Aviva Management Discusses Nine Months 2012 Results - Interim Management Statement Call Transcript

Nov. 8.12 | About: Aviva plc (AV)

Aviva (NYSE:AV)

Nine Months 2012 Interim Management Statement Call

November 08, 2012 4:30 am ET

Executives

John McFarlane - Executive Chairman

Patrick C. Regan - Chief Financial Officer, Finance Director, Director and Chairman of Disclosure Committee

Robin Spencer - Chief Executive of Uk & Ireland General Insurance

David Barral - Chief Executive Officer of UK & Ireland Life Insurance

David McMillan - Director of Group Transformation

Analysts

Andrew Hughes - Exane BNP Paribas, Research Division

Andrew Crean - Autonomous Research LLP

James Pearce - UBS Investment Bank, Research Division

Blair Stewart - BofA Merrill Lynch, Research Division

Oliver Steel - Deutsche Bank AG, Research Division

Greig N. Paterson - Keefe, Bruyette, & Woods, Inc., Research Division

Christopher J. Esson - Crédit Suisse AG, Research Division

Nick Holmes - Nomura Securities Co. Ltd., Research Division

Jon Hocking - Morgan Stanley, Research Division

Paul De'Ath - RBC Capital Markets, LLC, Research Division

Operator

Good day, and welcome to the Aviva Q3 Interim Management Statement 9 months to September 30, 2012 Conference Call. Today's conference is being recorded. At this time, I would like to turn the conference over to Mr. John McFarlane, Executive Chairman. Please go ahead.

John McFarlane

Good morning, everyone, and thanks for joining us. And I've got Pat Regan, our Financial Officer, with me here. And we put this release. essentially to give you an update on Q3, which is pretty much business as usual from my standpoint. So I will let Pat take you through that.

I think -- I've actually expanded the Q3 update just -- because I'm sure a lot of questions in people's minds as to what progress are we making on the various initiatives. And I think it's important to stand back and see what are we trying to do here. But clearly, over a number of years, Aviva has got itself into a position where whilst some very attractive things with a -- and a very strong brand, we've actually systematically dragged down the value of the organization by having businesses that produce sub-economic returns and by inefficiencies inside the organization. And so it's become necessary to draw a line on that, and then put in a program that will actually transform into an add.

And essentially, there were 4 major things that I put in the release that I was focusing on. I mean, the first, of course, is to appoint a high-quality CEO. Now part of the problem here is that everybody's expectation is at 11:05 today, I'm going to make an announcement. We'll I can assure you that isn't going to happen. But as of this week, we were still interviewing external and internal candidates. We have completed an independent report on the man. We're also doing checkings. We're also doing consultation with regulators. And so that process has to complete before we came make an announcement. But we're actually in good shape and on track and, certainly, in line with the timetable that we set out as a board. So I'm very happy with where we're heading there.

The main objectives financially was the concern over the company's capital level and volatility of the balance sheet. And obviously, we're working on taking the risk down and building the capital up. And again, we're making very good progress in that with an economic capital levels in IGD rising since the beginning of the year.

And in fact, we've also put in the release something about the noncore disposals, highlighting the U.S. The important thing about that to understand is that it is a noncore business. It's not a business that we should continue with, given the target returns that we're looking for. But actually, the benefit to us is considerable from a capital standpoint, which, again, is our #1 financial priority. And in executing that, if we can, at the levels we are currently working with. It will bring us at or close to a minimum target capital, economic capital ratios. So it actually sort of kills 2 birds with one stone. As with respect to the other disposals, they're -- they tend to be individual markets. They're quite long in gestation. We will dispose of them all. They'll be at prices, which are perfectly acceptable, and we estimate that, on average, we will be able to do that around book value and probably better.

And then finally, that -- and one of the problems that we have is that we're dealing with a very, very complex transformational program here. Given the entrenched nature of some of the culture and values that Aviva -- and also that some of the analysis of business has not given us the real signals as to what we should be doing. And so we put in this very comprehensive transformation program, and I'm given you a complete rundown on all the things we're working on just to give you a sense of it.

The one thing I'm -- it's probably making the biggest difference is when we get to the sub-analysis of the individual business cells, we're finding, at the micro level, areas of strength. But we're also finding areas, even within good businesses, where we're burning return and producing negative returns. And so this analysis in and of itself will be self-correcting and will cause us to -- either to improve revenues within the segments, to reduce costs, to manage losses more effectively or to withdraw capital or it may cause us and, in fact, to increase the investment in capital and expense in businesses with very high opportunity that actually we've been under-investing in. So it's actually, probably the most productive and sharp end nature of the program we're running. And it's the bit that we're wrestling to the ground quickly. And of course, we are actually building the results of that into our 2013 and 2014 plans as quite hard numbers. And so -- and that is going really quite well.

Now all of that said, getting to this hasn't been completely straightforward, given the nature of the company that we're dealing with. Sometimes it's been a bit frustrating, but actually, as we work through it, we actually breaking it and getting to where we need to do. And I'm actually really quite happy with where we've reached.

So in that note, I'd like to pass you to Pat, who will take you through the result.

Patrick C. Regan

Thanks, John, and good morning to everybody. On the Q3 results, first, obviously, the economic backdrop continues to be challenging, both in terms of consumer demands, but also obviously the low interest rate environment. Nonetheless, the operating profit is broadly -- trend is broadly in line with the one we saw at the half year.

On capital generation, capital generation is GBP 100 million better in the first 9 months than at this time last year and is over GBP 200 million higher if you adjusted the disposals of the RAC and Delta Lloyd. Most of that improvement has come from a combination of continued lower capital usage, better capital allocation across the life businesses and higher in-force generation.

Particular progress had been made in U.K. life, where, again, we've decreased capital usage, principally from writing lower bulk purchase annuities and lower guaranteed bond sales and also increasing capital generation from the back book. Italy has now returned to positive capital generation with the action we've taken to reduce new business guarantees, and France and Canada to continue to be reliable and good generators of capital.

As John noted, we continue to make good progress on proving capital allocation, particular between the 58 cells but there's still more to do. What we're doing now is taking the capital allocation down to the next level with subsale analysis. So an individual cell, 1 of the 58, might have 10 or 11 subsales within it, and we differentiate on our capital allocation within those subsales. Now all of that means we're putting, clearly, value over volume, particularly on the life business. And when combined with market conditions, that means, overall, long-term saving cells that add about 6% in the first 9 months of the year to just over GBP 22 billion. Life new business profitability is ahead of our target with IRRs at just under 14%.

U.K. continues to perform well. Protection sales is up 23%, individual annuities' up 11% and the group personal pensions, important for our auto enrollment, up 15%. We targeted a reduction bulk purchase annuities and guaranteed bond sales, and overall, that meant the U.K. sales were level and its deliberate shift in mix is in the IRRs increase from 15% to 16% this year. U.K. life business business remains one of the key strengths of Aviva. And we're confident that the continued growth in those targeted areas of annuities, protection and group pensions will provide a strong platform for the future.

Given our focus on capital allocation and a subdued demand in savings products, we have seen a fall in new business in mainland Europe. We've actively work to increase prices and reduce guaranteed levels in France, Italy and Ireland. And on the back of that, with-profit sales in Italy now 36% this year on the back of a 47% decrease last year. Our focus also remains on the effective management of the in-force books in each of these markets and maintaining retention levels to ensure that operating earnings remain resilient.

