TIDMPRU
RNS Number : 9446I
Prudential PLC
14 August 2019
Risk Factors
A number of risk factors affect Prudential's operating results
and financial condition and, accordingly, the trading price of its
shares. The risk factors mentioned below should not be regarded as
a complete and comprehensive statement of all potential risks and
uncertainties. The information given is as of the date of this
document, and any forward-looking statements are made subject to
the reservations specified under 'Forward-looking statements'.
Prudential's approaches to managing risks are explained in the
section of this document headed 'Group Chief Risk and Compliance
Officer's Report on the risks facing our business and how these are
managed'.
Risks relating to the Issuer's business
Prudential's businesses are inherently subject to market
fluctuations and general economic conditions
Uncertainty, fluctuations or negative trends in international
economic and investment climates could have a material adverse
effect on Prudential's business and profitability. Prudential
operates in a macroeconomic and global financial market environment
that presents significant uncertainties and potential challenges.
For example, government interest rates in the US, the UK and some
Asian countries in which Prudential operates remain low relative to
historical levels.
Global financial markets are subject to uncertainty and
volatility created by a variety of factors. These factors include
monetary policy in the US, the UK and other jurisdictions together
with their impact on the valuation of all asset classes and effect
on interest rates and inflation expectations, concerns over
sovereign debt, a general slowing in world growth, the increased
level of geopolitical risk and policy-related uncertainty
(including the imposition of trade barriers) and potentially
negative socio-political events.
The adverse effects of such factors could be felt principally
through the following items:
- Reduced investment returns arising on the Group's portfolios
including impairment of debt securities and loans, which could
reduce Prudential's capital and impair its ability to write
significant volumes of new business, increase the potential adverse
impact of product guarantees, and/or have a negative impact on its
assets under management and profit.
- Higher credit defaults and wider credit and liquidity spreads
resulting in realised and unrealised credit losses.
- Failure of counterparties who have transactions with
Prudential (eg banks and reinsurers) to meet commitments which
could give rise to a negative impact on Prudential's financial
position and on the accessibility or recoverability of amounts due
or, for derivative transactions, adequate collateral not being in
place.
- Estimates of the value of financial instruments becoming more
difficult because in certain illiquid or closed markets,
determining the value at which financial instruments can be
realised is highly subjective. Processes to ascertain such values
require substantial elements of judgement, assumptions and
estimates (which may change over time).
- Increased illiquidity, which also adds to uncertainty over the
accessibility of financial resources and may reduce capital
resources as valuations decline. This could occur where external
capital is unavailable at sustainable cost, increased liquid assets
are required to be held as collateral under derivative transactions
or redemption restrictions are placed on Prudential's investments
in illiquid funds. In addition, significant redemption requests
could also be made on Prudential's issued funds and while this may
not have a direct impact on the Group's liquidity, it could result
in reputational damage to Prudential. The potential impact of
increased illiquidity is more uncertain than for other risks such
as interest rate or credit risk.
In general, upheavals in the financial markets may affect
general levels of economic activity, employment and customer
behaviour. As a result, insurers may experience an elevated
incidence of claims, lapses, or surrenders of policies, and some
policyholders may choose to defer or stop paying insurance
premiums. The demand for insurance products may also be adversely
affected. In addition, there may be a higher incidence of
counterparty failures. If sustained, this environment is likely to
have a negative impact on the insurance sector over time and may
consequently have a negative impact on Prudential's business and
its balance sheet and profitability. For example, this could occur
if the recoverable value of intangible assets for bancassurance
agreements and deferred acquisition costs are reduced. New
challenges related to market fluctuations and general economic
conditions may continue to emerge.
For some non-unit-linked investment products, in particular
those written in some of the Group's Asia operations, it may not be
possible to hold assets which will provide cash flows to match
those relating to policyholder liabilities. This is particularly
true in those countries where bond markets are not developed and in
certain markets where regulated premium and claim values are set
with reference to the interest rate environment prevailing at the
time of policy issue. This results in a mismatch due to the
duration and uncertainty of the liability cash flows and the lack
of sufficient assets of a suitable duration. While this residual
asset/liability mismatch risk can be managed, it cannot be
eliminated. Where interest rates in these markets remain lower than
those used to calculate premium and claim values over a sustained
period, this could have a material adverse effect on Prudential's
reported profit.
Jackson writes a significant amount of variable annuities that
offer capital or income protection guarantees. The value of these
guarantees is affected by market factors (such as interest rates,
equity values, bond spreads and realised volatility) and
policyholder behaviour. Jackson uses a derivative hedging programme
to reduce its exposure to market risks arising on these guarantees.
There could be market circumstances where the derivatives that
Jackson enters into to hedge its market risks may not cover its
exposures under the guarantees. The cost of the guarantees that
remain unhedged will also affect Prudential's results.
In addition, Jackson hedges the guarantees on its variable
annuity book on an economic basis (with consideration of the local
regulatory position) and, thus, accepts variability in its
accounting results in the short term in order to achieve the
appropriate result on these bases. In particular, for Prudential's
Group IFRS reporting, the measurement of the Jackson variable
annuity guarantees is typically less sensitive to market movements
than for the corresponding hedging derivatives, which are held at
market value. However, depending on the level of hedging conducted
regarding a particular risk type, certain market movements can
drive volatility in the economic or local regulatory results that
may be less significant under IFRS reporting.
Also, Jackson has a significant spread based business with a
significant proportion of its assets invested in fixed-income
securities and its results are therefore affected by fluctuations
in prevailing interest rates. In particular, fixed annuities and
stable value products written by Jackson expose Prudential to the
risk that changes in interest rates, which are not fully reflected
in the interest rates credited to customers, will reduce spread.
