Metropolitan Holdings Limited Group accounting policies used in preparation of the restated financial information under International Financial

Transcription

1 Metropolitan Holdings Limited Group accounting policies used in preparation of the restated financial information under International Financial Reporting Standards (IFRS) and the interim results for the six months ended 30 June August

2 GROUP ACCOUNTING POLICIES BASIS OF PREPARATION OF THE STATEMENTS WITH RESPECT TO THE TRANSITION TO INTERNATIONAL FINANCIAL REPORTING STANDARDS The financial statements, as set out above, have been prepared in accordance with International Financial Reporting Standards (IFRS) and International Financial Reporting Interpretations Committee (IFRIC) interpretations issued and effective at the time of preparing these statements. These statements have been prepared under the historical cost convention, as modified by the revaluation of owner-occupied properties, investment property, and financial assets and liabilities. International Financial Reporting Standard 1 (IFRS1) First-time adoption of IFRS has been applied to establish the financial position and results of operations of the group necessary to provide the comparative financial information for inclusion in the group s first set of IFRS financial statements for the year ended 31 December The group has made use of the exemptions available under IFRS1 to apply IAS32 Financial instruments: disclosure and presentation, IAS39 (revised) Financial instruments: recognition and measurement and IFRS4 Insurance contracts only from 1 January The accounting policies applied to financial instruments and insurance contracts for the statements disclosed above remain unchanged from those applied at 31 December The policies adopted for 2005 are disclosed separately below. The preparation of financial statements in accordance with IFRS requires the use of certain critical accounting estimates. It also requires management to exercise judgement in the process of applying the group s accounting policies. There are areas involving a higher degree of judgement or complexity, or areas where assumptions and estimates are significant to the consolidated financial statements. These judgements, assumptions and estimates will be disclosed in detail in the annual financial statements. CONSOLIDATION Subsidiaries Subsidiaries and staff share scheme trusts are consolidated from the date on which effective control is transferred to the group, and are no longer consolidated from the date that control ceases. All subsidiaries and trusts have financial years ending on 31 December and are consolidated to that date. The accounting policies for subsidiaries are consistent, in all material respects, with the policies adopted by the group. Separate disclosure is made of minority interests. All inter-group balances and unrealised surpluses and deficits on transactions between group companies are eliminated. Associates Investments in associates are accounted for using the equity method of accounting. The equity method is discontinued from the date that the group ceases to have significant influence over the associate. Under this method, the group s share of the post-acquisition profits or losses of associates has been recognised in the income statement and its share of post-acquisition movements in reserves has been recognised in reserves. The cumulative post acquisition movements are adjusted against the cost of the investments. Profits and losses resulting from transactions between group companies are recognised in the group s results to the extent of the group s unrelated interests in the associates. 2

3 SUBSIDIARY COMPANIES Subsidiaries are those entities in which the group, directly or indirectly, has an interest of more than one half of the voting rights, or otherwise has power to exercise control over the financial policies and operations. The purchase method of accounting is used to account for the acquisition of subsidiaries. The cost of an acquisition is measured as the fair value of the assets given up, shares issued or liabilities incurred at the date of acquisition plus costs directly attributable to the acquisition. The excess of the cost of acquisition over the fair value of the net assets acquired is recorded as goodwill. ASSOCIATED COMPANIES An associated company is one over which the group exercises significant influence, but not control, and which it intends to hold as a long-term investment on behalf of shareholders or policyholders. Investments in associated companies are stated at cost, including goodwill net of accumulated, amortisation and the carrying amount is increased or decreased with the group s proportionate share of post-acquisition profits or losses, using the equity method of accounting. Impairment Under the equity method, the carrying value is tested for impairment at reporting dates by comparing the recoverable amount with the carrying amount. When the group s share of losses in an associate equals or exceeds its interest in the associate, no further losses are recognised, unless the company has incurred obligations or made payments on behalf of the associate. RELATED PARTIES A party is related when it is a subsidiary, an associated company or a trust through a direct or indirect holding. A party is also related if the party is a member of the key management personnel of the entity or its parent. FOREIGN CURRENCIES Functional and presentation currency Items included in the financial statements of each entity in the group are measured using the currency that best reflects the economic substance of the underlying events and circumstances relevant to the entity ( the functional currency ). The consolidated financial statements are presented in South African rand ( the presentation currency ), which is the functional currency of the parent. Transactions and balances Transactions in foreign currencies are translated into the functional currency using the exchange rates prevailing at the dates of the transactions. Foreign exchange gains and losses resulting from the settlement of such transactions and from the translation at year-end exchange rates of monetary assets and liabilities denominated in foreign currencies are recognised in the income statement. Translation differences on non-monetary assets, measured at fair value through income, are recognised as part of their fair value gain or loss. Translation differences on non-monetary items, such as availablefor-sale financial assets, are included in the fair value reserve in equity. Subsidiary undertakings Foreign entities are entities of the group that have a functional currency different from the presentation currency. Assets and liabilities of these entities are translated into the presentation currency at the rates 3

