Governance of Mutuals Graham Berville Senior Independent Advisor BDO LLP Implications From The FSA’s With-Profits Review

ABOUT BDO 100+ Financial Services specialists within our UK practice 5 th largest accountancy and professional services organisation in the world $5.0bn fee income 46,035 partners and staff world wide 1,138 offices 115 countries Risk Management, Governance, Regulation, Internal Audit, Strategic Consulting. Senior and sector experienced individuals, including ex-CEO’s from the Mutual sector). Work with clients based on ability to support their business objectives, not size of the firm. Clients include major firms, mid-sized firms and start-ups, as well as the FSA.

AGENDA 1.Background and context 2.FSA with profits review 3.How are mutuals performing? 4.Key areas that Boards need to consider 5.What are the impediments to good governance 6.Discussion and questions

1. BACKGROUND AND CONTEXT Annotated Combined Code in place. Some evidence of improvements – but still many ‘explains’. Lack of buy in to Project Chrysalis indicates FSA’s underlying attitude to Mutual sector. FSA currently recruiting senior advisor from the Mutual sector. Solvency 2 presents significant challenges for sector.

2. FSA WITH-PROFITS REVIEW 1.Main areas of concern: Governance and policyholder communication 2.Weaknesses in relation to COBS Chapter 20. Principle 6 Customers Interests. Principle 7 Communication & Principle 8 Conflicts of Interest. Key findings

FSA WITH PROFITS REVIEW “The findings were particularly disappointing in light of our previous communications to the sector.” “We are intervening now and taking strong action with firms at risk of breaching our requirements.” (FSA June 2010)

FSA WITH PROFITS REVIEW 1.Appropriately skilled and knowledgeable individuals on the Board with right balance of independence 2.Sound Governance structures 3.The right information at the right time What is required?

FSA WITH PROFITS REVIEW Governance: Policyholder interests protected and taken into account. Communication: Current and potential policyholders provided with comprehensive, timely and clear information to allow a view on risk and reward balance of policy. Expenses: Costs charged to policyholders the costs incurred in running the fund. New Business: Terms for writing new business do not make existing policyholders materially worse off. Payouts: Fair, and policy conditions such as MVR’s applied fairly and proportionately. Investments: Appropriate to the fund and do not prevent policyholders from receiving fair payouts. Capital: Clearly identified in terms of ownership and used appropriately by management. Asset share methodology: Robust, with clearly laid down and agreed processes for smoothing etc. What the FSA expects to see

3. HOW ARE MUTUALS PERFORMING? Key findings: Only one firm had a With Profits Committee, rest relying on With Profits Actuary. One Firm had more Execs on Board than Non Execs. One Chairman formerly Exec Director and on Board since In one firm, 3 of 4 Non Execs have served for more than 9 years. A Chairman has served on Board since A Chairman is a full time employee with another organisation. A Chairman appointed in 2009 having served on Board since One firm did not detail the appointment dates of any Board members. 3 firms had a majority of ‘lay’ Non Execs. In 5 firms, majority of Board members also policyholders and members. Desk research based on 2009 Report and Accounts 10 Mutuals including 5 large firms

KEY GOVERNANCE AREAS FOR BOARDS TO CONSIDER 1.Are policyholders’ interests properly protected? 2.Is the With Profits Committee/ With Profits Actuary sufficiently independent and challenging of executive management? 3.Do the With Profits Committee engage with policyholders to explain decisions? 4.Do the With Profits Committee receive sufficient and the right MI? 5.Are conflicts of interest identified and managed effectively? 6.Are there gaps in the role, function and effectiveness of control functions?

5. IMPEDIMENTS TO GOOD GOVERNANCE Cost (particularly for small firms) Complacency Lack of Board renewal Difficult for new Non Execs to challenge the status quo But... The penalties can be severe The FSA have made their position clear There are many examples of poor practice in the Mutual sector An unnecessary own goal?

6. DISCUSSION AND QUESTIONS

FOR MORE INFORMATION Graham Berville Senior Independent Advisor Direct phone: Tim Kirk Partner, Head of Financial Services Advisory Practice Direct phone: © 2010 BDO LLP. All Rights Reserved. BDO LLP, 55 Baker Street, London, W1U 7EU