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Discovery Ltd FY 2012 results
 

Discovery Ltd FY 2012 results

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Discovery Ltd FY 2012 results

Discovery Ltd FY 2012 results

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    Discovery Ltd FY 2012 results Discovery Ltd FY 2012 results Document Transcript

    • Audited results announcement and cash dividend declarations FOR THE YEAR ENDED 30 JUNE 2012 Resultsandcommentary
    • Financial highlights Normalised profit from operations R3 443million New business annualised premium income R9 328million up 24% Normalised headline earnings R2 316million up 14% up 21% Transfer secretaries Computershare Investor Services (Pty) Limited (Registration number 2004/003647/07) Ground Floor, 70 Marshall Street, Johannesburg 2001 PO Box 61051, Marshalltown 2107 Sponsors Rand Merchant Bank (A division of FirstRand Bank Limited) Secretary and registered office MJ Botha, Discovery Holdings Limited (Incorporated in the Republic of South Africa) (Registration number: 1999/007789/06) JSE share code: DSY ISIN: ZAE000022331 JSE share code: DSBP ISIN: ZAE000158564 155 West Street, Sandton 2146 PO Box 786722, Sandton 2146 Tel: (011) 529 2888 Fax: (011) 529 2958 Directors MI Hilkowitz (Chairperson), A Gore* (Chief Executive Officer), Dr BA Brink, P Cooper, JJ Durand# , SB Epstein (USA), R Farber* (Financial Director), HD Kallner*, NS Koopowitz*, Dr TV Maphai, HP Mayers*, V Mufamadi, Dr A Ntsaluba*• , AL Owen (UK), A Pollard*, JM Robertson*, SE Sebotsa, T Slabbert, B Swartzberg*, SV Zilwa *Executive # Appointed 25 August 2011 • Appointed 1 July 2011 Preparation of Annual Financial Statements The Annual Financial Statements for the year ended 30 June 2012 were prepared by B Mill FFA, FASSA, L Capon CA(SA), L van Jaarsveldt CA(SA) and supervised by R Farber CA(SA), FCMA
    • 1Audited results announcement and cash dividend declarations Introduction The year under review to 30 June 2012 was a pleasing one for Discovery, with solid performance across all businesses. The period saw growth in: new business API up 24% to R9.3 billion; normalised operating profit up 21% to R3.4 billion; normalised headline earnings up 14%; and embedded value growth up 12% to R30.2 billion. Furthermore, important progress was made towards achieving Discovery’s core purpose of making people healthier and enhancing and protecting their lives; and towards the fulfilment of Discovery’s ambition to build a superior insurance group that measures competitively against its peers on a global basis. Underpinning the above is an explicit methodology to utilise powerful financial and behavioural structures that meet peoples’ complex needs in sustainable ways, and provide superior returns for shareholders that reflect the innovation margin. Against this background, objectives have been set in terms of earnings growth, product leadership and return on capital. Progress against these objectives was as follows: • Earnings: The success of Discovery’s approach of building businesses organically − incubating internally funded start-up businesses and using IP-led partnerships to leverage its capabilities − was evident during the period. From an earnings perspective, this manifested in robust growth from Discovery’s established businesses (24%) of Discovery Health, Discovery Life, Vitality, DiscoveryCard, PruHealth, PruProtect and Discovery Invest. Further investment was made in the new franchises of The Vitality Group, Ping An Health and Discovery Insure, to support future growth. • Product leadership and new business: In virtually all markets in which Discovery operates, its products achieved a leadership position, manifesting in strong new business growth. In the South African market, the PricewaterhouseCoopers fifth biennial Strategic and Emerging Issues in South African Insurance survey rated Discovery Health’s insurance products and Discovery Life’s risk products as the leaders in the industry. In the United Kingdom, PruProtect received recognition from a number of prestigious industry bodies for its product design and innovation. In China, Ping An Health wrote the most new business in the group high-end market in the period. • Return on capital: Return on capital during the period was 22%, exceeding the internal hurdle of risk free plus 10%. It is important to state that the Discovery approach of achieving growth by building businesses from scratch or partnering with large organisations in other markets through the use of Discovery’s IP, generated significant successes during the period. This has enabled Discovery to grow on a relatively capital-light basis. Discovery Health The performance of Discovery Health and the Discovery Health Medical Scheme (DHMS) over the period was exceptional across all key dimensions: the period saw continued strong growth, with 10% growth in new business API, a 4.5% increase in total DHMS lives under management (to 2 417 369 lives); continued industry-low lapse rates within DHMS (3.9%); continued stability within the membership base with 98% of members either remaining on the same plan or upgrading; and market-leading financial strength, with DHMS continuing to hold the highest reserves in the industry (over R7.4 billion) with an AA+ credit rating. Furthermore, Discovery Health’s normalised operating profits increased by 10% to R1 499 million. Discovery Health’s vision is to build a world-leading health insurance capability that provides best-in- industry products and services to its clients. To achieve this, Discovery Health’s primary role in the healthcare system is to balance the competing objectives of maximising access, enhancing quality of care, and lowering cost. Over the past few periods, significant progress has been made in establishing network and payments arrangements that facilitate enhanced access. Strong focus has been applied to clinical risk management efforts and Vitality as mechanisms to control healthcare inflation, and therefore premiums; while significant tools have been developed to enhance the quality of care received by members. Discovery’s analysis shows that DHMS options are 10% to 30% cheaper on average with richer benefits across the entire plan spectrum; Discovery’s network and payment arrangements with GPs and Specialists cover 90% of all consultations and procedures; and from a quality perspective, the member experience is enhanced through innovations such as MedXpress and HospitalXpress. A particularly pleasing achievement during the period, which will support Discovery Health’s intention of enhancing the quality of care at the point of service for all members, was the roll-out of HealthID, an
    • 2 Results and commentary iPad-based application that provides doctors treating Discovery Health members with access to detailed electronic health records of all consenting patients, as well as a number of other tools to assist doctors in their engagement with Discovery Health. Despite its recent launch, HealthID is already in regular daily use by over 5% of doctors, with the medium-term target of reaching 20% penetration. Discovery Health remains acutely aware of its responsibility to contribute to the building of a sustainable national healthcare system, involving both the public and private sectors. Discovery Health continues to engage with the national and provincial Departments of Health in support of the emerging NHI system, and to seek mechanisms through which the private sector can contribute assets, expertise and resources. Discovery Life Discovery Life’s performance was in line with expectation, with normalised operating profit growing by 14% to R1 819 million; new business API growing by 8% to R1 749 million; and the value of in-force business increasing significantly from R10 592 million to R12 358 million. These results are particularly pleasing given that they were achieved in a turbulent financial and economic market. Discovery Life has a clear vision: to build a life insurer of excellent quality that provides unique solutions to customers and superior and sustainable returns to shareholders, given the capital intensive nature of the business. During the period under review, Discovery Life focused on enhancing quality across every aspect of the business. These areas included: solidification of the distribution model, with further development of the tied distribution channels which have delivered business of high quality and value; all aspects of retention, which manifested in a reduction in the overall lapse rate to below the long-term assumptions; refinement of the integrated model with Vitality, to ensure better mortality and morbidity experience and appropriate pricing across the risk spectrum; and a selective approach to new business development based on expected new business margin. Notable highlights over the period include: • The launch of a range of unique benefits, including the CoverBooster and the BenefitBooster, whereby customer benefits are enhanced at no extra cost for limited periods, extendable at significant discounts based on engagement with the Vitality programme • An improvement in the lapse experience and the mortality and morbidity experience during the period, assisted by the integration benefits of the Vitality programme. In addition, new business margins improved to 10%. The return on capital invested in Discovery Life since its inception is in excess of 25% per annum, and Discovery remains confident in the ability of the business to generate strong returns going forward. Discovery Invest The period under review was dominated by the Euro crisis and the instability this introduced to the financial markets. Discovery Invest’s strategy during the period was one of continued innovation to provide optimal investment solutions for clients given the uncertainty, and to provide protection of clients’ savings and retirement funds in light of market volatility. The period under review was excellent from a financial results perspective, with normalised operating profit growing by 50% to R151 million. The value of in-force business also showed a dramatic increase of 46% to R1 714 million. The margins of new business written, although slightly down from the previous period, were excellent at 2.7%. These margins are above market norms and are a consequence of the unique value proposition of the Discovery Invest product range. Discovery Invest continued to innovate during this period with the launch of the Classic Retirement product range. This product range is aimed at providing protection and value-enhancing features to clients’ retirement savings. Discovery Insure During the period, Discovery Insure had its first active trading year and performance was exceptional. During this time, Discovery Insure transacted R239 million of new business despite a fairly embryonic distribution footprint. By the end of the period, Discovery Insure’s new business market share, on a run rate basis, increased to around 9%.
