I: Other notes

On 1 February 2010, the Group acquired from United Overseas Bank (UOB) its 100 per cent interest in UOB Life Assurance Limited in Singapore for total cash consideration, after post-completion adjustments of SGD67 million (£32 million), of SGD495 million (£220 million). As part of the transaction the Group also entered into a long-term strategic partnership to develop a major regional bancassurance business with UOB.

In addition to the amounts above, the Group incurred £2 million of acquisition-related costs (excluding integration costs). These have been excluded from the consideration transferred and have been recognised as an expense in the period, in the consolidated income statement.

Goodwill arising on acquisition

 

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  £m
Cash consideration 220
Less: fair value of identifiable net assets acquired (79)
Goodwill arising on acquisition 141

Goodwill arose on the acquisition of UOB Life Assurance Limited in Singapore because the acquisition included revenue and cost synergies. These synergies could not be recognised as assets separately from goodwill because they are not capable of being separated from the Group and sold, transferred, licensed, rented or exchanged, either individually or together with any related contracts and did not arise from contractual or other legal rights.

None of the goodwill arising on this transaction is expected to be deductible for tax purposes.

Assets acquired and liabilities assumed at the date of acquisition

 

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  £m
Assets:  
Intangible assets attributable to shareholders: present value of acquired in-force business 12
Other non-investment and non-cash assets 16
Investments of long-term business and other operations 1,004
Cash and cash equivalents 89
Total assets 1,121
Liabilities:  
Policyholder liabilities 968
Other non-insurance liabilities 74
Total liabilities 1,042
Fair value of identifiable net assets acquired 79

Total assets include loans and receivables with a fair value of £15 million. This value represents the gross contractual amount and all amounts have been collected.

The consolidated statement of cash flows contains a £133 million net cash outflow in respect of this acquisition representing cash consideration of £220 million, acquisition related costs paid of £2 million less cash and cash equivalents acquired of £89 million.

Impact of acquisition on the results of the Group

Included in the Group's consolidated profit before tax for the year is £8 million attributable to UOB Life Assurance Limited in Singapore. Consolidated revenue, including investment returns, for the year includes £125 million in respect of UOB Life Assurance Limited in Singapore.

Had the acquisition been effected at 1 January 2010, the revenue and profit of the Group from continuing operations for the year ended 31 December 2010 would not have been materially different.

a Dilution of the Group's holding in PruHealth in 2010

On 1 August 2010, Discovery Holdings of South Africa, the Group's joint venture partner in its investment in PruHealth, completed the acquisition of the entire share capital of Standard Life Healthcare, a wholly-owned subsidiary of the Standard Life Group, for £138 million. Discovery funded the purchase of the Standard Life Healthcare transaction, and contributed Standard Life Healthcare to PruHealth as a capital investment on completion. As a result of the transaction, Discovery have increased their shareholding in PruHealth from the previous level of 50 per cent to 75 per cent, and Prudential's shareholding has been reduced from 50 per cent of the previous joint venture structure to 25 per cent of the new structure with the much enlarged business.

As a result of this dilution in holding and the consequential loss of control, PruHealth has been reclassified from a joint venture to an associate and the entity is no longer proportionally consolidated from the date of the transaction. In accordance with IAS 31 'Interests in joint ventures' a gain of £30 million arises upon the dilution, representing the difference between the fair value of the enlarged 25 per cent investment still held and the book value of the original 50 per cent investment holding.

b Sale of Taiwan agency business in 2009

In 2009, the Company sold the assets and liabilities of its agency distribution business and its agency force in Taiwan to China Life Insurance Company Ltd of Taiwan for the nominal sum of NT$1. In addition, the Company invested £45 million to purchase a 9.99 per cent stake in China Life through a share placement. The business transferred represented 94 per cent of Prudential's in-force liabilities in Taiwan and included Prudential's legacy interest rate guaranteed products. The sale was completed on 19 June 2009.

The Company retains its interest in life insurance business in Taiwan through its retained bank distribution partnerships and its direct investment in China Life made in 2009. At 31 December 2010 the Company's interest in China Life was 8.66 per cent (2009: 9.99 per cent).

The effect on the IFRS income statement was a pre-tax loss of £621 million comprising a loss on sale of £559 million and trading losses before tax up to the date of sale of £62 million. After allowing for tax and other adjustments, the reduction to shareholders' equity was £607 million.

The loss on disposal of £559 million includes cumulative foreign exchange gains of £9 million recycled through the profit and loss account as required by IAS 21.

Cash and cash equivalents disposed of were £388 million and restructuring and other costs incurred in cash in the year were £64 million. In addition, the Company invested £45 million in China Life as described above. Accordingly, the cash outflow for the Group arising from the sale of the Taiwan agency business, as shown in the consolidated statement of cash flows, was £497 million.

a Staff and employment costs

The average number of staff employed by the Group during the year was:

 

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  2010 2009
Business operations:    
Asian operations 17,988 19,502
US operations 3,545 3,371
UK operations 4,459 4,516
Total 25,992 27,389

The costs of employment were:

 

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  2010 £m 2009 £m
Business operations:    
Wages and salaries 1,052 878
Social security costs 69 61
Other pension costs (see below) 95 95
Pension actuarial and other losses (gains) charged to income statement 26 138
  121 233
Total 1,242 1,172

Other pension costs comprises £58 million (2009: £57 million) relating to defined benefit schemes and £37 million (2009: £38 million) relating to defined contribution schemes of continuing operations. Of the defined contribution scheme costs, £26 million (2009: £27 million) related to overseas defined contribution schemes. The £58 million (2009: £57 million) relating to defined benefit schemes comprises a charge of £27 million (2009: £29 million) relating to PSPS and a charge of £31 million (2009: £28 million) for other schemes.

Consistent with the derecognition of the Company's interest in the underlying IAS 19 surplus of PSPS as described in note (b)(i)1 below, the £27 million (2009: £29 million) for PSPS represents the cash cost of contributions for ongoing service of active members and the unwind of discount on the opening provision for deficit funding for PSPS. The charge of £31 million (2009: £28 million) for other schemes comprises £18 million (2009: £19 million) charge on an economic basis, reflecting the total assets of the schemes, and a further £13 million (2009: £9 million) charge to adjust for amounts invested in Prudential insurance policies to arrive at the IAS 19 basis charge.

The loss of £26 million (2009: £138 million) for actuarial and other gains comprises a loss of £15 million (2009: £155 million) for actuarial and other losses on an economic basis and £11 million actuarial gains (2009: £17 million) to adjust for amounts invested in Prudential insurance policies. The derivation of these amounts is shown in note (b)(i)7.

b Pension plans

i Defined benefit plans

1 Summary

The Group business operations operate a number of pension schemes. The specific features of these plans vary in accordance with the regulations of the country in which the employees are located, although they are, in general, funded by the Group and based either on a cash balance formula or on years of service and salary earned in the last year or years of employment. The largest defined benefit scheme is the principal UK scheme, namely the Prudential Staff Pension Scheme (PSPS); 86 per cent (2009: 86 per cent) of the underlying scheme liabilities of the Group defined benefit schemes are accounted for within PSPS.

The Group also operates two smaller defined benefit schemes for UK employees in respect of Scottish Amicable and M&G. For all three schemes the projected unit method was used for the most recent full actuarial valuations. There is also a small defined benefit scheme in Taiwan but as part of the sale of the Taiwan agency business completed in June 2009, the Group settled the majority of the obligations under the scheme as a significant number of employees transferred out.