The spread is the difference between the rate of return Jackson is
able to earn on the assets backing the policyholders' liabilities
and the amounts that are credited to policyholders in the form of
benefit increases, subject to minimum crediting rates. Declines in
spread from these products or other spread businesses that Jackson
conducts, and increases in surrender levels arising from interest
rate rises, could have a material impact on its businesses or
results of operations.
A significant part of the profit from M&GPrudential's
insurance operations is related to bonuses for policyholders
declared on with-profits products, which are broadly based on
historical and current rates of return on equity, real estate and
fixed income securities, as well as Prudential's expectations of
future investment returns. This profit could be lower in a
sustained low interest rate environment.
Prudential conducts its businesses subject to regulation and
associated regulatory risks, including the effects of changes in
the laws, regulations, policies and interpretations and any
accounting standards in the markets in which it operates
Changes in government policy and legislation (including in
relation to tax), capital control measures on companies and
individuals, regulation or regulatory interpretation applying to
companies in the financial services and insurance industries in any
of the markets in which Prudential operates (including those
related to the conduct of business by Prudential or its third party
distributors), or decisions taken by regulators in connection with
their supervision of members of the Group, which in some
circumstances may be applied retrospectively, may adversely affect
Prudential. The proposed demerger of M&GPrudential from
Prudential plc will result in a change to Prudential's group-wide
supervisor to the Hong Kong Insurance Authority, and as a
consequence will change the group-wide supervisory framework to
which Prudential is subject. Prudential has agreed to apply the
Local Capital Summation Method (LCSM) to determine Group regulatory
capital requirements immediately following the demerger of
M&GPrudential. The Group's engagement with the Hong Kong
Insurance Authority on the supervisory framework that will apply to
the Group in the longer term remains in progress. The impact from
any regulatory changes may affect Prudential's product range,
distribution channels, handling and usage of data, competitiveness,
profitability, capital requirements, risk management approaches,
corporate or governance structure and,
consequently, reported results and financing requirements. Also,
regulators in jurisdictions in which Prudential operates may impose
requirements affecting the allocation of capital and liquidity
between different business units in the Group, whether on a
geographic, legal entity, product line or other basis. Regulators
may change the level of capital required to be held by individual
businesses, the regulation of selling practices and solvency
requirements, and could introduce changes that impact the products
sold. Furthermore, as a result of interventions by governments in
light of financial and global economic conditions, there may
continue to be changes in government regulation and supervision of
the financial services industry, including the possibility of
higher capital requirements, restrictions on certain types of
transactions and enhanced supervisory powers.
Recent shifts in the focus of some national governments toward
more protectionist or restrictive economic and trade policies could
impact on the degree and nature of regulatory changes and
Prudential's competitive position in some geographic markets. This
could take effect, for example, through increased friction in
cross-border trade or measures favouring local enterprises such as
changes to the maximum level of non-domestic ownership by foreign
companies.
The EU's Solvency II Directive came into effect on 1 January
2016. The measure of regulatory capital under Solvency II is more
volatile than under the previous Solvency I regime and regulatory
policy may further evolve under the regime. The European Commission
began a review in late 2016 of some aspects of the Solvency II
legislative package, which is expected to continue until 2021 and
includes a review of the Long Term Guarantee measures. Prudential
applied for, and has been granted approval by the UK Prudential
Regulation Authority to use the following measures when calculating
its Solvency II capital requirements: the use of an internal model,
the 'matching adjustment' for UK annuities, the 'volatility
adjustment' for selected US dollar-denominated business, and UK
transitional measures on technical provisions. Prudential also has
permission to use 'deduction and aggregation' as the method by
which the contribution of the Group's US insurance entities to the
Group's solvency is calculated, which in effect recognises surplus
in US insurance entities in excess of 250 per cent of local US Risk
Based Capital requirements. For as long as Prudential or its
businesses remain subject to Solvency II, there is a risk that
changes may be required to Prudential's approved internal model or
other Solvency II approvals, which could have a material impact on
the Group Solvency II capital position. Where such changes
(including internal model changes) are subject to regulatory
approval, there is a risk that the approval is delayed or not
given. In such circumstances, changes in our risk profile would not
be able to be appropriately reflected in our internal model, which
could have a material impact on the Group's Solvency II capital
position.
Currently there are also a number of other global regulatory
developments which could impact Prudential's businesses in its many
jurisdictions. These include the Dodd-Frank Wall Street Reform and
Consumer Protection Act (Dodd-Frank Act) in the US, the work of the
Financial Stability Board (FSB) in the area of systemic risk
including the designation of Global Systemically Important Insurers
(G-SIIs), the Insurance Capital Standard (ICS) being developed by
the International Association of Insurance Supervisors (IAIS),
MiFID II and associated implementing measures, which came into
force on 3 January 2018 and the EU General Data Protection
Regulation, which came into force on 25 May 2018. In addition,
regulators in a number of jurisdictions in which the Group operates
are further developing local capital regimes; this includes
potential future developments under the National Association of
Insurance Commissioners' (NAIC) reforms in the US, amendments to
certain local statutory regimes in some territories in Asia and
Solvency II in the UK (as referred to above). There remains a high
degree of uncertainty over the potential impact of these changes on
the Group.
