Managing our capital.

The efficient management of our capital creates a solid base for us to enhance shareholder value. Furthermore, it enables us to deliver on the promises we make to our customers and allows us to invest in the future growth of our businesses. We remain one of the strongest UK insurance groups based on financial strength ratings, with a robust capital surplus above minimum regulatory requirements.

We aim to manage our capital in a way that delivers strong returns for customers and shareholders whilst operating within the risk appetite of the Group. We balance the need to invest in future growth, with rigorous cost management.

SOLVENCY II

We have been successful in working with other insurers in the UK and Europe to ensure that the European Union’s Solvency II regime represents an appropriate approach to prudential regulation from the perspective of customers, shareholders and the wider economy.

Good progress has been made in developing Solvency II rules, including the ‘Matching Adjustment’ that will reduce the impact of short-term market volatility on insurers’ balance sheets. Some uncertainty remains, however, and we continue to be heavily engaged in the debate, including the response to EIOPA’s (the European insurance regulator) ’Long Term Guarantees Assessment’. Implementation of the rules before 2017 is unlikely.

Given this delay, we welcome the initiative (known as ICA+) taken by the FSA to permit firms to use capability developed for Solvency II to meet current prudential requirements.

During 2013, we expect to further embed the use of our Economic Capital results in business decision-making, helping us to continue managing our risk profile within risk appetite limits and ensuring good returns relative to the risk-based capital employed.

CAPITAL RESTRUCTURING

The major activity in 2012 focused on capital restructuring in our US business. On 31 December 2012 we completed a further phase of our capital efficiency programme. Through the use of a capital-efficient reinsurance solution, this phase improved the capital position of Legal & General America (LGA) and replaced the need for temporary financing, resulting in a total benefit of $345m. As a result, our Group IGD surplus capital increased by £172m.

In total, the programme, which started in 2010, has delivered $735m of capital benefit for LGA and a total benefit to L&G Group IGD surplus capital of £402m. We are pleased to have delivered these two phases in 2012, ahead of the schedule indicated at the 2012 half year results.

The capital programme has contributed to increased sales in the US of our term life insurance products and has helped to more than double our new business margins over the last three years.

In January 2012, Standard & Poor’s raised the financial strength rating for LGA from A+ to AA-, reflecting its strong competitive position, conservative investment portfolio and strong liquidity position, coupled with the stable outlook of the parent company.

OUR BALANCE SHEET STRENGTH

Our capital management policies and our strong risk controls have enabled us to keep our balance sheet robust. Under a Pillar 1 capital basis the Group has a surplus over the capital resources requirement of £4.1bn compared to £3.8bn at the end of 2011. This gives us an improved coverage ratio of 234% compared with 220% at the end of 2011.

This capital buffer is in addition to the £1.7bn of LGPL (the Group’s main annuity subsidiary) credit default provision. During the year we have demonstrated that we remain committed to optimising the Group’s worldwide capital structure for the benefit of our shareholders.

Case study: Growth through investing in Infrastructure | picture of the National Football Centre at St George’s Park in Burton-on-Trent (photo)

GROWTH THROUGH INVESTING IN INFRASTRUCTURE

Shrinking bank balance sheets and increasing regulatory pressure on banks’ capital requirements means that insurance companies and pension funds can fill the gap in capital lending for infrastructure.

We are well placed to accelerate our growth through investing in UK infrastructure. This helps stimulate local economies by providing employment in the building industries and encouraging local businesses to expand.

In addition, we have helped contribute to our communities at a national and local level. In 2012, we provided development funding for a sale and leaseback scheme to finance the building of the new National Football Centre at St George’s Park in Burton-on-Trent. We also established a joint venture with Imperial College to build student accommodation with a 45-year lease, in Clapham, South London. We have provided a £121m commercial loan to the Unite Group, who are also responsible for building new student accommodation.