Independent auditor’s report to the members of Prudential plc only

Opinions and conclusions arising from our audit

1. Our opinion on the financial statements is unmodified

We have audited the Financial statements of Prudential plc for the year ended 31 December 2013. In our opinion:

  • The financial statements give a true and fair view of the state of the Group’s and of the parent company’s affairs as at 31 December 2013 and of the Group’s profit for the year then ended;
  • The Group financial statements have been properly prepared in accordance with International Financial Reporting Standards as adopted by the European Union;
  • The parent company financial statements have been properly prepared in accordance with UK Accounting Standards; and
  • The financial statements have been prepared in accordance with the requirements of the Companies Act 2006 and, as regards the Group financial statements, Article 4 of the IAS Regulation.

2. Our assessment of risks of material misstatement

In arriving at our audit opinion above on the financial statements the risks of material misstatement that had the greatest effect on our audit were as follows:

Investments (£296,457 million)

Refer to the Audit Committee report, Accounting policy and Financial disclosures.

The risk – The Group’s investment portfolio represents 91 per cent of the Group’s total assets. Quoted prices from liquid market sources can be obtained for the substantial majority of the portfolio.

The areas that involved significant audit effort and judgement in 2013 were the valuation of illiquid positions within the financial investment portfolio representing 6 per cent of total investments. These included unlisted equity, unlisted debt securities, derivatives and loans such as commercial mortgage loans and bridge loans. For these positions a reliable third-party price was not readily available and therefore involved the application of expert judgement in the valuations adopted.

Our response – We used own valuation specialists and pricing services to assist us in performing our audit procedures in this area, which included:

  • Assessing whether the valuation process is appropriately designed and captures relevant valuation inputs;
  • Testing associated controls in respect of the valuation process;
  • Performing our own independent price checks using external quotes where available for illiquid positions;
  • Assessing pricing model methodologies and assumptions against industry practice and valuation guidelines; and
  • Evaluating the testing performed by the group in order to identify any impairment in relation to loans by reviewing loan files to check performance of the loans. We obtained an understanding of existing and prospective investee company cash flows to understand whether loans can be serviced or refinancing may be required and considered the impact on impairment testing performed.

Our work included consideration of events which occurred subsequent to the year end up until the date of this audit report.

We also assessed whether the Group’s disclosures in relation to the valuation of investments are compliant with the relevant accounting requirements, in particular the sensitivity of the valuations adopted to alternative outcomes.

Policyholder Liabilities (£273,953 million)

Refer to the Audit Committee report, Accounting policy and Financial disclosures.

The risk: The Group has significant insurance liabilities representing 87 per cent of the Group’s total liabilities. This is an area that involves significant judgement over uncertain future outcomes, mainly the ultimate total settlement value of long-term policyholder liabilities. Economic assumptions, such as investment return and associated discount rates, and operating assumptions such as mortality and persistency are the key inputs used to estimate these long-term liabilities. The valuation of the guarantees in the US variable annuity business is a complex exercise as it involves exercising significant judgement over the relationship between the investment return attaching to these products and the guarantees contractually provided to policyholders and the likely policyholder behaviour in response to changes in investment performance. The valuation of the insurance liabilities in relation to the UK annuity business requires the exercise of significant judgement in the setting of mortality and credit risk assumptions.

Our response: We used our own actuarial specialists to assist us in performing our audit procedures in this area, which included among others:

  1. Consideration of the appropriateness of the economic assumptions used in the valuation of the US variable annuity guarantees in relation to investment mix and projected investment returns by reference to company specific and industry data, of future growth rates by reference to market trends, market volatility and associated discount rates used in the stochastic models used by the Group. Our work on the persistency assumptions primarily considered their appropriateness by reference to company and industry data on policyholder behaviour.
  2. Consideration of the appropriateness of the mortality and credit risk assumptions used in the valuation of the UK annuity liabilities by reference to company and industry data on historical mortality experience and expectations of future mortality. Our work on the credit risk assumptions primarily considered the appropriateness of management’s methodology and assumptions by reference to industry practice and our expectation derived from market experience.

Other key audit procedures included assessing the Group’s methodology for calculating the insurance liabilities and their analysis of the movements in insurance liabilities during the year, including consideration that the movements are in line with the assumptions adopted by the group, our understanding of developments in the business and our expectation derived from market experience. We considered the validity of management’s liability adequacy testing which is a key test performed to check that the liabilities are adequate in the context of expected experience. Our work on the liability adequacy test includes assessing the reasonableness of the projected cash flows and challenging the assumptions adopted in the context of company and industry experience data and specific product features.

We considered whether the Group’s disclosures in relation to the assumptions used in the calculation of insurance liabilities are compliant with the relevant accounting requirements, in particular the sensitivities of these assumptions to alternative scenarios and inputs.

Deferred Acquisition Costs (‘DAC’) (£4,786 million)

Refer to the Audit Committee report, Accounting policy and Financial disclosures.

The risk – DAC represents 1 per cent of the total assets and involves judgement in the identification of, and the extent to which, certain acquisition costs can be deferred, and assessment of recoverability of the asset. The DAC associated with the US business, which represents 86 per cent of total DAC, involves the greatest judgement in terms of measurement and recoverability. The amortisation of the DAC asset is related to the achieved and projected future profit profile.

