This paper examines the information typically disclosed by Australian wealth
management businesses (“AWMs”), with a focus on the economic valuation information.
We also present the key findings from a survey of equity analysts which investigates the
approaches adopted and information used by equity analysts / professional investors in
evaluating these businesses. Finally, we compare the requirements of the European
Embedded Value Principles against the economic valuation practices typically adopted by
Table of Contents
1.2 Outline of Paper.........................................................................................................2
3 CURRENT DISCLOSURE PRACTICES.......................................................................5
3.2 Overview of AWM Disclosures...................................................................................5
3.3 Supplementary Disclosures........................................................................................6
4 THE INVESTORS’ PERSPECTIVE...............................................................................9
4.2 Equity Analysis...........................................................................................................9
4.3 Survey Background..................................................................................................10
4.4 Economic Valuation Information Is Used Extensively...............................................11
4.5 Economic Valuation Methods...................................................................................16
4.6 Disclosures Could Be Improved...............................................................................18
5 EUROPEAN EMBEDDED VALUE PRINCIPLES.......................................................21
5.2 European Embedded Value Principles.....................................................................21
5.3 Comparison of EEV Principles to AWM Practices....................................................22
New Business and Renewals........................................................................................31
Assessment of Appropriate Projection Assumptions.....................................................31
Evaluating Wealth Management Businesses - An Investors' Perspective 1
“International Financial Reporting Standards are meant to bring comparability and
transparency but in the short-term could heighten uncertainty and increase
“The [IFRS] information is just going to be used as background because a lot of the talk
is going to be about embedded value.” 2
The information provided by a listed company to the market is a key input for investors
when making buy and sell decisions about that company. Various items of information
are required due to statutory and listing requirements; additional items of information,
known as “supplementary disclosures”, are provided voluntarily by the company.
From 1 January 2005, Australian companies will commence preparing financial
statements under the new IFRS-equivalent accounting standards. This will lead to
substantial changes to published financial statements and represents an opportunity for
companies to review and consider changes to their supplementary disclosures.
The emerging view in some markets is that the introduction of IFRS will lead to a greater
need for supplementary disclosures for wealth management businesses, particularly
economic valuation information.
In light of these developments, we thought that it was now timely to review the
information currently disclosed by Australian wealth management businesses (“AWMs”),
with a focus on economic valuation information. Central to this review is a survey of ten
Australian equity analysts, to canvas their views on the current practices of AWMs in
regard to supplementary disclosures.
For convenience, we have used the term AWM in this paper to refer to the businesses
within an organisation which:
manufacture and distribute funds management and life insurance products; and
provide financial advice.
Ian Dilks, a partner at PricewaterhouseCoopers, as quoted in the Financial Times on 14 April 2005
Roman Cizdyn, insurance analyst at Oriel Securities, as quoted in the Financial Times on 14 April 2005
Evaluating Wealth Management Businesses - An Investors' Perspective 2
This is a narrower definition than the term “financial services business”, which is often
interpreted as including banking products and services and general insurance in addition
to the activities described above.
We note that different companies include different types of business in their economic
valuations, hence the definition of AWM adopted for this paper may not precisely align
with the businesses included in the economic valuations published by the companies we
consider in this paper. However, the majority of companies that publish economic
valuation information include at least their life insurance and funds management business
in the valuation.
1.2 Outline of Paper
The rest of our paper is structured as follows:
Section 2 is a summary of the paper;
Section 3 contains an overview of current disclosure practices for AWMs;
Section 4 outlines certain of the findings of our survey of equity analysts;
Section 5 discusses the recent development of a consistent economic valuation basis
in Europe; and
Section 6 contains the references.
This paper could not have been written without the input gladly provided by the equity
analysts who represented our survey respondents. Much of the survey was undertaken
during the reporting season in early 2005 and we appreciate the time made available to us
by the analysts during this busy period.
We would also like to thank our colleagues who willingly provided assistance when it
was required. In particular, we would like to acknowledge Clive Aaron and Mark Turner
who set us on our track, provided valuable input along the way and reviewed the resulting
Evaluating Wealth Management Businesses - An Investors' Perspective 3
According to the Australian equity analysts who participated in our survey, economic
valuation information is the most useful component of the information currently disclosed
by listed companies with Australian wealth management businesses (“AWMs”). Eight of
the ten analysts surveyed expect this economic valuation information to be equally if not
more important once the International Financial Reporting Standards are implemented,
which is consistent with the views that are emerging in Europe.
The analysts use the economic valuation information for a number of purposes, including
calibration of their own valuation models, identification of the drivers of shareholder
value and as the basis for a measure of intrinsic value. The analysts generally use all of
the economic valuation information disclosed by AWMs for these purposes, with the
possible exception of new business multipliers.
Despite the usefulness of the current economic valuation information, most analysts
believe there is substantial scope to improve the consistency and transparency of the
information disclosed by AWMs. Our review of current disclosure practices highlighted
considerable variation in current practices.
Areas identified by the analysts where greater disclosure and consistency between AWMs
would improve the usefulness of the economic valuations are:
the definition of new business;
details of economic valuation assumptions;
analysis of change (in respect of both existing business and new business); and
economic valuation sensitivities (in respect of both existing business and new
All of the areas identified by Australian analysts are considered important in Europe and
represent explicit disclosure requirements under the European Embedded Value
Principles (“EEV Principles”), which were recently introduced to address a number of
criticisms about embedded value reporting in the European market, including the
inconsistency of approaches across companies.
Evaluating Wealth Management Businesses - An Investors' Perspective 4
The analysts also expressed a desire for the economic valuation results to be broken down
into key product groups. Again, this is an area where there appears to be little
consistency in current AWM practices.
Most AWMs currently do not allow for the cost of target surplus in their economic
valuations. This appears contrary to the views of the Australian equity analysts, who
would prefer to see this allowed for in the published economic valuation results.
In addition to the items discussed above, the EEV Principles provide further food for
thought for the owners of AWMs regarding:
the extent to which the economic valuation includes allowance for anticipated
improvements in future experience;
the format for presenting economic valuation results;
the techniques used to allow for the costs of options and guarantees; and
the disclosure of an analysis of change in free assets.
