KEEPING COMMITMENTS 2012 ANNUAL REPORT KEEPING COMMITMENTS Keeping commitments is important to all of us. It is an easy concept to understand, but much harder to actually put in practice. Fortunately, the world is filled with people whose daily lives and activities are focused upon keeping their commitments. Earning and maintaining the trust of our clients and other stakeholders is the goal of each of the companies in the Power Financial group, our employees and the financial advisors who work with us. All our business decisions are geared to ensuring we have the resources and financial strength to keep our commitments over the long term. Because keeping commitments is important to all of us. TABLE OF CONTENTS FINANCIAL HIGHLIGHTS GROUP ORGANIZATION CHART BUSINESS SUMMARY DIRECTORS’ REPORT TO SHAREHOLDERS RESPONSIBLE MANAGEMENT GREAT-WEST LIFECO GREAT-WEST LIFE, LONDON LIFE, CANADA LIFE CANADA LIFE – EUROPE GREAT-WEST FINANCIAL PUTNAM INVESTMENTS 1 2 4 6 16 18 19 21 22 23 IGM FINANCIAL INVESTORS GROUP MACKENZIE INVESTMENTS PARGESA GROUP REVIEW OF FINANCIAL PERFORMANCE 24 26 27 28 31 CONSOLIDATED FINANCIAL STATEMENTS AND NOTES 47 FIVE-YEAR FINANCIAL SUMMARY BOARD OF DIRECTORS OFFICERS CORPORATE INFORMATION 107 108 109 110 This Annual Report is intended to In addition, selected information The following abbreviations are used provide interested shareholders concerning the business, operations, throughout this report: Power Financial and other interested persons with financial condition, financial Corporation (Power Financial or the selected information concerning performance, priorities, ongoing Corporation); Great-West Life & Annuity Power Financial Corporation. objectives, strategies and outlook Insurance Company (Great-West Life For further information concerning the of Power Financial Corporation’s & Annuity or Great-West Financial); Corporation, shareholders and other subsidiaries and associates is derived Great-West Lifeco Inc. (Great-West Lifeco interested persons should consult the from public information published by or Lifeco); Groupe Bruxelles Lambert Corporation’s disclosure documents, such subsidiaries and associates and (GBL); IGM Financial Inc. (IGM Financial or such as its Annual Information Form and is provided here for the convenience IGM); Investment Planning Counsel Inc. Management’s Discussion and Analysis. of the shareholders of Power Financial (Investment Planning Counsel); Copies of the Corporation’s continuous Corporation. For further information Investors Group Inc. (Investors Group); disclosure documents can be obtained concerning such subsidiaries and Lafarge SA (Lafarge); London Life at www.sedar.com, on the Corporation’s associates, shareholders and other Insurance Company (London Life); website at www.powerfinancial.com, or interested persons should consult Mackenzie Financial Corporation from the Office of the Secretary at the the websites of, and other publicly (Mackenzie or Mackenzie Investments); addresses shown at the end of this report. available information published by, such Pargesa Holding SA (Pargesa); Parjointco Readers should also review the note subsidiaries and associates. N.V. (Parjointco); Power Corporation of further in this report, in the section The selected performance entitled Review of Financial Performance, measures shown on pages 2, 3 concerning the use of Forward-Looking and 5 are as of December 31, 2012 Statements, which applies to the entirety unless otherwise noted. of this Annual Report. Canada (Power Corporation); Putnam Investments, LLC (Putnam Investments or Putnam); Suez Environnement Company (Suez Environnement); The Canada Life Assurance Company (Canada Life); The Great-West Life Assurance Company (Great-West Life); Total SA (Total). In addition, IFRS refers to International Financial Reporting Standards. FINANCIAL HIGHLIGHTS FOR THE YEARS ENDED DECEMBER 31 [IN MILLIONS OF CANADIAN DOLL ARS, EXCEPT PER SHARE AMOUNTS] Revenues Operating earnings attributable to common shareholders Operating earnings per common share Net earnings attributable to common shareholders Net earnings per common share Dividends declared per common share Total assets Consolidated assets and assets under management Shareholders’ equity Total equity Book value per common share Common shares outstanding (in millions) 2012 32,412 1,686 2.38 1,626 2.30 1.40 268,593 523,885 14,029 24,372 16.60 709.1 2011 32,400 1,729 2.44 1,722 2.43 1.40 252,678 496,781 13,521 22,815 16.26 708.2 The Corporation uses operating earnings as a performance measure in analyzing its financial performance. For a discussion of the Corporation’s use of non-IFRS financial measures, please refer to the Review of Financial Performance section in this Annual Report. 1 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT GROUP ORGANIZATION CHART Power Financial Corporation is a diversified management and holding company that has interests, directly or indirectly, in companies in the financial services sector in Canada, the United States and Europe. It also has substantial holdings in a diversified industrial group based in Europe. POWER FINANCIAL CORPORATION 4.0% Percentages denote participating equity interest as at December 31, 2012. Operating earnings is a non‑IFRS financial measure. Return on shareholders’ equity is calculated using operating earnings. [1] Denotes voting interest. 2 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT 68.2%GREAT-WEST LIFECO100%GREAT-WEST LIFE100%CANADA LIFE 2012 Operating earnings attributable to common shareholders$1,955 MILLION2012 Return on shareholders’ equity15.9%Total assets under administration$546 BILLION100%LONDON LIFE100%GREAT-WEST FINANCIAL 100% [1]PUTNAM INVESTMENTS 2012 OPERATING EARNINGS ATTRIBUTABLE TO COMMON SHAREHOLDERS $1,686 MILLION 2012 RETURN ON SHAREHOLDERS’ EQUITY 14.4% CONSOLIDATED ASSETS AND ASSETS UNDER MANAGEMENT TOTAL ASSETS UNDER ADMINISTRATION $524 BILLION $667 BILLION 3.7% [2] Through its wholly owned [3] Representing 52% of the voting rights. subsidiary, Power Financial Europe, Power Financial held a 50% interest in Parjointco. Parjointco held a voting interest of 75.4% and an equity interest of 55.6% in Pargesa. 3 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT IMERYS 56.9%50.0% [3]GROUPE BRUXELLES LAMBERTLAFARGE 21.0%SUEZ ENVIRONNEMENT7.2% GDF SUEZ 5.1% PERNOD RICARD 7.5%TOTAL 4.0%100% INVESTORS GROUP100% MACKENZIE INVESTMENTS97.8% INVESTMENT PLANNINGCOUNSEL58.7%IGM FINANCIALPARGESA[2]2012 Operating earnings available to common shareholders $750 MILLION2012 Return on shareholders’ equity 17.3%Total assets under management $121 BILLION2012 Operating earningsSF359 MILLIONNet asset valueSF7.6 BILLION BUSINESS SUMMARY CANADA GREAT-WEST LIFECO GREAT-WEST LIFE LONDON LIFE FREEDOM 55 FINANCIALTM CANADA LIFE GREAT-WEST FINANCIAL® PUTNAM INVESTMENTS UNITED STATES PRODUCTS & SERVICES DISTRIBUTION CHANNELS MARKET POSITION > Life, disability and critical illness insurance for individuals, business owners > Gold Key financial security advisors associated with Great-West Life > Serves the financial security needs of more than 12 million Canadians and families > Retirement savings and income plans for individuals and groups > Fund management, investment and advisory services > Comprehensive benefit solutions for small, medium and large employer groups > National accounts, including Investors Group > Creditor insurance, including life, disability, job loss and critical illness coverage > Life, health, accident and critical illness insurance for members of affinity groups > Freedom 55 Financial and Wealth & Estate Planning Group financial > 33% market share of individual life insurance measured by premium [1] security advisors associated with London Life > 22% market share of individual living benefits measured by sales premium [1] > Independent advisors associated with managing general agencies > 26% market share of individual segregated fund assets [2] > Great-West Life group insurance and retirement sales and service staff in offices across Canada that support independent advisors, brokers and benefit consultants distributing its group products > 22% market share of group insurance [3] > 18% market share of group capital accumulation plans, serving 1.2 million member accounts [4] > Leading market share for creditor insurance revenue premium [2] > Employer-sponsored defined contribution plans > Brokers, consultants, advisors and third-party administrators > Great-West Financial serves 5.2 million customers > Administrative and record-keeping services for financial institutions and > Financial institutions > More than 27,000 defined contribution plans retirement plans > Fund management, investment and advisory services > Individual retirement accounts, life insurance, annuities, business-owned life insurance and executive benefits products > Global asset management offering mutual funds, institutional portfolios, college savings plans, 401(k)s, IRAs and other retirement plans > Investment capabilities include fixed income, equities (both U.S. and global), global asset allocation and alternatives, including absolute return, risk parity and hedge funds. > Sales and service staff and specialized consultants > 25% market share of state and local government deferred > Services global institutional, domestic retail, defined contribution, and compensation plans registered investment advisor markets > 36% market share of individual life insurance sold through the retail bank channel [1] CANADA LIFE EUROPE > Protection and wealth management products and related services in the United > Independent financial advisors and employee benefit consultants U.K. AND 29% share of group life market [3] Kingdom, Isle of Man, Ireland and Germany > Reinsurance and retrocession business, primarily in the United States and European markets in the U.K. and Isle of Man Independent brokers and direct sales force in Ireland Independent brokers and multi-tied agents in Germany > > > Independent reinsurance brokers > Direct placements [1] As at September 30, 2012 [2] As at December 31, 2012 [3] As at December 31, 2011 [4] As at June 30, 2012 PRODUCTS & SERVICES DISTRIBUTION CHANNELS MARKET POSITION IGM FINANCIAL INVESTORS GROUP MACKENZIE INVESTMENTS INVESTMENT PLANNING COUNSEL > Financial advice and planning for individual Canadians > Family of exclusive mutual funds with multiple sub-brands > > Institutional asset management mandates Insurance, Solutions Banking, mortgage and trust company products and services > Investors Group network of 4,518 consultants > $120.7 billion in assets under management > Mackenzie sales and service for financial advisors across multiple > Significant market position in mutual fund management, with 12.5% of distribution channels (over 30,000 financial advisors) industry long-term mutual fund assets under management > Investment Planning Counsel has close to 800 independent > Among Canada’s leading providers of financial planning services > $21.1 billion in institutional, sub-advised and other mandates with Mackenzie financial advisors > Institutional asset management sales force > Relationship with Canadian Medical Association PRODUCTS & SERVICES GROUP HOLDINGS PERFORMANCE RECORD PARGESA > Core shareholder investing in Europe LAFARGE > One of the world leaders in cement, > Strong and consistent dividend payout; $2.8 billion over 15 years > Concentrated positions in a limited number of large industrial companies based in Europe aggregates and concrete > Consistent outperformance of relevant equity market indices over the A world leader in industrial minerals long term > Seeking to exercise significant influence or control over its investments An international integrated oil and > Fifteen-year total return to shareholders of 6.6% (SF), compared with 3.2% (SF) for the Swiss SPI index and 4.1% (€) for the French CAC 40 index IMERYS TOTAL > > gas company natural gas GDF SUEZ > A leading energy provider in electricity and SUEZ ENVIRONNEMENT > An international water and waste management company PERNOD RICARD > The world co-leader in wines and spirits > 10% market share of business-owned life insurance purchased by financial institutions [1] > Putnam has nearly 4.5 million shareholders and retirement plan participants and 140 institutional client accounts around the world > More than 160,000 advisors distribute Putnam products > Putnam provides services to approximately 288 defined contribution plans > > > with 14% share [1] market share [1] market share [4] ISLE OF MAN 21% share of group income protection market [3] Among the top offshore life companies in the U.K. market > Among the top insurers in payout annuities, with 6% IRELAND > Among the top seven insurers by new business GERMANY > One of the top two insurers in the independent intermediary unit-linked market [4] > Among the top six in the overall unit-linked market [1] REINSURANCE > Among top ten life reinsurers in the U.S. by assumed business [3] 4 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT GREAT-WEST LIFECO GREAT-WEST LIFE LONDON LIFE FREEDOM 55 FINANCIALTM CANADA LIFE GREAT-WEST FINANCIAL® PUTNAM INVESTMENTS UNITED STATES PRODUCTS & SERVICES DISTRIBUTION CHANNELS MARKET POSITION CANADA > Life, disability and critical illness insurance for individuals, business owners and families > Retirement savings and income plans for individuals and groups > Fund management, investment and advisory services > Gold Key financial security advisors associated with Great-West Life > Serves the financial security needs of more than 12 million Canadians > Freedom 55 Financial and Wealth & Estate Planning Group financial > 33% market share of individual life insurance measured by premium [1] security advisors associated with London Life > 22% market share of individual living benefits measured by sales premium [1] > Independent advisors associated with managing general agencies > 26% market share of individual segregated fund assets [2] > Comprehensive benefit solutions for small, medium and large employer groups > National accounts, including Investors Group > Creditor insurance, including life, disability, job loss and critical illness coverage > Life, health, accident and critical illness insurance for members of affinity groups > Great-West Life group insurance and retirement sales and service staff in offices across Canada that support independent advisors, brokers and benefit consultants distributing its group products > 22% market share of group insurance [3] > 18% market share of group capital accumulation plans, serving 1.2 million member accounts [4] > Leading market share for creditor insurance revenue premium [2] > Employer-sponsored defined contribution plans > Brokers, consultants, advisors and third-party administrators > Great-West Financial serves 5.2 million customers > Administrative and record-keeping services for financial institutions and > Financial institutions > More than 27,000 defined contribution plans > Individual retirement accounts, life insurance, annuities, business-owned life registered investment advisor markets > 36% market share of individual life insurance sold through the retail bank channel [1] > Sales and service staff and specialized consultants > 25% market share of state and local government deferred > Services global institutional, domestic retail, defined contribution, and compensation plans > 10% market share of business-owned life insurance purchased by financial institutions [1] > Putnam has nearly 4.5 million shareholders and retirement plan participants and 140 institutional client accounts around the world > More than 160,000 advisors distribute Putnam products > Putnam provides services to approximately 288 defined contribution plans > > > > Independent financial advisors and employee benefit consultants in the U.K. and Isle of Man U.K. AND ISLE OF MAN Independent brokers and direct sales force in Ireland Independent brokers and multi-tied agents in Germany Independent reinsurance brokers > Direct placements IRELAND GERMANY > > > > > > 29% share of group life market [3] 21% share of group income protection market [3] Among the top offshore life companies in the U.K. market with 14% share [1] Among the top insurers in payout annuities, with 6% market share [1] Among the top seven insurers by new business market share [4] One of the top two insurers in the independent intermediary unit-linked market [4] > Among the top six in the overall unit-linked market [1] REINSURANCE > Among top ten life reinsurers in the U.S. by assumed business [3] PRODUCTS & SERVICES DISTRIBUTION CHANNELS MARKET POSITION IGM FINANCIAL INVESTORS GROUP MACKENZIE INVESTMENTS INVESTMENT PLANNING COUNSEL > Financial advice and planning for individual Canadians > Family of exclusive mutual funds with multiple sub-brands Institutional asset management mandates > > Insurance, Solutions Banking, mortgage and trust company products and services > Investors Group network of 4,518 consultants > $120.7 billion in assets under management > Mackenzie sales and service for financial advisors across multiple > Significant market position in mutual fund management, with 12.5% of distribution channels (over 30,000 financial advisors) industry long-term mutual fund assets under management > Investment Planning Counsel has close to 800 independent financial advisors > Among Canada’s leading providers of financial planning services > $21.1 billion in institutional, sub-advised and other mandates with Mackenzie > Institutional asset management sales force > Relationship with Canadian Medical Association PRODUCTS & SERVICES GROUP HOLDINGS PERFORMANCE RECORD LAFARGE IMERYS TOTAL GDF SUEZ > > > > One of the world leaders in cement, aggregates and concrete > Strong and consistent dividend payout; $2.8 billion over 15 years > Consistent outperformance of relevant equity market indices over the A world leader in industrial minerals long term An international integrated oil and gas company > Fifteen-year total return to shareholders of 6.6% (SF), compared with 3.2% (SF) for the Swiss SPI index and 4.1% (€) for the French CAC 40 index A leading energy provider in electricity and natural gas SUEZ ENVIRONNEMENT > An international water and waste management company PERNOD RICARD > The world co-leader in wines and spirits 5 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT retirement plans > Fund management, investment and advisory services insurance and executive benefits products > Global asset management offering mutual funds, institutional portfolios, college savings plans, 401(k)s, IRAs and other retirement plans > Investment capabilities include fixed income, equities (both U.S. and global), global asset allocation and alternatives, including absolute return, risk parity and hedge funds. CANADA LIFE EUROPE > Protection and wealth management products and related services in the United Kingdom, Isle of Man, Ireland and Germany > Reinsurance and retrocession business, primarily in the United States and European markets [1] As at September 30, 2012 [2] As at December 31, 2012 [3] As at December 31, 2011 [4] As at June 30, 2012 PARGESA > Core shareholder investing in Europe > Concentrated positions in a limited number of large industrial companies based in Europe > Seeking to exercise significant influence or control over its investments DIRECTORS’ REPORT TO SHAREHOLDERS Power Financial and its subsidiaries produced solid financial results in 2012 in an environment which remained challenging for many of the company’s businesses. Ongoing uncertainty regarding the resolution of financial challenges in Europe and the United States resulted in clients remaining very cautious in their investment and insurance decisions. Historically low interest rates also prevailed throughout the year, creating challenges for savers everywhere, including life insurance companies and pension funds. Against this backdrop, the companies in the Power Financial group continued to invest in strengthening their product and service offerings to their clients and the advisors who serve them with a view to enhancing the long-term growth prospects of their businesses. In addition to pursuing organic growth opportunities, We believe our corporate governance structures our companies have sought to create growth over time and practices have been essential in creating and through acquisitions. In early 2013, Great-West Lifeco maintaining strong business franchises capable of agreed to acquire Irish Life Group Limited from the performing in good times and in bad. Our governance is Government of Ireland for $1.75 billion. The acquisition is rooted in a long-term perspective towards shareholder expected to be accretive to Lifeco’s earnings and is highly returns, and focuses upon key factors such as strategy, consistent with its global business strategy. people, capital and risk. We oversee our principal Keeping commitments is an essential attribute in financial services. Our financial strength allows our investments through boards of directors made up of a mix of experienced individuals both from within our companies to keep their commitments over the group and from the outside. long term for the benefit of their clients, employees, Our group companies also have a long and proud history communities and shareholders. This is why our group of contributing to the well-being of the communities companies have maintained their prudent approach in which they operate. The principles underlying our to balance sheet management and a strong risk- approach in this area are outlined later in this report management culture over many years. This is evident under “Responsible Management”. in the maintenance of strong credit ratings across our group. 