Defined benefit schemes in the UK are generally required to be subject to full actuarial valuation every three years in order to assess the appropriate level of funding for schemes in relation to their commitments. These valuations include assessments of the likely rate of return on the assets held within the separate trustee administered funds. PSPS was last actuarially valued as at 5 April 2008. This valuation demonstrated the scheme to be 106 per cent funded by reference to the Scheme Solvency Target that forms the basis of the scheme's statutory funding objective. No formal deficit funding plan was required. However, in recognition of the fall in value of the Scheme's investments between 5 April 2008 and the completion of the actuarial valuation, an additional funding akin to deficit funding was agreed with the Trustees. This is subject to a reassessment when the next valuation is completed. The total contribution being currently made by the Group into the scheme, representing the annual accrual cost and deficit fundings, are £50 million per annum. Deficit funding for PSPS is apportioned in the ratio of 70/30 between the PAC life fund and shareholder-backed operations following detailed consideration in 2005 of the sourcing of previous contributions. Employer contributions for ongoing service of current employees are apportioned in the ratio relevant to current activity. In 2010, total contributions for the year including expenses and augmentations were £55 million at 31 December (2009: £67 million). The market value of scheme assets as at 5 April 2008 was £4,759 million.

The actuarial assumptions used in determining benefit obligations and the net periodic benefit costs for the purposes of the valuation were as follows:

Rate of increase in salaries Nil
Rate of inflation 3.5%
Rate of increase of pensions in payment for inflation:
Guaranteed (maximum 5%) 3.5%
Guaranteed (maximum 2.5%) 2.5%
Discretionary Nil
Expected returns on plan assets 4.55%

Mortality assumptions

The tables used for PSPS pensions in payment at 5 April 2008 were:

Base post retirement mortality:

For current male (female) pensioners 108.6 per cent (103.4 per cent) of the mortality rates of the 2000 series mortality tables, published by the Continuous Mortality Investigation Bureau. For male (female) non-pensioners 113.4 per cent (97.4 per cent) of the 2000 series rates.

Allowance for future improvements to post retirement mortality:

For males (females) 100 per cent (75 per cent) of Medium Cohort subject to a minimum rate of improvement of 1.75 per cent (1 per cent) up to the age of 90, decreasing linearly to zero by age of 120.

The valuation of the Scottish Amicable Pension Scheme as at 31 March 2008 demonstrated the scheme to be 91 per cent funded, with a shortfall of actuarially determined liabilities of nine per cent, representing a deficit of £38 million. Based on this valuation, deficit funding amounts designed to eliminate the actuarial deficit over a seven year period were made from July 2009 of £7.3 million per annum. Since the valuation date, there has been deterioration in the funding level. During 2010, the Group agreed to pay additional funding of £5.8 million per annum from October 2010 until conclusion of the next formal valuation, or until the funding level reaches 90 per cent, whichever is the earlier. The IAS 19 deficit of the Scottish Amicable Pension Scheme at 31 December 2010 of £146 million (2009: £139 million) has been allocated approximately 50 per cent to the PAC with-profits fund and 50 per cent to the shareholders' fund.

The valuation of the M&G Pension Scheme as at 31 December 2008 was finalised in January 2010 and demonstrated the scheme to be 76 per cent funded. Based on this valuation, deficit funding amounts designed to eliminate the actuarial deficit over a five year period are being made from January 2010 of £14.1 million per annum for the first two years and £9.3 million per annum for the subsequent three years. The IAS 19 deficit of the M&G Pension Scheme on an economic basis at 31 December 2010 was £27 million (2009: £36 million) and is wholly attributable to shareholders.

The next triennial valuations for the PSPS, Scottish Amicable and M&G pension schemes are scheduled to take place by 5 April 2011, 31 March 2011 and 31 December 2011.

Under the IAS 19 valuation basis, the Group applies IFRIC 14, 'IAS 19 – The Limit on a Defined Benefit Asset, Minimum Funding Requirements and their Interaction'. Under IFRIC 14, for PSPS, where the Group does not have unconditional right of refund to any surplus in the scheme, the surplus is not recognised. Additionally, the Group has to recognise a liability for committed deficit funding obligation to PSPS. At 31 December 2010, the Group has not recognised the underlying PSPS surplus of £485 million gross of deferred tax (2009: £513 million) and has recognised a liability for deficit funding to 30 June 2012 for PSPS of £47 million, gross of deferred tax (2009: £75 million).

The asset and liabilities of PSPS are unaffected by the impact of the application of IFRIC 14. PSPS is managed on an economic basis for the longer-term benefit of its current and deferred pensioners and active members. The surplus in PSPS is available to absorb future adverse asset value movements and, if required, strengthening in mortality assumptions.

As at 31 December 2010, after the effect of the application of IFRIC 14, the shareholders' share of the pension liability for PSPS deficit funding obligation and the deficits of the defined benefit pension schemes amounted to a £83 million liability net of related tax relief (2009: £92 million). These amounts are determined after including amounts invested by the M&G scheme in Prudential policies as explained later in this note.

On the economic basis (including investments of the M&G scheme in Prudential policies as assets), for 2010, a £27 million (2009: £32 million) pre-tax shareholder charge to operating results based on longer-term returns arises. In addition, outside the operating result but included in total profits is a pre-tax shareholder loss of £10 million (2009: £74 million) for shareholders' share of actuarial and other gains and losses.

In addition, also on the economic basis, the PAC with-profits sub-fund was charged £18 million (2009: charge of £16 million) for its share of the pension charge of PSPS and Scottish Amicable and charged with £5 million (2009: £81 million) for its share of net actuarial and other losses on the scheme assets and liabilities. As shareholder profits for the PAC with-profits sub-fund reflects the surplus for distribution, these amounts are effectively absorbed by an increased credit in the income statement for the transfer to the liability for unallocated surplus.

At 31 December 2010, after the effect of the application of IFRIC 14, the total share of the liability for deficit funding on PSPS and the deficit on the smaller Scottish Amicable Scheme attributable to the PAC with-profits fund amounted to a liability of £99 million (2009: £110 million) net of related tax relief.

2 Corporate governance

The rules of the Group's largest pension arrangement, the defined benefit section of PSPS, a final salary scheme, specify that, in exercising its investment powers, the Trustee's objective is to achieve the best overall investment return consistent with the security of the assets of the scheme. In doing this, consideration is given to the nature and duration of the scheme's liabilities. The Trustee sets the benchmark for the asset mix, following analysis of the liabilities by the Scheme's Actuary and, having taken advice from the Investment Managers, then selects benchmark indices for each asset type in order to measure investment performance against a benchmark return.

The Trustee reviews strategy, the asset mix benchmark and the Investment Managers' objectives every three years, to coincide with the Actuarial Valuation, or earlier if the Scheme Actuary recommends. Interim reviews are conducted annually based on changing economic circumstances and financial market levels.

The Trustee sets the general investment policy and specifies any restrictions on types of investment and the degrees of divergence permitted from the benchmark, but delegates the responsibility for selection and realisation of specific investments to the Investment Managers. In carrying out this responsibility, the Investment Managers are required by the Pensions Act 1995 to have regard to the need for diversification and suitability of investments. Subject to a number of restrictions contained within the relevant asset management agreements, the Investment Managers are authorised to invest in any class of investment asset. However, the Investment Managers will not invest in any new class of investment asset without prior consultation with the Trustee.

The Trustee consults the Principal Employer, the Prudential Assurance Company, on these investment principles, but the ultimate responsibility for the investment of the assets of the scheme lies with the Trustee.

The investment policies and strategies for the other two UK defined benefit schemes, the M&G Group Pension Scheme and the Scottish Amicable Staff Pension Scheme, which are both final salary schemes, follow similar principles, but have different target allocations reflecting the particular requirements of the schemes.

3 Assumptions

The actuarial assumptions used in determining benefit obligations and the net periodic benefit costs for the years ended 31 December were as follows:

 

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  2010 % 2009 %
  • *The discount rate has been determined by reference to an 'AA' corporate bond index adjusted, where applicable, to allow for the difference in duration between the index and the pension liabilities.
  • The rates of 2.5 per cent shown are those for PSPS. Assumed rates of increase of pensions in payment for inflation for all other schemes are 3.55 per cent in 2010 (2009: 3.7 per cent).
Discount rate* 5.45 5.8
Rate of increase in salaries 5.55 5.7
Rate of inflation 3.55 3.7
Rate of increase of pensions in payment for inflation:    
Guaranteed (maximum 5%) 3.55 3.7
Guaranteed (maximum 2.5%) 2.5 2.5
Discretionary 2.5 2.5
Expected returns on plan assets 5.9 4.5

The calculations are based on current actuarially calculated mortality estimates with a specific allowance made for future improvements in mortality. The 2010 specific allowance is in line with custom calibration of the 2009 mortality model from the Continuous Mortality Investigation Bureau of the Institute and Faculty of Actuaries ('CMI'). The 2009 specific allowance was broadly based on adjusted versions of the medium cohort projections prepared by the CMI.