Evaluating Wealth Management Businesses - An Investors' Perspective 5
3 CURRENT DISCLOSURE PRACTICES
To provide some context for the other sections of this paper, we have provided a brief
summary of the information currently disclosed by listed Australian companies in respect
of their AWM operations. Readers who already have a good understanding of this
information may wish to skip directly to Section 4.
The information routinely disclosed by each of these companies in respect of their AWM
operations varies significantly and is obviously dependent on the relative size of the
AWM within the overall group and the manner in which the AWM is held within the
3.2 Overview of AWM Disclosures
Based on the timing of release to the market, disclosures for AWMs can be broadly
profit announcement (including any analyst briefing presentation);
annual report; and
regulatory returns under the Life Insurance Act (“Life Insurance Act Financial
Under ASX listing rules, companies must release a profit announcement shortly after their
full-year and half-year end. These profit announcements contain summary financial
statements, and are typically accompanied by the bulk of the supplementary disclosures
that companies choose to provide to the market. These supplementary disclosures are
discussed in further detail in Section 3.3 below.
Full annual reports become available some time following the year end profit
announcement. The annual report contains extensive information, as required by
financial reporting standards, and may include life insurance specific disclosures. Many
of the financial results in the annual report are presented at a consolidated level which can
hinder analysis of specific segments of the company. We expect that the typical contents
of annual reports are well known to most readers of this paper and so have not discussed
these in further detail.
Evaluating Wealth Management Businesses - An Investors' Perspective 6
Life Insurance Act Financial Reports are typically only available at a later date again, up
to three months after the year end. These reports are generally consistent with the general
purpose financial statements contained in the annual report. The Life Insurance Act
Financial Reports include additional disclosures, and are limited to information about the
life insurance company (and its subsidiaries) only.
As a result of the timing and frequency of the various disclosures, investors tend to place
greatest emphasis and attention on the profit announcement.
We note that, in addition to the information provided by the companies themselves,
various other parties publish items of information in respect of the operations of AWMs
(for example sales and funds flow information, market share statistics and investment
returns). We have not considered this information any further, but we do note that it is
used by investors when they are researching a particular AWM.
3.3 Supplementary Disclosures
As mentioned above, the bulk of companies’ supplementary disclosures typically
accompany the profit announcement. We have reviewed the supplementary information
provided by AWMs for their 2004 full reporting year. This has not necessarily been an
exhaustive review of all data that is provided (for example, additional information may be
provided in response to questions posed during analyst briefings). However, we believe
we have covered the key items of information provided by AWMs (or their owners) to the
The content of the supplementary information varied markedly between AWMs.
Operational measures, such as adviser numbers, cost to income ratio and details of asset
mix for shareholders’ capital, were provided by some AWMs but not others. Only the
following items of supplementary information were provided by a large number of
AWMs and thus could be considered to represent typical supplementary disclosures in the
sales and funds flows during the period;
business volumes and market share information; and
economic valuation information.
Evaluating Wealth Management Businesses - An Investors' Perspective 7
The first two of these are essentially statistical measures which, while useful to investors
for their analysis, are also readily available from other public sources. We have not
sought to analyse or summarise this information further.
We have identified fourteen listed Australian companies which have business activities
that meet our definition of AWM. As far as we are aware, seven of these companies
published AWM economic valuation information in respect of the 2004 year. This
information is summarised at a high level in Table 3.1 below. Further details can be
found in Appendix D.
The AWM operations of three of the seven listed Australian companies are included in
the assets that must be “marked to market” in the financial statements at each reporting
date. Hence these companies prepare their economic valuations for a different purpose
compared to the other four companies who supply economic valuation information purely
as a supplementary disclosure.
The high level summary in Table 3.1, together with the further details in Appendix D,
demonstrates that the economic valuation disclosure practices vary markedly between
these seven AWMs.
Evaluating Wealth Management Businesses - An Investors' Perspective 8
High Level Summary of Economic Valuation Disclosures1
Information Item Summary
Economic Valuation Results Six of the seven companies provide information on the components of embedded
value and value of one year’s sales. New business multipliers and appraisal
valuations are also published for the three AWMs that are in the mark-to-market
Analysis of Change in Four of the seven companies provide an explicit analysis of change in embedded
Embedded Value value that allows all of the main items of change to be identified.
Analysis of Change in New An explicit analysis of change in the value of new business is provided by two
Business companies only.
Economic Valuation Practices regarding the publication of sensitivity information vary markedly among
Sensitivities AWMs. Three of the companies provide little or no information regarding the
sensitivity of their economic valuation results.
Geographic Segmentation of Most companies provided details of their economic valuation by major
Results region/country in which they operate. Three companies also provide analysis of
change and sensitivity information for the same geographic segments.
Product Group Segmentation Four companies provide economic valuation information for broad product
of Results groupings, however there appears to be little consistency in the product groups
adopted by each AWM. Two companies also provide analysis of change and
sensitivity information for their product groupings.
Economic Valuation Nearly all companies disclose some information regarding the assumptions used
Assumptions in the economic valuation, however there is noticeable variation in the level of
1) Data sources are listed in Section 6.
Evaluating Wealth Management Businesses - An Investors' Perspective 9
4 THE INVESTORS’ PERSPECTIVE
In this section, we set out the results of our survey of equity analysts (as representatives of
the community of investors) aimed at gathering their views on the information disclosed
to the market by AWMs. Section 4.2 contains a brief summary of the methods used by
equity analysts to research a company, to provide context for the views expressed by the
Section 4.3 provides further background about the survey. The remainder of Section 4
discusses certain of the key findings of our survey, namely that:
economic valuation information is used extensively, is regarded as the most useful
item of disclosure, and will remain important after the introduction of IFRS
the analysts would like changes in respect of the methods used to allow for new
business and target surplus in economic valuations (Section 4.5); and
the level of detail in disclosures could be improved, and made more consistent across
different AWMs (Section 4.6).
4.2 Equity Analysis
When researching a company, an equity analyst gathers an extensive amount of
information, such as financial statements, industry statistics, press releases, press reports
and investor information provided by the entity (such as analyst briefings). Using this
information, the equity analyst will then undertake a range of analyses for the purpose of
making buy, sell or hold recommendations for that security. Often not all of the
necessary information is available for a particular analysis technique, in which case the
analyst will either make assumptions, or utilise alternative techniques, or both.