4 of exchange ruling at the reporting date. Income and expenditure are translated into the presentation currency at the average rate of exchange for the year. Exchange differences arising from the translation of the net investment in foreign entities are recognised in the foreign currency translation reserve in equity. On disposal, such exchange differences are recognised in the income statement as part of realised gains and losses. Goodwill and fair value adjustments arising on the acquisition of a foreign entity are treated as assets and liabilities of the foreign entity and translated at the closing rate. PROPERTY, PLANT AND EQUIPMENT Owner-occupied properties Owner-occupied properties are held for use in the supply of services or for administrative purposes. Properties occupied more than 10% by the group are classified as owner-occupied. Owner-occupied properties are stated at revalued amounts, being fair value reflective of market conditions at the reporting date less subsequent accumulated depreciation and accumulated impairment losses. Fair value is determined as being the present value of net rental income, discounted for the different types of properties at the market rates applicable at the reporting date. Selected properties are valued externally, in a three-year cycle, to confirm the fair value of the portfolio. Increases in the carrying amount arising on revaluation of buildings are credited to a land and building revaluation reserve in equity. Decreases that offset previous increases in respect of the same asset are charged against the revaluation reserve, and all other decreases are charged to the income statement. Depreciation The buildings of owner-occupied properties are depreciated over 50 years on the straight-line basis to allocate their revalued amounts to the residual values over their estimated useful lives. Land is not depreciated. The residual values are reviewed at each reporting date and adjusted if appropriate. Accumulated depreciation relating to these properties is eliminated against the gross carrying amount of the properties and the net amount is restated to the revalued amount. Subsequent depreciation charges are adjusted based on the revalued amount for each property. Any difference between the depreciation charge on the revalued amount and the amount which would have been charged under historic cost is transferred, net of any related deferred tax, between the revaluation reserve and retained earnings as the property is utilised. Shadow accounting Shadow accounting is permitted if there is a contractual link between payments to policyholders and the carrying amounts of, or returns from, owner-occupied properties. As the revaluation model is used for owner-occupied properties, the changes in the carrying amounts of the owner-occupied properties are recognised in a revaluation reserve in equity. The group applies shadow accounting whereby the changes in the measurement of the insurance liability resulting from revaluations of property are recognised in the revaluation reserve. Impairment Owner-occupied properties are reviewed for impairment losses whenever events or changes in circumstances indicate the carrying amounts may not be recoverable. An impairment loss is recognised for the amount by which the carrying amount of the asset exceeds its recoverable amount, the latter being the higher of the net selling price of the property and its value in use. 4

5 Gains and losses When owner-occupied properties are sold, the amounts included in the revaluation reserve are transferred to retained earnings. Properties under development Properties under development are properties under construction that are not yet available to earn rentals for use in the supply of services or for administrative purposes. Properties under development are valued at development costs incurred. Impairment Properties under development are reviewed for impairment losses whenever events or changes in circumstances indicate the carrying amounts may not be recoverable. An impairment loss is recognised for the amount by which the cost of the asset capitalised to date exceeds the recoverable amount, which is the discounted net value of assumed future rentals. Plant and equipment Plant and equipment are stated at historical cost less accumulated depreciation. Historical cost includes expenditure that is directly attributable to the acquisition of the items. Subsequent costs are included in the asset s carrying amount or recognised as a separate asset, as appropriate, only when it is probable that future economic benefits associated with the item will flow to the group and the cost of the item can be measured reliably. Depreciation All assets are depreciated using the straight-line method to allocate their cost over their estimated useful lives, as follows: Plant years Furniture and fittings 3 years Computer equipment 3-5 years Motor vehicles 6 years The residual values and useful lives of the assets are reviewed at each reporting date and adjusted if appropriate. Gains and losses on disposal of assets are determined by comparing proceeds with carrying amounts and are included in the income statement. Impairment Plant and equipment are reviewed for impairment losses whenever events or changes in circumstances indicate that the carrying amounts may not be recoverable. An impairment loss is recognised for the amount by which the carrying amount of the asset exceeds its recoverable amount, the latter being the higher of the net selling price of the asset and its value in use. INVESTMENT PROPERTY Completed properties Investment properties are held to earn rentals or for capital appreciation or both and are not occupied by the companies of the group. Investment properties comprise freehold land and buildings and are carried at fair value, reflective of market conditions at the reporting date. Fair value is determined as being the present value of net rental 5

6 income, discounted for the different types of properties at the market rates applicable at the reporting date. Selected properties are valued externally, in a three-year cycle, to confirm the fair value of the portfolio. Investment properties that are being redeveloped for continuing use as investment property, or for which the market has become less active, continue to be measured at fair value. Undeveloped land is valued at estimated net realisable value. Transfers to and from investment property Where investment property is transferred to owner-occupied property that forms part of property, plant and equipment, the deemed cost of the property is its fair value at the date of change in use. Where an owner-occupied property becomes an investment property, the carrying value of the property is its fair value at the date of change in use. Properties held under operating leases Properties held under operating leases are classified as investment property as long as they are held for long-term rental yields and not occupied by the group. The initial cost of these properties is the lower of the fair value of the property and the present value of the minimum lease payments. These properties are carried at fair value after initial recognition. Gains and losses on the sale of property Unrealised gains or losses arising on the valuation of completed properties and realised gains or losses on disposal of properties are included in the income statement. INTANGIBLE ASSETS Goodwill Recognition and measurement All business combinations are accounted for by applying the purchase method. The cost of a business combination is the fair value of the purchase consideration due at the date of acquisition plus any costs directly attributable to the business combination. The initial cost of a business combination is adjusted if the agreement provides for adjustments to the cost that are contingent on one or more future events, and the adjustment is probable and can be measured reliably. At the acquisition date, goodwill is measured at cost, being the excess of the cost of the business combination over the interest acquired in the net fair value of the identifiable assets, liabilities and contingent liabilities that satisfy the recognition criteria. Subsequent to initial measurement, goodwill is carried at cost less accumulated impairment losses. Goodwill on acquisition of subsidiaries is included in intangible assets whereas goodwill on acquisition of associates is included in investment in associates. When the interest acquired in the net fair value of the identifiable assets, liabilities and contingent liabilities exceeds the cost of the business combination, the difference is recognised directly in the income statement. Gains and losses on the disposal of an entity include the carrying amount of goodwill relating to the entity sold. Impairment At acquisition date, goodwill acquired in a business combination is allocated to cash-generating units that are expected to benefit from the synergies of the combination. Cash-generating units, to which goodwill has been allocated, are assessed at each reporting date for any indication that they may be 6