The tables used for PSPS immediate annuities in payment at 31 December 2010 were:

Male: 108.6 per cent PNMA00 with improvements in line with a custom calibration of the CMI's 2009 mortality model, with a long-term mortality improvement rate of 1.75 per cent per annum; and
Female: 103.4 per cent PNFA00 with improvements in line with a custom calibration of the CMI's 2009 mortality model, with a long-term mortality improvement rate of 1.00 per cent per annum.

The tables used for PSPS immediate annuities in payment at 31 December 2009 were:

Male: 108.6 per cent PNMA00 with medium cohort improvements subject to a floor of 1.75 per cent up to the age of 90, decreasing linearly to zero by age of 120; and
Female: 103.4 per cent PNFA00 with 75 per cent medium cohort improvements subject to a floor of 1.00 per cent up to the age of 90 and decreasing linearly to zero by age of 120.

The assumed life expectancies on retirement at age 60, based on the mortality table used was:

 

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  2010 years 2009 years
  Male Female Male Female
Retiring today 27.7 29.0 27.4 28.6
Retiring in 20 years’ time 30.3 31.1 30.1 30.8

The mean term of the current PSPS liabilities is around 18 years.

Using external actuarial advice provided by the scheme actuaries being Towers Watson for the valuation of PSPS, Aon Consulting Limited for the M&G scheme, and Xafinity Consulting for the Scottish Amicable scheme, the most recent full valuations have been updated to 31 December 2010, applying the principles prescribed by IAS 19.

In July 2010, the UK Government announced plans to use the Consumer Price Index (CPI) in place of the Retail Price Index (RPI) in its determination of the statutory minimum pension increases for private sector occupational pension schemes. In December 2010, the Government published the statutory revaluation order for 2011 which confirms the change to use CPI. In addition, the Government has also published in December 2010 a consultation paper which sets out the Government's views on the impact that the switch from RPI to CPI will have on the private sector occupational pension schemes. The consultation period closed on 2 March 2011.

For the Group's UK defined benefit schemes, the pensions in deferment and/or pensions in payment for certain tranches of these schemes are subject to statutory increases in accordance with the schemes' rules and may therefore be affected by the Government's decision to change the indexation from RPI to CPI. Other tranches, where RPI is specified in the scheme rules, are unaffected.

The above has no impact on the results for the year ended 31 December 2010. The impact of this change, if and when made, will be recognised in a future period. Using the underlying information as at 31 December 2010, the estimated effect of such a change would give rise to an accounting benefit of approximately £30 million to the Group's operating profit based on longer-term investment returns and profit attributable to shareholders before tax and £20 million shareholders' equity.

4 Summary financial position

The Group liability in respect of defined benefit pension schemes is as follows:

 

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  2010 % 2009 %
Economic position:    
Deficit, gross of deferred tax, based on scheme assets held, including investments in Prudential insurance policies:    
Attributable to the PAC with-profits fund (i.e. absorbed by the liability for unallocated surplus) (106) (122)
Attributable to shareholder-backed operations (i.e. to shareholders’ equity) (114) (128)
Economic deficit - as explained in note 5 below (220) (250)
Exclude: investments in Prudential insurance policies (offset on consolidation in the Group financial statements against insurance liabilities) (227) (187)
Deficit under IAS 19 included in provisions in the statement of financial position – as explained in note 7 below (447) (437)

The following disclosures explain the economic position and IAS 19 basis of accounting after eliminating investment in Prudential insurance policies on consolidation.

5 Group economic financial position

The following tables illustrate the movement on the financial position of the Group's defined benefit pension schemes on an economic basis. The underlying position on an economic basis reflects the assets (including investments in Prudential policies that are offset against liabilities to policyholders on the Group consolidation) and the liabilities of the schemes. At 31 December 2010, the investments in Prudential policies comprise £118 million (2009: £101 million) for PSPS and £227 million (2009: £187 million) for the M&G scheme.

Separately, the economic financial position also includes the effect of the application of IFRIC 14, 'IAS 19 – The Limit on a Defined Benefit Asset, Minimum Funding Requirements and their Interaction'. For PSPS, where there are constraints in the trust deed to prevent the company access, the surplus is not recognised and a liability to additional funding is established (as described earlier).

Estimated pension scheme deficit – economic basis

Movements on the pension scheme deficit (determined on the 'economic basis') are as follows, with the effect of the application of IFRIC 14 being shown separately:

 

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  2010 £m
    (Charge) credit to
income statement
 
  Surplus (deficit) in scheme at 1 January 2010 Operating results (based on longer-term investment returns)
note a
Actuarial and other gains and losses
note b
Contributions paid Surplus (deficit) in scheme at 31 Dec 2010
note c
All schemes
Underlying position
(without the effect of IFRIC 14)
         
Surplus (deficit) 338 (7) (109) 90 312
Less: amount attributable to PAC with-profits fund (285) (11) 71 (39) (264)
Shareholders’ share:          
Gross of tax surplus (deficit) 53 (18) (38) 51 48
Related tax (15) 5 11 (14) (13)
Net of shareholders’ tax 38 (13) (27) 37 35
Effect of IFRIC 14          
Surplus (deficit) (588) (38) 94 (532)
Less: amount attributable to PAC with-profits fund 407 29 (66) 370
Shareholders’ share:          
Gross of tax surplus (deficit) (181) (9) 28 (162)
Related tax 51 2 (9) 44
Net of shareholders’ tax (130) (7) 19 (118)
With the effect of IFRIC 14          
Surplus (deficit) (250) (45) (15) 90 (220)
Less: amount attributable to PAC with-profits fund 122 18 5 (39) 106
Shareholders’ share:          
Gross of tax surplus (deficit) (128) (27) (10) 51 (114)
Related tax 36 7 2 (14) 31
Net of shareholders’ tax (92) (20) (8) 37 (83)
 

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  2009 £m
    (Charge) credit to
income statement
 
  Surplus (deficit) in scheme at 1 January 2009 Operating results (based on longer-term investment returns)
note a
Actuarial and other gains and losses
note b
Contributions paid Disposal of Taiwan agency business* Surplus (deficit) in scheme at 31 Dec 2009
note c
  • *Including the effect of exchange translation difference.
All schemes
Underlying position
(without the effect of IFRIC 14)
           
Surplus (deficit) 644 (71) (337) 85 17 338
Less: amount attributable to PAC with-profits fund (483) 33 207 (42) (285)
Shareholders’ share:            
Gross of tax surplus (deficit) 161 (38) (130) 43 17 53
Related tax (47) 11 36 (11) (4) (15)
Net of shareholders’ tax 114 (27) (94) 32 13 38
Effect of IFRIC 14            
Surplus (deficit) (793) 23 182 (588)
Less: amount attributable to PAC with-profits fund 550 (17) (126) 407
Shareholders’ share:            
Gross of tax surplus (deficit) (243) 6 56 (181)
Related tax 68 (2) (15) 51
Net of shareholders’ tax (175) 4 41 (130)
With the effect of IFRIC 14            
Surplus (deficit) (149) (48) (155) 85 17 (250)
Less: amount attributable to PAC with-profits fund 67 16 81 (42) 122
Shareholders’ share:            
Gross of tax surplus (deficit) (82) (32) (74) 43 17 (128)
Related tax 21 9 21 (11) (4) 36
Net of shareholders’ tax (61) (23) (53) 32 13 (92)

a The components of the (charge) credit to operating results (gross of allocation of the share attributable to the PAC with-profits fund) are as follows:

 

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  2010 £m 2009 £m
Service cost (38) (34)
Finance (expense) income:    
Interest on pension scheme liabilities (294) (277)
Expected return on assets 325 240
Total (charge) credit without the effect of IFRIC 14 (7) (71)
Effect of IFRIC 14 for pension schemes (38) 23
Total charge after the effect of IFRIC 14 (45) (48)

The net charge to operating profit (gross of the share attributable to the PAC with-profits fund) of £45 million (2009: £48 million) is made up of a charge of £27 million (2009: £29 million) relating to PSPS and a charge of £18 million (2009: £19 million) for other schemes. This net charge represents:

 

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  2010 £m 2009 £m
Underlying IAS 19 charge for other pension schemes (18) (19)
Cash costs for PSPS (23) (25)
Unwind of discount on opening provision for deficit funding for PSPS (4) (4)
  (45) (48)

Consistent with the derecognition of the Company's interest in the underlying IAS 19 surplus of PSPS, the charge to operating profit on longer-term investment returns for PSPS reflects the cash cost of contributions for ongoing service of active members. In addition, the charge to the operating results also includes a charge for the unwind of discount on the opening provision for deficit funding for PSPS.

b The components of the credit (charge) for actuarial and other gains and losses (gross of allocation of the share attributable to the PAC with-profits fund but excluding the charge relating to the sold Taiwan agency business) are as follows:

 

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  2010 £m 2009 £m
Actual less expected return on assets 306 108
Losses on changes of assumptions for plan liabilities (411) (521)
Experience (losses) gains on liabilities (4) 76
Total charge without the effect of IFRIC 14 (109) (337)
Effect of IFRIC 14 for pension schemes 94 182
Actuarial and other gains and losses after the effect of IFRIC 14 (15) (155)

The net charge for actuarial and other gains and losses is recorded within the income statement but, within the segmental analysis of profit, the shareholders' share of actuarial and other gains and losses (i.e. net of allocation of the share to the PAC with-profits funds) is excluded from operating profit based on longer-term investment returns.

The 2010 actuarial losses of £109 million primarily reflects the effect of decrease in risk discount rates and the change in economic assumptions underlying PSPS commutation factors partially offset by the effect of decreases in inflation rates and the excess of market returns over long-term assumptions.

Consistent with the derecognition of the Company's interest in the underlying IAS 19 surplus of PSPS, the actuarial gains and losses do not include those of PSPS. In addition, as a result of applying IFRIC 14, the Group has recognised a provision for deficit funding in respect of PSPS. The change in 2010 in relation to this provision recognised above as other gains and losses on defined benefit pension schemes was £nil (2009: £48 million).

c On the 'economic basis', after including the underlying assets represented by the investments in Prudential insurance policies as scheme assets, the underlying statements of financial position of the schemes at 31 December were:

 

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  2010 2009
  PSPS
£m
Other schemes
note iii
£m
Total
£m
% PSPS
£m
Other schemes
note iii
£m
Total
£m
%

Notes:

  1. The PSPS has entered into a derivatives based strategy to match the duration and inflation profile of its liabilities. This involved a reallocation from other investments to cash-like investments with an interest and inflation swap overlay. In broad terms, the scheme is committed to making a series of payments related to LIBOR on a nominal amount and in return the scheme receives a series of fixed and inflation-linked payments which match a proportion of its liabilities. As at 31 December 2010, the nominal value of the interest and inflation-linked swaps amounted to £1.1 billion (2009: £1.1 billion) and £1.8 billion (2009: £1.9 billion) respectively.
  2. The resulting scheme deficit arising from the excess of liabilities over assets at 31 December 2010 of £220 million (2009: £250 million) comprised a deficit of £106 million (2009: £122 million) attributable to the PAC with-profits fund and deficit of £114 million (2009: £128 million) attributable to shareholder operations.
  3. In addition to PSPS, there are two smaller schemes in the UK, the Scottish Amicable Pension Scheme, and the M&G Pension Scheme, with a combined deficit at 31 December 2010 of £173 million (2009: £175 million), gross of tax. There is also a small scheme in Taiwan, with a negligible amount of deficit at 31 December 2010 and 2009. As part of the sale of the Taiwan agency business in June 2009 the Group has settled the majority of the obligations under the Taiwan scheme relating to the employees who were transferred out.
Equities 548 277 825 14 830 266 1,096 20
Bonds 3,864 339 4,203 70 3,406 280 3,686 67
Properties 199 29 228 4 272 15 287 5
Cash-like investmentsnote i 740 8 748 12 441 2 443 8
Total value of assets 5,351 653 6,004 100 4,949 563 5,512 100
Present value of benefit obligations (4,866) (826) (5,692)   (4,436) (738) (5,174)  
  485 (173) 312   513 (175) 338  
Effect of the application of IFRIC 14 for pension schemes:          
Derecognition of PSPS surplus (485) (485)   (513) (513)  
Adjust for deficit funding for PSPS (47) (47)   (75) (75)  
Pre-tax deficitnote ii (47) (173) (220)   (75) (175) (250)  

The movements in the deficit on the 'economic basis' between scheme assets and liabilities were:

 

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  2010 £m 2009 £m
Current service cost (13) (11)
Other finance income (5) (8)
Cash costs and unwind of discount on opening provision for deficit funding for PSPS (27) (29)
Contributions 90 85
Actuarial and other gains and losses (15) (155)
Movement due to the sold Taiwan agency business and exchange translation difference 17
Net increase (decrease) in deficit 30 (101)

6 Movement in IAS 19 basis financial position

The change in the present value of the benefit obligation and the change in fair value of the assets for the total of the PSPS, Scottish Amicable, M&G and Taiwan schemes over the period were as follows:

 

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  2010 £m
  PSPS Other schemes Total
  Provision
for deficit
funding
IAS 19 basis:
change in fair
value of plan
assets
Investments
in Prudential
insurance
policies
Economic
basis:
total
assets
IAS 19 basis:
change in
present value
of benefit
obligations
Economic
basis:
net
obligations
Fair value of plan assets, beginning of year   376 187 563   563
Present value of benefit obligation, beginning of year   (738) (738)
Provision for deficit funding for PSPS (75)   (75)
  (75) 376 187 563 (738) (250)
Service cost – current charge only   (13) (13)
Interest cost   (43) (43)
Expected return on plan assets   25 13 38   38
Employee contributions   1 1 (1)
Employer contributions 55 15 20 35   90
Actuarial gains (losses)   20 11 31 (46) (15)
Benefit payments   (10) (5) (15) 15  
Cash costs and unwind of discount on the opening provision for deficit funding for PSPS (27)   (27)
Fair value of plan assets, end of year   426 227 653   653
Present value of benefit obligation, end of year   (826) (826)
Provision for deficit funding of PSPS (47)   (47)
Economic basis deficit   (220)
 

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  2009 £m
  PSPS Other schemes Total
  Provision
for deficit
funding
IAS 19 basis:
change in fair
value of plan
assets
Investments
in Prudential
insurance
policies
Economic
basis:
total
assets
IAS 19 basis:
change in
present value
of benefit
obligations
Economic
basis:
net
obligations
Fair value of plan assets, beginning of year   357 157 514   514
Present value of benefit obligation, beginning of year   (598) (598)
Provision for deficit funding for PSPS (65)   (65)
  (65) 357 157 514 (598) (149)
Service cost – current charge only   (11) (11)
Interest cost   (35) (35)
Expected return on plan assets   18 9 27   27
Employee contributions   1 1 (1)
Employer contributions 67 9 9 18   85
Actuarial gains (losses)   6 17 23 (130) (107)
Benefit payments   (11) (6) (17) 17  
Cash costs and unwind of discount on the opening provision for deficit funding for PSPS (29)   (29)
Movement in the provision for deficit funding for PSPS (48)   (48)
Disposal of Taiwan agency business, including exchange translation difference   (3)   (3) 20 17
Fair value of plan assets, end of year   376 187 563   563
Present value of benefit obligation, end of year   (738) (738)
Provision for deficit funding of PSPS (75)   (75)
Economic basis deficit   (250)