A key component of the analysis undertaken will be an assessment of the intrinsic value
of the equity security. Equity analysts normally utilise a number of alternative valuation
methods for this purpose. The different valuation results are used both to crosscheck
other methods and to provide a range of values for the analyst to consider. Common
discounted cash flow valuations;
Evaluating Wealth Management Businesses - An Investors' Perspective 10
capitalisation of future maintainable earnings, using a price earnings ratio; and
asset based valuations.
A fourth method in the case of AWMs entails deriving a value based on the economic
valuation data published by the company itself. We note that, while the provision of
supplementary information is certainly not unique to AWMs, we are not aware of any
other industry where analysts routinely rely so heavily on the economic valuations
provided by the companies to the market.
It should be noted that analysts are not only concerned with an assessment of intrinsic
value of an individual company, but rather also need to consider relative measures across
companies such as whether Company A is more or less expensive relative to its intrinsic
value than Company B.
4.3 Survey Background
We surveyed 10 equity analysts from the following 9 Australian research houses:
Credit Suisse First Boston;
Deutsche Bank Australia;
Goldman Sachs JB Were;
Macquarie Equities (Australia);
Morgan Stanley; and
UBS Securities Australia.
The surveys were undertaken during February and March 2005.
Many of these research houses have separate analyst teams for insurance sector stocks
(for example AMP and AXA) and banking sector stocks (for example CBA and NAB).
The survey participants comprise representatives from both groups, although there is a
greater proportion of insurance analysts.
Evaluating Wealth Management Businesses - An Investors' Perspective 11
While the survey sought to obtain views on the content of the current financial statements
and the expected impact of IFRS implementation, the focus of the survey was on
economic valuation information provided by AWMs as this is a key component of the
supplementary disclosures. The survey covered both the disclosure of economic
valuation information and the methods used by companies to prepare this data.
Please note that the survey results have been summarised for this paper to ensure that the
views contributed by the analysts remain confidential and do not refer to specific AWMs.
A number of the survey questions requested a score out of 5. In all cases, 5 was the
highest/best score and 0 the lowest/worst score.
4.4 Economic Valuation Information Is Used Extensively
4.4.1 Economic valuations are a key item of information for analysts
Our survey asked the equity analysts to score the usefulness (for their purposes) of each
of the items of information typically disclosed in relation to an AWM. The results are
contained in Table 4.1 below.
Evaluating Wealth Management Businesses - An Investors' Perspective 12
Usefulness of Items of Information (Score out of 5)
Component: Mean Score
BASIC FINANCIAL STATEMENTS
Statements of Financial Performance, Financial Position and Cash Flows 3.2
ADDITIONAL LIFE INSURANCE SPECIFIC COMPONENTS OF FINANCIAL STATEMENTS
MoS Shareholder Profit Analysis 3.5
Components of Policy Liabilities 3.1
Solvency Position Information 2.9
Statutory Fund Segmented Financial Results 2.9
Statement of Actuarial Methods and Assumptions 2.6
Economic Valuation Information 4.0
Market Share 3.3
Adviser Numbers 3.2
Cost to Income Ratios 2.8
The results in Table 4.1 demonstrate that the equity analysts consider the economic
valuation information to be the most useful information disclosed by AWMs (for those
AWMs that disclose it). The primary reasons noted for this score were that the financial
statements do not provide sufficient information, and the nature of this business is such
that it can be difficult to forecast future profits from past operating profits.
In general, the supplementary information is considered to be more useful than the
information contained in the financial statements, highlighting the importance of
providing this additional information.
It is interesting to note that the statement of actuarial methods and assumptions was
considered by the analysts to be the least useful information provided by AWMs. Some
analysts did note that information on the changes in methods and assumptions over time
was of some use. Cost to income ratios, although used extensively in the analysis of other
Evaluating Wealth Management Businesses - An Investors' Perspective 13
industries, were given a relatively low rating by the analysts, who cited a lack of
comparability (due to inconsistencies in the definition of “income”) across AWMs for the
While economic valuations are considered to be the most useful information, the analysts
consider that their usefulness is compromised by a lack of transparency. This is
evidenced by their scoring of the transparency of the economic valuation information,
which received a relatively low mean score of 2.8 out of 5. A number of respondents
cited variations in practices between companies, the lack of detail regarding the
assumptions and methods used in the calculations and little detail regarding the drivers of
movements in value (by some AWMs) as the causes of this perceived lack of
4.4.2 Use of published economic valuation information
All of the analysts in the survey indicated that they use the published economic valuation
information to some degree to calibrate their own valuation models. The economic
valuation information is also used by nearly all of the respondents to identify the key
While one respondent indicated that they frequently adopt the published valuations
without adjustment, the remainder of analysts typically apply adjustments to the published
information when determining their value estimates. The most common adjustments were
changes to the risk discount rate and new business multipliers. These analysts consider a
range of factors when determining their adjustments and we did not identify any
particular factors that were common to the majority of respondents. However, the
following factors were mentioned:
the perceived quality of management;
the perceived integrity of the economic valuation calculations;
the consistency of approaches and assumptions with those of other AWMs; and
the extent of past variations between actual and assumed operating experience.
As might be expected, nearly all analysts prefer to receive the components of the
economic valuation (i.e. adjusted net worth, value of existing business and value of one
Evaluating Wealth Management Businesses - An Investors' Perspective 14
year’s sales) rather than receive a single appraisal value figure. This allows the analyst to
more easily apply their adjustments to the published results.
Almost all of the surveyed analysts adopt their own new business multipliers, rather than
those selected by the AWM. Whilst some analysts are interested in the AWM’s view of
the appropriate new business multipliers for its business, there appears to be more interest
in understanding the growth rates assumed by the AWM when determining these
multipliers rather than the multipliers themselves.
