Setting new standards - Friends Life

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FINANCIAL STATEMENTS IFRS FINANCIAL STATEMENTS EEV SUPPLEMENTARY INFORMATION Notes to the consolidated accounts continued 30. Risk management objectives and policies for mitigating risks continued Concentrations of credit risk might exist where the Group has significant exposure to an individual counterparty or to a group of counterparties with similar economic characteristics that would cause their ability to meet contractual obligations to be similarly affected by changes in economic and other conditions. The Group has most of its counterparty risk within its Life & Pensions business. As noted above this is monitored by the counterparty limits contained within the Group’s investment guidelines, overlaid with regulatory requirements. F&C is exposed to a concentration of credit risk to the extent of timing differences between the recognition of income for services rendered and the timing of receipt of management fees from clients. The specific concentration of risk from clients where trade debtors and accrued income for any one client or group of connected clients is £1m or more at 31 December is as follows: 2006 2005 Amounts due from: £m £m The Achmea group 4 6 Resolution Life plc - 3 RSA plc 1 1 OEICs (management fees) 3 3 8 13 Certain derivatives are subject to a legal right of set-off. The amount disclosed in the balance sheet in respect of financial assets represents the Group’s maximum exposure to credit risk. An indication of the Group’s exposure to credit risk is the quality of the investments and counterparties with which it transacts. The Group is most exposed to credit risk on debt and other fixed income securities, derivative financial instruments, deposits with credit institutions, reinsurance arrangements and cash and cash equivalents. Debt and other fixed income securities mainly comprise government bonds and corporate bonds. Given the nature of the Group’s investments in government bonds the credit risk associated with these is considered small and the Group therefore focuses on monitoring the quality of its corporate bonds. The following table gives an indication of the level of creditworthiness of those categories of assets which are most exposed to credit risk using principally ratings prescribed by Standard & Poor’s and Moody’s. Assets held within unit-linked funds have been excluded from the table below as the credit risk on these assets is borne by the policyholders rather than the shareholders. 31 December 2006 AAA AA A BBB BB B Not rated Total £m £m £m £m £m £m £m £m Corporate bonds 2,641 1,676 2,424 652 7 7 210 7,617 Derivative financial instruments - 181 1 - - - - 182 Reinsurance assets - 85 - - - - - 85 31 December 2005 AAA AA A BBB BB B Not rated Total £m £m £m £m £m £m £m £m Corporate bonds 2,952 1,900 2,810 703 - - 276 8,641 Derivative financial instruments - 24 225 - - - - 249 Reinsurance assets - 26 157 - - - - 183 150 Friends Provident Annual Report & Accounts 2006
PARENT COMPANY ACCOUNTS ABBREVIATIONS AND DEFINITIONS Notes to the consolidated accounts continued 30. Risk management objectives and policies for mitigating risks continued For over-the-counter derivative transactions undertaken by the Group, collateral is received from the counterparty if the contract is in-themoney (ie is an asset of the Group’s and over any agreed minimum threshold). This collateral can be sold or repledged by the Group and is repayable if the contract terminates or the contract’s fair value falls. At 31 December 2006 the fair value of such collateral held was £181m (2005: £241m). No collateral received from the counterparty has been sold or repledged. In respect of deposits with credit institutions and cash and cash equivalents, Group policy is to hold cash and deposits in AAA money funds or financial institutions with a rating of above AA. (d) Liquidity risk The Group faces two key types of liquidity risk: shareholder liquidity risk (liquidity within funds managed for the benefit of shareholders, including shareholders’ interests in long-term funds) and policyholder liquidity risk (liquidity within funds managed for the benefit of policyholders). Longer-term shareholder liquidity risk will be taken on when it is deemed financially beneficial for the organisation to do so, or where the taking of this liquidity risk is in support of strategic objectives. Short-term shareholder liquidity risk is avoided due to the need to satisfy dividend expectations whilst having a limited timeframe to raise capital. Policyholder liquidity risk is not accepted, over either a short or longer-term timeframe, in all but the most extreme scenarios. The same is true for liquidity risk in F&C’s investors’ funds. The overall objective of shareholder liquidity risk management is to ensure that there is sufficient liquidity over short (up to one year) and medium time horizons to meet the needs of the business. This includes liquidity to cover, amongst other things, new business costs, planned strategic activities such as acquisitions, servicing debt and equity capital as well as working capital to fund day-to-day cash flow requirements. For policyholder funds, liquidity risk arises from a number of potential areas, including: • a short-term mismatch between assets and liabilities • having to realise assets to meet liabilities when asset values are depressed • an unexpectedly high level of lapses/surrenders. Liquidity risk is managed in the following way: • Forecasts are prepared regularly to predict required liquidity levels over both the short and medium term. • Committed third-party funding facilities are held to enable cash to be raised in a relatively short time-span. • Credit risk of cash deposits is managed by applying counterparty limits and imposing restrictions over the credit ratings of third parties with whom cash is deposited. • Assets of a suitable maturity and marketability are held to meet policyholder liabilities as they fall due. • Limits are set on the level of lower grade or speculative investments that can be held. The Group has issued fixed rate subordinated loan notes repayable in 2016, with the option of extending the term to 2026 (at a floating rate). This has provided the Group with long-term flexible funding at a fixed rate of interest. Friends Provident Annual Report & Accounts 2006 151
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INTERNATIONAL LIFE & PENSIONS ASSET
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Setting new standards - Friends Life

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