7 impaired. An impairment loss is recognised whenever the carrying amount of an asset or a cashgenerating unit exceeds its recoverable amount. Value of acquired in-force insurance and investment contract business On acquisition of a portfolio of contracts, either directly from another insurer or through the acquisition of a subsidiary undertaking, the group recognises an intangible asset representing the value of business acquired (VOBA). VOBA represents the present value of future after-tax profits embedded in the acquired insurance and investment contract business. The calculation of VOBA is based on actuarial principles that take into account future premium income, mortality, disease and surrender probabilities, together with future costs and investment returns on the underlying assets. The profits are discounted at a rate of return allowing for the risk of uncertainty of the future cash flows. This calculation is particularly sensitive to the assumptions regarding discount rate, future investment returns and the rate at which policies discontinue. The asset is amortised over the expected profit recognition period on a systematic basis over the anticipated lives of the related contracts. Impairment VOBA is reviewed for impairment losses whenever events or changes in circumstances indicate that the carrying amounts may not be recoverable. An impairment loss is recognised for the amount by which the carrying amount of the asset exceeds its recoverable amount. Deferred acquisition costs (DAC) Incremental costs that are directly attributable to securing rights to receive fees for asset management services sold with investment contracts are recognised as an asset if they can be identified separately and measured reliably, and if it is probable that they will be recovered. The asset represents the contractual right to benefit from providing investment management services, and is amortised as the entity recognises the related revenue either over the anticipated lives of the contracts or as profit emerges from the contracts. Commissions and other acquisition costs that vary with and are related to securing new insurance contracts and renewing existing insurance contracts are capitalised as an intangible asset unless implicit allowance for the deferral of acquisition costs is made in the valuation method of the new or renewed insurance contracts. The intangible asset is amortised as the entity recognises the related revenue either over the anticipated lives of the contracts or as profit emerges from the contracts. Computer software Recognition and measurement Acquired computer software licences are capitalised on the basis of the cost incurred to acquire and bring to use the specific software. These costs are amortised on the basis of the expected useful life of five years. Generally, costs associated with developing or maintaining computer software programs are recognised as an expense as incurred. However, costs that are directly associated with an identifiable and unique product or process, which will be controlled by the group and which has probable economic benefit exceeding the cost beyond one year, are recognised as intangible assets. Directly associated costs include employee costs of the development team and an appropriate portion of relevant overheads. 7

8 Computer software development costs recognised as assets are amortised using the straight-line method over their useful lives. Impairment Computer software is reviewed for impairment losses whenever events or changes in circumstances indicate that the carrying amounts may not be recoverable. An impairment loss is recognised for the amount by which the carrying amount of the asset exceeds its recoverable amount, the latter being the higher of the net selling price and the value in use. FINANCIAL INSTRUMENTS From 1 January 2004 to 31 December 2004 Recognition and measurement Financial instruments include investment assets, receivables and creditors. Marketable securities are recognised on trade date and all financial instruments are initially recognised at cost; thereafter they are carried at their estimated fair value, except for originated loans that are carried at amortised cost. All investment assets, except for originated loans, are classified as available-for-sale. Marketable securities Fair value is estimated as follows: Equities The value of listed shares is the closing bid price on the respective stock exchanges as at the reporting date; unlisted shares are valued by the directors, using a variety of methods and assumptions based on the market conditions existing at the reporting date. Collective investment schemes Units in collective investment schemes are valued at the re-purchase value. Derivatives Listed derivative instruments are valued at the South African Futures Exchange ruling price and the value of unlisted derivatives is determined by the directors, using generally accepted models. Stock and debentures For fixed interest stock and debentures, fair values are determined as being the present value of future interest and capital redemption proceeds, discounted at market rates at the reporting date. Other investments Other investments, which include mortgages, loans, deposits and money market securities, are valued at fair value, using appropriate models. Originated loans are accounted for at amortised cost and while those loans with an indeterminable maturity date, are valued at cost. Gains and losses Gains and losses arising from a change in value or on disposal of financial instruments at fair value are, where attributable to shareholders, included in income from insurance and investment business in the income statement and, where attributable to policyholders, included in investment return in the policyholders fund. Offsetting Financial assets and liabilities are set off and the net balance reported in the balance sheet where there is a legally enforceable right to set off, where it is the intention to settle on a net basis or to realise the asset and settle the liability simultaneously, where the maturity date for the financial asset and liability is the same, and where the financial asset and liability are denominated in the same currency. 8