In the U.S., we've repriced annuity products a number of times this year and the lag impact of that you now see on the new business sales in the third quarter. And in the emerging markets, overall, it's flat with a 20% increase in Singapore, offset by lower sales in Poland due to the regulatory changes there.

Turning on to general insurance, where premium is actually steady at GBP 6.7 billion and the combined ratio at 96.7%, slightly down on the half year due to higher weather claims in the third quarter.

The personal motor market is our strongest and most profitable area in both the U.K. and Canada. In the U.K., personal motor sales were up 8% for the year, after adjusting for the RAC impact, and we now have over 250,000 new customers this year and over 2.5 million personal motor policies in the U.K. Personal motor rating is slightly softer now, but obviously this follows the big increases over last 2 or 3 years and the profitability of that book remains good.

Our U.K. commercial business, motor rates increased by 6%. The Delta lines is less -- commercial lines, it is less positive, and we've been more selective about the business we're writing there. The combination of good risk selection, rating increases across control means we've increased U.K. combined ratio comes in at 97%.

In Canada, sales were up 5% to GBP 1.6 billion, and there's been a good increase in -- and in return, combined ratio turned 93% this year from 96% last year. And again, this is due to a range of actions of both retention, rating, underwriting and underlying growth in the customer base.

Finally then, on to the net asset value, the MCEV net asset value increased to GBP 4.46p, up 25p compared to the half year. And then the IFRS net asset value is GBP 3.97 per share, in line with the half year, with the increase in operating profits offset by movements in pension scheme due to a lower discount rate.

Just talk briefly about strategic progress. Building our financial strength remains the single-most important priority for the group. Through the same, we've seen capital levels increased since the half year. At the end of October, our estimated economic capital surplus is GBP 5.3 billion, it's a ratio of 146%, up GBP 800 million since the half year and up GBP 1.7 billion since last year end. Similarly, the IGD solvency surplus is now GBP 3.7 billion or a ratio of 167%, up GBP 1.5 billion since the end of last year. The increases were due to a combination of both improving market conditions, but also the actions we've taken through the year.

In the third quarter, we've reduced our holding in Delta Lloyd, have done some further work to derisk the pension funds and we've extended our equity hedging program as well. We've also sold down roughly EUR 1 billion more of Italian sovereign debt in the third quarter, bringing the total we sold down this year to nearly EUR 3 billion. Now the sell-down has been offset partially by increases in market values, so our net shareholder exposure, and this is now in pounds, is now GBP 500 million, direct shareholder exposure, down from GBP 800 million at the start of the year, and participating exposure is GBP 4.7 billion, down from GBP 5.6 billion.

We've also confirmed today that we are in discussion with external parties to sell our U.S. life and annuities business. Inevitably, this disposal can only be made to a substantial discount to our IFRS book value. However, a sale would increase both the Market Consistent Embedded Value and significantly benefit our economic and capital surplus. We believes such a sale would be in the best interest of the group.

Narrowing our focus is another key strategic priority. Along with the potential disposal of our U.S. business, we continue to work on the 15 other red cells. In addition to Delta Lloyd, we've announced the sale of our Sri Lankan business. We're working closely with 8 banks on 8 other exits, and we're taking further radical action on the 4 other remaining red cells. We expect to make further announcements on these in the first half of 2013.

Our third strategic priority is to improve the performance of the group. We set out today the 9 programs to drive these forward, and within these programs, we're working on well over 100 separate initiatives and have set that details on some of these in the release. I won't go through them now on the call, but we'll obviously be happy to take your questions later. There is no doubt that it'll take initially more time and energy to build momentum across the programs than perhaps we expected, but we're now comfortable we are making good progress.

So to conclude, although the economic backdrop clearly continues to be challenging, our operating profit trend is broadly in line with the half year, and we're making good progress on all of our strategic priorities to build the company's financial strength, narrow our focus and improve earnings performance.

We'd now be happy to take any questions you've got.

Question-and-Answer Session

Operator

[Operator Instructions] We will now take our first question from Andy Hughes of Exane BNP Paribas.

Andrew Hughes - Exane BNP Paribas, Research Division

Couple of questions, if I could, on the general insurance side to start. I'm just now seeing the quarterly trend in general insurance premium income is down quite a bit as note 8. And in fact, it's looks like it's down 10% over the quarter versus Q2 and down quite a bit versus last year. Maybe you could talk a bit about what's happening on the generation premium income side? And also could you give a bit more detail on the weather impact? Has it impacted the combined ratio? Because I'm not getting the same message from anyone else that there was a significant amount of weather in Q3. And so is it an Aviva-specific thing? And the third thing is a request, really. On terms of asbestos survival ratios, can you just confirm what they were at the end of the year? And maybe if you've got an updated number, that'd be very helpful.

Patrick C. Regan

Andy, on the GI premium side, Robin Spencer's with me, so I'll let Robin talk to this, essentially, it's seasonality as third quarter is seasonally a little bit lower than the second, so you really need to compare third quarter this year with last year. But Robin, do you want to give a little bit more color to all of that?

Robin Spencer

Yes, that's generally a trend that we always see in the third quarter. I think to add to that, Andy, what term -- if we cast our minds back a year, we were -- at that stage, we were still growing sort of strongly into a hardening market with personal motor rates going up 18%, commercial motor rates going up 13%. Clearly, we're in a different environment altogether at the moment, and I think that's the key reason for the different trend. I think the other thing I'd just pour out is that we are taking more action, given what had been said about sales and subsales

. We've taken a lot more action to really focus on any of those segments of business where we can't write business profitably. And we're not exiting any lines, but we're clearly shrinking and taking action to reduce our overall exposure in those lines where we can't write profitably. And I think I drew out a few in the announcement that came out this morning, such as blue-water hull, some agriculture segments, some leisure segments, pubs and restaurants and things just -- we find it difficult to write those profitability, both in the U.K. and in Ireland at the moment. So they'd be the key reasons why we're seeing some overall reduction in the pace of growth. But overall, we're still, year-on-year, up about 2%.

Andrew Hughes - Exane BNP Paribas, Research Division

Yes, just 2 quick question, follow-on question, if I could. I mean, I guess the point about rates, and that's one of the reasons why I didn't understand why it's come off. Because obviously, the rate increases were going through the book in Q3 2011. And has the rate decline all gone through the book in Q3 2012? I mean, presumably, it works its way through the renewal book over time, and that's why, I guess, I was surprised to see the decline this early on. And then back to second question. Is this rebalancing -- how much more of the rebalancing is there to go in terms of premium volumes?

Robin Spencer

I think in terms of rebalancing, I mean, one of the big advantages of our book is the fact that we do have multichannel, multiproduct, which allow us to dial up and dial down where we're allocating our capital. So I wouldn't call it sort of as a one-off rebalancing. I think it's really how we manage the book on a ongoing basis is to decide which segments we can make money in. And because of our broad distribution, that allows us to actually to increase our overall penetration in those segments when it's good for us. So I wouldn't say there's an overall to reshaping. Its just -- it's part of the discipline that we have in running the overall book. I think your observation is fair in terms of the overall earning of it right through the book. You know that actually the full earning month come through of some of those rate increases at above 18 months. So we're still -- we're seeing that roll off, but at the same time, we were taking actions last year to exit some lines that were unprofitable and we're seeing some rate reductions. So I think in a sort of a press release class, you can't see that necessarily in the numbers, but that's actually what's happening.

