Aviva 2013 Annual Report Download - page 307

Strategic report Governance IFRS Financial statements Other information
Aviva plc
Annual report and accounts 2013
305
Shareholder information continued
There are inherent funding risks associated with our
participation in defined benefit staff pension schemes.
We operate both defined benefit and defined contribution staff
pension schemes. The defined benefit section of the UK staff
pension scheme was closed to new members from 1 April 2011,
with entry into the defined contribution sections being offered
to the staff members affected. Closure of the defined benefit
scheme will remove the volatility associated with adding future
accrual for active members.
There are inherent funding risks associated with the defined
benefit schemes. Events could result in a material reduction in
the funding position of such schemes and, in some cases, may
result in a deficit between the pension scheme’s assets and
liabilities. The factors that affect the scheme’s position include:
poor investment performance of pension fund investments;
greater life expectancy than assumed; adverse changes in
interest rates or inflation; and other events occurring that
increase the costs of past service benefit over the amounts
predicted in the actuarial assumptions. In the short term, the
funding position is inherently volatile due to movements in the
market value of assets. Where a funding deficit or surplus arises,
the position will be discussed with the scheme trustees to agree
appropriate actions. This may include a plan to fund the deficit
over a period of years. Any surplus or deficit in the defined
benefit pension scheme will affect shareholders’ equity,
although the IFRS position may diverge from the scheme
funding position.
The UK pension schemes are subject to statutory
requirements with regards to funding and other matters relating
to the administration of the schemes. Compliance with these
requirements is subject to regular review. A determination that
we have failed to comply with applicable regulations could
have an adverse impact on our results of operations or our
relationship with current and potential contributors and
employees, and result in adverse publicity.
The determination of the amount of allowances and
impairments taken on our investments is highly subjective.
Our process for valuing investments may include
methodologies, estimations and assumptions which require
judgement and could result in changes to investment
valuations. If our business does not perform well, we may
be required to recognise an impairment of our goodwill or
intangibles with indefinite and finite useful lives, which
could adversely affect our results of operations or
financial condition.
The determination of the amount of allowances and
impairments varies by investment type and is based upon our
periodic evaluation and assessment of known risks associated
with the respective asset class. Such evaluations and
assessments are revised as conditions change and new
information becomes available and additional impairments may
need to be taken or allowances provided for in the future. If the
carrying value of an investment is greater than the recoverable
amount, the carrying value is reduced through a charge to the
income statement in the period of impairment. There can be no
assurance that management has accurately assessed the level
of impairments taken and allowances reflected in our
financial statements.
We value our fair value securities using designated
methodologies, estimations and assumptions. These securities,
which are reported at fair value on the consolidated statement
of financial position, represent the majority of our total cash and
invested assets. We have categorised the measurement basis for
assets carried at fair value into a ‘fair value hierarchy’ in
accordance with the valuation inputs and consistent with IFRS
13 ‘Fair Value Measurement’. The fair value hierarchy gives the
highest priority to quoted prices in active markets for identical
assets or liabilities (Level 1); the middle priority to fair values
other than quoted prices based on observable market
information (Level 2); and the lowest priority to unobservable
inputs that reflect the assumptions that we consider market
participants would normally use (Level 3). The majority of our
financial assets are valued based on quoted market information
(Level 1) or observable market data (Level 2). At 31 December
2013, 17% of total financial investments, loans and investment
properties at fair value were classified as Level 3, amounting to
£37,171 million. Where estimates were used for inputs to Level
3 fair values, these were based on a combination of
independent third-party evidence and internally developed
models, intended to be calibrated to market observable data
where possible.
An asset or liability’s classification within the fair value
hierarchy is based on the lowest level of significant input to our
valuation.
Goodwill represents the excess of the amounts paid to
acquire subsidiaries and other businesses over the fair value of
their net assets at the date of acquisition. We test goodwill and
intangible assets with indefinite useful lives at least annually for
impairment or when circumstances or events indicate there may
be uncertainty over this value. We test intangibles with finite
lives when circumstances or events indicate there may be
uncertainty over this value. For impairment testing, goodwill
and intangibles have been allocated to cash-generating unit
by geographical reporting unit and business segment.
The fair value of the reporting unit is impacted by the
performance of the business. Goodwill, negative unallocated
divisible surplus and indefinite life intangibles are written down
for impairment where the recoverable amount is insufficient to
support our carrying value. Such write downs could have a
material adverse effect on our results of operations or financial
condition.
Systems errors or regulatory changes may affect the
calculation of unit prices or deduction of charges for unit-
linked products which may require us to compensate
customers retrospectively.
A significant proportion of our product sales are unit-linked
contracts, where product benefit are linked to the prices of
underlying unit funds. While comprehensive controls are in
place, there is a risk of error in the calculation of the prices of
these funds due to human error in data entry, IT-related issues
or other causes. Additionally, it is possible that policy charges
which are deducted from these contracts are taken incorrectly,
or the methodology is subsequently challenged by policyholders
or regulators and changed retrospectively. Any of these can give
rise to compensation payments to customers. Controls are in
place to mitigate these risks, but errors could give rise to future
liabilities. Payments due to errors or compensation may
negatively impact profit.
Moves to simplify the operating structure and activities of
the Group increase the reliance placed on core businesses and
are subject to execution risk.
As part of our move to a more simplified structure, a number
of business disposals and operational restructures have taken
place, and may continue to occur in the future. This includes the
potential sale of a number of non-core businesses. These
changes are expected to reduce the operational costs of the
Group and allow resources to be re-deployed in more capital
efficient businesses. There is a risk that these expected benefit
may not be realised. These changes may reduce operating profit
in the short-term and will lead to changes in the geographical
and product risk profile of the Group. The execution risk
including the risks relating to securing the regulatory approvals
necessary to complete our planned business disposals, could
result in the failure to achieve cost savings, the loss of key staff,
and disruption to core business activities and governance
structures which could have a material adverse effect on our
business, results of operations and financial condition.