6 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT FINANCIAL RESULTS Power Financial’s operating earnings attributable to common shareholders for the year ended December 31, 2012 were $1,686 million or $2.38 per share, compared with $1,729 million or $2.44 per share in 2011. Net earnings attributable to common shareholders, including other items, were $1,626 million or $2.30 per share for the year ended December 31, 2012, compared with $1,722 million or $2.43 per share in 2011. Dividends declared by Power Financial Corporation totalled $1.40 per common share in 2012, unchanged For the twelve-month period ended December 31, from 2011. 2012, other items represented a charge of $60 million, compared with a charge of $7 million in 2011. RESULTS OF GROUP COMPANIES Other items in 2012 included the Corporation’s share of G R E AT- W E S T L I F E C O the impact of litigation provision adjustments at Lifeco in the fourth quarter of 2012, as well as the Corporation’s share of impairment charges at GBL, net of gains on the disposal of two investments during the year. Great-West Lifeco’s financial condition continues to be very solid as a result of its continued strong performance in 2012. The company delivered superior results compared to peer companies in its industry due to strong organic growth of premiums and deposits, and solid investment performance, despite challenging market conditions. 7 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT DIRECTORS’ REPORT TO SHAREHOLDERS CONTINUED Great-West Lifeco reported operating earnings consolidated assets. In addition, Great-West Lifeco’s attributable to common shareholders of $1,955 million conservative product underwriting standards and or $2.059 per share for 2012, compared with disciplined approach to introducing new products have $1,898 million or $2.000 per share for 2011. proved beneficial for the company and its subsidiaries Great-West Lifeco’s return on equity (ROE) of 15.9 per cent on operating earnings and 14.7 per cent on net over the long term. Also, Great-West Lifeco’s approach to asset/liability management has minimized exposure earnings for the twelve months ended December 31, 2012 to interest rate movements. In Canada, the company continued to rank among the strongest in the financial continued to offer segregated fund guarantees in a services sector. Other measures of Great-West Lifeco’s performance in 2012 include: > Premiums and deposits of $59.8 billion, compared with $62.3 billion in 2011. > An increase in general fund and segregated fund assets from $238.8 billion to $253.7 billion in 2012. > Total assets under administration at December 31, 2012 of $546 billion, compared with $502 billion twelve months ago. prudent and disciplined manner, thereby limiting its risk exposure. As a result, Great-West Lifeco’s balance sheet is one of the strongest in the industry. The Minimum Continuing Capital and Surplus Requirements (MCCSR) ratio for Great-West Life was 207 per cent on a consolidated basis at December 31, 2012. In Canada, Great-West Lifeco’s companies maintained leading market positions in their individual and group businesses, and experienced strong organic growth. This was achieved by focusing on three broad goals in 2012: improving products and services for clients and The dividend on Great-West Lifeco’s common shares advisors, maintaining strong financial discipline, and remained unchanged in 2012. improving tools, information and processes to enable Great-West Lifeco’s companies continue to benefit greater productivity and effectiveness. from prudent and conservative investment policies and practices with respect to the management of their 8 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT Group retirement services business recorded strong 401(k) plans increased 14 per cent, business-owned life growth, group insurance business continued to insurance sales were up 20 per cent and single premium experience excellent persistency, and individual life insurance sales jumped 56 per cent year over year. segregated fund and mutual fund businesses In 2012, Putnam continued its focus on investment maintained positive net cash flows. Individual insurance performance and innovation. For the second time in sales in Canada increased 15 per cent and sales of proprietary retail investment funds increased 2.8 per cent year over year. the last four years, Barron’s magazine ranked Putnam #1 out of 62 fund companies in 2012, based upon its fund performance over a broad range of investment Together, Great-West Lifeco’s subsidiaries Great-West categories. Putnam’s financial advisor website was Life, London Life and Canada Life remain Canada’s ranked the industry’s best by researcher kasina, and the number one provider of individual insurance solutions. FundVisualizer analytical tool received an award from In the United States, a single brand identity, Great-West the Mutual Fund Education Alliance, as well as from Financial, was introduced in 2012 across all of the lines Money Management Executive, in conjunction with the of business operated by Great-West Life & Annuity. The National Investment Company Service Association. clarity of one brand with a focused and well-positioned In Europe, Canada Life has operations in the United message is helping build name recognition and creating Kingdom, Isle of Man, Ireland and Germany. As a result stronger brand equity in all Great-West Financial of its continued focus on credit and expense controls, markets, to further augment growth. Great-West Lifeco’s European operations were in a Diverse products, expanded partnerships, enhanced strong position coming into 2012, and this focus was tools and a new brand identity all contributed to maintained throughout the year. Great-West Financial’s solid growth in 2012. Sales of 9 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT DIRECTORS’ REPORT TO SHAREHOLDERS CONTINUED I G M F I N A N C I A L Investors Group expanded the number of its region IGM Financial and its operating companies experienced an increase in total assets under management in 2012. Investors Group and Mackenzie Investments, the company’s principal businesses, continued to generate business growth through product innovation, pricing enhancements, additional investment management resources and overall resource management throughout the year. Operating earnings available to common shareholders, excluding other items, for the year ended December 31, 2012, were $750 million or $2.94 per share, compared with $833 million or $3.22 per share in 2011. Net earnings available to common shareholders for the year ended December 31, 2012, were $762 million or $2.99 per share, compared with $901 million or $3.48 per share in 2011. Total assets under management at December 31, 2012, totalled $120.7 billion. This compared with total assets under management of $118.7 billion at December 31, 2011, an increase of 1.7 per cent. Dividends were $2.15 per share for the year, up from $2.10 in the prior year. offices by two in 2012, for a total of 108 across Canada. As at December 31, 2012, there were 4,518 consultants working with clients to help them understand the impact of financial market volatility on their long-term financial planning. Investors Group continued to respond to the complex financial needs of its clients by delivering a diverse range of products and services in the context of personalized financial advice. In May 2012, Investors Group announced enhanced pricing for the majority of its funds effective June 30, 2012, and the addition of alternative high net worth series for households investing $500,000 or more with the company. Investors Group mutual fund assets under management were $60.6 billion at the end of 2012, compared with $57.7 billion at December 31, 2011. Mutual fund sales were $5.8 billion, compared with mutual fund sales in 2011 of $6.0 billion. The redemption rate on long-term mutual funds was 10.0 per cent at December 31, 2012, compared to 8.8 per cent at December 31, 2011. Net redemptions of mutual funds in 2012 were $724 million. Mackenzie maintained its focus on delivering consistent long-term investment performance, while emphasizing product innovation and communication with advisors 10 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT and investors. Mackenzie’s relationship with financial solutions for investors. Its investment in technology and advisors is strengthened by the work it does through operations continues to help it manage its resources investor and advisor education programs, and through effectively and develop long-term growth in its business. its commitment to focusing on active investment management strategies. During 2012, Mackenzie PA R G E S A broadened its investment choices for Canadians by Through the Belgian holding company Groupe Bruxelles adding several new funds and more options, including Lambert (GBL), the Pargesa group holds significant tax-deferred solutions. Mackenzie’s total assets under management were $61.5 billion at the end of 2012, compared with $61.7 billion at December 31, 2011. Total sales were $10.0 billion, compared with the prior year level of $10.3 billion. Total net redemptions for the year were $4.2 billion, compared with $2.5 billion in 2011. IGM Financial continues to build its business through its extensive network of distribution opportunities delivering high-quality advice and innovative, flexible positions in six large companies based in Europe: Lafarge, which produces cement and building materials; Imerys, a producer of industrial minerals; Total, in the oil and gas industry; GDF Suez, in electricity and gas; Suez Environnement, in water and waste management; and Pernod Ricard, a leading producer of wines and spirits. The Pargesa group’s strategy is to establish a limited number of substantial interests in which it can acquire a position of control or significant influence. 11 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT DIRECTORS’ REPORT TO SHAREHOLDERS CONTINUED Pargesa’s operating earnings stood at SF359 million ACQUISITION OF IRISH LIFE in 2012, compared with SF343 million in 2011, an increase of 4.7 per cent. Although Imerys’ income increased by On February 19, 2013, Great-West Lifeco announced that 2.3 per cent in 2012, its contribution at the Pargesa level it had reached an agreement with the Government of declined due to the latter’s decreased economic interest Ireland to acquire all of the shares of Irish Life Group in this holding following the sale of Pargesa’s share of Imerys to GBL. Lafarge reported operating earnings of €772 million in 2012, compared with €453 million in 2011. Including non-operating income consisting Limited for $1.75 billion (€1.3 billion). Established in 1939, Irish Life is the largest life and pensions group and investment manager in Ireland. The acquisition is transformational for the Lifeco companies in Ireland. primarily of gains on the disposal by GBL of its interest in With this single transaction, Lifeco achieves the leading Arkema and the partial disposal by GBL of its interest in position in life insurance, pensions and investment Pernod Ricard, and of an impairment charge recorded by management, which is consistent with Lifeco’s global GBL on its investment in GDF Suez, Pargesa’s net income business strategy of developing significant market in 2012 was SF418 million. At the end of December 2012, Pargesa’s adjusted net asset value was SF7.6 billion. This represents a value of SF90.4 per Pargesa share, compared with SF79.0 at the end of 2011, an increase of 14.4 per cent. At the next annual meeting of shareholders on May 8, 2013, Pargesa’s board of directors is expected to propose paying a stable dividend of SF2.57 per bearer share, for a total distribution of SF217.5 million. positions in the sectors where the company participates. Great-West Lifeco also announced a $1.25 billion offering of subscription receipts exchangeable into common shares by way of a $650 million bought deal public offering as well as concurrent private placements of subscription receipts to Power Financial and IGM Financial at the same price as the public offering. 12 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT On March 12, 2013, Power Financial and IGM Financial THE VALUE OF FINANCIAL ADVICE purchased $550 million and $50 million, respectively, of Lifeco subscription receipts. Each subscription receipt Most people who invest know and appreciate the entitles the holder to receive one common share of Great-West Lifeco upon closing of the acquisition of Irish Life, without any action on the part of the holder and without payment of additional consideration. Should the subscription receipts be converted into common shares of Great-West Lifeco, Power Financial will hold, directly and indirectly, a 69.4% economic interest in Lifeco. The Corporation also announced on February 28, 2013, the closing of an offering of $300 million of First Preferred Shares. Proceeds from the issue were used to acquire the subscription receipts of Great-West Lifeco referred to above. benefits of working with a financial advisor. In repeated surveys since 2006, the Investment Funds Institute of Canada has found approximately 85 per cent of mutual fund investors prefer to invest through an advisor, and rate highly their advisor’s support. Research shows that Canadians who rely on advice to guide their financial decisions are wealthier, more confident and better prepared for the financial implications of marriage, a new child, their children’s education, retirement and other life events. A groundbreaking 2012 study from the Montréal- based Center for Interuniversity Research and Analysis on Organizations (CIRANO) shows that advisors 13 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT DIRECTORS’ REPORT TO SHAREHOLDERS CONTINUED positively affect the level of wealth of Canadian BOARD OF DIRECTORS households. The research conducted by Professor Claude Montmarquette and Nathalie Viennot- Briot uses econometric modelling techniques on At the May 2013 Annual Meeting, shareholders will be asked to elect Mr. J. David A. Jackson to the Board. a very robust sample of Canadian households to Mr. Jackson retired as a Partner of the law firm Blake, demonstrate convincingly that financial advisors Cassels & Graydon LLP in 2012, and currently serves as contribute significantly to the accumulation of financial Senior Counsel to the firm, providing advice primarily wealth. After controlling for a host of socio-economic, in the areas of mergers and acquisitions and corporate demographic, and attitudinal variables that can affect governance. He was the Chairman of Blakes from 1995 wealth, the research indicates that advised households to 2001. He is recognized as a leading practitioner in have, on average, twice the level of financial assets the areas of mergers and acquisitions, corporate when compared to their non-advised counterparts, finance and corporate governance by numerous and that this additional wealth is largely attributed to a independent assessment organizations. Mr. Jackson greater savings discipline. served as a Director of Investors Group Inc. from 1991 to The CIRANO research further shows that having advice positively impacts retirement readiness and is an important contributor to levels of trust, satisfaction, and confidence in financial advisors, which are strong 2001, and has also served as a director of a number of public and private organizations. Mr. Jackson has also been nominated for election to the Boards of Power Corporation and Great-West Lifeco. indicators of the value of advice. Mr. T. Timothy Ryan, Jr. will not stand for re-election to the Board at the May 2013 Annual Meeting of Shareholders. Mr. Ryan joined the Board of Power Financial Corporation in 2011. Mr. Ryan was recently appointed Managing Director, Global Head of Regulatory 14 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT Strategy and Policy for JPMorgan Chase & Co., a leading optimism. Individual investors have started to deploy global financial services firm. He was previously the funds into higher-return asset classes. These positive President and Chief Executive Officer of SIFMA, the signs are tempered with the knowledge that many Securities Industry and Financial Markets Association, global economic issues will take time to resolve. a leading trade association representing global financial The Corporation and its subsidiaries will continue to market participants. Mr. Ryan has also served as a Director of Power Corporation, where he chaired the Audit Committee of the Board, as well as Great-West Lifeco and many of its subsidiaries. Mr. Ryan brought to the Boards of our group companies the benefit of his broad international involvement in the financial services industry. FUTURE OUTLOOK As we enter 2013, steady if unspectacular progress in the U.S. economy together with calmer and more liquid markets in Europe have contributed to increased invest and build for future growth based upon a long- term optimistic view of the future coupled with an acute awareness of the possible risk of interim setbacks. Above all, we will continue to manage our affairs prudently so as to ensure we have the financial strength to honour the commitments we make to our various stakeholders over the long term. Your Directors wish to express gratitude on behalf of the shareholders for the important contribution of the management and employees of our Corporation and its associated companies to the successful results achieved in 2012 in an improving but still challenging operating environment. On behalf of the Board of Directors, Signed, Signed, Signed, R. Jeffrey Orr President and Chief Executive Officer March 13, 2013 Paul Desmarais, Jr., o.c., o.q. André Desmarais, o.c., o.q. Co-Chairman of the Board Co-Chairman of the Board 15 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT RESPONSIBLE MANAGEMENT Responsible management lies at the heart of our business, driving the long-term performance and profitability of the Corporation. It is this mindset that has enabled us to build a resilient and sustainable business, through our role as an investor, employer and contributor to the communities where we operate. Through all our endeavours, we recognize the breadth of our corporate responsibility and hold in earnest the privilege to play our part. In the course of 2012, we strengthened our responsible management commitments and worked together with our portfolio companies to align our corporate social responsibility (CSR) efforts. Our progress over the past year is best viewed through the five pillars under which we have grouped our related activities. OV E R S I G H T Our dedication to responsible management is predicated on a strong foundation of integrity and ethical conduct which we view as integral to our business. Our CSR Statement and Code of Ethics reflect our responsible management philosophy. During the past year, we developed a CSR Statement to provide greater clarity on our commitment to international human rights, the environment, and responsible investments. Our CSR Statement was adopted by our Board of Directors in March, 2012. We also formalized our CSR governance structure. At the Board level, the Governance and Nominating Committee has been tasked with monitoring the implementation of the Corporation’s strategy and initiatives with respect to corporate social responsibility; its charter has been amended accordingly. At the executive level, our CSR lead continued to oversee our efforts to formalize our CSR practices. Throughout the year, we continued to work with our group companies to support the development of their CSR programs. P E O P L E We provide a work environment where the people in our group of companies feel connected and supported. We strive to create positive working relationships for our employees and to provide them with opportunities for growth and community involvement. Over the past year, we continued to encourage and support our employees in becoming involved in their communities by volunteering their time and talents to worthy causes. Because of their experience and expertise, many officers and employees of the Corporation are asked to sit on the boards of the non-profit organizations for which S O C I E T Y We contribute to society by making sound business investments and by supporting the communities where we are established, generating both social and economic value. In terms of making sound investments, our active ownership approach involves considering financial, environmental, social and governance factors, when relevant. With the majority of our investments in financial services, we positively impact society through products and services that enable our customers to achieve financial security and generate wealth. Our financial services companies offer life and health insurance, retirement savings programs and a broad range of investment vehicles, including socially responsible investment funds. they volunteer. This strengthens these Our approach to community investment organizations and, in turn, provides a consists of providing support to further sense of community belonging to organizations that are addressing issues our officers and employees. in the areas of health, education, arts and culture, community development and 16 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT the environment. Through our parent Over the years, our substantial company, Power Corporation, and our commitment to philanthropy across subsidiaries we make contributions to the country has earned companies in numerous organizations through both our group the designation of “Caring corporate donations and investments, Company” from Imagine Canada. E N V I R O N M E N T We continue our commitment to operating our business in an environmentally responsible manner. CO L L A B O R AT I O N A N D T R A N S PA R E N CY We are committed to responsible disclosure. We recognize that our CSR performance attracts the interest of a number of stakeholders. We continue to work with these stakeholders on a collaborative basis to provide meaningful information in a transparent manner. and our support of employee volunteering initiatives. As business entrepreneurs, we especially value and support the role that social entrepreneurs play in helping to build strong and connected communities, guiding us to seek partnerships and investments that have a lasting impact on our communities. Social entrepreneurs are driven to champion their cause and devote their lives to the service of others. They use their knowledge and experience to forge change in their communities and to bring comfort and healing to those in need. We are also drawn to smaller initiatives that deliver broad social benefit because of their entrepreneurial, innovative spirit. As a holding company, our direct In the past year, we expanded our CSR environmental impact is limited to the communications. In a first for the operations of our head office, which Corporation, we reported on our carbon has no production or manufacturing footprint and climate change strategies functions. Despite this limited impact, to the Carbon Disclosure Project. we work diligently to reduce our We ranked favourably among environmental footprint and we support Canadian corporations. and encourage our group companies in their environmental efforts. We continue to proactively engage with our stakeholders to ensure they are kept In 2012, we stepped up our environmental abreast of our CSR initiatives. We also commitment by establishing a three-year expanded our CSR disclosure on our carbon reduction target. In addition to corporate website. our resource conservation initiatives, we promote leading energy efficiency and waste management practices at our head office. 