9 Scrip lending The equities or bonds on loan, and not the collateral security, are reflected in the balance sheet of the group at the reporting date. Scrip lending fees received are included under investment income. From 1 January 2005 Recognition and measurement The group classifies its investments into the following categories: financial assets at fair value through income held-to-maturity investments available-for-sale financial assets loans and receivables. The classification depends on the purpose for which the investments were acquired. Management determines the classification of its investments at initial recognition and re-evaluates this designation at every reporting date. Financial assets at fair value through income The group designates financial assets at fair value through income at inception if the assets acquired form part of a portfolio of financial assets in which there is evidence of short-term profit taking for the benefit of shareholders or policyholders, or if so designated by management. Derivatives are held at fair value through income. Held-to-maturity investments Held-to-maturity investments are non-derivative financial assets with fixed or determinable payments and fixed maturities that the group s management has the positive intention and ability to hold to maturity, other than investments that meet the definition of loans and receivables. Available-for-sale financial assets Available-for-sale financial assets are non-derivative financial assets that are not classified in any of the other categories. Loans and receivables Loans and receivables are non-derivative financial assets with fixed or determinable payments that are not quoted in an active market. Receivables arising from insurance contracts are also classified in this category and are reviewed for impairment as part of the impairment review of loans and receivables. Purchases and sales of investments are recognised on trade date, being the date on which the group commits to purchase or sell the asset. Investments are initially recognised at fair value plus transaction costs, directly attributable to the acquisition of the asset, for all financial assets not carried at fair value through income. Financial assets at fair value through income and available-for-sale assets are subsequently carried at fair value. Loans and receivables are carried at amortised cost, using the effective interest rate method. The fair value of quoted investments is based on current bid prices. For unlisted securities and for financial assets where the market is not active, the group establishes fair value by using valuation techniques. These include the use of recent arm s length transactions, reference to other instruments that are substantially the same, and discounted cash flow analysis and option pricing. 9

10 Impairment of financial assets Financial assets carried at fair value At each reporting date the group assesses whether there is objective evidence that an availablefor-sale financial asset is impaired, including, a significant or prolonged decline in the fair value of the security below its cost in the case of equity investments classified as available-for-sale. If any such evidence exists for available-for-sale financial assets, the cumulative loss measured as the difference between the acquisition cost and current fair value, less any impairment loss on the financial asset previously recognised in profit and loss is removed from equity and recognised in the income statement. Impairment losses recognised in the income statement on equity instruments are not subsequently reversed. Financial assets carried at amortised cost At each reporting date the group assesses whether there is objective evidence that a financial asset or group of financial assets is impaired. Such assets are impaired and impairment losses are incurred only if there is objective evidence of impairment as a result of one or more events that have occurred after the initial recognition of the asset, and the event or events has an impact on the estimated future cash flows of these assets that can be reliably estimated. For the purpose of collective evaluation of impairment, financial assets are grouped on the basis of similar credit risk characteristics. The group first assesses whether objective evidence of impairment exists in respect of all financial assets that are individually significant. If the group determines that no objective evidence of impairment exists for an individually assessed financial asset, whether significant or not, it includes the asset in a group with similar credit risk characteristics and collectively assesses them for impairment. Assets that are individually assessed for impairment and for which an impairment loss is or continues to be recognised are not included in a collective assessment of impairment. If there is objective evidence that an impairment loss has been incurred on loans and receivables or held-to-maturity investments carried at amortised cost, the amount of the loss is measured as the difference between the carrying amount of the asset and the present value of estimated future cash flows discounted at original effective interest rate in respect of the financial asset. The carrying amount of the asset is reduced through the use of an allowance account and the amount of the loss is recognised in the income statement. If a held-to-maturity investment or a loan has a variable interest rate, the discount rate for measuring any impairment loss is the current effective interest rate determined under the contract. If in a subsequent period, the amount of the impairment loss decreases and the decrease can be related objectively to an event occurring after the impairment was recognised, the previously recognised impairment loss is reversed by adjusting the allowance account. The amount of the reversal is recognised in the income statement. Loans and receivables A provision for loans and receivables is established when there is objective evidence that the group will not be able to collect all amounts due according to the original terms of the assets. The amount of the provision is the difference between the carrying amount of the asset and the present value of estimated future cash flows, discounted at the effective interest rate. The amount of the provision is recognised in the income statement. 10

