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Annual Report & Financial Statements 2013 2 National Friendly Annual Report & Financial Statements 2013

Advisors

Independent Auditors PricewaterhouseCoopers LLP, 31 Great George Street, Bristol, BS1 5QD

Bankers HSBC, 62 George White Street, Cabot Circus, Bristol, BS1 3BA

Custodians Northern Trust, 50 Bank Street, Canary Wharf, London, E14 5NT

Internal Auditors Mazars LLP, Clifton Down House, Beaufort Buildings, Clifton, Bristol, BS8 4AN

Investment Managers Equity and Fixed Income Fund Fidelity Investments Limited, 25 Cannon Street, London, EC4M 5TA Contact Details Unit Linked Fund Church House Investments, 3 Goldcroft, Head Office Yeovil, Somerset, BA21 4DQ 4-5 Worcester Road, Clifton, Bristol BS8 3JL Telephone 0117 973 9003 [email protected] Solicitors www.nationalfriendly.co.uk Thring Townsend Lee & Pembertons, The Paragon, Counterslip, Bristol, BS1 6BX Established 1868 – Registered and incorporated Friendly Society no. 369F. Beachcroft LLP, 100 Fetter Lane, London, EC4A 1BN Member of the Association of Financial Mutuals. Authorised by the Prudential Regulation Authority Lovells, Atlantic House, Holborn Viaduct, and regulated by the Financial Conduct Authority London, EC1A 2FG. and the Prudential Regulation Authority. Chief Executive Officer: Jonathan Long Surveyors Company Secretary: Sandy Richards Mellersh and Harding LLP, Kingsbury House, 15-17 King Street, London SW1 6QU

With-Profit Actuary BWCI Limited, Albert House, South Esplanade, St Peter Port, Guernsey, GY1 1AW Chairman’s review

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highlights Financial

Strategic report Strategic Directors’ report Directors’ Board report Board Audit committee committee Audit report

Contents Remuneration report

Advisors & Contact details 2

Chairman’s Review 4 Auditors’ report

Financial Highlights 5 Independent Strategic Report 6-19 The Directors’ Report 20-24 The Board Report 25-27 Audit Committee Report 28-29 statement Income Directors’ Remuneration Report 30-32 Independent Auditors’ Report 33-36 Income Statement 37

Balance Sheet 38-39 sheet Balance Statement of total recognised gains and losses 40 Notes to the Accounts 41-74 Gains and losses and Gains Notes to the to the Notes accounts 4 National Friendly Annual Report & Financial Statements 2013

Chairman’s Review

I am pleased to say that the Society has continued to restore capital in 2013 and, looking ahead, is strengthening further its capital base in 2014. This is a continuation of the trend seen in recent years and has come about through careful management of your Society’s assets and liabilities by your management team who continue to exercise great prudence in all areas of the business.

To date, notwithstanding the progress made, it has not Furthermore, we have witnessed considerable progress been considered appropriate to launch new insurance in developing our business proposition at 425 Financial products because we want to be absolutely certain that Solutions, our direct selling business, as the product mix our strengthening balance sheet is utilised properly in is further broadened and strategic positioning refined. pursuit of clear product opportunities which fit our risk appetite. As further balance sheet strength accrues this Finally, after much consideration, I have made the will give us greater flexibility in product design. difficult decision to stand down as Chairman and Non-Executive Director of the Society due to personal In the meantime, we continue to pursue our interest in commitments, this being part of a wider exercise the later life care market and are undertaking extensive involving the re-arrangement of a number of current research to increase our awareness of the market and business interests. I have enjoyed the role immensely determine how we may best position ourselves to help. during my time with the Society and it is with regret One in three adults will have long term care needs in the that I have decided to leave. I am pleased to announce future and we will be seeking to help support people that the Board has appointed Tracy Morshead as my with products and services that may assist. Going successor as Chairman and I wish him every success in forward we are positioning ourselves as care experts the role. with the knowledge, products and relationships in place to support our policy holders in times of need. It has been a pleasure being involved with the Society and I am certain that it will continue with its ambition to build a profitable and sustainable future throughout 2014 and beyond. Alan Lewis, Chairman 31 March 2014

It is with honour that I take on the role of Chairman of the Society and I welcome the opportunity to guide your Board and management team in the forthcoming years as we establish ourselves as a key participator in later life care. In the short term our priority remains the restoration of capital and as this continues it will create a robust platform upon which we can build a long term sustainable business model.

I should also like to take this opportunity to thank Alan for all of his hard work, dedication and commitment over the past five years and wish him well in the future.

I look forward to a successful future as the Society continues to strengthen its financial position. Tracy Morshead, Non-Executive Director 31 March 2014 Chairman’s review

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highlights Financial Highlights Financial

Strategic report Strategic

Total Assets 2009 £157.9m Our asset base has fallen during 2010 £157.9m report Directors’ the year due to policy maturities 2011 £152.2m and lapses coupled with increasing interest rates giving rise to a fall 2012 £150.3m in gilt values.

2013 £141.6m report Board Audit committee committee Audit report Annual Premiums Earned 2009 £10.9m & Premium Income 2010 £16.7m Calculated using 10% of Single Premium Business 2011 £20.5m Premium income has reduced Remuneration 2012 £17.6m report due to policy maturities and lapses and the temporary 2013 £15.7m closure to new business. Auditors’ report Independent

Fund for Future 2009 £19.0m statement Income Appropriations 2010 £8.4m The Fund for Future Appropriations 2011 £10.5m has increased through a combination of reduced reserves due to policy 2012 £9.6m lapses and higher interest rates sheet Balance being offset by increased morbidity 2013 £10.2m and per policy expense assumptions. Gains and losses and Gains Notes to the to the Notes accounts 6 National Friendly Annual Report & Financial Statements 2013

Strategic Report

Our vision is to be a forward thinking trusted “mutual that evolves to meet the changing welfare needs of our policy holders and we retain our strong desire to re-open to new business as soon as capital and risk appetite permits.”

Overall Strategy

The Society’s fundamental strategy remains unchanged. Our vision is to be a forward thinking trusted mutual that evolves to meet the changing welfare needs of our policy holders and we retain our strong desire to re-open to new business as soon as capital and risk appetite permits.

More explicitly our aim is to provide our policy holders with products and services that look after their welfare – to give certainty and control over their wellbeing both now and in the future. This will be delivered in a timely, personal and friendly manner using technology as appropriate. Business Performance

Our focus throughout 2013 was on continuing to deliver our capital restoration plan, strengthening our risk management framework and seeking possible re-insurers to reduce our morbidity risk. In the course of the year our level of Pillar 1 free capital has increased from £1.4m at 31 December 2012 to £1.8m as at 31 December 2013.

There are a number of contributing factors to this These increases have been offset by: continued restoration of capital. Increases to the capital position have been driven by: • Poorer than expected morbidity experience. • An increase in per policy expense as the policy • Int erest rate rises causing an increase in valuation book reduces in size. discount rate and a reduction in overall liabilities. • The identification of an error embedded within one • Higher than anticipated healthcare lapses resulting in of our actuarial models that are used to determine a higher level of morbidity reserves being released. our future healthcare claims which, after correction, • Our decision to take advantage of a rising property reduced capital by £1.1m. market by selling the current head office building and relocating to the centre of Bristol into a property more suited to the Society’s current and future planned requirements. Chairman’s review

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highlights Financial Critical Success Factors

We determined three key areas of critical success for 2013 and set out below the progress made on each: Strategic report Strategic

Capital To re-open to new 1 management 2 business

2013 saw our capital restoration plan successfully Capital continued to be restored in 2013 but had not report Directors’ delivering improvements to our position, albeit yet reached the level we have set to confidently progress has been slower than we desired. re-open to new business.

Morbidity That said, we continued to develop our overall Extensive work has taken place during 2013 with proposition of meeting the evolving welfare needs of an objective to reduce our morbidity risk exposure. our policyholders and are still planning to expand our Board report Board We have also considered, and continue to do so, product offering in line with our distribution strategy in reinsurance financing and assessing options in respect marketing later life care products and services through of stop loss both at an aggregate and per policy level a combination of the Society, our subsidiary company of our existing healthcare policy book. 425 Financial Solutions (“425”) and carefully selected strategic partnerships. Solvency II committee Audit

We are also preparing for Solvency II, the EU legislative We are also considering reinsurance as a way of report programme to provide improved consumer protection mitigating the risk of writing new business, ensuring and ensure a uniform and enhanced level of policyholder both that pricing is appropriate and minimising protection across the EU. The implementation date for the capital strain of writing new business thereby Solvency II has now been set for 1 January 2016 in the protecting the current surplus for the benefit of existing

UK with preparatory arrangements coming into effect policyholders. Remuneration from 1 January 2014 in the following areas: report Securing reinsurance may partly dictate the timing of • Implement Solvency II’s systems and governance when we re-open to new business, into which markets requirements from the beginning of 2014. and with what products. • P repare and submit the Forward Looking Auditors’ report

Assessments of Risk to the Prudential Regulation Independent Authority. Cost • Insur ers and groups over specified size criteria 3 control will need to prepare additional annual regulatory reporting as at the end of 2014 and quarterly We have made significant cost savings throughout the

reporting as at Q3 2015. year and we continue to address future cost issues as statement Income the declining policy book provides progressively lower income to cover our cost base. In 2013 this included a review of the organisation structure against our objectives and requirements resulting in an overall further reduction in staff costs. Our forthcoming office move will also result in net cost savings as we ‘right size’ our property footprint. sheet Balance

Furthermore, we are seeking to drive out further cost primarily through the development of our policy administration system, the first phase of which is

underway and progressing well. Future stages will be losses and Gains signed off as successful delivery both in time and quality is demonstrated. Notes to the to the Notes accounts 8 National Friendly Annual Report & Financial Statements 2013

Critical success factors for 2014

In 2014, the Society will continue to pursue these three objectives and they remain a strategic priority. We are also adding the profitable growth of 425 as a strategic objective.

Profitable growth of 425 We are focused on making sure that our IT systems Our strategy for 425 is to grow profitably by winning support our growth aspirations and that technology is sustainable business to business contracts which draw used appropriately to attract new business. This includes on our strengths in helping consumers to find the most the launch of 425’s new website in Q2, embracing social appropriate financial products and help them with media and providing a consumer friendly website which retirement planning and other financial planning needs. contributes to our growth strategy whilst ensuring that We want to achieve this whilst operating an efficiently we operate a fully compliant business. run business with services which offer the best financial solutions to meet our customers’ needs. In the background to these activities we will continue to invest in training and development of our staff, including We initiated a deep drill review of 425’s operations in supporting our Independent Financial Advisors to achieve the latter part of 2013. 2014 was kick-started with the Society of Later Life Advisors (“SOLLA”) accreditation. the streamlining of processes to enhance our customer experience as well as the restructuring of the sales Our overall vision for 425 remains constant: to focus on administration support model, which maximises the our specialism in retirement planning and play an integral support for our sales teams in order to deliver growth role in the Society’s strategy in the later life market. In later on in the year. particular the 2014 Budget has announced changes to the regulations surrounding pensions and annuities and we are currently assessing the opportunities that this brings. Chairman’s review

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highlights Financial Risk Management

The key risks to the achievement of our strategic objectives, their impact and any mitigating action that can be taken are as follows: Strategic report Strategic

Risk Impact Mitigation Morbidity We will have to defer opening to new The management of morbidity claims Morbidity experience continues to business to much later in 2014, if at remains a key focus; in addition we

deteriorate over and above expectation all during that year. continue to explore re-insurance to limit report Directors’ either holding back capital restoration our risk exposure. or, at worst, reducing the amount of free capital.

Administration system Continuing with existing systems with Robust project management with development project manual workarounds poses control risks an emphasis on: and the existing systems are now at Failure of the project to deliver to • Delivery in bite sized chunks. report Board the end of their useful life meaning that time and quality results in cost and • Strict cost control. time overruns. they are costly to support and develop. • Regular monitoring of progress against deliverables. External expertise is sought to confirm

both quality and overall programme committee Audit management arrangements. report Unable to open to new Continuing reduction in policies We continue to review costs on an business as anticipated (not replaced by new business) on-going basis, making reductions Our Capital position does not meet the presents a fixed cost issue. to minimum requirements. minimum risk appetite requirements to

return to writing new business. Remuneration report Profitability of 425 The subsidiary does not provide 425 has its own business plan with The Society’s subsidiary does a positive financial contribution stretching targets to include: not generate a profit. to the Society. • Increase in performance and productivity Auditors’ report

• Reducing the dependency on one Independent key lead provider Performance against plan will be closely monitored throughout the year and action taken as appropriate to enhance profitability. Income statement Income Balance sheet Balance Gains and losses and Gains Notes to the to the Notes accounts 10 National Friendly Annual Report & Financial Statements 2013

Investment Performance

Property Equities 2013 saw an improvement in the commercial property UK equities consolidated gains to end 2013 on a market buoyed by an increase in investor demand and strong note, as increasingly positive economic data and limited renewed confidence by occupiers. accommodative monetary policies from global central banks led to an improvement in investor sentiment. The Society’s property portfolio produced a healthy There was increased focus on companies that are income return of 8.3% and occupancy levels remained expected to benefit from a recovery in the domestic particularly high with 99.5% of the portfolio being let. economy. Several holdings in the consumer and health Asset management initiatives during 2014 will provide care sectors made a significant contribution to returns. further opportunities to secure the income return going forward. With-profits Review

We set out in our Annual Report and Accounts last year Income Occupancy Levels our progress with our plans on how best to differentiate between the respective rights of our policyholders, in particular between with-profit and non-profit policies % % and also in respect of our deposit account based 8.3 99.5 healthcare policies.

We have a single fund that is separated into two sections, the Combined Insurance Section, which includes with-profits policies, and the Deposit Section, Fixed interest comprised predominantly of healthcare policies. Corporate bonds outperformed government bonds during 2013 as credit spreads tightened. High yield was Work continued in 2013 to determine the basis of the best performing asset class, outperforming both splitting the single fund into two, a Combined Insurance government and investment grade corporate bonds. Fund and the Deposit Fund. This work has included:

Economic data releases continued to show that the • R evised terms and calculations for the division of US is leading the global recovery with strong business funds, provided by the with-profits actuary (BWCI) confidence, rising house prices and resumption in bank • R eview and report from an independent actuary lending. The positive data encouraged the US Federal (OAC), and Reserve to taper its bond buying programme whilst, • Document ed apportionment principles of in the UK, the Bank of England maintained its interest operation post segregation. rate at 0.5%. We were awaiting feedback from the FCA following their We have successfully engaged with our investment issue of a consultation paper, “CP12/38 Mutuality and managers, Fidelity Investment, in both identifying with-profits funds: a way forward” to ensure that their an investment solution and implementing cash-flow findings are consistent with our plans before progressing matching portfolios during 2013. This represented a with this split. We will continue to work with the FCA in transition from the previous returns-seeking, primary progressing this further in 2014. In particular, the issue investment objective to enabling the Society to better of Policy Statement, “PS14/5 Response to CP12/38 – match its assets to liabilities. Mutuality and with-profits funds: a way forward” on 28th March 2014 will facilitate this initiative. Chairman’s review

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highlights Financial Our Services

We continued to offer a number of services to our members during 2013: Strategic report Strategic Directors’ report Directors’

Financial advice and comparison Care advice service

services report Board The Care Advice Service is provided in partnership National Friendly invites all its members to use 425, with Grace Care at a subsidised rate. This service who provide their customers with invaluable financial is available to anyone who may be in need of later advice and information through two core services: life care whether it may be for you, a family member or a friend. Independent Financial Advice – For when you committee Audit

would like a full financial review and professional The Care Advice Service is provided over the report impartial advice for your personal situation. telephone. Each telephone consultation is conducted by one of Grace Care’s advisers, who we believe Compare & Buy Service – For when you know have unrivalled knowledge of the range of care what you want, but need help rather than advice options and providers that are available to you.

finding the policy you would like. Remuneration

During the telephone consultation your report Through the two services 425 can provide Grace Care adviser will: information and advice on: • T alk to you about the needs and wishes of the • Retirement planning person needing care. Auditors’ report

• Pensions • P rovide a clear view of all the care options Independent • Annuities available – at home, in a care home or a • Life cover solution which combines both. • Critical illness cover • Hav e the key information needed to advise on • Income protection the state benefits and allowances available.

• Later life care funding statement Income • Inheritance tax planning At the end of the consultation they’ll send you a • Funeral plans summary of your call as well as relevant fact sheets. • Savings They can also provide more in-depth services if • Investments you feel you would like further advice and support from them. For more information on 425 please: For more information on sheet Balance Visit www.425fs.co.uk The Care Advice Service please:

Or call 0845 077 7077 Visit us at www.nationalfriendly.co.uk (Lines open 8.30am-6pm weekdays)

Or call us on 0800 195 9247 losses and Gains (Lines open 8am-6pm weekdays) Notes to the to the Notes accounts 12 National Friendly Annual Report & Financial Statements 2013

Future Services

While we are not writing new policies, we are continuing to develop our future offering in the later life care market by providing information and partnership services needed to support our members in their senior years.

We are therefore looking to team up with recognised members understand exactly what they are buying providers who share the same customer focus and care and what this will mean for them. as ourselves to offer services such as legal advice and funeral plans which will help bring choice and certainty Full details when finalised will be provided in customer to later life. We want you to be able to put plans in place communications and online at www.nationalfriendly.co.uk which reflect our members’ wishes and we want these products to come with sufficient guidance to help our

Our Members

Engaging with our members

Being a mutual friendly society it is very important for us to engage with our customers and we do this through our Annual General Meeting (“AGM”) and Focus Groups:

Our AGMs We held two Focus Group meetings in 2013: All our members are invited to attend our AGM giving us the valuable opportunity to meet our members and also • Early May at The Hilton in London Paddington giving the members an opportunity to meet the Board • Mid November also taking place at The Hilton and Executive Committee of National Friendly. in London Paddington.

