Aviva 2005 Annual Report Download - page 48

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Aviva plc 2005 Business review
Business review continued
Longer-term investment return
The long-term nature of much of our operations means that short-
term realised and unrealised gains and losses on general insurance
and health business are shown as an adjustment to operating
profit. We focus instead on operating profit incorporating a longer-
term investment return (LTIR). During 2005, we changed our LTIR
methodology to align the equity and property rates used in the
calculation with the rates used under EEV principles. We have also
changed the LTIR calculation for fixed interest securities to include
the amortisation of premiums or discounts arising on purchase,
thereby producing an LTIR that is equivalent to the gross
redemption yield. The change in LTIR methodology meant that
the 2004 operating profit before tax was reduced by £97 million
but there was no overall impact on the profit for the year or
shareholders’ funds. Further details are contained in note 1 on
pages 93 to 106.
Critical accounting policies and estimates
The preparation of financial statements requires us to make
estimates and assumptions that affect items reported in the
consolidated income statement, balance sheet and the disclosure
of contingent assets and liabilities. Estimates are based on
management’s current knowledge, assumptions and predictions of
future events and actions. However, actual results can always differ
from estimates, possibly significantly. Items that are particularly
susceptible to changes in estimates and assumptions include, but
are not limited to, long-term insurance reserves, general insurance
reserves and pension provisions.
Future accounting developments
We actively engage in the development of new accounting
standards, via industry forums and working parties, reviewing and
providing comment on proposals from the IASB.
The most important change in the pipeline is phase II of the IASB’s
project on insurance contracts. The timing of this project remains
uncertain, however the IASB estimate that a final standard is
unlikely to be published before 2008 at the earliest. The range of
possible outcomes is large and therefore it is too early to assess
the impact this change in accounting may have.
We support the IASB’s efforts to develop a comprehensive global
accounting standard for insurance and we are engaging with
stakeholders in Europe and the US. We are aiming for a final
standard that reflects the underlying economics of the business and
provides relevant information for investors on value added capital
adequacy and cash flow. Whilst the standard is under development
we will continue to focus on EEV as the best measure of value
added for long-term savings business.
Accounting basis of preparation
International Financial Reporting Standards (IFRS)
For the first time, our 2005 consolidated financial statements have
been prepared under IFRS, rather than under UK GAAP. The change
from UK GAAP to IFRS is driven by the European Union (EU)
requiring all European listed companies to prepare consolidated
financial statements using standards issued by the International
Accounting Standards Board (IASB) and endorsed by the EU with
effect from 1 January 2005. Where applicable, the financial
statements have also been prepared in accordance with the revised
Statement of Recommended Practice (SORP) on accounting for
insurance business issued by the Association of British Insurers
(ABI) in December 2005.
Following the successful completion of our IFRS conversion
programme, we restated our 2004 results in accordance with IFRS
and presented these to the market on 5 July 2005. The impact of
IFRS on the 2004 results was to reduce statutory operating profit
before tax by 5% to £1,766 million, increase statutory profit before
tax by 10% to £1,642 million and reduce statutory shareholders’
funds by 3% to £8,083 million. Note 1 to the financial statements
on pages 93 to 106 provides further detail on the financial
reporting impact of adopting IFRS.
We continue to believe that:
– IFRS represents a technical accounting change and
does not represent a material change to the economics of
our business
– IFRS will not impact our dividend policy
– IFRS will have no significant impact on our solvency calculations
– EEV results are unaffected by IFRS.
The financial data contained in the report and accounts has been
prepared using the group’s accounting policies under IFRS
set out on pages 78 to 86. These policies are in accordance with
standards issued by the IASB and endorsed by the EU, including
early adoption of certain standards detailed in policy A on
page 78.
European Embedded Value (EEV) basis of reporting
We present the results and financial position of our life and
related businesses on an EEV basis, in addition to the IFRS basis.
The directors’ opinion is that the EEV basis provides a more accurate
and transparent view of the performance of the life and related
operations year on year than the results presented under the IFRS
basis. The EEV methodology adopted is in accordance with the EEV
Principles introduced by the CFO Forum in May 2004, and updated
in October 2005. Under the EEV methodology, the total profit
recognised over the full lifetime is the same as under the IFRS basis
of reporting. However, the EEV basis gives a fairer indication of the
profitability of business on inception. Additionally, shareholders’
funds incorporate internally-generated additional value in-force
(AVIF) on an EEV basis, this is not the case under IFRS. The financial
statements include supplementary information on EEV reporting
on pages 200 to 221 and our incentive schemes and internal
management reporting are aligned to the EEV basis.
Other corporate information: Financial reporting