Patrick C. Regan

Our overall idea I think -- except for the general insurance, Canada is still growing, and that's been true for a while. GI overall in the U.K., where we're growing personal motor and happy to do so, on commercial lines, you just got to be a little bit more selective because of the rating increases. So the rate environment is a little bit softer. On weather, on your weather point, the -- I mean, taking into context, there was slightly higher weather in Canada in the third quarter versus the first half of the year. It's actually quite a good weather for the first half of the year. The combined -- for the discrete quarter overall for Aviva was a bit over 98%. So it was a nudge up, rather than anything particularly to share about. And then on your asbestos question, I don't know the answer off the top of my head. I'll have to come back to you on that.

Operator

We will now take our next question from Andrew Crean of Autonomous.

Andrew Crean - Autonomous Research LLP

It was just a couple of numbers questions I wanted to ask. Firstly, now that you're talking about the U.S. sale, could you give us the figures for the U.S. business in terms of what its contribution to economic capital available and economic capital requirement were? And also, what is tangible IFRS NAV was? That was one question. The second question was, what was the pension fund surplus at the end of the third quarter? And what is the -- I know you've just done a triennial valuation, what is the current funded pension fund deficit?

Patrick C. Regan

So technically, first -- Andrew, first question first. On the U.S. book values, so the -- if you look at the half year information, you get the total enterprise value, including everything, is -- on IFRS basis, is 3.2 or the pure equity number is a bit over GBP 2.4 billion.

Andrew Crean - Autonomous Research LLP

That's tangible, the GBP 2.4 billion?

Patrick C. Regan

That's -- both of them are the full IFRS numbers, including NAV. The second that you can see there is that the full MCEV enterprise value is about just over GBP 300 million. We haven't given -- so that gives you kind of, if you like, the half of the answer to your economic capital. We haven't disclosed economic capital by business. What I would tell you that the risk or charges to the U.S. business, if you like the required capital element here, it's well over GBP 1 billion.

John McFarlane

Just one other thing about the U.S. is that because the business is growing and the nature of the product, we are adding a significant amount of capital each year. So where we took the latest -- while you could argue that you might have different market circumstances, which we, in fact, does, nonetheless, the maintenance of the business and its growth would add significant amount of equity next year and the following year. And we do not believe that, that additional equity would be released in sale or add book value.

Andrew Crean - Autonomous Research LLP

Yes -- no. Great. And on the pension?

Patrick C. Regan

Yes. On the pension, Andrew, the surplus, accounting surplus was GBP 1.4 billion at the end of the third quarter.

Andrew Crean - Autonomous Research LLP

That's pretax, isn't it?

Patrick C. Regan

Yes. But we haven't yet got to fund income, but it would be a...

Andrew Crean - Autonomous Research LLP

But that line needs to be different from where it was at the end of last year?

Patrick C. Regan

No. But John is with me now, John?

John McFarlane

No, it's not. It's not. It's fairly stable.

Andrew Crean - Autonomous Research LLP

Stable on 2011. Great.

Operator

We will now take our next question from James Pearce of UBS.

James Pearce - UBS Investment Bank, Research Division

A couple of quick questions. You haven't been explicit about the dividends today but given your comments about capital generation, economic caps and then cost savings, is it reasonable for us to assume that the outlook on dividend is at least no worse than it was previously? And second, could you put your -- as to the U.K. personal motor into a bit more context, given that some of your peers are doing their best to shed business in U.K. personal motor? And why the difference of approach at Aviva?

John McFarlane

Yes, it's John. I'd say that nothing at all has changed on the dividend. The statements that we've made that we would try and hold the dividend but couldn't began to commit to it was in relationship to 2013 at the time we made it. Simply because when you think about what's happening here is that the -- we're taking actions to reduce earnings in a number of quarters because of the economic measure of the business. We are disposing of noncore assets. We will be writing down the book value of the organization. The earnings will drop. And, we've -- at the same time, we've got this other program, which is trying to replace those earnings. And of course, superficially, notionally, if you take 2011 and take 2014, we're trying to make sure that the earnings that are loss through disposals are recovered through the transformation program. And if you remember, 2011 was not a clean year. It got a lot of restructuring costs and other charges below the line. We're genuinely trying to make 2014 a clean year, which would mean that we if achieve all of that, it would mean that 2014 is a much better year than 2011. Now of course, the problem with all of that is in maintaining a fixed dividend level when you actually have earnings and the -- and cash flows decline does place more stress on that, in 2013. And essentially, what we're doing is modeling on a month-by-month basis what the cash flows and earnings are. Because obviously, if you think about the U.S., for example, that cash would not be released to the group center until the middle of next year or whenever. It's going to be down there somewhere. And so we need to pace all of these just to make sure. We're not more uncomfortable with this at all. In fact, we are broadly where we thought we were going to be, and there's really nothing different here but that might just might throw a bit of color on why we said, "Look, we're going to try and do it." But we can't commit to it until we actually see how some of this execution plays out and how the pacing of it all plays out. But our intent to try and hold the dividend is genuine,

Patrick C. Regan

James, on the personal motor -- and again, I've got Robin with me here me as well. My reflections on the personal motor market over a number of years is that to be successful in that market, you need a combination of, obviously, brand, scale, cost efficiency and really good on the writing techniques. And I think over the last 2 to 3 years, we've got -- taken some pretty good steps forward on each of those. You have seen this year, we launched Quotemehappy. That's obviously Internet only, very low cost, targeted at certain segments. That's actually quite a big part of the growth in policy count this year. So a combination of all those means that we can both grow policy count, but also with a good profitability. And that wasn't always true for us. But over the last couple of years, we've made kind of big strides in each of those areas. Robin, is there anything you'd like to add?

Robin Spencer

Yes. Probably just a couple of things just to add to that. I mean, our expense ratio is probably down the lowest it's been since the year 2000 at the moment. So we're really building on the scale point that Pat just said. We are growing Quotemehappy. We've probably got a higher proportion of our, let's say, preferred segments than any other part of our book, because we're able to more discretely price for those segments we really want to compete in and really want to have on our books. Another competitive advantage, I think, we've got is the fact that, actually, this might not be very obvious, but 53% of our total motor, personal motor book comes -- still comes through brokers. And actually, we don't see that as price sensitive as some of the other segments. So I'm sure you all know that we've seen Cigna, a big -- we fall off in the motor rates that we're achieving. But I think we've seen -- certainly, we haven't seen as big a decline in the broker segments as we have in the direct segments. And the last thing I'd just add to that is as it relates to our growth, whilst we have seen and 8% growth this year, I would anticipate that growth slowing. And our ability to -- given that rates have come off, our ability to write new business profitably, that our economic value over the lifetime value of that policy obviously declined. So I'd expect that the growth to probably fall off a little bit as we go through the rest of this year and into next.