In 2013 this took place in September at The Pullman The Focus Group members where given a presentation St Pancras Hotel in London. The Board and the Executive from the Chief Executive at both meetings containing Committee are always present at the AGM, giving the information on what work had taken place in the membership the chance to ask the panel questions previous six months and what the plans where moving about the position of the Society, the events of the forward. Once the presentations were completed the last year and where they would like to see the Society members were then given the opportunity to ask going in the future. Following the main presentation questions and discuss the proposed ideas. the members are also welcome to talk to the Board and members of the senior management team one-on-one The main topics covered in 2013’s meetings were: if they so wish. • Current position of the Society Our focus groups • Our vision and focus for the coming year Our focus group currently consists of 44 members from • Other services available to our members across the Society and meets to discuss relevant issues such as Grace Care and 425 and ideas going forward twice a year. Our Focus Group members have a wide range of polices with us and range We also welcome feedback from all our members at in age, gender and national coverage. any time throughout the year.

Chairman’s review

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highlights Financial Treating customers fairly

We recognise that the Financial Conduct Authority’s initiative of Treating Customers Fairly (“TCF”) is of fundamental importance in driving up standards in the financial services sector and, in line with our long-standing principles; Strategic report Strategic we fully support its aims.

The Society and 425 are committed to both achieving the outcomes expected by the FCA and to improving the customer journey for our members. Our focus has been: Directors’ report Directors’ Delivering our strategy. Our This is achieved by: members can be confident that • Raising staff awareness through induction and refresher training. they are dealing with a firm where • Developing our TCF dashboards, intranet, working parties and fair treatment is central to the management information. corporate culture. • A comprehensive review of Training and Competence requirements across the Society. Board report Board Providing products and services that We have undertaken: are marketed and sold in the retail • Regular reviews of performance of products and keep informed of market, and are designed to meet changes in the industry. the needs of identified consumer • The collection and evaluation of customer feedback across the Society. groups and are targeted accordingly. • Extensive sign off processes for appraising and issuing financial promotions

and website content. committee Audit

Ensuring our members are provided We undertake to: report with clear information and are kept • Obtain feedback through our Member Relations strategy. appropriately informed before, • Maintain product literature that clearly reflects risks, rewards and during and after the point of sale. product limitations where they apply. • Continue to commit to developing the use of plain language. • Continually review any claims statistics to ensure any links between documentation and declined claims are identified. Remuneration report Members do not face unreasonable We ensure: post-sale barriers imposed by us. • All means of contacting the Society continue to be accessible to the member.

• Any third parties used apply the same principles as we do. • We continue to guide customers through the complaints procedures and to

ensure these remain as straightforward as possible. Auditors’ report • No unreasonable exit penalties are incurred on key products. Independent • Complaints procedures are in line with the regulatory requirements and are monitored to ensure these requirements are met.

Where our members receive advice, Developments include: the advice is suitable and takes • Strengthened controls in place around the provision of information rather account of their circumstances. than advice across the Society. statement Income • 425 is able to provide an Independent Financial Advice service to customers if required. Firm controls, including external quality checking, are in place to ensure that 425 meet high quality standards for their advice. • To ensure that incentives for sales staff do not reward behaviours that are inconsistent with the principles of TCF.

Providing members with products We commit to: sheet Balance that perform as we have led them to • Maintaining defined service levels that are monitored to ensure members expect, and the associated service is receive a timely and efficient service. both of an acceptable standard and • Investing in accordance with investment strategy that is reviewed regularly as they have been led to expect. by the Investment Committee. • Protecting the interests of our with-profit policyholders through the

With Profit Committee. losses and Gains • Protecting the interests of non with-profit policyholders through the Board. Notes to the to the Notes accounts 14 National Friendly Annual Report & Financial Statements 2013

Corporate Social Responsibility (“CSR”)

Our approach to CSR is a practical one; aimed at areas where we can fundamentally make a difference.

Delivering to our membership relies not only on our service delivery capabilities but delivering our services as good corporate citizens.

Our CSR objectives are:

• T o support and build relationships with our local community Our Charity of the Year • To improve the impact we have on the environment Each year our employees choose a ‘Charity of the Year’ • T o improve the health, wellbeing and safety of to raise funds for. Firstly all staff are invited to nominate our people charities they’re passionate about. Nominations are then reviewed by the CSR committee against a pre-agreed selection criteria and a shortlist is created. All staff are Community then invited to vote from the shortlist for their preferred charity of the year. Our Foundation Fund National Friendly’s Foundation Fund provides strong The CSR committee then creates and manages a fund support to our approach to CSR albeit under the raising calendar for the year encouraging as many people direction of an independent Board. to take part in as many fundraising activities as possible.

The Foundation Fund was established to provide In 2013, staff voted for the Alzheimer’s Society. The discretionary funds to deserving causes as per choice of the Alzheimer’s Society was particularly apt nominations from National Friendly members and staff. as we are pursuing an active business interest in later life care. There are currently around 800,000 people The Foundation Fund has the general aim of making suffering from various forms of Dementia in the UK. discretionary grants for the following purposes: That figure is expected to double in the next thirty years or so. The disease is devastating for sufferers, their • T o provide benevolent support to any member of carers and other family members. We hope our support the Society or their family at a time of need. will provide help in combatting the disease and help • F or any activity or undertaking which promotes the those afflicted by it. engagement of the Society with its membership. • T o provide additional services or benefits to any or National Friendly and 425 staff took part in a variety of all of the Society’s members/families. activities to raise money, including sponsored runs and walks, a hugely successful corporate quiz, sweepstakes The objectives of the Foundation Fund are in line with and cake bake sales. We even had a sponsored silence National Friendly’s long standing aims of supporting its from a particularly gregarious member of staff. Coupled members at times of need. The aim is to award grants with the Foundation Fund’s contribution of £1 for every and disbursements that, regardless of relative value, £1 raised, we achieved our key target of £10,000. are meaningful and make a significant difference to the recipients. We presented our cheque to The Alzheimer’s Society during February 2014. When we took our vote this year, Applications can be made by members of the Society the Alzheimer’s Society was once again voted by the or employees by submitting a completed application staff, showing how respected it is by our staff. form. Dispersals will be reviewed and agreed by the Foundation Fund Committee, with input and advice from We are looking forward to a number of exciting events this the Foundation Fund sub-committee if required. year and are very grateful to the staff for their efforts. Chairman’s review

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highlights Financial

Thank you so much for your recent donation of £10, 000 and for all

“your hard work raising money to report Strategic benefit Alzheimer’s Society this year. It has been a pleasure working with your staff to support the various

activities undertaken and seeing report Directors’ the enthusiasm underpinning it all. Rachel Sweet, Community Fundraiser ” –Alzheimer’s South West. Board report Board

Additional Causes In addition to our chosen charity of the year we also In March 2014 the volunteers will again attend the support Ablaze Reading Buddies programme. Ablaze is annual Ablaze awards event, recognising and celebrating a charity that partners businesses with schools in the the achievements of all the children, volunteers and committee Audit

wider Bristol area, providing structured volunteering co-ordinators involved with Ablaze. report opportunities which are aimed at raising the aspirations, attainment and achievements in young people, with particular priority given to disadvantaged areas.

During the four years that National Friendly and 425 Remuneration have been involved in the programme we have built a report long-term, sustainable partnership with the teaching staff at Merchants’ Academy (formerly Gay Elms) Primary School in Withywood, Bristol. Each week our volunteers give up a lunch break to spend time with Auditors’ report selected children listening to them read aloud and then Independent talking about the subject matter together.

The aim is to encourage learning and explore new language and ideas, relating back to the children’s own

experiences and firing up their imaginations to take statement Income their reading further. All our volunteers share a belief that they’re doing something really valuable in giving something back to the community and take great pride and enjoyment from the friendships cultivated with the children through their shared reading experiences. Balance sheet Balance Environment

We endeavour to benefit the community by our green We continually assess how we may improve on office policies around waste, our use of our garden environmental impact, and ways in which we can

and via savings on power and fuel through efficient operate on a carbon neutral basis. This will be particularly losses and Gains electricity usage and our promotion of car share and important when we assess our options with our bike to work. forthcoming head office relocation. Notes to the to the Notes accounts 16 National Friendly Annual Report & Financial Statements 2013

Our People

The most successful companies are driven by the power of individuals working in unison through their shared set of common goals and values. Companies that do the best job of living up to their values and engaging their employees recognise that the real cause of their success is always the people, never the words.

We pride ourselves on the quality of our staff and • Our values put the customer at the heart of keeping them involved in the business strategically. We everything we do have a strong workforce behind us and their involvement • They sum up who we are and how we should behave is instrumental to our success in the future. • They represent the kind of business we want to be • They act as a framework to guide us • They help us in our decision making Our values • They keep us on track and unite our efforts • Our vision and values provide a sound foundation 2013 saw the conclusion of the values project. With all for our future, in fostering trust with our customers, the changes which had taken place in the business we in our commitment to excellence, and sustainable wanted to involve the staff in this fundamental piece value and growth. of work and obtain their views on the company ‘Core Values’. It is important that each member of our staff understands our company values and uses them A number of meetings took place in which employees as a guide in our daily actions and activities. gave ideas and opinions until the team were happy with the suggested Core Values reached. These have now been rolled out to all staff, along with a values wheel.

Our company values selected by our staff and approved by our Board are:

s er m S o ta st f u f Empowered: C Innovative: We each take responsibility Empowered Innovative We always look for and deliver to the best of our better solutions to the abilities. challenges we face.

Customer Responsive: Responsive Fair Fair: We understand your needs Orientated We are professional and respond appropriately and principled and and quickly. we believe in doing the right thing.

B u s United Focused United: in Focused: We work together to build strong e s We concentrate on ss r relationships with customers, P lie what needs to be ar pp colleagues and suppliers. tn Su done and we do it. ers

Customer Orientated: The customer is at the heart of everything we do. Chairman’s review

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highlights Financial Investors in People & Professional qualifications

During 2013 we continued to build on the success of including the Compliance Manager becoming Diploma Strategic report Strategic 2012 in achieving re-accreditation of the ‘Investors In qualified. An employee successfully completed his ACCA People’ award. We looked at how to further improve our (Association of Chartered Certified Accountants) to Human Resources processes and policies and encouraged become fully qualified and members of our Finance and staff with their personal and professional development. Actuarial teams have continued with their professional exams on their way to reaching qualification.

National Friendly and 425 support its staff wherever report Directors’ possible in their career. Over the past year numerous A particular mention goes to the 425 Independent employees have continued to gain qualifications in their Advice team members who are continuing their progress respective field of expertise; a number of staff in 425 to achieve ‘Chartered’ status, whilst also continuing to have achieved further exam success in the CII exams improve and grow through work experience. Board report Board Audit committee committee Audit report Remuneration report

Auditors’ report Independent Chris Nutt – Advice Team Manager Holly Reoch – Marketing Communications Manager Income statement Income Balance sheet Balance

Mark Bryan – Compare & Buy Manager Christopher Taylor – Financial Accountant Gains and losses and Gains Notes to the to the Notes accounts 18 National Friendly Annual Report & Financial Statements 2013

Equality and Diversity • T raining, development and progression opportunities are available to all staff. National Friendly is committed to eliminating • E quality in the workplace is good management discrimination and encouraging diversity amongst its practice and makes sound business sense. employees. • W e will review all our employment practices and procedures to ensure fairness. The Society’s commitment is: • Br eaches of our Equality and Diversity policy will be regarded as misconduct and could lead to disciplinary • T o create an environment in which individual proceedings. differences and the contributions of all our staff • The Equality and Diversity policy is fully supported are recognised and valued. by senior management and the Board. • E very employee is entitled to a working environment that promotes dignity and respect to all. No form of intimidation, bullying or harassment will be tolerated.

National Friendly Group Diversity*

Level Total Male Female

Group Board (NEDs and Executive Director) 6 6 100% 0 0

Heads of Functions 4 1 25% 3 75%

Managers 13 9 69% 4 31%

Other staff 39 16 42% 23 58%

Total 62 32 52% 30 48%

*As at 31 December 2013

Family friendly

National Friendly supports flexible working – it is important to us that our staff are happy and strike the correct work/life balance and have a number of men and women working part time or compressed hours in order to find time for their dependents or interests outside work.

We also enjoy extending social invites to include family and friends for events such as our summer barbecue or fireworks evening. Chairman’s review

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highlights Here’s what our staff have to say: Financial

Throughout 2013 we remained focused on 2013 saw a significant increase in activity on growing our vision for the services and products Asterix as the project broadened from requirements Strategic report Strategic “we need to develop in order to stand out from “gathering to include application development and the competition in the later life care market. testing. The first of the phased developments was The future holds such exciting opportunities for delivered into user acceptance testing by the end National Friendly in moving towards becoming a of Dec 2013, for integration test completion by credible player in the later life market, and we look March 2014. The Society Asterix team made

forward to sharing the progress of our entry in to several visits to the Genisys headquarters in report Directors’ this market with our members throughout 2014. Bangalore, India during 2013, building on the relationship between the Society and Genisys Liane Davis, ” Asterix teams and improving on the ways in which Head of Business Development the team engage together to deliver the project.

Donald Britz, ” report Board Asterix Programme Manager

Ethical Suppliers

We continue to deal with our customers and suppliers responsibly by: committee Audit report • Being open and honest about our products and services. • Using local suppliers wherever possible and appropriate. • W orking with suppliers and distributors who take steps to minimise their environmental impact. Remuneration report By order of the Board Jonathan Long Chief Executive Officer 31 March 2014 Auditors’ report Independent Income statement Income Balance sheet Balance Gains and losses and Gains Notes to the to the Notes accounts 20 National Friendly Annual Report & Financial Statements 2013

The Directors’ Report

The Board is of the view that good corporate governance is fundamental to the Society’s operations. To comply with best practice in corporate governance it aims to adhere to the principles and provisions of the Combined Code on Corporate Governance annotated by the Association of Financial Mutuals (“the Code”).

Corporate Governance Review The Society maintains liability insurance for all officers throughout the year. Our policy is to observe the Code wherever appropriate to our size, status and objectives or to explain why Chairman and Chief Executive we feel any deviation from the Code is acceptable or The role of the Chairman and Chief Executive necessary. The Board considers that it complies with all are held by different people and are distinct and aspects of the Code unless the contrary is stated in separate in their purpose. this review. The Chairman is responsible for leadership of the Board Role of the Board and ensuring that the Board acts effectively. The Chief The Board’s principal role is to determine the strategic Executive has overall responsibility for managing the direction of the Society ensuring the necessary financial Society and its subsidiaries and for implementing the and human resources are in place to meet its objectives strategies and policies agreed by the Board. and that financial control and risk management procedures are robust. In particular, its role is to provide Board Balance and Independence general direction to the Society and to safeguard the The Board consisted of five Non-Executive Directors interests of members. and one Executive Director throughout 2013. In 2014, with the departure of one Non-Executive Director, it The Board meets a minimum of six times a year – and now comprises four Non-Executive Directors and one more often if necessary. Additionally it meets at least Executive Director. once a year for a detailed review of the Society’s strategy. The Board continues to review its own balance, The Board maintains a schedule of matters relating to completeness and appropriateness to meet the approval of the strategic aims of the Society as well as complexities of the business. The Board has and will approval of policies and matters which must be approved continue to assess the balance of skills and where by the Board under legislation and the Society’s rules. necessary will appoint individuals to meet the demands.

The Board has delegated responsibility for managing The Board has appointed Peter McIlwraith as Senior the system of internal control to senior management. Independent Director (SID). The SID will be available to The internal Audit function provides independent members if they have concerns which contact through assurance to the Board on the effectiveness of the the Chairman or Chief Executive Officer has failed to system of internal control through the Audit Committee. resolve or for which such contact is inappropriate.

The information received and considered by the Audit In the opinion of the Board, each Non-Executive Director, Committee provided reasonable assurance that during including the Chairman, is independent in character and 2013 there were no material breaches of control or judgement. regulatory standards and that, overall, the Society maintained an adequate system of internal control. Chairman’s review

21

highlights Financial

Appointments to the Board Performance Evaluation The appointment and re-election of Directors is The Society considers as part of its Board evaluation the considered by the Nominations Committee (see balance of skills, experience, independence and knowledge page 22), which makes recommendations to the Board. of the members of the Board, including its diversity Strategic report Strategic The Society seeks to have broad experience and (including gender), how the Board works together as a diversity on the Board. Furthermore, in respect of gender unit, and other factors relevant to its effectiveness. diversity, the inclusion of women on the Board is an important consideration during searches for new Board A formal performance evaluation scheme is in place members. The focus is to increase Board diversity without for Society staff including the Executive Director.

compromising on the calibre of directors and therefore The Chairman undertakes a performance appraisal of report Directors’ Board appointments must always be made on merit as the Chief Executive against agreed objectives. well as the skills, knowledge and experience of the Board as a whole. Non-Executive remuneration is not performance related, however, an annual appraisal process is undertaken. All Directors are subject to election by members at Fees paid to Non-Executive Directors recognise the the AGM following their appointment. In addition, responsibilities of Non-Executive Directors and are Board report Board all Directors are subject to approval from the Prudential designed to attract individuals with the necessary skills Regulation Authority as an Approved Person. and expertise to fill the role.

