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July 21 (Reuters) - (The following statement was released by the rating agency)
Fitch Ratings has affirmed Friends Life Holdings plc’s (FLH) Long-term Issuer Default Rating (IDR) at ‘A-’ and its main operating company, Friends Life Limited’s (FLL) Insurer Financial Strength (IFS) rating at ‘A+'. The Outlook is Stable. A full list of rating actions is at the end of this comment.
FLH’s large market position and scale is its main positive rating driver. The group has a strong brand in the UK life and pensions market, where it is number two in corporate pensions, and a top-four position in the income protection and life assurance market. The group also has international savings, protection and high-net-worth businesses, accounting for around a third of its underlying profits. FLH is large, with assets of GBP130bn, equity of GBP5.4bn and five million customers (end-2013).
FLH’s main negative rating driver is weak profitability. This reflects its relatively low-margin business mix and the time lag before profitability will fully reflect cost savings from the integration into FLH of the AXA UK life business acquired in 2010.
However, the integration and cost reduction programme are on track and, crucially, unanticipated costs seem to have reduced as the programme nears completion. This leads Fitch to expect improvement in FLH’s profitability in 2014-2015 and a commensurate improvement in fixed-charge coverage, which is also weak for the rating level. The agency expects FLH’s underlying return on assets (ROA) to improve to around 0.3% in 2014-2015 from 0.24% in 2013, and fixed-charge coverage to improve to over 3x in 2014-2015 from 2.8x in 2013.
The group’s capital position is strong for the rating level, according to Fitch’s analysis and the regulatory solvency ratio (end-2013: 238%, calculated at the level of FLH’s parent, Friends Life Group Limited (FLG)). Importantly, the capital position is resilient to financial market conditions. A 40% fall in equity markets together with a 30% fall in property markets would reduce FLG’s regulatory capital surplus by only GBP0.2bn from its end-2013 level of GBP2.2bn, a 200bp increase in credit spreads would lead to only a GBP0.6bn reduction, and a 200bp decrease of interest rates would cause only a GBP0.2bn fall.
FLH’s financial leverage on Fitch’s calculation basis was 19% at end-2013. This is commensurate with the ratings and favourable relative to many large UK and European life insurers.
On 11 July 2014, FLG announced the sale of Lombard, the group’s high-net-worth financial solutions arm operating mainly in Europe, to Blackstone for EUR399m, subject to regulatory approvals. The decision to sell Lombard was driven by the lack of strategic and operational synergies between Lombard and the rest of the group. FLG intends to return the upfront cash element of the proceeds, GBP261m, to its shareholders via a share buyback programme. The disposal will have only a marginal effect on FLG and FLH’s main credit metrics.
An upgrade is unlikely in the near to medium term because FLH’s profitability and operating scale are unlikely to become comparable with those of ‘AA’ range peers.
The ratings may be downgraded if FLH incurs further material unexpected costs, its underlying ROA falls below 0.2% or its fixed-charge coverage remains below 3x over a sustained period.
The rating actions are as follows:
Friends Life Holdings plc: Long-Term IDR affirmed at ‘A-'; Outlook Stable
Friends Life Limited: IFS affirmed at ‘A+'; Outlook Stable
Subordinated debt of FLH, guaranteed by FLL:
XS0181161380: affirmed at ‘BBB+’
XS0222395468: affirmed at ‘BBB+’
XS0430178961: affirmed at ‘A-’
XS0620022128: affirmed at ‘BBB+’
XS0851688860: affirmed at ‘BBB+'