Operator

We will now take our next question from Blair Stewart of Merrill Lynch.

Blair Stewart - BofA Merrill Lynch, Research Division

Three quick questions for me. Firstly, could you comment, please, on how your net flows have developed across the life business? Secondly, there's a big pickup in investment sales, up 70% year-on-year. Just wondered if there's any one-off special effects in there, or what you think about going forward? And thirdly, just on the U.S. disposal or potential disposal. You're saying that, that disposable will take you into the target economic capital range. I think you've said in the past that if you assume U.S. equivalents, it would take you to broadly about 165% on an economic capital basis. So I'm just wondering if the disposable will take you towards the top end of your target range or otherwise?

Patrick C. Regan

Blair, of this time, I'll take them on reverse order. On the U.S., no. It's -- I think it's safer to assume it'll get us around the economic capital range of -- but in the bottom end of it, not the top end of it, still important though. Getting into our economic capital range is an important step forward for us. On the net flows, these trends are broadly similar to the ones we saw at the half year. As you see in the U.K., the new products, if you like, demonstrating positive flows and then a runoff of the old endowment style with-profit products and some good retention in continental Europe. The lower new business sales however, moderate, very moderate decline in continental Europe and very much a similar trend in the third quarter. I think the main thing in investment sales actually isn't so much of the U.K. business. It's more in Aviva Investors, and again, they were at the GBP 2 billion of net funded external sales. And again, that was just some new client mandates that they're on.

Blair Stewart - BofA Merrill Lynch, Research Division

Okay. And just on the U.S. point, should we take it to mean that our U.S. disposal would be less favorable than the U.S. equivalents? Quick judging by your comments.

Patrick C. Regan

I probably don't want to be drawn too much more specifically than that. I think -- other than to say, we're obviously at 146% today, and you can assume it gets that just kind of close to or bottom end of the range there.

John McFarlane

Retention of the U.S. is less attractive than selling it.

Operator

We'll now take our next question from Oliver Steel of Deutsche Bank.

Oliver Steel - Deutsche Bank AG, Research Division

Two questions from me. The first is about the economic capital requirements. I know these things are sort of slightly vague. But it appears to have gone from GBP 11.3 billion at the interim to GBP 11.8 billion as of the end of October, excuse me, backtracking from your -- from the ratios you've given us. So I'm just wondering why that was, because it seems quite a big uplift. And then the second thing is the IRRs on new business. You were achieving 14.4%, I think, at the half year. You're now saying 13.8% at the 9-month stage. And I guess I got sort of 2 questions on that. One is, why has that happened? And then secondly, it's sort of slightly worries more generally that you're seeing quite a sharp deterioration between half year and 9 months in the combined ratio. You're seeing quite a sharp deterioration in the IRR. Is there anything going on here that perhaps is not just down to exceptional weather and things like that?

Patrick C. Regan

Oliver, on the economic capital, what the biggest movements on that, on both the available and the required, is generally, for us, credit spread movements. So as credit spreads come in, you get the increase in both your available and your required and your net number combined ratio goes up. We do see both of them move. So that will be the principal reason why the required increase from the half year. On the IRRs, I think we were -- we are at 13.6%, David, at the half year.

David Barral

That's right.

Patrick C. Regan

So we're actually slightly up. But with -- each individual discrete quarter this year has gone marginally up. I mean, not seismically, but marginally up on the IRR. So I think we're actually moderately up, nothing greatly to chat about, but moderately up from where we were. On the general insurance, as I mentioned earlier, the discrete quarter combined was a little over 98%. So still okay. We were -- in the U.K., we're about 97% discrete for the U.K. Canada has slightly higher weather in the third quarter versus the first half. It's had a 98% discrete for the quarter and 93% year-to-date, a very strong results. Candidly, where we're working a bit harder is we've got a couple of smaller businesses, places like Turkey, where we need to do more work and we need to bring some of the skills to Turkey and, to a certain extent, Italy than we have in Canada and then -- and in the U.K. to bear in those markets. So U.K. and Canada still performing very strongly.

Operator

We will now take our next question from Greig Paterson of KBW.

Greig N. Paterson - Keefe, Bruyette, & Woods, Inc., Research Division

Three questions. I wonder if you -- well, I've got 3 and the first one has 2 parts. I wonder if you could just give us a feeling in terms of written business, what you and your rate increases in September you had on U.K. motor, and also what your claims inflation as a percentage was year-on-year in the third quarter? Also, you've done a lot of repricing of product on the life side. I was wondering to what extent that is through the system, ignoring the spread on -- in European economic activity, I was wondering should we be penciling some further declines in volumes in the sort of fourth quarter into the first quarter next year, or is the structural declines with the -- in the system now? And then just in terms of individual annuities and protection products in the U.K. I was wondering, do you have further plans to gain market share? I wonder if you can talk about your market share and your product development there, what your plans are.

Patrick C. Regan

All right. Greig, I'll let David come in on -- David Barral come in on number three. On U.K. motor, right now, and as Robin alluded to earlier, it's small declines in direct pricing on new business and pretty flat in the broker channel is what we're seeing. Claims inflation trends, I think 4-ish percent, so broadly similar to what we've seen before on that. You'll remember, as we've talked about quite a bit before, some of the risk selection stuff we've done over the last 2 to 3 years has meant our bodily injury frequency is definitely lower than the market. We haven't seen the upticks others have seen on that. In terms of the repricing...

Greig N. Paterson - Keefe, Bruyette, & Woods, Inc., Research Division

So those are year-on-year, sort of third quarter this year versus third quarter last year, in terms of your small declines and direct inflect in broker?

Patrick C. Regan

Yes. That's right, Greig.

Greig N. Paterson - Keefe, Bruyette, & Woods, Inc., Research Division

And on a written on -- in basis?

Patrick C. Regan

That, in effect, would be on a written basis. The repricing ones vary a little bit country-by-country. I mean, the U.S., certainly, there's a little bit of a lag effect. So I think you could expect to see -- continue to see kind of a downward trend in terms of volumes. Italy is probably similar. We've taken a number of actions there in terms of how we write new business and guaranteed levels on new business. In France, it partly depends on the overall market and that's probably a bigger factor there, where there's been a subdued demand overall, the consumer savings products, and we're broadly in line with the overall market trends there. David, on individual annuities and protection.

David Barral

Yes, so if I take protection across, Greig -- I mean, we've built a market share in the IFA market consistently over the last kind of 3 years or so. We tend to fight out with L&G on a month-to-month basis. He's #1 in the IFA market. But most of the growth so now is coming from strategic partnerships. So you'll be aware that we've been focused now on people at post office. Santander we won last year, which is now coming on quite well. Barclays, already in training, in fact, recently, just in September launching a new exclusive 5-year deal with Tesco Bank, which is still to come through. So I mean, that's where the focus is in terms of continuing to grow that business, which is very profitable for us. In terms of annuities, we had built a very strong position. I mean, we're sitting with well over 20% market share. As part of the strategic review that John and Pat talked about, we looked to that very carefully. To say that we would operate within a stricter capital budget on annuity. That's allowed us to take a number of price actions. So that's sitting -- actually, markets bode with us quite well as well. So it's now sitting even more profitable than it was before. And indeed, recently, we've been writing up business with 0 capital strength. So that remains a focus for capital with a suite of annuity products in there, I think unrivaled in the market, quite frankly. Standard, enhanced, we've got fixed term products there as well, all the way to draw down and equity at the least. So I mean, this is a market -- part of the franchise we're absolutely kind of owning and winning on at the moment, and we continue to do that profitably looking forward.