The terms and conditions of appointment of Re-election Non-Executive Directors are available for inspection The appointment of Non-Executive Directors is for at our Head Office and can be viewed by contacting a period of no more than three years at a time and is committee Audit

the Company Secretary. subject to election and re-election at the Society’s AGM. report Any Non-Executive Director who has served the Society Information and Professional Development for longer than nine years is subject to annual re-election. The Chairman ensures all Directors receive accurate, timely and clear information, which is fundamental to Board Committees the effective function of the Board. The Board has established a number of committees which Remuneration

have their own terms of reference. Each committee is report The Chairman ensures that, on appointment, Non- chaired by a Non-Executive Director and all members Executive Directors receive a comprehensive induction are considered to have appropriate skills and expertise to programme. Non-Executive Directors update their skills, undertake their role within the committees. The Terms knowledge and familiarity with the Society through of Reference of the Audit, Nomination and Remuneration Auditors’ report meetings with the Executive and employees and through Committees are available on the Society’s website and on Independent attending external courses when relevant. request to the Company Secretary.

The Board has access to independent professional advice Annual General Meeting at the Society’s expense where they consider it necessary The 2013 Annual General Meeting was held in London

to discharge their responsibilities. In addition, all Directors and was attended by Members, Board Members, and statement Income have access to the advice and services of the Company Officers of the Society. Secretary who is responsible for ensuring the Board procedures are complied with and advising the Board, A number of resolutions were voted on including: through the Chairman, on governance matters. • The Board Report. • The Directors’ Remuneration Report. The Company Secretary and Chief Executive roles • The Auditor’s Report and the Annual Report were the remit of one person in 2013; this person and Financial Statements. sheet Balance was also responsible for the good flow of information • R eappointment of PricewaterhouseCoopers between the Board, its committees, senior management as auditors. and Non-Executive Directors. The Board is satisfied • R e-election of Jonathan Long as Executive Director that the combining of the roles was appropriate in all and Peter McIlwraith as Non-Executive Director.

circumstances. This combination of roles is now no longer losses and Gains the case with the appointment of Sandy Richards as The response from members submitting their postal/ Company Secretary on 18th March 2014. proxy forms was just under 10% of members eligible to vote electing to do so. The Society wishes to encourage more members to attend the AGM and arrangements are in place for the 2014 AGM to be held again in London. Notes to the to the Notes accounts 22 National Friendly Annual Report & Financial Statements 2013

Audit Committee Members Responsibilities

Peter McIlwraith (Chairman) The Audit Committee meets at least four times a year at appropriate times in the Mark Jackson financial reporting and audit cycle. The main function of the Committee is to assist the Board in fulfilling its oversight responsibilities, specifically the ongoing review, Tracy Morshead monitoring and assessment of:

• The integrity of the financial statements and reviewing significant financial reporting judgements contained in them. • The effectiveness of internal control and risk management processes. • The effectiveness of the internal and external audit processes. • The recommendation to the Board in relation to the appointment, reappointment, remuneration and removal of the external auditors. • The objectivity and independence of the external auditor in respect of the provision of any non-audit services.

The Executive Director and internal and external auditors attend meetings of the Committee as appropriate. The internal and external auditors also have meetings with the Committee without the Executive Director or any other members of staff present. Internal audits of the regulated business are conducted by an independent external firm that reports to the Committee.

Investment Committee Members Responsibilities

Alan Lewis (Chairman) The Investment Committee meets as required but at least four times a year to ensure Amanda Brown compliance with the terms of the Principles and Practices of Financial Management in (Head of Actuarial Function) relation to the investment strategy and review its continuing appropriateness in the light of changing circumstances with consideration to the needs of both With-Profit John Greenhalgh and non With-Profit policyholders. The Committee also has responsibility for: Jonathan Long Peter McIlwraith • Appointing the Society’s Investment Fund Managers. • Determining the asset allocation and performance benchmarks. • Monitoring the performance of the Funds.

Nomination Committee Members Responsibilities

Peter McIlwraith (Chairman) The Nomination Committee meets as appropriate to review the structure, size and John Greenhalgh composition of the Board and to make recommendations to the Board with regard to any adjustments that are deemed necessary. Nominations for appointment to the Tracy Morshead Board are considered for approval by the full Board.

Professional recruitment consultants can and are normally consulted to ensure that non-executive vacancies on the Board are considered appropriately resulting in reduced reliance on the personal connections of any of the existing Board members.

Membership of the Committee may be altered as appropriate in particular to address circumstances where one of its members is being considered for re-appointment.

Remuneration Committee Members Responsibilities

Peter McIlwraith (Chairman) The Remuneration Committee meets at least twice a year to review the Mark Jackson remuneration policy and determines the remuneration packages of Executive Director and senior managers. Remuneration packages contain performance Tracy Morshead related elements that are linked to the achievement of objectives.

The remuneration of Non-Executive Directors is based upon a survey of similar organisations carried out and recommended by the Executive Director and approved by the Board. Further details on Directors’ remuneration are set out in the Directors’ Remuneration Report on pages 30 – 32. Chairman’s review

23

Risk Management Committee highlights Members Responsibilities Financial

John Greenhalgh (Chairman) The Risk Management Committee meets at least four times a year. The main

Alan Lewis function of the Committee is to assist the Board in fulfilling its oversight responsibilities with regard to the risk appetite of the Society and the risk Jonathan Long management and compliance framework that supports it. Sandy Richards report Strategic (Head of Finance and Risk) The Chairman of the Committee meets the Head of Risk at least once a year, Amanda Brown without management present, to discuss their remit and any issues arising from (Head of Actuarial Function) the risk and control assessments that have been carried out.

With-Profit Committee report Directors’ Members Responsibilities

John Greenhalgh (Chairman) The With-Profit Committee meets as required and at least once a year to Mark Jackson independently monitor and bring independent judgment on the extent to which procedures, systems and controls are adequate and effective to ensure that the Tracy Morshead Society complies with the requirements of the FCA & PRA Handbooks over the Board report Board Stephen Ainsworth management and governance of With-Profit business. (With-Profits Actuary)

Executive Committee

The Executive Committee forms part of the corporate governance structure. The Board is the main decision making body committee Audit and the Executive Committee, whilst not a sub-committee of the Board, is charged (either individually or collectively) with running the Society’s business within the delegated authority of the Board. report Remuneration

Attendance of Directors at Board and Committee meetings report

Audit Remuneration Nominations Board Committee Committee Committee Auditors’ report Meetings Meetings Meetings Meetings Meetings Meetings Meetings Meetings Independent attended held* attended held* attended held* attended held* Non Executive J Greenhalgh 9 9 2 ** 1 1

M Jackson 9 9 5 5 4 4 - - statement Income A Lewis 9 9 2 ** 1 ** P McIlwraith 9 9 5 5 4 4 - - T Morshead 9 9 5 5 4 4 1 1 Executive J J Long 9 9 5 ** 4 ** 1 ** Balance sheet Balance

* Meetings held whilst appointed to Board/Committee ** Attendance at Audit, Remuneration and/or Nomination Committee on an invitation basis Gains and losses and Gains Notes to the to the Notes accounts 24 National Friendly Annual Report & Financial Statements 2013

Statement of Compliance with the Annotated Combined Code The Board considers that throughout 2013 the Society applied the relevant principles and complied with the relevant provisions of the annotated Combined Code for Mutual insurers issued by the Association of Financial Mutuals unless otherwise noted below.

The Board notes the recommendation of the revised Code (October 2010) that Directors of larger organisations be subject to annual election by members. The Board considers, however, that the existing arrangements for re- election ensures proper accountability and underpins board effectiveness.

As required by Provision C.1.1 of the UK Corporate Governance Code – An Annotated Version for Mutual Insurers (‘the Code’), the Board states that it considers the Annual Report taken as a whole to be fair, balanced and understandable and provides the information necessary for members to assess the Group’s and Society’s performance and strategy.

The Board also notes that Peter McIlwraith has served on the board for more than nine years from the date of first election and therefore, is subject to annual re-election, after having given consideration to independence. Chairman’s review

25

highlights The Board Report Financial

Strategic report Strategic Alan Lewis Jonathan Long Chairman Chief Executive Officer Directors’ report Directors’

Alan, an MBA, was with Black & Decker and RTZ before spending Jonathan was appointed as a Director on 1 May 2007. 30 years in the Private Equity industry, firstly with 3i, then as a After qualifying as a Chartered Accountant at Coopers & founding Partner of Bridgepoint (previously Natwest Ventures). Lybrand, he went on to perform a variety of financial, strategic report Board He has served on over 20 boards in the UK, France, Italy, Holland and business development roles at Prudential and Barclays and Finland. He is Chairman of both Leeds Bradford Airport and before joining the Society in 2006. Jonathan was appointed Porterbrook, the train leasing company, and on the board of Chief Executive in 2011. LSE listed Safestore plc. Alan is resigning as a Non-Executive Director on 31 March 2014 due to personal commitments. Audit committee committee Audit report Peter McIlwraith John Greenhalgh Senior Non-Executive Independent Director

Non-Executive Remuneration

Director report

Peter is a Chartered Accountant. He was a partner with John was appointed as a Director on 1 October 2007. Auditors’ report PricewaterhouseCoopers (and prior to that Price Waterhouse) He is a qualified Actuary and has extensive experience Independent and was the Regional Chairman for the West and Wales and in financial services, having worked for Wesleyan & General, Senior Partner in Bristol from 1991 to 2001. Peter is also a Worldwide Reassurance and Hearts of Oak Friendly Society. Non-Executive Director of Bristol Water Plc. Income statement Income Mark Jackson Tracy Morshead Non-Executive Non-Executive Director Director Balance sheet Balance

Mark is a medical doctor, a former GP and successful business Tracy has held senior management positions with three major man. Mark was CEO of Helphire which he founded and Building Societies, Birmingham Midshires, Principality, where he

developed to the point of flotation on the main London Stock was Managing Director, and Nationwide where he was Divisional losses and Gains Exchange. He was also the co-founder and Non-Executive Director. He is a Fellow of the Chartered Institute of Marketing Chairman of The Assura Group from 2003 to 2008, and and is a chartered marketer. Tracy is also a Non-Executive Non Executive Deputy Chairman of Saga Independent Living, Director of Assurant Group Limited and is Non-Executive a division of the Acromas Group. Chairman of Mortgage Brain Holdings Ltd, a leading financial services software company, and is a Non-Executive Director of Newbury Building Society. Tracy has been appointed as

Chairman of the Board effective from 1 April 2014. to the Notes accounts 26 National Friendly Annual Report & Financial Statements 2013

Board of Directors The Directors are responsible for keeping appropriate A list of Directors of the Board, who held office during accounting records which disclose with reasonable the year, appears on page 25. In addition Ian Talbot held accuracy, at any time, the financial position of the Society office as Commercial Director until his resignation on and to enable it to ensure that the financial statements 20 March 2013. comply with the Friendly Societies Act 1992. They are also responsible for safeguarding the assets of the Society Business Objectives and Activities and hence for taking reasonable steps for the prevention The Society’s objective is to provide our policyholders and detection of fraud and other irregularities. with products and services that look after their welfare to give certainty and control over their wellbeing The maintenance and integrity of the National Deposit both now and in the future. This will be delivered in a Friendly Society Limited and Group website is the timely, personal and friendly manner using technology responsibility of the Directors; the work carried out by the as appropriate. auditors does not involve consideration of these matters and, accordingly, the auditors accept no responsibility The Board sets Key Performance Indicators (KPIs) and for any changes that may have occurred to the financial targets, which it monitors on a regular basis throughout statements since they were initially presented on the the year. These KPIs change in line with the Society’s website. Legislation in the United Kingdom governing the objectives and priorities. For 2013 the KPIs were focused preparation and dissemination of financial statements may on capital management and, in particular, the restoration differ from legislation in other jurisdictions. of free capital, risk management, and cost efficiency. Disclosure of information to auditors The principal activities of the Society’s subsidiaries are The Directors who held office at the date of approval as follows: 425 Direct Ltd (trading as 425 Financial of this Director’s Report confirm that, so far as they are Solutions) operates two telephone based financial aware, there is no relevant audit information of which services: independent advice and a compare and buy the Society’s auditors are unaware, and each Director service; while ND Member Services is dormant. has taken all the steps he ought to have taken as a Director to make himself aware of any relevant audit Statement of Responsibilities of the Directors information and to establish that the Society’s auditors The Board is required to prepare financial statements for are aware of that information. each financial year which give a true and fair view of the state of affairs of the Society as at the end of the financial Going Concern year and of the results for that year. In preparing these The Society’s business activities, together with financial statements the Board is required to: the factors likely to affect its future development, performance and position are set out in the Strategic • Selec t suitable accounting policies and then apply Report for the year. The financial position of the Society, them consistently. its cash flows, liquidity position and borrowing facilities • M ake judgements and estimates that are reasonable have also been considered by the Board. The Society’s and prudent. policies and processes for managing capital are highlighted • S tate where applicable accounting standards have in Note 2 to the financial statements. The Society has been followed, subject to any material departures adequate financial resources, supported by long-term disclosed and explained in the financial statements. relationships with its policyholders and suppliers. As a • P repare the statements on a going concern basis, consequence, the Directors believe that the Society unless it is inappropriate to assume that the Society is well placed to manage its business risks in respect will continue in business. of liquidity and cash flows. After making enquiries, the • P repare the financial statements in accordance Directors have a reasonable expectation that the Society with the Friendly Societies (Accounts and Related has adequate resources to continue in operational Provisions) Regulations 1994 and in accordance existence for the foreseeable future. Accordingly, they with the applicable accounting standards in the continue to adopt the going concern basis in preparing the United Kingdom. annual report and financial statements.

The Directors confirm that the financial statements comply with the above. Chairman’s review

27

highlights Employees Financial The average number of Directors and staff employed by Complaints Policy the Group and Society is disclosed in Note 9 on page 58. The Society aims to deliver the highest possible level of service to members. If any member believes that the The aggregate remuneration paid to Directors and staff Society has failed in this aim they have recourse to the Strategic report Strategic employed by the Group during the year amounted to Society’s Complaints Procedure. £3.0 million (2012: £3.0 million). The Society has a documented procedure for the Communication with staff is undertaken through regular handling and recording of complaints. The Board, dialogue with staff, as groups, individually and through through the Risk Committee, regularly reviews the

the organisation’s intranet (with upward feedback number and type of complaints received in order to report Directors’ positively encouraged). Open meetings are also monitor that complaints are properly dealt with and conducted with the Chief Executive and other members corrective action has been taken to prevent recurrence. of the Executive Committee. The Society is committed to the ongoing development of its staff. Charitable Donations The National Deposit Foundation Fund made charitable Member Relations donations of £6,009 (2012: £7,711). In addition, Board report Board The Board is committed to maintaining good the Society’s charitable donations totalled £nil (2012: communications with members. In order to fulfil this £6,071). There were no political donations (2012: £nil). commitment, a Members’ Focus Group and Research Community have been established. Engagement with Re-appointment of Auditors the Focus Group has been positive and feedback valued. A resolution to re-appoint PricewaterhouseCoopers LLP The Board also firmly believes in the principles of as Auditors will be proposed at the forthcoming Annual committee Audit

Treating Customers Fairly and adheres to these in its day General Meeting. report to day operation. Our approach to treating customers fairly is set out on page 13. Remuneration

By order of the Board report Sandy Richards Company Secretary 31 March 2014 Auditors’ report Independent Income statement Income Balance sheet Balance Gains and losses and Gains Notes to the to the Notes accounts 28 National Friendly Annual Report & Financial Statements 2013

Audit Committee Report

During 2013 the Committee received and considered reports provided by the internal and external auditors and considered other reports and matters falling within its responsibilities. The Committee considers that it has met its responsibilities and performed its duties with appropriate levels of care and expertise over the year.

Appointment of the External Auditor

The Committee considers the reappointment of Accordingly a resolution proposing the reappointment of the external auditor, including the rotation of the PricewaterhouseCoopers as our auditor was put to the audit partner, every year and also assesses their members at the 2013 AGM and approval gained. independence, the objectivity of the external audit and the effectiveness of the audit process on an ongoing The Audit Committee approves and monitors the use of basis. The external auditor is required to rotate the audit the external auditors for non audit work to safeguard the partner responsible for the Society audit every ten continued independence and objectivity of the external years. The current lead audit partner has been in place auditors. The external auditors undertook a number of for six years. non-audit assignments during 2013 and in the opinion of the Audit Committee these were considered to be PricewaterhouseCoopers has been the Society’s external consistent with the professional and ethical standards auditor for over thirty years. However, the Society expected of the external auditors. The cost of this work has in this period, regularly reviewed and tendered this for the year ended 31 December 2013 totalled arrangement. The last time this was undertaken by an £31,000 and related to IT advisory in connection with informal tender process in 2011. the development of our policy administration system. Chairman’s review

29

highlights Financial

Areas of particular focus Strategic report Strategic The Audit Committee considered the significant issues in relation to the preparation of the financial statements, and has addressed them as follows:

Significant Issue How it was addressed

Assessment of morbidity The Society has established monthly procedures to better analyse morbidity report Directors’ assumptions and calculation experience on Healthcare and Healthguard contracts. In addition, more sophisticated of related liabilities. valuation methodology has been adopted whereby statistical analyses are used to predict ultimate claims costs for each incurred month. This has led to improvements in the estimation of outstanding claims costs for previously notified claims and future costs of claims that will arise over the remaining lifetime of the contracts in force. The methodology provides a useful tool to monitor trends in

experience. External specialist expertise is used to assist with the analysis and report Board interpretation of morbidity data and trends.