7 IAS 19 basis financial position as consolidated

The IAS 19 basis pensions deficit can be summarised as follows:

 

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  2010 £m 2009 £m 2008 £m 2007 £m 2006 £m
  • *The M&G pension scheme assets are invested in Prudential insurance policies. For IFRS accounting purposes, the M&G scheme is in effect unfunded. Please see above for more details.
Fair value of plan assets, end of year 5,659 5,224 5,057 5,150 4,988
Present value of funded benefit obligation (5,438) (4,951) (4,493) (4,826) (5,023)
Funded status 221 273 564 324 (35)
Present value of unfunded obligations (M&G scheme)* (254) (223) (180) (189) (187)
  (33) 50 384 135 (222)
Effect of the application of IFRIC 14 for pension schemes    
Derecognition of PSPS’ surplus (485) (513) (728) (528) (141)
Set up obligation for deficit funding for PSPS (47) (75) (65) (102) (143)
Adjustment in respect of investment of PSPS in Prudential policies 118 101 103 140 126
Deficit recognised in the statement of financial position (447) (437) (306) (355) (380)
 

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  2010 £m 2009 £m
  • *Consistent with the derecognition of the Company's interest in the underlying IAS 19 surplus of PSPS, the effect on the net periodic pension cost for PSPS was to replace the usual IAS 19 pension charges and credits with the cash cost of contribution for ongoing services of active members and also not to report the actuarial gains and losses.
  • In determining the expected return on scheme assets for 2010, the 5.9 per cent (2009: 4.5 per cent) rate shown below has been applied to the opening assets.
Components of net periodic pension cost    
Current service cost (38) (34)
Interest cost (294) (277)
Expected return on assets – economic basis 325 240
Less: expected return on investments of scheme assets in Prudential insurance policies (21) (16)
Expected return on assets – IAS 19 basis 304 224
  (28) (87)
Effect of the application of IFRIC 14 (30) 30
Pension cost (as referred to in noteI3a) (58) (57)
     
Actuarial gains and losses – economic basis (109) (337)
Less: actuarial gains on investments of scheme assets in Prudential insurance policies (20) 8
  (129) (329)
Effect of the application of IFRIC 14 103 191
Actuarial gains and losses – IAS 19 basis* (as referred to in noteI3a) (26) (138)
Net periodic pension cost (included within acquisition and other operating expenditure in the income statement) (84) (195)

The long-term expected rate of return has been taken to be the weighted average (by market value) of the long-term expected rates of return on each major asset class shown below:

 

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  2010 2009 2008 2007 2006
  £m % £m % £m % £m % £m %
Scheme assets (ias 19 basis before effect of ifric 14)    
Equity 610 11 917 18 875 17 1,332 26 1,432 29
Bonds 4,095 72 3,587 69 2,619 52 1,299 25 2,185 44
Properties 206 4 278 5 290 6 583 11 621 12
Cash-like investments 748 13 442 8 1,273 25 1,936 38 750 15
Total 5,659 100 5,224 100 5,057 100 5,150 100 4,988 100
 

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  Prospectively for 2011 % 2010 % 2009 %
Long-term expected rate of return    
Equity 8.2 8.5 6.8
Bonds 4.6 5.3 4.8
Properties 6.9 6.75 6.05
Cash-like investments 4.75 4.75 2.0
Weighted average long-term expected rate of return 5.1 5.9 4.5

The expected rates of return have been determined by reference to long-term expectations, the carrying value of the assets and equity and other market conditions at the statement of financial position date.

The actual return on scheme assets was a gain of £631 million (2009: £348 million) on an IAS 19 basis.

None of the scheme assets included shares in Prudential plc or property occupied by the Prudential Group.

 

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  2010 £m 2009 £m 2008 £m 2007 £m 2006 £m
Fair value of scheme assets, end of year (IAS 19 basis) 5,659 5,224 5,057 5,150 4,988
Present value of the benefit obligation, end of year (5,692) (5,174) (4,673) (5,015) (5,210)
Underlying scheme assets in surplus (deficit) of benefit obligation, before the effect of IFRIC 14 (33) 50 384 135 (222)
Experience adjustments on scheme liabilities (4) 76 145 (14) 18
Percentage of scheme liabilities at 31 December (0.07)% 1.47% 3.10% 0.28% (0.35)%
Experience adjustments on scheme assets (IAS 19 basis) 287 100 (277) (7) 140
Percentage of scheme assets at 31 December 5.07% 1.91% (5.48)% (0.14)% 2.81%

The experience adjustments on scheme liabilities in 2008 of a gain of £145 million related mainly to the 'true up' reflecting improvements in data consequent upon the 2008 triennial valuation of PSPS.

Total employer contributions expected to be paid into the Group defined benefit schemes for the year ending 31 December 2011 amounts to £94 million (2010: £88 million).

8 Sensitivity of the pension scheme liabilities of the PSPS, Scottish Amicable and M&G pension schemes to key variables

The table below shows the sensitivity of the underlying PSPS, Scottish Amicable and M&G pension scheme liabilities at 31 December 2010 of £4,866 million, £572 million and £254 million respectively (2009: £4,436 million, £515 million and £223 million) to changes in discount rates and inflation rates. In addition, the table below shows the sensitivity of the underlying PSPS, Scottish Amicable and M&G pension scheme liabilities at 31 December 2010 to changes to mortality rate assumptions.

 

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2010
Assumption Change in assumption Impact on scheme liabilities on IAS 19 basis  
Discount rate Decrease by 0.2% from 5.45% to 5.25% Increase in scheme liabilities by:  
  PSPS 3.6%
  Scottish Amicable 5.2%
  M&G 5.1%
Discount rate Increase by 0.2% from 5.45% to 5.65% Decrease in scheme liabilities by:  
  PSPS 3.5%
  Scottish Amicable 4.9%
  M&G 4.8%
Rate of inflation Decrease by 0.2% from 3.55% to 3.35% with consequent reduction in salary increases Decrease in scheme liabilities by:  
  PSPS 1.0%
  Scottish Amicable 5.0%
  M&G 4.5%
Mortality rate Increase life expectancy by one year Increase in scheme liabilities by:  
  PSPS 2.1%
  Scottish Amicable 2.5%
  M&G 2.9%
 

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2009
Assumption Change in assumption Impact on scheme liabilities on IAS 19 basis  
Discount rate Decrease by 0.2% from 5.8% to 5.6% Increase in scheme liabilities by:  
  PSPS 3.5%
  Scottish Amicable 5.2%
  M&G 4.9%
Discount rate Increase by 0.2% from 5.8% to 6.0% Decrease in scheme liabilities by:  
  PSPS 3.2%
  Scottish Amicable 4.8%
  M&G 4.9%
Rate of inflation Decrease by 0.2% from 3.7% to 3.5% with consequent reduction in salary increases Decrease in scheme liabilities by:  
  PSPS 0.9%
  Scottish Amicable 4.9%
  M&G 4.5%

The sensitivity of the underlying pension scheme liabilities to changes in discount, inflation and mortality rates as shown above does not directly equate to an impact on the profit or loss attributable to shareholders or shareholders' equity due to the effect of the application of IFRIC 14 on PSPS and the allocation of a share of the interest in financial position of the PSPS and Scottish Amicable schemes to the PAC with-profits fund as described above.

The sensitivity to the changes in the key variables as shown in the table above has no significant impact on the pension costs included in the Group's operating results. This is due to the pension costs charged in each of the periods presented being derived largely from market conditions at the beginning of the period. After applying IFRIC 14 and to the extent attributable to shareholders, any residual impact from the changes to these variables is reflected as actuarial gains and losses on defined benefit pension schemes within the supplementary analysis of profits. The relevance of this to each of the three UK schemes is described further below.

