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INSIGHT – Sometimes, it’s an in-Equitable life

The speed with which the group has descended into its current depths has taken many by surprise. Certainly, the current crisis has come as a major blow to all eight “independent” non-executive directors who resigned from the board at the beginning of January after an average of six years’ service with the society. Chief executive Alan Nash resigned in December 2000, following the collapse of merger talks with Prudential.

Nash was succeeded by Chris Headdon, the FD or “general manager – finance”, who was promoted to the board in July 1999, having been made “appointed actuary” in 1997. The only other survivor of the self-inflicted bloodletting was David Thomas, general manager for investments. Hence, an 11-strong board has lost nine members in less than a year, leaving the two executives most closely associated with the financial management and investment performance of the group.

“We face the future with renewed vigour and commitment to continue the society’s success,” says the text beneath the directors’ photographs on page 7 of the Annual Report.

The Directors’ Report and Accounts sets out how the society had “voluntarily” adopted the Combined Code of corporate governance, though it is not listed.

It sets out how the audit committee considers risk management reports and says that there is a system of internal controls that provide “reasonable, but not absolute, assurance that (the) company will not be hindered in achieving its business objectives … In assessing what constitutes reasonable assurance, the Directors have regard to the materiality of any risks …

The Directors consider that the society has adequate resources to continue in business for the foreseeable future.” All good boilerplate stuff and, in the view of the directors and auditors Ernst & Young, the going concern concept was quite appropriate.

But what did the Equitable say about the Guaranteed Annuity Rates problem?

It admits that “our new pensions business was hit by the adverse publicity”.

Later, it says, “our experience of the Guaranteed Annuity Rates issue suggested that our communications strategy required a significant overhaul.”

A three-page section is devoted to the issue of GARs and explains why “some commentators” have been wrong to argue that the society is trying “to wriggle out of its obligations” by awarding “different rates of final bonus” to policy holders who exercise their right to receive a guaranteed annuity, rather than a market-based “fund form” annuity.

But while this explanation makes clear that GAR policies had not been sold since 1988, it adds that market annuity rates have generally been lower than the guaranteed rates since 1994 – so the problem had been developing through most of the last decade. Most of the directors who resigned recently would have been on the society’s board over this time.

The Equitable’s argument is demonstrated by an example: if an investor’s policy is worth #85,000 but his “share” of the group’s assets ought to be #100,000, then a #15,000 final bonus need not be paid if, say, a 10% guaranteed annuity yields #8,500 per year, while a market rate annuity of 8% on a fully topped-up policy worth #100,000 yields only #8,000. There is scant mention of the counter-argument – even though the society had already lost in the Court of Appeal. The Annual Report says: “We have received a number of complaints from policyholders who do not believe that it is fair for the final bonus to be different depending on the form of benefit chosen.” In response to such complaints, The Equitable effectively went to court to determine whether its bonus policy was valid.

While The Equitable claimed in the Annual Report that the cost of the additional benefits to GAR holders “is unlikely to exceed #50m in total over the coming years”, it adds that, “for accounting purposes”, a #200m provision has been made in the balance sheet “to provide an allowance for more extreme future changes in financial conditions …” The audited accounts themselves contain the single sentence, in note 17: “An additional amount of #200m (1998: #200m) is included as a prudent provision for any additional liabilities which may arise through clients choosing to exercise guaranteed annuity options under their policies.” Current estimates, however, are that the value of these extra costs is more like #1.5bn – yet neither the degree of risk that the House of Lords decision might go against the society nor any contingency reflecting such a huge figure merited any mention in 64 pages of annual reports and accounts.

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