Our response – We used our own actuarial specialists to assist us in performing our audit procedures in this area, which included:

  1. evaluating the appropriateness of the deferral policy adopted by management by comparing it against the requirements of relevant accounting standards;
  2. evaluating whether costs are deferred in accordance with management’s deferral policy; and
  3. assessing the calculations performed by the Group including the appropriateness of the assumptions used in determining the profit profile and the extent of the associated adjustment necessary to the DAC asset. Our work in this area included assessing the reasonableness of assumptions such as the projected investment return by comparing against the Group’s investment portfolio mix and market return data.

We also considered the adequacy of the Group’s disclosures about the degree of estimation involved in the valuation of DAC.

3. Our application of materiality and an overview of the scope of our audit

The materiality for the Group financial statements as a whole was set at £307 million. This was determined with reference to a benchmark of IFRS shareholders’ equity (of which it represents 3 per cent) which we consider to be one of the principal considerations for members of the company as it represents the residual interest that can be ascribed to shareholders after policyholder assets and corresponding liabilities have been accounted for.

We agreed with the Group audit committee to report to it all corrected and uncorrected misstatements we identified through our audit with an individual value in excess of £15 million in addition to other audit misstatements below that threshold that we believe warranted reporting on qualitative grounds.

Audits for Group reporting purposes were performed at the following key components by component auditors in all locations except for the UK Group Head Office operations which were covered by the Group team in the UK:

  • Insurance operations in the UK, US, Hong Kong, Indonesia, Singapore, Malaysia, Korea, Vietnam, India and Taiwan;
  • Fund management operations in the UK (M&G and Prudential Capital); and
  • UK Group Head Office operations.

These audits covered 91 per cent of total Group revenue; 95 per cent of Group profit before taxation; 95 per cent of total Group assets and 90 per cent of Group shareholders’ equity.

The audits undertaken for Group reporting purposes at the key reporting components of the Group were all performed to component materiality levels set by the Group audit team. These component materiality levels were set as £110 million for key reporting components in Asia and £140 million for all other key reporting components listed above to evaluate the impact of misstatements in aggregate on the Group financial statements.

Detailed audit instructions were sent to all the auditors in these locations. These instructions covered the significant audit areas that should be covered by these audits (which included the relevant risks of material misstatement detailed above), and set out the information required to be reported back to the Group audit team. The Group team held planning and risk assessment meetings with components in scope for Group reporting and participated in the separate individual local planning and risk assessment meetings.

The Senior Statutory Auditor, in conjunction with other senior staff in the Group team, also regularly attended component audit committee meetings (at a regional level for Asia) to understand at first hand the key risks and audit issues at a component level which may affect the Group financial statements.

4. Our opinion on other matters prescribed by the Companies Act 2006 is unmodified

In our opinion:

  • The part of the directors’ remuneration report to be audited has been properly prepared in accordance with the Companies Act 2006; and
  • The information given in the strategic report and the directors’ report for the financial year for which the financial statements are prepared is consistent with the financial statements.

5. We have nothing to report in respect of the matters on which we are required to report by exception

Under ISAs (UK and Ireland) we are required to report to you if, based on the knowledge we acquired during our audit, we have identified other information in the annual report that contains a material inconsistency with either that knowledge or the financial statements, a material misstatement of fact, or that is otherwise misleading.

In particular, we are required to report to you if:

  • We have identified material inconsistencies between the knowledge we acquired during our audit and the directors’ statement that they consider that the annual report and financial statements taken as a whole is fair, balanced and understandable and provides the information necessary for shareholders to assess the Group’s performance, business model and strategy; or
  • The audit committee report does not appropriately address matters communicated by us to the audit committee.

Under the Companies Act 2006 we are required to report to you if, in our opinion:

  • Adequate accounting records have not been kept by the parent company, or returns adequate for our audit have not been received from branches not visited by us; or
  • The parent company financial statements and the part of the directors’ remuneration report to be audited are not in agreement with the accounting records and returns; or
  • Certain disclosures of directors’ remuneration specified by law are not made; or
  • We have not received all the information and explanations we require for our audit.

Under the Listing Rules we are required to review:

  • The directors’ statement, in relation to going concern; and
  • The part of the corporate governance statement relating to the company’s compliance with the nine provisions of the 2010 UK Corporate Governance Code specified for our review; and
  • Certain elements of the report to shareholders by the Board on directors’ remuneration.

We have nothing to report in respect of the above responsibilities.

Scope of report and responsibilities

As explained more fully in the directors’ responsibilities statement, the directors are responsible for the preparation of the financial statements and for being satisfied that they give a true and fair view. A description of the scope of an audit of financial statements is provided on the Financial Reporting Council’s website at This report is made solely to the Company’s members as a body and is subject to important explanations and disclaimers regarding our responsibilities, published on our website at which are incorporated into this report as if set out in full and should be read to provide an understanding of the purpose of this report, the work we have undertaken and the basis of our opinions.

Rees Aronson
(Senior Statutory Auditor)

for and on behalf of KPMG Audit Plc, Statutory Auditor
Chartered Accountants

11 March 2014

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