17 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT GREAT-WEST LIFECO Great-West Lifeco Inc. is an international financial services holding company with interests in life insurance, health insurance, retirement and investment services, asset management and reinsurance businesses. Great-West Lifeco has operations in Canada, the United States, Europe and Asia through The Great-West Life Assurance Company, London Life Insurance Company, The Canada Life Assurance Company, Great-West Life & Annuity Insurance Company and Putnam Investments, LLC. Great-West Lifeco and its companies have $546 billion in assets under administration. Great-West Lifeco’s financial condition continues to be very The Minimum Continuing Capital and Surplus solid as a result of its continued strong performance in 2012. Requirements (MCCSR) ratio for Great-West Life was The company delivered superior results compared to peer 207 per cent on a consolidated basis at December 31, 2012. companies in its industry due to strong organic growth of This measure of capital strength remains at the upper end premiums and deposits, and solid investment performance, of Great-West Lifeco’s target operating range. despite challenging market conditions. At December 31, 2012, Great-West Lifeco held cash and cash Great-West Lifeco’s companies continue to benefit from equivalents of approximately $0.5 billion, which includes prudent and conservative investment policies and practices an intercompany loan repaid on January 15, 2013. As this with respect to the management of their consolidated cash is held at Great-West Lifeco, it is not reflected in the assets. In addition, Great-West Lifeco’s conservative regulatory capital ratios of its operating subsidiaries. product underwriting standards and disciplined approach It augments the company’s capital and liquidity position, to introducing new products have proved beneficial thereby enhancing its capability to take advantage of for the company and its subsidiaries over the long term. market opportunities. Also, Great-West Lifeco’s approach to asset/liability management has minimized its exposure to interest rate movements. In Canada, the company continued to offer segregated fund guarantees in a prudent and disciplined manner, thereby limiting its risk exposure. As a result, Great-West Lifeco’s balance sheet is one of the strongest in the industry. 18 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT CANADA GREAT-WEST LIFE LONDON LIFE CANADA LIFE Great-West Life is a leading Canadian insurer, with interests in life insurance, health insurance, investment, savings and retirement income and reinsurance businesses, primarily in Canada and Europe. In Canada, Great-West Life and its subsidiaries, London Life and Canada Life, offer a broad portfolio of financial and benefit plan solutions and serve the financial security needs of more than 12 million people. G R E AT- W E S T L I F E These products and services are distributed through Great-West Life’s products include a wide range of investment, savings and retirement income plans and financial security advisors associated with our companies, as well as independent advisors, brokers and consultants. payout annuities, as well as life, disability, critical illness In 2012, Great-West Life and its subsidiaries in Canada and health insurance for individuals and families. These and Europe continued to deliver strong performance. products and services are distributed through a diverse Our conservative investment practices and disciplined network of financial security advisors and brokers approach to introducing new products and managing associated with Great-West Life; financial security advisors expenses have served us well over the long term and associated with London Life’s Freedom 55 Financial position us well for organic growth. division and the Wealth & Estate Planning Group; and the In Canada, Great-West Life, together with London Life distribution channels Canada Life supports, including and Canada Life, maintained leading market positions in independent advisors associated with managing our individual and group businesses. This was achieved by general agencies, as well as national accounts, including focusing on three broad goals in 2012: improving products Investors Group. and services for clients and advisors, maintaining strong For large and small businesses and organizations, Great- financial discipline, and improving tools, information and West Life offers a variety of group benefit plan solutions processes to enable greater productivity and effectiveness. featuring options such as life, health care, dental care, Group retirement services business recorded strong critical illness, disability, wellness, and international growth, group insurance business continued to experience benefits, plus convenient online services. The company also excellent persistency, and individual segregated fund and offers group retirement and savings plans that are tailored mutual fund businesses maintained positive net cash flows. to the unique needs of businesses and organizations. 19 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT LO N D O N L I F E C A N A D A L I F E London Life offers financial security advice and planning In Canada, Canada Life offers a broad range of insurance through its more than 3,400-member Freedom 55 Financial and wealth management products and services for division. Freedom 55 Financial offers London Life’s own individuals, families and business owners from coast to brand of investments, savings and retirement income, coast. These products include investments, savings and annuities, life insurance and mortgage products. Within retirement income, annuities, life, disability and critical Freedom 55 Financial, the Wealth & Estate Planning Group illness insurance. is a specialized segment of advisors focused on meeting the Canada Life, together with Great-West Life, is a leading complex needs of affluent Canadians. provider of individual disability and critical illness insurance In addition, financial security advisors associated with in Canada. London Life offer a broad range of financial products from other financial institutions. A London Life subsidiary, Quadrus Investment Services Ltd., offers 44 exclusive mutual funds under the Quadrus Group of Funds™ brand. Canada Life is the leading provider of creditor insurance in Canada for mortgages, loans, credit cards, lines of credit and leases through leading financial institutions, automobile dealerships and other lending institutions. The relationship the company has with advisors supports the very strong persistency of its business, provides a strategic advantage and contributes to strong market share across multiple lines of business. 20 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT EU RO PE CANADA LIFE Canada Life in Europe provides a broad range of insurance and wealth management products, including: payout annuities, investments and group insurance in the United Kingdom; individual insurance and savings, as well as pension products in Ireland; and pensions, critical illness and disability insurance in Germany. As a result of a continued focus on credit and expense In Germany, Canada Life is one of the leading insurers for controls, Canada Life‘s European operations were in unit-linked products in the independent broker segment. a strong position coming into 2012, and this focus was Its income protection and retirement savings products maintained throughout the year. were enhanced, and its serious illness and GMWB products In the U.K., the company faces a period of change with legislation affecting distribution and Europe-wide retained their status as the leading products in their categories in a poll of insurance intermediaries. legislation on gender equality in pricing, although the A recent survey of intermediaries indicated improved proposed implementation of the Solvency II rules has been ratings for Canada Life in the targeted areas of products, delayed. Annuity business premium volumes grew but sales broker support and technology. of U.K.- and Isle of Man-originated wealth management The sales environment was challenging in early 2012 but products were challenged by difficult market conditions. sales grew in the last few months of the year. In the company’s group insurance business, in force premium levels were maintained although general economic conditions adversely affected sales. Through its Reinsurance Division, Canada Life is a leading provider of traditional mortality, structured and longevity reinsurance solutions for life insurers in the United States In Ireland, sales to intermediaries performed well in 2012 and in international markets. due to the launch of an award- winning Guaranteed Minimum Withdrawal Benefit (GMWB) product, a widening of fund offerings and strong investment performance on core fund offerings. However, sales in Strong results for reinsurance in 2012 reflect continued robust demand for structured life reinsurance in the U.S. and longevity reinsurance in Europe. Canada Life continues to monitor the global reinsurance markets for potential the direct sales channel were impacted by lower agent business opportunities. numbers and a further fall in the new business market. 21 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT U NITED STATES GREAT-WEST FINANCIAL Great-West Financial® is a leading provider of employer-sponsored retirement savings plans. It offers fund management, investment and advisory services as well as record-keeping and administrative services for other retirement plan providers. Great-West Financial also offers business-owned life insurance, executive benefits products, individual retirement accounts, life insurance and annuities. It markets its products and services nationwide through its sales force and distribution partners. In 2012, Great-West Life & Annuity introduced a single brand Great-West Financial launched two retail retirement identity, Great-West Financial, across all lines of business. income products, securing agreements with five The clarity of one brand with a focused message will build distribution partners. Individual retirement account sales name recognition and create stronger brand equity to grew 50 per cent as part of an effort to provide enhanced augment growth. distribution education services to terminated group Diverse products, expanded partnerships and enhanced tools also contributed to solid growth. Business-owned life plan participants. An initiative to increase participant account balances garnered US$916 million in roll-ins to insurance sales rose 20 per cent, 401(k) plan sales increased existing plans. 14 per cent, and single premium life insurance sales jumped New tools equipped 401(k) sales employees to increase 56 per cent over 2011. their productivity and enhance their effectiveness with The nine business initiatives that make up an aggressive five-year strategic plan were implemented. The projects include strategies to increase sales, improve retention and boost assets under management. advisors, third-party administrators and prospects. To improve clients’ experience and ultimately increase retention, service functions were re-engineered to speed responsiveness. The rollout of a new client relationship management system also advanced the client experience. Managed account program assets rose 28 per cent. The Great-West Lifetime Funds grew 89 per cent to become the 14th largest U.S. target date fund offering. 22 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT U NITED STATES > EU RO PE > A SIA PUTNAM INVESTMENTS Putnam Investments is a global asset manager and retirement plan provider, offering investment management services across a range of equity, fixed income, global asset allocation and alternative strategies, including absolute return, risk parity and hedge funds, for individuals and institutions. Putnam distributes those services largely through intermediaries and its own institutional sales force via its offices and strategic alliances in North America, Europe, and Asia, including through its recently opened Beijing office — its first in China. Putnam’s assets under management ended 2012 at service offering was named “Best in Class” by plan sponsors US$128 billion, reflecting favorable market conditions in an Anova Consulting Group study, and the firm won as well as positive sales momentum at PanAgora Asset the DALBAR Service Award for the 23rd consecutive Management, Inc., Putnam’s quantitative institutional year for providing the highest levels of service to mutual manager, and in several key retail product offerings, such as fund shareholders. the Putnam Spectrum Funds, Short Duration Income Fund, In the retirement area, Putnam announced the and Dynamic Risk Allocation Fund. introduction of a personalized health cost estimator within Putnam made substantial progress this year toward its industry-leading Lifetime Income Analysis Tool and saw its goal of delivering superior investment performance significant growth in new retirement plans on its record- through innovative product offerings, while maintaining keeping platform as well as strong investment-only sales award-winning customer service. The firm was named during the year. the top U.S. fund family by Barron’s for 2012 performance across asset classes, marking the second time in four years it achieved the milestone. In addition, four Putnam fixed-income funds received Lipper Fund Awards for long- term performance excellence. Putnam’s financial advisor site was ranked number one by leading consulting firm kasina, and Putnam’s newly launched iPad app — the fund analysis tool, FundVisualizer — received top honours from Putnam also launched a national marketing and advertising campaign and announced several fund introductions for 2013. The content-driven multimedia campaign, “This is Putnam today,” positions Putnam as an innovative company with solutions for the challenges investors face in today’s markets. The firm’s six planned upcoming fund launches include funds designed to pursue low-volatility equity strategies, short-term municipal the Mutual Fund Education Alliance. Putnam’s retirement income, and global dividends. 23 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT IGM FINANCIAL IGM Financial is one of Canada’s premier personal financial services companies, and one of the country’s largest managers and distributors of mutual funds and other managed asset products, with over $120 billion in total assets under management at December 31, 2012. The company serves the financial needs of Canadians through multiple distinct businesses, including Investors Group, Mackenzie Investments and Investment Planning Counsel. IGM Financial and its operating companies experienced The scope of the company’s business and its association an increase in total assets under management in 2012. with other members of the Power Financial Corporation Investors Group and Mackenzie Investments, the company’s principal businesses, continued to generate business growth through product innovation, pricing enhancements, additional investment management group of companies have placed IGM Financial in a position of leadership and strength in the financial services industry. Together, these elements will enable IGM Financial to create long-term value for its clients, consultants, advisors, resources and overall resource management throughout employees and shareholders over time. the year. IGM Financial has a long-standing commitment to The company is well diversified through its multiple distribution channels, product types, investment management units and fund brands. Assets under management are diversified by country of investment, industry sector, security type and management style. A primary theme in the company’s business approach is to support financial advisors as they work with clients to plan for and achieve their financial goals. The importance of financial advice has become clearer throughout the financial industry in the last few years based on emerging research and continued public interest in enhanced financial literacy. responsible management, which it believes is fundamental to long-term profitability and value creation. The company conducts its business in a way that emphasizes good governance, operational integrity, ethical practices and respect for the environment. Fundamental to the company’s activities is its belief that advancing the financial literacy and financial security of Canadians is important to society. The company has a long-standing practice of corporate giving through a range of philanthropic activities at each of IGM Financial’s operating companies. Its people are encouraged to volunteer in the community, on industry committees and through professional associations. 24 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT In keeping with its commitment to good governance and Mackenzie maintained its focus on delivering consistent ethical dealing, the company has adopted an extensive long-term investment performance, while emphasizing written code of conduct that governs its directors, officers product innovation and communication with advisors and and employees. investors. Mackenzie’s relationship with financial advisors During 2012, IGM Financial introduced formal responsibilities for Corporate Social Responsibility (CSR) activities as it works to enhance CSR disclosures and coordinate such activities across its companies and with its parent and sister companies. The Investors Group consultant network continued to expand by opening two new region offices during 2012. The company now has 108 region offices across Canada. There were 4,518 consultants at December 31, 2012. Investors Group continued to respond to the complex financial needs of its clients by delivering a diverse range of products and services in the context of personalized financial advice. The company enhanced pricing for the majority of its funds effective June 30, 2012, and added alternative high net worth series for households investing $500,000 or more. is strengthened by the work it does through investor and advisor education programs, and through its commitment to focusing on active investment management strategies. During 2012, Mackenzie broadened its investment choices for Canadians by adding several new funds and more options, including tax-deferred solutions. IGM Financial continues to build its business through its extensive network of distribution opportunities delivering high-quality advice and innovative, flexible solutions for investors. The company’s investment in technology and operations continues to help it manage its resources effectively and develop long-term growth in its business. 25 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT INVESTORS GROUP Investors Group is a national leader in delivering personalized financial solutions through a network of over 4,500 consultants to nearly one million Canadians. Investors Group is committed to comprehensive planning and offers an exclusive family of mutual funds and other investment vehicles along with a wide range of insurance, securities, mortgage and other financial services. In 2012, Investors Group continued to make progress in Investors Group is committed to the ongoing evolution and a number of key areas. Enhanced product and pricing expansion of its product and service offering. In early 2012, opportunities combined with more stable equity markets the company implemented the mergers of eight funds with in Canada and around the world increased investor and similar investment mandates. In May 2012, Investors Group consultant confidence. To provide more concentrated focus announced a number of changes in the pricing of its mutual on the investment management of each fund the company funds and product enhancements designed to expand offers, it recruited several additional experienced portfolio services to its clients. The changes involved reducing managers and analysts throughout 2012. management fees on approximately two thirds of the The company’s commitment to training and support is integral to consultants’ ability to deliver effective financial advice. Investors Group’s culture provides company’s funds, representing two thirds of its managed assets. Moreover, it introduced a new series of its mutual funds for clients with household account balances in excess consultants with an entrepreneurial environment and of $500,000. unique support structure to deliver personalized service Investors Group continues to focus on its strengths and knowledgeable advice to clients. Clients enhance as building blocks for the future. In 2012, the ongoing their financial literacy and gain financial confidence recruitment and retention of consultants, together as consultants assist them with the development and with the active engagement of over 1,800 employees, deployment of their financial plans. the continual refinement of financial planning and the expansion of product and service offerings demonstrate the company’s commitment to meet the evolving financial needs of Canadians. 