For PSPS, the underlying surplus of the scheme of £485 million (2009: £513 million) has not been recognised under IFRIC 14. Any change in the underlying scheme liabilities to the extent that it is not sufficient to alter PSPS into a liability in excess of the deficit funding provision will not have an impact on the Group's results and financial position. Based on the underlying financial position of PSPS as at 31 December 2010, none of the changes to the underlying scheme liabilities for the changes in the variables shown in the table above have had an impact on the Group's 2010 results and financial position.

In the event that a change in the PSPS scheme liabilities results in a deficit position for the scheme which is recognisable, the deficit recognised affects the Group's results and financial position only to the extent of the amounts attributable to shareholder operations. The amounts attributable to the PAC with-profits fund are absorbed by the liability for unallocated surplus and have no direct effect on the profit or loss attributable to shareholders or shareholders' equity.

The deficit of the Scottish Amicable pension scheme has been allocated approximately 50 per cent to the PAC with-profits fund and 50 per cent to the shareholders. Accordingly, half of the changes to the scheme liabilities for the changes in the variables shown in the table above would have had an impact on the Group's shareholder results and financial position. The M&G pension scheme is wholly attributable to shareholders.

9 Transfer value of PSPS scheme

At 31 December 2010, it is estimated that the assets of the scheme are broadly sufficient to cover the liabilities of PSPS on a 'buyout' basis including an allowance for expenses. The 'buyout' basis refers to a basis that might apply in the circumstance of a transfer to another appropriate financial institution. In making this assessment it has been assumed that a more conservative investment strategy applies together with a more prudent allowance for future mortality improvements and no allowance for discretionary pension increases.

ii Other pension plans

The Group operates various defined contribution pension schemes including schemes in Jackson and Asia. The cost of the Group's contributions for continuing operations to these schemes in 2010 was £37 million (2009: £38 million).

The Group maintains 10 main share award and share option plans relating to Prudential plc shares, which are described below.

The Group Performance Share Plan (GPSP) is the incentive plan in which all executive directors and other senior executives within the Group can participate. This scheme was established as a replacement for the Restricted Share Plan (RSP) under which no further awards could be made after March 2006. Awards are granted either in the form of a nil cost option, conditional right over shares, or such other form that shall confer to the participant an equivalent economic benefit, with a vesting period of three years. The performance measure for the awards is that Prudential's Total Shareholder Return (TSR) outperforms an index comprising of peer companies. Vesting of the awards between each performance point is on a straight line sliding scale basis. Participants are entitled to the value of reinvested dividends that would have accrued on the shares that vest. Beginning in 2010, newly issued shares will be used in settling the awards that vest and are released.

The RSP was, until March 2006, the Group's long-term incentive plan for executive directors and other senior executives designed to provide rewards linked to shareholder return. Each year participants were granted a conditional option to receive a number of shares. There was a deferment period of three years at the end of which the award vested to an extent that depended on the performance of the Group's shares including notional reinvested dividends and on the Group's underlying financial performance. After vesting, the option may be exercised at zero cost at any time, subject to closed period rules, in the balance of a 10-year period. Shares are purchased in the open market by a trust for the benefit of qualifying employees.

The Business Unit Performance Plan (BUPP) is an incentive plan created to provide a common framework under which awards would be made to senior employees in the UK, Jackson and Asia including the Chief Executive Officers. Awards under this plan are based on growth in Shareholder Capital Value on the European Embedded Value (EEV) basis with performance measured over three years. Upon vesting of awards made up to 2008, half of the awards will be released as shares and the other half released in cash. Since the year ended 31 December 2009 all awards made will be settled in shares after vesting. Participants are entitled to receive the value of reinvested dividends over the performance period for those shares that vest. The growth parameters for the awards are relevant to each region and vesting of the awards between each performance point is on a straight line sliding scale basis. Beginning in 2010, newly issued shares will be used in settling the awards that vest and are released. During 2009, the Remuneration Committee decided that future BUPP awards for the UK business unit would be based on the same relative TSR measure applied to GPSP awards. As a result, 2010 awards made under the UK BUPP reflect those TSR conditions applied to 2010 GPSP awards.

The Group maintains four share option schemes satisfied by the issue of new shares. UK-based executive directors are eligible to participate in the Prudential HM Revenue & Customs (HMRC) approved UK Savings Related Share Option Scheme (SAYE scheme) and the Asia-based executive directors can participate in the equivalent International SAYE scheme. Dublin-based employees are eligible to participate in the Prudential International Assurance Sharesave Plan, and Hong Kong-based agents can participate in the Non-employee Savings Related Share Option Scheme. The schemes allow participants to save towards the exercise of options over Prudential plc shares, at an option price set at the beginning of the savings period as determined by reference to the average market value of the ordinary shares on the three business days immediately preceding the invitation at a discount of 20 per cent to the market price. Participants may save up to £250 per month for three or five years. On maturity at the end of the set term, participants may exercise their options within six months of the end of the savings period and purchase Prudential plc shares. If an option is not exercised within six months, participants are entitled to a refund of their cash contributions plus interest if applicable under the rules. The exercise period of the options granted may be advanced to an earlier date in certain circumstances, for example on retirement, and may be extended in certain circumstances, for example on the death of the participant the personal representative may exercise the options beyond the normal exercise period. Shares are issued to satisfy options that are exercised. No options may be granted under the schemes if the grant would cause the number of shares which have been issued, or which remain issuable pursuant to options granted in the preceding 10 years under the scheme and other share option schemes operated by the Company, or which have been issued under any other share incentive scheme of the Company, to exceed 10 per cent of the Company's ordinary share capital at the proposed date of grant.

UK-based executive directors are also eligible to participate in the Company's HMRC approved Share Incentive Plan which allows all UK-based employees to purchase shares of Prudential plc (partnership shares) on a monthly basis out of gross salary. For every four partnership shares bought, an additional matching share is awarded, purchased on the open market. Dividend shares accumulate while the employee participates in the plan. Partnership shares may be withdrawn from the scheme at any time. If the employee withdraws from the plan within five years, the matching shares are forfeit and if within three years, dividend shares are forfeit.

Jackson operates a performance-related share award which, subject to the prior approval of the Jackson Remuneration Committee, may grant share awards to eligible Jackson employees in the form of a contingent right to receive shares or a conditional allocation of shares. These share awards have vesting periods of four years and are at nil cost to the employee. Award holders do not have any right to dividends or voting rights attaching to the shares. The shares are held in the employee share trust in the form of American Depository Receipts which are tradable on the New York Stock Exchange.

The Prudential Corporation Asia Long-Term Incentive Plan (PCA LTIP) is an incentive plan created in 2008 for senior employees and Chief Executive Officers to replace the Asia Business Unit Performance Plan (BUPP). Awards under the new PCA LTIP will vest after three years subject to the employee being in employment at the time of vesting without any performance conditions. Awards will be discretionary and on a year by year basis determined by Prudential's full year financial results and the employee's contribution to the business. All awards will be in Prudential shares except for countries where share awards are not feasible due to securities and/or tax reasons, where awards will be replaced by the cash value of the shares that would otherwise have been transferred.

Certain senior executives have annual incentive plans with awards paid in cash up to the target level of their plan. The portion of any award for above target performance is made in the form of awards of shares deferred for three years, with the release of shares subject to close periods. The shares are held in the employee share trust and shares equivalent to dividends otherwise payable will accumulate for the benefit of award holders during the deferral period up to the release date.

In addition, there are other share awards including the Prudential Corporation Asia Deferred Bonus Plan (PCA DBP), Prudential Capital Deferred Bonus Plan (PruCap DBP) and other arrangements. There are no performance conditions attaching to these deferred bonus plans and awards vest in full subject to the individual being employed by Prudential at the end of the vesting period. The other arrangements relate to various awards that have been made without performance conditions to individual employees, typically in order to secure their appointment or ensure retention.