Improved controls and processes have also been effected to complement the new methodology. In addition to continued improvements in the Society’s own monthly MI pack, an additional externally produced MI pack is reviewed

quarterly with the third party claims administrator. committee Audit

Assessment of assumptions Lapse experience is monitored on a monthly basis throughout the year. Pillar 1 report relating to lapses and their valuation assumptions are set with regard to the Society’s own experience resultant impact on liabilities. (given the uniqueness of the Healthcare business) taking into account trends in the quarterly actual versus expected experience. As much relevant data as possible is used to improve the reliability of any estimates of future experience. Allowance is

made for significant non-recurring events which may trigger a short-term spike Remuneration

in lapses but which are unlikely to influence subsequent lapse experience. report

In order to reflect increasing uncertainty in the longer term lapse rate assumptions,

a greater margin for adverse deviation over the best estimate has been adopted at longer durations. Auditors’ report

Adequate and Effective The Society’s Internal Auditors undertake financial, operational and strategic Independent Control framework. audits across the Society using a risk based approach. The internal audit function is provided by an outsourced partner and is fully independent from the operations of the Society. The Audit Committee agrees the planned internal audit work for the year and receives reports of findings for all reviews during the year and a report of progress. During 2013, nine internal audits were completed in areas including claims management, premium processing, finance operations, risk statement Income management and complaints handling. Internal Audit provided an overall annual opinion that the Society has a satisfactory framework of risk management, governance and internal control.

Furthermore, it is the role of the Audit Committee to consider key assumptions in the preparation of the financial sheet Balance statements including future expense projections, the valuation of property and determination of pension surplus.

Peter McIIwraith losses and Gains Chairman 31 March 2014 Notes to the to the Notes accounts 30 National Friendly Annual Report & Financial Statements 2013

Directors’ Remuneration Report

The Board is committed to best practice in its remuneration policy for Directors. This Report of the Directors on Remuneration explains how the Society applies the principles in the Annotated Code for Mutual Insurers on Corporate Governance relating to remuneration.

Introduction be given further consideration by the Remuneration Committee as capital restoration continues. In addition, This report sets out the remuneration policy for the Executive Directors receive a company car (or cash Society in 2013. allowance) and access to benefits such as membership of a defined contribution pension scheme, private medical The Board is committed to best practice in its insurance and death in service benefit. remuneration policy for Directors. This Report of the Directors on Remuneration explains how the Society Remuneration for Non-Executive Directors comprises a applies the principles in the Annotated Code for basic fee plus a supplement for the Chairman of the Board Mutual Insurers on Corporate Governance relating to and Senior Independent Non-Executive Director based remuneration. primarily upon the time commitment required for the role.

The composition and responsibilities of the Society’s Pay and employment conditions in the financial services Remuneration Committee are set out on page 22. sector is taken into account when determining an appropriate level of remuneration. The Remuneration Committee keeps itself informed of relevant developments and best practice and is authorised Summary at its discretion to obtain advice from external advisers. This report, together with the disclosures below, is provided to give members a full explanation of the policy Policy and application of directors’ remuneration. A resolution will be put to the Annual General Meeting inviting The Society’s remuneration policy is designed to attract, members to vote on the Directors’ Remuneration retain and motivate good quality staff. Report. This vote is advisory and the Board will consider any action that may be required following the outcome Remuneration for Executive Directors is in three parts of the vote. comprising a basic salary, a non-pensionable annual performance award linked to each individual Director’s own contribution to the Society and a non-pensionable long term incentive plan (’LTIP’) linked to the achievement of strategic objectives over a four year period, all designed to enhance overall business performance. Currently no LTIP is in place but this is a matter that will

Peter McIIwraith Chairman 31 March 2014 Chairman’s review

31

highlights Financial Directors’ emoluments

Salaries and Performance Other Total 2013 Total 2012 Fees Related Pay Benefits1 £ £ £ £ £ Strategic report Strategic Chairman Alan Lewis 40,000 - - 40,000 40,000 Executive Directors Jonathan Long2 144,200 28,000 28,104 200,304 167,600 3

Ian Talbot 26,093 - 3,547 29,640 31,695 report Directors’ Non-Executive Directors John Greenhalgh 25,000 - - 25,000 25,000 Mark Jackson 25,000 - - 25,000 28,750 Peter McIlwraith 30,000 - - 30,000 25,000 Tracy Morshead4 31,000 - - 31,000 25,000 Board report Board Total 380,944 343,045

1 Other benefits include pension scheme ontributions,c car benefits, car allowances, medical and other benefits in kind or equivalent monetary value. 2 Performance related pay relates to 2012 but was awarded in 2013. The total remuneration disclosed for 2012 therefore does not include any element of performance related pay. Determination of performance related pay for 2013 has been deferred until Q2 2014 when information Audit committee committee Audit will be available against which to assess all the relevant criteria. Until such time no amounts are payable.

3 Appointed 30 September 2011, resigned 20 March 2013. In addition to the above, received £22,300 in respect of the deferred 2011 bonus, report part of which related to service before appointment as a Director. 4 Fees in respect of consultancy services performed during the year are set out in Note 26. Emoluments have been pro-rated to reflect the period of service as a director if less than one year. Remuneration report Pension entitlement

Years of Pension Accrued Accrued Closing Opening Pension input Service accrued pension as at pension as at value at value at amount over during 31/12/2013 31/12/2012 31/12/2013 31/12/2012 2013 Auditors’ report

2013 Independent

£ £ £ £ £ £ Executive Directors Jonathan Long 7 131 4,506 4,375 90,125 89,425 700

Ian Talbot 8 33 4,387 4,354 87,736 88,999 - statement Income

At the AGM, members voted on the resolution to approve the 2012 Directors’ Remuneration Report. The Group is committed to on-going shareholder dialogue and takes an active interest in voting outcomes. Where there are substantial votes against the resolutions in relation to Directors’ remuneration, the reasons for any such vote will be sought, and any actions in response will be detailed here.

The following table sets out the actual voting in respect of the approval of the remuneration report: sheet Balance

Number of votes Percentage of Number of votes Percentage Total votes Number of cast for votes cast for cast against of votes cast cast votes withheld against

3,316 91% 198 5% 3,647 131 losses and Gains Notes to the to the Notes accounts 32 National Friendly Annual Report & Financial Statements 2013

Executive Directors

Base Salaries Directors’ Contract Base salaries are normally reviewed annually by reference The Executive Directors have service agreements which to jobs carrying similar responsibilities in comparable incorporate their terms and conditions of employment. organisations. Salary amendments are normally effective Service agreements are normally terminable by the from 1 January each year. Society giving twelve months’ notice or by the Executive Director giving twelve months’ notice. Performance Related Pay The Executive Directors have a part of their total Non-Executive Directors emoluments linked to performance. The current annual All Non-Executive Directors including the Chairman performance related pay scheme represents up to a have letters of appointment which set out their duties maximum of 30% of base salaries. The performance and responsibilities. The appointment of Non-Executive related pay scheme comprises two elements. The first Directors is generally for a period of three years and is which is assessed on a collective basis has identified six subject to election and re-election at the Society’s AGM. major corporate objectives and all Executive Directors participate on the same basis. The maximum amount Fees are benchmarked against similar roles in comparable payable under this element is 10% of base salaries. organisations. Fees are calculated on an annual rather The second element is an individual performance related than a daily basis. However, it is assumed that to fulfil programme where the Executive Directors are assessed the basic role of a Non-Executive Director, an average against personal goals and objectives. The individual of two days minimum is required per month for review performance related element of the scheme can award work and attendance at regular Board meetings, up to a maximum 20% of base salaries. the Society’s AGM, Special General Meetings where appropriate, other ad hoc meetings with regulators and LTIP advisers as may be required and training courses. The Remuneration Committee is giving consideration to a successor to the previous LTIP (Long Term Non-Executive Directors remuneration is not Incentive Plan) scheme. performance related nor pensionable and Non- Executive Directors do not participate in any incentive Retirement and Related Benefits plans. However, a formal annual appraisal process is The Executive Directors are members of the National undertaken where the views of all Directors are taken Deposit Staff Superannuation Scheme. This is a defined into consideration and the outcome of this is ratified by benefit retirement plan that closed to future accrual on the Board. 31 May 2009. In its place a defined contribution pension scheme has now been established to which the Society Fees for Non-Executive Directors are determined by contributes up to a maximum of 12% of base salary per the Executive Directors and subject to approval of the Director, dependent upon personal contribution levels. Board as a whole. They are designed to recognise the responsibilities of Non-Executive Directors and to attract Other Benefits individuals with the necessary skills and experience to Executive Directors are entitled to private medical contribute to the operations of the Society. insurance, death in service benefit of four times basic salary and a company car or car cash allowance. Chairman’s review

33

highlights Independent Auditors’ Report Financial

Report on the financial statements for the year ended 31 December 2013 Strategic report Strategic Our opinion What an audit of financial statements involves In our opinion the financial statements, defined below: We conducted our audit in accordance with International Standards on Auditing (UK and Ireland) (ISAs (UK and • giv e a true and fair view of the state of the Group’s Ireland)). An audit involves obtaining evidence about and of the Society’s affairs as at 31 December 2013 the amounts and disclosures in the financial statements

and of the Group’s and the Society’s income and sufficient to give reasonable assurance that the financial report Directors’ expenditure for the year then ended; statements are free from material misstatement, • hav e been properly prepared in accordance with whether caused by fraud or error. This includes an United Kingdom Generally Accepted Accounting assessment of: Practice; and • hav e been prepared in accordance with the • whe ther the accounting policies are appropriate to requirements of the Friendly Societies Act 1992. the Group’s and Society’s circumstances and have Board report Board been consistently applied and adequately disclosed; This opinion is to be read in the context of what we say • the reasonableness of significant accounting in the remainder of this report. estimates made by the directors; and • the overall presentation of the financial statements. What we have audited The Group financial statements and Society financial In addition, we read all the financial and non-financial committee Audit

statements (the “financial statements”), which are information in the Annual Report to identify material report prepared by National Deposit Friendly Society inconsistencies with the audited financial statements and Limited, comprise: to identify any information that is apparently materially incorrect based on, or materially inconsistent with, the • the Group and Society Balance Sheets as at knowledge acquired by us in the course of performing

31 December 2013; the audit. If we become aware of any apparent material Remuneration

• the Group and Society Income Statements for the misstatements or inconsistencies we consider the report year then ended; and implications for our report. • the notes to the financial statements, which include a summary of significant accounting policies and Overview of our audit approach other explanatory information. Auditors’ report

Materiality Independent The financial reporting framework that has been applied We set certain thresholds for materiality. These helped in their preparation comprises applicable law and United us to determine the nature, timing and extent of our Kingdom Accounting Standards (United Kingdom audit procedures and to evaluate the effect of Generally Accepted Accounting Practice). Certain misstatements, both individually and on the financial

disclosures required by the financial reporting framework statements as a whole. statement Income have been presented elsewhere in the Annual Report and Financial Statements (the “Annual Report”), rather Based on our professional judgement, we determined than in the notes to the financial statements. These are materiality for the Group financial statements to be cross-referenced from the financial statements and are £148,000. In arriving at this judgement we have identified as audited. considered financial metrics which we believe to be relevant and have concluded that the Fund for Future Appropriations was the appropriate benchmark as it sheet Balance best reflects the underlying interests of the members.

We agreed with the Audit Committee that we would report to them misstatements identified during our

audit above £7,400 as well as misstatements below losses and Gains that amount that, in our view, warranted reporting for qualitative reasons. Notes to the to the Notes accounts 34 National Friendly Annual Report & Financial Statements 2013

Overview of the scope of our audit Areas of particular audit focus The Group financial statements are a consolidation of In preparing the financial statements, the directors made three entities; the Society, 425 Direct Limited and a number of subjective judgements, for example in ND Member Services Limited. respect of significant accounting estimates that involved making assumptions and considering future events In establishing the overall approach to the group that are inherently uncertain. We primarily focused audit, we determined the type of work that needed our work in these areas by assessing the director’s to be performed by us to be able to conclude whether judgements against available evidence, forming our sufficient appropriate audit evidence had been obtained own judgements, and evaluating the disclosures in the as a basis for our opinion on the Group financial financial statements. statements as a whole. In our audit, we tested and examined information, using We performed an audit of complete financial information sampling and other auditing techniques, to the extent for the Society and 425 Direct Limited which gave us the we considered necessary to provide a reasonable basis evidence we needed for our opinion on the Group financial for us to draw conclusions. We obtained audit evidence statements as a whole. ND Member Services Limited is primarily through substantive procedures. a dormant entity representing <1% of net assets, and is therefore considered immaterial to the Group. We considered the following areas to be those that required particular focus in the current year. This is not a complete list of all risks or areas of focus identified by our audit. We discussed these areas of focus with the Audit Committee. Their report on those matters that they considered to be significant issues in relation to the financial statements is set out on page 29.

Area of focus How the scope of our audit addressed the area of focus Valuation of long term We tested the methodologies, models and assumptions used by the directors in the business provision calculations of the long term business provision. We focused on this area because it involves complex and subjective Our work included assessing changes in the determination of assumptions from judgements made by the directors on prior years. future events internal and external to the business, for which small changes For morbidity, we tested the director’s assumption by checking back to underlying can result in a material impact on policyholder data as well as the Society’s own recent experience of claims. the valuation of the provision. With respect to the short and long term lapse rates, we compared the assumptions The particular actuarial reserving to the underlying data, which we tested to policyholder data as well as the assumptions we focused on were Society’s own recent experience of lapses, the impact of management actions morbidity and lapse rates for the and industry practice. Healthcare and Healthguard products, which have historically been volatile, For expenses, we compared the underlying assumptions in the Society’s forecasts and expense assumptions, which have to the level of expenditure incurred in 2013, evaluated the proposed management been impacted by recent changes actions to be taken during the forecast period and validated the appropriateness in the business. of the excluded non-recurring expenses.

Outstanding claims reserve We tested the key methodologies and assumptions used by the directors We focused on this area because the in the calculation of the reserve. methodology and assumptions used in the estimation of the claims costs We tested the directors’ morbidity assumptions by reference to historic for the Healthcare and Healthguard claims experience. business are inherently subjective. This is due to limited experience on We tested the appropriateness of the directors’ calculations, including which to base claims development consideration of any changes in methodology from the prior year. projections given the change in claims handling processing in 2012. The estimate is also particularly sensitive to the assumption of morbidity. Chairman’s review

35

highlights Financial Area of focus How the scope of our audit addressed the area of focus

Property valuation We considered the competency of the valuation expert used by the directors and The valuation of the property the methodology used in the calculation of the property valuations.

portfolio is subjective and reliant report Strategic upon the appropriateness of We tested the key inputs to the property valuation used by the expert including: the underlying assumptions. • yields applied to all properties by comparing them to independent industry benchmarks and validating outliers; and • rental income for a sample of properties by agreeing the amounts to remittance advice and cash received. Directors’ report Directors’ In assessing the appropriateness of the valuation of one property, we considered the impact of a sale agreement entered into after the balance sheet date.

Valuation of the pension surplus We considered the competency of the experts used by the directors to assist in As set out in note 21, the pension the pension surplus valuation, in particular the methodology used in the surplus in the balance sheet is the calculation of the pension liabilities.

difference between the assets and report Board liabilities of the Society’s defined Our work focused on challenging and assessing the assumptions used in the benefit pension scheme, determined valuation. We tested the assumptions, including pension increases, mortality in accordance with the principles set and discount rate by comparing them to our own independent benchmarks out in Financial Reporting Standard and investigated significant differences. 17 “Retirement Benefits” (“FRS17”).

We focused on this area because committee Audit

the determination of the pension report liabilities is subjective and reliant upon the appropriateness of the underlying assumptions used.

Fraud in Revenue recognition We understood and evaluated the controls surrounding revenue recognition. ISAs (UK & Ireland) presume there We tested the reconciliation of revenue source data to the general ledger and, Remuneration is a risk of fraud in revenue where appropriate, cash received. In addition we identified significant or unusual report recognition because of the pressure journal transactions, which we then tested by checking to supporting documentation. management may feel to achieve the planned results. There is an inherent risk that revenue might be materially misstated, although this is mitigated Auditors’ report Independent in part as the Society is currently closed to new business and hence premiums arise only from historic business.

Risk of management override We considered whether there was evidence of bias by management in the Income statement Income of internal controls significant accounting estimates and judgments relevant to the financial statements. ISAs (UK & Ireland) require that We assessed the overall control environment of the Group, interviewed senior we consider this. management, confirmed the Group’s arrangements for staff to “whistle-blow” inappropriate actions and considered the scope and results of the work undertaken by the internal audit function. In addition, we identified significant or unusual journal transactions, which we then tested by checking to supporting documentation. Balance sheet Balance Gains and losses and Gains Notes to the to the Notes accounts 36 National Friendly Annual Report & Financial Statements 2013

Opinion on matters prescribed by the Friendly Societies Act 1992

In our opinion the Directors’ Report has been prepared Other information in the Annual Report in accordance with the Friendly Societies Act 1992 Under ISAs (UK & Ireland), we are required to report to and the regulations made under it, and the information you if, in our opinion, information in the Annual Report is: given therein for the financial year for which the financial statements are prepared is consistent with the financial • mat erially inconsistent with the information in the statements. audited financial statements; or • appar ently materially incorrect based on, or materially inconsistent with, our knowledge of Other matters on which we are the Group and Society acquired in the course of required to report by exception performing our audit; or • is otherwise misleading. Propriety of accounting records and information and explanations received We have no exceptions to report arising from this Under the Friendly Societies Act 1992 we are responsibility. required to report to you if, in our opinion:

• w e have not received all the information and Responsibilities for the financial explanations we require for our audit; or statements and the audit • pr oper accounting records have not been kept by the Society; or Our responsibilities and those of the directors • the financial tatementss are not in agreement As explained more fully in the Statement of with the accounting records. Responsibilities of the directors set out on page 26, the directors are responsible for the preparation of the We have no exceptions to report arising from financial statements and for being satisfied that they give this responsibility. a true and fair view.