11 De-recognition of financial assets Investments are de-recognised when the right to receive cash flows from the investments has expired or has been transferred, and the group has transferred substantially all risks and rewards of ownership. Realised and unrealised gains and losses Realised and unrealised gains and losses arising from changes in the value of financial assets at fair value through income are included in the income statement in the period in which they arise. Unrealised gains and losses arising from changes in the fair value of available-for-sale financial assets are recognised in equity. When available-for-sale financial assets are sold or impaired, the accumulated fair value adjustments are included in the income statement as realised gains and losses. Offsetting Financial assets and liabilities are set off and the net balance reported in the balance sheet where there is a legally enforceable right to set off, where it is the intention to settle on a net basis or to realise the asset and settle the liability simultaneously, where the maturity date for the financial asset and liability is the same, and where the financial asset and liability are denominated in the same currency. Scrip lending The equities or bonds on loan, and not the collateral security, are reflected in the balance sheet of the group at year-end. Scrip lending fees received are included under investment income. Securities borrowed are not recognised in the financial statements unless these are sold to third parties, in which case the purchase and sale are recorded with the gain or loss included in the income statement. The obligation to return them is recorded at fair value under other payables. Derivative financial instruments Derivatives are initially recognised at fair value on the date on which derivative contracts are entered into and are subsequently re-measured at their fair value. None of the group s derivatives qualify for hedge accounting. Changes in the fair value of these derivative instruments are recognised immediately in the income statement. Interest income and expense Interest income and expense are recognised in the income statement, using the effective interest rate method, and taking into account the expected timing and amount of cash flows. Interest income and expense include the amortisation of any discounts or premiums or other difference between the initial carrying amount of an interest-bearing instrument and its amount at maturity, calculated on an effective interest rate basis. Non-interest revenue Fee revenue from investment contracts is described below under the heading of insurance and investment contracts. Fees received Fees received for investment management service contracts rendered by the asset management and asset administration businesses of the group are recognised on the same basis as fee revenue from investment contracts. Fees received from the administration of health schemes are recognised as revenue as the services are rendered. Other revenue Other revenue includes scrip lending fees, net rental income and dividends received from investments and is recognised in the income statement when the amount of revenue from the transaction or service can be measured reliably, it is probable that the economic benefits of the transaction or service will flow to the group and the costs associated with the transaction or service can be measured reliably. 11

12 CASH AND CASH EQUIVALENTS Cash and cash equivalents are carried in the balance sheet at cost which approximates fair value. For purposes of the cash flow statement, cash and cash equivalents comprise cash on hand, deposits held at call with banks and other short-term highly liquid investments with original maturities of three months or less. SHARE CAPITAL Ordinary shares with discretionary dividends are classified as equity. The component of the convertible redeemable preference share representing the value of the conversion option at the time of issue is included in equity. Issue costs Incremental external costs directly attributable to the issue of new shares, other than in connection with business combinations, are recognised in equity as a deduction from the proceeds. Incremental costs incurred directly in connection with a business combination are included in the cost of acquisition. Treasury shares Treasury shares are equity share capital of the holding company held by a subsidiary, irrespective of whether they are held in shareholder or policyholder portfolios. The consideration paid including any directly attributable costs, is eliminated from equity on consolidation until the shares are cancelled. The consideration received, net of attributable incremental transaction costs and the related income tax effects, on the subsequent sale of the shares is included in equity. De-recognition of staff share scheme shares Shares issued to staff through the Metropolitan Holdings staff share schemes since 1 January 2000 do not comply with the de recognition rules in IAS39 Financial instruments: recognition and measurement (revised) and are therefore reversed on consolidation of the share scheme trusts. Earnings per share Basic earnings per share In calculating the basic earnings per share, the exclusion of the income in respect of treasury shares and shares issued to staff, through the staff share schemes, after 1 January from the income statement requires that these shares similarly be excluded from the weighted average number of shares. Diluted earnings per share Diluted earnings per share are calculated using the weighted average number of ordinary shares in issue, assuming conversion of all issued shares with dilutive potential. The convertible redeemable preference shares, the staff share scheme shares not recognised in accordance with IAS39 and the treasury shares held on behalf of contract holders all have dilutive potential. The preference shares are assumed to have been converted into ordinary shares and earnings adjusted to eliminate the interest expense. The staff share scheme shares are assumed to have been issued as ordinary shares with no adjustment to earnings. Earnings have been adjusted for the investment return on the treasury shares as these are shares in issue. 12

13 INSURANCE AND INVESTMENT CONTRACTS From 1 January 2004 to 31 December 2004 POLICYHOLDERS FUND Policyholder liabilities In accordance with current legislation, the guidelines issued by the Actuarial Society of South Africa and Generally Accepted Accounting Practice in South Africa, the statutory actuaries calculate the group s liabilities under unmatured policies annually at the reporting date. Certain policyholder liabilities are designated as insurance contracts and others as investment contracts. Insurance contracts are all policyholder contracts that transfer significant insurance risk and are valued on the financial soundness valuation basis, as set out in Professional Guidance Note (PGN) 104, issued by the Actuarial Society of South Africa. Investment contracts are policyholder contracts that do not transfer significant insurance risk and are valued at fair value as described in AC133. The valuation basis of policyholder liabilities, before the addition of planned and second tier margins, was as follows at 31 December 2004: For group policies with benefits directly linked to the performance of an underlying investment portfolio, the liability was taken as the market value of the assets in the portfolio. For group smoothed bonus business, other than with-profit annuity business, the liability was taken as the sum of the accumulated investment accounts. For with-profit annuity business, the liability was taken as the discounted value of projected future benefit payments. Future bonuses were provided for at bonus rates supported by the assumed future investment return. For individual market-related business, the liability was taken as the market value of the underlying assets less the present value of future charges not required for risk benefits and expenses. For individual smoothed bonus business, the liability was taken as the sum of the accumulated investment accounts less the present value of future charges not required for risk benefits and expenses. For conventional non-profit business, including non-profit annuities, the liability was taken as the difference between the discounted value of future expenses and benefit payments and the discounted value of future premium receipts. For smoothed bonus business, bonus stabilisation reserves (BSRs) are held equal to the difference between the accumulated investment accounts (discounted value of projected future benefit payments for with-profit annuity business) and the market value of the underlying assets. The major classes of smoothed bonus business are: (a) Metropolitan individual smoothed bonus business (b) Metropolitan employee benefits guaranteed fund business (c) Metropolitan employee benefits with-profit annuity business (d) ex-commercial Union Life individual smoothed bonus business (e) ex-commercial Union Life employee benefits guaranteed fund business. The market value of the underlying assets in respect of all smoothed bonus business at 31 December 2004 was R17.6 billion (2003: R15.6 billion). All funding levels in respect of these classes of smoothed bonus business were above 92.5%. 13