    • 3Audited results announcement and cash dividend declarations Discovery Insure’s strategic vision is to encourage better driving and safer roads by leveraging the behavioural economic learnings from Vitality within the construct of a comprehensive insurance offering. Discovery is confident that such an approach is good for society, policyholders and shareholders. More importantly, the methodology of measuring, incentivising and guiding policyholders to become better drivers has proven remarkably resonant: • The business continues to see a strong correlation between driving performance, as measured by its DQ Track algorithm, and the frequency of motor vehicle accidents • In terms of demonstrable changes in driver behaviour, an average improvement of 17% in driver scores is observed over five months post policy inception • BP now accounts for 77% of Vitalitydrive clients’ fuel spend, with over 311 100 fuel transactions over the period. From a distribution perspective, increased traction was achieved during the period, with investment in digital technology to ensure that brokers and agents can transact Discovery Insure business in an effective way. The period also saw the launch of further meaningful client innovations and enhancements: clients now receive up to 50% of their fuel spend at BP through the monthly fuel cashback incentive; young adults between 18 and 25 can receive further discounts of up to 25% on their motor premiums; and the Fasttrack claims promise guarantees replacement of lost or stolen electronic items within 24 to 48 hours. Discovery is optimistic about the potential of the business, based on its differentiated product proposition, and the ability of this to improve individual driving behaviour and achieve societal objectives. Discovery Vitality Engagement levels in Discovery Vitality continued to improve during the period under review off what was already considered a high base. Vitality is demonstrating that it can change behaviour not only in respect of once-off activities such as preventive screening, but more impressively, in respect of complex behaviours such as sustained physical activity and making healthier food choices. A number of research collaborations are currently under way with some of the world’s leading research institutions with the end goal of publishing the scientific findings. Over the period, Discovery Vitality made a significant investment in building out a strong social media capability which will serve as an important adjunct in driving healthy behaviour at a group level. In addition, Vitality now has the ability to integrate into over 100 fitness tracking technologies, which will be launched in the upcoming months. DiscoveryCard continued to show a pleasing performance, achieving its lowest ever bad debt levels and its highest ever market share. The credit card business, a joint venture with FirstRand Bank Limited, will continue to use its unique insights into the link between health behaviour and financial behaviour to grow its customer base further. Going forward, Vitality will continue to introduce additional opportunities for members to engage in healthier lifestyles, leveraging evolving fitness tracking technology as well as the mainstream use of social media. The programme will also continue to invest in additional rewards to incentivise positive behaviour. Finally, Vitality will continue its drive to export the programme to international markets. PruProtect and PruHealth The year under review proved seminal for Discovery’s United Kingdom (UK) operations, with the continuing focus on quality, product innovation, distribution development and customer value, translating into an excellent financial performance across the businesses. At a combined level, new business API from the UK exceeded R1 billion for the first time; earned premium approached the R5 billion level; normalised operating profit (including the impact of the extended Transitional Services Agreement with Standard Life Group) measured R300 million; while the membership base stabilised at around 670 000 lives. PruHealth and PruProtect form the beachhead of Discovery’s international operations, and focus will be applied to the further development of the integrated model in the coming periods.
    • 4 Results and commentary PruProtect The protection market in the UK has been under severe pressure for many years, with the hardening of the mortgage market, and absence of growth in the number of policies sold. Despite these difficult economic conditions, the strategy adopted by PruProtect – based on the repeatability of the Discovery Life model from a product, distribution and capital perspective – has created a unique, competitive position for the business in a highly commoditised, low-margin environment. The year under review was particularly successful for PruProtect, with significant gains in new business market share in the independent broker market to over 9%, and a strong turnaround in financial performance, with the business generating a normalised operating profit of R209 million compared to an operating loss of R86 million in the previous period. Excellent progress was made across all dimensions of the business: the franchise channel was expanded to 13 franchises across the UK; lapse rates reduced consistently over the year and were below expectation; the loss ratio performed better than expected; while new business written grew by 42% to £37.3 million, at an annualised margin of 15.1%. The protection market in the UK is undergoing some major regulatory and taxation changes. During the next period, gender neutral prices will be introduced and the current “I-E” taxation basis will be modified to an earnings taxation basis. In addition, a major review of the distribution of investment products has been completed and will be implemented at the beginning of 2013. All these changes represent challenges, but also significant opportunities for PruProtect. PruHealth PruHealth’s performance exceeded expectation during the period, despite the continuing and deepening recession in the UK, which has a significant negative effect on the private medical insurance market. Over the period, normalised operating profit increased by 28% to R91 million, despite the duplication of certain costs associated with the acquisition of Standard Life Healthcare, which measured approximately £8 million. During the period, a strategic decision was taken to invest more significantly in the PruHealth systems capability in the UK, which resulted in an extension of the Transitional Services Agreement in place with Standard Life Group for the next three years. Over the period, PruHealth continued its strategy of focusing on the key drivers of long-term value of the business, which included adopting a judicious approach to writing new business of a high quality and margin in the current environment. This strategy manifested in a number of important areas: • A continuing reduction in the loss ratio to industry-low levels • A focus on getting the mix right between market segments in order to maximise profitability • A definitive approach to retention to help mitigate the effect of anti-selective lapsation • Strong take-up of Vitality, with take-up for 2012 exceeding 55% across all markets and channels • Further operating efficiencies in the core expense base The stability achieved across the key metrics of the business provides PruHealth with a platform to pursue stronger growth in the coming year. The Vitality Group The period under review was characterised by strong membership growth for Vitality. HumanaVitality, the joint venture with Humana Inc, the fourth largest health insurer in the USA, has surpassed the 1.5 million member mark. In respect of direct corporate sales, The Vitality Group is building solid relationships with large employee benefits consultants. In many cases, Vitality has now been accredited as one of their preferred wellness solutions. This powerfully positions The Vitality Group to acquire strong new business in the coming financial year. The Vitality Group recently announced a partnership with ADP, one of the world’s largest providers of payroll and employee benefits administration solutions. The partnership will see the launch of ADP-Vitality, a payroll-integrated wellness solution tailored to mid-size employees. ADP provides Vitality with wide distribution reach into the mid-size employer market as well as the ability to administer varying employee