The Dodd-Frank Act, a US federal law enacted in 2010, provided
for a comprehensive overhaul of the financial services industry
within the US including reforms to financial services entities,
products and markets. The full impact of the Dodd-Frank Act on
Prudential's businesses remains unclear, as many of its provisions
are primarily focused on the banking industry, have a delayed
effectiveness and/or require rule-making or other actions by
various US regulators over the coming years. There is also
potential uncertainty surrounding future changes to the Dodd-Frank
Act under the current US administration.
Prudential's designation as a G-SII was last reaffirmed on 21
November 2016. The FSB, in conjunction with the IAIS, did not
publish a new list of G-SIIs in 2017 and did not engage in G-SII
identification for 2018 following IAIS' launch of the consultation
on the Holistic Framework (HF) on 14 November 2018, which aims to
assess and mitigate systemic risk in the insurance sector,
potentially serving as an alternative approach to the current G-SII
model. A further consultation was launched by the IAIS on 14 June
2019 with proposals for revisions to the Insurance Core Principles
in relation to the HF. The IAIS intends to implement the HF in
2020, proposing that G-SII identification be suspended from that
year. In the interim, the relevant group-wide supervisors have
committed to continue applying existing enhanced G-SII supervisory
policy measures with some supervisory discretion, which includes a
requirement to submit enhanced risk management plans. In November
2022, the FSB will review the need to either discontinue or
re-establish an annual identification of G-SIIs in consultation
with the IAIS and national authorities. The Higher Loss Absorbency
(HLA) standard (a proposed additional capital measure for G-SII
designated firms, planned to apply from 2022) is not part of the
proposed HF. However, the HF proposes supervisory monitoring to
identify potential vulnerabilities and increased supervisory powers
of intervention for mitigating systemic risk.
The IAIS is also developing the ICS as part of ComFrame - the
Common Framework for the supervision of Internationally Active
Insurance Groups (IAIGs). The implementation of ICS will be
conducted in two phases - a five-year monitoring phase followed by
an implementation phase. ComFrame will more generally establish a
set of common principles and standards designed to assist
supervisors in addressing risks that arise from insurance groups
with operations in multiple jurisdictions. The ComFrame proposals,
including ICS, could result in enhanced capital and regulatory
measures for IAIGs, for which Prudential satisfies the
criteria.
The NAIC is targeting a January 2020 effective date for the
revised Variable Annuity Framework, which was designed with the aim
of reducing the non-economic volatility in the variable annuity
statutory balance sheet. Jackson continues to make progress in
preparing models for implementation. The NAIC also has an ongoing
review of the C-1 bond factors in the required capital calculation,
on which further information is expected to be provided in due
course. The Group's preparations to manage the impact of these
reforms will continue.
On 27 July 2017, the UK FCA announced that it will no longer
persuade, or use its powers to compel, panel banks to submit rates
for the calculation of LIBOR after 2021. The discontinuation of
LIBOR in its current form and its replacement with the Sterling
Overnight Index Average benchmark (SONIA) in the UK (and other
alternative benchmark rates in other countries) could, among other
things, impact the Group through an adverse effect on the value of
Prudential's assets and liabilities which are linked to or which
reference LIBOR, a reduction in market liquidity during any period
of transition and increased legal and conduct risks to the Group
arising from changes required to documentation and its related
obligations to its stakeholders.
Various jurisdictions in which Prudential operates have created
investor compensation schemes that require mandatory contributions
from market participants in some instances in the event of a
failure of a market participant. As a major participant in the
majority of its chosen markets, circumstances could arise in which
Prudential, along with other companies, may be required to make
such contributions.
The Group's accounts are prepared in accordance with current
IFRS applicable to the insurance industry. The International
Accounting Standards Board (IASB) introduced a framework that it
described as Phase I which, under its standard IFRS 4 permitted
insurers to continue to use the statutory basis of accounting for
insurance assets and liabilities that existed in their
jurisdictions prior to January 2005. In May 2017, the IASB
published its replacement standard on insurance accounting (IFRS
17, 'Insurance Contracts'), which will have the effect of
introducing fundamental changes to the statutory reporting of
insurance entities that prepare accounts according to IFRS from
2021. In June 2019, the IASB published an exposure draft proposing
a number of targeted amendments to this new standard including the
deferral of the effective date by one year from 2021 to 2022. The
comment deadline for the exposure draft is 25 September 2019. The
EU will apply its usual process for assessing whether the standard
meets the necessary criteria for endorsement. The Group is
reviewing the complex requirements of this standard and considering
its potential impact. The effect of changes required to the Group's
accounting policies as a result of implementing the new standard is
currently uncertain, but these changes can be expected to, amongst
other things, alter the timing of IFRS profit recognition. Given
the implementation of this standard is likely to require
significant
enhancements to IT, actuarial and finance systems of the Group,
it will also have an impact on the Group's expenses.
Any changes or modification of IFRS accounting policies may
require a change in the way in which future results will be
determined and/or a retrospective adjustment of reported results to
ensure consistency.
The proposed demerger of M&GPrudential carries with it
execution risk and will continue to require significant management
attention
The proposed demerger of M&GPrudential is subject to a
number of factors and dependencies (including prevailing market and
political conditions, the appropriate allocation of debt and
capital between the two groups and internal and external approvals
(including those from regulators and shareholders). In addition,
preparing for and implementing the proposed demerger is expected to
continue to require significant time from management, which may
divert management's attention from other aspects of Prudential's
business.
Therefore, there can be no certainty that the demerger will be
implemented on the anticipated timetable, or that it will be
completed as proposed (or at all). Further, if the proposed
demerger is completed, there can be no assurance that either
Prudential plc or M&GPrudential will realise the anticipated
benefits of the transaction, or that the proposed demerger will not
adversely affect the trading value or liquidity of the shares of
either or both of the two businesses.
