EXECUTIVE REVIEW

Business environment
Performance review
Delivering on strategy
Sanlam Demutualisation Trust
Looking ahead

Business environment

The turmoil in international financial markets, that started to emerge in the second half of 2007, intensified during the first six months of 2008. The world-wide confidence crisis caused by major capital write-offs in the financial services sector was aggravated by a significant increase in the cost of energy and high food price inflation. These trends spilled over into South Africa and the other countries in which the Sanlam group operates. In South Africa in particular, rising interest rates added to these global factors and exacerbated the impact on consumer confidence and discretionary spending.

Global equity and debt markets remained under pressure during the period. As for most international markets, the South African equity market fell well short of the performance achieved in 2007. The JSE All Share Index gained 5% (excluding dividends) in the first six months in 2008 versus a gain of 14% in the comparable period in 2007. The period under review was, however, also characterised by an unprecedented level of divergence in the performance of resources shares compared to the other South African equity sectors. Buoyant resources shares materially cushioned the under performance of financial and industrial shares with these indices being 27% and 18% down respectively for the first six months of 2008.

Performance review

In the context of this challenging business environment, the Group achieved satisfactory trading results for the six months to 30 June 2008. The diversified nature of the Group’s operations provided resilience in the turbulent market conditions, with the retail investment and life businesses recording a strong six-month performance that largely offset some deterioration in the operating results of the institutional and short-term insurance operations. The lower performance level of these operations reflects the impact of the prevailing market volatility but should also be measured against the positive impact that the strong investment markets and favourable underwriting conditions of the past few financial years had on the operating profit and business flows reported by the investment management, capital markets and short-term insurance businesses. Notwithstanding the lower earnings level, the core operations of all the major Group businesses remained sound. In pursuit of the target to maximise growth in the Group’s Equity Value per share, Sanlam continued with its share buy-back programme. The value created by the buy-back strategy is evident in the incremental return and earnings growth achieved on a per share basis. The diluted number of shares in issue at the end of June 2008 is down 5% from December 2007, while the weighted average number of shares in issue for the first six months reduced by 7,3% relative to the comparable period in 2007.

Core earnings per share increased by 4%, which reflects the success of the Group’s diversification strategy to provide resilience in the current market conditions. Core earnings for the first six months of 2008 of R1 913 million are 4% lower than the comparable period in 2007, the combined result of a 10% decrease in the net result from financial services (net operating profit) and a 17% increase in net investment income. The operating profit is reported after allowing for a 33% increase in the cost of writing new life business, the effect of a substantial increase in new life business volumes. Significantly lower investment return on the Group’s capital portfolio, due to the volatile investment markets, combined with an overweight position in financial and industrial shares, contributed to a 57% decrease in normalised headline earnings per share. Diluted headline earnings per share, which include the International Financial Reporting Standards (IFRS) impact of Sanlam and Santam shares held by the policyholders’ fund, decreased by 24%. 

Total new business volumes are 2% up on the comparable period in 2007. Excluding the volatile white label flows, new business volumes increased by 4%. New life business volumes increased by 24%, a particularly satisfactory result from both Sanlam Personal Finance and Sanlam Developing Markets against the background of the prevailing economic environment. The value of new covered business of R290 million is 12% up on 2007, with new business margins improving from 2,32% in the first half of 2007 to 2,39% in 2008. Sanlam Personal Finance’s new investment business also recorded exceptional growth of 33% compared to the first six months of 2007, supported by continued healthy growth in the affluent market. This was however offset by a 12% decline from a relatively high base in new investment business attracted by the Institutional cluster. The Group recorded strong net fund inflows of R7,3 billion, excluding white label business, compared to R1,1 billion in the first half of 2007.

Group Equity Value (GEV) per share amounted to R22,54 at 30 June 2008. Taking into account the payment of a 93 cents per share dividend in May 2008, this represents a 0% annualised return per share on the R23,50 GEV at the end of December 2007. The biggest negative contributor to the return was a 24% decrease in the Santam share price during the six months, while the annualised return recorded by covered business (7,1%) as well as the other non-listed businesses (-6,0%) was negatively impacted by low investment returns for the period. This is an acceptable overall result given the adverse market conditions. The Group’s cumulative performance since Sanlam’s demutualisation in 1998 is only marginally below the long-term target of the 10-year bond yield plus 3% to 4%, which confirms the sustained value creation within the Group. The Sanlam share price traded at a 26% discount to GEV at close of trading on 30 June 2008, in line with the historic low levels at which financial services companies are currently trading internationally.

Delivering on strategy

Despite the challenges facing the Group in the current business environment, the Board and management remain committed to the Group’s key objective of maximising shareholder value. The Group has a sound platform and strategic base from which to continue to grow. The focus during 2008 remains on optimal capital utilisation, growth and diversification, operational efficiency, and transformation.

