| Tue 13 Sep 2005, 11:53 | | Discovery - Audited financial results for the year |
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Discovery - Audited financial results for the year ended 30 June 2005
DISCOVERY HOLDINGS LIMITED
(Incorporated in the Republic of South Africa)
(Registration number: 1999/007789/06)
ISIN: ZAE000022331
Share Code: DSY
(`Discovery`)
Audited financial results for the year ended 30 June 2005
FINANCIAL Highlights
- Diluted HEPS +28%
- New business annualised premium income +35% toR4,3 billion
- Diluted embedded value per share +32% to R17,03
- Discovery Life profit +55% to R421 million
- Operating profit of SA businesses exceeds R1 billion
STRATEGIC Highlights
- Successful launch of PruHealth in the UK
- DiscoveryCard more than 200 000 cards in 9 months
- Destiny Health reaches 60000 lives mark
- Discovery Health now services over 1,8 million people
Introduction
The year under review has been the most active year in Discovery`s history and
overall a successful one. Discovery`s innovative approach and the strong
leadership positions it commands in the markets in which it operates, enables it
to focus relentlessly on innovation resulting in organic growth. The year under
review has been the most complex in the Group`s history with a significant dual
focus on new initiatives across multiple industries and geographies, as well as
its existing businesses. New initiatives that commenced during the year include
the launch of PruHealth in the UK, the launch of the DiscoveryCard, the
commencement of a joint venture between Discovery Life and the Prudential plc in
the UK, the entry of Discovery Life into the investment and retirement funding
market, Destiny`s entry into the Washington DC market, the transitioning of
Destiny`s back-office to South Africa, and the execution of a Black Economic
Empowerment deal.
The results have been pleasing, with growth and progress in existing businesses
and the creation of new businesses that offer excellent prospects for future
growth.
Headline earnings increased by 32% to R536million (2004: R405million), despite
considerable start-up costs associated with the roll-out of PruHealth, its UK
venture. For the first time in Discovery`s history, operating profit of the
local businesses exceeded R1 billion. Annualised recurring new business
production exceeded expectation, increasing by 35% to R4,34billion (2004:
R3,21billion). Embedded value increased by 34% to R9,22billion (2004:
R6,88billion), driven by strong new business and enhanced efficiencies.
Discovery Health
Discovery Health had a strong year in terms of new business growth,
infrastructural development and positioning, yet its profitability grew
modestly. Discovery Health`s fundamental role is to keep access to quality
health care affordable - its competitive position is determined by this. Toward
this end, the combination of scale, sophistication and infrastructure provides
it with significant advantage in terms of distribution, negotiating strength
with hospitals and doctors and the ability to contribute and adapt to the
continually-evolving regulatory environment. Discovery Health and the Discovery
Health Medical Scheme (`DHMS`) have created a commanding leadership position,
with the size of DHMS now 86% of the combined size of its next nine competitors.
The combined effect of this scale, together with the sound working of its
products, has enabled it to offer premium products and services at a discount to
the market. This manifested in strong growth, with 170 000 members joining
Discovery Health over the period, amounting to an increase in new business of
31% to R2,78billion (2004: R2,12billion).
Operating profit grew by 8% to R563million (2004: R522million), reflecting the
combined effect of investment in the infrastructure required for the rapid,
broad-based new business growth, as well as the lack of any reinsurance profits
which were present in the previous period. Given the broad-based nature of the
new business flow and the need for operational excellence, a significant focus
was placed on Discovery Health`s service capabilities over the period, resulting
in the best service levels in its history, despite the increase in volumes.
Its relative size, product range and operational sophistication, and a market
share of 26%, position Discovery Health uniquely for strong growth going
forward. In addition, from a policy perspective Discovery Health is playing a
leadership role in the industry in helping to build a robust private health care
system that is affordable and covers more people.
Discovery Life
Discovery Life`s performance exceeded expectation. Operating profit grew by 55%
to R421million (2004: R271million). Annualised recurring new business premiums
increased 18% to R629million (2004: R535million). Embedded value of in-force
increased by 65% to R1832million (2004: R1107million).