In addition to adopting their own new business multipliers, the surveyed analysts
indicated that they prefer to be able adjust the published economic valuations to reflect
their own assumptions for risk discount rates, future expense levels and, to a lesser extent,
This finding was consistent with the analysts’ views on the usefulness of the economic
valuation sensitivity information provided by AWMs, as economic assumptions, risk
discount rates and expense assumptions were considered to be the most useful
sensitivities as shown in Table 4.2 below. There was also some interest in the
discontinuance assumptions sensitivity. The sensitivity of the economic valuation to
Usefulness of Economic Valuation Sensitivities (Score out of 5)
Assumption: Mean Score
Economic Assumptions 4.5
Risk Discount Rates 4.5
Operating Expense Assumptions 4.2
Discontinuance Rates 3.7
Morbidity Assumptions 2.7
Mortality Assumptions 2.6
All of the analysts considered the sensitivity of the value of one year’s sales to be of equal
or greater importance than the sensitivity of the value of existing business to the same
Evaluating Wealth Management Businesses - An Investors' Perspective 15
These findings contrast to current AWM disclosure practices regarding sensitivities. As
can be seen from Table D.1 in Appendix D, only a small number of AWMs currently
provide sensitivities for all the assumptions that are rated highly by the analysts. Further,
only two AWMs provide explicit information about the sensitivity of the value of one
The analysts also make extensive use of the analysis of change information with all
survey participants indicating that they regularly use both the embedded value and value
of new business analyses of change (if provided). The analysts’ views on the usefulness
of specific components of the analysis of change are set out in Table 4.3 below. While
the current analysis of change information is considered to be useful, nearly all analysts
indicated that they would prefer more detail on the components in the analysis.
Usefulness of Components of Analysis of Change Information (Score out of 5)
Component: Mean Score
EMBEDDED VALUE ANALYSIS OF CHANGE
Expected Growth 2.4
Capital Injections and Dividend Payments 4.0
Effect of Experience Variations 4.0
Value of Actual Sales 3.9
Effect of Assumption Changes 3.9
NEW BUSINESS ANALYSIS OF CHANGE
Effect of Changes in Sales Volumes and Product Mix 4.1
Effect of Other Assumption Changes 4.0
Effect of Changes in New Business Multipliers 2.4
Again, these findings contrast to current AWM disclosure practices as only two AWMs
provide explicit new business analysis of change information and several AWMs do not
separately quantify those components of the embedded value analysis of change that were
rated highly by the analysts.
The analysts expressed some interest in seeing economic valuation results for certain
other businesses activities, such as mortgages, and possibly for all businesses in the listed
Evaluating Wealth Management Businesses - An Investors' Perspective 16
entity (i.e. including activities that are outside the AWM). However, this was not
considered to be a high priority and the key benefit from this information would be that it
would allow further benchmarking of other valuation methods against economic valuation
4.4.3 Published economic valuations will continue to be important
Australian companies will commence reporting under IFRS-equivalent standards from
1 January 2005. We asked the analysts whether these financial statements themselves
(i.e. without the supplementary information) were expected to be adequate for their
purposes. Two analysts answered in the affirmative. Five of the analysts indicated that
they were unsure and many of these felt that AWMs had not yet sufficiently explained
how their financial statements will change under IFRS. The other three analysts all stated
that they expected the IFRS financial statements to be inadequate for their purposes.
For this reason, eight out of ten analysts expect the need for published economic
valuations to be of equal or greater importance under IFRS. Many of the analysts noted
that economic valuations provide continuity during a period of change in the financial
reporting regime. Only one analyst had the opposite view, believing that published
economic valuations would become less important over time. This analyst considers that
the IFRS changes will improve the comparability of AWM financial statements to other
businesses, allowing greater weight to be placed on alternative valuation methods.
Nearly all of the analysts surveyed indicated that they expect to continue to use the Life
Insurance Act Financial Reports, which in the short term will be unchanged, after
reporting commences under the IFRS-equivalent standards. The Life Insurance Act
Financial Reports will also provide continuity for the analysts while they assess and
develop an understanding of the information provided under the IFRS-equivalent
4.5 Economic Valuation Methods
4.5.1 Disclosure of new business basis is important
We asked the analysts their views on the methods for allowing for new business in
economic valuations. Nearly all of the analysts stated that they believe new business is
treated inconsistently by the different AWMs in their economic valuations. We note that
Evaluating Wealth Management Businesses - An Investors' Perspective 17
the AWMs’ current disclosures rarely include detail on the definition of new business
adopted for the economic valuations.
Overall, there was no clear preference for the value of one year’s sales to be based upon
last year’s actual sales or next year’s budgeted sales, although many individual analysts
had strong preferences one way or the other. Reasons noted by those that favoured recent
actual sales were the ability to reconcile the data with published sales information and
concerns that budgeted sales can be manipulated. Those that favoured budgeted sales
noted the importance of disclosing the assumed new business volumes where this
approach is used.
The survey asked the analysts to state whether they believed certain items should be
included in the value of new business or in the value of existing business. The results
tended to support the definition of new business described in Section 4.1.2 of GN 252
“Economic Valuations of Life Insurance Business” issued by the Institute of Actuaries of
Australia (“IAAust), where new business is defined as acquired business that has required
effort or action from the AWM’s sales force. Some analysts had no particular preferences
as to the definition of new business, provided the basis adopted is disclosed.
Overall, while the analysts considered new business to be a source of inconsistency, there
was little consensus from the survey participants as to the appropriate methods to be
adopted. As such, we believe the key finding from this part of the survey is that it is
important for AWMs to provide adequate disclosure as to their particular treatment of
new business in their economic valuation.
4.5.2 Economic valuations should allow for internal capital targets
Our understanding is that most AWMs do not allow for the cost of target surplus (i.e.
capital held in excess of regulatory capital requirements) when determining published
economic valuations. This is opposite to the views expressed by the analysts, as eight out
of the ten analysts surveyed were of the view that an AWM’s economic valuation should
allow for the cost of target surplus to the extent that it is effectively “locked-in”.
4.5.3 Risk discount rates and risk allowance methods
The survey addressed the topic of how analysts determine risk discount rates for AWMs
and their preferred methods to allow for risk in economic valuations.