 

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  2010 2009
Options outstanding under SAYE schemes Number of options
millions
Weighted average exercise price
£
Number of options
millions
Weighted average
exercise price
£
Beginning of year: 12.2 3.20 6.8 4.54
Granted 2.2 4.61 10.7 2.96
Exercised (0.6) 3.15 (0.4) 3.98
Forfeited (0.2) 3.44 (0.5) 3.87
Cancelled (0.5) 3.37 (3.8) 4.58
Lapsed (0.3) 3.89 (0.6) 4.42
End of year 12.8 3.40 12.2 3.20
Options immediately exercisable, end of year 0.2 5.52 0.3 4.45

The weighted average share price of Prudential plc for the year ended 31 December 2010 was £5.68 compared to £4.17 for the year ended 31 December 2009.

Movements in share awards outstanding under the Group's share-based compensation plans relating to Prudential plc shares at 31 December 2010 and 2009 were as follows:

 

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  2010 2009
Awards outstanding under incentive plans including conditional options Number of
awards
millions
Number of
awards
millions
Beginning of year: 19.2 14.5
Granted 11.2 11.1
Exercised (4.7) (3.4)
Forfeited (1.2) (1.0)
Expired (0.6) (2.0)
End of year 23.9 19.2

The following table provides a summary of the range of exercise prices for Prudential plc options outstanding at 31 December 2010.

 

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  Outstanding Exercisable
Range of exercise prices Number outstanding
millions
Weighted average remaining contractual life
years
Weighted average exercise prices
£
Number exercisable
millions
Weighted average exercise prices
£
Between £0 and £1
Between £1 and £2
Between £2 and £3 9.0 2.6 2.88
Between £3 and £4 0.1 1.3 3.59 3.67
Between £4 and £5 3.3 3.3 4.51 4.07
Between £5 and £6 0.4 1.0 5.59 0.2 5.63
Between £6 and £7
Between £7 and £8
  12.8 2.8 3.40 0.2 5.52

The following table provides a summary of the range of exercise prices for Prudential plc options outstanding at 31 December 2009.

 

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  Outstanding Exercisable
Range of exercise prices Number outstanding
millions
Weighted average remaining contractual life
years
Weighted average exercise prices
£
Number exercisable
millions
Weighted average exercise prices
£
Between £0 and £1
Between £1 and £2
Between £2 and £3 10.0 3.6 2.88
Between £3 and £4 0.1 1.0 3.62 0.1 3.43
Between £4 and £5 1.5 3.0 4.37 0.2 4.73
Between £5 and £6 0.6 1.9 5.60 0.0 5.65
Between £6 and £7
Between £7 and £8
  12.2 3.4 3.20 0.3 4.45

The years shown above for weighted average remaining contractual life include the time period from end of vesting period to expiration of contract.

The weighted average fair values of Prudential plc options and awards granted during the period are as follows:

 

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  2010 £ 2009 £
  Weighted average fair value Weighted average fair value
  GPSP SAYE
Options
Awards GPSP SAYE
Options
Awards
  2.74 2.91 5.14 3.52 1.55 4.67

The fair value amounts relating to all options including conditional nil cost options above were determined using the Black-Scholes and the Monte Carlo option-pricing models using the following assumptions:

 

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  2010 2009
  GPSP SAYE
Options
GPSP SAYE
Options
Dividend yield (%) 3.43 3.43 4.41 4.41
Expected volatility (%) 42.69 64.65 56.21 60.55
Risk-free interest rate (%) 1.70 1.07 1.92 2.15
Expected option life (years) 3.00 3.49 3.00 3.67
Weighted average exercise price (£) 4.61 2.96
Weighted average share price (£) 5.70 6.38 4.83 3.82

Under IFRS, compensation costs for all share-based compensation plans are determined using either the Black-Scholes model or the Monte Carlo model. Share options and awards are valued using the share price at the date of grant. The compensation costs for all awards and options are recognised in net income over the plans' respective vesting periods. The Group uses the Black-Scholes model to value all options and awards other than the GPSP, for which the Group uses a Monte Carlo model in order to allow for the impact of the TSR performance conditions. These models are used to calculate fair values for share options and awards at the grant date based on the quoted market price of the stock at the measurement date, the amount, if any, that the employees are required to pay, the dividend yield, expected volatility, risk-free interest rates and exercise prices.

The expected volatility is measured as the standard deviation of expected share price returns based on statistical analysis of daily share prices over a period up to the grant date equal to the expected life of options. Risk-free interest rates are UK gilt rates with projections for three and five-year terms to match corresponding vesting periods. Dividend yield is determined as the average yield over the year of grant and expected dividends are not incorporated into the measurement of fair value. For the GPSP, volatility and correlation between Prudential and an index constructed from a simple average of the TSR growth of 11 companies is required. For grants in 2010, an average index volatility and correlation of 35 per cent and 82 per cent respectively, were used. Changes to the subjective input assumptions could materially affect the fair value estimate.

When options are granted or awards made to employees, an estimate is made of what percentage is more than likely to vest, be forfeited, lapse or cancelled based on historical information. Based on these estimates, compensation expense to be accrued at that date is calculated and amortised over the vesting period. For early exercises of options or release of awards due to redundancy, death or resignation, the compensation expense is immediately recognised and for forfeitures due to employees leaving the Group, any previously recognised expense is reversed. However, if an employee loses their award because of the Group's failure to meet the performance criteria, previously recognised expense is not reversed.

During the year, the Group granted share options to certain non-employee independent financial advisors. Those options were measured using the Black-Scholes option pricing model with assumptions consistent with those of other share options. These transactions were measured using an option model because the Group does not receive a separate and measurable benefit from those non-employees in exchange for the options granted. As such, the fair value of the options themselves is more readily determinable than the services received in return.

c Total share-based payment expense

Total expense recognised in the year in the consolidated financial statements related to share-based compensation is as follows:

 

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  2010 £m 2009 £m
Share-based compensation expense 47 37
Amount accounted for as equity-settled 37 29
Carrying value at 31 December of liabilities arising from share-based payment transactions 17 13
Intrinsic value of above liabilities for which rights had vested at 31 December 6 7

Key management constitutes the directors of Prudential plc as they have authority and responsibility for planning, directing and controlling the activities of the Group.

Total key management remuneration amounts to £21,677,000 (2009: £20,989,000). This comprises salaries and short-term benefits of £9,594,000 (2009: £11,570,000), post-employment benefits of £926,000 (2009: £1,132,000), leaving benefits of £ nil (2009: £915,000) and share-based payments of £11,157,000 (2009: £7,372,000).

Post-employment benefits comprise the change in the transfer value of the accrued benefit relating to directors' defined benefit pension schemes in the year and the total contributions made to directors' other pension arrangements.

The share-based payments charge is the sum of £7,320,000 (2009: £5,270,000), which is determined in accordance with IFRS 2, 'Share-Based Payments' (see note I4) and £3,837,000 (2009: £2,102,000) of deferred share awards.

Total key management remuneration includes total directors' emoluments of £14,225,000 (2009: £15,090,000) as shown in the directors' remuneration table and related footnotes in the directors' remuneration report, and additional amounts in respect of pensions and share-based payments. Further information on directors' remuneration is given in the directors' remuneration report.

 

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  2010 £m 2009 £m
Fees payable to the Company’s auditor for the audit of the Company’s annual accounts 1.9 1.8
Fees payable to the Company’s auditor and its associates for other services:    
Audit of subsidiaries and associates pursuant to legislation 6.1 5.5
Other services supplied pursuant to legislation 2.4 2.7
Other services relating to taxation 0.4 0.6
Valuation and actuarial services 0.1 0.1
Services relating to other corporate finance transactions 0.1 0.7
All other services 1.0 1.0
Services relating to the AIA transaction 5.5
Total 17.5 12.4

In addition, there were fees incurred of £0.1 million (2009: £0.2 million) for the audit of pension schemes.

The fees for services relating to the AIA transaction of £5.5 million were primarily comprised of the following services:

  • Accountants' Report on historical financial information on Prudential Group
  • Consulting Actuaries' Report on AIA EEV information
  • Technical accounting advice
  • Financial due diligence
  • Working capital review
  • Synergies review
  • Extraction comfort

All services were specifically approved by the Prudential Group Audit Committee.