Corporate Governance Statement Our responsibility is to audit and express an opinion on On page 24 of the Annual Report, as required by the financial statements in accordance with applicable Provision C.1.1 of the UK Corporate Governance Code law and ISAs (UK & Ireland). Those standards require us – An Annotated Version for Mutual Insurers (‘the Code’), to comply with the Auditing Practices Board’s the directors state that they consider the Annual Report Ethical Standards for Auditors. taken as a whole to be fair, balanced and understandable and provides the information necessary for members This report, including the opinions, has been prepared to assess the Group’s performance, business model and for and only for the Society’s members as a body in strategy. On page 29, as required by C.3.8 of the Code, accordance with Section 73 of the Friendly Societies the Audit Committee has set out the significant issues Act 1992 and for no other purpose. We do not, in giving that it considered in relation to the financial statements, these opinions, accept or assume responsibility for any and how they were addressed. Under ISAs (UK & Ireland) other purpose or to any other person to whom this we are required to report to you if, in our opinion: report is shown or into whose hands it may come save where expressly agreed by our prior consent in writing. • the statement given by the directors is materially inconsistent with our knowledge of the Group Joanne Leeson acquired in the course of performing our audit; or Senior Statutory Auditor • the section of the Annual Report describing the For and on behalf of work of the Audit Committee does not appropriately PricewaterhouseCoopers address matters communicated by us to the LLP Audit Committee. Chartered Accountants and Statutory Auditors We have no exceptions to report arising from Bristol this responsibility. 31 March 2014 Chairman’s review

37

highlights Income Statement Financial

For the year ended 31 December 2013 Strategic report Strategic

Group Society 2013 2012 2013 2012 Notes £’000 £’000 £’000 £’000 £’000 £’000 £’000 £’000 Gross premiums written and payments to deposit 4 15,774 17,944 15,774 17,944 report Directors’ Outward reinsurance premiums (28) (33) (28) (33) Earned premiums net of reinsurance 15,746 17,911 15,746 17,911 Investment income 5 5,177 37,075 5,177 37,075 Unrealised gains / (losses) - Investments 5 2,128 (24,316) 2,128 (24,316) Board report Board - Assets held to cover linked liabilities 5 565 459 565 459 Other technical income 6 1,276 1,628 28 259

24,892 32,757 23,644 31,388

Gross claims paid 25,258 25,424 25,258 25,424 committee Audit Reinsurers’ share (183) - (183) - report Net claims paid 25,075 25,424 25,075 25,424 Change in provision for claims 1,064 25 1,064 25 Change in long term funds (10,067) (10,067) Long term business provision 68 68

Investment contract liabilities 174 30 174 30 Remuneration report Provision for linked liabilities 22 (57) 146 (57) 146 Investment contract on linked liability 22 87 40 87 40

Bonuses and rebates (18) (86) (18) (86)

Net operating expenses 7a

1,361 1,259 - - Auditors’ report

Acquisition costs Independent Administrative expenses 4,277 4,848 3,847 4,156 5,638 6,107 3,847 4,156 Other technical charges – project costs 7b 1,295 1,767 1,372 1,705 - Other 18 38 18 38 Income statement Income Investment expenses 8 707 647 707 647 Impairment of subsidiary 25 - - 543 535 Redundancy and end of contract term payments 98 34 98 34 FRS17 retirement benefit charge 21 79 209 79 209 Tax attributable to long term business 11a 99 (64) 99 (64) Balance sheet Balance Transfer to/(from) the fund for future appropriations 700 (1,628) 623 (1,519)

24,892 32,757 23,644 31,388

All operating activities relate to continuing operations conducted in the United Kingdom. Neither gains nor losses of an insurance group arising on the holding or disposal of investments; nor the effect of fair value accounting for losses and Gains financial instruments is required to be included in a note of historical profit and losses. There are no other differences between the profit on ordinary activities before tax and the profit for the financial year stated above and their historical cost equivalents.

The information on pages 41 to 73 form an integral part of these financial statements. Notes to the to the Notes accounts 38 National Friendly Annual Report & Financial Statements 2013

Balance Sheet As at 31 December 2013

Group Society Assets 2013 2012 2013 2012 Notes £’000 £’000 £’000 £’000 £’000 £’000 £’000 £’000 Intangible assets 12 - 6 - - Investments Land and buildings 13 24,672 24,491 24,672 24,491 Other financial investments 14 109,673 116,941 109,673 116,941 Investment in subsidiaries 25 - - 21 39 134,345 141,432 134,366 141,471 Assets held to cover linked liabilities 17 3,183 2,607 3,183 2,607 Reinsurers’ share of technical provisions 3 269 350 269 350 Debtors – Loans and receivables Debtors arising from direct insurance operations 3 293 305 254 226 Other debtors 3 1,548 1,843 1,579 2,152 1,841 2,148 1,833 2,378 Other assets Tangible assets 18 832 173 832 131 Cash at bank and in hand 15 186 2,449 159 2,176 Net pension asset 21 23 13 23 13 Deferred tax asset 11c 20 110 20 110 1,061 2,745 1,034 2,430 Prepayments and accrued income – Loans and Receivables Accrued interest and rent 715 721 715 721 Other prepayments and accrued income 171 245 145 235 886 966 860 956

141,585 150,254 141,545 150,192

The information on pages 41 to 73 form an integral part of these financial statements. Chairman’s review

39

highlights Balance Sheet Financial

As at 31 December 2013 Strategic report Strategic

Group Society Liabilities 2013 2012 2013 2012 Notes £’000 £’000 £’000 £’000 £’000 £’000 £’000 £’000 Fund for future appropriations 10,173 9,605 10,215 9,725 Directors’ report Directors’ Technical provisions Long term business provision 20 121,723 131,871 121,723 131,871 Investment contract liabilities 451 800 451 800 Claims outstanding 4,339 3,275 4,339 3,275 Provision for bonuses and rebates 832 850 832 850 127,345 136,796 127,345 136,796 Board report Board Technical provision for linked liabilities 22 1,395 1,452 1,395 1,452 Investment contract liabilities on linked liability fund 22 375 338 375 338 Provision for other risks and charges Derivatives 132 7 132 7 Audit committee committee Audit Creditors Arising out of direct insurance operations 49 49 49 49 report Other creditors including taxation and social security 661 351 636 289 Accruals and deferred income 1,455 1,656 1,398 1,536 2,165 2,056 2,083 1,874 Remuneration

141,585 150,254 141,545 150,192 report

The information on pages 41 to 73 form an integral part of these financial statements. Auditors’ report

These financial statements were approved by the Board on 31 March 2014. Independent

Alan Lewis Chairman Income statement Income Jonathan Long Chief executive Office Balance sheet Balance Gains and losses and Gains Notes to the to the Notes accounts 40 National Friendly Annual Report & Financial Statements 2013

Statement of total recognised gains and losses For the year ended 31 December 2013

Group Society 2013 2012 2013 2012 Notes £’000 £’000 £’000 £’000 Surplus/(deficit) for the financial year 700 (1,628) 623 (1,519) Actuarial (loss)/gain on pension scheme 21 (102) 778 (102) 778 Movement in deferred tax on pension scheme (12) (18) (12) (18) Other movements (18) - (19) -

Total recognised gains and losses relating to the year 568 (868) 490 (759)

The information on pages 41 to 73 form an integral part of these financial statements. Chairman’s review

41

highlights Notes to the accounts Financial

For the year ended 31 December 2013 Strategic report Strategic

(1) Accounting policies Realised and unrealised gains and losses Realised investment gains and losses represent the These accounting policies have been applied consistently difference between the sale proceeds and original cost. in the preparation of the financial statements. Unrealised investment gains and losses represent the net

movement in the market value of investments during report Directors’ Basis of preparation the year after allowing for realised gains and losses The financial statements have been prepared on a going recognised in the technical account. concern basis, under the historical cost convention and in accordance with The Friendly Societies (Accounts Claims and Related Provisions) Regulations 1994, and United Maturity claims and annuities are charged against Kingdom Generally Accepted Accounting Practice and income when due for payment. Surrenders are Board report Board with the Statement of Recommended Practices issued accounted for when paid or, if earlier, on the date when by the Association of British Insurers. the policy ceases to be included within the calculation of the long term business provision. Death claims and Basis of consolidation all other claims including Healthcare are accounted for The Group financial statements comprise the assets, when notified. liabilities and income and expenditure account committee Audit

transactions of the Society and its subsidiaries 425 Long term business provision report Direct Limited and ND Member Services Limited. The long term business provision is determined by the The net results are included in the fund for future Society’s Board and is calculated on a statutory solvency appropriations for the Group. The activities of the basis to comply with reporting requirements under the Society and Group are accounted for in the income Prudential Sourcebook for Insurers. The calculation uses statement. a net premium method for with-profit policies and as Remuneration

such includes explicit provision for annual reversionary report Premiums bonuses declared prior to the valuation date. Implicit Premiums are accounted for when due for payment. provision is made for future bonuses by using a valuation Payments to Healthcare Deposit Accounts are accounted rate of interest lower than the expected return on the for when received. assets. Auditors’ report Independent Investment return For conventional non-profit business, a gross premium Investment return comprises the investment income valuation method is used, which brings into account the and fair value gains and losses derived from assets held full premiums receivable under contracts written by the at fair value through profit and loss, rental income and Society, estimated renewal and maintenance costs and

fair value gains and losses derived from investment contractually guaranteed benefits. statement Income property and interest income derived from cash and cash equivalents. The calculation of the long term business provision for unit linked policies is based on the fund valuation at the Investment income derived from assets held at fair value valuation date. through profit and loss includes dividends and interest income. Dividends are accounted for on the date the Bonuses shares become quoted ex-dividend. UK dividends are Bonuses charged to the long term business technical sheet Balance shown excluding their irrecoverable associated tax account in a given year comprise: credit. Interest income is recognised on an accruals basis. Income from rents and securities is taken into account • new reversionary bonuses declared in respect of that on an accruals basis. Bank interest is accrued in the year which are provided within the calculation of the

period in which it arises. long term business provision. losses and Gains • t erminal bonuses paid out to policyholders on maturity which are included within claims paid. Notes to the to the Notes accounts 42 National Friendly Annual Report & Financial Statements 2013

Notes to the accounts (Continued) For the year ended 31 December 2013

(1) Accounting policies (Continued) Project costs Project costs comprise expenditure on merger and Claims outstanding acquisition activity, when undertaken, and on business The outstanding claims reserve provides for all the process improvements which are intended to deliver Healthcare and Healthguard claims payable as at 31 future financial benefits to the Group through reducing December. Claims outstanding represent the ultimate operating costs and/or creating operational efficiencies. cost of settling all claims which have occurred up to the balance sheet date, together with the provision for Projects costs are charged to the income statement with claims incurred but not yet reported. the exception of major projects where the outcome is assessed to be reasonably certain as regards viability and Depreciation feasibility. Amortisation is charged once the economic benefits of the project start to be realised. Properties No depreciation has been provided on investment Pension costs properties in accordance with SSAP 19. The Society operates a defined benefit pension scheme. This scheme closed to new entrants and future accrual No depreciation has been provided on non-investment on 31 May 2009. A pension asset or liability is properties as the Group’s policy is to maintain the calculated as the recoverable amount of the scheme’s properties in good condition. Accordingly the Board assets less the present value of the scheme’s liabilities consider that the lives of these assets and their residual in accordance with the principles set out in the Financial values are such that their depreciation is insignificant and Reporting Standard 17 “Retirement Benefits” (“FRS17”). is thus not provided. The underlying assets are reviewed for impairment annually. The pension cost for the scheme is analysed between current service cost, past service cost and net return on Tangible fixed assets and depreciation pension scheme. Current service cost is the actuarially Tangible fixed assets are held at cost less accumulated calculated present value of the benefits earned by depreciation. the active employees in each year. Past service costs relating to employee service in prior years arising in Depreciation has been provided at the following rates the current year as a result of the introduction of, or calculated to write off each asset over its estimated improvement to, retirement benefits, are recognised in useful life: the profit and loss account on a straight-line basis over • C omputer equipment is depreciated at 25% per the year in which the increase in benefits vest. annum on a straight line basis; • Of fice equipment is depreciated at 12.5% per annum The actuarial gains and losses which arise from a on a straight line basis. valuation and from updating the latest actuarial valuation to reflect conditions at the balance sheet date Intangible Assets are taken to the statement of total recognised gains and The customer book was recognised at market value and losses for the year to the extent they are attributable to was amortised on a straight line basis over its useful members. The attributable deferred taxation is shown life of 3 years, starting in the first full year following separately in the statement of total recognised gains and acquisition up to the point of its impairment in the losses. current year. Payments made to the defined contribution scheme for Goodwill is amortised at 25% per annum on a straight current employees are charged as an expense as they line basis from the first full month after acquisition. fall due.

An impairment review is undertaken on all intangible assets after the first full year of acquisition and subsequently if adverse events indicate that the carrying value may not be recoverable. Chairman’s review

43

highlights Financial Notes to the accounts (Continued)

For the year ended 31 December 2013 Strategic report Strategic

(1) Accounting policies (Continued) Operating leases The Group leases motor vehicles and office machinery Taxation and equipment under contracts of operating leases. The Deferred tax is provided using the full provision method. leases are cancellable. The lease expenses are accounted

Deferred tax is recognised in respect of all timing for as an operating expense as incurred. report Directors’ differences that have originated but not reversed at the balance sheet date. It is calculated at rates expected Financial assets to be applicable when the asset or liability crystallises The Society classifies its financial assets as fair value on a non-discounted basis. Deferred tax assets are through the profit and loss or as loans and receivables. recognised only to the extent that there will be sufficient Such assets are measured at fair value based on the foreseeable future taxable profits from which the future active market price with gains and losses recognised in Board report Board reversal of timing differences can be deducted. the Income Statement. Financial assets are derecognised when the rights to receive future cash flows from the Cash flow statement investments have expired or have been transferred and The Society, being a mutual life assurance company, is the Society has transferred substantially all risks and exempt from the requirement under Financial Reporting rewards of ownership. Standard 1 ‘Cash Flow Statements’ (‘FRS1’) to produce a committee Audit

cash flow statement. Derivatives report The Society holds some forward contracts for foreign Investments currency exchange. The Society also holds some gilt Listed securities are shown in the financial statements future contracts to ease the duration of the fixed at bid price. Properties are shown in the financial interest portfolio. Depending on whether the contract statements at open market value except for owner is in a favourable or adverse position they are classified Remuneration occupied property that is not being held with an as financial assets or financial liabilities respectively report intention to sell being valued on an existing use basis. and are classified as fair value through the profit and loss. They are initially recognised and are subsequently Mortgages and loans are valued at amortised cost, which re-measured at their fair value. Changes in fair value is not materially different from fair value. Investments in are recognised through unrealised or realised gains and Auditors’ report subsidiary companies are held at cost less any provisions losses on the income statement. Independent for diminution in value. In accordance with Financial Reporting Standard 11 ‘Impairment of fixed assets and All derivatives are carried as assets when fair value is goodwill’ (‘FRS11’); the carrying value of the subsidiary positive and as liabilities when the fair value is negative. undertaking is compared to its recoverable amount.

Foreign currencies statement Income Acquisition costs Some fixed interest investments are held in foreign Acquisition costs represent commission payable and currencies. The assets are held on the balance sheet in other related expense of acquiring insurance policies sterling using the year end exchange rate, whilst the written during the financial year. book cost is calculated using the exchange rate on the day of purchase. Any gains or losses on the exchange Fund for future appropriations rates are recognised through unrealised or realised gains The fund for future appropriations incorporates and losses in the income statement. sheet Balance amounts which have yet to be allocated to participating policyholders. Any surplus or deficit arising in the Contract classification technical account is transferred to or from the fund on The Society classifies its products for accounting an annual basis. Surpluses are allocated by the Directors purposes as insurance, investment or investment with

to participating policyholders by way of bonuses. Any discretionary participation features. Insurance contracts losses and Gains unallocated surplus is carried forward in the fund for are those contracts that transfer significant insurance future appropriations. risk. Contracts that do not transfer significant insurance risk are investment contracts. Notes to the to the Notes accounts 44 National Friendly Annual Report & Financial Statements 2013

Notes to the accounts (Continued) For the year ended 31 December 2013

(1) Accounting policies (Continued) Investment contracts Investment contracts are those contracts that transfer A discretionary participation feature is a contractual financial risk with no significant insurance risk. These right held by a policyholder to receive additional contracts are accounted for using deposit accounting. payments as a supplement to guaranteed benefits: Premiums and claims are not recognised in the income statement in respect of these policies. The investment • that are likely to be a significant proportion of the gain or loss on these policies is shown through the total contractual payments; and movement in the investment contract liabilities on the • whose amount of timing is contractually at the income statement. discretion of the issuer and that are contractually based on: - the performance of a specified pool of contracts, or a specified type of contract, or - realised and/or unrealised investment returns on a specified type of contract, or - the profit or loss of the company that issues the contracts.

Such contracts are more commonly known as “with-profits” or as “participating contracts”.

Insurance contracts and participating investment contracts The insurance and participating investment contract liabilities are determined annually in accordance with regulatory requirements.

The participating liabilities include an assessment of any future options and guarantees included in this business.

The estimation techniques and assumptions are periodically reviewed, with any changes in estimates reflected in the income statement as they occur.