Evaluating Wealth Management Businesses - An Investors' Perspective 18
Most of the respondents stated that they use a CAPM approach to determine an
appropriate discount rate for AWMs. The analyst that does not use a CAPM approach
uses a fixed hurdle rate as the risk discount rate for AWMs. All of the analysts in the
survey use the 10-year Commonwealth Government Bond as the basis for the risk free
rate, although half use a smoothed or averaged rate rather than the spot rate at the
The assumed market risk premium varies between the analysts in the range of 4% to 6%,
with an average of approximately 5.1%. There do not appear to be any particular
methods or factors that are used consistently by the analysts to vary risk discount rates
between different AWMs.
The majority of the analysts stated that they believed that risk discount rates should vary
by product line to reflect the different risks inherent in the different product lines.
However, the analysts were divided when asked if they were comfortable with allowing
for risk via the use of a single risk discount rate applied to the best estimate projection of
cash flows as per the traditional economic valuation approach (six analysts indicated they
were comfortable with this approach). The benefits of a single risk discount rate appear
to be related to the simpler presentation of results and ease of use in calibrating the
analysts’ own valuation models.
There was some support for market-consistent valuation techniques as an approach for
allowing for the risks in the business and in each product line, however analysts who
favoured these techniques would also like to continue to receive traditional economic
valuation results at this stage.
4.6 Disclosures Could Be Improved
4.6.1 Greater disclosure
The surveyed analysts indicated a number of different areas where additional disclosure
would assist them in their analysis.
Whilst nearly all of the analysts requested additional details in one or more areas, it
should be noted that several analysts also mentioned that too much information can be
counter productive due to the time required to digest the additional data.
Only one of the analysts surveyed indicated that AWMs provide sufficient detail
regarding the assumptions used in the economic valuation. A common criticism was that
Evaluating Wealth Management Businesses - An Investors' Perspective 19
the assumptions are too “bundled” to provide meaningful information for external users.
We also note that our review of current disclosures showed that there was considerable
variation in the level of detail provided by AWMs regarding their economic valuation
As mentioned earlier, nearly all of the survey respondents stated that they would like
more detail regarding the analysis of change in the economic valuation. The most popular
requests were for more details on the basis for assumption changes and the causes of
experience variations, and for more details at the product group level, including the
impact of changes in product mix on the value of one year’s sales. There was also
support for the analysis of change information to be split between the major geographic
regions in which the AWM operates, if the AWM does not already provide this.
A small number of analysts expressed the view that, in their opinion, there are instances
where some best estimate assumptions have not been updated to incorporate all known
information at the valuation date. They cited examples of recurring experience profits or
losses as the basis for this opinion. This highlights the need for AWMs to explain the
basis for their assumptions and the sources of emerging experience profits from period to
The majority of analysts thought that the AWMs provide sufficient detail regarding the
geographic segmentation of the economic valuation. This is consistent with the summary
of current economic valuation disclosures in Section 3, where it can be seen that nearly all
of the AWMs provide economic valuation information separately for each major
region/country in which they operate.
However, nine out of the ten analysts surveyed stated that they would like more details of
results by broad product group. In their view, the product groupings currently utilised
often result in products with different value characteristics being grouped together (such
as group risk and individual risk). The inconsistencies in AWM practices regarding the
product level segmentation of results can be seen in Table D.1 in Appendix D.
There did not appear to be a strong consensus amongst the analysts as to the appropriate
level of product groupings and some analysts noted that detailed product results are
highly dependent on the assumption setting processes, especially the expense allocation.
Evaluating Wealth Management Businesses - An Investors' Perspective 20
We also asked the analysts whether they would be interested in seeing a split of the total
economic valuation across the key segments of the value chain. While there was some
support for such analysis (seven analysts indicated interest) it was not rated as a high
priority and several analysts noted that additional product group details would be more
useful in the short term.
One analyst also commented that he would like AWMs to provide a better explanation of
the relationship of margin on services profit and policy liabilities to the economic
valuation, especially where the value of future profits is disclosed as a policy liability
4.6.2 Need for greater standardisation across AWMs
All except two of the analysts responded that they believed that there was a need for
greater standardisation in the methods used by AWMs in preparing their economic
valuations. Standardised disclosures in particular appeared to be of high priority amongst
those who responded in the affirmative. While the analysts would like consistent methods
to be used among AWMs it is difficult for them to identify inconsistencies from published
information. One analyst commented that it would be better for the industry to be pre-
emptive in this area rather than wait for the market to lose faith in the numbers.
Just over half of the respondents were aware of the IAAust economic valuation guidance
notes, GN 552 “Economic Valuations” and GN 252 “Economic Valuations of Life
Insurance Business”. However, these respondents did not appear to have strong views as
to the appropriateness (or otherwise) of the guidance provided. We note that the IAAust
guidance notes were not written with public disclosure in mind, and so are not necessarily
appropriate for companies to adopt as a basis for external reporting. Also, none of the
economic valuations disclosed to the market make any reference to the IAAust guidance
Evaluating Wealth Management Businesses - An Investors' Perspective 21
5 EUROPEAN EMBEDDED VALUE PRINCIPLES
One of the key findings of the survey was a need for standardisation in economic value
methodology and reporting, and we thought that it would be useful to consider how the
Australian market compared to overseas markets in this regard.
While economic valuation information is provided by some companies in North America
and Asia, the practice is relatively new in these regions. External reporting of economic
values has a much longer history in Europe, and in the UK in particular. In the recent
past, the European investment community lost faith in the economic valuations published
by companies, with stock prices trading at significant discounts to published embedded
values. This prompted companies to review the methodology and reporting formats for
economic values, and ultimately led to the adoption of a set of European Embedded Value
Principles (“EEV Principles”) by a number of companies.
We have compared the requirements of the EEV Principles (including the associated
guidance) against the practices typically adopted by AWMs. Based on this comparison,
we have identified five areas where the approach adopted by the typical AWM may differ
from that required under the EEV Principles, namely:
allowance for favourable future assumption changes;
cost of options and guarantees;
definitions of new business and renewals;
format of results; and
We expand on each on these in Section 5.3 below.
5.2 European Embedded Value Principles
The EEV Principles were released in May 2004 after being developed by the CFO Forum,
a group of Chief Financial Officers from 19 major European insurance companies. A list
of these companies can be found in Appendix A.