Discovery Life has positioned itself particularly well in an industry that
requires scale and strength, but that, through the effects of consumerism, faces
a liability in its legacy of old products covering large blocks of
policyholders. Discovery Life benefits from the scale, brand and distribution of
the broader Discovery, but can compete in the traditional protection and
investment markets based on its new-generation products and principles.
In the year under review, Discovery Life continued to capitalise on its
leadership position in the pure protection market, transacting significant
volumes of new business. In addition to the quantum of business, its quality is
significantly ahead of expectation. Average premiums per policy continue to be
significantly larger than the industry average, and mortality and morbidity
experience is materially better than expected. The combination of these factors
has driven the increase in profitability and embedded value.
Over the last two years, Discovery Life has been developing products and
infrastructure to enter the long-term investment market. The basis of this
strategy is Discovery`s view that existing products offer policyholders poor
value for money, and expose them to long-term risks that they are not in a
position to carry, with the effect that policyholder expectations are frequently
not met. The manifestation of this strategy was the launch in June of the
Discovery Life retirement Optimiser - a sophisticated suite of retirement
products focused on ensuring the certainty and efficiency of retirement funding.
The recent spate of Pension Fund Adjudicator rulings against existing products
reinforces Discovery Life`s strategy and has further created a market that is
particularly receptive to change.
During the period, Discovery Life continued development of its joint initiative
with the Prudential plc wherein its pure protection products will enter the UK
insurance market in 2006.
Vitality and the DiscoveryCard
Vitality`s performance over the period was pleasing. While operating profit
dropped by 24% to R38million (2004: R50million), the new business annual premium
income increased by 50% to R93million. The effect that Vitality has on all of
Discovery`s businesses dwarfs its profitability and therefore focus continues to
be applied towards furthering the value proposition of Vitality through
continual improvement in its tools, infrastructure and the partners that back
it. During the year significant analysis was undertaken illustrating the
impressive impact Vitality has on reducing morbidity, mortality, and the
consumption of health care, while increasing the persistency of all of
Discovery`s business.
The reduction in Vitality`s profitability reflects two factors, both of which
are associated with growth going forward:
- The significant increase in new business, combined with the up-front nature of
Vitality commission, created an element of new business strain; and
- Vitality incurred set-up costs with the launch of the DiscoveryCard.
The DiscoveryCard, Discovery`s new-generation credit card, was launched during
the year. Despite initial teething problems in the delivery mechanism, the roll-
out has been particularly successful with in excess of 250 000 cards now in
issue. The Card`s role is a clear one: providing Discovery members with a
tangible and immediate reason to better manage their health. From a strategic
perspective, the Card will form a capability that will be used by the other
Discovery businesses. For example, during September 2005, the Health Plan
Account was launched giving Discovery Health members a `super bank account` for
out-of-pocket medical expenses. The Health Plan Account earns super interest
based on Vitality status and integrates into the health care system.
Destiny Health
The performance of Destiny Health (`Destiny`) was disappointing. While new
business increased 64% to R809million (2004: R494million), Destiny generated an
operating loss of R87million for the year, an amount in excess of that expected.
Destiny`s interim performance exceeded expectation, generating a maiden profit
in January - in line with its stated objective. However, two factors led Destiny
to generate losses for the second half of the year:
- During the period, the full back-office functionality of Destiny was
successfully migrated back to Discovery in South Africa, giving Destiny
increased sophistication, robustness and a platform that is significantly more
efficient than can be achieved in the US. However, Destiny did not adequately
address the duplication of costs incurred during the transition period, leading
to management expenses that were artificially high. This has now been addressed.
- Destiny geared up for expansion into new markets with its joint venture
partner, the Guardian Life Insurance Company of America. However, the expansion
is occurring later than expected leading to costs incurred without the
concomitant revenue. In addition, because of an unusually dominant Blue Cross
plan in Illinois, loss ratios in the Illinois market are significantly higher
than in the other markets that Destiny is currently in, and those it is planning
to enter. This has exacerbated the financial impact of a slower than expected
expansion rate. This is being addressed with Destiny expanding into four markets
in Texas - Dallas, Houston, San Antonio and Austin - during October 2005.