26 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT MACKENZIE INVESTMENTS Mackenzie Investments is recognized as one of Canada’s premier investment managers and provides investment advisory and related services through multiple distribution channels focused on the provision of financial advice. Mackenzie offers mutual funds, pooled funds, segregated accounts and separate accounts for retail and institutional investors. In 2012, Mackenzie focused on business growth, investment In 2012, Mackenzie relaunched its institutional brand, excellence and the client experience. building out 13 proprietary mandates, adding staff, Mackenzie merged, reorganized and closed several funds investing in technology resources and establishing a U.S. to eliminate duplication and increase cost-effectiveness of presence to lay the groundwork for future growth. certain funds, and to improve the overall relevance of its The strength of Mackenzie’s retail distribution network is product shelf as investors’ needs continue to evolve. The based on its long-standing and expanding relationships company added a low-volatility component to Symmetry with financial advisors, consultants and representatives Portfolios to help manage risk, grow capital and smooth across the breadth of its distribution channels. These out returns. relationships allow the company’s products to be efficiently A continued focus on risk management led to the hiring of a team that provides enhanced analytical tools and specialized reporting to its portfolio managers. Mackenzie established a company-wide Client Experience initiative to sustain and build its culture of service excellence, making it easier and more satisfying for advisors to work with the company. The company also sold Winfund Software Corp. to allow it to focus its energy and resources on its core business of investment management. distributed through retail brokers, financial advisors, insurance agents, banks, pension consulting firms and financial institutions, giving the company one of the broadest retail distribution platforms in Canada. Mackenzie remains dedicated to providing clients with high-quality, innovative investment solutions that meet their needs and strives to maintain strong long-term investment performance across its multiple product offerings. 27 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT PARGESA GROUP The Pargesa group holds significant positions in six large companies based in Europe: Imerys (industrial minerals), Lafarge (cement, aggregates and concrete), Total (oil and gas), GDF Suez (electricity and gas), Suez Environnement (water and waste management) and Pernod Ricard (wines and spirits). Power Financial, through its wholly owned subsidiary, Power Financial Europe B.V., and the Frère family group of Belgium each hold a 50 per cent interest in Parjointco, a Netherlands-based company. Parjointco’s principal holding is a 55.6 per cent equity interest (75.4 per cent of the voting rights) in Pargesa Holding SA, the Pargesa group’s parent company based in Geneva, Switzerland. The Pargesa group’s strategy is to establish a limited > In December 2012, the Power group and the Frère family number of substantial interests in which it can acquire a group announced that the term of the agreement in position of control or significant influence. effect since 1990 within Parjointco, Pargesa’s controlling Highlights for fiscal 2012 and early 2013 were as follows: > In March 2012, GBL sold its entire interest in Arkema for €433 million and 2.3 per cent of Pernod Ricard’s capital for €499 million, leaving GBL a 7.5 per cent stake in the business. > In September 2012, GBL issued bonds exchangeable for Suez Environnement shares amounting to €400 million and covering substantially all of the interest. The bonds have a three-year maturity and bear interest at a rate of 0.125 per cent per annum, the exchange price of the bonds representing a 20 per cent premium to the reference share price. shareholder, had been extended to December 31, 2029, with provision for possible further extension. > In January 2013, GBL completed a placement of €1 billion in bonds exchangeable for existing GDF Suez shares. This issue covers almost half the GDF Suez securities held by GBL. The bonds have a four-year term and bear interest at a rate of 1.25 per cent per annum, the exchange price of the bonds representing a 20 per cent premium to the reference share price. At the level of Pargesa, according to the economic presentation of results, net operating earnings increased 4.7 per cent to SF359 million. Net income, after non- recurring items, stood at SF418 million in 2012, compared to a SF65 million net loss in 2011, affected by a writedown on the interest held by GBL in Lafarge. 28 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT I M E R Y S L A FA R G E The world leader in mineral-based specialty solutions With operations in more than 64 countries, Lafarge, a for industry, Imerys processes, enriches and combines world leader in building materials, holds leading positions a unique range of minerals, often mined from its own in each of its markets: cement, aggregates and concrete. deposits. The group occupies leading positions in each of its sectors: Performance and Filtration Minerals; Materials and Monolithics; Pigments for Papers and Packaging; Ceramics, Refractaries, Abrasives and Foundry. In 2012, the group’s sales were up 3.5 per cent to €15.8 billion, sustained by higher prices across all business lines in response to production cost inflation and growth in emerging countries, which account for almost 60 per In 2012, Imerys pursued its growth in an economic cent of Lafarge’s sales. Cost-cutting programs continued, environment characterized by the intensification of driving operating income up by 12.0 per cent to €2.4 billion. geographic contrasts that emerged in mid-2011. The Net income, after non-recurring items, stood at United States regained some momentum but several €432 million, compared to €593 million in 2011. European countries slowed significantly, while emerging markets continued to grow, though at a more moderate pace. Sales grew by 5.7 per cent to €3.9 billion, current operating income rose 0.6 per cent to €490 million and net income, after non-recurring items, was up 6.7 per cent to €301 million. 29 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT PARGESA GROUP CONTINUED T O TA L Created from the successive mergers of Total, PetroFina and Elf Aquitaine, Total is one of the largest international oil and gas groups and a major player in chemicals. In 2012, Total benefited from an oil environment that Current operating income was up 6.0 per cent to €9.5 billion, and net income stood at €1.6 billion versus €4.0 billion in 2011, after essentially €2 billion in European asset impairments. S U E Z E N V I R O N N E M E N T was extremely stable for upstream operations, with a Suez Environnement integrates water and waste Brent price more or less unchanged at US$111/barrel and management operations that were formerly within an average selling price of gas that saw a modest rise the scope of Suez before it merged with Gaz de France. of 3 per cent in comparison with 2011. In downstream In the Water sector, the group designs and manages operations, the European refining margin rose sharply drinking water production and distribution systems and to US$36.0/tonne on average from US$17.4/tonne in 2011. wastewater treatment systems, carries out engineering In these conditions, Total’s 2012 operating income was work and supplies a wide range of services to industry. up by 2 per cent in euros and down 6 per cent in dollars In the Waste sector, Suez Environnement is active compared to 2011. Net income, after non-recurring items, in managing (collecting, sorting, recycling, treating, stood at €10.7 billion versus €12.3 billion in 2011. recovering and storing) industrial and household waste. G D F S U E Z GDF Suez, created from the 2008 merger of Suez and Gaz de France, is an international industrial and services group active across the entire energy value chain In 2012, the group’s sales were up 1.8 per cent to €15.1 billion. Current operating income rose 10.3 per cent to €1.1 billion and net income declined 22.3 per cent to €251 million as a result of non-recurring expenses recorded in the first quarter. in electricity and natural gas, upstream to downstream. P E R N O D R I C A R D GDF Suez develops its core business in electricity and Since the creation of Pernod Ricard in 1975, significant heat generation, trading, transmission and distribution organic growth and a series of acquisitions, particularly of electricity and gas (natural and liquified), and energy Seagram in 2001, Allied Domecq in 2005 and Vin & Sprit and industrial services. in 2008, have made the company the global co-leader in In 2012, the company recorded sales of €97.0 billion, a wines and spirits. 7.0 per cent increase mainly driven by higher gas and In 2011–2012, Pernod Ricard’s sales grew 7.5 per cent electricity sales in France, increased exploration- to €8.2 billion. Current operating income increased production and LNG sales, and continuing international 10.7 per cent to €2.1 billion and net income stood at development, especially in Latin America and Asia. €1,146 million, compared to €1,045 million the previous year. 30 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT REVIEW OF FINANCIAL PERFORMANCE All tabular amounts are in millions of Canadian dollars, unless otherwise noted. MARCH 13, 2013 This Annual Report is intended to provide interested shareholders and others with selected information concerning Power Financial Corporation. For further information concerning the Corporation, shareholders and other interested persons should consult the Corporation’s disclosure documents, such as its Annual Information Form and Management’s Discussion and Analysis (MD&A). Copies of the Corporation’s continuous disclosure documents can be obtained at www.sedar.com, on the Corpo ration’s website at www.powerfinancial.com, or from the office of the Secretary at the addresses shown at the end of this report. FORWARD-LOOKING STATEMENTS > Certain statements in this document, changes in accounting policies and methods used to report financial condition other than statements of historical fact, are forward-looking statements based (including uncertainties associated with critical accounting assumptions and on certain assumptions and reflect the Corporation’s current expectations, or estimates), the effect of applying future accounting changes, business competition, with respect to disclosure regarding the Corporation’s public subsidiaries, reflect operational and reputational risks, technological change, changes in government such subsidiaries’ disclosed current expectations. Forward-looking statements regulation and legislation, changes in tax laws, unexpected judicial or regulatory are provided for the purposes of assisting the reader in understanding the proceedings, catastrophic events, the Corporation’s and its subsidiaries’ ability Corporation’s financial performance, financial position and cash flows as at to complete strategic transactions, integrate acquisitions and implement and for the periods ended on certain dates and to present information about other growth strategies, and the Corporation’s and its subsidiaries’ success in management’s current expectations and plans relating to the future and the reader anticipating and managing the foregoing factors. is cautioned that such statements may not be appropriate for other purposes. These statements may include, without limitation, statements regarding the operations, business, financial condition, expected financial results, performance, prospects, opportunities, priorities, targets, goals, ongoing objectives, strategies and outlook of the Corporation and its subsidiaries, as well as the outlook for North American and international economies for the current fiscal year and subsequent periods. Forward-looking statements include statements that are predictive in nature, depend upon or refer to future events or conditions, or include words such as “expects”, “anticipates”, “plans”, “believes”, “estimates”, “seeks”, “intends”, “targets”, “projects”, “forecasts” or negative versions thereof and other similar expressions, or future or conditional verbs such as “may”, “will”, “should”, “would” and “could”. By its nature, this information is subject to inherent risks and uncertainties that may be general or specific and which give rise to the possibility that expectations, forecasts, predictions, projections or conclusions will not prove to be accurate, that assumptions may not be correct and that objectives, strategic goals and priorities will not be achieved. A variety of factors, many of which are beyond the Corporation’s and its subsidiaries’ control, affect the operations, performance and results of the Corporation and its subsidiaries and their businesses, and could cause actual results to differ materially from current expectations of estimated or anticipated events or results. These factors include, but are not limited to: the impact or unanticipated impact of general economic, political and market factors in North America and internationally, interest and foreign exchange rates, global equity and capital markets, management of market liquidity and funding risks, The reader is cautioned to consider these and other factors, uncertainties and potential events carefully and not to put undue reliance on forward-looking statements. Information contained in forward-looking statements is based upon certain material assumptions that were applied in drawing a conclusion or making a forecast or projection, including management’s perceptions of historical trends, current conditions and expected future developments, as well as other considerations that are believed to be appropriate in the circumstances, including that the list of factors in the previous paragraph, collectively, are not expected to have a material impact on the Corporation and its subsidiaries. While the Corporation considers these assumptions to be reasonable based on information currently available to management, they may prove to be incorrect. Other than as specifically required by applicable Canadian law, the Corporation undertakes no obligation to update any forward-looking statement to reflect events or circumstances after the date on which such statement is made, or to reflect the occurrence of unanticipated events, whether as a result of new information, future events or results, or otherwise. Additional information about the risks and uncertainties of the Corporation’s business and material factors or assumptions on which information contained in forward-looking statements is based is provided in its disclosure materials, including its most recent MD&A and Annual Information Form, filed with the securities regulatory authorities in Canada and available at www.sedar.com. Readers are reminded that a list of the abbreviations used throughout can be found at the beginning of this Annual Report. In addition, the following abbreviations are used in the Review of Financial Performance and in the Financial Statements and Notes thereto: Audited Consolidated Financial Statements of Power Financial and Notes thereto for the year ended December 31, 2012 (the 2012 Consolidated Financial Statements or the Financial Statements); International Financial Reporting Standards (IFRS); previous Canadian generally accepted accounting principles (previous Canadian GAAP). 31 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT OVERVIEW Power Financial, a subsidiary of Power Corporation, is a holding company The Pargesa group has holdings in major companies based in Europe. These with substantial interests in the financial services sector in Canada, the investments are held by Pargesa through its affiliated Belgian holding United States and Europe, through its controlling interests in Lifeco and company, Groupe Bruxelles Lambert. As at December 31, 2012, Pargesa held IGM. Power Financial also holds, together with the Frère group of Belgium, a 50% equity interest in GBL, representing 52% of the voting rights. an interest in Pargesa. As at December 31, 2012, Pargesa’s portfolio was composed of interests in As at December 31, 2012, Power Financial and IGM held 68.2% and 4.0%, various sectors, including primarily mineral-based specialties for industry respectively, of Lifeco’s common shares, representing approximately 65% through Imerys; cement and other building materials through Lafarge; oil, of the voting rights attached to all outstanding Lifeco voting shares. As at gas and alternative energies through Total; electricity, natural gas, and December 31, 2012, Power Financial and Great-West Life, a subsidiary of Lifeco, energy and environmental services through GDF Suez; water and waste held 58.7% and 3.7%, respectively, of IGM’s common shares. management services through Suez Environnement; and wines and spirits Power Financial Europe B.V., a wholly owned subsidiary of Power Financial, and the Frère group each hold a 50% interest in Parjointco, which, as at December 31, 2012, held a 55.6% equity interest in Pargesa, representing 75.4% of the voting rights of that company. These figures do not reflect the dilution which could result from the potential conversion of outstanding debentures convertible into new bearer shares issued by Pargesa in 2006 and 2007. On December 17, 2012, Power Financial and the Frère group extended the term of the agreement governing their strategic partnership in Europe to December 31, 2029, with provision for possible further extension of the agreement. through Pernod Ricard. On March 14, 2012, GBL sold its interest in Arkema for proceeds of €433 million and realized a gain of €221 million. On March 15, 2012, GBL sold 6.2 million shares of Pernod Ricard, representing approximately 2.3% of the share capital of Pernod Ricard, for proceeds of €499 million and a gain of €240 million. Following this transaction, GBL held 7.5% of Pernod Ricard’s share capital. In addition, Pargesa and GBL have also invested, or committed to invest, in the area of French private equities, including in equity funds Sagard 1 and Sagard 2, whose management company is a subsidiary of Power Corporation. RECENT DEVELOPMENTS On February 19, 2013, Lifeco announced that it had reached an agreement of subscription receipts by private placements concurrently with the closing with the Government of Ireland to acquire, through its subsidiary Canada Life of the bought deal public offering of Lifeco’s subscription receipts. The public Limited, all of the shares of Irish Life Group Limited (Irish Life) for $1.75 billion offering and private placements of subscription receipts are at the same price (€1.3 billion). Established in 1939, Irish Life is the largest life and pensions group of $25.70 per subscription receipt. and investment manager in Ireland. Should the subscription receipts be converted into common shares of Lifeco, Lifeco also announced a $1.25 billion offering of subscription receipts Power Financial will hold, directly and indirectly, a 69.4% economic interest exchangeable into Lifeco common shares by way of a $650 million bought in Lifeco. deal public offering as well as concurrent private placements of subscription receipts to Power Financial and IGM for an aggregate amount of $600 million. The acquisition is expected to close in July of 2013, and is subject to customary regulatory approvals, including approvals from the European Commission On March 12, 2013, Power Financial purchased $550 million of Lifeco under the EU Merger Regulation, and certain closing conditions. subscription receipts. On that date, IGM also purchased $50 million of Lifeco subscription receipts. Each subscription receipt entitles the holder to receive one common share of Lifeco upon closing of the acquisition of Irish Life, without any action on the part of the holder and without payment of additional consideration. Power Financial and IGM completed the purchase The Corporation also announced, on February 28, 2013, the closing of an offering of 12,000,000 4.80% Non-Cumulative First Preferred Shares, Series S priced at $25.00 per share for gross proceeds of $300 million. Proceeds from the issue were used to acquire the subscription receipts of Lifeco referred to above and to supplement the Corporation’s financial resources. 