Evaluating Wealth Management Businesses - An Investors' Perspective 22
The CFO Forum agreed to adopt the principles they developed for calculating the
embedded values that are included in their companies’ supplementary financial reporting
with effect from the end of 2005. The EEV Principles are seen as an important step
towards improving the consistency and transparency of life insurance reporting, as:
there is no other international guidance in place for embedded value-based reporting;
embedded values are used by most large European financial services companies both
for external financial reporting and as an internal management tool;
analysts of European life insurance companies focus strongly on embedded value
practices for calculation and disclosure of embedded values were diverse among
companies and countries; and
previous embedded value methods had been the subject of criticisms by analysts,
particularly in relation to inadequate allowance for the costs of options and
guarantees, and these criticisms needed to be addressed.
There are 12 key principles and 65 related areas of guidance. The CFO Forum has also
produced a “Basis for Conclusions” document which provides commentary on the EEV
Principles. Companies will be expected to confirm they fully comply with the EEV
Principles, or give reasons for any non-compliance.
The EEV Principles provide an excellent summary of the expected practices of European
insurers regarding the calculation and disclosure of economic valuations once the IFRS
It is worth emphasising that the EEV Principles were not developed by any actuarial or
accounting professional body, or by any regulator, but rather by the member companies of
the CFO Forum themselves.
A summary of the EEV Principles can be found in Appendix B.
5.3 Comparison of EEV Principles to AWM Practices
Much of the calculation methodology contained in the EEV Principles is covered
explicitly or implicitly in the economic valuation guidance notes issued by the IAAust.
Evaluating Wealth Management Businesses - An Investors' Perspective 23
As such, many aspects of the typical AWM’s economic valuation methodology could be
considered to be consistent with the EEV Principles. The following aspects of the EEV
Principles warrant further discussion.
(a) Allowance for favourable future assumption changes
Some AWMs utilise projected (budgeted) expense levels when preparing their economic
valuations. This can result in projected unit costs being below their current levels. This
may be inconsistent with the EEV Principle 9.
Principle 9 states that changes in future experience should only be allowed for when
sufficient evidence exists and the changes are reasonably certain. Guidance paragraph 9.4
elaborates, stating that “favourable changes in productivity gains should not normally be
included beyond what has been achieved by the end of the reporting period”.
Guidance paragraph 9.4 does note that there are some circumstances, such as a start-up
operation, where such allowance may be appropriate. However Principle 9 generally does
not appear to support allowance for future operational improvements in the embedded
value assumptions and the associated guidance can require additional disclosure when
such improvements are taken into account as per the following:
“the extent to which changes in unit costs have been anticipated should be separately
“any exceptional development costs excluded from the unit cost base should be
(b) Cost of options and guarantees
The cost of options and guarantees are discussed at length in the EEV Principles in
Principle 7, the associated guidance, and the “Basis for Conclusions”, including specific
reference to stochastic techniques. This cost is often a significant item for European life
insurers. The explicit costing of options and guarantees represents a major change in
European practices and it was designed to address one of the key criticisms of the
AWMs generally do not include any explicit allowance for the cost of options and
guarantees in their economic valuations, instead these items have been allowed for
implicitly through the risk discount rate. This is an area where Australian practice
Evaluating Wealth Management Businesses - An Investors' Perspective 24
appears inconsistent with the EEV Principles, however it should be noted that these costs
are not currently expected to be as significant for Australian life insurers as they have
been for their European counterparts, and the cost may not be regarded as material for
(c) New business and renewals
Although the EEV Principles are primarily concerned with embedded value calculations,
they include discussion (in Principle 8) of the definition of new business to encourage a
consistent split of value between existing business and new business. This is an area
where we have also observed divergent practices in economic valuations undertaken in
the Australian market.
Guidance paragraph 8.2 discusses renewal premiums and new business and it provides the
following items as evidence that a premium represents new business:
a new contract has been signed;
underwriting has been performed;
new policy or policyholder details have been entered into the administration system;
incremental remuneration has become due to the distributor/salesperson; or
the pricing basis for that premium allows for the full cost of marketing and
Guidance paragraph 8.3 provides further discussion of renewal premiums and it states that
renewals should include the expected levels of:
contractual renewal premiums, including contractual variations in premiums;
non-contractual variations in premiums where these are reasonably predictable (for
example premium increases due to price inflation); and
recurrent single premiums where the level of premium is pre-defined and reasonably
Principle 9 notes that other methods of distinguishing between new and existing business
are allowable, but these should be explicitly defined in the disclosures.
Evaluating Wealth Management Businesses - An Investors' Perspective 25
The definition of new business contemplated by the EEV Principles seems broadly
consistent with the definition of new business suggested in paragraph 4.1.2 of GN 252
(and the views of Australian equity analysts), with the possible exception of recurrent
While the IAAust’s economic valuation guidance notes require considerable
documentation to be maintained, this is does not have any bearing on external reporting
disclosures by companies. Current AWM disclosures vary significantly across
companies, and it is clear from the survey responses that greater consistency and detail
would be welcome.
(a) Format of results
EEV Principle 3 defines the embedded value using a format of components which differs
from that typically used by AWMs. The difference is in the presentation of the value of
locked-in (required) capital. The following example illustrates the difference between the
two formats. The EEV Principles do permit alternative presentations (such as that
typically adopted by AWMs).
Components of Embedded Value
EEV Principles Presentation Typical AWM Presentation
Free Surplus 20 Adjusted Net Worth 20
Required Capital 30
Total Net Assets (as per Balance Sheet) 50
Less Cost of Capital (10) Value of Existing Business (includes value 40
of release of required capital margins)
Present Value of Shareholder Cash Flows 20
TOTAL EMBEDDED VALUE 60 TOTAL EMBEDDED VALUE 60
(b) Additional disclosure requirements
EEV Principle 12 contains the disclosure requirements regarding published embedded
values. These require more extensive disclosure than that provided by the typical AWM
Evaluating Wealth Management Businesses - An Investors' Perspective 26
in a number of areas. Particular items that companies are required to disclose under the
EEV Principles include:
the definition of new business that has been adopted;
a reconciliation of the sales volumes used for the valuation of sales in the period to
published sales volumes (the EEV Principles apply for embedded value calculations,
however, the value of sales in the reporting period is needed for the analysis of change
and the EEV Principles also apply when calculating this value of sales);
the extent to which productivity gains have been included in the projection of future
the techniques used to value their financial options and guarantees;
the analysis of change in value (the format of the analysis of change suggested in the
EEV Principles, which is more detailed than that used by AWMs, can be found in
Appendix C); and
an analysis of the change in free surplus, in addition to the analysis of change
Evaluating Wealth Management Businesses - An Investors' Perspective 27
The published information used to compile the summaries of the current disclosure
practices of AWMs (contained in Section 3 and Appendix D of this paper) is listed in
Table 6.1 below. These documents can be obtained from the companies’ websites.
