(Download XLS:) Download Excel





Changes in regulation or legislation may have a detrimental effect on our strategy or profitability

Legislation and government fiscal policy can influence our product design, the retention of existing business and our required reserves for future liabilities. Regulation defines the overall framework for the design, marketing and distribution of our products, and the prudential capital that we hold. The nature of long-term business can result in certain regulatory changes having a retrospective effect.

The Retail Distribution Review (RDR), the rules for which come into force on 31 December 2012, will change the regulations for the provision of sales advice for retail investment products and the relationship between advisers and manufacturers of these products.

RDR has required us to make significant changes to our products and distribution processes, particularly for our Savings business. While the majority of required change has been executed, factors that could still hinder successful transition include late publication of the final rules, consumers failing to understand the change and financial advisers exiting the market, all of which may adversely impact the earnings of our Savings business.

As set out on in the Principal risks and uncertainties section we have continued to invest in ensuring that our business processes comply with the new regulatory requirements and that our business partners are positioned to distribute our products under the new regime. We remain committed to helping our customers and business partners transition to the new framework.

[Solvency II] (SII), the implementation of which has moved back 12 months to 1 January 2014, will lead to a fundamental change in the way that insurance companies are required to calculate prudential capital. While the high level regulation is defined, detailed rules governing the approaches to determining the quantum of capital and the transition from the current regime are still to be finalised.

Proposed rules have reduced the potential for firms writing long-term business, such as annuities, to hold a disproportionate amount of capital relative to the risk exposure. However, until detailed calibration rules for capital models are finalised, there remains a range of capital outcomes. The scope and duration of transitional arrangements remain undecided.

We continue to actively participate with Government and regulatory bodies in the UK and Europe to ensure capital requirements accurately reflect the risks implicit in insurance products. Further details are set out in the Political and regulatory environment section. Our SII programme is on track to deliver required capabilities in advance of the SII implementation date.

The International Accounting Standards Board’s (IASB’s) project on accounting for insurance contracts, which seeks to improve and ensure consistency in accounting, is targeted to be either re-exposed or issued in near final form in late 2012, with possible implementation between 2014 and 2016.

We support the need for clear and consistent financial reporting; however, the proposals of the latest exposure draft may result in a significant change in the timing of profit recognition, inconsistencies with capital measurement under SII and could result in increased complexity for users of accounts.

We are working with the IASB, the European Insurance CFO forum and the ABI to ensure that the IASB proposals are appropriate to the insurance sector and meet the needs of investors.

The FSA’s With-Profits Consultation (CP11/5) proposed changes to the rules and guidance over the operation of with-profits funds, which may have a significant impact on the future operation, governance and strategy for with-profits business. The FSA published a Policy Statement (PS 12/4) on 7 March 2012 and we are currently reviewing the impact of the rule changes.

Effective governance of with-profits business and the fair treatment of policyholders is sound business practice. However, the differing interpretation and application of regulation over time may have a detrimental effect on our strategy and profitability.

We have worked with the FSA and industry bodies to ensure that proposed rule changes reflect the needs of all stakeholders in those with-profit funds that remain open to business.

During 2012 the FSA will begin to transition into the Prudential Regulatory Authority and Financial Conduct Authority, two distinct and separate regulatory bodies. Each body will establish its own regulatory framework from 2013.

We support a robust regulatory regime for the financial services sector. However, there is a risk that the new regimes will not reflect differences between insurance and banking business models, resulting in additional capital requirements or lead to duplication of activities and increased costs of regulation.

We are engaged with our regulators to understand the impact of the new regimes on our business. As set out in the Risk Management at a glance section, the establishment of a CRO team and a separate Regulatory Compliance team will enable us to deploy resource and manage regulatory relationships in line with the new regime.

Changes in the corporation tax regime for life insurance companies will come into effect on 1 January 2013. Reform is made necessary by Solvency II which will replace the existing reporting framework upon which life company taxation is currently based.

Whilst, draft rules were published for industry consultation in December 2011, final rules are not anticipated until the publication of the 2012 Finance Act. The financial and operational impact of the proposals therefore remains uncertain.

We are actively participating in the consultation process with HM Treasury and HM Customs & Revenue and have commissioned an internal project to ensure that our business processes will be fully compliant with the new rules in time for 1 January 2013.

Investment market performance or conditions in the broader economy may adversely impact our earnings and profitability

The performance and liquidity of investment markets, interest rate movements and inflation can impact the value of investment assets we hold to meet the obligations arising from insurance business as well as the value of the obligations themselves, resulting in mismatches in the profile of cash flows of our assets and liabilities. Significant falls in investment values can also impact the fee income of our investment management business. Broader economic conditions can impact the timing of the purchase and retention of retail financial services products.