The long term business provision is calculated by the Society’s Head of Actuarial Function, having due regard to the actuarial principles laid down in the Life Framework Directive, and is approved by the Board. Chairman’s review

45

highlights Financial Notes to the accounts (Continued)

For the year ended 31 December 2013 Strategic report Strategic

(2) Capital management Society

Funding position as at Funding position as at

31 December 2013 31 December 2012 report Directors’ £’000 £’000

Total balance sheet assets 141,545 150,192 Inadmissible (328) (501) Total statutory assets 141,217 149,691

Total statutory reserves 128,846 138,236 report Board Total other liabilities 2,215 1,881 Total statutory liabilities 131,061 140,117 Statutory surplus (before capital requirement) 10,156 9,574 Total minimum capital requirement 8,354 8,149 Audit committee committee Audit Excess over minimum capital requirement 1,802 1,425 report

Society

2013 2012 £’000 £’000 Changes in capital Remuneration

Statutory surplus at 1 January 9,574 10,345 report Net new lives on existing policies 7,568 4,271

Adjustment to models (338) - Adjustment to Care Plus benefits 188 313 Auditors’ report

Adjustment to per policy expenses (1,038) (1,026) Independent Provision for bonuses / benefits 18 - Adjustment to decrement assumption (i) 1,073 (590) Adjustment to morbidity assumption (5,031) (3,647) Adjustment to interest rates 7,233 69 Income statement Income Adjustment to claim inflation (950) 6 Adjustment to expense inflation (148) 1,122 Adjustment to guarantees 1,570 52 Adjustment to outstanding claim reserve (1,064) (25) Adjustment to expense overrun reserve 310 (374)

Change in statutory assets (8,474) (1,864) sheet Balance Change in other liabilities (335) 922

10,156 9,574 Gains and losses and Gains (i) Decrement assumptions cover future policy movements such as lapses and exits on death. Notes to the to the Notes accounts 46 National Friendly Annual Report & Financial Statements 2013

Notes to the accounts (Continued) For the year ended 31 December 2013

(2) Capital management (Continued) The improvement in free capital has been driven by a combination of the following factors: The Society maintains a single long term business fund. • Int erest rate rises causing an increase in valuation The available capital for the fund is represented by discount rate and a reduction in overall liabilities. the fund for future appropriations which represents • Higher than anticipated healthcare lapses resulting in the difference between the assets and liabilities of a higher level of morbidity reserves being released. the Society and Group. For statutory purposes certain • The decision to sell the current head office building assets are deemed inadmissible for meeting the capital and relocate to new offices more suited to the requirement. As at the date of these financial statements Society’s needs. the items deemed inadmissible were the deferred tax asset, the reinsurance asset and the inadmissible part of However, these increases have been offset to some the investment in 425 Direct Limited. The inadmissible extent by: part of the investment in 425 Direct Limited comprises • P oorer than expected morbidity experience. of its minimum capital requirement and intangible assets. • An increase in per policy expense as the policy book reduces in size. The capital requirement for the Society is determined • The identification of an error embedded within one as the greater of the statutory requirement based on of our actuarial models, as detailed below. formulae and calculations specified by regulations and the capital requirement determined by reference to the The Society recently identified an error in an actuarial Society’s Individual Capital Assessment (“ICA”). The model that we developed in 2010 in order to assist ICA is subject to guidance but is not prescriptive and us in determining the level of reserve to hold for our involves a significant level of judgement to be exercised healthcare contracts. The model projects future claims by the Board. The ICA requirement is subject to review costs over the remaining lifetime of the policy book by the PRA and an additional capital requirement using statistical functions to generate claims frequency known as an ICG may be imposed. For the Society, it and severity. Having corrected this error, the impact is the statutory basis that provides the greater capital of it in isolation is an increase in estimated reserves of requirement. £1.1m as at 31 December 2013 compared to those determined with the error uncorrected. This has, in turn, The available capital of the long term business fund reduced our Fund for Future Appropriations to £10.2m has been determined in accordance with the Prudential and excess capital resources to £1.8m. This error has Regulation Authority (PRA) regulations and includes been present in the model since its inception and so the Fund for Future Appropriation. The Fund for Future would have also had an impact on prior years. Appropriation represents surplus funds of the Society which have not been allocated to members and is We have accounted for this error in deriving the capital available to meet regulatory and solvency requirements position as at 31 December 2013. of the Society. Adjustments have been made to restate the assets and liabilities in line with PRA regulations. The capital position should continue to improve as the prudential margins in the existing policy book unwind The available capital resources in excess of the capital over the next few years, all other things being equal. requirements on the statutory basis have increased by £0.4m (2012: £0.7m). This has resulted in the Society The solvency position of the Society is continually having a surplus of £1.8m of assets over its minimum monitored and the level of liquid assets is managed capital requirement (2012: £1.4m). to ensure that sufficient liquid funds are held to cover liabilities and claims as they fall due. Chairman’s review

47

highlights Financial Notes to the accounts (Continued)

For the year ended 31 December 2013 Strategic report Strategic

(2) Capital management (Continued) The following sensitivities arise from: • The market risk in relation to the with-profit Capital resource sensitivities business, which would arise if adverse changes in the The preparation of the Society’s capital position value of the assets supporting this business could not

requires the Board to make complex judgments based be reflected in payments to policyholders because of report Directors’ on information and financial data that may change in the effect of guarantees and options. future years. Although the estimates are based on best • A fall in UK gilt yields which increases our liabilities as knowledge of current facts as at the reporting date, it reduces the valuation discount rate that we use to taking into account matters that have arisen following determine our reserves. the year end but before the financial statements are • An adverse change in the future morbidity finalised, the actual outcome may differ from those experience has a significant impact on mathematical Board report Board estimates, impacting the Society’s future capital position reserves. The extent of this is illustrated in the table and the ability of management to achieve the capital under insurance risk, overleaf. restoration plan. The capital position of this business would also A key determinant of our capital position is morbidity deteriorate if increases to the market value of assumptions and modest changes in morbidity derivatives resulted in an increase in the liability for committee Audit

experience can cause significant movements in reserves. guarantees and options. report We have estimated our future claims experience based upon our current experience plus a margin for future The capital position is also sensitive to assumptions adverse experience. We monitor claims closely to assess and experience relating to expenses, longevity and the continued validity of these assumptions. persistency. Remuneration

The Society’s capital position is sensitive to changes in report market conditions and demographic assumptions, due to both changes in the value of the assets and the effect that changes in investment conditions may have on the value of the liabilities. Auditors’ report Independent

Society

Analysis of Policy Holders Liabilities 2013 2012 With profit liabilities £’000 £’000 Income statement Income Guarantees and options 3,309 4,878 Other policyholder obligations 69,673 73,848 72,982 78,726 Unit linked 1,770 1,790 Deposit and other non-profit liabilities 54,094 57,720

128,846 138,236 sheet Balance Gains and losses and Gains Notes to the to the Notes accounts 48 National Friendly Annual Report & Financial Statements 2013

Notes to the accounts (Continued) For the year ended 31 December 2013

(3) Risk management into account the correlation of individual risks to arrive at a required level of capital as part of the Society’s The key risks that the Society and Group are exposed to Individual Capital Assessment (“ICA”) process. The Board and the way the Society and Group manage them is set is responsible for reviewing the risks faced by the Society out as follows: and approving the required level of capital to be held against each risk element. The Society does not use Insurance risk hedge accounting. Insurance risk is the risk that arises from the inherent uncertainties as to the occurrence, amount and timing of i. Market risk insurance liabilities. Long term insurance risk arises from Market risk is the risk that as a result of market morbidity, persistency, mortality and expense variances. movements the Society may be exposed to fluctuations Systems are in place to measure, monitor and mitigate in the value of its assets, the amount of its liabilities, or exposure to all these risks. the income from its assets. Sources of general market risk include movements in interest rates, equities, exchange The valuation assumptions have been recommended by rates and real estate prices. the Head of Actuarial Function and approved by the Board. In view of the relatively low level of free assets, the Society has a lowered appetite for market risks and this See note 20 for details of assumptions used in the is reflected in its investment strategy. The investment calculation of the long term business provision. The strategy is kept under regular review as part of the capital impact on the policy reserves of sensitivities to key management and capital restoration plan. valuation assumptions are as follows: a. Interest rate risk Due to the nature of its products, the long term business Assumption Increase in policy reserves fund may be impacted by interest rate movements. In Increase in morbidity by 10% £5.8 million 2013 the Society has more closely matched specific assets to non-profit pension liabilities in order to Decrease in mortality by 10% £0.8 million benefit from improved valuation assumptions and to reduce interest rate risk by matching the duration of Reduction in lapses by 25% £2.8 million fixed interest investments to the expected cash flow requirements. This asset and liability matching cannot be Increase in expense inflation £2.1 million exact due to the uncertainties involved but nevertheless by 1% this has reduced the amount of resilience capital that is Increase in claim inflation £1.2 million by 1% required. The matching of assets to liabilities is reviewed regularly and adjustments made to the portfolio allocation Reduction in yields by 1% £5.0 million if required. Increase in expense amounts £1.9 million by 10% • A 100bps or 1% change in the interest rate would lead to a change of £8.3m (2012 £8.7m) in the total Financial risk holding of fixed interest assets. The new market value The Society is exposed to a range of financial risks through is calculated by applying the change in rate to each its financial assets, financial liabilities, reinsurance assets asset individually in proportion its duration. The value and insurance liabilities. The most important components of liabilities is calculated using the revised interest rate of this financial risk are market risk (including interest rate in the usual way. risk, exchange rate risk and equity price risk), credit risk and liquidity risk. The Society also faces financial risks in respect • A 1% increase in the valuation discount rate would of property valuations, concentration of investments and result in a £4.1m (2012 £5.2m) fall in the value of counter-party exposures. liabilities and a 1% fall in yields leads to an increase of £5.0m (2012 £7.3m) in the value of liabilities. This Each of the exposures to risk are analysed regularly to does not allow for any change from asset shares due assess their likely impact and probability. The overall to market movements in asset values. level of risk is then compiled into a detailed report taking Chairman’s review

49

highlights Financial Notes to the accounts (Continued)

For the year ended 31 December 2013 Strategic report Strategic

(3) Risk management (Continued) b. Exchange rate risk The Society has a number of fixed interest investments in foreign currencies which present an exchange rate risk

that is mitigated by holding Forward Contracts for foreign exchange as a natural hedge against the exchange rate report Directors’ risk. The Society’s holdings shown by currencies are listed below:

Group & Society 2013 2012 Market Value - Equities

£’000 £’000 report Board UK pound 18,244 17,255 Euro 1,279 731 Swiss franc 204 - USA dollar 227 764 Audit committee committee Audit 19,954 18,750 report

Group & Society 2013 2012 Market Value - Fixed Interest

£’000 £’000 Remuneration

UK pound 70,755 80,176 report Australian dollar 237 285

Euro 2,269 3,286 Russian ruble - 134 Auditors’ report

USA dollar 10,742 7,670 Independent

84,003 91,551

Exchange rate risk is hedged so a small change in the exchange rate will lead to a negligible change in the value of

assets. All of our liabilities are denominated in sterling so a change in exchange rate will have no effect on the value statement Income of liabilities. c. Equity price risk Holdings in equities are by their nature subject to market movement. In order to mitigate this risk the Society employs an external investment portfolio manager and the Investment Committee regularly review the level of equities notionally allocated to with profit life business to ensure the level of risk remains appropriate. The Society does not invest in equities out of assets held for with profit pension policies; these assets are instead held in term sheet Balance deposits and fixed interest securities.

• A 10% change in the market value of equities would lead to a change of £1.4m (2012 £1.9m) in our total holding of equities. Gains and losses and Gains • A 10% change in equity values would lead to a change of £1.8m (2012 £1.3m) in the value of the liabilities matched by equity. Notes to the to the Notes accounts 50 National Friendly Annual Report & Financial Statements 2013

Notes to the accounts (Continued) For the year ended 31 December 2013

(3) Risk management (Continued) ii. Credit risk

Credit risk is the risk of loss incurred whenever a firm is exposed to loss if a counterparty fails to perform its contractual obligations including failure to perform them in a timely manner.

The Society has a low appetite for credit risk on cash and ensures that cash is spread over a number of high rated banks with the maximum limit on the exposure to any one limited.

The terms of the investment funds ensure that there is an appropriate spread of holdings within specified parameters, with the majority of assets being ‘A’ rated bonds or higher. There are also limits on the maximum exposure to any single counterparty and on the level of exposure to lower rated bonds.

This results in a relatively modest exposure to lower rated and hence more risky assets within the investment funds. However, the Society considers regular reviews from the fund manager to ensure that the risk within the funds remains appropriate relative to the Society’s appetite for credit risk.

The Society currently has a low level of exposure to re-assurer security which will decline as the portfolio matures. Therefore, there are no specific actions envisaged to manage the risks in this section.

The assets bearing credit risk are summarised and analysed by credit rating below:

Group Society

2013 2012 2013 2012 Notes £’000 £’000 £’000 £’000

Derivative financial instruments 530 123 530 123 Listed fixed interest securities 84,003 91,551 84,003 91,551 Loans and receivables 15 2,917 3,319 2,883 3,539 Deposits with credit institutions 4,917 6,241 4,917 6,241 Cash at bank and in hand 186 2,449 159 2,176 Reinsurers’ share of technical provisions 269 350 269 350

92,822 104,033 92,761 103,980

AAA 27,052 46,670 27,052 46,670 AA 4,496 13,331 4,496 13,058 A 34,094 16,775 34,067 16,775 BBB 17,831 17,925 17,831 17,925 Below BBB 1,295 1,063 1,295 1,063 Not rated 8,054 8,269 8,020 8,489

92,822 104,033 92,761 103,980

No credit limits were exceeded during the year. No financial assets are past due or impaired at the reporting date and management expects no significant losses from non-performance by these counterparties. Chairman’s review

51

highlights Financial Notes to the accounts (Continued)

For the year ended 31 December 2013 Strategic report Strategic

(3) Risk management (Continued) iii. Liquidity risk

Liquidity risk is the risk that the Society, although solvent, either does not have available sufficient financial resources report Directors’ to enable it to meet its obligations as they fall due, or can secure such resources only at excessive cost. For example, liquidity risk can arise from mismatching between expected asset and liability cash flows or from the inability to sell assets quickly.

The Society has a low appetite for liquidity risk and the risk is controlled by primarily investing in liquid assets. Board report Board The Society also holds some gilt futures to manage the duration of the fixed interest portfolio. This strategy is intended to be maintained and the Society will also continue to monitor its emerging cash flow requirements.

Financial assets held over five years are long-term assets aiming to match the duration of our liabilities. It is not possible to invest in fixed income investments with no maturity date. However the Society carries out regular checks to ensure that assets and liabilities are well matched by duration. committee Audit report

Society

No maturity

Within 1 year 1 – 5 years Over 5 years Total Remuneration date

Financial and insurance liabilities at £’000 £’000 £’000 £’000 report 31/12/13 £’000 Fund for future appropriation 10,215 - - - 10,215 Long term business provision 86,771 3,575 16,960 14,417 121,723 Investment contract liabilities - 235 140 76 451 Auditors’ report Independent Claims outstanding - 4,339 - - 4,339 Provision for bonuses and rebates 211 58 313 250 832 Technical provision for linked liabilities 1,395 - - - 1,395 Investment contracts on linked liability fund 375 - - - 375

Derivatives - 132 - - 132 statement Income Creditors arising out of direct insurance operations - 49 - - 49 Other creditors including taxation and social security - 636 - - 636 Accruals and deferred income - 1,398 - - 1,398

Total financial and insurance liabilities 98,967 10,422 17,413 14,743 141,545 sheet Balance

For the Group as above except the fund for future appropriation was £10,173,000, other creditors including taxation and social security were £661,000 and accruals and deferred income were £1,455,000. Gains and losses and Gains Total Group financial and insurance liabilities 98,925 10,504 17,413 14,743 141,585 Notes to the to the Notes accounts 52 National Friendly Annual Report & Financial Statements 2013

Notes to the accounts (Continued) For the year ended 31 December 2013

(3) Risk management (Continued) iii. Liquidity risk (Continued)

Society

No maturity Within 1 year 1 – 5 years Over 5 years Total date £’000 £’000 £’000 £’000 Financial assets at 31/12/13 £’000

Equity investments 19,954 - - - 19,954 Fixed interest securities - 464 9,725 73,814 84,003 Derivatives - 530 - - 530 Deposits with credit institutions - 4,917 - - 4,917 Freehold ground rents - - - 79 79 Mortgages 143 9 23 15 190 Assets held to cover linked liabilities 3,183 - - - 3,183 Reinsurers’ share of technical provisions - 2 40 227 269 Debtors arising from direct insurance operations - 254 - - 254 Other debtors - 1,579 - - 1,579 Cash at bank and in hand 159 - - - 159 Accrued interest and rent - 715 - - 715 Other prepayments and accrued income - 145 - - 145

Total financial assets 23,439 8,615 9,788 74,135 115,977

Group as above except debtors arising from direct insurance operations were £293,000, other debtors were £1,548,000, cash at bank and in hand was £186,000 and other prepayments and accrued income were £171,000.