    • 5Audited results announcement and cash dividend declarations health contributions by Vitality status – a powerful and appealing feature for employers. The partnership opens the opportunity to provide a level of wellness product sophistication that was previously only accessible to large employers. The Vitality Group continues to invest in building out methods and tools to drive engagement and further develop the science of wellness. A number of innovations are in a development phase and will be launched within the next few months. Amid the uncertainty that proposed healthcare reform is creating in the US for health insurance, there remains a strong recognition on both sides of the political spectrum that addressing poor lifestyle choices is an imperative. The Vitality Group is well placed to capitalise on this. Ping An Health Ping An Health continues to make progress in building the scale and capability to shape the commercial health insurance market in China and to achieve significant growth. During the period, the company’s insurance premium income grew by 133%. As at 30 June 2012, Ping An Health ranked first in the group high-end medical insurance market in total premium income. The company reached a major milestone in 2012 with the deployment of Vitality into the Chinese insurance market. Vitality is currently in the process of being rolled out. Preparations were also made for the launch of a Vitality-enabled comprehensive health insurance product into the individual insurance market in the second half of 2012. Vitality is expected to play a transformational role in encouraging individuals to buy protection insurance in China. Significant progress was also made in building the core health insurance infrastructure, including the development of a foundational actuarial and clinical risk management capability for the business and the introduction of the Discovery claims system into Ping An Health. Prospects The work done over the past financial year positions the Discovery Group strongly for continued growth and profitability into the future. MI Hilkowitz A Gore Chairperson Chief Executive Officer
    • Income statement FOR THE YEAR ENDED 30 JUNE 2012 R million Group 2012 Group 2011 % change Insurance premium revenue 14 691 12 486 Reinsurance premiums (1 755) (1 700) Net insurance premium revenue 12 936 10 786 Fee income from administration business 4 251 3 888 Investment income 261 205 Net realised gains on available-for-sale financial assets 81 202 Net fair value gains on financial assets at fair value through profit or loss 737 661 Vitality income 1 603 1 480 Net income 19 869 17 222 Claims and policyholders’ benefits (6 702) (5 573) Insurance claims recovered from reinsurers 1 200 1 246 Recapture of reinsurance – (313) Net claims and policyholders’ benefits (5 502) (4 640) Acquisition costs (2 775) (2 116) Marketing and administration expenses (6 910) (6 012) Amortisation of intangibles from business combinations (152) (97) Recovery of expenses from reinsurers 148 139 Transfer from assets/liabilities under insurance contracts (1 075) (1 530) – change in assets arising from insurance contracts 2 454 1 760 – change in liabilities arising from insurance contracts (3 396) (3 184) – change in liabilities arising from reinsurance contracts (133) (106) Fair value adjustment to liabilities under investment contracts (50) (52) Profit from operations 3 553 2 914 Gains and losses resulting from business combinations – 609 Write-off of software from business combination – (95) Realised gains on disposal of intellectual property – 87 Realised gains on disposal of investment property – 122 Puttable non-controlling interest fair value adjustment (13) – Finance costs (265) (168) Foreign exchange gains/(losses) 78 (14) Share of profit/(loss) from associate 1 (4) Profit before tax 3 354 3 451 (3) Income tax expense (1 132) (872) (30) Profit for the year 2 222 2 579 (14) Profit attributable to: – ordinary shareholders 2 199 2 577 (15) – preference shareholders 23 – – non-controlling interest – 2 2 222 2 579 (14) Earnings per share for profit attributable to ordinary shareholders of the company during the year (cents): – basic 396.1 464.4 (15) – diluted 395.7 464.2 (15) 6 Results and commentary
    • Statement of comprehensive income FOR THE YEAR ENDED 30 JUNE 2012 R million Group 2012 Group 2011 % change Profit for the year 2 222 2 579 Other comprehensive income: Change in available-for-sale financial assets 35 (122) – unrealised gains 145 61 – capital gains tax on unrealised gains (40) (9) – realised gains transferred to profit or loss (81) (202) – capital gains tax on realised gains 11 28 Currency translation differences 324 (146) – increase/(decrease) in currency translation reserve 324 (127) – transfer to profit or loss on disposal of joint venture – (19) Cash flow hedges 32 (30) – unrealised gains/(losses) 39 (31) – tax on unrealised gains/losses (3) 8 – gains recycled to profit or loss (4) (10) – tax on recycled gains * 3 Other comprehensive income for the year, net of tax 391 (298) Total comprehensive income for the year 2 613 2 281 15 Attributable to: – ordinary shareholders 2 590 2 279 14 – preference shareholders 23 – – non-controlling interest – 2 Total comprehensive income for the year 2 613 2 281 15 * Amount is less than R500 000. 7Audited results announcement and cash dividend declarations
    • Headline earnings FOR THE YEAR ENDED 30 JUNE 2012 R million Group 2012 Group 2011 % change Normalised headline earnings per share (cents): – undiluted 417.3 365.8 14 – diluted 416.9 365.5 14 Headline earnings per share (cents): – undiluted 383.7 295.3 30 – diluted 383.2 295.2 30 The reconciliation between earnings and headline earnings is shown below: Net profit attributable to ordinary shareholders 2 199 2 577 Adjusted for: – realised gains on available-for-sale financial assets net of CGT (70) (174) – realised gains on disposal of intellectual property net of deferred tax – (57) – realised gains on disposal of investment property net of CGT – (109) – gain on disposal of joint venture – (667) – write-off of software from business combination net of deferred tax – 68 Headline earnings 2 129 1 638 30 – amortisation of intangibles from business combinations net of deferred tax 69 70 – finance costs raised on puttable non-controlling interest financial liability 152 86 – fair value adjustment to puttable non-controlling interest financial liability 13 – – non-controlling interest allocation if no put options (14) – – final dividend accrued for preference shareholders (33) – – recapture of reinsurance – 313 – DAC expense reversed due to business combination – (137) – once-off costs relating to acquisitions – 58 Normalised headline earnings 2 316 2 028 14 Weighted number of shares in issue (000’s) 554 930 554 847 Diluted weighted number of shares (000’s) 555 538 555 056 8 Results and commentary
    • Statement of financial position AT 30 JUNE 2012 R million Group 2012 Group 2011 Assets Assets arising from insurance contracts 11 681 9 044 Property and equipment 251 200 Intangible assets including deferred acquisition costs 1 608 1 440 Goodwill 1 542 1 302 Investment in associates 341 260 Financial assets – Equity securities 5 096 3 467 – Equity linked notes 6 480 4 742 – Debt securities 2 835 1 535 – Inflation linked securities 257 159 – Money market 5 729 2 680 – Derivatives 149 46 – Loans and receivables including insurance receivables 2 197 2 269 Deferred income tax 348 296 Current income tax asset 18 – Reinsurance contracts 201 180 Cash and cash equivalents 1 929 3 285 Total assets 40 662 30 905 Equity Capital and reserves Ordinary share capital and share premium 1 503 1 542 Perpetual preference share capital 779 – Other reserves 670 278 Retained earnings 8 778 7 149 11 730 8 969 Non-controlling interest 1 4 Total equity 11 731 8 973 Liabilities Liabilities arising from insurance contracts 14 319 10 621 Liabilities arising from reinsurance contracts 1 457 1 308 Financial liabilities – Investment contracts at fair value through profit or loss 2 915 2 063 – Borrowings at amortised cost 402 402 – Derivatives 35 22 – Puttable non-controlling interests 2 893 2 314 Deferred income tax 3 075 2 584 Deferred revenue 116 130 Employee benefits 116 97 Trade and other payables 3 532 2 391 Current income tax liability 71 – Total liabilities 28 931 21 932 Total equity and liabilities 40 662 30 905 9Audited results announcement and cash dividend declarations
    • Segmental information FOR THE YEAR ENDED 30 JUNE 2012 R million SA Health SA Life 30 June 2012 Income statement Insurance premium revenue 16 6 085 Reinsurance premiums (1) (1 082) Net insurance premium revenue 15 5 003 Fee income from administration business 3 705 99 Guarantee received from Humana Vitality – – Investment income on assets backing policyholder liabilities – 113 Finance charge on negative reserve funding – – Inter-segment funding – (271) Net fair value gains on financial assets at fair value through profit or loss – 252 Vitality income – – Net income 3 720 5 196 Claims and policyholders' benefits (3) (2 639) Insurance claims recovered from reinsurers – 739 Net claims and policyholders’ benefits (3) (1 900) Acquisition costs – (1 373) Marketing and administration expenses – depreciation and amortisation (135) (26) – other expenses (2 083) (1 122) Recovery of expenses from reinsurers – – Transfer from assets/liabilities under insurance contracts – change in assets arising from insurance contracts – 1 503 – change in liabilities arising from insurance contracts – (281) – change in liabilities arising from reinsurance contracts – (161) Fair value adjustment to liabilities under investment contracts – (17) Normalised profit/(loss) from operations 1 499 1 819 10 Results and commentary
    • SA Invest SA Vitality UK Health UK Life New business development All other segments Total 3 683 – 4 193 623 91 – 14 691 – – (566) (102) (4) – (1 755) 3 683 – 3 627 521 87 – 12 936 421 – 20 5 1 – 4 251 – – – – 14 – 14 – – 19 – – – 132 – – – (66) – – (66) 271 – – – – – – 485 – – – – – 737 – 1 454 58 – 91 – 1 603 4 860 1 454 3 724 460 193 – 19 607 (904) – (2 992) (102) (62) – (6 702) – – 412 49 – – 1 200 (904) – (2 580) (53) (62) – (5 502) (351) (65) (282) (685) (19) – (2 775) (5) – (11) – (8) – (185) (270) (1 384) (946) (491) (359) (70) (6 725) – – 148 – – – 148 – – 1 950 – – 2 454 (3 146) – 37 – (6) – (3 396) – – – 28 – – (133) (33) – – – – – (50) 151 5 91 209 (261) (70) 3 443 11Audited results announcement and cash dividend declarations