Destiny is uniquely positioned to capitalise on the rapidly emerging US consumer
driven health insurance market, however, it simply moved too slowly during the
second half of the year to do so. This is being addressed as a matter of
urgency. It is anticipated that a significantly more aggressive expansion
strategy will be pursued in the short term. This is currently under discussion
with its partners.
PruHealth
During the period, PruHealth, Discovery`s 50% joint venture with the Prudential
plc, was launched into the UK private medical insurance market.
The progress of PruHealth has been in line with expectation. Discovery incurred
start-up and operating costs of R148 million, in line with that set out in the
business plan. The annualised recurring new business production amounted to R35
million comprising 10000 new lives. More importantly, at this embryonic stage,
PruHealth has positioned itself particularly well, combining the flexibility and
innovativeness of a start-up with the scale and credibility offered by the
Prudential:
- The receptivity of the environment to the concept of consumer-engaged health
care has been remarkably well received, and is entirely consistent with the
environment`s trends and government health policy. This has enabled PruHealth to
take an intellectual leadership position, despite its size.
- The product range developed balances the Discovery model, incorporating a
sophisticated and compelling Vitality structure, with price points that are
particularly competitive.
- The prices achieved with hospital groups and Vitality partners ensure a
sustainable competitive position, and exclusivity with the key Vitality partners
creates important protection against competitor replication.
- The infrastructure built utilises the back-office capability of Discovery,
resulting in a robust and sophisticated platform in an environment far less
expensive than that of its competitors.
The challenge going forward is to capitalise on the opportunity presented. The
short-term focus is to build and leverage the intermediary and direct-to-
consumer distribution channels. In particular, significant momentum is building
within the broker channels, indicating a tangible positive outlook for the
business.
Black Economic Empowerment
During the year, significant effort was applied to transformation, the Financial
Services Charter and the introduction of a BEE partner. Discovery has made
significant progress in all of the key areas of the Charter and in particular
with Employment Equity.
In terms of ownership, Discovery has settled on a three-tier structure that
reflects its aspirations and the requirements of the environment in which it
operates. The structure comprises:
- WDB Investment Holdings, as the lead corporate partner with broad-based
shareholders bringing to Discovery insight into issues germane to the social
issues that Discovery impacts upon across its businesses.
- The Discovery Foundation which will focus on creating a step change in key
human resources within the health care system. Initial focus will be on the
financing, development and retention of black medical specialists.
- The empowerment of Discovery`s most valuable asset - its people. Every member
of Discovery`s staff will be issued shares vesting over a stated period. The
allocation will be weighted heavily, with previously disadvantaged people
receiving in excess of 90% of the shares issued.
The combination of this transaction with the existing empowerment shareholding
held through FirstRand, will bring black ownership of Discovery above 25%.
Prospects
All of Discovery`s businesses are well positioned in the markets in which they
operate. Given the year`s focus on new initiatives, Discovery is confident of
strong growth going forward.