John McFarlane

And to -- I'll make a comment on that annuity question. It's John. This is demonstrating the kind of trade-offs we're having to make in the organization at the moment. And given that we prioritize capital first and then return second and then, in a sense, earnings third, the fact that annuities are capital hungry, that causes us a problem when our capital ratios are below our target level. And so for that reason, we place some constraint on the ability of the annuities to grow. Coincidentally, the repricing of annuities has actually brought on some incredibly good returns. And so the rational thing for us to do is actually to add more capital to the annuity book now because of the returns that we can get. But given that we prioritize capital over return, we're actually slowing it down notwithstanding that, in which -- and that shows you when you get into these circumstances, if your capital's strong, you can take advantage, and there's an unlimited way of market opportunities whey they arrive. But when you actually are nudging under your capital levels, you actually need to make trade-offs. And this is some trade-off. Now that said, there would be a point at which there would be some limit on the proportion of our book that we have in annuities. Now we're probably short of that. But nevertheless, I think there is a boundary condition at some point where you want to have a bit more diversification other than that. But it just kind of illustrates the kind of thinking that's going on here. And in fact, in other circumstances, we've been putting our foot on the gas here. But at the present time, until such time as we get our capital ratios, we'll probably continue to sort of walk this fine line.

Greig N. Paterson - Keefe, Bruyette, & Woods, Inc., Research Division

Does that mean -- since you've done the repricing given your new capital constraint in this line, do you think you've lost market share or flat? Or just to give an idea of where the market is going, whether the market's doing the same thing as you.

Patrick C. Regan

We haven't seen the factors yet. We'll have it shortly. But I expect that we'll have held or maybe dropped slightly. But it's straddling in relation with us. So the market has come with us quite a bit, and straddling -- as John just pointed, the profitability of it has gone up. So our net position, we have 1/8 of the action we'll take.

Operator

We will now take our next question from Chris Esson of Credit Suisse.

Christopher J. Esson - Crédit Suisse AG, Research Division

Three questions. Firstly, of the increase in economic capital during the quarter, I wondered if you could outline how much of that came from the U.S. versus other regions. And secondly, also on the economic capital and NAV, to what extent will some of these cost saves that you've attributed flow through to this and lift for -- into perhaps some of the softer forms of economic capital? Has that been reflected yet? Will it be reflected? And to what extent will that affect your ratios?

Patrick C. Regan

Great. I haven't got a specific number for the U.S. at hand, Chris. It certainly did go up slightly in the quarter, something in the region of GBP 100 million or GBP 200 million, I think, broadly in order of magnitude. Yes, yes, absolutely on your second. And that was -- and so on finishing up the question on the U.S., the -- now, obviously, mainly due to narrowing of credit spreads in the quarter. All things being equal, the U.S. actually kind of declines order of magnitude around 300 million a year just because of the profile of the new business in retrospect. And in terms of the cost rate, absolutely, yes. I mean, we talked a little bit before that there's a number of levers in putting up our economic capital ratios. And one of those is as you reduce your expenses, it improves your MCEV embedded value and hence your economic capital ratios as well. You're not seeing that today. We're literally taking the actions or benefits sort of feature on that. So over time, as we get into 2013 and certainly 2014, you'll start to see that captured in the -- both the MCEV embedded value and the economic capital ratios.

Christopher J. Esson - Crédit Suisse AG, Research Division

Okay. Can you provide indication of what, if there's any, sort of the cost save targets that are likely moving forward in the Life business?

Patrick C. Regan

Not today, Chris. But we'll try and give you a bit more color on that as we go forward.

Operator

We will now take our next question from Nick Holmes of Nomura.

Nick Holmes - Nomura Securities Co. Ltd., Research Division

Just a couple of questions. First one is on the U.S. Now I wanted to ask about the rationale for the U.S. disposal. Isn't it an argument that you're selling U.S. Life at a cyclical low, whereas you could, for example, could be selling Canadian P&C at a cyclical high? And, I mean, basically, the problem in the States is obviously low interest rates. And if these rise, then presumably the impact on your economic solvency would be just as good as if you sold the operation. So I wondered if you could just take us through that. And then secondly with your French Life business, just wondered. Obviously, the French banks, who are very big threats, are seeing massive outflows. Where do you see this all going in France?

Patrick C. Regan

When we talk -- when we get to the strategy in July, there's a couple of things we said. First part is to raise economic capital. And you look at the most intelligent way to do that. The second is we want to be in the right businesses. And the right sort of businesses are ones with really good market conditions, and either they currently produce good economic returns or they've got a realistic plan to do so. A combination of all of that analyses led us to the view that the U.S. wasn't the right fit in our portfolio. It's just delivering an okay return on local stack capital, but, as you'll remember, there was about 3.8% return on economic capital. So a combination of that. We did not see any realistic scenarios, well, that would get to our target levels. Secondly, the difference between local stack -- U.S. view of the world -- and economic means you can generate a significant economic capital positive with that type of transaction. I guess we could debate timing and whether conditions will improve in the future and whether that would flow-through the valuations in U.S. Life businesses. But it's like -- we see -- I don't think there's a clear path where that's going to happen for us. John, is there any...

John McFarlane

It's John. I was just going to say a couple of things. We look at the businesses across the cycle. The big -- and so across the cycle, the U.S. business, because it's well short of an economic -- well, it's actually destroying value on an economic basis systematically. But actually, it looks reasonable on a local books basis. And so for that reason, you can't sell it intelligently, but you can't hold it intelligently. I think that's the problem that we have here. And it's making that trade-off. It doesn't diversify very well either. And so the collateral benefits to the group actually are negligible. And so the other part of that is that given that we're looking at businesses across the cycle, yes, it's absolutely true, we could sell our Polish business when the economic growth in Poland is 5%. We can sell our Canadian business now, which probably is at a slightly cyclical [indiscernible]. So I'd agree with that. On the other hand, through the cycle, this is a very attractive business for us and yet we do not need to make that decision for capital reasons. And, in fact, that business diversifies very well for us. And as Solvency II come in, it will actually be very attractive for us in a Solvency II world. So there are lots of reasons to complete cycle value, but actually, from other collateral benefit reasons why the Canadian business is more attractive to us than the U.S. business.

Nick Holmes - Nomura Securities Co. Ltd., Research Division

Could I say sort of the bottom line is that you are taking a call on interest rates? You're assuming that U.S. interest rates are going to remain low for a year or 2, and that makes the U.S. Life business fundamentally unattractive in the medium term?

John McFarlane

Look, that may or may not be the case. We are not making a call on interest rates. We are making a call on the stress scenarios in the United States, which are incredibly unattractive for us.

Patrick C. Regan

We're making a call on which businesses we want to be part of.

John McFarlane

Yes, but we're making a risk call here as well that adding sequentially incremental capital every year in this area will not produce value for us and will take our risk back to a level that we would not regard as sensible.