32 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT REVIEW OF FINANCIAL PERFORMANCE BASIS OF PRESENTATION The 2012 Consolidated Financial Statements have been prepared in accordance > operating earnings attributable to common shareholders; and with IFRS and are presented in Canadian dollars. INCLUSION OF PARG ESA’ S RESU LTS The investment in Parjointco is accounted for by Power Financial under the equity method as the Corporation has joint control over its activities. Parjointco’s only investment is its controlling interest in Pargesa. As described above, the Pargesa portfolio currently consists primarily of investments in Imerys, Lafarge, Total, GDF Suez, Suez Environnement and Pernod Ricard, which are held through GBL, which is consolidated in Pargesa. Imerys’ results are consolidated in the financial statements of GBL, while the contribution from Total, GDF Suez, Suez Environnement and Pernod Ricard to GBL’s operating earnings consists of the dividends received from these companies. > other items or non-operating earnings, which include the after-tax impact of any item that management considers to be of a non-recurring nature or that could make the period-over-period comparison of results from operations less meaningful, and also include the Corporation’s share of any such item presented in a comparable manner by its subsidiaries and jointly controlled corporation. Please also refer to the comments above related to the inclusion of Pargesa’s results. Management has used these financial measures for many years in its presentation and analysis of the financial performance of Power Financial, and believes that they provide additional meaningful information to readers in their analysis of the results of the Corporation. GBL accounts for its investment in Lafarge under the equity method, and Operating earnings attributable to common shareholders and operating consequently, the contribution from Lafarge to GBL’s earnings consists of earnings per share are non-IFRS financial measures that do not have a GBL’s share of Lafarge’s net earnings. NON - IFRS FINANCIAL M EASU RES standard meaning and may not be comparable to similar measures used by other entities. For a reconciliation of these non-IFRS measures to results reported in accordance with IFRS, see the “Results of Power Financial In analyzing the financial results of the Corporation and consistent with Corporation — Earnings Summary — Condensed Supplementary Statements the presentation in previous years, net earnings attributable to common of Earnings” section below. shareholders are subdivided in the section “Results of Power Financial Corporation” below into the following components: RESULTS OF POWER FINANCIAL CORPORATION This section is an overview of the results of Power Financial. In this section, the equity method in order to facilitate the discussion and analysis. This consistent with past practice, the contributions from Lifeco and IGM, which presentation has no impact on Power Financial’s net earnings and is intended represent most of the earnings of Power Financial, are accounted for using to assist readers in their analysis of the results of the Corporation. EARN ING S SU M MARY — CON DEN SED SU PPLEM ENTARY STATEM ENTS OF EARN ING S The following table shows a reconciliation of non-IFRS financial measures used herein for the periods indicated, with the reported results in accordance with IFRS for net earnings attributable to common shareholders and earnings per share. T WELVE MONTHS ENDED DECEMBER 31 Contribution to operating earnings from subsidiaries and Parjointco Lifeco IGM Pargesa Results from corporate activities Dividends on perpetual preferred shares Operating earnings attributable to common shareholders Other items Net earnings attributable to common shareholders Earnings per share (attributable to common shareholders) – operating earnings – non-operating earnings (other items) – net earnings 2012 1,335 433 106 1,874 (71) (117) 1,686 (60) 1,626 2.38 (0.08) 2.30 2011 1,298 480 110 1,888 (55) (104) 1,729 (7) 1,722 2.44 (0.01) 2.43 33 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT OPER ATING EARN ING S AT TRIB UTAB LE TO COM MON SHAREHOLDERS > On May 18, 2012, Investors Group announced a number of changes in the pricing of its mutual funds and product enhancements designed to Operating earnings attributable to common shareholders for the year ended expand its services to clients. Investors Group reduced the fees of many December 31, 2012 were $1,686 million or $2.38 per share, compared with of its mutual funds when their prospectuses renewed on June 30, 2012. $1,729 million or $2.44 per share in the corresponding period in 2011, a decrease This has resulted in a decrease in management fees in the third and fourth of 2.5% on a per share basis. quarters of 2012. A discussion of the reasons for period-over-period changes in operating Pargesa’s contribution to Power Financial’s operating earnings was earnings attributable to common shareholders is included in the following $106 million for the twelve-month period ended December 31, 2012, compared sections. with a contribution of $110 million in the corresponding period in 2011. Details CONTRIB UTION TO OPER ATING EARN ING S FROM SU B SIDIARIES AN D INVESTM ENT IN PARJOINTCO Power Financial’s share of operating earnings from its subsidiaries and investment in Parjointco for the year ended December 31, 2012 was $1,874 million, compared with $1,888 million in the same period in 2011. Lifeco’s contribution to Power Financial’s operating earnings was $1,335 million for the year ended December 31, 2012, compared with $1,298 million for the corresponding period in 2011. Details are as follows: > Lifeco reported operating earnings attributable to common shareholders of $1,955 million or $2.059 per share for the year ended December 31, 2012, compared with $1,898 million or $2.000 per share in the corresponding period in 2011, an increase of 3.0% on a per share basis. > Lifeco in Canada: operating earnings attributable to common shareholders for the year ended December 31, 2012 were $1,040 million, compared with $986 million in the corresponding period in 2011. > Lifeco in the United States: operating earnings attributable to common shareholders for the year ended December 31, 2012 were $325 million, compared with $370 million in the corresponding period in 2011. are as follows: > Pargesa’s operating earnings for the twelve-month period ended December 31, 2012 were SF359 million, compared with operating earnings of SF343 million in the corresponding period in 2011. > The contribution of Pargesa to the Corporation’s earnings was negatively affected in 2012 as a result of the weakening of the euro and the Swiss franc against the Canadian dollar. > Although the results of Imerys for the twelve-month period ended December 31, 2012 were 2.3% higher than in the corresponding period in 2011, the contribution from Imerys to Pargesa’s earnings decreased by 8.9% in 2012, due to the decrease in percentage of ownership as a result of Pargesa having sold its direct interest in Imerys to GBL in April 2011, as previously disclosed. > The contribution of Lafarge to Pargesa’s earnings increased from SF56 million in 2011 to SF102 million in 2012. > The Pargesa results for 2011 include an additional quarterly dividend of SF30 million received from Total as a result of Total paying its dividend on a quarterly basis starting in 2011. > Lifeco in Europe: operating earnings attributable to common RESU LTS FROM CORPOR ATE ACTIVITIES shareholders for the year ended December 31, 2012 were $618 million, Results from corporate activities include interest on cash and cash compared with $562 million in the corresponding period in 2011. equivalents, operating expenses, financing charges, depreciation and The 2011 results include catastrophe provisions of $84 million relating income taxes. to earthquake events in Japan and New Zealand. Corporate activities represented a net charge of $71 million in the twelve- IGM’s contribution to Power Financial’s operating earnings was $433 million month period ended December 31, 2012, compared with a net charge of for the twelve-month period ended December 31, 2012, compared with $55 million in the corresponding period in 2011. $480 million for the corresponding period in 2011. Details are as follows: The variation in the results from corporate activities for the twelve-month > IGM reported operating earnings available to common shareholders period ended December 31, 2012, compared with the corresponding period of $750 million or $2.94 per share for the twelve-month period ended in 2011, was mainly due to the recognition in the first quarter of 2011 of the tax December 31, 2012, compared with $833 million or $3.22 per share in the benefits of loss carry forwards transferred to IGM under a loss consolidation same period in 2011, a decrease of 8.7% on a per share basis. transaction and higher operating expenses in 2012. > IGM’s earnings are primarily dependent on the level of assets under management. Average daily mutual fund assets for the three-month periods ended December 31, 2012, September 30, 2012, June 30, 2012 and March 31, 2012 were $102.4 billion, $101.0 billion, $100.9 billion and $103.6 billion, respectively, compared with $99.6 billion, $103.5 billion, $109.9 billion and $110.0 billion, in the corresponding three-month periods of 2011. 34 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT REVIEW OF FINANCIAL PERFORMANCE OTH ER ITEM S / NON - OPER ATING EARN ING S T WELVE MONTHS ENDED DECEMBER 31 Share of Lifeco’s other items Litigation provisions (charge) reversal Share of IGM’s other items Non-cash income tax charge Gain on disposal of M.R.S. Trust Company and M.R.S. Inc. Changes in the status of certain income tax filings Share of Pargesa’s other items Impairment charges Gain on partial disposal of Pernod Ricard Gain on disposal of Arkema Other (charge) income 2012 2011 (99) (4) 15 (48) 46 43 (13) (60) 88 18 17 (133) 3 (7) For the twelve-month period ended December 31, 2012, other items Other items in 2011 mainly comprised the following: represented a net charge of $60 million, compared with a net charge of $7 million in the corresponding period in 2011. > A contribution of $88 million representing the Corporation’s share of non-operating earnings of Lifeco. In the fourth quarter of 2011, Lifeco Other items in 2012 mainly comprised the following: re-evaluated and reduced a litigation provision established in the third > The Corporation’s share of a charge reported by Lifeco relating to a litigation provisions adjustment of $99 million, net of tax, in the fourth quarter. > The Corporation’s share of a non-cash income tax charge recorded by IGM in the second quarter resulting from increases in Ontario corporate income tax rates and their effect on the deferred income tax liability related to indefinite life intangible assets arising from prior business acquisitions, as well as the recording in the fourth quarter of 2012 of a favourable change in income tax provision estimates related to certain tax filings. > The Corporation’s share of GBL’s write-down of its investment in GDF Suez in the fourth quarter, representing an amount of $48 million, net of foreign currency gains recorded by Pargesa and the Corporation. Under IFRS, a significant or prolonged decline in the fair value of an investment in an available-for-sale equity instrument below its cost is objective evidence of impairment. Once impaired, any subsequent decrease in the market price of a stock is automatically recognized as an impairment loss. A recovery of the price of a stock that has been impaired is accounted for through Other comprehensive income. Such recovery will impact earnings only upon the disposal of the investment. > The Corporation’s share of the gains realized by GBL in the first quarter on the partial disposal of its interest in Pernod Ricard was $46 million and on the disposal of its interest in Arkema was $43 million. > The Corporation’s share of goodwill impairment and restructuring charges recorded by Lafarge in the first and second quarters. quarter of 2010 which positively impacted Lifeco’s common shareholders’ net earnings by $223 million. Additionally, in the fourth quarter of 2011, Lifeco established a provision of $99 million after tax in respect of the settlement of litigation relating to its ownership in a U.S.-based private equity firm. The net impact to Lifeco of these two unrelated matters was $124 million. > The Corporation’s share of an amount recorded by IGM in the third quarter relating to changes in the status of certain income tax filings as well as the Corporation’s share of the gain on the disposal of M.R.S. Trust Company and M.R.S. Inc. by IGM. > The Corporation’s share of GBL’s write-down of its investment in Lafarge, representing an amount of $133 million recorded in the third quarter. N ET EARN ING S AT TRIB UTAB LE TO COM MON SHAREHOLDERS Net earnings attributable to common shareholders for the twelve-month period ended December 31, 2012 were $1,626 million or $2.30 per share, compared with $1,722 million or $2.43 per share in the corresponding period in 2011. A discussion of period-over-period changes in net earnings attributable to common shareholders is included in the foregoing sections. 35 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT CONDENSED SUPPLEMENTARY BALANCE SHEETS AS AT DECEMBER 31 ASSETS Cash and cash equivalents [1] Investment in Parjointco Investment in subsidiaries at equity Investments Funds held by ceding insurers Reinsurance assets Intangible assets Goodwill Other assets CONSOLIDATED BASIS EQUIT Y BASIS 2012 2011 2012 2011 3,313 2,149 3,385 2,222 123,587 117,042 10,537 2,064 4,933 8,673 8,389 9,923 2,061 5,023 8,786 7,654 984 2,149 11,464 707 2,222 11,147 102 104 Interest on account of segregated fund policyholders 104,948 96,582 Total assets LIABILITIES Insurance and investment contract liabilities Obligations to securitization entities Debentures and debt instruments Capital trust securities Other liabilities Investment and insurance contracts on account of segregated fund policyholders Total liabilities EQUITY Perpetual preferred shares Common shareholders’ equity Non-controlling interests [2] Total equity Total liabilities and equity 268,593 252,678 14,699 14,180 120,658 115,512 4,701 5,858 119 7,937 3,827 5,888 533 7,521 104,948 96,582 244,221 229,863 2,255 11,774 10,343 24,372 2,005 11,516 9,294 22,815 268,593 252,678 250 420 670 2,255 11,774 14,029 14,699 250 409 659 2,005 11,516 13,521 14,180 [1] Under the equity basis presentation, cash equivalents include $625 million ($430 million at December 31, 2011) of fixed income securities with maturities of more than 90 days. In the 2012 Consolidated Financial Statements, this amount of cash equivalents is classified in investments. [2] Non-controlling interests include the Corporation’s non-controlling interests in the common equity of Lifeco and IGM as well as the participating account surplus in Lifeco’s insurance subsidiaries and perpetual preferred shares issued by subsidiaries to third parties. CON SOLIDATED BASI S Investments at December 31, 2012 were $123.6 billion, a $6.5 billion increase The consolidated balance sheets include Lifeco’s and IGM’s assets and from December 31, 2011, primarily related to Lifeco’s activities. See also the liabilities. discussion in the “Cash Flows” section below. Total assets of the Corporation increased to $268.6 billion at December 31, Liabilities increased from $229.9 billion at December 31, 2011 to $244.2 billion 2012, compared with $252.7 billion at December 31, 2011. at December 31, 2012, mainly due to an increase in Lifeco’s insurance and investment contract liabilities as well as investment and insurance contracts on account of segregated fund policyholders. 36 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT REVIEW OF FINANCIAL PERFORMANCE AS SETS U N DER ADM IN I STR ATION Assets under administration of Lifeco and IGM are as follows: AS AT DECEMBER 31 (IN BILLIONS OF CANADIAN DOLL ARS) Assets under management of Lifeco Invested assets Other corporate assets Segregated funds net assets Proprietary mutual funds and institutional net assets Assets under management of IGM Total assets under management Other assets under administration of Lifeco Total assets under administration 2012 120.0 28.8 104.9 134.6 388.3 120.7 509.0 157.5 666.5 2011 114.6 27.6 96.6 125.4 364.2 118.7 482.9 137.8 620.7 Total assets under administration at December 31, 2012 increased by EQ U IT Y BASI S $45.8 billion from December 31, 2011: > Total assets under administration by Lifeco at December 31, 2012 increased by $43.8 billion from December 31, 2011. Segregated funds increased by approximately $8.3 billion and proprietary mutual funds and Under the equity basis presentation, Lifeco and IGM are accounted for by the Corporation using the equity method. This presentation has no impact on Power Financial’s shareholders’ equity and is intended to assist readers in isolating the contribution of Lifeco and IGM to the assets and liabilities institutional net assets increased by $9.2 billion, primarily as a result of of the Corporation. lower government bond rates and, to a lesser extent, higher U.S. equity Cash and cash equivalents held by Power Financial amounted to $984 million market levels. Other assets under administration increased by $19.7 billion, at December 31, 2012, compared with $707 million at the end of December 2011 primarily as a result of new plan sales and improved U.S. equity market (see “Cash Flows — Equity Basis” section below for details). The amount levels. Invested assets increased by approximately $5.4 billion, primarily of quarterly dividends declared by the Corporation but not yet paid was due to asset growth and an increase in bond fair values as a result of lower $278 million at December 31, 2012. The amount of dividends declared by IGM government bond rates. but not yet received by the Corporation was $80 million at December 31, 2012. > IGM’s assets under management, at market value, were $120.7 billion at In managing its own cash and cash equivalents, Power Financial may December 31, 2012, compared with $118.7 billion at December 31, 2011. This hold cash balances or invest in short-term paper or equivalents, as well increase of $2.0 billion since December 31, 2011 represents market and as deposits, denominated in foreign currencies and thus be exposed to income gains of $7.6 billion less net redemptions of $5.6 billion. fluctuations in exchange rates. In order to protect against such fluctuations, Power Financial may, from time to time, enter into currency-hedging transactions with counterparties with high credit ratings. As at December 31, 2012, approximately 90% of the $984 million of cash and cash equivalents was denominated in Canadian dollars or in foreign currencies with currency hedges in place. The carrying value under the equity method of accounting of Power Financial’s investments in Lifeco, IGM and Parjointco increased to $13,613 million at December 31, 2012, compared with $13,369 million at December 31, 2011. This increase is explained as follows: Carrying value, at the beginning Share of operating earnings Share of other items Share of other comprehensive income (loss) Dividends Other, including effect of change in ownership Carrying value, at the end LIFECO 8,476 1,335 (95) (67) (797) (6) IGM PARJOINTCO TOTAL 2,671 433 7 (2) (318) (173) 2,222 106 28 (100) (65) (42) 13,369 1,874 (60) (169) (1,180) (221) 8,846 2,618 2,149 13,613 37 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT EQ U IT Y On Februar y 23, 2012, the Corporation issued 10,000,000 5.5% Non- Common shareholders’ equity was $11,774 million at December 31, 2012, Cumulative First Preferred Shares Series R for gross proceeds of $250 million. compared with $11,516 million at December 31, 2011. This $258 million increase The Corporation filed a short-form base shelf prospectus dated November 23, was primarily due to: 2012, pursuant to which, for a period of 25 months thereafter, the Corporation > A $405 million increase in retained earnings, reflecting mainly net earnings may issue up to an aggregate of $1.5 billion of First Preferred Shares, common of $1,743 million, less dividends declared of $1,109 million and a decrease of shares and unsecured debt securities, or any combination thereof. This $229 million representing: > The effect on equity of the repurchase by a subsidiary of common shares at a price in excess of the stated value of such shares and the issuance of common shares by subsidiaries in the amount of $167 million. > A negative amount of $55 million composed of the Corporation’s share of retained earnings adjustments in subsidiaries and Parjointco. > Share issue expenses of the Corporation for an amount of $7 million. filing provides the Corporation with the flexibility to access debt and equity markets on a timely basis to make changes to the Corporation’s capital structure in response to changes in economic conditions and changes in its financial condition. As noted under “Recent Developments”, on February 28, 2013, the Corporation issued 12,000,000 4.8% Non-Cumulative First Preferred Shares Series S for gross proceeds of $300 million. > A loss of $171 million, which represents essentially the Corporation’s share OUTSTAN DING N U M B ER OF COM MON SHARES of other comprehensive income of its subsidiaries and Parjointco. As of the date hereof, there were 709,104,080 common shares of the There were 930,400 common shares issued by the Corporation in the twelve- month period ended December 31, 2012 pursuant to the Corporation’s Employee Stock Option Plan for proceeds of $20 million. As a result of the above, the book value per common share of the Corporation was $16.60 at December 31, 2012, compared with $16.26 at the end of 2011. Corporation outstanding, compared with 708,173,680 as at December 31, 2011. The increase in the number of outstanding common shares reflects the exercise of options under the Corporation’s Employee Stock Option Plan. As of the date hereof, options were outstanding to purchase up to an aggregate of 8,835,797 common shares of the Corporation under the Corporation’s Employee Stock Option Plan. CASH FLOWS CON DEN SED CON SOLIDATED CASH FLOWS FOR THE YEARS ENDED DECEMBER 31 Cash flow from operating activities Cash flow from financing activities Cash flow from investing activities Effect of changes in exchange rates on cash and cash equivalents Increase (decrease) in cash and cash equivalents – continuing operations Cash and cash equivalents, at the beginning Less: cash and cash equivalents from discontinued operations – beginning of period Cash and cash equivalents, at the end – continuing operations 2012 5,369 (561) (4,872) (8) (72) 3,385 – 3,313 2011 5,505 (2,406) (3,106) 24 17 3,656 (288) 3,385 On a consolidated basis, cash and cash equivalents from continuing Cash flows from financing activities, which include dividends paid on the operations decreased by $72 million in the twelve-month period ended common and preferred shares of the Corporation, as well as dividends paid December 31, 2012, compared with an increase of $17 million in the by subsidiaries to non-controlling interests, resulted in a net outflow of corresponding period of 2011. Operating activities produced a net inflow of $5,369 million in the twelve- $561 million in the twelve-month period ended December 31, 2012, compared with a net outflow of $2,406 million in the corresponding period of 2011. month period ended December 31, 2012, compared with a net inflow of Financing activities during the twelve-month period ended December 31, $5,505 million in the corresponding period of 2011. 