Total Group financial assets 23,466 8,649 9,788 74,135 116,538 Chairman’s review

53

highlights Financial Notes to the accounts (Continued)

For the year ended 31 December 2013 Strategic report Strategic

(3) Risk management (Continued) iii. Liquidity risk (Continued)

As Restated Society report Directors’ No maturity Within 1 year 1 – 5 years Over 5 years Total Financial and insurance liabilities at date £’000 £’000 £’000 £’000 31/12/12 £’000 Fund for future appropriation 9,725 - - - 9,725 Long term business provision 95,148 4,069 14,622 18,032 131,871 Investment contract liabilities - 474 203 123 800 Board report Board Claims outstanding - 3,275 - - 3,275 Provision for bonuses and rebates 614 26 94 116 850 Technical provision for linked liabilities 1,452 - - - 1,452 Investment contracts on linked liability fund 338 - - - 338 Derivatives - 7 - - 7 Audit committee committee Audit Creditors arising out of direct - 49 - - 49 insurance operations report Other creditors including taxation and social security - 289 - - 289 Accruals and deferred income - 1,536 - - 1,536 Total financial and insurance liabilities 107,277 9,725 14,919 18,271 150,192 Remuneration

For the Group as above except the fund for future appropriation was £9,605,000, other creditors including taxation report and social security were £351,000 and accruals and deferred income were £1,656,000.

Total Group financial and insurance liabilities 107,157 9,907 14,919 18,271 150,254 Auditors’ report Independent Society No maturity Within 1 year 1 – 5 years Over 5 years Total date £’000 £’000 £’000 £’000 Financial assets 31/12/12 £’000 Equity investments 18,750 - - - 18,750 Income statement Income Fixed interest securities - 286 13,386 77,879 91,551 Derivatives - 123 - - 123 Deposits with credit institutions - 6,241 - - 6,241 Freehold ground rents - - - 71 71 Mortgages 142 16 27 20 205 Assets held to cover linked liabilities 2,607 - - - 2,607 Balance sheet Balance Reinsurers’ share of technical provisions - 2 54 294 350 Debtors arising from direct insurance operations - 226 - - 226 Other debtors - 2,152 - - 2,152 Cash at bank and in hand 2,176 - - - 2,176 Accrued interest and rent - 721 - - 721 Gains and losses and Gains Other prepayments and accrued income - 235 - - 235 Total financial assets 23,675 10,002 13,467 78,264 125,408 Group as above except debtors arising from direct insurance operations were £305,000, other debtors were £1,843,000, cash at bank and in hand was £2,449,000 and other prepayments and accrued income were £245,000.

Total Group financial assets 23,948 9,782 13,467 78,264 125,461 Notes to the to the Notes accounts 54 National Friendly Annual Report & Financial Statements 2013

Notes to the accounts (Continued) For the year ended 31 December 2013

(3) Risk management (Continued) iv. Fair value estimation

The principal financial assets held at 31 December 2013, analysed by their fair value hierarchies are:

Level 1 Level 2 Level 3 Total Assets 2013 £’000 £’000 £’000 £’000 Financial assets at fair value through the profit and loss - Equity investments 19,954 - - 19,954 - Fixed interest investments 22,754 61,249 - 84,003 - Financial Instruments - 530 - 530

Total assets 42,708 61,779 - 104,487

The principal financial assets held at 31 December 2012, analysed by their fair value hierarchies are:

Level 1 Level 2 Level 3 Total Assets 2012 £’000 £’000 £’000 £’000 Financial assets at fair value through the profit and loss - Equity investments 18,750 - - 18,750 - Fixed interest investments 37,157 54,393 - 91,550 - Financial Instruments - 123 - 123

Total assets 55,907 54,516 - 110,423

Level 1 – Valued using unadjusted quoted price in active markets for identical financial instruments. Level 2 – Valued using techniques based significantly on observed market data, including net asset values. Level 3 – Valued using techniques incorporating information other than observable market data.

The Society engages investment fund managers to monitor the valuation of assets in markets that become less liquid. Determining whether a market is active requires the exercise of judgement and is determined based upon the facts and circumstances of the market for the instrument being measured. When it is determined that there is no active market for the instrument being measured fair value is established using a valuation technique. Chairman’s review

55

highlights Financial Notes to the accounts (Continued)

For the year ended 31 December 2013 Strategic report Strategic

(4) Gross premiums written and payments to deposit

Group & Society

2013 2012 report Directors’ £’000 £’000

Assurance 4,244 4,304 Bonds and other single premiums 84 331 Healthcare and Healthguard 11,003 12,826

Payments to deposit 381 411 report Board Unit linked 62 72

15,774 17,944 Audit committee committee Audit report The gross premiums written and payments to deposit above include gross new business premiums as detailed below:

Group & Society

2013 2012 Remuneration Gross new premiums written £’000 £’000 report Healthcare and Healthguard 51 88

51 88 Auditors’ report Independent The Society only transacts long term business within the United Kingdom.

New business premiums are in respect of additional lives being added to existing contracts of insurance in accordance with the terms that the original contracts were written. Income statement Income Balance sheet Balance Gains and losses and Gains Notes to the to the Notes accounts 56 National Friendly Annual Report & Financial Statements 2013

Notes to the accounts (Continued) For the year ended 31 December 2013

(5) Investment income Group & Society

2013 2012 £’000 £’000

Income from other financial investments: Loans and receivables interest income 29 65 Total interest income on financial assets not at fair value through profit and loss 29 65

Income from financial investments at fair value through profit and loss: Fixed interest stocks 3,847 298 Ordinary shares 590 622 Mortgages and ground rents 7 7 Income from financial assets at fair value through profit and loss 4,444 927 Income from land and buildings 1,844 2,171 Net gains on realisation of investments (1,140) 33,912 5,177 37,075 Net unrealised (losses)/gains on investments 2,693 (23,857)

Total investment return 7,870 13,218

During 2012 the Society moved its fixed income investments from a pooled fund to a segregated fund. This resulted in the realisation of gains of £29,272,000, included within realised gains above. Of this amount, £24,243,000 was included as unrealised gains as at 31 December 2011 giving rise to a reduction in unrealised gains during the year.

Group & Society

2013 2012 Net gains/(losses) on investments £’000 £’000 Included in the total investment return are net realised gains on financial assets at fair value through profit and loss Designated upon initial recognition 293 33,761 Included in the total investment return are net unrealised gains/(losses) on financial assets at fair value through profit and loss Designated upon initial recognition 162 (21,485)

Total net realised and unrealised gains/(losses) included in investment return 455 12,276

There is no interest expense in respect of financial liabilities not at fair value through profit and loss. Chairman’s review

57

highlights Financial Notes to the accounts (Continued)

For the year ended 31 December 2013 Strategic report Strategic

(6) Other technical income Group Society

2013 2012 2013 2012

£’000 £’000 £’000 £’000 report Directors’

Insurance commission 1,252 1,385 4 18 Other income 24 243 24 241

1,276 1,628 28 259

(7) Net operating expenses Board report Board

Group Society

2013 2012 2013 2012 £’000 £’000 £’000 £’000

(a) Included in operating expenses are: committee Audit

Fees payable to external auditors report Auditing of the financial statements of any associate of the Society 211 150 205 150 Taxation compliance services - 39 - 37 Other non-audit services 31 - 31 -

Fees payable to internal auditors in respect of: Remuneration

Internal audit 32 41 32 41 report Actuarial fees 100 100 100 100

Depreciation of tangible assets 94 154 52 97 Amortisation of intangible assets 6 64 - - Auditors’ report

Impairment of intangible assets - 168 - - Independent

(b) Other technical charges – project costs: Capital management 637 640 714 640 Distribution 222 512 222 450 Income statement Income Systems and processing 114 500 114 500 Risk management 322 115 322 115

Total project costs 1,295 1,767 1,372 1,705

(8) Investment expenses sheet Balance Group Society

2013 2012 2013 2012 £’000 £’000 £’000 £’000 Gains and losses and Gains Investment management expenses 442 329 442 329 Investment property direct costs 265 318 265 318

707 647 707 647 Notes to the to the Notes accounts 58 National Friendly Annual Report & Financial Statements 2013

Notes to the accounts (Continued) For the year ended 31 December 2013

(9) Staff costs Group Society

2013 2012 2013 2012 Average monthly number of employees: £’000 £’000 £’000 £’000 Administration 41 47 41 47 Distribution 28 29 4 5

69 76 45 52

Includes temporary, part-time and fixed contract staff of 8 (2012: 12) and excludes Non-Executive Directors of 5 (2012: 5).

Group Society

2013 2012 2013 2012 £’000 £’000 £’000 £’000

Wages and salaries (inc commission) 2,526 2,574 1,829 1,948 Social security costs 272 277 204 214 Pension costs 164 157 126 124

2,962 3,008 2,159 2,286

This includes Executive Directors’ emoluments totalling £229,944 (2012: £272,511). Details of Directors’ remuneration are set out on page 30.

(10) Directors’ emoluments Group & Society

2013 2012 £’000 £’000

Aggregate emoluments 353 422

Retirement benefits are accruing to one Executive Director as at 31 December 2013 (2012: two) under a defined benefit scheme. The aggregate amount of pension contributions made by the Society to a defined contribution scheme was £18,599 (2012: £22,500).

Group & Society

2013 2012 Highest paid Director £’000 £’000

Total emoluments and amounts receivable under long-term incentive schemes 183 151 Defined benefit scheme: Pension accrued during the year - 1 Defined contribution scheme: Contributions made by the Society 17 17 Chairman’s review

59

highlights Financial Notes to the accounts (Continued)

For the year ended 31 December 2013 Strategic report Strategic

(11) Taxation Group & Society 2013 2012 (a) Attributable to long term business £’000 £’000 Directors’ report Directors’ Tax charged in the long term business technical account comprises: Current tax UK corporation tax - 81 Prior year adjustments 21 (127) Total current tax 21 (46) Board report Board Deferred tax Origination and reversal of timing differences 78 (18) Total deferred tax 78 (18)

Total tax charged in the long term business technical account 99 (64) Audit committee committee Audit

Factors affecting current and future tax charges report The current year’s tax charge has been calculated under the new UK tax regime applicable to life insurance business from 1 January 2013. The fundamental changes included: • moving the basis of taxation for life insurance companies from a regulatory return basis to an accounts basis; • alt ering the basis on which investment income and gains are allocated to differing business types;

• changing the classification for tax purposes of protection business. Remuneration report The effect of the changes has also been taken into account in the calculation of deferred tax.

Group & Society Auditors’ report

2013 2012 Independent (b) Factors that may affect future tax charges £’000 £’000 The deferred tax assets which have not been recognised due to the uncertainty of their recoverability in the foreseeable future comprise: Realised capital losses 440 - Expenses deductible in future years 355 184 Unrealised capital losses - 188 statement Income

Undiscounted deferred tax asset balance 795 372

These deferred tax assets may be realised, and therefore reduce future tax payable, when net gains chargeable to corporation tax are realised or when there is sufficient taxable income with which to offset carried forward expenses and/or losses. This will therefore depend substantially upon future movements in the stock market and on future sheet Balance taxable income which cannot be predicted with certainty.

Group & Society 2013 2012

(c) Balance sheet £’000 £’000 losses and Gains The deferred tax balance included within other assets comprises: Unrelieved expenses carried forward - 81 Accelerated capital allowances 20 29 Deferred tax on Pension Scheme deficit - -

Undiscounted deferred tax asset balance 20 110 Notes to the to the Notes accounts 60 National Friendly Annual Report & Financial Statements 2013

Notes to the accounts (Continued) For the year ended 31 December 2013

(11) Taxation (Continued) Group & Society 2013 2012 (d) Reconciliation of deferred taxation balances £’000 £’000 Opening deferred tax asset 110 110 Charge to operating profit (78) 18 Charge to statement of total recognised gains and losses (12) (18)

20 110

(12) Intangible assets Group Goodwill Cost £’000

At 1 January 30 At 31 December 30

Amortisation At 1 January 24 Provided in the year 6

At 31 December 30

Net Book Value 31 December 2013 - 31 December 2012 6

(13) Investments Group & Society

2013 2013 2012 2012 Land and buildings £’000 £’000 £’000 £’000 Cost Valuation Cost Valuation

Freehold investment properties 17,658 17,002 20,008 16,716 Long leasehold properties 10,254 7,670 10,254 7,775

27,912 24,672 30,262 24,491

The Society’s properties are included at open market values. The properties have been valued by Mellersh and Harding LLP, Chartered Surveyors as at 31 December 2012. This valuation was carried out in accordance with the requirements of the Royal Institution of Chartered Surveyors’ Valuation - Professional Standards effective from 30 March 2012. The property valuations were adjusted at 31 December 2013 for the results of an annual review carried out by Mellersh and Harding, and reviewed by the Board to reflect fluctuations in the market values arising in 2013. Chairman’s review

61

highlights Financial Notes to the accounts (Continued)

For the year ended 31 December 2013 Strategic report Strategic

(14) Other financial investments Group Society

2013 2013 2012 2012 £’000 £’000 £’000 £’000 Cost Valuation Cost Valuation report Directors’

Listed fixed interest securities 86,138 84,003 90,324 91,551 Listed shares 13,529 19,954 15,458 18,750 Derivatives - 530 - 123 Deposits with credit institutions 4,917 4,917 6,241 6,241

Mortgages 190 190 205 205 report Board Freehold ground rent 8 79 8 71

104,782 109,673 112,236 116,941

Of the listed fixed interest securities £13,248,630 (2012: £11,378,716) relates to overseas fixed interest securities, committee Audit

with the remainder relating to UK fixed interest securities. report

Of the listed shares £1,709,779 (2012: £1,494,841) relates to overseas investments, with the remainder relating to UK investments.

Derivatives consist of forward contracts for foreign currency exchange to mitigate the risk of a change in foreign Remuneration currency exchange rates. The gain in the value of these contracts has been recognised through the income statement. report The contracts will mature in 2014.

Included within deposits with credit institutions is £547,946 (2012: £90,364) which relates to cash in a cash margin account which enables the Society to enter into the forward contracts. This amount is held with the clearing house for Auditors’ report the life of the contracts and is refunded if market movements mean that the contract is favourable and used to pay for Independent the liability if it is adverse.

The Directors have the opinion that the carrying value of the investments is supported by their net underlying assets. Income statement Income Balance sheet Balance Gains and losses and Gains Notes to the to the Notes accounts 62 National Friendly Annual Report & Financial Statements 2013

Notes to the accounts (Continued) For the year ended 31 December 2013

(15) Financial assets Society

2013 2013 2012 2012 £’000 £’000 £’000 £’000 Notes Cost Valuation Cost Valuation

Financial assets at fair value through profit and loss Designated upon initial recognition 107,110 113,094 116,497 121,869 107,110 113,094 116,497 121,869 Loans and receivables 2,883 2,883 3,539 3,539

Total financial assets 109,993 115,977 120,036 125,408

Included in the balance sheet as: Listed fixed interest securities 86,138 84,003 90,324 91,551 Listed shares 13,529 19,954 15,458 18,750 Derivatives - 530 - 123 Deposits with credit institutions 4,917 4,917 6,241 6,241 Mortgages 190 190 205 205 Freehold ground rent 8 79 8 71 Other financial investments 14 104,782 109,673 112,236 116,941 Assets held to cover linked liabilities 17 2,359 3,183 2,290 2,607 Reinsurers’ share of technical provisions - 269 - 350 Debtors arising from direct insurance operations 254 254 226 226 Other debtors 1,579 1,579 2,152 2,152 Cash at bank and in hand 159 159 2,176 2,176 Accrued interest and rent 715 715 721 721 Other prepayments and accrued income 145 145 235 235

Total financial assets 109,993 115,977 120,036 125,408

For the Group as above except debtors arising from direct insurance operations were £293,000 (2012: £305,000), other debtors were £1,548,000 (2012: £1,843,000), cash at bank and in hand was £186,000 (2012: £2,449,000) and other prepayments and accrued income were £171,000 (2012: £245,000). Total Group financial assets cost £110,554,000 (2012: £120,089,000) with a market value of £116,538,000 (2012: £125,461,000). Loans and receivables are carried in the balance sheet at amortised cost. Their fair values are not materially different from the values shown above. Chairman’s review

63

highlights Financial Notes to the accounts (Continued)

For the year ended 31 December 2013 Strategic report Strategic

(16) Financial Liabilities Society

2013 2013 2012 2012 £’000 £’000 £’000 £’000 Directors’ report Directors’ Cost Valuation Cost Valuation

Financial liabilities at fair value through profit and loss Designated upon initial recognition - 132 - 7 Other financial liabilities at amortised cost 2,909 2,909 3,012 3,012

Total financial liabilities 2,909 3,041 3,012 3,019 Board report Board

Included in the balance sheet as: Derivatives - 132 - 7 Investment contract liabilities 451 451 800 800

Investment contract liabilities on linked liability fund 375 375 338 338 committee Audit

Arising out of direct insurance operations 49 49 49 49 report Other creditors including taxation and social security 636 636 289 289 Accruals and deferred income 1,398 1,398 1,536 1,536

Total financial liabilities 2,909 3,041 3,012 3,019 Remuneration report

For the Group as above except for other creditors including taxation and social security were £661,000 (2012: £351,000) and accruals and deferred income were £1,455,000 (2012: £1,656,000). Total Group financial liabilities have a cost of £2,990,000 (2012: £3,194,000) with a market value of £3,122,000 (2012: £3,201,000). Auditors’ report

Derivatives consist of forward contracts for foreign currency exchange to mitigate the risk of a change in foreign Independent currency exchange rates. The loss in the value of these contracts has been recognised through the income statement forming a natural hedge. Other financial liabilities are carried in the balance sheet at amortised cost. Their fair values are not materially different from the values shown above. Income statement Income Balance sheet Balance Gains and losses and Gains Notes to the to the Notes accounts 64 National Friendly Annual Report & Financial Statements 2013

Notes to the accounts (Continued) For the year ended 31 December 2013

(17) Assets held to cover linked liability Group & Society

2013 2013 2012 2012 £’000 £’000 £’000 £’000 Cost Valuation Cost Valuation

Assets held to cover unit linked insurance contracts 1,859 2,509 1,858 2,115 Assets held to cover unit linked investment contracts 500 674 432 492

2,359 3,183 2,290 2,607

Included within assets held to cover linked liabilities is £1,412,840 (2012: £817,914) representing units not yet purchased by policyholders.