A competitive business environment necessitates optimal operational efficiencies. The Group successfully implemented a number of programmes over the past few years to improve efficiencies and to reduce its cost base and will continue to do so. A joint back office integration project between Sanlam and Santam is receiving particular attention with significant benefits expected for both entities.

Sanlam UK has now been established as a separate business unit and incorporates all of the Group’s interests in the United Kingdom market. This restructuring will ensure improved focus on the Group’s niche presence in this market and will ensure that distribution and other synergies between the businesses are optimised.

Capital management is an ongoing theme in the Group. Discretionary Group capital amounted to R6,1 billion at the end of 2007. A total amount of R1,6 billion was used to buy back 81,2 million Sanlam shares in the market. A further R1,1 billion was applied towards corporate activity aimed at further diversifying the Group’s solution offering and distribution reach. The following are the largest transactions concluded:

• A total amount of R660 million was utilised to strengthen our business presence in the United Kingdom. Sanlam UK acquired an 86% interest in Principal Investment Holdings, a UK-based private client business, as well as a 60% interest in Buckles Holdings, a financial advisory and ancillary services company. These acquisitions, together with Merchant Investors, Sanlam Multi-Manager International, Intrinsic and Nucleus form the new Sanlam UK cluster.
   
• MiWay Finance, a direct financial services company, was launched in February 2008. The Group has a direct 55% interest in MiWay, as well as an indirect interest of 25% through Santam. Sanlam contributed R110 million to the start-up capitalisation of the business.
   
• The success of the Group’s Shriram Life joint venture with the Shriram group of India was extended during the year with the recent finalisation of the Shriram General Insurance joint venture between the two entities to further expand and diversify the Group’s financial services offering in this market. Sanlam obtained a 26% interest in the new joint venture for a total consideration of R115 million.
   
• Approximately R200 million of discretionary capital was invested to acquire an additional 2,5 million Santam shares in the market, increasing the Group’s effective interest in Santam to 57%.

The application of capital for the share buy-back programme and corporate activity reduced the level of discretionary capital in the Group to R3 billion at the end of June 2008. The Board remains committed to the utilisation of the remaining discretionary capital in the most efficient manner. The preference is to invest in value-adding strategic initiatives. Any potential transaction will however be evaluated against the Group’s primary focus of creating shareholder value through maximising return on GEV. The buy back of Sanlam shares continues to be an attractive option in periods of share price weakness.

Sanlam Demutualisation Trust

In one of the largest empowerment and wealth creation transactions in South African history, Sanlam Limited listed on the JSE Securities Exchange and the Namibian Stock Exchange in November 1998. As part of the demutualisation of Sanlam, free Sanlam Limited shares were distributed to more than 2 million Sanlam policyholders. Shares allocated to policyholders that Sanlam could not trace at that stage, were transferred to the Sanlam Demutualisation Trust, managed by an independent board of trustees. The Trust’s mandate was to find as many of the beneficiaries of these shares as possible, to ensure that all policyholders receive the benefit of their free shares.

Over the past ten years, the Trust has been extremely successful in finding these beneficiaries. Shares due to just over 53 000 beneficiaries, representing less than 3% of the number of policyholders to whom free shares were originally allocated in 1998, still remain in the Trust. The number of shares (about 22 million) represents only 1% of the free shares originally allocated to policyholders. The Trust’s term ends on 22 October 2008, at which stage it will be closed and any remaining shares in the Trust will revert to Sanlam in terms of the demutualisation proposal approved by the High Court of South Africa.

The Trust has been a party to the Sanlam / Ubuntu-Botho empowerment transaction as approved by shareholders and concluded in 2004. As an integral part of the transaction, Sanlam facilitated the sale of 52 million of the shares (that would potentially revert to it) from the Trust to Ubuntu-Botho at the ruling market price at the time of 765 cents per share, thus capping the value of any shares that will finally revert to Sanlam at that price. Sanlam at the same time introduced a mechanism that has ensured that the value of the benefits accruing to beneficiaries of the Demutualisation Trust remained unaffected. The Sanlam / Ubuntu-Botho transaction created a major broad based black shareholder for Sanlam, which includes the Sanlam Ubuntu-Botho Community Development Trust, targeting community upliftment and development projects.   

Looking ahead

The challenging macro-economic and volatile financial market conditions are not expected to abate for the remainder of the year, and are likely to continue to impact on growth in the Group’s key operational performance indicators. Financial market volatility inevitably has a major impact on Group earnings. Relative market movements for the remainder of 2008 may therefore have an impact on the level of Group earnings to be reported for the full 2008 financial year.

The Group, however is confident that it has the required resources and depth in management and staff to successfully confront these challenges to continue on its growth trajectory into the future.