Nick Holmes - Nomura Securities Co. Ltd., Research Division

That's clear. And the French question?

Patrick C. Regan

The French question. This is on the role of French banks in insurance?

Nick Holmes - Nomura Securities Co. Ltd., Research Division

Yes, just your feel of where the market is going. Do you think the French banks are going to let off a little bit? Or is this going to remain -- how worried, I mean, are you basically?

Patrick C. Regan

As a matter -- I think -- I mean, the main trend we're seeing is what I said earlier, that there's the overall reduction in the demand of age [ph] products. So I think that's the predominant one. We're not expecting any great change in the tax laws, which is good. So there has been discussion of that and have progressed [indiscernible] the tax laws around French insurance products. In terms of banking part of that, we're not actually seeing any enormous change on that at the moment. So I don't think we're any more aware of that. As you know, most of the French banks do in-house manufacturing of insurance. And again, our expectation is that won't change.

John McFarlane

And I mentioned some of the -- it just occurred to me about the U.S. If we were in a rich capital position, we sell the U.S. And the answer is yes. We'd still sell it. If -- so to me, that's the key decision here. Then the next question is, would we be better waiting? Even if were full capital, would it be better doing that now or adding more capital and doing it later? We still believe we should do it now.

Operator

We will now take our next question from Jon Hocking of Morgan Stanley.

Jon Hocking - Morgan Stanley, Research Division

I've got 3 questions, please. Firstly, just to come back on the dividend. John, I think you mentioned that 2014 is intended to be the clean year. I just wondered, in terms of the dividend going forward, are we going to get some resolution of this at prelims? Or is it an argument of waiting and seeing how '13 turns out and what the underlying run rate is if we sort of go for dividend policy? That's the first question. Second question. In terms of the subsale analysis work, how far along the path are you on that? When are you likely to get to a point where you're implementing any initiatives that come out of that? That's the second question. And just third question. Just interested in the settlement and the release. And then maybe to the front of the call in terms of kind of difficulties in getting traction to restructure, are we going -- is that communication? Is that organizational structure? What do you think the issues are there and how are you going to overcome them?

John McFarlane

I'll deal with the first and then maybe get David McMillan to maybe come on the subsale analysis and then I'll come back to culture at the end. We -- the dividend is not under active discussion here. It's not a matter that we've raised with the Board. It's not -- and so we have a genuine intention of trying to hold the dividend. And so it's not as if -- and so it's only under active consideration. But obviously, one of the things that we need to do once the 2013 and '14 plans are sharpened up -- and they're still work in progress there -- we just need to make sure that the cash flows up into the center and the level of cash at the center gives us prudent cover. That's all we really need to do. I mean, if we were to sell the United States, then, obviously, the cash at the center would increase very substantially anyway. Now -- and so if, well, that had been today, we wouldn't even be discussing the dividend. It's a non-issue. So it's actually just making sure -- and so if we achieve what we want to in 2014, the cover is perfectly respectable. There's no issues with respect to that. The cash flow should be adequate and so forth. It's just is there a -- is there some easing/tightness in 2013 that we need to just make sure? Because we want to be in a position that we have a decent cover there. I mean, all other things being equal, it's not -- from a management standpoint, well, we've been relatively comfortable with where we are with it. But the trouble is, is that there's a lot of execution assumptions built into what we've said. And that's why we've said, "Look, we're genuinely trying to hold it. But where -- there are circumstances where we just would be unable to. They're not the likely scenario, but they're possible scenario. But I think that's the thing we're trying to do. I mean, we've actually managed to hold it so far. So -- but remember, 2013 is that sweet spot that where it just becomes tough. And we don't know the answer, but we think we know what the answer is. So I think that's where we are.

Jon Hocking - Morgan Stanley, Research Division

Okay. And will [indiscernible] -- I know that they follow the scrip. How does that fit into the decision making? Is it possible you make a decision on the scrip later? Or is everything going have to...

John McFarlane

But [Indiscernible] tomorrow a decision. I mean, the question will be when things normalize, are we able to substitute a cash dividend for scrip or not? I mean, that's, of course, the question. And that's not a today question at all. That's a down-the-road question. I mean, make no bones about it. I mean, the reason for the scrip, when you look backwards at Aviva, it's actually been necessary to both the capital level. So we just want to get off that, basically, and then make rationale decisions as to what's in shareholders' interests. Now we're still in that process of building capital, so we've retained the scrip. But it has no place long term in normal circumstances, and it's just how intelligently can we get to normal circumstances. And that can we? I mean, that's -- so I think we've pushed that into the future rather than a present consideration.

Jon Hocking - Morgan Stanley, Research Division

Okay. Just to make sure I fully understand what you're saying. Effectively, if '13 could be a so-tight cash year, you intend to hold the dividend. But it's possible you hold the dividend with the scrip policy intact. And then at some point, when things look better, you could actually eliminate the scrip. Is that fair?

John McFarlane

That's the ideal scenario, all other things being equal. But I'm not committing to anything of that. But that sort of would be a rational aim for us.

Subsale, David?

David McMillan

Dave McMillan here. Just on the subsales, I think we are hearing the forensic approach to the subsales of the business as a massive opportunity for us going into 2013. We've been taking action in 2012 right across-the-board. So some of the examples we've talked about in the press release on the GI side -- action on wager [ph] in U.K., and Canada and Ireland, agriculture in the U.K., water partnerships in France. And on the Life side of the business, David talked earlier about, well, purchases in the U.K. And we've also launched in Italy and across other continental European businesses a whole suite of lower-guarantee products. So we're taking action as we speak. The intent in 2013 is to continue that, and we've got comprehensive plans right across our major businesses. On the GI side, for example, we're looking to our every subsale, the sub-97% core to have a corrective action plan against it.

John McFarlane

Okay. On the culture, what I was trying to allude to here is in this -- in the businesses, right at the short end of the customer part, you tend to get more rapid decision making and things happen reasonably quickly. And some of the stuff that we're trying to engineer across the company, it's actually a little bit more difficult and slow. I mean, I'll give you an example. It's not -- so therefore, in general, it's not the sort of thing we press the button and something happens. It's that you have to -- you press the button and then you wonder what's happened. And I think that could take a while. There was a little cultural thing that was quite interesting where the decision was seen as a first step in the new negotiation. And again, so getting through that decision is actually a decision, and you have to do it rather than discuss whether we should implement it or not. I mean, so things like that. It's a just sort of little symptoms of it. A good example is the delevering program. I mean, firstly, if you've got over 30,000 people, how many people have you got there?

Unknown Executive

40,000. 40,000.

John McFarlane

It's -- so okay, 40,000 people. How many management levels is sensible for an organization like that? And the answer is if you exclude the CEO and the people who are at the bottom of the organization, you're talking about 4 or 5. But is that -- but we have 9. And so you -- the first question is, how could you possibly build 9 in the first place and think it was in any way constructive or sensible? Because you cannot have one person -- 2 people reporting to one person and then there -- 2 people then reporting to one person and so forth. And so you have costs in all that. And also the sluggishness of the pacing of the -- of things was we slowed down in the process. So it's difficult then on how you could actually get to that point. You then got the point of how do you take it out. And in fact, in order to do it, we've had to put in massive amounts of process in order to make sure it happened here. Because all the way down, there was just negotiations and discussions as to why it didn't apply to me and so forth. And so things do take time to work through the system here. But obviously, that's quite a major one because once we get that 9 to 5 level -- and we're there now -- the organization -- at least we've taken that element of sluggishness out because there's a bit of a quality element to that, too. And we've made sure that the best managers are retained rather than the weakest managers and so forth. So we've upgraded our management in that process. I think David McMillan would probably admit it's been tough getting consensus on some of these programs. I don't know, David, if you want to?