The Audit Committee regularly monitors the non-audit services provided to the Group by its auditor and has developed a formal Auditor Independence Policy which sets out the types of services that the auditor may provide, consistent with the guidance in Sir Robert Smith's report 'Audit Committees – Combined Code Guidance' and with the provisions of the US Sarbanes-Oxley Act.

The Audit Committee annually reviews the auditor's objectivity and independence. More information on these issues is given in the corporate governance report within this Annual Report.

Transactions between the Company and its subsidiaries are eliminated on consolidation.

In addition, the Company has transactions and outstanding balances with certain unit trusts, OEICs, collateralised debt obligations and similar entities which are not consolidated and where a Group company acts as manager. These entities are regarded as related parties for the purposes of IAS 24. The balances are included in the Group's statement of financial position sheet at fair value or amortised cost in accordance with their IAS 39 classifications. The transactions are included in the income statement and include amounts paid on issue of shares or units, amounts received on cancellation of shares or units and paid in respect of the periodic charge and administration fee. Further details of the aggregate assets, liabilities, revenues, profits or losses and reporting dates of entities considered to be associates under IFRS are disclosed in note H8.

Executive officers and directors of the Company may from time to time purchase insurance, asset management or annuity products marketed by Group companies in the ordinary course of business on substantially the same terms as those prevailing at the time for comparable transactions with other persons.

Apart from the transactions with directors referred to below, no director had interests in shares, transactions or arrangements that require disclosure, other than those given in the directors' remuneration report. Key management remuneration is disclosed in note I5.

In 2010 and 2009, other transactions with directors were not deemed to be significant both by virtue of their size and in the context of the directors' financial positions. As indicated above, all of these transactions are on terms broadly equivalent to those that prevail in arm's length transactions.

i Principal subsidiaries

The principal subsidiary undertakings of the Company at 31 December 2010, all wholly owned were:

 

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  Main activity Country of
incorporation
  • *Owned by a subsidiary undertaking of the Company.
The Prudential Assurance Company Limited Insurance England and Wales
Prudential Annuities Limited* Insurance England and Wales
Prudential Retirement Income Limited (PRIL)* Insurance Scotland
M&G Investment Management Limited* Asset management England and Wales
Jackson National Life Insurance Company* Insurance US
Prudential Assurance Company Singapore (Pte) Limited* Insurance Singapore

Each subsidiary has one class of ordinary shares and operates mainly in its country of incorporation, except for PRIL which operates mainly in England and Wales.

Details of all Prudential subsidiaries, joint ventures and associates will be annexed to the next Annual Returns of Prudential plc filed with the UK Registrar of Companies and the Registrar of Companies in Hong Kong.

ii Dividend restrictions and minimum capital requirements

Certain Group subsidiaries are subject to restrictions on the amount of funds they may transfer in the form of cash dividends or otherwise to the parent company. UK insurance companies are required to maintain solvency margins which must be supported by capital reserves and other resources, including unrealised gains on investments. Jackson can pay dividends on its capital stock only out of earned surplus unless prior regulatory approval is obtained. Furthermore, without the prior regulatory approval, dividends cannot be distributed if all dividends made within the preceding 12 months exceed the greater of Jackson's statutory net gain from operations or 10 per cent of Jackson's statutory surplus for the prior year. In 2010, the maximum amount of dividends that could be paid by Jackson without prior regulatory approval is US$377 million (£241 million) (in 2009: US$454 million (£281 million)). The Group's Asian subsidiaries may remit dividends to the Group, in general, provided the statutory insurance fund meets the capital adequacy standard required under local statutory regulations.

The Group capital position statement for life assurance businesses is set out in note D5, showing the available capital reflecting the excess of regulatory basis over liabilities for each fund or group of companies determined by reference to the local regulation of the subsidiaries. In addition, disclosure is also provided in note D5 of the local capital requirement of each of the fund or group of companies.

iii Acquisition and disposal of subsidiaries

During 2010, the Group acquired a 100 per cent interest in United Overseas Bank Life Assurance Limited (UOB) in Singapore. Further details are set out in note I1.

On 1 October 2010, the PAC with-profits fund, via its venture fund holdings and as part of its investment portfolio, acquired control of Meterserve (North West) Limited and Meterserve (North East) Limited (together referred to as 'Meterserve'), increasing its 50 per cent stake to 100 per cent.

As this transaction is within the with-profits fund it has no impact on shareholders' profit or equity for the period ended 31 December 2010. The impact on the Group's consolidated revenue, including investment returns, is not material. Had the acquisition been effected at 1 January 2010, the revenue and profit of the Group from continuing operations for the year ended 31 December 2010 would not have been materially different.

A summary of the consideration, goodwill and net assets acquired relating to Meterserve is provided in the table below:

 

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  2010 £m
Cash consideration paid 22
Fair value of existing stake 25
Total consideration 47
Net assets acquired:  
Property, plant and equipment 219
Derivative assets (35)
Other non-investment and non-cash assets 11
Cash and cash equivalents 10
Borrowings attributable to with-profits funds (194)
Other non-insurance liabilities (6)
Fair value of net assets acquired 5
Total goodwill arising on acquisition attributable to the with-profits fund 42

The acquisition costs associated with this transaction were expensed as incurred and totalled less than £1 million. Goodwill represents management's expectation of future income streams and is not allowable for tax.

As noted above the transaction increased the previously held stake from 50 per cent to 100 per cent. The fair value of the existing stake at the date of the transaction was £25 million. As the investment was held in the Group's balance sheet as a financial instrument classified as at fair value through profit and loss no gain or loss arises as a result of the transaction.

There were no new acquisitions or disposals by the PAC with-profits fund in 2009. However, during 2009, the holding in the voting equity interest of Red Funnel increased from 90 per cent to 100 per cent. Red Funnel is a venture capital holding owned by the PAC with-profits fund managed by M&G.

Other than the above there were no other material acquisitions or disposals of subsidiaries during 2010 or 2009.

i Operating leases

The Group leases various offices to conduct its business. Leases in which a significant portion of the risks and rewards of ownership are retained by the lessor are classified as operating leases. Payments made under operating leases (net of any incentives received from the lessor) are charged to the income statement on a straight-line basis over the period of the lease.

 

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  2010 £m 2009 £m
Future minimum lease payments for non-cancellable operating leases fall due during the following periods:    
Not later than 1 year 70 63
Later than 1 year and not later than 5 years 236 178
Later than 5 years 120 104

The total minimum future sublease rentals to be received on non-cancellable operating leases for land and buildings for the year ended 31 December 2010 were £nil (2009: £nil).

Minimum lease rental payments for the year ended 31 December 2010 of £92 million (2009: £105 million) are included in the consolidated income statement.

ii Capital commitments

The Group has provided, from time to time, certain guarantees and commitments to third-parties including funding the purchase or development of land and buildings and other related matters. The contractual obligations to purchase or develop investment properties at 31 December 2010 was £28 million (2009: £nil).

The charge of £14 million in 2009, which is net of £nil tax, reflects completion adjustments for a previously disposed business.

Structural borrowings of shareholder-financed operations comprise core debt of the parent company and Jackson surplus notes. Core debt excludes borrowings to support short-term fixed income securities programmes, non-recourse borrowings of investment subsidiaries of shareholder-financed operations and other borrowings of shareholder-financed operations. Cash flows in respect of these borrowings are included within cash flows from operating activities.

Structural borrowings of with-profits operations relate solely to the £100 million 8.5 per cent undated subordinated guaranteed bonds which contribute to the solvency base of the Scottish Amicable Insurance fund (SAIF) a ring-fenced sub-fund of the PAC with-profits fund. Cash flows in respect of other borrowings of with-profits funds, which principally relate to consolidated investment funds, are included within cash flows from operating activities.

In January 2011, the Company issued US$550 million 7.75 per cent Tier 1 subordinated debt, primarily to retail investors. The proceeds, net of costs, were US$539 million and are intended to finance the repayments of the €500 million Tier 2 subordinated notes in December 2011.

 

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