    • Segmental information FOR THE YEAR ENDED 30 JUNE 2011 R million SA Health SA Life 30 June 2011 Income statement Insurance premium revenue 21 5 142 Reinsurance premiums (3) (1 007) Net insurance premium revenue 18 4 135 Fee income from administration business 3 479 78 Investment income on assets backing policyholder liabilities – 91 Finance charge on negative reserve funding – – Inter-segment funding – (216) Net fair value gains on financial assets at fair value through profit or loss – 239 Vitality income – – Net income 3 497 4 327 Claims and policyholders’ benefits (6) (2 322) Insurance claims recovered from reinsurers 1 695 Net claims and policyholders’ benefits (5) (1 627) Acquisition costs – (1 265) Marketing and administration expenses – depreciation and amortisation (134) (32) – other expenses (2 001) (955) Recovery of expenses from reinsurers – – Transfer from assets/liabilities under insurance contracts – change in assets arising from insurance contracts – 1 351 – change in liabilities arising from insurance contracts – (99) – change in liabilities arising from reinsurance contracts – (77) Fair value adjustment to liabilities under investment contracts – (32) Normalised profit/(loss) from operations 1 357 1 591 12 Results and commentary
    • SA Invest SA Vitality UK Health UK Life New business development All other segments Total 3 295 – 3 738 290 – – 12 486 – – (609) (81) – – (1 700) 3 295 – 3 129 209 – – 10 786 242 – 17 60 1 11 3 888 – – 10 – – – 101 – – – (35) – – (35) 216 – – – – – – 422 – – – – – 661 – 1 367 71 – 42 – 1 480 4 175 1 367 3 227 234 43 11 16 881 (501) – (2 659) (86) – 1 (5 573) – – 500 50 – – 1 246 (501) – (2 159) (36) – 1 (4 327) (281) (57) (254) (396) – – (2 253) – – (5) – – (5) (176) (205) (1 292) (842) (285) (228) (28) (5 836) – – 139 – – – 139 – – – 409 – – 1 760 (3 067) – (18) – – – (3 184) – – (17) (12) – – (106) (20) – – – – – (52) 101 18 71 (86) (185) (21) 2 846 13Audited results announcement and cash dividend declarations
    • Reconciliation of segmental information to income statement FOR THE YEAR ENDED 30 JUNE 2012 Group 2012 Group 2011 Normalised profit from operations 3 443 2 846 Investment income attributable to shareholders 129 104 Net realised gains on available-for-sale financial assets 81 202 Amortisation of intangibles from business combinations (152) (97) Finance costs (199) (133) Foreign exchange gains/(losses) 78 (14) Share of loss from associate (13) (4) Puttable non-controlling interest fair value adjustment (13) – Recapture of reinsurance – (313) DAC expense reversed due to business combination – 137 Gains and losses resulting from business combinations – 609 Write-off of software from business combination – (95) Realised gains from the disposal of intellectual property – 87 Realised gains from the disposal of investment property – 122 Profit before tax 3 354 3 451 14 Results and commentary
    • Statement of cash flows FOR THE YEAR ENDED 30 JUNE 2012 Group 2012 Group 2011 Cash flow from operating activities 1 457 (6) Cash generated by operations 4 679 4 060 Net purchases of investments held to back policyholder liabilities (3 849) (3 930) Working capital changes 722 156 1 552 286 Dividends received 115 83 Interest received 395 122 Interest paid (113) (62) Taxation paid (492) (435) Cash flow from investing activities (3 222) 313 Net (purchases)/disposals of financial assets (2 968) 1 369 Disposal of investment property – 140 Purchase of equipment (116) (40) Purchase of intangible assets (138) (84) Purchase of subsidiary – (1 072) Cash flow from financing activities 202 198 Proceeds from issuance of ordinary shares 28 282 Proceeds from issuance of preference shares 806 – Share issue costs (21) – Dividends paid to ordinary shareholders (580) (461) Dividends paid to preference shareholders (23) – Non-controlling interest share buy-backs (8) – Repayment of borrowings – (23) Increase in borrowings – 400 Net (decrease)/increase in cash and cash equivalents (1 563) 505 Cash and cash equivalents at beginning of year 3 285 2 845 Exchange gains/(losses) on cash and cash equivalents 207 (65) Cash and cash equivalents at end of year 1 929 3 285 15Audited results announcement and cash dividend declarations
    • Statement of changes in equity FOR THE YEAR ENDED 30 JUNE 2012 Attributable to equity holders of the Company R million Share capital and share premium Preference share capital Share-based payment reserve Year ended 30 June 2011 At beginning of year 1 541 – 316 Profit for the year – – – Other comprehensive income – – – Total comprehensive income for the year – – – Transactions with owners: Increase in treasury shares (16) – – Proceeds from disposal of treasury shares 17 – – Non-controlling interest share issue – – – Non-controlling interest share buy-backs – – – Fair value adjustment of non-controlling interest share of subsidiary – – – Transfer to puttable non-controlling interest liability – – – Employee share option schemes: – value of employee services – – 2 Dividends paid to ordinary shareholders – – – Total transactions with owners 1 – 2 At end of year 1 542 – 318 Year ended 30 June 2012 At beginning of year 1 542 – 318 Profit for the year – 23 – Other comprehensive income – – – Total comprehensive income for the year – 23 – Transactions with owners: Increase in treasury shares (47) – – Proceeds from disposal of treasury shares 8 – – Issue of preference shares – 800 – Share issue costs – (21) – Non-controlling interest share issues – – – Transfer to puttable non-controlling interest liability – – – Non-controlling interest share buy-backs – – – Employee share option schemes: – value of employee services – – 1 Dividends paid to preference shareholders – (23) – Dividends paid to ordinary shareholders – – – Total transactions with owners (39) 756 1 At end of year 1 503 779 319 * This reserve relates to the revaluation of available-for-sale financial assets. 16 Results and commentary
    • Attributable to equity holders of the Company Non- controlling interest Total Revaluation reserve* Translation reserve Hedging reserve Retained earnings Total 145 76 37 6 267 8 382 – 8 382 – – – 2 577 2 577 2 2 579 (122) (146) (30) – (298) – (298) (122) (146) (30) 2 577 2 279 2 2 281 – – – – (16) – (16) – – – – 17 – 17 – – – – – 1 070 1 070 – – – – – (2) (2) – – – 51 51 (51) – – – – (1 301) (1 301) (1 015) (2 316) – – – – 2 – 2 – – – (445) (445) – (445) – – – (1 695) (1 692) 2 (1 690) 23 (70) 7 7 149 8 969 4 8 973 23 (70) 7 7 149 8 969 4 8 973 – – – 2 199 2 222 – 2 222 35 324 32 – 391 – 391 35 324 32 2 199 2 613 – 2 613 – – – – (47) – (47) – – – – 8 – 8 – – – – 800 – 800 – – – – (21) – (21) – – – – – 34 34 – – – – – (29) (29) – – – – – (8) (8) – – – – 1 – 1 – – – – (23) – (23) – – – (570) (570) – (570) – – – (570) 148 (3) 145 58 254 39 8 778 11 730 1 11 731 17Audited results announcement and cash dividend declarations
    • Review of Group results FOR THE YEAR ENDED 30 JUNE 2012 Value creators New business annualised premium income increased 24% for the year ended 30 June 2012. New business annualised premium income R million June 2012 June 2011 % change Discovery Health 4 282 3 904 10 Discovery Life 1 749 1 620 8 Discovery Invest 961 853 13 Discovery Vitality 171 147 16 Discovery Insure 239 * PruHealth 592 609 (3) PruProtect 460 290 59 Vitality USA 515 35 >100 Ping An Health(1) 359 85 >100 New business API of Group 9 328 7 543 24 * Amount is less than R500 000. (1) The comparative for Ping An Health only includes 6 months from date of acquisition to 30 June 2011. New business API is calculated at 12 times the monthly premium for new recurring premium policies and 10% of the value of new single premium policies. It also includes both automatic premium increases and servicing increases on existing policies. For Vitality USA and Ping An Health, new business API is calculated based on the date of policy inception. Gross inflows under management increased 14% for the year ended 30 June 2012. Gross inflows under management R million June 2012 June 2011 % change Discovery Health 35 963 31 873 13 Discovery Life 6 184 5 220 18 Discovery Invest 8 231 7 309 13 Discovery Insure 92 * Discovery Vitality 1 454 1 367 6 PruHealth 4 271 3 880 10 PruProtect 628 360 74 Vitality USA 91 43 112 Gross inflows under management 56 914 50 052 14 Less: collected on behalf of third parties (36 369) (32 198) (13) Discovery Health (32 242) (28 362) Discovery Invest (4 127) (3 772) PruHealth – (54) PruProtect – (10) Gross income of Group 20 545 17 854 15 * Amount is less than R500 000. Gross inflows under management measures the total funds collected by Discovery and is an accurate measure of the growth of Discovery. 18 Results and commentary