By order of the board
LL Dippenaar A Gore
Chairman Chief Executive Officer
12 September 2005
Income statement
for the year ended 30 June 2005
Group Group %
R million 2005 2004 change
Gross income of Group 4 029 3 698
Outward reinsurance premiums (378) (293)
Net income 3 651 3 405
Policyholder benefits (841) (1 078)
Recoveries from reinsurers 262 237
Net policyholder benefits (579) (841)
Commissions (715) (576)
Operating and administration expenses (1 734) (1 495)
Vitality benefits (412) (314)
Deferred acquisition costs 1 -
Transfer from assets/liabilities
arising from insurance contracts 574 529
Profit from operations 786 708 11
Local operations 1 021 842
Foreign operations (235) (134)
Investment income 124 130
Realised and unrealised investment
gains and losses 157 68
Fair value adjustment to liabilities
arising from investment contracts (122) (77)
Financing costs (54) (47)
Foreign exchange loss (8) (62)
Profit before taxation 883 720 23
Taxation (307) (299)
Profit after taxation 576 421 37
Minority share of loss 9 (3)
Net profit attributable to ordinary
shareholders 585 418 40
Basic earnings per share (cents)
- undiluted 112,6 83,0 36
- diluted 108,0 79,7 36
Headline earnings per share (cents)
- undiluted 103,3 80,5 28
- diluted 99,2 77,4 28
Weighted number of shares
in issue (000`s) 519 188 504 051
Diluted weighted number of shares (000`s) 553 227 536 025
Headline earnings
Net profit attributable to ordinary
shareholders 585 418
Adjusted for realised profit on
available-for-sale financial
instruments net of CGT (49) (13)
536 405 32
Balance sheet
at 30 June 2005
Group Group
R million 2005 2004
ASSETS
Cash and cash equivalents 1 075 998
Government and public authority stocks
- available-for-sale 146 130
- at fair value through profit and loss 40 52
Equity investments
- available-for-sale 922 602
- at fair value through profit and loss 337 251
Investment in associate 4 2
Investment assets 2 524 2 035
Loans and receivables 557 430
Deferred taxation 13 10
Assets arising from insurance contracts 1 881 1 318
Intangible assets 45 38
Equipment 196 201
Total assets 5 216 4 032
LIABILITIES AND SHAREHOLDERS` FUNDS
LIABILITIES
Current liabilities 896 578
Provisions 30 22
Taxation 17 43
Deferred taxation 323 128
Liabilities arising from insurance
contracts - 6
Liabilities arising from reinsurance
contracts 31 36
Financial liabilities 577 716
- Investment contracts at fair value
through profit and loss 483 400
- Borrowings at amortised cost 94 316
Total liabilities 1 874 1 529
Outside shareholders` interest 67 67
SHAREHOLDERS` FUNDS
Share capital and share premium 1 336 1 276
Reserves 1 939 1 160
Total shareholders` funds 3 275 2 436
Total liabilities and shareholders`
funds 5 216 4 032
Net asset value per share (cents) 620,0 474,6
Net number of shares in issue (000`s) 528 240 513 287
Cash flow statement
for the year ended 30 June 2005
Group Group
R million 2005 2004
Cash flow from operating activities 420 92
Cash generated by operations 575 337
Working capital changes 10 (119)
585 218
Dividends received 23 14
Interest received 84 88
Interest paid (93) (14)
Taxation paid (179) (214)
Cash flow from investing activities (216) (504)
Investment purchases (757) (565)
Proceeds on disposal of investments 674 176
Purchase of equipment (106) (93)
Purchase of intangible assets (30) (26)
Decrease in loans receivable 3 4
Cash flow from financing activities (134) (39)
Proceeds from shares issued 71 878
Share issue costs written off against
share capital (1) (30)
Dividends paid to Destiny Health
preference shareholders (1) (2)
Minority share buy-back (1) (9)
Decrease in borrowings (202) -
Repayment of short-term loan - (876)
Net increase/(decrease) in cash and
cash equivalents 70 (451)
Cash and cash equivalents at beginning
of year 998 1 469
Effects of exchange rate changes on cash
and cash equivalents 7 (20)
Cash and cash equivalents at end of year 1 075 998
Statement of changes in equity
for the year ended 30 June 2005
Invest- Re-
Share Share ment tained
R million capital premium reserve earnings
30 June 2004
Balance at 1 July 2003 1 428 (4) 634
Issue of capital * 877 - -
Share issue expenses - (30) - -
Net profit for the period - - - 418
Dividends paid to Destiny
Health preference
shareholders - - - (1)
Realised loss on minority
share buy-back - - - (5)
Unrealised gains on
investments - - 69 -
Realised gains on
investments transferred
to income statement - - (14) -
Transfer to hedging reserve - - - -
Translation of foreign
subsidiary - - - -
Balance at 30 June 2004 1 1 275 51 1 046
30 June 2005
Balance at 1 July 2004 1 1 275 51 1 046
Issue of capital * 61 - -
Share issue expenses - (1) - -
Net profit for the period - - - 585
Dividends paid to Destiny
Health preference
shareholders - - - (1)
Realised loss on minority
share buy-back - - - (1)
Unrealised gains on
investments - - 211 -
Realised gains on
investments transferred
to income statement - - (53) -
Transfer to hedging reserve - - - -
Translation of foreign
subsidiary - - - -
Balance at 30 June 2005 1 1 335 209 1 629
*Amount is less than R500000.