2012, compared to the same period in 2011, included: Operating activities during the twelve-month period ended December 31, > Dividends paid by the Corporation and by its subsidiaries to non- 2012, compared to the same period in 2011, included: controlling interests of $1,764 million, compared with $1,735 million in the > Lifeco’s cash flow from operations was a net inflow of $4,722 million, corresponding period of 2011. compared with a net inflow of $4,844 million in the corresponding period > Issuance of common shares of the Corporation for an amount of in 2011. Cash provided by operating activities is used by Lifeco primarily to $20 million, compared with $3 million in the corresponding period in 2011, pay policy benefits, policyholder dividends and claims, as well as operating pursuant to the Corporation’s Employee Stock Option Plan. expenses and commissions. Cash flows generated by operations are mainly invested by Lifeco to support future liability cash requirements. > Issuance of common shares by subsidiaries of the Corporation for an amount of $44 million, compared with $61 million in the corresponding > Operating activities of IGM which, after payment of commissions, period of 2011. generated cash flows of $710 million, compared with $777 million in the corresponding period of 2011. > Issuance of preferred shares by the Corporation for an amount of $250 million, compared to no issuance in the corresponding period of 2011. 38 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT REVIEW OF FINANCIAL PERFORMANCE > Issuance of preferred shares by subsidiaries of the Corporation for an > Redemption of capital trust securities by subsidiaries of Lifeco for amount of $650 million, compared to no issuance in the corresponding an amount of $409 million, compared with no redemptions in the period of 2011. corresponding period of 2011. > Repurchase for cancellation by subsidiaries of the Corporation of their Cash flows from investing activities resulted in a net outflow of $4,872 million common shares for an amount of $215 million, compared with $186 million in the twelve-month period ended December 31, 2012, compared with a net in the corresponding period of 2011. outflow of $3,106 million in the corresponding period of 2011. > No repayment of long-term debentures by IGM, compared with repayment Investing activities during the twelve-month period ended December 31, 2012, of long-term debentures of $450 million in the corresponding period of 2011. compared to the same period in 2011, included: > Net inflow of $874 million arising from obligations to securitization entities > Investing activities at Lifeco resulted in a net outflow of $3,838 million, at IGM, compared with a net inflow of $319 million in the corresponding compared with a net outflow of $3,407 million in the corresponding period of 2011. period of 2011. > Net payment of $2 million by IGM arising from obligations related to > Investing activities at IGM resulted in a net outflow of $839 million, assets sold under repurchase agreements, compared to a net payment compared with a net inflow of $229 million in the corresponding period of $408 million in 2011. The net payment in 2011 included the settlement of 2011. of $428 million in obligations related to the sale of $426 million in Canada Mortgage Bonds, which is reported in investing activities. > In addition, the Corporation increased its level of fixed income securities with maturities of more than 90 days, resulting in a net outflow of $195 million, compared with a reduction in the corresponding period of 2011 for a net inflow of $40 million. CASH FLOWS — EQ U IT Y BASI S FOR THE YEARS ENDED DECEMBER 31 CASH FLOW FROM OPERATING ACTIVITIES Net earnings before dividends on perpetual preferred shares Earnings from subsidiaries and Parjointco not received in cash Other CASH FLOW FROM FINANCING ACTIVITIES Dividends paid on common and preferred shares Issuance of perpetual preferred shares Issuance of common shares Other CASH FLOW FROM INVESTING ACTIVITIES Repayment of advance to Parjointco INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS Cash and cash equivalents, beginning of period Cash and cash equivalents, end of period 2012 1,743 (634) 10 1,119 (1,105) 250 20 (7) (842) – – 277 707 984 2011 1,826 (776) 4 1,054 (1,095) – 3 – (1,092) 32 32 (6) 713 707 Power Financial is a holding company. As such, corporate cash flows from Dividends declared by Lifeco and IGM during the twelve-month period ended operations, before payment of dividends on common shares and on preferred December 31, 2012 on their common shares amounted to $1.23 and $2.15 per shares, are principally made up of dividends received from its subsidiaries and share, respectively, compared with $1.23 and $2.10 per share, respectively, Parjointco and income from investments, less operating expenses, financing in the corresponding period in 2011. In the twelve-month period ended charges, and income taxes. The ability of Lifeco and IGM, which are also December 31, 2012, the Corporation recorded dividends from Lifeco and IGM of holding companies, to generally meet their obligations and pay dividends $1,115 million, compared with $1,108 million in the corresponding period of 2011. depends in particular upon receipt of sufficient funds from their subsidiaries. The payment of interest and dividends by Lifeco’s principal subsidiaries is subject to restrictions set out in relevant corporate and insurance laws and regulations, which require that solvency and capital standards be maintained. As well, the capitalization of Lifeco’s principal subsidiaries takes into account Pargesa pays its annual dividends in the second quarter. The dividend paid by Pargesa to Parjointco in 2012 amounted to SF2.57 per bearer share (SF123 million), compared with SF2.72 (SF125 million) in 2011. The Corporation received from Parjointco dividends of SF60 million ($65 million) in 2012 (nil in 2011). In 2011, Parjointco reimbursed an advance from the Corporation of the views expressed by the various credit rating agencies that provide $32 million. ratings related to financial strength and other measures relating to those companies. The payment of dividends by IGM’s principal subsidiaries is subject to corporate laws and regulations which require that solvency standards be maintained. In addition, certain subsidiaries of IGM must also comply with capital and liquidity requirements established by regulatory authorities. In the twelve-month period ended December 31, 2012, dividends declared on the Corporation’s common shares amounted to $1.40 per share, the same as in the corresponding period of 2011. 39 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT SUMMARY OF CRITICAL ACCOUNTING ESTIMATES AND JUDGMENTS The preparation of financial statements in conformity with IFRS requires > Level 3 inputs utilize one or more significant inputs that are not based on management to adopt accounting policies and to make estimates and observable market inputs and include situations where there is little, if assumptions that affect amounts reported in the Corporation’s 2012 any, market activity for the asset or liability. Consolidated Financial Statements. The major accounting policies and related critical accounting estimates underlying the Corporation’s 2012 Consolidated Financial Statements are summarized below. In applying these policies, management makes subjective and complex judgments that frequently require estimates about matters that are inherently uncertain. Many of these policies are common in the insurance and other financial services industries; others are specific to the Corporation’s businesses and operations. The significant accounting estimates and judgments are as follows: In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. In such cases, the level in the fair value hierarchy within which the fair value measurement in its entirety falls has been determined based on the lowest level input that is significant to the fair value measurement in its entirety. The Corporation’s assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment and considers factors specific to the asset or liability. Refer to Note 26 to the Corporation’s 2012 Consolidated Financial Statements for disclosure of the Corporation’s financial instruments fair value IN SU R ANCE AN D INVESTM ENT CONTR ACT LIAB ILITIES measurement as at December 31, 2012. Insurance and investment contract liabilities represent the amounts Fair values for bonds classified as fair value through profit or loss or available required, in addition to future premiums and investment income, to for sale are determined using quoted market prices. Where prices are not provide for future benefit payments, policyholder dividends, commission quoted in a normally active market, fair values are determined by valuation and policy administrative expenses for all insurance and annuity policies in models primarily using observable market data inputs. Fair values for force with Lifeco. The Appointed Actuaries of Lifeco’s subsidiary companies bonds and mortgages and other loans, classified as loans and receivables, are responsible for determining the amount of the liabilities to make are determined by discounting expected future cash flows using current appropriate provisions for Lifeco’s obligations to policyholders. The market rates. Appointed Actuaries determine the liabilities for insurance and investment contracts using generally accepted actuarial practices, according to the standards established by the Canadian Institute of Actuaries. The valuation uses the Canadian Asset Liability Method. This method involves the projection of future events in order to determine the amount of assets that must be set aside currently to provide for all future obligations and involves a significant amount of judgment. Fair values for public stocks are generally determined by the last bid price for the security from the exchange where it is principally traded. Fair values for stocks for which there is no active market are determined by discounting expected future cash flows based on expected dividends and where market value cannot be measured reliably, fair value is estimated to be equal to cost. Fair values for investment properties are determined using independent appraisal services and include management adjustments for material In the computation of insurance contract liabilities, valuation assumptions changes in property cash flows, capital expenditures or general market have been made regarding rates of mortality/morbidity, investment conditions in the interim period between appraisals. returns, levels of operating expenses, rates of policy termination and rates of utilization of elective policy options or provisions. The valuation assumptions use best estimates of future experience together with a margin for adverse deviation. These margins are necessary to provide for possibilities of misestimation and/or future deterioration in the best estimate assumptions and provide reasonable assurance that insurance contract liabilities cover a range of possible outcomes. Margins are reviewed periodically for continued appropriateness. Additional detail regarding these estimates can be found in Note 2 to the Corporation’s 2012 Consolidated Financial Statements. FAIR VALU E M EASU REM ENT Financial and other instruments held by the Corporation and its subsidiaries include portfolio investments, various derivative financial instruments, and debentures and debt instruments. Financial instrument carrying values reflect the prevailing market liquidity and the liquidity premiums embedded in the market pricing methods the Corporation relies upon. In accordance with IFRS 7, Financial Instruments — Disclosure, the Corporation’s assets and liabilities recorded at fair value have been categorized based upon the following fair value hierarchy: IM PAIRM ENT OF INVESTM ENTS Investments are reviewed regularly on an individual basis to determine impairment status. The Corporation considers various factors in the impairment evaluation process, including, but not limited to, the financial condition of the issuer, specific adverse conditions affecting an industry or region, decline in fair value not related to interest rates, bankruptcy or defaults and delinquency in payments of interest or principal. Impairment losses on available-for-sale shares are recorded if the loss is significant or prolonged and subsequent losses are recorded in net earnings. Investments are deemed to be impaired when there is no longer reasonable assurance of timely collection of the full amount of the principal and interest due. The fair value of an investment is not a definitive indicator of impairment, as it may be significantly influenced by other factors, including the remaining term to maturity and liquidity of the asset. However, market price must be taken into consideration when evaluating impairment. For impaired mortgages and other loans, and bonds classified as loans and receivables, provisions are established or impairments recorded to adjust the carrying value to the net realizable amount. Wherever possible, the fair value of collateral underlying the loans or observable market price is used to establish net realizable value. For impaired available-for-sale bonds, recorded at fair value, the accumulated loss recorded in investment revaluation > Level 1 inputs utilize observable, quoted prices (unadjusted) in active reserves is reclassified to net investment income. Impairments on available- markets for identical assets or liabilities that the Corporation has the for-sale debt instruments are reversed if there is objective evidence that a ability to access. permanent recovery has occurred. All gains and losses on bonds classified > Level 2 inputs utilize other-than-quoted prices included in Level 1 that are or designated as fair value through profit or loss are already recorded in observable for the asset or liability, either directly or indirectly. earnings, therefore a reduction due to impairment of assets will be recorded in earnings. As well, when determined to be impaired, contractual interest is no longer accrued and previous interest accruals are reversed. 40 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT REVIEW OF FINANCIAL PERFORMANCE GOODWILL AN D INTANG IB LES IM PAIRM ENT TESTING or liabilities and income tax expense. Therefore, there can be no assurance Goodwill and intangible assets are tested for impairment annually or more that taxes will be payable as anticipated and/or the amount and timing frequently if events indicate that impairment may have occurred. Intangible of receipt or use of the tax-related assets will be as currently expected. assets that were previously impaired are reviewed at each reporting date Management’s experience indicates the taxation authorities are more for evidence of reversal. In the event that certain conditions have been met, aggressively pursuing perceived tax issues and have increased the resources the Corporation would be required to reverse the impairment charge or a they put to these efforts. portion thereof. Goodwill has been allocated to cash generating units (CGU), representing the lowest level in which goodwill is monitored for internal reporting purposes. Goodwill is tested for impairment by comparing the carrying value of the CGU groups to the recoverable amount to which the goodwill has been allocated. Intangible assets are tested for impairment by comparing the asset’s carrying amount to its recoverable amount. PEN SION PL AN S AN D OTH ER POST- EM PLOYM ENT B EN EFITS The Corporation and its subsidiaries maintain defined benefit pension plans as well as defined contribution pension plans for eligible employees and advisors. The plans provide pensions based on length of service and final average earnings. Certain pension payments are indexed either on an ad hoc basis or a guaranteed basis. The defined contribution pension plans provide pension An impairment loss is recognized for the amount by which the asset’s benefits based on accumulated employee and Corporation contributions. carrying amount exceeds its recoverable amount. The recoverable amount The Corporation and its subsidiaries also provide certain post-employment is the higher of the asset’s fair value less cost to sell and value in use, which is healthcare, dental and life insurance benefits to eligible retirees, employees calculated using the present value of estimated future cash flows expected and advisors. For further information on the Corporation’s pension plans and to be generated. INCOM E TA XES The Corporation is subject to income tax laws in various jurisdictions. The Corporation’s and its subsidiaries’ operations are complex and related tax interpretations, regulations and legislation that pertain to its activities are subject to continual change. Lifeco’s primary Canadian operating subsidiaries are subject to a regime of specialized rules prescribed under the Income Tax Act (Canada) for purposes of determining the amount of the companies’ income that will be subject to tax in Canada. Accordingly, the provision for income taxes represents the applicable corporation’s management’s interpretation of the relevant tax laws and its estimate of current and future income tax implications of the transactions and events during the period. Deferred tax assets and liabilities are recorded based on expected future tax rates and management’s assumptions regarding the expected timing of the reversal of temporary differences. The Corporation has substantial deferred income tax assets. The recognition of deferred tax assets depends on management’s assumption that future earnings will be sufficient to realize the deferred benefit. The amount of the asset recorded is based on management’s best estimate of the timing of the reversal of the asset. other post-employment benefits refer to Note 24 to the Corporation’s 2012 Consolidated Financial Statements. Accounting for pension and other post-employment benefits requires estimates of future returns on plan assets, expected increases in compensation levels, trends in healthcare costs, and the period of time over which benefits will be paid, as well as the appropriate discount rate for accrued benefit obligations. These assumptions are determined by management using actuarial methods and are reviewed and approved annually. Emerging experience, which may differ from the assumptions, will be revealed in future valuations and will affect the future financial position of the plans and net periodic benefit costs. DEFERRED SELLING COM M I S SION S Commissions paid on the sale of certain mutual fund products are deferred and amortized over their useful lives, not exceeding a period of five years. IGM regularly reviews the carrying value of deferred selling commissions with respect to any events or circumstances that indicate impairment. Among the tests performed by IGM to assess recoverability is the comparison of the future economic benefits derived from the deferred selling commission asset in relation to its carrying value. At December 31, 2012, there were no The audit and review activities of the Canada Revenue Agency and other indications of impairment to deferred selling commissions. jurisdictions’ tax authorities affect the ultimate determination of the amounts of income taxes payable or receivable, future income tax assets FUTURE ACCOUNTING CHANGES The Corporation continuously monitors the potential changes proposed by > The elimination of the concept of an expected return on assets (EROA). the International Accounting Standards Board (IASB) and analyzes the effect Amended IAS 19 requires the use of the discount rate in the place of EROA in that changes in the standards may have on the Corporation’s consolidated the determination of the net interest component of the pension expense. financial statements when they become effective: This discount rate is determined by reference to market yields at the end E FFEC TI V E FO R T H E CO R P O R ATI O N I N 2 01 3 IAS 19 — Employee Benefits Effective on January 1, 2013, the Corporation adopted the amended IAS 19, Employee Benefits. The amended IAS 19 includes requirements for the measurement, presentation and disclosure for defined benefit plans. Amendments include: > The elimination of the deferral and amortization approach (corridor approach) for recognizing actuarial gains and losses in net earnings. Actuarial gains and losses will be recognized in other comprehensive income. Actuarial gains and losses recognized in other comprehensive income will not be reclassified to net earnings in subsequent periods. of the reporting period on high-quality corporate bonds. > Changes in the recognition of past service costs. Past service costs resulting from plan amendments or curtailments will be recognized in net earnings in the period in which the plan amendments or curtailments occur, without regard to vesting. In accordance with the transitional provisions in IAS 19, this change in IFRS will be applied retroactively and is anticipated to decrease equity by approximately $470 million at January 1, 2012 (decrease of $330 million in shareholders’ equity, and $140 million in non-controlling interests) with an additional decrease to equity of approximately $240 million at January 1, 2013 (decrease of $165 million in shareholders’ equity and $75 million 41 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT in non-controlling interests). Furthermore, the effect of applying this standard retroactively will decrease earnings before tax by approximately E FFEC TI V E FO R T H E CO R P O R ATI O N S U B S EQ U E N T TO 2 01 3 $12 million for the year ended December 31, 2012. IFRS 4 — Insurance Contracts The IASB issued an exposure draft proposing IFRS 10 — Consolidated Financial Statements Effective for the Corporation changes to the accounting standard for insurance contracts in July 2010. The on January 1, 2013, IFRS 10, Consolidated Financial Statements uses consolidation proposal would require an insurer to measure insurance liabilities using a principles based on a revised definition of control. The definition of control model focusing on the amount, timing, and uncertainty of future cash flows is dependent on the power of the investor to direct the activities of the associated with fulfilling its insurance contracts. This is vastly different from investee, the ability of the investor to derive variable returns from its holdings the connection between insurance assets and liabilities considered under the in the investee, and a direct link between the power to direct activities and Canadian Asset Liability Method (CALM) and may cause significant volatility receive benefits. The IASB issued amendments to IFRS 10 and IFRS 12 in October 2012 that in the results of Lifeco. The exposure draft also proposes changes to the presentation and disclosure within the financial statements. introduced an exception from consolidation for the controlled entities of Since the release of the exposure draft, there have been discussions within investment entities. Lifeco continues to review the financial reporting of the insurance industry and between accounting standards setters globally the segregated funds for the risk of policyholders presented within Lifeco’s recommending significant changes to the 2010 exposure draft. At this time financial statements to determine whether it would be different than the no new standard has been either re-exposed or released. current reporting under IFRS. Lifeco will continue to measure insurance contract liabilities using CALM until IFRS 11 — Joint Arrangements Effective for the Corporation on January 1, such time when a new IFRS for insurance contract measurement is issued. 2013, IFRS 11, Joint Arrangements separates jointly controlled entities between A final standard is not expected to be implemented for several years; Lifeco joint operations and joint ventures. The standard eliminates the option continues to actively monitor developments in this area. of using proportionate consolidation in accounting for interests in joint IFRS 9 — Financial Instruments Effective for the Corporation on January 1, ventures, requiring an entity to use the equity method of accounting. The 2015, IFRS 9, Financial Instruments requires all financial assets to be classified standard is not expected to have a significant impact on the Corporation’s on initial recognition at amortized cost or fair value while eliminating financial position or results of operations. the existing categories of available for sale, held to maturity, and loans IFRS 12 — Disclosure of Interest in Other Entities Effective for the and receivables. Corporation on January 1, 2013, IFRS 12, Disclosure of Interest in Other Entities The new standard will also require: provides new disclosure requirements for the interest an entity has in subsidiaries, joint arrangements, associates, and structured entities. The standard requires enhanced disclosure, including how control was determined and any restrictions that might exist on consolidated assets > embedded derivatives to be assessed for classification together with their financial asset host; > an expected loss impairment method be used for financial assets; and and liabilities presented within the financial statements. The standard is > amendments to the criteria for hedge accounting and measuring expected to result in additional disclosures. effectiveness. IFRS 13 — Fair Value Measurement Effective for the Corporation on The full impact of IFRS 9 on the Corporation will be evaluated after the January 1, 2013, IFRS 13, Fair Value Measurement provides guidance to increase remaining stages of the IASB’s project to replace IAS 39, Financial Instruments: consistency and comparability in fair value measurements and related Recognition and Measurement — impairment methodology, hedge accounting, disclosures through a “fair value hierarchy”. The hierarchy categorizes the and asset and liability offsetting — are finalized. The current timetable for inputs used in valuation techniques into three levels. The hierarchy gives the adoption of IFRS 9, Financial Instruments is for the annual period beginning highest priority to (unadjusted) quoted prices in active markets for identical January 1, 2015; however, the Corporation continues to monitor this standard assets or liabilities and the lowest priority to unobservable inputs. in conjunction with developments to IFRS 4. The standard relates primarily to disclosure and will not impact the financial IAS 32 — Financial Instruments: Presentation Effective for the Corporation results of the Corporation. IAS 1 — Presentation of Financial Statements Effective for the Corporation on January 1, 2014, IAS 32, Financial Instruments: Presentation clarifies the existing requirements for offsetting financial assets and financial liabilities. on Januar y 1, 2013, IAS 1, Presentation of Financial Statements includes The Corporation is evaluating the impact this standard will have on the requirements that other comprehensive income be classified by nature and presentation of its financial statements. E X P O S U R E D R A F T S N OT Y E T E FFEC TI V E IAS 17 — Leases The IASB issued an exposure draft proposing a new accounting model for leases where both lessees and lessors would record the assets and liabilities on the balance sheet at the present value of the lease payments arising from all lease contracts. The new classification would be the right-of-use model, replacing the operating and finance lease accounting models that currently exist. The full impact of adoption of the proposed changes will be determined once the final leases standard is issued. grouped between those items that will be classified subsequently to profit or loss (when specific conditions are met) and those that will not be reclassified. This revised standard relates only to presentation and will not impact the financial results of the Corporation. IFRS 7 — Financial Instruments: Disclosure Effective for the Corporation on January 1, 2013, the IASB issued amendments to IFRS 7 regarding disclosure of offsetting financial assets and financial liabilities. The amendments allow users of financial statements to improve their understanding of transfer transactions of financial assets (for example, securitizations), including understanding the possible effects of any risks that may remain with the entity that transferred the assets. The amendments also require additional disclosures if a disproportionate amount of transfer transactions are undertaken near the end of a reporting period. This revised standard relates only to disclosure and will not impact the financial results of the Corporation. 42 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT REVIEW OF FINANCIAL PERFORMANCE IAS 18 — Revenue The IASB issued a second exposure draft in November 2011 The full impact of adoption of the proposed changes will be determined which proposed a single revenue recognition standard to align the financial once the final revenue recognition standard is issued, which is targeted for reporting of revenue from contracts with customers and related costs. A release in 2013. company would recognize revenue when it transfers goods or services to a customer in the amount of the consideration the company expects to receive from the customer. RISK FACTORS There are certain risks inherent in an investment in the securities of the performance of Power Financial and its subsidiaries. In recent years, global Corporation and in the activities of the Corporation, including the following financial conditions and market events have experienced increased volatility and others disclosed elsewhere in this document, which investors should and resulted in the tightening of credit that has reduced available liquidity carefully consider before investing in securities of the Corporation. This and overall economic activity. There can be no assurance that debt or equity description of risks does not include all possible risks, and there may be other financing will be available, or, together with internally generated funds, will risks of which the Corporation is not currently aware. be sufficient to meet or satisfy Power Financial’s objectives or requirements Power Financial is a holding company that holds substantial interests in the financial services sector through its controlling interest in each of Lifeco and IGM. As a result, investors in Power Financial are subject to the risks attributable to its status as a shareholder of its subsidiaries, including those that Power Financial has as the principal shareholder of each of Lifeco and IGM. As a holding company, Power Financial’s ability to pay interest and other operating expenses and dividends, to meet its obligations and to complete current or desirable future enhancement opportunities or acquisitions generally depends upon receipt of sufficient dividends from its principal subsidiaries and other investments and its ability to raise additional capital. The likelihood that shareholders of Power Financial will receive dividends will be dependent upon the operating performance, profitability, financial position and creditworthiness of the principal subsidiaries of Power Financial and on their ability to pay dividends to Power Financial. The payment of interest and dividends by certain of these principal subsidiaries to Power Financial is also subject to restrictions set forth in insurance, securities and corporate laws and regulations which require that solvency and capital standards be maintained by such companies. If required, the ability of Power Financial to arrange additional financing in the future will depend in part upon prevailing market conditions as well as the business or, if the foregoing are available to Power Financial, that they will be on terms acceptable to Power Financial. The inability of Power Financial to access sufficient capital on acceptable terms could have a material adverse effect on Power Financial’s business, prospects, dividend paying capability and financial condition, and further enhancement opportunities or acquisitions. The market price for Power Financial’s securities may be volatile and subject to wide fluctuations in response to numerous factors, many of which are beyond Power Financial’s control. Economic conditions may adversely affect Power Financial, including fluctuations in foreign exchange, inflation and interest rates, as well as monetary policies, business investment and the health of capital markets in Canada, the United States and Europe. In recent years, financial markets have experienced significant price and volume fluctuations that have affected the market prices of equity securities held by the Corporation and its subsidiaries and that have often been unrelated to the operating performance, underlying asset values or prospects of such companies. Additionally, these factors, as well as other related factors, may cause decreases in asset values that are deemed to be significant or prolonged, which may result in impairment losses. In periods of increased levels of volatility and related market turmoil, Power Financial’s subsidiaries’ operations could be adversely impacted and the trading price of Power Financial’s securities may be adversely affected. OFF-BALANCE SHEET ARRANGEMENTS GUAR ANTEES LET TERS OF CREDIT In the normal course of their businesses, the Corporation and its subsidiaries In the normal course of their reinsurance business, Lifeco’s subsidiaries may enter into certain agreements, the nature of which precludes the provide letters of credit to other parties or beneficiaries. A beneficiary will possibility of making a reasonable estimate of the maximum potential typically hold a letter of credit as collateral in order to secure statutory credit amount the Corporation or subsidiary could be required to pay third parties, for reserves ceded to or amounts due from Lifeco’s subsidiaries. A letter of as some of these agreements do not specify a maximum amount and the credit may be drawn upon demand. If an amount is drawn on a letter of credit amounts are dependent on the outcome of future contingent events, the by a beneficiary, the bank issuing the letter of credit will make a payment to nature and likelihood of which cannot be determined. the beneficiary for the amount drawn, and Lifeco’s subsidiaries will become obligated to repay this amount to the bank. Lifeco, through certain of its operating subsidiaries, has provided letters of credit to both external and internal parties, which are described in Note 30 to the Corporation’s 2012 Consolidated Financial Statements. 43 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT CONTINGENT LIABILITIES The Corporation and its subsidiaries are from time to time subject to legal actions, During the fourth quarter of 2011, in response to the Appeal Decision, Lifeco including arbitrations and class actions, arising in the normal course of business. re-evaluated and reduced the litigation provision established in the third quarter It is inherently difficult to predict the outcome of any of these proceedings with of 2010, which positively impacted common shareholder net earnings of Lifeco certainty, and it is possible that an adverse resolution could have a material in 2011 by $223 million after tax (Power Financial’s share — $158 million). adverse effect on the consolidated financial position of the Corporation. However, based on information presently known, it is not expected that any of the existing legal actions, either individually or in the aggregate, will have a material adverse effect on the consolidated financial position of the Corporation. During the subsequent event period, in response to the Ontario Superior Court of Justice decision on January 24, 2013, Lifeco established an incremental provision of $140 million after tax in the common shareholders account of Lifeco (Power Financial’s share — $99 million). Lifeco now holds $290 million in after-tax A subsidiary of Lifeco has declared a partial windup in respect of an Ontario provisions for these proceedings. defined benefit pension plan which will not likely be completed for some time. The partial windup could involve the distribution of the amount of actuarial surplus, if any, attributable to the wound-up portion of the plan. In addition to the regulatory proceedings involving this partial windup, a related class action proceeding has been commenced in Ontario related to the partial windup and three potential partial windups under the plan. The class action also challenges the validity of charging expenses to the plan. The provisions for certain Canadian retirement plans in the amounts of $97 million after tax established by Lifeco’s subsidiaries in the third quarter of 2007 have been reduced to $34 million. Actual results could differ from these estimates. The Court of Appeal for Ontario released a decision on November 3, 2011 in regard to the involvement of the participating accounts of Lifeco subsidiaries London Life and Great-West Life in the financing of the acquisition of London Insurance Group Inc. in 1997 (the Appeal Decision). The Appeal Decision ruled Lifeco subsidiaries achieved substantial success and required that there be adjustments to the original trial judgment regarding amounts which were to be reallocated to the participating accounts going forward. Any monies to be reallocated to the participating accounts will be dealt with in accordance with Lifeco subsidiaries’ participating policyholder dividend policies in the ordinary course of business. No awards are to be paid out to individual class members. On May 24, 2012, the Supreme Court of Canada dismissed the plaintiff’s application for leave to appeal the Appeal Decision. The Appeal Decision directed the parties back to the trial judge to work out the remaining issues. On January 24, 2013 the Ontario Superior Court of Justice released a decision ordering that $285 million be reallocated to the participating account surplus. Lifeco will be appealing that decision. Regardless of the ultimate outcome of this case, there will not be any impact on the capital position of Lifeco or on participating policy contract terms and conditions. Based on information presently known, this matter is not expected to have a material adverse effect on the consolidated financial position of the Corporation. In connection with the acquisition of its subsidiary Putnam, Lifeco has an indemnity from a third party against liabilities arising from certain litigation and regulatory actions involving Putnam. Putnam continues to have potential liability for these matters in the event the indemnity is not honoured. Lifeco expects the indemnity will continue to be honoured and that any liability of Putnam would not have a material adverse effect on its consolidated financial position. On October 17, 2012, a subsidiary of Lifeco received an administrative complaint from the Massachusetts Securities Division in relation to that subsidiary’s role as collateral manager of two collateralized debt obligations. The complaint is seeking certain remedies, including the disgorgement of fees, a civil administrative fine and a cease and desist order. In addition, that same subsidiary is a defendant in two civil litigation matters brought by institutions involved in those collateralized debt obligations. Based on information presently known, Lifeco believes these matters are without merit. The potential outcome of these matters is not yet determined. Subsidiaries of Lifeco have an investment in a USA-based private equity partnership wherein a dispute arose over the terms of the partnership agreement. Lifeco established a provision in the fourth quarter of 2011 for $99 million after tax. The dispute was resolved on January 10, 2012, and as a result, Lifeco no longer holds the provision. COMMITMENTS AND CONTRACTUAL OBLIGATIONS The following table provides a summary of future consolidated contractual obligations. PAYMENTS DUE BY PERIOD Long-term debt [1] Deposits and certificates Obligations to securitization entities Operating leases [2] Purchase obligations [3] Contractual commitments [4] Total Letters of credit [5] TOTAL 5,858 163 4,701 733 83 516 LESS THAN 1 YEAR 1 – 5 YEARS 296 145 789 153 58 470 302 13 3,877 422 25 46 MORE THAN 5 YEARS 5,260 5 35 158 12,054 1,911 4,685 5,458 [1] Please refer to Note 13 to the Corporation’s 2012 Consolidated Financial Statements for further information. [2] Includes office space and certain equipment used in the normal course of business. Lease payments are charged to operations in the period of use. [3] Purchase obligations are commitments of Lifeco to acquire goods and services, essentially related to information services. [4] Represents commitments by Lifeco. These contractual commitments are essentially commitments of investment transactions made in the normal course of operations, in accordance with its policies and guidelines, which are to be disbursed upon fulfilment of certain contract conditions. [5] Please refer to Note 30 to the Corporation’s 2012 Consolidated Financial Statements. 