the negative economic trends in 2009, underlying trading conditions showed early signs of improvement around the third quarter.

I am pleased to welcome the new Nedbank Chief Executive, Mike Brown and look forward to his contributions to our Group Executive Committee. As Mike and his team develop their future banking strategy, I look forward to discussing any changes Mike would like to make to the Nedbank strategy to continue its growth. We thank Tom Boardman for his tremendous success in the rehabilitation of Nedbank after we led its refinancing in 2004.

Outlook

We are determined that over the medium to long-term these measured and fully-funded actions will provide considerable value for shareholders. Together with further growth in assets under management as market conditions continue to improve, these actions will have a significantly positive impact on underlying operating profitability and return on equity. Accordingly, the Board has every confidence in the Group's prospects, as reflected by the resumption of a dividend.

Julian Roberts
Group Chief Executive
11 March 2010

 

END

 

 

FR KKDDBOBKDDNN