Failure to complete the demerger would result in the potential
benefits of the demerger not being realised and may have an adverse
effect on the reputation of Prudential and on the external
perception of its ability to implement large-scale projects
successfully. This may be the case even where the failure to
implement the demerger is due to factors outside the control of
Prudential. A failure to complete the demerger may also result in
increased regulatory scrutiny on Prudential, in particular where
the reasons for the demerger not proceeding are internal to
Prudential.
The intended UK exit from the EU may adversely impact economic
conditions, increase market volatility, increase political and
regulatory uncertainty, and cause operational disruption (including
reduced access to EU markets) which could have adverse effects on
Prudential's business and its profitability
In 2017, the UK submitted the formal notification of its
intention to withdraw from the EU pursuant to Article 50 of the
Treaty on the European Union, as amended. If no formal withdrawal
agreement is reached between the UK and the EU, then it is
currently expected the UK's membership of the EU will automatically
terminate on 31 October 2019 unless a further extension is agreed
between the UK and EU. The UK's decision to leave the EU will have
political, legal and economic ramifications for both the UK and the
EU, although these are expected to be more pronounced for the UK.
The Group has several UK-domiciled operations, principally
M&GPrudential, and these will be impacted by a UK withdrawal
from the EU, although contingency plans have been developed and
enacted since the referendum result to ensure that Prudential's
business is not unduly affected by the UK withdrawal. The outcome
of the negotiations on the UK's withdrawal and any subsequent
negotiations on trade and access to the country's major trading
markets, including the single EU market, is currently unknown. As a
result, there is ongoing uncertainty over the terms under which the
UK will leave the EU, in particular after any agreed transitional
period, and the potential for a disorderly exit by the UK without a
negotiated agreement. While the Group has undertaken significant
work to plan for and mitigate such risks, there can be no assurance
that these plans and efforts will be successful.
In particular, depending on the nature of the UK's exit from the
EU, some or all of the following risks may materialise, the extent
of which may be more pronounced if the UK leaves the EU without a
negotiated agreement and which may impact the business of the Group
and its profitability:
- The UK and EU may experience a downturn in economic activity.
The effect of any downturn is expected to be more pronounced for
the UK particularly in the event of a disorderly exit by the UK
from the EU. Market volatility and illiquidity may increase
(including for property funds, where redemption restrictions may be
applied) in the period leading up to, and following, the UK's
withdrawal. A disorderly exit could also lead to potential
downgrades in sovereign and corporate debt ratings in the UK and
the EU and falls in UK property values. In a severe scenario where
the UK's sovereign rating is downgraded by potentially more than
one notch, this may also impact on the ratings of UK companies,
including Prudential's UK business. Further or prolonged interest
rate reductions may occur due to monetary easing. These impacts may
result in the adverse effects outlined in the 'market fluctuations
and general economic conditions' risk factor.
- The UK's exit from the EU could result in significant changes
to the legal and regulatory regime under which the Group (and, in
particular, M&GPrudential) operates (including the future
application of the Solvency II regime in the UK), the nature and
extent of which remain uncertain while the manner of the UK's
withdrawal from the EU remains unclear and the extent and terms of
any future access to the single EU market remain to be agreed.
There may be an increase in complexity and costs associated with
operating in an additional regulatory jurisdiction.
- There may be increased risk of operational disruption to
Prudential's business, in particular to M&GPrudential. Access
to the EU market, and the ability to service EU clients, may be
adversely impacted. Negative market sentiment towards the UK from
investors may result in negative fund flows and EU service
providers may be less willing, or unable to service UK fund
managers, both of which may negatively impact on the asset
management business of M&GPrudential. The insurance business
may experience higher product lapses resulting from fund outflows.
The ability to retain and attract appropriately skilled staff from
the EU may be adversely impacted. Contractual documentation may
need to be renegotiated or redrafted in order to remain
effective.
Adverse experience in the operational risks inherent in
Prudential's business, and those of its material outsourcing
partners, could disrupt its business functions and have a negative
impact on its results of operations
Operational risks are present in all of Prudential's businesses,
including the risk (from both Prudential and its outsourcing and
external technology and data hosting partners) of direct or
indirect loss resulting from inadequate or failed internal and
external processes, systems or human error, fraud, the effects of
natural or man-made catastrophic events (such as natural disasters,
pandemics, cyber-attacks, acts of terrorism, civil unrest and other
catastrophes) or from other external events. Exposure to such
events could impact operational resilience by disrupting
Prudential's systems, operations, new business sales and renewals,
distribution channels and services to customers, which may result
in financial loss, customer impacts and reputational damage.
Prudential's business is dependent on processing a large number
of transactions across numerous and diverse products, and it
employs a large number of information technology (IT) and finance
systems and models, and user developed applications, some of which
are complex, in its processes. The long-term nature of much of the
Group's business also means that accurate records have to be
maintained for significant periods. Further, Prudential operates in
an extensive and evolving legal and regulated environment
(including in relation to tax) which adds to the operational
complexity of its business processes and controls.
These factors, among others, result in significant reliance on,
and require significant investment in, IT infrastructure, data
management, compliance and other operational systems, personnel and
processes for the performance of the Group's core business
activities. During times of significant change, the operational
effectiveness of these components may be impacted.