14 For conventional with-profit business a gross premium valuation was done. Future bonuses were provided for at bonus rates supported by the market value of the underlying assets and the assumed future investment return of 9.7% per annum (gross). The resulting reduction in future bonus rates used in the valuation assumptions, relative to those declared for 2005, has been communicated to, and accepted by, both management and the respective boards of directors. The assumptions with regard to future surrender, lapse, mortality and morbidity rates are consistent with the group s recent experience and provision has been made for the expected increase in claims due to the AIDS epidemic. The following experience investigations are conducted: For conventional with-profit business, a detailed mortality investigation is performed annually, the most recent such investigation being in respect of the period 1998 to For the balance of individual life business, comparisons of claims and mortality charges are done quarterly, the most recent such investigation being in respect of the quarter ended September Lapse investigations are performed annually in respect of grouped individual business; the most recent being in respect of the year ended September 2003, and quarterly in respect of other individual business, the most recent being in respect of the quarter ended September Surrender investigations are performed annually, the most recent being in respect of the year ended November Morbidity and accident investigations are done annually on an approximate basis, the most recent being in respect of the 2004 financial year. Provision for future renewal expenses starts at a level consistent with the experience for the 2004 financial year and allows for escalation at 5.0% per annum. Market-related information is used to derive assumptions in respect of investment returns, discount rates used in calculating policy liabilities and expense inflation. These assumptions take into account the asset mix backing each liability type and are suitably adjusted for tax. The following are some of the best estimate, gross of tax, assumptions used in the valuation: 2004 % Risk-free investment return 8.3 Assumed investment return for individual smoothed bonus business 9.7 Renewal expense escalation 5.0 Policyholders reasonable benefit expectations are allowed for by assuming bonus rates supported by the market value of the underlying assets and the assumed future investment return. Premium income Where annual premiums on individual life policies are paid in instalments, the outstanding balance of the annual premiums, after providing for anticipated policy lapses, is recognised as premium income. Employee benefit and group scheme premiums are recognised when reasonably assured of collection in terms of the policy contract. Premium income is shown net of re-insurance premiums. 14

15 Payments to policyholders Payments to policyholders are shown net of re-insurance recoveries and are recognised when claims are intimated. Sales remuneration Individual policy sales remuneration includes all commission and expenses directly related to commission payable in the production of business. Employee benefit and grouped individual business sales remuneration includes commission and bonuses payable. From 1 January 2005 The group issues contracts that transfer insurance risk or financial risk or both. Classification of contracts Insurance contracts Insurance contracts are those under which the group accepts significant insurance risk from another party (the contract holder) by agreeing to compensate the policyholder if a specified uncertain future event (the insured event) adversely affects the contract holder. Insurance risk is risk, other than financial risk, transferred from the holder of a contract to the issuer. Insurance risk is significant if an insured event could cause an insurer to pay significant additional benefits in any scenario. Financial risk is the risk of a possible future change in one or more of a specified interest rate, financial instrument price, commodity price, foreign exchange rate, index of prices or rates, credit rating or credit index or other variable, provided in the case of a non-financial variable that the variable is not specific to a party to the contract. Investment contracts Investment contracts are those contracts that transfer financial risk with no significant insurance risk. Contracts with discretionary participation features The group issues insurance and investment contracts containing discretionary participation feature (DPF). A DPF is a contractual right to receive, as a supplement to guaranteed benefits, additional benefits or bonuses: (a) that are likely to be a significant portion of the total contractual benefits (b) the amount or timing of which is contractually at the discretion of the issuer; and (c) that are contractually based on: the performance of a specified pool of contracts or a specified type of contract realised and/or unrealised investment returns on a specified pool of assets held by the issuer; or the profit or loss of the group, fund or other entity that issues the contract. All contracts with DPF are accounted for in the same manner as insurance contracts. Insurance contracts The liabilities relating to insurance contracts are measured in accordance with the Financial Soundness Valuation (FSV) basis as set out in the guidelines issued by the Actuarial Society of South Africa in Professional Guidance Note (PGN) 104. The FSV is a gross premium valuation method and uses best estimate assumptions regarding future experience, with prescribed margins for prudence and deferral of profit emergence. 15