References for the 2004 Financial Year
AMP - Full Annual Report 2004
- Investor Report Full Year 2004
- Annual Results 2004 Presentation
ANZ - 2004 Annual Report
- 2004 Financial Report
- 2004 Financial Results Dividend Announcement and Appendix 4E
- 2004 Annual Roadshow
AXA - Financial Report for the Year Ended 31 December 2004
- Investor Compendium for the 12 Months Ended 31 December 2004
Challenger - Annual Report 2004
- Full-year Results to 30 June 2004 Presentation
CBA - Annual Report 2004
- Profit Announcement for the Full Year Ended 30 June 2004
IOOF - Annual Report 2004
- Appendix 4E Preliminary Financial Report Given to the ASX Under Listing Rule 4.3A
(Financial Year Ended 30 June 2004)
Macquarie - 2004 Annual Review
- 2004 Financial Report
- Result Announcement Year Ended 31 March 2004
NAB - Annual Financial Report 2004
- Full Year Results 2004
Perpetual - Annual Report 2004
- 2004 Annual Results Analyst Briefing
Promina - Full Year Financial Results for the Period Ended 31 December 2004
St George - Full Financial Report 2004
- Appendix 4E Profit Announcement for the year ended 30 September 2004
Suncorp - Announcement of Consolidated Financial Results for the Year Ended 30 June 2004
- 2004 Full Year Results Presentation
Tower - Annual Report 2004
- Financial Statements 2004 for the Year Ended 30 September 2004
- Investor Report Year Ended 30 September 2004 Financial Results
Westpac - Concise Annual Report 2004
- Profit Announcement for the Year Ended 30 September 2004
Evaluating Wealth Management Businesses - An Investors' Perspective 28
CFO Forum (2004) “European Embedded Value Principles”
CFO Forum (2004) “Basis for Conclusions European Embedded Value Principles”
These two documents can be found at http://www.cfoforum.nl/.
Tillinghast (2004) “European Embedded Values – A Significant Step Forward”
This document can be found at http://www.towersperrin.com/tillinghast/default.htm.
Evaluating Wealth Management Businesses - An Investors' Perspective 29
APPENDIX A -CFO FORUM MEMBERS
The CFO Forum is a group of Chief Financial Officers from the following 19 major
European insurance companies.
Assicurazioni Generali S.P.A.
Försäkrings AB Skandia
Hannover Rueckversicherung AG
ING Groep N.V.
Legal & General Group plc
Old Mutual plc
Prudential Assurance Company plc
Scottish Widows Group
The Standard Life Assurance Company
Swiss Reinsurance Company
Swiss Life Group
Zurich Financial Services Group
Evaluating Wealth Management Businesses - An Investors' Perspective 30
APPENDIX B -SUMMARY OF EEV PRINCIPLES
Principle 1: Embedded Value (“EV”) is a measure of the consolidated value of
shareholders’ interests in the covered business.
Principle 2: The business covered by the EV Methodology should be clearly identified
Principle 3: EV is the present value of shareholders’ interests in the earnings
distributable from assets allocated to the covered business after sufficient allowance for
the aggregate risks in the covered business. The EV consists of the following
free surplus allocated to the covered business;
required capital, less the cost of holding required capital; and
present value of future shareholder cash flows from in-force covered business (PVIF).
The value of future new business is excluded from the EV.
Principle 4: The free surplus is the market value of any capital and surplus allocated to,
but not required to support, the in-force covered business at the valuation date.
Principle 5: Required capital should include any amount of assets attributed to the
covered business over and above that required to back liabilities for covered business
whose distribution to shareholders is restricted. The EV should allow for the cost of
holding the required capital.
Principle 6: The value of future cash flows from in-force covered business is the
present value of future shareholder cash flows projected to emerge from the assets
backing liabilities of the in-force covered business (“PVIF”). This value is reduced by the
value of financial options and guarantees as defined in Principle 7.
Principle 7: Allowance must be made in the EV for the potential impact on future
shareholder cash flows of all financial options and guarantees within the in-force covered
Evaluating Wealth Management Businesses - An Investors' Perspective 31
business. This allowance must include the time value of financial options and guarantees
based on stochastic techniques consistent with the methodology and assumptions used in
the underlying EV.
New Business and Renewals
Principle 8: New business is defined as that arising from the sale of new contracts
during the reporting period. The value of new business includes the value of expected
renewals on those new contracts and expected future contractual alterations to those new
contracts. The EV should only reflect in-force business, which excludes future new
Assessment of Appropriate Projection Assumptions
Principle 9: The assessment of appropriate assumptions for future experience should
have regard to past, current and expected future experience and to any other relevant data.
Changes in future experience should be allowed for in the value of in-force when
sufficient evidence exists and the changes are reasonably certain. The assumptions
should be actively reviewed.
Principle 10: Economic assumptions must be internally consistent and should be
consistent with observable, reliable market data. No smoothing of market or account
balance values, unrealised gains or investment return is permitted.
Principle 11: For participating business the method must make assumptions about future
bonus rates and the determination of profit allocation between policyholders and
shareholders. These assumptions should be made on a basis consistent with the projection
assumptions, established company practice and local market practice.
Principle 12: EV results should be disclosed at consolidated group level using a business
classification consistent with the primary statements.