Although Prudential's IT, compliance and other operational
systems, models and processes incorporate controls designed to
manage and mitigate the operational and model risks associated with
its activities, there can be no assurance that such controls will
always be effective. Due to human error among other reasons,
operational and model risk incidents do occur from time to time and
no system or process can entirely prevent them although there have
not been any material events to date. Prudential's legacy and other
IT systems, data and processes, as with operational systems and
processes generally, may be susceptible to failure or security/data
breaches.
Such events could, among other things, harm Prudential's ability
to perform necessary business functions, result in the loss of
confidential or proprietary data (exposing it to potential legal
claims and regulatory sanctions) and damage its reputation and
relationships with its customers and business partners. Similarly,
any weakness in administration systems (such as those relating to
policyholder records or meeting regulatory requirements) or
actuarial reserving processes could have a material adverse effect
on its results of operations during the effective period.
In addition, Prudential also relies on a number of outsourcing
(including external technology and data hosting) partners to
provide several business processes, including a significant part of
the UK back office and customer facing operations as well as a
number of IT support functions and investment operations. This
creates reliance upon the operational performance of these
outsourcing partners, and failure to adequately oversee the
outsourcing partner, or the failure of an outsourcing partner (or
its key IT and operational systems and processes) could result in
significant disruption to business operations and customers.
The implementation of complex strategic initiatives gives rise
to significant execution risks, may affect the operational capacity
of the Group, and may adversely impact the Group if these
initiatives fail to meet their objectives
As part of the implementation of its business strategies,
Prudential is undertaking a number of significant change
initiatives across the Group, many of which are interconnected
and/or of large scale. There may be adverse financial and
non-financial (including operational, regulatory, customer and
reputational) implications for the Group if these initiatives fail,
in whole or in part, to meet their objectives. Additionally, these
initiatives inherently give rise to design and execution risks, and
may increase existing business risks, such as placing additional
strain on the operational capacity, or weakening the control
environment, of the Group. Implementing further strategic
initiatives may amplify these risks.
The Group's current significant change initiatives include the
merger of M&G and Prudential UK and Europe and the proposed
demerger of M&GPrudential. In particular, significant
operational execution risks arise from these initiatives, including
in relation to the separation and establishment of standalone
governance regimes for both the M&GPrudential and remaining
Group under their prospective regulatory regimes following the
proposed demerger, and the separation and establishment of their
respective business functions and processes (data, systems, people)
and other third-party arrangements.
Prudential is subject to the risk of potential sovereign debt
credit deterioration owing to the amounts of sovereign debt
obligations held in its investment portfolio
Investing in sovereign debt creates exposure to the direct or
indirect consequences of political, social or economic changes
(including changes in governments, heads of state or monarchs) in
the countries in which the issuers are located and to the
creditworthiness of the sovereign. Investment in sovereign debt
obligations involves risks not present in debt obligations of
corporate issuers. In addition, the issuer of the debt or the
governmental authorities that control the repayment of the debt may
be unable or unwilling to repay principal or pay interest when due
in accordance with the terms of such debt, and Prudential may have
limited recourse to compel payment in the event of a default. A
sovereign debtor's willingness or ability to repay principal and to
pay interest in a timely manner may be affected by, among other
factors, its cash flow situation, its relations with its central
bank, the extent of its foreign currency reserves, the availability
of sufficient foreign exchange on the date a payment is due, the
relative size of the debt service burden to the economy as a whole,
the sovereign debtor's policy toward local and international
lenders, and the political constraints to which the sovereign
debtor may be subject.
Moreover, governments may use a variety of techniques, such as
intervention by their central banks or imposition of regulatory
controls or taxes, to devalue their currencies' exchange rates, or
may adopt monetary and other policies (including to manage their
debt burdens) that have a similar effect, all of which could
adversely impact the value of an investment in sovereign debt even
in the absence of a technical default. Periods of economic
uncertainty may affect the volatility of market prices of sovereign
debt to a greater extent than the volatility inherent in debt
obligations of other types of issuers.
In addition, if a sovereign default or other such events
described above were to occur as has happened on occasion in the
past, other financial institutions may also suffer losses or
experience solvency or other concerns, and Prudential might face
additional risks relating to any debt held in such financial
institutions held in its investment portfolio. There is also risk
that public perceptions about the stability and creditworthiness of
financial institutions and the financial sector generally might be
adversely affected, as might counterparty relationships between
financial institutions. If a sovereign were to default on its
obligations, or adopt policies that devalued or otherwise altered
the currencies in which its obligations were denominated this could
have a material adverse effect on Prudential's financial condition
and results of operations.
Prudential is subject to the risk of exchange rate fluctuations
owing to the geographical diversity of its businesses
Due to the geographical diversity of Prudential's businesses,
Prudential is subject to the risk of exchange rate fluctuations.
Prudential's operations in the US and Asia, which represent a
significant proportion of operating profit based on longer-term
investment returns and shareholders' funds, generally write
policies and invest in assets denominated in local currencies.
Although this practice limits the effect of exchange rate
fluctuations on local operating results, it can lead to significant
fluctuations in Prudential's consolidated financial statements upon
the translation of results into pounds sterling. This exposure is
not currently separately managed. The currency exposure relating to
the translation of reported earnings could impact financial
reporting ratios such as dividend cover, which is calculated as
operating profit after tax on an IFRS basis, divided by the
dividends relating to the reporting year. The impact of gains or
losses on currency translations is recorded as a component of
shareholders' funds within other comprehensive income.
Consequently, this could impact Prudential's gearing ratios
(defined as debt over debt plus shareholders' funds). The Group's
surplus capital position for regulatory reporting purposes may also
be affected by fluctuations in exchange rates with possible
consequences for the degree of flexibility that Prudential has in
managing its business.