Statement of changes in equity (continued)
for the year ended 30 June 2005
Trans-
lation Hedging
R million reserve reserve Total
30 June 2004
Balance at 1 July 2003 52 (14) 1 097
Issue of capital - - 877
Share issue expenses - - (30)
Net profit for the period - - 418
Dividends paid to Destiny
Health preference shareholders - - (1)
Realised loss on minority
share buy-back - - (5)
Unrealised gains on investments - - 69
Realised gains on investments
transferred to income statement - - (14)
Transfer to hedging reserve - 8 8
Translation of foreign subsidiary 17 - 17
Balance at 30 June 2004 69 (6) 2 436
30 June 2005
Balance at 1 July 2004 69 (6) 2 436
Issue of capital - - 61
Share issue expenses - - (1)
Net profit for the period - - 585
Dividends paid to Destiny
Health preference
shareholders - - (1)
Realised loss on minority
share buy-back - - (1)
Unrealised gains on
investments - - 211
Realised gains on investments
transferred to income
statement - - (53)
Transfer to hedging reserve - 9 9
Translation of foreign
subsidiary 29 - 29
Balance at 30 June 2005 98 3 3 275
*Amount is less than R500000.
Segmental information
for the year ended 30 June 2005
Health
United
South States of United
R million Africa America Kingdom
30 June 2005
New business annualised
premium income 2 776 809 35
Gross inflows under management 14 571 914 11
Income statement
Gross income of Group 1 688 537 5
Outward reinsurance premiums (3) (53) -
Net policyholder benefits (4) (349) (3)
Commissions - (42) (1)
Operating and administration
expenses (1 118) (180) (150)
Deferred acquisition costs - - 1
Transfer from assets/liabilities
arising from insurance contracts - - -
563 (87) (148)
Return on assets arising from
insurance contracts - - -
Profit from operations 563 (87) (148)
Investment income and realised
profits
Financing costs
Foreign exchange loss
Profit before taxation
Cash flow statement
Cash generated by operations 691 (42) (150)
Cash flow from financing activities - (194) -
30 June 2004
New business annualised
premium income 2 122 494 -
Gross inflows under management 12 550 534 -
Income statement
Gross income of Group 2 057 380 -
Outward reinsurance premiums (45) (90) -
Net policyholder benefits (476) (168) -
Commissions - (39) -
Operating and administration
expenses (1 014) (189) (28)
Transfer from assets/liabilities
arising from insurance contracts - - -
522 (106) (28)
Return on assets arising from
insurance contracts - - -
Profit from operations 522 (106) (28)
Investment income and realised
profits
Financing costs
Foreign exchange loss
Profit before taxation
Cash flow statement
Cash generated by operations 655 (103) (28)
Cash flow from financing activities - (12) -
Segmental information (ontinued)
for the year ended 30 June 2005
Life Vitality Holdings Total
30 June 2005
New business annualised
premium income 629 93 - 4 342
Gross inflows under management 1 278 521 - 17 295
Income statement
Gross income of Group 1 278 521 - 4 029
Outward reinsurance premiums (322) - - (378)
Net policyholder benefits (223) - - (579)
Commissions (617) (55) - (715)
Operating and administration
expenses (269) (428) (1) (2 146)
Deferred acquisition costs - - - 1
Transfer from assets/liabilities
arising from insurance
contracts 442 - - 442
289 38 (1) 654
Return on assets arising from
insurance contracts 132 - - 132
Profit from operations 421 38 (1) 786
Investment income and realised
profits 159
Financing costs (54)
Foreign exchange loss (8)
Profit before taxation 883
Cash flow statement
Cash generated by operations 25 52 (1) 575
Cash flow from financing
activities - - 60 (134)
30 June 2004
New business annualised
premium income 535 62 - 3 213
Gross inflows under management 858 403 - 14 345
Income statement
Gross income of Group 858 403 - 3 698