16 The gross premium valuation method is also used to measure the liabilities of investment contracts with DPF. Undistributed surpluses related to these contracts are allocated to contract holders and included as a liability. Assumptions used in the valuation method are reviewed at the reporting date and any changes in estimates are reflected in the income statement as they occur. Embedded derivatives The group does not separately measure embedded derivatives that meet the definition of an insurance contract, and the entire contract is measured as an insurance contract. Liability adequacy test At each the reporting date, the group performs liability adequacy testing on its insurance liabilities to ensure that the carrying amount of its liabilities, less intangible assets and deferred acquisition costs, is sufficient in view of estimated discounted future cash flows. Any deficiency is immediately charged to the income statement by writing off the intangible asset, and subsequently by establishing a provision for losses arising from liability adequacy tests. Any DAC or VOBA written off as a result of this test cannot subsequently be reinstated. Reinsurance contracts held Contracts entered into by the group with reinsurers under which the group is compensated for losses on one or more contract issued by the group, and which meet the classification requirements for insurance contracts, are classified as reinsurance contracts held. Contracts that do not meet these classification requirements are classified as financial assets. The benefits to which the group is entitled under its reinsurance contracts held are recognised as reinsurance assets. These assets consist of short-term balances due from reinsurers (classified within receivables), as well as longer term receivables (classified as reinsurance assets) that are dependent on the expected claims and benefits arising under the related reinsured insurance contracts. Amounts recoverable from or due to reinsurers are measured consistently with the amounts associated with the reinsured insurance contracts and in accordance with the terms of each such contract. Reinsurance liabilities are primarily premiums payable for reinsurance contracts and are recognised as an expense when due. Impairment of reinsurance assets The group assesses its reinsurance assets for impairment at the reporting date. If there is objective evidence that the reinsurance asset is impaired, the group reduces the carrying amount of the reinsurance asset to its recoverable amount and recognises the impairment loss in the income statement. The impairment loss is calculated following the same method used for financial assets held at amortised cost. Premium revenue Premiums and annuity considerations receivable from insurance contracts and investment contracts with DPF are recognised as revenue in the income statement gross of commission and reinsurance, and exclude taxes and levies. Where annual premiums are paid in instalments, the outstanding balance of these premiums, after providing for anticipated policy lapses, is recognised as premium revenue in the income statement. Reinsurance premiums are recognised when due for payment. Claims incurred Claims incurred in respect of insurance contracts and investment contracts with DPF include death, disability, maturity, annuity and surrender payments and are recognised in the income statement. 16

17 Death, disability and surrender claims are recognised when notified. Maturity and annuity claims are recognised when they are due for payment. Reinsurance recoveries are accounted for in the same period as the related claim. Acquisition costs Acquisition costs, disclosed as sales remuneration, for insurance contracts and investment contracts with DPF include all commission and expenses directly related to commission payable in the production of business. The gross premium valuation method makes implicit allowance for the deferral of acquisition costs; therefore, no explicit deferred acquisition cost asset is recognised in the balance sheet for contracts valued under this method. Investment contracts Investment contracts are financial liabilities whose fair value is dependent on the fair value of the underlying financial asset portfolios that can include derivatives, and that are designated at inception as at fair value through income. Valuation techniques used by the group to establish the fair value, at inception and each reporting period, of investment contracts incorporate all factors that market participants would consider and are based on observable market data. The fair value of financial liabilities is never less than the amount payable on surrender, discounted for the required notice period, where applicable. Amounts received and claims incurred Amounts received under investment contracts, such as premiums and investment returns, are recorded as deposits to investment contract liabilities whereas claims incurred are recorded as deductions from investment contract liabilities. Revenue on investment management service contracts Fees charged for investment management services provided in conjunction with an investment contract are recognised as revenue as the services are provided. Initial fees that exceed the level of recurring fees and that relate to the future provision of services are deferred and amortised over the anticipated period in which the services will be provided. BORROWINGS The fair value of the liability component of the convertible redeemable preference shares is determined by discounting the net present value of future dividend payments. This amount is recorded as a liability on the amortised cost basis until extinguished on conversion of the preference shares. The remainder of the proceeds is allocated to the conversion option, which is recognised and included in shareholders equity. The value of the equity component is not changed in subsequent periods. DEFERRED INCOME TAX Deferred income tax is provided for in full at the current tax rates and in terms of laws substantively enacted at the reporting date, in respect of temporary differences between the tax bases of assets and liabilities and their carrying values for financial reporting purposes, using the liability method. However, if the deferred income tax arises from initial recognition of an asset or liability in a transaction other than a business combination that at the time of the transaction affects neither accounting or taxable profit or loss, it is not accounted for. Deferred tax assets, including tax on capital gains and secondary tax on 17

18 companies, are recognised for tax losses and unused tax credits carried forward only to the extent that realisation of the related future tax benefit is probable. Offsetting Deferred tax assets and liabilities are set off when the income taxes relate to the same fiscal authority and where there is a legal right of offset at settlement in the same taxable entity. CURRENT TAXATION Current tax is provided for at the amount expected to be paid, using the tax rates and in respect of laws that have been substantively enacted at the reporting date. Offsetting Current tax assets and liabilities are set off when a legally enforceable right exists and it is the intention to settle on a net basis or to realise the asset and settle the liability simultaneously. LEASES Finance leases Leases of property, plant and equipment where substantially all the risks and rewards incidental to ownership have been transferred to the group are classified as finance leases. Asset Finance leases are capitalised at the lower of the fair value of the leased property or the present value of the minimum lease payments at inception of the lease. The asset acquired is depreciated over the shorter of the useful life of the asset or the lease term. Liability The rental obligation, net of finance charges, is included as a liability. Each lease payment is apportioned between finance charges and the reduction of the outstanding liability. The finance charges or interest are charged to the income statement over the lease term so as to produce a constant periodic rate of interest on the liability remaining for each period. Operating leases Leases where substantially not all the risks and rewards incidental to ownership have been transferred to the group are classified as operating leases. Payments made are charged to the income statement on a straight-line basis over the period of the lease. DIVIDENDS PAID AND RELATED SECONDARY TAX ON COMPANIES Dividends paid to shareholders of the company and the related secondary tax on companies (STC) are recognised on declaration date. PROVISIONS Provisions are recognised when, as a result of past events, the group has a present legal or constructive obligation of uncertain timing or amount, and it is probable that an outflow of resources embodying economic benefits will be required to settle the obligation, and a reliable estimate of the amount of the obligation can be made. Provisions are measured as the present value of management s best estimate of the expenditure required to settle the obligation at the reporting date. The discount rate used to determine the present 18