    • Profit from operations The following table shows the main components of the Group profit from operations for the year ended 30 June 2012: R million June 2012 June 2011 % change Discovery Health 1 499 1 357 10 Discovery Life 1 819 1 591 14 Discovery Invest 151 101 50 Discovery Vitality 5 18 (72) PruHealth 91 71 28 PruProtect 209 (86) 343 Profit from existing operations 3 774 3 052 24 Development and other segments (331) (206) (61) Normalised profit from operations 3 443 2 846 21 The comparative numbers in the table above have been adjusted to align with the disclosure in the current year. Discovery Life and PruHealth have been increased to include investment income received on assets held to back the statutory reserves, which was previously included in investment income attributable to shareholders. PruProtect now includes finance charges on negative reserve funding, which was previously included in finance costs. These adjustments have also been made to the segmental information. From 1 August 2010, PruHealth and PruProtect have been accounted for as subsidiaries in the Group results, previously accounted for as joint ventures. This means that the comparatives disclosed include the income, expenses, assets and liabilities of these companies at 50% for July 2010, but at 100% from 1 August 2010. Significant movements in the Income Statement Acquisition of Standard Life Healthcare (SLHC) For a detailed discussion regarding the accounting treatment of the acquisition of SLHC, please refer to the 30 June 2011 Annual Financial Statements. In terms of IFRS 3 revised, paragraph 45, the initial accounting for an acquisition can be undertaken on a provisional basis. Adjustments to provisional values can be made within one year of the effective date, relating to facts or circumstances at the acquisition date. As such, the acquisition accounting entries were finalised at 30 June 2011 and no further adjustments have been made. Intangibles identified in the acquisition of SLHC are amortised over their remaining useful lives and tested for impairment at each reporting date. There was no indication of impairment for the current reporting period. Discovery has recorded an amortisation charge of R144 million in profit or loss at 30 June 2012 (2011: R97 million). Share-based payments Included in marketing and administration expenses is R267 million (2011: R177 million) in respect of options granted under employee share incentive schemes expensed in accordance with the requirements of IFRS 2. Discovery entered into transactions to hedge its exposure in the phantom share scheme related to changes in the Discovery share price. As at 30 June 2012, approximately 79.1% (2011: 82.7%) of this exposure was hedged. Fair value gains of R85 million (2011: R5 million) relating to the hedge were recognised in profit or loss. Put options in subsidiaries During the prior financial year, put options were granted to the non-controlling interests of three of Discovery’s subsidiaries, entitling the non-controlling interest to sell its interest in the subsidiary to Discovery at contracted dates. In accordance with IAS 32, Discovery has recognised the fair value of the non-controlling interest, being the present value of the estimated purchase price, as a financial liability in the Statement of Financial Position (Puttable non-controlling interests). Interest in respect of this liability of R152 million has been recorded in finance costs for the year ended 30 June 2012 (2011: R86 million), using the effective interest rate method. The estimated purchase prices have been reconsidered and a fair value adjustment of R13 million has been captured to profit or loss at 30 June 2012. Aggregate effects on Discovery’s results at 30 June 2012: R million Total Value of puttable non-controlling interests at 1 July 2011 2 314 Further share issues to non-controlling interests 29 Finance costs recognised in profit or loss 152 Fair value adjustments: 13 – resulting from a change in interest rates 164 – resulting from a change in assumptions (151) Net exchange differences arising during the period 385 Value of puttable non-controlling interests at 30 June 2012 2 893 19Audited results announcement and cash dividend declarations
    • Taxation For South African entities that are in a tax paying position, tax has been provided at 28% (2011: 28%) and secondary tax on companies at 10% (up to 1 March 2012) in the financial statements. No deferred tax has been accounted for in respect of the Discovery Insure losses. Tax relief is obtained for 100% of the PruProtect losses through the Prudential Plc. During the current financial year, Prudential Plc made an adjustment of R41 million to shareholder tax which dated back to January 2011. This resulted in a distortion of the tax charge for PruProtect for the year ended 30 June 2012. No deferred tax has been raised on the PruHealth assessed losses. Included in the profit before tax for the year ended 30 June 2011, are non-taxable gains and losses resulting from business combinations. Material transactions with related parties Discovery Health administers the Discovery Health Medical Scheme (DHMS) and provides managed care services for which it charges an administration fee and a managed healthcare fee respectively. These fees are determined on an annual basis and approved by the trustees of DHMS. These fees totalled R3 408 million for the year ended 30 June 2012 (2011: R3 214 million). Discovery offers the members of DHMS access to the Vitality programme. Significant movements in the Statement of Financial Position Financial assets Financial assets have increased due to the sale of Discovery Invest products as well as the transfer of approximately R1.1 billion from cash and cash equivalents to a money market investment portfolio. Issue of preference shares On 15 August 2011, Discovery issued 8 million B preference shares at an issue price of R100 each by way of private placement and they were issued at a coupon rate of 85% of prime rate. With the introduction of dividend withholding tax on 1 April 2012, the coupon rate on the preference shares was increased to 100% of the prime rate. The shares are non-cumulative, non-participating, non-convertible, voluntarily redeemable no par value preference shares and have therefore been classified as equity. The value of the preference shares in the Statement of Financial Position has been reduced by share issue costs of R21 million. The first preference share dividend of R23 million was declared and accrued on 22 February 2012. The second preference share dividend of R33 million was declared on 4 September 2012. As these preference shares are non-cumulative, this dividend has not been accrued for in the current reporting period. Normalised headline earnings have however been adjusted by R33 million, as if the preference share dividends have been accrued for on a day-to- day basis. Borrowings at amortised cost Borrowings at amortised cost, includes a long-term loan of R400 million raised as part of the funding to purchase SLHC. Interest on the loan is payable quarterly, with interest fixed through an interest rate swap. R40 million has been recorded in finance costs for the year ended 30 June 2012 (2011: R33 million). The loan is repayable on 10 September 2017. Deferred tax liability The deferred tax liability is primarily attributable to the application of the Financial Services Board directive 145. This directive allows for the zeroing on a statutory basis of the assets arising from insurance contracts. The statutory basis is used when calculating tax payable for Discovery Life, resulting in a timing difference between the tax base and the accounting base. Shareholder information Directorate Dr Ayanda Ntsaluba was appointed as an executive director with effect from 1 July 2011. Mr Jan Durand was appointed as a non-executive director with effect from 25 August 2011. Dividend policy and capital The following interim dividends were paid during the current financial year: – preference share dividend of 289.23 cents per share, paid on 19 March 2012; – ordinary share dividend of 50 cents per share, paid on 26 March 2012. The directors are of the view that the Discovery Group is adequately capitalised at this time. On the statutory basis the capital adequacy requirements of Discovery Life was R364 million (2011: R305 million) and was covered 4.4 times (2011: 3.6 times). 20 Results and commentary