The outlook for the UK economy remains uncertain. Recent economic growth has been subdued with no sign of a sustained recovery. As well as impacting domestic economic conditions, ongoing concerns for the stability of the eurozone have resulted in volatile investment markets.

Continuing economic uncertainty may increase propensity for consumer saving benefiting our retail savings business. However, other product segments such as protection may experience reduced demand, impacting our new business volumes and our earnings.

We model our business plans across a broad range of economic scenarios and take account of alternative economic outlooks within our overall business strategy. As part of our medium-term plan we have sought to ensure focus upon those market segments that will be resilient in projected conditions. Details of our business strategy are set out in Our three year strategic plan section.

Although European governments have taken action to stabilise the economies of weaker members of the eurozone, there is a risk that the euro will continue to be inherently unsustainable unless some countries default and leave the euro, or there is movement towards closer fiscal integration.

Market disruption from a major sovereign debt event may impact our ability to execute hedging strategies that ensure the profile of our assets and liability / cash flows are appropriately matched. An exit from the euro may result in the temporary closure of markets, uncertainty over the operation of financial instruments and imposition of capital controls, particularly impacting our investment management and European businesses.

We are actively monitoring the impact of the eurozone crisis on our businesses and the adequacy of our contingency plans. As set out on in the Regular agenda and area of focus during 2011 section, the Group Risk Committee has given specific consideration to the risks and how they may be mitigated. Sensitivities to interest rate mismatches, exposures to worldwide equity markets and currencies, are set out in Note 48.

In dealing with issuers of debt and other types of counterparty the Group is exposed to the risk of default

A default event within the banking sector, or a major sovereign debt event, could result in dislocation of bond markets, significantly widening credit spreads, and in extreme conditions contagion may result in default by strongly rated issuers of debt.

Market reaction to significant credit rating downgrades or a default event could result in the short-term diminution in the market value of corporate bond assets held in respect of our annuities business and in extreme circumstances may require an increase in default provisions for potential or actual defaults. A failure by a key service provider may result in short-term operational disruption of our business processes.

We actively manage our exposure to default risk, setting robust counterparty selection criteria and exposure limits. We continue to broaden asset classes backing our annuities business, including the use of property lending, and sale and leaseback assets. Details of our default provisions are set out in the Balance sheet strength section. Exposures to credit risk are set out in Note 48 and changes in credit spreads in Note 48. Our service providers are also subject to rigorous selection criteria.

As part of our strategy to match long-term assets and liabilities, exposures arise to the issuers of sovereign and corporate debt, and other financial instruments. We also have exposures to banking, money market and reinsurance counterparties, and the providers of settlement, custody and IT services.

As a UK-based Group, our earnings are influenced by the performance and perception of the UK financial services sector as a whole

Investment market performance, actions by regulators against organisations operating in the financial services sector and shock events can impact the confidence of customers in the sector as a whole. Such events may also result in changes to the regulatory and legislative environment in which we operate.

The financial crisis, subsequent investment performance and low interest rate environment together with consumers’ perceptions of the robustness of financial institutions may impact consumer attitudes to long-term savings. Recent regulatory action in the banking sector with regard to Payment Protection Insurance (PPI), may adversely impact consumers’ perception of the value of insurance products.

As a significant participant in the long-term savings markets, we are inherently exposed to downturns in new business volumes and persistency levels as a consequence of changes in consumer sentiment.

We actively manage our brand and seek to differentiate our business model from that of our competitors, focusing on our customers’ needs through a diversified portfolio of risk, savings and investment management businesses. In addition, as set out in the International section we continue to focus on developing our international businesses. As set out in the Regular agenda and area of focus during 2011 section the Group Risk Committee has given specific consideration to how we manage reputation risk.


Regulatory and legislative responses to events in the banking sector continue. Within Europe, EIOPA has been established as an EU-wide policy setting body for the regulators of European insurers and, as outlined above, within the UK the FSA is to be split into separate prudential and conduct regulators. Separately the US Foreign Account Tax Compliance Act will introduce new customer disclosure obligations on UK insurers from July 2013.

We support a robust regulatory regime for the financial services sector. However, there is a risk that regulatory responses to market events lead to excessively prudent regulation; capital inefficiencies as a result of regulation aimed at banks being read across to insurers without reference to the different business models; and a more aggressive supervision and enforcement regime resulting in additional capital requirements and increased costs of regulation.