19 value reflects current market assessments of the time value of money and the increase specific to the liability. Onerous contracts The group recognises a provision for an onerous contract when the expected benefits to be derived from a contract are lower than the unavoidable costs of meeting the obligations under the contract. Restructuring A provision for restructuring is recognised only if the group has approved a detailed formal plan and raised a valid expectation, among those parties directly affected, that the plan will be carried out either by having begun implementation or by publicly announcing the plan s main features. CONTINGENT LIABILITIES Contingent liabilities are recognised when the group has a possible obligation arising from past events, the existence of which will be confirmed only by the occurrence or non-occurrence of one or more uncertain future events not wholly within the control of the group, or it is possible but not probable that an outflow of resources will be required to settle an obligation, or the amount of the obligation cannot be measured with sufficient reliability. EMPLOYEE BENEFITS Pension and provident fund obligations The group provides a defined benefit pension scheme as well as defined contribution pension and provident schemes. The schemes are funded through payments to trustee-administered funds, determined by periodic actuarial calculations. With effect from 1 April 1999 the majority of employees converted their retirement benefit plans from defined benefit to defined contribution by way of transfer from the Metropolitan Staff Pension Fund to the Metropolitan Staff Retirement Fund. The defined benefit scheme was closed to new members from 1 April 1999 onwards and all employees who joined after that date automatically became members of the defined contribution schemes. Defined contribution retirement funds A defined contribution plan is a pension plan under which the group pays fixed contributions into a separate entity. The group contributes to the defined contribution provident scheme, with employees contributing to the defined contribution pension scheme. The defined contribution provident scheme holds reserve accounts available to the group in order to subsidise contributions and to provide for the lump sum benefit payable in respect of the post-retirement obligation for employees who converted to the scheme in April The scheme s board of trustees is in the process of applying for formal recognition of these reserves as an employer surplus account in terms of section 15F of the Pension Funds Second Amendment Act of The group s contributions are charged to the income statement when incurred, except those contributions subsidised by the reserve accounts. Defined benefit fund A defined benefit plan is a pension plan that defines the amount of the pension benefit that an employee will receive on retirement, usually dependent on one or more factors such as age, years of service and compensation. The defined benefit scheme is actuarially valued every three years in accordance with the Pension Funds Act. Employees contribute to the scheme at a fixed percentage of salaries, with the group contributing the balance of costs as determined by the actuarial valuation. The group s current service costs are recognised as expenses in the current year. 19

20 Post-retirement medical aid obligations The group makes medical aid contributions on behalf of pensioners who have retired from the defined benefit pension fund. An accounting provision is made for the future medical aid contributions of these pensioners and for the post-retirement medical aid contributions of the in-service members of the defined benefit pension fund. The entitlement to these benefits is based on the employees remaining in service up to retirement age. The expected costs of these benefits are accrued over the period of employment, using a methodology similar to that for defined benefit pension plans. These provisions are calculated using actuarial methodologies for the discounted value of contributions and a best estimate of the expected long-term investment return (discount rate: 10.0%), as well as taking into account estimated contribution increases (medical inflation rate: 11.0%). The group has no obligation for post-retirement medical benefits in respect of other pensioners and inservice members. The increase or decrease in the accounting provision for these costs is charged to the income statement. Bonus plans The group pays performance bonuses to senior employees of the group and thirteenth cheque bonuses to staff other than those participation in the performance bonus scheme. Performance bonuses are based on certain objectives, taking into account past business experience and future strategic issues, agreed upon by the board of directors of the holding company. The group recognises a provision where contractually obliged or where there is a past practice that has created a constructive obligation. Share-based compensation The group operates equity-settled share-based compensation plans. The fair value of the employee services received in exchange for the grant of the shares is recognised as an expense. The total amount to be expensed over the vesting period is determined by reference to the fair value of the shares granted, excluding the impact of any non-market related vesting conditions. Non-market related vesting conditions, such as the resignation of employees and retrenchment of staff, are included in assumptions about the number of shares expected to be released and are revised at the reporting date. The impact of the revision of original estimates, if any, is recognised in the income statement, and a corresponding adjustment is made to equity over the remaining vesting period. The fair value of equity instruments granted is determined by using standard option pricing models. The valuation technique is consistent with generally accepted valuation methodologies for pricing financial instruments, and incorporates all factors and assumptions that knowledgeable, willing market participants would consider in setting the price of the equity instrument. SEGMENTAL REPORTING Primary segments Primary segmental reporting is based on the type of business and correlates with the activities of the main operating business. The retail business sells life insurance products. The corporate business sells employee benefit products and includes asset management, property administration and collective investment schemes administration. The international business sells life insurance and employee benefit products, administers health schemes and collective investment schemes. The health administration business administers health schemes and provides related health services. 20