Outward reinsurance premiums (158) - - (293)
Net policyholder benefits (197) - - (841)
Commissions (510) (27) - (576)
Operating and administration
expenses (251) (326) (1) (1 809)
Transfer from assets/liabilities
arising from insurance
contracts 431 - - 431
173 50 (1) 610
Return on assets arising from
insurance contracts 98 - - 98
Profit from operations 271 50 (1) 708
Investment income and realised
profits 121
Financing costs (47)
Foreign exchange loss (62)
Profit before taxation 720
Cash flow statement
Cash generated by operations (248) 62 (1) 337
Cash flow from financing
activities - - (27) (39)
Embedded value statement
Table 1: Group embedded value
at 30 June 2005
Group Group %
R million 2005 2004 change
Shareholders` funds(1) 3 275 2 436 34
Value of in-force business before cost
of capital 6 483 4 803 35
Cost of capital (533) (363) 47
Discovery Holdings embedded value 9 225 6 876 34
Number of shares (millions) 528,2 513,3
Embedded value per share R17,46 R13,40 30
Diluted number of shares (millions) 553,2 546,4
Diluted embedded value per share(2) R17,03 R12,89 32
(1) Shareholders` funds include R1881 million (June 2004: R1318 million) in
respect of assets under insurance contracts.
(2) The diluted embedded value per share is calculated by increasing the
embedded value by the value of the loan to the Discovery Holdings share
incentive trust, and by increasing the number of shares by both the number of
outstanding shares relating to the redemption value of the Discovery Life
preference shares, as well as by the number of shares issued to the share
incentive trust which have not been delivered to participants.
Table 2: Value of in-force business
at 30 June 2005
Value Value
before cost Cost of after cost
R million of capital capital of capital
Health and Vitality 3 844 - 3 844
Life(1) 2 349 (517) 1 832
Destiny Health(2) 290 (16) 274
Total 6 483 (533) 5 950
(1) The Life cost of capital is based on the capital adequacy requirement of
R1507 million (2004: R883 million) under the Financial Soundness Valuation
basis.
(2) Figures for Destiny Health reflect Discovery`s 97,67% shareholding in
Destiny Health at 30 June 2005.
at 30 June 2004
Value Value
before cost Cost of after cost
R million of capital capital of capital
Health and Vitality 3 194 - 3 194
Life 1 447 (340) 1 107
Destiny Health 162 (23) 139
Total 4 803 (363) 4 440
Table 3: Embedded value earnings
for the year ended 30 June 2005
Group Group
R million 2005 2004
Embedded value at end of period 9 225 6 876
Embedded value at beginning of period 6 876 4 928
Increase in embedded value 2 349 1 948
Net issue of capital (60) (847)
Dividends paid to Destiny Health preference
shareholders 1 1
Transfer to hedging reserve (9) (8)
Embedded value earnings 2 281 1 094
Return on embedded value 33,2% 22,2%
Table 4: Components of embedded value earnings
for the year ended 30 June 2005
Group Group %
R million 2005 2004 change
Total profit from new business
(at point of sale) 783 637 23
Profit from existing business
* Expected return 602 534
* Change in methodology and assumptions(1) 307 (361)
* Experience variances 363 230
Acquisition costs - (5)
PruHealth start-up costs (120) (28)
Adjustment for minority interest in
Destiny Health 4 (4)
Adjustment for Guardian profit share in
Destiny Health(2) (28) (8)
Foreign exchange rate movements 43 (67)
Interest on loan capital (50) (41)
Return on shareholders` funds(3) 377 207
Embedded value earnings 2 281 1 094
(1) The change in methodology and assumptions item will vary over time to
reflect adjustments to the model and assumptions as a result of changes to the
operating and economic environment. The current period`s changes are described
in detail in Table 5 below (for previous periods refer to previous embedded
value statements).