    • B Preference share cash dividend declaration: Notice is hereby given that the directors have declared a final gross cash dividend of 414,73973 cents (352,52877 cents net of dividend withholding tax) per B preference share for period 1 January 2012 to 30 June 2012. The dividend has been declared from income reserves and no secondary tax on companies’ credits has been used. A dividend withholding tax of 15% will be applicable to all shareholders who are not exempt. The issued preference share capital at the declaration date is 8 million B preference shares. The salient dates for the dividend will be as follows: Last day of trade receive a dividend Friday, 14 September 2012 Shares commence trading “ex” dividend Monday, 17 September 2012 Record date Friday, 21 September 2012 Payment date Tuesday, 25 September 2012 B Preference share certificates may not be dematerialised or rematerialised between Monday, 17 September 2012 and Friday, 21 September 2012, both days inclusive. Ordinary share cash dividend declaration: Notice is hereby given that the directors have declared a final gross cash dividend of 53,5 cents (45,475 cents net of dividend withholding tax) per ordinary share for the year ended 30 June 2012. The dividend has been declared from income reserves and no secondary tax on companies’ credits has been used. A dividend withholding tax of 15% will be applicable to all shareholders who are not exempt. The issued ordinary share capital at the declaration date is 591 872 390 ordinary shares. The salient dates for the dividend will be as follows: Last day of trade receive a dividend Friday, 5 October 2012 Shares commence trading “ex” dividend Monday, 8 October 2012 Record date Friday, 12 October 2012 Payment date Monday, 15 October 2012 Share certificates may not be dematerialised or rematerialised between Monday, 8 October 2012 and Friday, 12 October 2012, both days inclusive. Accounting policies The annual financial statements have been prepared in accordance with International Financial Reporting Standards including IAS 34, as well as the South African Companies Act 71 of 2008. The accounting policies adopted are consistent with the accounting policies applied in the last annual report and the corresponding prior year period. Comparative figures There have been no changes to comparative figures, except for a change in the composition of Discovery’s reportable segments. In terms of IFRS 8, if a segment no longer meets any of the ten per cent thresholds in the current or prior period, this segment will not be required to be reported on separately in either period. The USA Health segment meets this criteria and has now been aggregated in the ‘All other segments’ column in the Segmental Information in both the current and prior periods. 21Audited results announcement and cash dividend declarations
    • 22 Results and commentary Embedded value statement FOR THE YEAR ENDED 30 JUNE 2012 The embedded value of Discovery at 30 June 2012 consists of the following components: • the free surplus attributed to the covered business at the valuation date; • plus: the required capital to support the in-force covered business at the valuation date; • plus: the present value of expected future shareholder cash flows from the in-force business; • less: the cost of required capital. The present value of future shareholder cash flows from the in-force covered business is calculated as the value of projected future after-tax shareholder cash flows of the business in force at the valuation date, discounted at the risk discount rate. The value of new business is the present value, at the point of sale, of the projected future after-tax shareholder cash flows of the new business written by Discovery, discounted at the risk discount rate, less an allowance for the reserving strain (for Life), initial expenses and cost of required capital. The value of new business is calculated using the current reporting date assumptions. For Life, the shareholder cash flows are based on the release of margins under the Statutory Valuation Method (“SVM”) basis. The embedded value includes the insurance and administration profits of the subsidiaries in the Discovery Holdings Group. Covered business includes business written in South Africa through Discovery Life, Discovery Invest, Discovery Health and Discovery Vitality, and in the United Kingdom through PruProtect, PruHealth and PruHealth Insurance Limited (previously Standard Life Healthcare). PruProtect and PruHealth Insurance Limited were included in the Group value of new business and value of in-force business with effect from 30 June 2011. For The Vitality Group (USA) and Discovery Insure, no published value has been placed on the current in-force business. In August 2010, Discovery acquired Standard Life Healthcare and increased its shareholding in the Prudential joint venture from 50% to 75%. During 2011, Discovery announced a venture with Humana in the United States and launched a short term insurer, Discovery Insure. Put options were granted to the non-controlling parties in these subsidiaries. The put option entitles the non-controlling party to sell its interest in the subsidiary to companies within the Discovery Group at specified future dates. For accounting purposes, in accordance with IAS32, Discovery has consolidated 100% of the subsidiaries results and has recognised the fair value of the non-controlling interest, being the present value of the estimated purchase price, as a financial liability in the Statement of Financial Position (Puttable non-controlling interest). For embedded value purposes, the financial liability in excess of the non-controlling interest in the net asset value and the non-controlling share of the profits/losses included in retained earnings are added back to the adjusted net worth. In August 2011, Discovery raised R800 million through the issue of non-cumulative, non-participating, non-convertible preference shares. For embedded value purposes, the capital raised, net of share issue expenses, has been excluded from the adjusted net worth. The auditors, PricewaterhouseCoopers Inc., have reviewed the consolidated value of in-force business and value of new business of Discovery Holdings Limited and its subsidiaries as included in the embedded value statement for the year ended 30 June 2012. A copy of the auditors’ unqualified review report is available for inspection at the company’s registered office.
    • 23Audited results announcement and cash dividend declarations Table 1: Group embedded value R million 30 June 2012 30 June 2011 % change Shareholders’ funds 11 730 8 969 31 Adjustment to shareholders’ funds from published basis(1) (8 401) (6 381) Adjusted net worth 3 329 2 588 29 – Free Surplus 1 208 696 – Required Capital(2) 2 121 1 892 Value of in-force covered business before cost of capital 27 493 24 853 Cost of required capital (576) (505) Cost of STC(3) – (46) Discovery Holdings embedded value 30 246 26 890 12 Number of shares (millions) 554.4 555.0 Embedded value per share R54.56 R48.45 13 Diluted number of shares (millions) 591.2 591.2 Diluted embedded value per share(4) R53.78 R47.86 12 (1) The published shareholders’ funds was decreased to eliminate net assets under insurance contracts, deferred tax and deferred acquisition costs at June 2012 of R7 660 million (June 2011: R6 126 million) in respect of Life, R130 million (June 2011: R93 million) in respect of PruHealth and PruHealth Insurance Limited and R38 million (June 2011: R45 million) in respect of PruProtect. The shareholders’ funds was decreased by R1 738 million (June 2011: R1 510 million) representing Discovery’s share of goodwill and intangible assets (net of deferred tax) relating to the acquisition of Standard Life Healthcare and the Prudential joint venture. The shareholders’ funds was increased by R1 851 million (June 2011: R1 301 million) reflecting the value of the puttable non-controlling interest liability in excess of the non-controlling interest in the net asset value and R93 million (June 2011: R92 million) reflecting the non-controlling share of the losses included in retained earnings. The June 2012 shareholders’ funds was reduced by an amount of R779 million being the net preference share capital raised during August 2011. (2) The required capital at June 2012 for Life is R728 million (June 2011: R610 million), for Health and Vitality is R487 million (June 2011: R437 million), for PruHealth and PruHealth Insurance Limited is R708 million (June 2011: R730 million) and for PruProtect is R198 million (June 2011: R115 million). For Life, the required capital was set equal to two times the statutory Capital Adequacy Requirement (“CAR”). For Health and Vitality, the required capital was set equal to two times the monthly renewal expense and Vitality benefit cost. For PruHealth, the required capital amount was set equal to the capital prescribed by the FSA under the Individual Capital Adequacy Standards (“ICAS”) framework. Allowance has also been made for additional capital required by PruHealth over the next 6 months. For PruProtect, the required capital was set equal to the UK Pillar 1 capital requirement. (3) STC was replaced by a dividend withholding tax with effect from 1 April 2012. (4) The diluted embedded value per share allows for Discovery’s BEE transaction where the impact is dilutive i.e. where the current embedded value per share exceeds the current transaction value. Table 2: Value of in-force covered business R million Value before cost of capital and STC Cost of required capital Cost of STC Value after cost of capital and STC at 30 June 2012 Health and Vitality 11 435 (171) – 11 264 Life and Invest(1) 14 346 (274) – 14 072 PruHealth(2) 1 316 (97) – 1 219 PruProtect(2) 396 (34) – 362 Total 27 493 (576) – 26 917 at 30 June 2011 Health and Vitality 11 610 (155) (21) 11 434 Life and Invest(1) 11 969 (182) (23) 11 764 PruHealth(2) 1 077 (140) (2) 935 PruProtect (2) 197 (28) (0) 169 Total 24 853 (505) (46) 24 302 (1) Included in the Life and Invest value of in-force covered business is R425 million (June 2011: R345 million) in respect of investment management services provided on off balance sheet investment business. The net assets of the investment service provider are included in the adjusted net worth. (2) The value of in-force has been converted using the closing exchange rate of R12.83/GBP (June 2011: R10.84/GBP). The values for PruHealth and PruProtect reflect Discovery’s 75% shareholding in the joint venture.