We seek to engage with regulators and legislators at a UK and European level to assist in the evaluation of change and influence the development of outcomes that meet the needs of all stakeholders. We encourage our executive and senior management to actively participate in a broad range of industry, regulatory and intra-governmental forums, including the ABI, FSA and EU bodies.

Reserves for long-term business may require revision as a result of changes in experience, regulation or legislation

The writing of long-term insurance business necessarily requires the setting of assumptions for long-term trends in factors such as mortality, persistency, valuation interest rates, expenses and credit defaults. Extreme events may require recalibration of these assumptions. Forced changes in reserves can also be required as a result of changes in regulation or legislation.

In writing annuity business, pricing requires assumptions to be made for factors such as improvements in the general health of the population and advances in medical science. For protection business, assumptions are made for the expected level of mortality, taking account of factors such as pandemics.

We undertake significant analysis of longevity and mortality risks to ensure an appropriate premium is charged for the risks we take on and that our reserves remain appropriate. However, extreme events, such as a rapid advance in medical science leading to significantly enhanced annuitant longevity or an event causing widespread mortality/morbidity, coupled with a reinsurer default, may require assumptions to be recalibrated impacting profitability and capital.

We remain focused on developing a comprehensive understanding of annuitant mortality, including the development of ‘cause of death’ models using UK population data and engaging directly with the medical profession and scientific community. For our protection and general insurance businesses we continue to evolve and develop our underwriting capabilities. The sensitivities of our UK long-term business to annuitant mortality and reinsurer default are set out in Note 48.

There is an increasing trend for legislative intervention in the pricing of products irrespective of differing risk factors such as age or gender. There is a risk that European or national legislators interpret the application of legislation in a way that has unforeseen adverse consequences for insurance businesses and their customers or introduce a retrospection to requirements.

Our product pricing assumptions for annuities, protection and other insurance business reflect the risks we assess as being exposed to. A requirement to price products irrespective of differing risk factors, such as age or gender, will potentially increase the costs of insurance to certain consumers, reducing their propensity to purchase. Any retrospection of legislation would impact required reserves.

We continue to highlight to legislators the benefits to consumers of being able to price insurance products on the risks implicit in that business. We are supporting the UK legislator on the implementation approach for the 2011 ruling by the European Court of Justice (ECJ) that insurance product pricing must be gender neutral from 21 December 2012, without retrospective application to existing business.

The Group may not maximise opportunities from structural and other changes within the financial services sector

The financial services sector continues to go through a period of change. This presents a range of challenges as well as opportunities to providers of sufficient scale such as Legal & General.

The UK Government is consulting on a broad range of changes to the provision of state benefits, with increased focus on self provision. Such changes will affect the way consumers approach protecting their income and planning for retirement. Separately, the implementation of RDR and Solvency II will change the competitive landscape in which we operate.

Significant changes in the markets in which we operate may require the review and realignment of elements of our business strategy. A failure to be sufficiently responsive to potential change and understand the implication to our businesses, or the incorrect execution of change may impact the achievement of our strategic objectives.

We seek to ensure we have market leading expertise in the core fields in which we operate, and actively focus on retaining the best personnel with the knowledge to design and support our products, and manage their evolution as market and consumer requirements change. We believe we have a strong record on responding to change.

A material failure in our business processes may result in unanticipated loss or reputation damage

Our business processes can be complex, with significant reliance placed upon IT systems and processes to support the administration of our products; the modelling of liabilities and capital requirements; and the reporting of our financial performance.

Our product manufacturing, distribution and administration activities, together with the management of a substantial portfolio of investment assets, necessarily requires significant investment in IT systems, people and processes to ensure that we meet the expectations of our customers, as well as complying with regulatory, legal and financial reporting requirements. The complexity of activities can increase our exposure to operational and reputation risks.

We have constructed our framework of internal controls to minimise the risk of unanticipated loss or damage to our reputation. We seek to continually review and improve the framework. Our internal audit function also provides independent assurance on the adequacy and effectiveness of our controls. However, no system of internal control can completely eliminate the risk of error, financial loss, fraudulent actions or reputational damage.

As highlighted in the How we are using technology to improve service for our customers section, in October 2011 we completed the relocation of our UK data centre. The migration will further mitigate the IT system risks to which we are exposed. We also continue to invest in new systems, including those to support our Annuities, Group Protection General and Investment Management businesses. The report of the Audit Committee outlines its work during the year in reviewing our internal control system.


Share this page.