(2) In terms of the agreement between Destiny Health and the Guardian Life
Insurance Company of America, Guardian will share in 50% of the profits from
Destiny Health`s non-alliance business once the business written by Guardian
reaches the contractual new member threshold. This is modelled to occur in June
2006. Based on Guardian`s progress at 30 June 2005 towards achieving this
target, the value attributed to Destiny Health`s non-alliance business from 30
June 2006 has been reduced by 26,3% (June 2004: 6,8%) in the embedded value
calculation.
(3) Return on shareholders` funds is the investment return on shareholders`
funds after tax and management charges. Shareholders` funds include the assets
under insurance contracts.
Table 5: Methodology and assumption changes
for the year ended 30 June 2005
Health and Destiny
R million Vitality Health Life Total
Modelling changes - (27) (15) (42)
Destiny Health quota share - 12 - 12
Lapses(1) 14 (9) (51) (46)
Economic assumptions(2) (12) - 69 57
Expenses(3) 260 66 6 332
Mortality and morbidity - (55) 7 (48)
Benefit enhancements(4) (64) - (5) (69)
Regulatory change(5) - - 100 100
Tax(6) (13) - 28 15
Other - 8 (12) (4)
Total 185 (5) 127 307
(1) The Life lapse assumption change includes an assumption change in respect of
Health Plan Protector policies.
(2) The Life economic assumptions change includes a higher cancellation rate on
contribution increases which has been changed to be consistent with the current
lower inflationary environment. The impact of a higher cancellation rate on
contribution increases was a negative R60 million. The impact of the 1,5%
reduction in the economic assumptions is positive R123 million.
(3) The Health and Vitality renewal expense assumption change is based on the
results of the most recent expense analysis (30 June 2005). For Health and
Vitality, the actual experience reflects efficiencies achieved in managing the
Health business. The Destiny Health renewal expense assumption is not based on
recent expense experience, but has been adjusted to allow for growth in
membership over the next 12 months.
(4) The Health and Vitality assumption change includes an allowance for the
expected cost of benefit enhancements on Vitality.
(5) This represents the value to shareholders of the deferment of tax. A
deferred tax liability has been set up that is explained in the balance sheet
section of the financial commentary.
(6) The tax assumption change reflects a lower South African corporate tax rate.
On Health and Vitality, this is offset by a higher average VAT rate modelled.
Table 6: Experience variances
for the year ended 30 June 2005
Health and Destiny
R million vitality Health Life Total
Renewal expenses 37 (13) 5 29
Non-recurring expenses(1) (9) (9) - (18)
Inflation(2) (79) - (5) (84)
Extended modelling term(3) 154 14 3 171
Lapses(4) 200 0 (8) 192
Policy alterations 8 3 71 82
Mortality and morbidity(5) - (41) 68 27
Life quota share(6) - - (24) (24)
Reinsurance - - (3) (3)
Tax (5) - (5) (10)
Other 8 6 (13) 1
Total 314 (40) 89 363
(1) The non-recurring expenses for Health and Vitality include moving and other
costs related to the occupation of a new building, as well as costs related to
the discontinuation of the Corporate Funder benefit.
For Destiny Health, non-recurring expenses are in respect of restructuring costs
as well as costs relating to the recruitment of an executive director.
(2) The negative variance for Health and Vitality is due to a lower 2005
increase (i.e. 4,2%) in the Health administration and managed care fees compared
with that assumed in June 2004 (i.e. 5,5%).
(3) The projection term for Health, Vitality, Destiny Health and Group Life at
30 June 2005 has not been changed from that used at 30 June 2004. Thus, an
experience variance arises because the total term of the in-force business is
effectively increased by one year.
(4) Included in the Health and Vitality lapse experience variance is an amount
of R345 million in respect of members joining existing employer groups during
the period, offset by an amount of R187 million in respect of members leaving
existing employer groups. A positive variance of R42 million is due to lower
than expected lapses.