The resolution of several issues affecting the financial
services industry could have a negative impact on Prudential's
reported results or on its relations with current and potential
customers
Prudential is, and in the future may continue to be, subject to
legal and regulatory actions in the ordinary course of its business
on matters relevant to the delivery of customer outcomes. Such
actions relate, and could in the future relate, to the application
of current regulations or the failure to implement new regulations
(including those relating to the conduct of business), regulatory
reviews of broader industry practices and products sold (including
in relation to lines of business already closed) in the past under
acceptable industry or market practices at the time and changes to
the tax regime affecting products. Regulators may also focus on the
approach that product providers use to select third-party
distributors and to monitor the appropriateness of sales made by
them. In some cases, product providers can be held responsible for
the deficiencies of third-party distributors.
Current regulatory actions include the requirement in the UK to
provide redress to certain past purchasers of pensions and mortgage
endowment policies, and the UK insurance business's undertaking to
the FCA to review annuities sold without advice after 1 July 2008
to its contract-based defined contribution pension customers. This
will result in the UK insurance business being required to provide
redress to certain such customers. A provision has been established
to cover the costs of undertaking the review and any related
redress but the ultimate amount required remains uncertain.
In the US, there has been significant attention on the different
regulatory standards applied to investment advice delivered to
retail customers by different sectors of the industry. As a result
of reports relating to perceptions of industry abuses, there have
been numerous regulatory inquiries and proposals for legislative
and regulatory reforms. This includes focus on the suitability of
sales of certain products, alternative investments and the widening
of the circumstances under which a person or entity providing
investment advice with respect to certain employee benefit and
pension plans would be considered a fiduciary subjecting the person
or entity to certain regulatory requirements. There is a risk that
new regulations introduced may have a material adverse effect on
the sales of the products by Prudential and increase Prudential's
exposure to legal risks.
Litigation, disputes and regulatory investigations may adversely
affect Prudential's profitability and financial condition
Prudential is, and may in the future be, subject to legal
actions, disputes and regulatory investigations in various
contexts, including in the ordinary course of its insurance,
investment management and other business operations. These legal
actions, disputes and investigations may relate to aspects of
Prudential's businesses and operations that are specific to
Prudential, or that are common to companies that operate in
Prudential's markets. Legal actions and disputes may arise under
contracts, regulations (including tax) or from a course of conduct
taken by Prudential, and may be class actions. Although Prudential
believes that it has adequately provided in all material respects
for the costs of litigation and regulatory matters, no assurance
can be provided that such provisions are sufficient. Given the
large or indeterminate amounts of damages sometimes sought, other
sanctions that might be imposed and the inherent unpredictability
of litigation and disputes, it is possible that an adverse outcome
could have an adverse effect on Prudential's reputation, results of
operations or cash flows.
Prudential's businesses are conducted in highly competitive
environments with developing demographic trends and continued
profitability depends upon management's ability to respond to these
pressures and trends
The markets for financial services in the UK, US and Asia are
highly competitive, with several factors affecting Prudential's
ability to sell its products and continued profitability, including
price and yields offered, financial strength and ratings, range of
product lines and product quality, brand strength and name
recognition, investment management performance, historical bonus
levels, the ability to respond to developing demographic trends,
customer appetite for certain savings products and technological
advances. In some of its markets, Prudential faces competitors that
are larger, have greater financial resources or a greater market
share, offer a broader range of products or have higher bonus
rates. Further, heightened competition for talented and skilled
employees and agents with local experience, particularly in Asia,
may limit Prudential's potential to grow its business as quickly as
planned.
In Asia, the Group's principal competitors include global life
insurers such as Allianz, AXA, and Manulife together with regional
insurers such as AIA, FWD and Great Eastern, and multinational
asset managers such as Franklin Templeton, HSBC Global Asset
Management, J.P. Morgan Asset Management and Schroders. In most
markets, there are also local companies that have a material market
presence.
M&GPrudential's principal competitors include many of the
major retail financial services companies and fund management
companies including, for example, Aviva, Janus Henderson, Jupiter,
Legal & General, Schroders and Standard Life Aberdeen.
Jackson's competitors in the US include major stock and mutual
insurance companies, mutual fund organisations, banks and other
financial services companies such as Aegon, AIG, Allianz, AXA
Equitable Holdings Inc., Brighthouse, Lincoln Financial Group,
MetLife and Prudential Financial.
Prudential believes competition will intensify across all
regions in response to consumer demand, digital and other
technological advances, the need for economies of scale and the
consequential impact of consolidation, regulatory actions and other
factors. Prudential's ability to generate an appropriate return
depends significantly upon its capacity to anticipate and respond
appropriately to these competitive pressures.
Downgrades in Prudential's financial strength and credit ratings
could significantly impact its competitive position and damage its
relationships with creditors or trading counterparties
Prudential's financial strength and credit ratings, which are
used by the market to measure its ability to meet policyholder
obligations, are an important factor affecting public confidence in
Prudential's products, and as a result its competitiveness.
Downgrades in Prudential's ratings as a result of, for example,
decreased profitability, increased costs, increased indebtedness or
other concerns could have an adverse effect on its ability to
market products, retain current policyholders, and on the Group's
financial flexibility. In addition, the interest rates Prudential
pays on its borrowings are affected by its credit ratings, which
are in place to measure the Group's ability to meet its contractual
obligations.
Prudential plc's long-term senior debt is rated as A2 by
Moody's, A by Standard & Poor's and A- by Fitch.