    • 24 Results and commentary Table 3: Group embedded value earnings Year ended R million 30 June 2012 30 June 2011 Embedded value at end of period 30 246 26 890 Less: Embedded value at beginning of period (26 890) (22 558) Increase in embedded value 3 356 4 332 Net change in capital 39 (1) Dividends paid 593 445 Fair value adjustment of non-controlling interest share of subsidiary – (51) Transfer to hedging reserve (32) 30 Embedded value earnings 3 956 4 755 Annualised return on opening embedded value 14.7% 21.1% Table 4: Components of Group embedded value earnings R million Net worth Cost of required capital Value of in-force covered business Embedded value Total profit from new business (at point of sale) (1 612) (80) 3 332 1 640 Profit from existing business • Expected return 2 137 25 508 2 670 • Change in methodology and assumptions(1) 696 8 (1 384) (680) • Experience variances (87) 3 (23) (107) Other initiative costs(2) (397) – 11 (386) Non-recurring expenses (31) – 5 (26) Acquisition costs(3) 7 – (2) 5 Finance costs (28) – – (28) Foreign exchange rate movements 426 (27) 239 638 Return on shareholders' funds(4) 230 – – 230 Embedded value earnings 1 341 (71) 2 686 3 956 (1) The changes in methodology and assumptions will vary over time to reflect adjustments to the model and assumptions as a result of changes to the operating and economic environment. The current period’s changes are described in detail in Table 6 below (for previous periods refer to previous embedded value statements). (2) This item reflects Group initiatives including expenses relating to the investment in Ping An Health, The Vitality Group, PruProtect and Discovery Insure. (3) Acquisition costs relate to commission paid on Life business that has been written over the period but that will only be activated and on risk after the valuation date. These policies are not included in the embedded value or the value of new business and therefore the costs are excluded. (4) The return on shareholders’ funds is shown net of tax and management charges.
    • 25Audited results announcement and cash dividend declarations Table 5: Experience variances Health and Vitality Life and Invest PruHealth PruProtect TotalR million Net worth Value of in-force Net worth Value of in-force Net worth Value of in-force Net worth Value of in-force Renewal expenses (2) – 12 5 (145) (53) 8 – (175) Administration fees(1) (51) (510) – – – – – – (561) Lapses and surrenders(2) 8 286 (7) 75 – (174) 20 (5) 203 Mortality and morbidity – – 255 (61) 109 (26) 11 – 288 Policy alterations(3) – 32 (291) 265 – – 2 7 15 Backdated cancellations – – (15) 4 – – (1) (1) (13) Premium income – – (56) (116) – – (23) – (195) Economic assumptions – – (6) 16 – – – – 10 Commission – – – – 64 (3) – – 61 Tax(4) (19) – 180 (162) (22) – (19) – (42) Reinsurance – – (1) 0 (54) – 2 – (53) Extended modelling term – 230 – 22 – 23 – – 275 Vitality – – – – 35 17 – – 52 Other (8) (0) (71) 81 – 28 (2) 0 28 Total (72) 38 0 129 (13) (188) (2) 1 (107) (1) This variance relates to the reduction in the administration fee payable by the Discovery Health Medical Scheme during 2011. (2) The total Health and Vitality lapse experience variance of R294 million consists of a positive variance of R142 million due to lower than expected lapses and a positive variance of R152 million due to the net growth in existing employer groups (i.e. R900 million in respect of members joining existing employer groups during the period offset by an amount of R748 million in respect of members leaving existing employer groups). (3) Policy alterations relate to changes to existing benefits at the request of the policyholder. (4) The tax variance for Life and Invest arises due to a movement in the deferred tax asset which delays the payment of tax. Table 6: Methodology and assumption changes Health and Vitality Life and Invest PruHealth PruProtect TotalR million Net worth Value of in-force Net worth Value of in-force Net worth Value of in-force Net worth Value of in-force Modelling changes(1) – (40) (8) (65) – 281 (8) (2) 158 Administration fees(2) – (566) – – – – – – (566) Expenses – 21 (9) (16) – (212) 5 (1) (212) Lapses(3) – – 46 (1 078) – (455) (6) 8 (1 485) Mortality and morbidity(4) – – 41 1 035 – 429 (15) 25 1 515 Benefit enhancements – – (73) 29 – – – – (44) Vitality – (8) – – – (34) – – (42) Tax – 21 5 82 – 2 (0) 6 116 Economic assumptions – (81) (26) 82 – 130 9 (7) 107 Premium and benefit increases(5) – – (9) (192) – – – – (201) Reinsurance(6) – – 671 (740) 111 (41) – – 1 Other – – (38) 11 – – – – (27) Total – (653) 600 (852) 111 100 (15) 29 (680) (1) The Life and Invest modelling changes relate mainly to changes following a conversion process on the administration system. The PruHealth modelling changes relate to the modelling of commission on the PruHealth Insurance Limited book. (2) The embedded value assumptions have been adjusted to allow for below inflation increases in the Health administration fees over the short to medium term. (3) The Life lapse assumptions have not been reduced to the previous long term assumptions after a temporary increase (due to the effects of the global financial crisis) because significant uncertainty still remains. In addition, while the Life reserves are projected for the full policy term, the projection term of the Life value of in-force has been limited to 40 years. For PruHealth, the long-term lapse assumptions have been strengthened at certain points. (4) The Life claims assumptions have been reduced as there is now sufficient credible experience to support a change. For PruHealth, morbidity assumptions have been adjusted as confidence in its experience has improved. (5) Future premium and benefit increases on existing business have been adjusted in line with recent experience and expected future experience. (6) The reinsurance item relates to the impact of the financing reinsurance arrangements
    • 26 Results and commentary Table 7: Embedded value of new business R million 30 June 2012 30 June 2011 % change Health and Vitality Present value of future profits from new business at point of sale 399 505 Cost of required capital (15) (15) Cost of STC – (1) Present value of future profits from new business at point of sale after cost of required capital and STC 383 489 (22) New business annualised premium income(1) 1 798 1 698 6 Life and Invest Present value of future profits from new business at point of sale(2) 974 1 030 Cost of required capital (40) (35) Cost of STC – (2) Present value of future profits from new business at point of sale after cost of required capital and STC 934 993 (6) New business annualised premium income(3) 1 804 1 724 5 Annualised profit margin(4) 6.6% 7.0% Annualised profit margin excluding Invest Business 10.0% 9.8% PruHealth(5) Present value of future profits from new business at point of sale 21 68 Cost of required capital (9) (13) Cost of STC – (0) Present value of future profits from new business at point of sale after cost of required capital and STC 12 55 (79) New business annualised premium income(6) 273 293 (7) Annualised profit margin(4) 0.7% 3.2% PruProtect(7) Present value of future profits from new business at point of sale 326 129 Cost of required capital (15) (16) Cost of STC – (0) Present value of future profits from new business at point of sale after cost of required capital and STC 311 113 175 New business annualised premium income 345 218 58 Annualised profit margin(4) 15.1% 10.9% (1) Health new business annualised premium income is the gross contribution to the medical schemes. For embedded value purposes, Health new business is defined as individuals and members of new employer groups, and includes additions to first year business. There have been no changes to the definition of new business since the previous valuation. The new business annualised premium income shown above excludes premiums in respect of members who join an existing employer after the first year, as well as premiums in respect of new business written during the period but only activated after 30 June 2012. The total Health and Vitality new business annualised premium income written over the period was R4 453 million (June 2011: R4 051 million). (2) Included in the Life and Invest value of new business is negative R1 million (June 2011: R11 million) in respect of investment management services provided on off balance sheet investment business. Risk business written prior to the valuation date allows certain Invest business to be written at financially advantageous terms, the impact of which has been recognised in the value of new business. (3) Life new business is defined as Life policies or Discovery Retirement Optimiser policies which incepted during the reporting period and which are on risk at the valuation date. Invest new business is defined as business where at least one premium has been received and which has not been refunded after receipt. The new business annualised premium income of R1 804 million (June 2011: R1 724 million) (single premium APE: R511 million (June 2011: R478 million)) shown above excludes automatic premium increases and servicing increases in respect of existing business. The total Life new business annualised premium income written over the period, including both automatic premium increases of R552 million (June 2011: R403 million) and servicing increases of R354 million (June 2011: R347 million) was R2 710 million (June 2011: R2 474 million) (single premium APE: R537 million (June 2011: R502 million)). Single premium business is included at 10% of the value of the single premium. Policy alterations, including Discovery Retirement Optimisers added to existing Life Plans are shown in Table 5 as experience variances and not included as new business. Term extensions on existing contracts are not included as new business. (4) The annualised profit margin is the value of new business expressed as a percentage of the present value of future premiums. (5) The PruHealth value of new business at 30 June 2011 includes new business written through PruHealth Insurance Limited between August 2010 and March 2011. No new business has been written through PruHealth Insurance Limited since March 2011. (6) PruHealth new business is defined as individuals and employer groups which incepted during the reporting period. The new business annualised premium income shown above has been adjusted to exclude premiums in respect of members who join an existing employer group after the first month as well as premiums in respect of new business written during the period but only activated after 30 June 2012. There have been no changes to the definition of new business since the previous valuation. (7) PruProtect new business is defined as policies which incepted during the reporting period and which are on risk at the valuation date.