An analysis of total financial assets, including assets held to cover linked liabilities is provided in Note 15 ‘Financial assets’.

(18) Tangible assets

Group

Computer Office Assets under Total Equipment Equipment Construction £’000 Cost £’000 £’000 £’000 At 1 January 489 268 - 757 Additions 6 - 762 768 Disposals (346) (104) - (450)

At 31 December 149 164 762 1,075 Depreciation At 1 January 379 205 - 584 Provided in the year 62 32 - 94 Disposals (332) (103) - (435)

At 31 December 109 134 - 243

Net Book Value 31 December 2013 40 30 762 832

31 December 2012 110 63 - 173 Chairman’s review

65

highlights Financial Notes to the accounts (Continued)

For the year ended 31 December 2013 Strategic report Strategic

(18) Tangible assets (Continued) Society

Computer Office Assets under Total Equipment Equipment Construction £’000 report Directors’ Cost £’000 £’000 £’000

At 1 January 348 183 - 531 Additions 6 - 762 768 Disposals (205) (19) - (224) At 31 December 149 164 762 1,075 Board report Board Depreciation At 1 January 264 136 - 400 Provided in the year 36 16 - 52 Disposals (191) (18) - (209)

At 31 December 109 134 - 243 committee Audit report Net Book Value 31 December 2013 40 30 762 832

31 December 2012 84 47 - 131 Remuneration report

(19) Capital commitments Auditors’ report Independent Amounts authorised and contracted for at 31 December 2013 £210,000 (2012: £nil). Income statement Income Balance sheet Balance Gains and losses and Gains Notes to the to the Notes accounts 66 National Friendly Annual Report & Financial Statements 2013

Notes to the accounts (Continued) For the year ended 31 December 2013

(20) Long term business provision

The long term business provision has been calculated on the basis of the following principal assumptions:

Rates of interest 2013 valuation assumptions 2012 valuation assumptions Old deposit contracts 3.00% per annum. 2.09% per annum. Healthcare and Healthguard contracts 3.20% per annum. 2.29% per annum. Other PHI contracts 3.17% 2.22% 2.49% per annum for tax exempt policies 1.86% per annum for tax exempt policies With profits life assurance policies and 1.99% per annum for taxable policies. and 1.49% per annum for taxable policies. Not applicable since the basic reserve Not applicable since the basic reserve With profits bonds and investment ISAs is equal to current death benefits. is equal to current death benefits. 3.83% per annum before vesting 2.73% per annum before vesting With profits personal pensions and and 1.70% per annum after vesting and 0.65% per annum after vesting retirement annuities (for retirement annuities). (for retirement annuities). 3.17% per annum for tax exempt policies, 2.22% per annum for tax exempt policies, Other non-profit business 2.54% for taxable policies and 0.47% for 1.78% for taxable policies and 0.12% for short term non-profit bonds. short term non-profit bonds.

Rates of mortality 2013 valuation assumptions 2012 valuation assumptions 27% of the AMN00 and 32% of the AFN00 26% of the AMN00 and 31% of the AFN00 DBO contracts ultimate table for assured lives (assumed to ultimate table for assured lives (assumed to be transferred to suspense at age 100). be transferred to suspense at age 100). 86% of the AMN00 and 97% of the ultimate 81% of the AMN00 and 91% of the ultimate Deposit (non-DBO) contracts table for assured lives. table for assured lives. 86% of the AMN00 and 97% of the ultimate 81% of the AMN00 and 91% of the ultimate Healthcare contracts table for assured lives. table for assured lives. PHI deferred sickness claims in payment Nil. Nil. 73% of the AMN00 ultimate table for 75% of the AMN00 ultimate table for Other PHI contracts assured lives. assured lives. Table provided by reinsurer combining Table provided by reinsurer combining Critical illness policies mortality and sickness rates. mortality and sickness rates. 140% of the AMN00 ultimate table for 145% of the AMN00 ultimate table for 50+ life plan policies non-smokers or 140% of the AMS00 non-smokers or 145% of the AMS00 ultimate table for smokers. ultimate table for smokers. 75% of the AMN00 ultimate table for 77% of the AMN00 ultimate table for assured Other life assurance policies assured lives of 93% of the AMS00 ultimate lives of 97% of the AMS00 ultimate table for table for smokers. smokers.

Rates of morbidity 2013 valuation assumptions 2012 valuation assumptions Morbidity assumptions are based upon the Morbidity assumptions are based upon the Healthcare & Healthguard contracts Society's actual experience plus a margin Society's actual experience plus a margin for prudence. for prudence.

Lapses 2013 valuation assumptions 2012 valuation assumptions Lapse assumptions are based upon the Lapse assumptions are based upon the All policies Society's actual experience less a margin Society's actual experience less a margin for prudence. for prudence.

Full details of the method and assumptions used in calculating the long term business provision are given in the Society’s PRA return. Chairman’s review

67

highlights Financial Notes to the accounts (Continued)

For the year ended 31 December 2013 Strategic report Strategic

(21) Pensions

National Deposit Staff Superannuation Fund The Fund is a defined benefit arrangement which provides retirement benefits based on final pensionable salary.

The Fund was closed to new entrants and future accrual from 31 May 2009. report Directors’

The valuation used for FRS17 disclosures has been based on a full assessment of the liabilities of the Fund. The last valuation was performed as at 31 December 2010. The present values of the defined benefit obligation and any past service cost (if applicable) were measured using the projected unit method.

Society report Board

2013 2012 The amounts recognised in the balance sheet on closure are as follows: £’000 £’000 Fair value of fund assets 18,802 19,096 Present value of funded obligations (18,779) (19,083) Audit committee committee Audit 23 13 report

Asset recognised on the balance sheet 23 13 Net pension asset 23 13

Amounts in balance sheet Remuneration

Assets 23 13 report Liabilities - - Net pension asset 23 13

Auditors’ report Society Independent

2013 2012 The amounts recognised in income statement are as follows: £’000 £’000 Interest on obligation 783 880

Expected return on fund assets (704) (671) statement Income Past service costs - - Expense recognised in income statement 79 209

Actual return on fund assets 79 1,440 Balance sheet Balance Society Changes in the present value of the defined obligation are as follows: 2013 2012 £’000 £’000 Opening defined benefit obligation 19,083 19,183

Interest cost 783 880 losses and Gains Actuarial losses 231 (51) Past service costs - - Benefits paid (1,318) (929)

Closing defined benefit obligation 18,779 19,083 Notes to the to the Notes accounts 68 National Friendly Annual Report & Financial Statements 2013

Notes to the accounts (Continued) For the year ended 31 December 2013

(21) Pensions (Continued) Society

2013 2012 £’000 £’000 Opening fair value of fund assets 19,096 18,483 Expected return 704 671 Actuarial gains 129 726 Contributions by employer 191 144 Benefits paid (1,318) (928)

Closing fair value of fund assets 18,802 19,096

Analysis of amounts recognised in statement of total recognised gains and losses (STRGL) Total actuarial (losses)/gains (102) 778

Total (loss)/gain in STRGL (102) 778

Cumulative amount of loss recognised in STRGL (5,720) (5,618)

The Employer expects to contribute £191,000 to the Fund from 1 January 2014 to 31 December 2014.

Society The major categories of fund assets as a percentage of the total fund assets 2013 2012 are as follows: % % Equities 27 25 Gilts - 12 Corporate bonds 37 37 Index linked bonds 13 6 Property 13 12 Cash 10 8 Chairman’s review

69

highlights Financial Notes to the accounts (Continued)

For the year ended 31 December 2013 Strategic report Strategic

(21) Pensions (Continued)

Principal actuarial assumptions at the balance sheet date (expressed as weighted averages (where applicable)). Directors’ report Directors’ Society

2013 2012 %pa %pa Discount rate at 31 December 4.6 4.2 Expected return on fund assets at 31 December (for following year) 4.9 4.3 Board report Board Rate of increase in pensionable salaries 3.6 2.9 Rate of increase in deferred pensions 2.5 1.75 Rate of increase in pensions in payment – service pre 06/04/2005 3.2 2.6 Rate of increase in pensions in payment – service post 06/04/2005 2.1 1.9

Mortality assumptions committee Audit

The mortality assumptions are based on standard mortality tables which allow for future mortality improvements. report The assumptions are that a member aged 65 will live on average until age 88 if they are male and until 90 if female. For a member currently aged 50 the assumptions are that if they attain age 65 they will live on average until age 89 if they are male and until 91 if female.

Description of the basis used to determine the expected rate of return Remuneration

The employer adopts a building block approach in determining the expected rate of return on the fund’s assets. report Historic markets are studied and assets with high volatility are assumed to generate higher returns consistent with widely accepted capital market principles. Each different asset class is given a different expected rate of return. The overall rate of return is then derived by aggregating the expected return for each asset class over the actual asset allocation for the fund at the year end. Auditors’ report Independent Employee benefit obligations for National Deposit Friendly Society Limited Amounts for the current and previous years are as follows: Income statement Income 2013 2012 2011 2010 2009 £’000 £’000 £’000 £’000 £’000 Defined benefit obligation 18,779 19,083 19,183 18,203 18,098 Fund assets 18,802 19,096 18,483 18,203 18,019 Surplus/(deficit) 23 13 (700) - (79)

Experience gains/(losses) on fund assets 129 726 230 233 1,489 sheet Balance Experience gains/(losses) on fund liabilities (128) 280 (471) 319 525 Change in assumptions underlying the present value of fund liabilities (103) (229) (941) (473) (4,225) Experience gain/(losses) on fund liabilities (231) 51 (1,412) (154) (3,700) Gains and losses and Gains Defined contribution scheme The contributions to the defined contribution scheme in the year amounts to £125,928 (2012: £123,600). Notes to the to the Notes accounts 70 National Friendly Annual Report & Financial Statements 2013

Notes to the accounts (Continued) For the year ended 31 December 2013

(22) Technical provisions for linked liabilities

Group & Society

Insurance Contracts Investment Contracts Total

2013 2012 2013 2012 2013 2012 £’000 £’000 £’000 £’000 £’000 £’000 At 1 January 1,452 1,306 338 304 1,790 1,610 Payments made to policy holders of investment contracts - - (50) (6) (50) (6) Change in technical provision as shown in the income statement (57) 146 87 40 30 186

At 31 December 1,395 1,452 375 338 1,770 1,790

All movements in unit-linked insurance contracts, other than acquisitions and disposals, including premium receipts and claims payments, are recorded in the Income Statement.

(23) Assets attributable to the long term business fund Other than assets of £3,183,430 (2012: £2,607,192) used to match linked liabilities all of the assets shown on page 38 are attributable to the long term business fund.

(24) Operating lease commitments The Society leases various motor vehicles and office equipment under cancellable operating lease agreements. The lease terms are for up to five years, with penalty for early cancellation.

The future aggregate minimum lease payments under cancellable operating leases are as follows:

Society

Plant & Machinery Other

2013 2012 2013 2012 £’000 £’000 £’000 £’000

No later than 1 year - - 1 - Later than 1 year and no later than 3 years 20 - 10 21 Greater than 3 years - 20 - - Total 20 20 11 21 Chairman’s review

71

highlights Financial Notes to the accounts (Continued)

For the year ended 31 December 2013 Strategic report Strategic

(25) Subsidiary undertakings The ultimate parent undertaking and controlling party is National Deposit Friendly Society, a Friendly Society incorporated in the UK.

The Society has two wholly owned subsidiary companies incorporated in the United Kingdom: 425 Direct Limited and report Directors’ ND Member Services Limited.

During the year additional capital of £525,000 (2012: £300,000) was provided to 425 Direct Limited. 425 Direct Limited operates a call centre giving financial advice. 425 Direct Limited is held by the Society at a value of £21,000 (2012: £39,000) after an impairment charge of £543,000 (2012: £535,000). Board report Board ND Member Services Limited is dormant and held in the Society at a value of £1 at 31 December 2013 (2012: £1) which represents the net realisable value of its assets.

The results of all subsidiaries for the year ended 31 December 2013 have been consolidated into the Group financial statements. Audit committee committee Audit report (26) Related party transactions 425 Direct Limited was charged £430,291 (2012: £385,781) by the Society in respect of service charges.

As at 31 December 2013, 425 Direct Limited was owed £9,809 by the Society (2012: owed £189,828 to the

Society) and ND Member Services Limited owed the Society a net amount of £42,844 (2012: £42,844). Remuneration report Tracy Morshead, a non-executive Director, provided consultancy services to the Society beyond the scope of the contractual duties of a non-executive Director to the value of £14,819 (2012: £nil). These services were provided on normal commercial terms. Auditors’ report Independent (27) Derivatives Included within assets are forward currency contracts with a fair value of £13,337,000 (2012: £11,102,000) that cost £13,070,000 (2012: £10,989,000). These are used to manage the exchange rate risk arising from investments in non-sterling denominated bonds. Cash flows under these contracts are dependent on exchange rates at the dates

on which the contracts mature. Movements in fair value arise due to variations in exchange rate and are reflected in statement Income the income statement. Fair value gains included in the income statement for 2013 in relation to the forward currency contracts amounted to £267,000 (2012: £120,000).

Bond future contracts with a fair value of £16,867,000 (2012: £2,259,000) and a cost of £16,735,000 (2012: £2,256,000) was also held to manage the duration of the fixed interest portfolio. Fair value gains for the year of £131,000 (2012: £3,000) are included in the income statement in respect of bond future contracts. Balance sheet Balance Gains and losses and Gains Notes to the to the Notes accounts 72 National Friendly Annual Report & Financial Statements 2013

Notes to the accounts (Continued) For the year ended 31 December 2013

(27) Derivatives (Continued)

The details of the contracts are outlined below: Group & Society

Contract Amount Amount Unrealised value receivable payable gain/(loss) Contracts held at 31 December 2013 £’000 £’000 £’000 £’000 Australian dollar contracts 15 Nov 2013 – 21 Feb 2014 179 179 167 12

Euro contracts 15 Nov 2013 – 21 Feb 2014 1,026 1,026 1,020 6 15 Nov 2013 – 21 Feb 2014 1,169 1,169 1,162 7

US Dollar contracts 15 Nov 2013 – 21 Feb 2014 4,916 4,916 4,770 146 15 Nov 2013 – 21 Feb 2014 88 88 87 1 15 Nov 2013 – 21 Feb 2014 1,795 1,795 1,742 53 11 Dec 2013 – 21 Feb 2014 4,109 4,109 4,068 41 13 Dec 2013 – 21 Feb 2014 55 55 54 1

Total forward currency contracts 13,337 13,337 13,070 267

Euro bond futures Eurex Deutschland Future Mar 14 464 464 459 5 Euro Buxl 30 Y Future Mar 14 304 304 300 4

UK pound bond futures Long gilt future Mar 14 1,812 1,812 1,848 (36) Long gilt future Mar 14 6,287 6,287 6,383 (96)

US Dollar bond futures US 10yr note future Mar14 1,040 1,040 994 46 US long bond future Mar14 1,085 1,085 1,040 45 US ultra (CBT) future Mar14 2,139 2,139 2,055 84 US 5yr note future Mar14 727 727 714 13 US long bond future Mar14 1,256 1,256 1,229 27 US ultra (CBT) future Mar14 1,753 1,752 1,713 39 Total bond futures 16,867 16,866 16,735 131

Total derivatives 30,204 30,203 29,805 398

Included in: Notes Financial assets 15 530 Financial liabilities 16 (132) 398 Chairman’s review

73

highlights Financial Notes to the accounts (Continued)

For the year ended 31 December 2013 Strategic report Strategic

(27) Derivatives (Continued)

The details of the contracts are outlined below: Group & Society Directors’ report Directors’ Contract Amount Amount Unrealised value receivable payable gain/(loss) Contracts held at 31 December 2012 £’000 £’000 £’000 £’000 Euro contracts 21 Nov 2012 – 20 Feb 2013 563 563 568 (5)

28 Nov 2012 – 20 Feb 2013 530 530 532 (2) report Board 3 Dec 2012 – 20 Feb 2013 2,065 2,065 2,062 3

US Dollar contracts 21 Nov 2012 – 20 Feb 2013 1,978 1,978 1,938 40 28 Nov 2012 – 20 Feb 2013 1,207 1,207 1,187 20 Audit committee committee Audit 3 Dec 2012 – 20 Feb 2013 4,759 4,759 4,702 57 report Total forward currency contracts 11,102 11,102 10,989 113

Gilt future 2,259 2,259 2,256 3 13,361 13,361 13,245 116 Remuneration

Included in: Notes report Financial assets 15 123 Financial liabilities 16 (7)

116 Auditors’ report Independent Income statement Income Balance sheet Balance Gains and losses and Gains Notes to the to the Notes accounts 74 National Friendly Annual Report & Financial Statements 2013

Notes

For further information or to request a copy in Braille, large print or audio please call us on:

0800 195 9245 (8am-6pm weekends) or visit us at www.nationalfriendly.co.uk

Registered office: 4-5 Worcester Road, Clifton, Bristol BS8 3JL. Tel: 0117 973 9003 Email: [email protected] National Friendly is that trading name of National Deposit Friendly Society Limited. Incorporated and registered Friendly Society no. 369F. Authorised by the Prudential Regulation Authority and regulated by the Financial Conduct Authority and the Prudential Regulation Authority. Annual Report and Financial Statements published: June 2014