Prudential plc's short-term debt is rated as P-1 by Moody's, A-1
by Standard & Poor's and F1 by Fitch.
The Prudential Assurance Company Limited's financial strength is
rated Aa3 by Moody's, A+ by Standard & Poor's and AA- by
Fitch.
Jackson's financial strength is rated AA- by Standard &
Poor's and Fitch, A1 by Moody's and A+ by A.M. Best.
Prudential Assurance Co. Singapore (Pte) Ltd's financial
strength is rated AA- by Standard & Poor's.
All ratings above are on a stable outlook and are stated as at
the date of this document.
In addition, changes in methodologies and criteria used by
rating agencies could result in downgrades that do not reflect
changes in the general economic conditions or Prudential's
financial condition.
Attempts to access or disrupt Prudential's IT systems, and loss
or misuse of personal data, could result in loss of trust from
Prudential's customers and employees, reputational damage and
financial loss
Prudential and its business partners are increasingly exposed to
the risk that individuals or groups may attempt to disrupt the
availability, confidentiality and integrity of its IT systems,
which could result in disruption to key operations, make it
difficult to recover critical services, damage assets and
compromise the integrity and security of data (both corporate and
customer). This could result in loss of trust from Prudential's
customers and employees, reputational damage and direct or indirect
financial loss. The cyber-security threat continues to evolve
globally in sophistication and potential significance. Prudential's
increasing profile in its current markets and those in which it is
entering, growing customer interest in interacting with their
insurance providers and asset managers through the internet and
social media, improved brand awareness and the classification of
Prudential as a G-SII could also increase the likelihood of
Prudential being considered a target by cyber criminals. Further,
there have been changes to the threat landscape and the risk from
untargeted but sophisticated and automated attacks has
increased.
There is an increasing requirement and expectation on Prudential
and its business partners, to not only hold customer, shareholder
and employee data securely, but use it in a transparent and
appropriate way. Developments in data protection worldwide (such as
the implementation of EU General Data Protection Regulation that
came into force on 25 May 2018) may also increase the financial and
reputational implications for Prudential following a significant
breach of its (or its third-party suppliers') IT systems. Although
Prudential has experienced or has been affected by cyber and data
breaches, to date, it has not identified a failure or breach, or an
incident of data misuse in relation to its legacy and other IT
systems and processes which has had a material impact. However, it
has been, and likely will continue to be, subject to potential
damage from computer viruses, unauthorised access and
cyber-security attacks such as 'denial of service' attacks (which,
for example, can cause temporary disruption to websites and IT
networks), phishing and disruptive software campaigns.
Prudential is continually enhancing its IT environment to remain
secure against emerging threats, together with increasing its
ability to detect system compromise and recover should such an
incident occur. However, there can be no assurance that such events
will not take place which may have material adverse consequential
effects on Prudential's business and financial position.
The failure to understand and respond effectively to the risks
associated with environmental, social or governance (ESG) factors
could adversely affect Prudential's achievement of its long-term
strategy
The business environment in which Prudential operates is
continually changing. A failure to manage those material risks
which have ESG implications may adversely impact on the reputation
and brand of the Group, the results of its operations, its ability
to attract and retain customers and staff, and its ability to
deliver on its long-term strategy and therefore its long-term
success. ESG-related issues may also directly or indirectly impact
key stakeholders, ranging from customers to institutional
investors, employees, suppliers and regulators, all of whom have
expectations in this area, which may differ.
Climate change is one ESG theme that poses potentially
significant risks to Prudential and its customers, not only from
the physical impacts of climate change, driven by both specific
short-term climate-related events such as natural disasters and
longer-term impacts, but also from transition risks associated with
the shift to a low carbon economy. Climate-driven changes in
countries in which Prudential operates could change its claims
profile. There is an increasing expectation from stakeholders for
Prudential to understand, manage and provide increased transparency
of its exposure to climate-related risks. For example, the FSB's
Task Force on Climate-related Disclosures recommendations were
published in 2017 to provide a voluntary framework on corporate
climate-related financial disclosures following the FSB's concern
that there may be systemic risk in the financial system related to
climate change. More recently, in April 2019 the UK Prudential
Regulation Authority published a supervisory statement which
highlighted the physical and transition risks to financial
stability caused by climate change and set out its expectations
on
UK insurers in relation to such risks.
As governments and policymakers take action to reduce greenhouse
gas emissions and limit global warming, the transition to a low
carbon economy could have an adverse impact on global investment
asset valuations whilst at the same time present investment
opportunities which the Group will need to monitor. In particular,
there is a risk that this transition could result in some asset
sectors facing significantly higher costs and a disorderly
adjustment to their asset values. This could lead to an adverse
impact on the value and the future performance of the investment
assets of the Group. The potential broader economic impact from
this may impact upon customer demand for the Group's products.
Given that Prudential's investment horizons are long term, it is
potentially more exposed to the long-term impact of climate change
risks. Additionally, Prudential's stakeholders increasingly expect
responsible investment principles to be adopted to demonstrate that
ESG considerations (including climate change) are effectively
integrated into investment decisions and fiduciary and stewardship
duties.
Adverse experience relative to the assumptions used in pricing
products and reporting business results could significantly affect
Prudential's results of operations
In common with other life insurers, the profitability of the
Group's businesses depends on a mix of factors including mortality
and morbidity levels and trends, policy surrenders and take-up
rates on guarantee features of products, investment performance and
impairments, unit cost of administration and new business
acquisition expenses. The Group's businesses are subject to
inflation risk. In particular, the Group's medical insurance
businesses in Asia are also exposed to medical inflation risk.