    • 27Audited results announcement and cash dividend declarations Table 8: Embedded value economic assumptions 30 June 2012 30 June 2011 Beta coefficient South Africa 0.53 0.50 United Kingdom 0.53 0.50 Equity risk premium (%) South Africa 3.50 3.50 United Kingdom 4.00 4.00 Risk discount rate (%) Health and Vitality 10.355 10.75 Life and Invest 10.355 10.75 PruHealth 4.40 6.02 PruProtect 4.40 6.02 Rand/GB Pound exchange rate Closing 12.83 10.84 Average 12.35 11.08 Medical inflation (%) South Africa 7.50 8.00 United Kingdom 7.00 7.00 Expense inflation and CPI (%) South Africa 4.50 5.00 United Kingdom – PruHealth 3.75 3.75 – PruProtect 1.60 3.70 Pre-tax investment return (%) South Africa – Cash 7.00 7.50 – Bonds 8.50 9.00 – Equity 12.00 12.50 United Kingdom – Risk free 2.26 4.02 – PruProtect asset return assumption 2.66 5.59 Dividend cover ratio 4.5 times 4.5 times Income tax rate (%) South Africa 28.00 28.00 United Kingdom 25.00% reducing to 23.00% in April 2014 26.00% reducing to 23.00% in April 2014 Projection term – Health and Vitality 20 years 20 years – Life value of in-force 40 years Not limited – Group Life 10 years 10 years – PruHealth 20 years 20 years Life and Invest mortality, morbidity and lapse and surrender assumptions were derived from internal experience, where available, augmented by reinsurance and industry information. The Health lapse assumptions were based on the results of recent experience investigations. The lapse rate for the projection term after 10 years was set above current experience. The PruHealth assumptions were derived from internal experience. Best estimate morbidity assumptions allow for the impact of management actions. The lapse rate over the short-term is assumed to be higher than the long-term expected lapse rate to allow for the impact of the current economic climate on lapses. PruProtect assumptions were derived from internal experience, where available, augmented by reinsurance, industry and Discovery group information. Renewal expense assumptions were based on the results of the latest expense and budget information. The initial expenses included in the calculation of the value of new business are the actual costs incurred excluding expenses of an exceptional or non-recurring nature. The South African investment return assumption was based on a single interest rate derived from the risk-free zero coupon government bond yield curve. Other economic assumptions were set relative to this yield. The current and
    • 28 Results and commentary projected tax position of the policyholder funds within the Life company has been taken into account in determining the net investment return assumption. The PruHealth investment return assumption was derived from the sterling swap curve. The PruProtect investment return assumption was set with reference to the expected return on matching assets (or liabilities in the case of negative reserves) held on the Prudential balance sheet. The PruProtect expense inflation assumption was set with reference to the investment return assumption. It is assumed that, for the purposes of calculating the cost of required capital, the Life and Invest required capital amount will be backed by surplus assets consisting of 100% equities and the Health, Vitality and PruHealth required capital amounts will be fully backed by cash. The PruProtect required capital amount is assumed to earn the same return as the assets backing the PruProtect policyholder liabilities. Allowance has been made for tax and investment expenses in the calculation of the cost of capital. In calculating the capital gains tax (“CGT”) liability, it is assumed that the portfolio is realised every five years. The Life and Invest cost of capital is calculated using the difference between the gross of tax equity return and the equity return net of tax and expenses. The Health and Vitality and PruHealth cost of capital is calculated using the difference between the risk discount rate and the net of tax cash return. The PruProtect cost of capital is calculated using the difference between the risk discount rate and the net of tax asset return assumption. Table 9: Embedded value sensitivity Health and Vitality R million Adjusted net worth Value of in-force Cost of capital Base 3 329 11 435 (171) Impact of: Risk discount rate +1% 3 329 10 787 (191) Risk discount rate -1% 3 329 12 154 (147) Lapses -10% 3 329 11 839 (179) Interest rates -1%(1) 3 329 11 396 (163) Equity and property market value -10% 3 251 11 435 (171) Equity and property return +1% 3 329 11 435 (171) Renewal expenses -10% 3 329 12 522 (158) Mortality and morbidity -5% 3 329 11 435 (171) Health, Vitality and PruHealth: Projection term +1 year 3 329 11 556 (172) (1) All economic assumptions were reduced by 1%. (2) The sensitivity impact on the PruProtect value of in-force includes the net of tax change in negative reserves. The following table shows the effect of using different assumptions on the value of new business. Table 10: Value of new business sensitivity Health and Vitality R million Value of new business Cost of capital Base 399 (16) Impact of: Risk discount rate +1% 361 (17) Risk discount rate -1% 440 (13) Lapses -10% 419 (16) Interest rates -1%(1) 396 (15) Equity and property return +1% 399 (16) Renewal expense -10% 466 (14) Mortality and morbidity -5% 399 (16) Health, Vitality and PruHealth: Projection term +1 year 402 (15) Acquisition costs -10% 413 (16) (1) All economic assumptions were reduced by 1%. (2) The sensitivity impact on the PruProtect value of new business includes the net of tax change in negative reserves.
    • 29Audited results announcement and cash dividend declarations Sensitivity to the embedded value assumptions The embedded value has been calculated in accordance with the Actuarial Society of South Africa’s Professional Guidance Note PGN 107: Embedded Value Reporting. The risk discount rate, calculated in accordance with the guidance note, uses the CAPM approach with specific reference to the Discovery beta coefficient. The Discovery beta coefficient reflects the historic performance of the Discovery share price relative to the market and may not allow fully for non-market related and non-financial risk. Investors may want to form their own view on an appropriate allowance for the non-financial risks which have not been modelled explicitly. The sensitivity of the embedded value and the value of new business at 30 June 2012 to changes in the risk discount rate is included in the tables below. For each sensitivity illustrated below, all other assumptions have been left unchanged. No allowance has been made for management action such as risk premium increases where future experience is worse than the base assumptions. Life and Invest PruHealth PruProtect(2) Embedded value % change Value of in-force Cost of capital Value of in-force Cost of capital Value of in-force Cost of capital 14 346 (274) 1 316 (97) 396 (34) 30 246 12 880 (240) 1 227 (128) 364 (45) 27 983 (7) 15 936 (310) 1 417 (64) 435 (22) 32 728 8 15 654 (299) 1 556 (105) 414 (38) 32 171 6 14 891 (285) 1 305 (91) 413 (34) 30 761 2 14 232 (272) 1 316 (97) 396 (34) 30 056 (1) 14 452 (271) 1 316 (97) 396 (34) 30 355 0 14 532 (269) 1 455 (98) 410 (34) 31 689 5 15 275 (272) 1 858 (98) 461 (34) 31 783 5 14 346 (274) 1 330 (98) 396 (34) 30 379 0 Life and Invest PruHealth PruProtect(2) Value of new business % change Value of new business Cost of capital Value of new business Cost of capital Value of new business Cost of capital 974 (40) 21 (9) 326 (15) 1 640 755 (35) 13 (12) 308 (20) 1 353 (17) 1 213 (45) 30 (6) 348 (10) 1 957 19 1 161 (44) 42 (10) 332 (18) 1 866 14 1 052 (42) 13 (8) 323 (16) 1 703 4 1 000 (40) 21 (9) 326 (15) 1 666 2 1 006 (39) 33 (9) 336 (15) 1 764 8 1 102 (40) 62 (9) 367 (15) 1 850 13 974 (40) 22 (9) 326 (15) 1 645 0 1 063 (40) 29 (9) 348 (15) 1 773 8
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