(5) The Life mortality and morbidity variance is net of reinsurance.
(6) The impact of implementing the new quota share agreement was negative R24
million. This however excludes investment return of R10 million earned on the
assets received.
Table 7: Embedded value of new business
for the year ended 30 June 2005
Group Group %
R million 2005 2004 change
Health and Vitality
Gross profit from new business at point
of sale 229 155
Cost of capital - -
Net profit from new business at point
of sale 229 155 48
New business annualised premium income(1) 1 734 1 259 38
Life
Gross profit from new business at point
of sale 676 583
Cost of capital (157) (131)
Net profit from new business at point
of sale(2) 519 452 15
New business annualised premium income(3) 470 406 16
Annualised profit margin(4) 13,5% 13,3%
Destiny Health
Gross profit from new business at point
of sale 36 36
Cost of capital(5) (1) (6)
Net profit from new business at point
of sale(6) 35 30 17
Net profit from new business at
valuation date(7) 114 78 46
New business annualised premium
income(1) 603 378 60
New business annualised premium income
(US$ million) 97 56 73
(1) Health and Destiny Health new business annualised premium income is the
gross contribution. For embedded value purposes, Health and Destiny Health new
business is defined as individuals and members of new employer groups, and
includes additions to first year business.
The new business annualised premium income shown above has been adjusted to
exclude premiums in respect of members who join an existing employer after the
first year, as well as premiums in respect of new business written during the
period but only activated after 30 June 2005.
The total Health and Vitality new business annualised premium income written
over the period was R2869 million (June 2004: R2184 million). For Destiny
Health, the total new business annualised premium income written over the period
was R809 million (June 2004: R494 million).
(2) The Life value of new business includes R44 million in respect of the value
to shareholders of the deferment of tax. A deferred tax liability has been set
up that is explained in the balance sheet section of the financial commentary.
(3) Life new business annualised premium income of R470 million shown above is
net of automatic premium increases and servicing increases in respect of
existing business. The total Life new business annualised premium income written
over the period, including both automatic premium increases of R81 million and
servicing increases of R78 million, was R629 million.
(4) The annualised profit margin is the value of new business expressed as a
percentage of the present value of future premiums. The majority of policies
sold under Life have accelerated premiums, i.e. premiums that increase over the
term of the policies, hence expressing the value of new business as a percentage
of the current new business premium, 111% (June 2004: 111%) would overstate the
annualised profit margin.
(5) As most of the new business is written on the Guardian and Tufts insurance
licences, Destiny Health is not required to hold statutory capital for this
business. An explicit charge for the use of their capital is payable to Guardian
and Tufts, and this cost is included in the gross profit from new business.
(6) The Destiny Health value of new business allows for the actual new business
expenses incurred over the twelve month period. Actual new business expenses
include infrastructure development costs related to developing new business
capacity. No allowance has been made for acquisition cost efficiencies which are
expected to occur in the future.
(7) The value of new business at the valuation date excludes all acquisition
costs.
Table 8: Embedded value assumptions
for the year ended 30 June 2005
(%) 2005 2004
Risk discount rate
- Health and Vitality 11,00 12,50
- Life 11,00 12,50
- Destiny Health 10,00 10,00
Medical inflation
South Africa 7,00 8,50
United States Current levels Current levels
reducing to reducing to
12,50% over the 12,50% over the
projection period projection period
Expense inflation
South Africa 4,00 5,50
United States 3,00 5,00
Pre-tax investment return
South Africa
- Cash 6,50 8,00
- Bonds 8,00 9,50
- Equity 10,00 11,50
United States
- Bonds 3,00 2,00
Income tax rate
- South Africa 29,00 30,00
- United States Federal
Tax Rate(1) 34,00 34,00
(1) Various additional State taxes also apply.
Life mortality, morbidity and lapse assumptions were derived from internal
experience, where available, augmented by reinsurance and industry information.
Renewal expense assumptions were based on the results of the latest expense and
budget information.