Prudential needs to make assumptions about a number of factors
in determining the pricing of its products, for setting reserves,
and for reporting its capital levels and the results of its
long-term business operations. Assumptions about future expected
levels of mortality are of relevance to the Guaranteed Minimum
Withdrawal Benefit (GMWB) of Jackson's variable annuity business.
In addition, the assumption that Prudential makes about future
expected levels of mortality is particularly relevant for its UK
annuity business, where payments are guaranteed for at least as
long as the policyholder is alive. Prudential conducts rigorous
research into longevity risk, using industry data as well as its
own substantial annuitant experience. As part of its pension
annuity pricing and reserving policy, Prudential's UK business
assumes that current rates of mortality continuously improve over
time at levels based on adjusted data and informed by models from
the Continuous Mortality Investigation (CMI) as published by the
Institute and Faculty of Actuaries. If mortality improvement rates
significantly exceed the improvement assumed, Prudential's results
of operations could be adversely affected.
A further factor is the assumption that Prudential makes about
future expected levels of the rates of early termination of
products by its customers (known as persistency). This is relevant
to a number of lines of business in the Group, especially for
Jackson's portfolio of variable annuities. Prudential's persistency
assumptions reflect a combination of recent past experience for
each relevant line of business and expert judgement, especially
where a lack of relevant and credible experience data exists. Any
expected change in future persistency is also reflected in the
assumption. If actual levels of future persistency are
significantly different than assumed, the Group's results of
operations could be adversely affected. Furthermore, Jackson's
variable annuity products are sensitive to other types of
policyholder behaviour, such as the take-up of its GMWB product
features.
In addition, Prudential's business may be adversely affected by
epidemics and other effects that give rise to a large number of
deaths or additional sickness claims, as well as increases to the
cost of medical claims. Significant influenza and other epidemics
have occurred a number of times historically but the likelihood,
timing, or the severity of future epidemics cannot be predicted.
The effectiveness of external parties, including governmental and
non-governmental organisations, in combating the spread and
severity of any epidemics could have a material impact on the
Group's loss experience.
As a holding company, Prudential is dependent upon its
subsidiaries to cover operating expenses and dividend payments
The Group's insurance and investment management operations are
generally conducted through direct and indirect subsidiaries, which
are subject to the risks discussed elsewhere in this 'Risk Factors'
section.
As a holding company, Prudential's principal sources of funds
are remittances from subsidiaries, shareholder-backed funds, the
shareholder transfer from long-term funds and any amounts that may
be raised through the issuance of equity, debt and commercial
paper.
Certain of Prudential's subsidiaries are subject to applicable
insurance, foreign exchange and tax laws, rules and regulations
that can limit their ability to make remittances. In some
circumstances, this could limit Prudential's ability to pay
dividends to shareholders or to make available funds held in
certain subsidiaries to cover operating expenses of other members
of the Group.
Prudential operates in a number of markets through joint
ventures and other arrangements with third parties, involving
certain risks that Prudential does not face with respect to its
consolidated subsidiaries
Prudential operates, and in certain markets is required by local
regulation to operate, through joint ventures and other similar
arrangements. For such Group operations, management control is
exercised in conjunction with other participants. The level of
control exercisable by the Group depends on the terms of the
contractual agreements, in particular, the allocation of control
among, and continued cooperation between, the participants. In
addition, the level of control exercisable by the Group could also
be subject to changes in the maximum level of non-domestic
ownership imposed on foreign companies in certain jurisdictions.
Prudential may face financial, reputational and other exposure
(including regulatory censure) in the event that any of its
partners fails or is unable to meet its obligations under the
arrangements, encounters financial difficulty, or fails to comply
with local or international regulation and standards such as those
pertaining to the prevention of financial crime. In addition, a
significant proportion of the Group's product distribution is
carried out through arrangements with third parties not controlled
by Prudential and is therefore dependent upon continuation of these
relationships. A temporary or permanent disruption to these
distribution arrangements, such as through significant
deterioration in the reputation, financial position or other
circumstances of the third party or material failure in controls
(such as those pertaining to the third-party system failure or the
prevention of financial crime) could adversely affect the results
of operations of Prudential.
Prudential's Articles of Association contain an exclusive
jurisdiction provision
Under Prudential's Articles of Association, certain legal
proceedings may only be brought in the courts of England and Wales.
This applies to legal proceedings by a shareholder (in its capacity
as such) against Prudential and/or its directors and/or its
professional service providers. It also applies to legal
proceedings between Prudential and its directors and/or Prudential
and Prudential's professional service providers that arise in
connection with legal proceedings between the shareholder and such
professional service providers. This provision could make it
difficult for US and other non-UK shareholders to enforce their
shareholder rights.
Changes in tax legislation may result in adverse tax
consequences
Tax rules, including those relating to the insurance industry,
and their interpretation may change, possibly with retrospective
effect, in any of the jurisdictions in which Prudential operates.
Significant tax disputes with tax authorities, and any change in
the tax status of any member of the Group or in taxation
legislation or its scope or interpretation could affect
Prudential's financial condition and results of operations.
This information is provided by RNS, the news service of the
London Stock Exchange. RNS is approved by the Financial Conduct
Authority to act as a Primary Information Provider in the United
Kingdom. Terms and conditions relating to the use and distribution
of this information may apply. For further information, please
contact rns@lseg.com or visit www.rns.com.
END
IR GGUMURUPBGRW
(END) Dow Jones Newswires
August 14, 2019 04:30 ET (08:30 GMT)
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