David McMillan

Yes. We're at -- I think they achieved a lot this year. But certainly, as John said, one of the things about my role is to really up the cadence of delivery in the organization and push the pace a hell of a lot harder. And that's what we are trying to do.

John McFarlane

I'm absolutely certain, going back a couple of months, that David McMillan thought, "Why did you take me out as I have a right to do really a good job, I don't understand, and giving me this thing to do?

Unknown Executive

[Indiscernible].

John McFarlane

And so -- but he seems to have come around and is starting to get traction there. So I'm just trying to illustrate we're making quite a big change in what is a relatively bureaucratic culture, and it just takes time to get traction. But as long as you don't take no for an answer, you can get there.

Operator

We will now take our next question from Paul de' Ath of RBC.

Paul De'Ath - RBC Capital Markets, LLC, Research Division

Just a couple of questions, please. Firstly, you talked about in the release spending over, I think, GBP 800 million a year on IT costs. I was just wondering where you think you can get that, number, two, and also, whether reductions in those costs are included in the GBP 400 million cost save target. And then second question was just on auto enrollment. You've seen good growth in Group Personal Pensions in the U.K. so far, but what you see the pipeline on that here. How many large schemes have you got signed up? And when do you think your existing book will be starting to auto enroll?

John McFarlane

So that's -- and that -- I'll just say something about IT. It's John. The program for IT is over a longer period than the GBP 400 million promise. So obviously, some of it is in -- and that -- so you're dealing with an apple and pear here. We've not actually put on the table yet what the savings number is, but it is significant. But remember, it's a much longer program than the end of 2013. And so there's bits of it in the GBP 400 million number, and there's a good chunk of it actually later as well. So David?

David McMillan

Well, Paul, just building on the point about the GBP 400 million savings that we committed to. We're ahead of our plans in terms of delivering on those savings. So we go into 2013 with quite strong confidence that we're going to certainly hit that number. And I think some of the opportunities that we see in our technology estate and the simplification of that just give us further confidence that, that number is eminently achievable.

John McFarlane

David, you want to talk auto enrollments?

David Barral

Yes, Paul, on Group Personal Pension, the pipeline remains strong. We've already auto enrolled the first scheme actually, but -- which went absolutely fine. But the bulk of auto enrollment for us won't kick in through 2014 actually because the vast majority of our focus is in kind of medium -- small to medium size. It's only more recently been moving up into the bigger schemes. So our -- because of that, with auto enrollment, what's sort of our point of view? I mean, do we actually see the tight shift in up to 2014? But already started.

Operator

We will now take our next question from Andy Hughes of Exane BNP Paribas.

Andrew Hughes - Exane BNP Paribas, Research Division

I'm going to actually start with an answer because one of the benefits of being a pensioner is that you get the funding update. So I think the funding deficit was GBP 1.9 billion at the end of March on a funding basis, if that sounds right. And the question I've got -- and I've got 3 questions. The first one is on the reinvestment rate. Could you just give me the GI reinvestment rate for assets at the moment, how that's move since the half year? And the second question is how you're reserving for that, like, at the moment. Is it at 2.5? And what's the sensitivity? And the third question is kind of overview strategy one because I think, John, you see sort of all basically when you said "We're sacrificing earnings for economic capital." Look, I'm just not sure I understand why economic capital is important. And from a personal perspective Solvency II comes in maybe 5 years' time, maybe longer. But the biggest problem the group seems to face and possibly the reason why it was downgraded is that fact that leverage is quite high and the IFRS earnings, if you'll go through all the trends that you've disclosed in terms of net flows, are very negative. And so the danger is that you impact the leverage position by having negative net flows, poor results from the GI business. And that's what causes the problem, not actually capital. Could you just explain? I mean, that's just an intuitive point as to why the strategy is the way it is.

John McFarlane

I'll be the last.

Patrick C. Regan

The reinvestment rate is a lot since the half year, Andy. And it's about 2.5% on net new money. On Ogden [ph], we think -- we've reserved for some increase. This -- well, we haven't -- we reserve for all the potential outcomes on that. So there were some outcomes where you could perceive more than we've increased, but we have reserved for some of the potential outcomes of that. John, in terms of capital?

John McFarlane

Yes. I mean, basically, I'll just take a bit a distraction here before I answer that. I've just been thinking. One of the things that surprised me as a banker coming into an insurance company was how little focus we give to the assets side of the balance sheet, which is why I've added a program to David McMillan's program, which is the assets in a site, and actually having a better return on risk on the asset side. And then, of course, Aviva's investment strategy fits into that. So we need to up our game in both of those. But if this was a bank, we would be incredibly focused on the asset side and lots of discussions, lots of analysis, lots of bold discussions on asset. So that's been a curious entry point for me. And I still believe that there's more opportunities and we haven't even scratched the surface there on the asset side. So I think that's been interesting. On the economic capital, Solvency II isn't relevant. That's a regulatory matter. You can't make an argument that you should produce subeconomic returns and, therefore, that's rational under any circumstances. So what we're saying is that any business the produces a negative economic return and cannot be turned into one that -- which is neutral to positive return should be eliminated. It's as simple as that. And so Solvency II just happens to be consistent with that in that the assumptions underpinning Solvency II are based on economic capital. But if you just run the organization on EVA, you get the same answer. It's the same. Now just thinking about the trade-offs for the moment, I don't think you're right in that the reason the stock price was down. I think it was multifaceted. I think the first thing was the level of risk. I mean, here's a simple symbolic 2 sets of numbers. At the -- somewhere at the lower edges, that we have something like GBP 3 billion of economic capital surplus at the bottom. Maybe it was GBP about GBP 3 billion or GBP 2.9 billion or something. And we had GBP 10 billion of South European -- euros of sovereign debt. Now, again, I'm not analyzing. Now I'm just saying symbolically. So you, the shareholder, looking in from the outside and you've got -- are in a very uncertain and depressed market in Europe is sitting on GBP 10 billion of that stuff and you've got GBP 3 billion or less economic capital at the center. I'll tell you what, that just transparently, we -- this company is running too much risk, okay, and we don't have enough capital under stress scenarios to sustain it. So I think that is the greatest impact on the stock price, the level of risk and the rise in the cost of equity associated with the risk. So what we're trying to do is lower the cost of equity and build the capital resources such that in stressed circumstances, the company is secure and producing reasonable returns. So I think that, to me, is the dominant thought as to why capital levels need to be built. Now when I'm saying I'm making trade-offs, there's a better answer to that, is if you think of the values of the company, it's the book value plus the present value on -- of future excess returns, all right? So that's the equation that you need to manage. Now in thinking about that equation, it's patently obvious if we're having to write down book values, then -- and according to market circumstances, our book value is overstated, okay? And so that's the first issue that we're having to deal with, that we're in the process of putting an asset for sale and we'll have to write it down. And that's a -- so writing a good collateral down already. So that's the first issue that we had, which means, therefore, the capital levels, in general, not in a economic basis but just on a book basis, are overstated given that. And then you say, what's -- what is hence the present value of future excess returns? Essentially, it's near the end of the curve. Especially, you've got your future earnings rising, as time goes out, then they get discounted at a higher level because of long-term returns. And risk rises in this period of time. So basically, you get a shape of a curve that's goes up and then sort of attenuate. At the same time, the excess returns always get completed to the norm depending on your competitive advantage. And so there's a feed element in your excess returns. You've got a growth element in your excess returns, you've got a return element and then you've got a feed element. And then -- but you've also got a risk element that deflates the curve. So you get a curve that's sort of has a shape that's curved up and down. And essentially, you're trying to maximize the area under that curve. That curve is essentially a function of the level of return, the risk of those returns, the feed of the returns and the growth of the returns. And then, therefore, you're making trade-offs all the time on that equation. So -- but simplistically, what we've done is said, look, there's no question in our mind, therefore, that the biggest priority here is to make the company safe. Because that's the thing -- when we talk to the largest shareholders, this is the #1 thing we need -- we want you to fix. And so what that means, in order to fix that, as I said in U.K. annuities, for example, we're having to make a trade-off that we're actually going to forgo, which are pretty solid returns, instead of building our capital base, or at least not making the capital erosion first. Now once we get to your level -- so take -- let's say we've got to -- and here's a -- I'm not using these numbers scientifically. But let's say we've got GBP 7 billion of economic capital and a lower-risk balance sheet. That is a much better situation than the GBP 3 billion economic capital and a risky balance sheet. Much, much safer. And what --in that territory, you can start to make trade-offs and say, well, hold on a second, let's be much more normal about the way we manage the organization. Let's invest a little bit more in future return. Let's actually put more money into U.K. annuities. Let's not worry too much about the capital levels. Let's actually manage the company Aviva and/or our return. And so you're looking for more incoming growth in that scenario. And so all we're really saying is that we genuinely believe and we're told quite categorically by shareholders eliminating the level of risk and building the capital base was #1 priority. Now we wouldn't take that to the extent where we say we've got to be well above our target ranges and keep the trade-offs running, because once we get to sensible levels, you can start to say, well, let's run the place normally. And that's all that's happening.