Evaluating Wealth Management Businesses - An Investors' Perspective 32
APPENDIX C -EEV ANALYSIS OF CHANGE FORMAT
Guidance paragraph 12.4 of the EEV Principles includes a list of suggested items to be
included in the analysis of change in embedded value. These items are as follows:
New business contribution
Return on in-force business
Expected return (the expected transfer from value of in-force business to net worth)
Operating assumption changes
Expected return on free surplus
Operating return before [after] tax and [before] exceptional items
Investment return variances
Effect of currency movements
Effect of economic assumption changes
Return on EV before [after] tax *
Attributed tax *
Return on EV after [before] tax *
* Note: The EEV Principles recognise that some companies may choose to present the
analysis on an after-tax basis rather than deducting tax at the end.
Evaluating Wealth Management Businesses - An Investors' Perspective 33
APPENDIX D -FURTHER DETAILS OF CURRENT
The following listed Australian companies have business activities that meet our
definition of AWM:
AMP Limited (“AMP”);
Australia and New Zealand Banking Group Limited, through a joint venture with ING
AXA Asia Pacific Holdings Limited (“AXA”);
Challenger Financial Services Group Limited (“Challenger”);
Commonwealth Bank of Australia Limited (“CBA”);
IOOF Holdings Limited (“IOOF”);
Macquarie Bank Limited (“Macquarie”)
National Australia Bank Limited (“NAB”);
Perpetual Trustees Australia Limited (“Perpetual”);
Promina Group Limited (“Promina”);
St George Bank Limited (“St George”);
Suncorp-Metway Ltd (“Suncorp”);
Tower Limited (“Tower”); and
Westpac Banking Corporation Limited (“Westpac”).
Each of these companies offers funds management products, and all except Perpetual
have life insurance subsidiaries.
We have reviewed the supplementary information provided by AWMs for their 2004 full
reporting year (for example we examined AMP’s and AXA’s disclosures for the year
ending 31 December 2004 and Tower’s disclosures for the year ending 30 September
2004). The economic valuation information published by companies in respect of their
AWM operations for the 2004 year is summarised in Table D.1 below.
Evaluating Wealth Management Businesses - An Investors' Perspective 34
As far as we are aware, economic valuation information is not published for the AWM
operations of ANZ, Challenger, IOOF, Macquarie, Perpetual, Promina and St George; and
hence these companies do not feature in the table below.
For three of the companies in Table D.1 (CBA, NAB and Tower) the economic valuations
have been provided as the AWM operations are required to be “marked to market” in the
financial statements at the reporting date. These three companies have a different form of
disclosure, in particular they provide a full appraisal valuation rather than just the
components of economic value, compared to the other four companies who supply
economic valuation information purely as a supplementary disclosure.
We note that different companies include different types of business in their economic
valuations, hence the definition of AWM adopted for this paper may not precisely align
with the businesses included in the economic valuations published by each of these
companies. However, the majority of the companies include at least their life insurance
and funds management business in the valuation.
Evaluating Wealth Management Businesses - An Investors' Perspective 35
Summary of Economic Valuation Disclosures 1
Company AMP AXA Suncorp Westpac CBA NAB Tower
Reporting Date 31/12/2004 31/12/2004 30/6/2004 30/9/2004 30/6/2004 30/9/2004 30/9/2004
Mark-to-Market Requirement N N N N Y Y Y
Components of Economic Valuation
Adjusted Net Worth Y Y N Y Y Y Y
Value of Existing Business Y Y N Y Y Y Y
Embedded Value (“EV”) Y N2 Y Y Y Y Y
Value of One Year’s Sales (“VOYS”) Y Y N Y N2 N2 Y
Value of Future New Business N N N N Y Y Y
New Business Multiplier(s) N N N N Y Y N2
Appraisal Value N N N N Y Y Y
Analysis of Change in Embedded Value
Expected Growth Y Y N Y N N3 Y
Capital Movements, Dividends and Y Y N Y Y Y3 Y
Value of Actual Sales Y Y N Y N N3 Y
Effect of Assumptions Changes Y Y N Y N N3 Y
Effect of Experience Variations Y Y N Y N N3 Y
Evaluating Wealth Management Businesses - An Investors' Perspective 36
Summary of Economic Valuation Disclosures 1
Company AMP AXA Suncorp Westpac CBA NAB Tower
Analysis of Change in Value of One Year’s Sales
Analysis disclosed Y N N N N N3 Y
Economic Valuation Sensitivities4
Discount Rate Both Both EB Both N N AV
Economic Assumptions Both EB N Both N N AV
Operating Expenses Both EB N Both N N AV
Discontinuance Rates Both EB N Both N N AV
Mortality N EB N Both N N N
Morbidity N EB N Both N N N
Equity Index Values EB N N N N N N
Sales Volumes NB N N N N N N
Geographic Segmentation of Results
EV & VOYS/VFNB Aus / NZ Aus & NZ / HK / N/A N Aus / NZ / Asia Aus / NZ / Asia / Aus / NZ
SE Asia Europe
Analyses of Change Aus / NZ Aus & NZ / HK / N/A N N N Aus / NZ
SE Asia (EB only)
Sensitivities Aus / NZ Aus & NZ / HK / N/A N N N Aus / NZ
Evaluating Wealth Management Businesses - An Investors' Perspective 37
Summary of Economic Valuation Disclosures 1
Company AMP AXA Suncorp Westpac CBA NAB Tower
Product Group Segmentation of Results5
EV & VOYS/VFNB Contemporary / Protection / Wealth N N Funds Investments / N
Mature Management / Life Insurance / Other
Analyses of Change Contemporary / N N N N N N
Sensitivities Contemporary / Protection / Wealth N N N N N
Economic Valuation Assumptions
Nearly all companies disclose basic information regarding the assumptions used in the economic valuation. Some companies provide further detail including details of the main assumption
changes since the previous valuation. There is noticeable variation in the level of detail provided.
1) The data sources for this information can be found in Section 6.
2) This data is not explicitly provided, however, these items can be determined implicitly from the other published results.
3) NAB publishes an analysis of change in appraisal value. Some of the items in the analysis are also provided for the embedded value and value of future new business. The analysis
includes the expected appraisal value growth and the combined effect of assumption changes and experience variations.
4) EB = Value of existing business only, NB = Value of new business, Both = Both value of existing and new business, AV = appraisal value and N = not disclosed
5) We have used the same terminology to describe the product groupings as used by each particular AWM. Readers should refer to the AWM for details of the business included in each