Andrew Hughes - Exane BNP Paribas, Research Division

I think what I was trying to say, John, was that even if you rebuild your economic capital surplus up, you still can't delever the group, which is the key challenge. I mean, to me, the key the risk is the leverage, not...

John McFarlane

I think that if have reduced your -- if your debt remains constant and your economic capital has risen, you have delevered the group.

Andrew Hughes - Exane BNP Paribas, Research Division

Well, not if your earnings have fallen significantly and your fixed charge coverage is significantly lower than 6x.

John McFarlane

But you still have the -- from a pure leverage ratio basis, on total assets over economic capital, you've just -- your assets will come down somewhat. Your capital levels will have gone up substantially. I mean, the capital levels will have gone up 2.5x or more in that scenario, but your assets would have fallen by half.

Patrick C. Regan

And the other thing, Andy, as we talked about, was the third priority should be performance improvement. It's all about replacing the lost earnings of the disposals with new earning streams. That's about -- what the 9 programs are about. And therefore, net-net, once you've done that, -- and especially as we've talked about a couple of times, our plan is sequentially over time, that we will pay down some debt. It's not the first priority. It comes later in the sequencing. But you replace the earnings. Your earning streams in 2014 are compensated with new earnings streams replacing the things from the disposal.

John McFarlane

Well, remember, we can't pay down debt unless we have surplus cash. And so there's a pacing to that. The other thing is if you're thinking about this equation, we can't do much in the short run about our earnings. Because even if we cut costs, it's got a 1-year or just under 1-year payback. And therefore, we're actually improving next -- the end of next year's earnings, not that the current year's earnings. Now that works on a present value basis. And so the thing that we can deal with quickest is the capital. It's actually mainly to do with disposals and not putting more capital into stuff that's destroying value. So that's dead easy. And you're actually not sacrificing, you're not making trade-offs here. I mean, there are marginal trade-offs, for example, that was slowing down the annuities home business. But they're not significant. You then can say, look the next thing that we can fix is return because it takes a while because we actually have to try and improve the sales or take capital within and so forth. Then you've got the earnings basis which is largely cost reduction rather than revenue growth, although, hopefully, there is some revenue growth and loss reduction. And so look, there's just a practical reality to this. It's not really making trade-offs. It's first things first.

Operator

We will now take our next question from Greig Patterson of KBW.

Greig N. Paterson - Keefe, Bruyette, & Woods, Inc., Research Division

I'll just be very brief in terms of just clarification. I mean, well, the comments you made is somewhat contradictory. And did you say the U.S. at its current run rate is generating economic surplus capital or destroying economic surplus capital? One comment seemed to imply this one way or the other -- imply the other one. And the second question is just the U.S. debt. I'm sorry. The U.S., if you sell it, do you expect that debt to go with the tranche you've got and hence improve your debt ratios?

Patrick C. Regan

Thank you, Greig. The comments we made were a couple of things. One was has U.S. economic capital profile improved in the quarter, and answer was yes. And that's purely to do with where the credit spreads will come in. Second is in just even market circumstances what would happen? Well, you'd a negative to the extent of around GBP 300 million each year because of the negative profile of new business on a economic -- funding capital.

John McFarlane

Funding capital.

Patrick C. Regan

Yes. So you use this economic capital, all other things being equal.

John McFarlane

It doesn't produce an economic return on that new economic capital.

Greig N. Paterson - Keefe, Bruyette, & Woods, Inc., Research Division

And is that sterling or dollars?

Patrick C. Regan

Now that's in sterling. That's in sterling.

Greig N. Paterson - Keefe, Bruyette, & Woods, Inc., Research Division

And then if you've -- you sold even the debt?

Patrick C. Regan

Yes, so he -- well, we cannot be specific about what the -- any kind of transaction starts to look like. But I think it's fair to assume that we're -- what to do is we sell the entire enterprise.

Greig N. Paterson - Keefe, Bruyette, & Woods, Inc., Research Division

And that's -- that'll improve your lever -- also, you didn't mention it'll improve your gearing ratio.

Patrick C. Regan

Well, yes, in a way. Depends on -- obviously, it depends on the method of how you calculate the gearing ratio. But yes, you would include -- you would sell the entire enterprise, the equity and debt value of the business.

John McFarlane

By the way, on the last question, we're actually trying to do it all. We just have to do it in sequence.

Patrick C. Regan

Yes.

Greig N. Paterson - Keefe, Bruyette, & Woods, Inc., Research Division

No, we're supportive, at least for KBW.

Patrick C. Regan

Thank you, Greig. Any other questions? All right. Well, thank you, everybody. Good dialogue. Good sets of questions. Obviously, we'll update in even more detail when we get to the interims, and we look forward to speaking to you all then.

Operator

That will conclude today's conference call, ladies and gentlemen. Thank you for your participation. You may now disconnect.

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