44 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT REVIEW OF FINANCIAL PERFORMANCE FINANCIAL INSTRUMENTS FAIR VALU E OF FINANCIAL IN STRU M ENTS and are generally calculated using market conditions at a specific point in The following table presents the fair value of the Corporation’s financial time and may not reflect future fair values. The calculations are subjective instruments. Fair value represents the amount that would be exchanged in in nature, involve uncertainties and matters of significant judgment (please an arm’s-length transaction between willing parties and is best evidenced by refer to Note 26 to the Corporation’s 2012 Consolidated Financial Statements). a quoted market price, if one exists. Fair values are management’s estimates AS AT DECEMBER 31 ASSETS Cash and cash equivalents Investments (excluding investment properties) Funds held by ceding insurers Derivative financial instruments Other financial assets Total financial assets LIABILITIES Obligation to securitization entities Debentures and debt instruments Capital trust securities Derivative financial instruments Other financial liabilities Total financial liabilities CARRYING VALUE 2012 FAIR VALUE CARRYING VALUE 2011 FAIR VALUE 3,313 3,313 3,385 3,385 120,062 122,805 113,841 116,170 10,537 10,537 1,060 4,212 1,060 4,212 9,923 1,056 3,539 9,923 1,056 3,539 139,184 141,927 131,744 134,073 4,701 5,858 119 413 4,923 16,014 4,787 6,830 171 413 4,925 17,126 3,827 5,888 533 427 3,930 6,502 577 427 4,509 4,510 15,184 15,946 DERIVATIVE FINANCIAL IN STRU M ENTS There were no major changes to the Corporation’s and its subsidiaries’ policies In the course of their activities, the Corporation and its subsidiaries use and procedures with respect to the use of derivative instruments in the derivative financial instruments. When using such derivatives, they only act twelve-month period ended December 31, 2012. There has been an increase as limited end-users and not as market-makers in such derivatives. in the notional amount outstanding ($16,888 million at December 31, 2012, The use of derivatives is monitored and reviewed on a regular basis by senior management of the companies. The Corporation and its subsidiaries have each established operating policies and processes relating to the use of derivative financial instruments, which in particular aim at: > prohibiting the use of derivative instruments for speculative purposes; compared with $14,948 million at December 31, 2011) and an increase in the exposure to credit risk ($1,060 million at December 31, 2012, compared with $1,056 million at December 31, 2011) that represents the market value of those instruments, which are in a gain position. During the third quarter of 2012, Lifeco purchased equity put options with a notional amount of $849 million as a macro balance sheet credit hedge against a decline in European equity > documenting transactions and ensuring their consistency with risk market levels. See Note 25 to the Corporation’s 2012 Consolidated Financial management policies; Statements for more information on the type of derivative financial > demonstrating the effectiveness of the hedging relationships; and instruments used by the Corporation and its subsidiaries. > monitoring the hedging relationship. DISCLOSURE CONTROLS AND PROCEDURES Based on their evaluations as of December 31, 2012, the Chief Executive Officer and the Chief Financial Officer have concluded that the Corporation’s disclosure controls and procedures were effective as at December 31, 2012. INTERNAL CONTROL OVER FINANCIAL REPORTING Based on their evaluations as of December 31, 2012, the Chief Executive Officer and the Chief Financial Officer have concluded that the Corporation’s internal controls over financial reporting were effective as at December 31, 2012. During the fourth quarter of 2012, there have been no changes in the Corporation’s internal control over financial reporting that have materially affected, or are reasonably likely to materially affect, the Corporation’s internal control over financial reporting. 45 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT 2012 2011 2010 32,412 32,433 32,559 1,686 2.38 1,626 2.30 2.28 – – – 1,626 2.30 2.28 1,729 2.44 1,722 2.43 2.41 38 0.05 0.05 1,684 2.38 2.36 1,625 2.30 1,468 2.08 2.06 1 – – 1,467 2.08 2.06 268,593 252,678 244,644 16,014 5,858 14,029 16.60 709.1 15,184 5,888 13,521 16.26 708.2 17,748 6,313 12,811 15.26 708.0 1.4000 1.4000 1.4000 0.5250 0.5250 0.45238 1.3750 1.3125 1.4750 1.4375 1.5000 1.2375 1.2750 1.5000 1.4500 1.1000 0.9750 1.3750 1.3125 1.4750 1.4375 1.5000 0.5875 1.2375 1.2750 1.5000 1.4500 0.6487 1.3750 1.3125 1.4750 1.4375 1.5000 1.2375 1.2750 1.5000 1.4500 1.1000 1.2837 SELECTED ANNUAL INFORMATION FOR THE YEARS ENDED DECEMBER 31 Total revenue including discontinued operations Operating earnings attributable to common shareholders [1] per share – basic Net earnings attributable to common shareholders per share – basic per share – diluted Earnings from discontinued operations attributable to common shareholders per share – basic per share – diluted Earnings from continuing operations attributable to common shareholders per share – basic per share – diluted Consolidated assets Total financial liabilities Debentures and debt instruments Shareholders’ equity Book value per share Number of common shares outstanding [millions] Dividends per share [declared] Common shares First preferred shares Series A Series C [2] Series D Series E Series F Series H Series I Series J [3] Series K Series L Series M Series O Series P [4] Series R [5] [1] Operating earnings and operating earnings per share are non-IFRS financial measures. [2] Redeemed in October 2010. [3] Redeemed in July 2010. [4] Issued in June 2010. [5] Issued in February 2012. 46 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT REVIEW OF FINANCIAL PERFORMANCE CONSOLIDATED FINANCIAL STATEMENTS CONSOLIDATED BALANCE SHEETS DECEMBER 31 [IN MILLIONS OF CANADIAN DOLL ARS] ASSETS Cash and cash equivalents [Note 3] Investments [Note 4] Bonds Mortgages and other loans Shares Investment properties Loans to policyholders Funds held by ceding insurers [Note 5] Reinsurance assets [Note 11] Investment in jointly controlled corporation [Note 6] Owner-occupied properties and capital assets [Note 7] Derivative financial instruments [Note 25] Other assets [Note 8] Deferred tax assets [Note 16] Intangible assets [Note 9] Goodwill [Note 9] Investments on account of segregated fund policyholders [Note 10] Total assets LIABILITIES Insurance contract liabilities [Note 11] Investment contract liabilities [Note 11] Obligation to securitization entities [Note 12] Debentures and debt instruments [Note 13] Capital trust securities [Note 14] Derivative financial instruments [Note 25] Other liabilities [Note 15] Deferred tax liabilities [Note 16] Investment and insurance contracts on account of segregated fund policyholders [Note 10] Total liabilities EQUITY Stated capital [Note 17] Perpetual preferred shares Common shares Retained earnings Reserves Total shareholders’ equity Non-controlling interests [Note 19] Total equity Total liabilities and equity Approved by the Board of Directors Signed, Raymond Royer Director 2012 3,313 83,387 22,797 6,796 3,525 7,082 123,587 10,537 2,064 2,149 791 1,060 5,368 1,170 4,933 8,673 104,948 268,593 2011 3,385 78,759 21,518 6,402 3,201 7,162 117,042 9,923 2,061 2,222 738 1,056 4,653 1,207 5,023 8,786 96,582 252,678 119,919 114,730 739 4,701 5,858 119 413 6,311 1,213 104,948 244,221 2,255 664 11,148 (38) 14,029 10,343 24,372 782 3,827 5,888 533 427 5,836 1,258 96,582 229,863 2,005 639 10,743 134 13,521 9,294 22,815 268,593 252,678 Signed, R. Jeffrey Orr Director 47 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT CONSOLIDATED STATEMENTS OF EARNINGS FOR THE YEARS ENDED DECEMBER 31 [IN MILLIONS OF CANADIAN DOLL ARS, EXCEPT PER SHARE AMOUNTS] 2012 2011 REVENUES Premium income Gross premiums written Ceded premiums Total net premiums Net investment income [Note 4] Regular net investment income Change in fair value Fee income Total revenues EXPENSES Policyholder benefits Insurance and investment contracts Gross Ceded Policyholder dividends and experience refunds Change in insurance and investment contract liabilities Total paid or credited to policyholders Commissions Operating and administrative expenses [Note 22] Financing charges [Note 23] Total expenses Share of earnings (losses) of investment in jointly controlled corporation [Note 6] Earnings before income taxes – continuing operations Income taxes [Note 16] Net earnings – continuing operations Net earnings – discontinued operations Net earnings Attributable to Non-controlling interests [Note 19] Perpetual preferred shareholders Common shareholders Earnings per common share [Note 28] Net earnings attributable to common shareholders – Basic – Diluted Net earnings from continuing operations attributable to common shareholders – Basic – Diluted 48 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT 21,839 (3,019) 18,820 5,711 2,650 8,361 5,231 32,412 17,431 (1,457) 15,974 1,437 5,040 22,451 2,501 3,696 395 29,043 3,369 134 3,503 563 2,940 – 2,940 1,197 117 1,626 2,940 2.30 2.28 2.30 2.28 20,013 (2,720) 17,293 5,610 4,154 9,764 5,343 32,400 16,591 (1,217) 15,374 1,424 6,245 23,043 2,312 3,006 409 28,770 3,630 (20) 3,610 706 2,904 63 2,967 1,141 104 1,722 2,967 2.43 2.41 2.38 2.36 CONSOLIDATED FINANCIAL STATEMENTS CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME FOR THE YEARS ENDED DECEMBER 31 [IN MILLIONS OF CANADIAN DOLL ARS] Net earnings Other comprehensive income (loss) Net unrealized gains (losses) on available-for-sale assets Unrealized gains (losses) Income tax (expense) benefit Realized (gains) losses transferred to net earnings Income tax expense (benefit) Net unrealized gains (losses) on cash flow hedges Unrealized gains (losses) Income tax (expense) benefit Realized (gains) losses transferred to net earnings Income tax expense (benefit) Net unrealized foreign exchange gains (losses) on translation of foreign operations Share of other comprehensive income of jointly controlled corporation Other comprehensive income (loss) Total comprehensive income Attributable to Non-controlling interests Perpetual preferred shareholders Common shareholders 2012 2,940 85 (25) (126) 31 (35) 14 (5) 2 (1) 10 (78) (100) (203) 2,737 1,165 117 1,455 2,737 2011 2,967 226 (48) (116) 30 92 (24) 10 2 (1) (13) 214 (222) 71 3,038 1,269 104 1,665 3,038 49 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY STATED CAPITAL RESERVES YEAR ENDED DECEMBER 31, 2012 [IN MILLIONS OF CANADIAN DOLL ARS] PERPETUAL PREFERRED SHARES COMMON SHARES RETAINED EARNINGS SHARE-BASED COMPENSATION OTHER COMPREHENSIVE INCOME [NOTE 27] Balance, beginning of year 2,005 639 Net earnings Other comprehensive income (loss) Total comprehensive income Issue of perpetual preferred shares Dividends to shareholders Perpetual preferred shares Common shares Dividends to non-controlling interests Share-based compensation Stock options exercised Effects of changes in ownership and capital on non-controlling interests, and other – – – 250 – – – – – – Balance, end of year 2,255 – – – – – – – – 25 – 664 10,743 1,743 – 1,743 – (117) (992) – – – (229) 11,148 111 – – – – – – – 9 (10) – 110 23 – (171) (171) – – – – – – – (148) NON- CONTROLLING INTERESTS 9,294 1,197 (32) 1,165 – – – (659) 4 (3) TOTAL EQUITY 22,815 2,940 (203) 2,737 250 (117) (992) (659) 13 12 542 313 10,343 24,372 TOTAL 134 – (171) (171) – – – – 9 (10) – (38) STATED CAPITAL RESERVES YEAR ENDED DECEMBER 31, 2011 [IN MILLIONS OF CANADIAN DOLL ARS] PERPETUAL PREFERRED SHARES COMMON SHARES RETAINED EARNINGS SHARE-BASED COMPENSATION OTHER COMPREHENSIVE INCOME [NOTE 27] Balance, beginning of year 2,005 636 Net earnings Other comprehensive income (loss) Total comprehensive income Dividends to shareholders Perpetual preferred shares Common shares Dividends to non-controlling interests Share-based compensation Stock options exercised Effects of changes in ownership and capital on non-controlling interests, and other – – – – – – – – – – – – – – – – 3 – 9,982 1,826 – 1,826 (104) (991) – – – 30 Balance, end of year 2,005 639 10,743 108 – – – – – – 8 (5) – 111 80 – (57) (57) – – – – – – 23 NON- CONTROLLING INTERESTS 8,741 1,141 128 1,269 – – (640) 2 (2) TOTAL 188 – (57) (57) – – – 8 (5) TOTAL EQUITY 21,552 2,967 71 3,038 (104) (991) (640) 10 (4) – 134 (76) (46) 9,294 22,815 50 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT CONSOLIDATED FINANCIAL STATEMENTS CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED DECEMBER 31 [IN MILLIONS OF CANADIAN DOLL ARS] OPERATING ACTIVITIES — CONTINUING OPERATIONS Earnings before income taxes – continuing operations Income tax paid, net of refunds received Adjusting items Change in insurance and investment contract liabilities Change in funds held by ceding insurers Change in funds held under reinsurance contracts Change in reinsurance assets Change in fair value through profit or loss Other FINANCING ACTIVITIES — CONTINUING OPERATIONS Dividends paid By subsidiaries to non-controlling interests Perpetual preferred shares Common shares Issue of common shares by the Corporation [Note 17] Issue of common shares by subsidiaries Issue of perpetual preferred shares by the Corporation [Note 17] Issue of preferred shares by subsidiaries Repurchase of common shares by subsidiaries Changes in debt instruments Repayment of debentures [Note 13] Change in obligations related to assets sold under repurchase agreements Change in obligations to securitization entities Redemption of capital trust securities [Note 14] Other INVESTMENT ACTIVITIES — CONTINUING OPERATIONS Bond sales and maturities Mortgage loan repayments Sale of shares Change in loans to policyholders Change in repurchase agreements Investment in bonds Investment in mortgage loans Investment in shares Proceeds on disposal of business Investment in investment properties and other Effect of changes in exchange rates on cash and cash equivalents – continuing operations Increase (decrease) in cash and cash equivalents – continuing operations Cash and cash equivalents, beginning of year Less: Cash and cash equivalents – discontinued operations, beginning of year Cash and cash equivalents – continuing operations, end of year NET CASH FROM CONTINUING OPERATING ACTIVITIES INCLUDES Interest and dividends received Interest paid 2012 3,503 (414) 5,034 205 201 45 (2,650) (555) 5,369 (659) (114) (991) (1,764) 20 44 250 650 (215) (1) – (2) 874 (409) (8) (561) 24,516 2,071 2,152 (57) (23) (27,716) (3,394) (2,162) – (259) (4,872) (8) (72) 3,385 – 3,313 5,062 492 2011 3,610 (4) 6,029 464 25 415 (4,182) (852) 5,505 (640) (104) (991) (1,735) 3 61 – – (186) (6) (450) (408) 319 – (4) (2,406) 20,486 1,756 2,355 (198) (1,053) (20,510) (3,361) (2,643) 199 (137) (3,106) 24 17 3,656 (288) 3,385 5,044 493 51 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS All tabular amounts are in millions of Canadian dollars, unless otherwise noted. NOTE 1 CORPORATE INFORMATION Power Financial Corporation (Power Financial or the Corporation) is a companies based in Europe, active in the following industries: oil and gas and publicly listed company (TSX: PWF) incorporated and domiciled in Canada. alternative energies, electricity, energy and environmental services, water The registered address of the Corporation is 751 Victoria Square, Montréal, and waste management services, cement and other building materials, and Québec, Canada, H2Y 2J3. wines and spirits. Power Financial is a diversified international management and holding The Consolidated Financial Statements (f inancial statements) of company that holds interests, directly or indirectly, in companies in the Power Financial for the year ended December 31, 2012 were approved for issue financial services industry in Canada, the United States and Europe and, by the Board of Directors on March 13, 2013. The Corporation is controlled by through its indirect investment in Pargesa, has substantial holdings in 171263 Canada Inc., which is wholly owned by Power Corporation of Canada. NOTE 2 BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES The financial statements of Power Financial at December 31, 2012 have have been used by management and its subsidiaries are further described been prepared in accordance with International Financial Reporting in the relevant accounting policies of this note and other notes throughout Standards (IFRS). BASI S OF PRESENTATION the financial statements. The reported amounts and note disclosures are determined using management of the Corporation and its subsidiaries’ best estimates. The consolidated financial statements include the accounts of Power Financial and all its subsidiaries on a consolidated basis after elimination of SIG N IFICANT J U DG M ENTS intercompany transactions and balances. Subsidiaries of the Corporation In preparation of the financial statements, management of the Corporation are fully consolidated from the date of acquisition, being the date on which and its subsidiaries is required to make significant judgments that affect the Corporation obtains control, and continue to be consolidated until the the carrying amounts of certain assets and liabilities, and the reported date that such control ceases. The principal subsidiaries of the Corporation are: > Great-West Lifeco Inc. (direct interest of 68.2% (2011 – 68.2%)), whose major operating subsidiary companies are The Great-West Life Assurance Company, Great-West Life & Annuity Insurance Company, London Life Insurance Company, The Canada Life Assurance Company, and Putnam Investments, LLC. amounts of revenues and expenses recorded during the period. Significant judgments have been made in the following areas and are discussed throughout the notes of the financial statements: insurance and investment contract liabilities, classification and fair value of financial instruments, goodwill and intangible assets, pension plans and other post-employment benefits, income taxes, the determination of which financial assets should be derecognized, provisions, subsidiaries and special purpose entities, deferred acquisition costs, deferred income reserves, owner-occupied properties and > IGM Financial Inc. (direct interest of 58.7% (2011 – 57.6%)), whose major fixed assets. operating subsidiary companies are Investors Group Inc. and Mackenzie Financial Corporation. > IGM Financial Inc. holds 4.0% (2011 – 4.0%) of the common shares of Great-West Lifeco Inc., and The Great-West Life Assurance Company holds 3.7% (2011 – 3.6%) of the common shares of IGM Financial Inc. The Corporation also holds a 50% (2011 – 50%) interest in Parjointco N.V. Parjointco holds a 55.6% (2011 – 56.5%) equity interest in Pargesa Holding SA. The Corporation accounts for its investment in Parjointco using the equity method. The preparation of financial statements in conformity with IFRS requires management of the Corporation and its subsidiaries to exercise judgment The results reflect judgments of management of the Corporation and its subsidiaries regarding the impact of prevailing global credit, equity and foreign exchange market conditions. The estimation of insurance and investment contract liabilities relies upon investment credit ratings. Lifeco’s practice is to use third-party independent credit ratings where available. REVEN U E RECOG N ITION For Lifeco, premiums for all types of insurance contracts and contracts with limited mortality or morbidity risk are generally recognized as revenue when due and collection is reasonably assured. Interest income on bonds and mortgages is recognized and accrued using in the process of applying accounting policies and requires management to the effective yield method. make estimates and assumptions that affect the amounts reported in the Dividend income is recognized when the right to receive payment is financial statements and accompanying notes. Actual results may differ established. This is the dividend date for listed stocks and usually the from these estimates. notification date or date when the shareholders have approved the dividend USE OF ESTIMATES AN D AS SU M PTION S In preparation of the financial statements, management of the Corporation and its subsidiaries are required to make estimates and assumptions that affect the reported amounts of assets, liabilities, net earnings and related disclosures. Although some variability is inherent in these estimates, management of the Corporation and its subsidiaries believe that the amounts recorded are reasonable. Key sources of estimation uncertainty include: valuation of insurance and investment contracts, determination of the fair value of financial instruments, carrying value of goodwill, intangible assets, deferred selling commissions, investment in a jointly controlled corporation, legal and other provisions, income taxes and pension plans and other post- employment benefits. Areas where significant estimates and assumptions 52 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT for private equity instruments. Investment property income includes rents earned from tenants under lease agreements and property tax and operating cost recoveries. Rental income leases with contractual rent increases and rent-free periods are recognized on a straight-line basis over the term of the lease. For Lifeco, fee income primarily includes fees earned from the management of segregated fund assets, proprietary mutual fund assets, fees earned on the administration of administrative services only Group health contracts and fees earned from management services. Fee income is recognized when the service is performed, the amount is collectible and can be reasonably estimated. NOTE 2 BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) For IGM, management fees are based on the net asset value of mutual fund Fair value measurement Financial instrument carrying values necessarily assets under management and are recognized on an accrual basis as the reflect the prevailing market liquidity and the liquidity premiums embedded service is performed. Administration fees are also recognized on an accrual in the market pricing methods the Corporation relies upon. basis as the service is performed. Distribution fees derived from mutual fund and securities transactions are recognized on a trade-date basis. Distribution fees derived from insurance and other financial services transactions are recognized on an accrual basis. These management, administration and distribution fees are included in fee income in the Consolidated Statements of Earnings (statements of earnings). CASH AN D CASH EQ U IVALENTS Cash and cash equivalents include cash, current operating accounts, overnight bank and term deposits with original maturities of three months or less, and fixed income securities with an original term to maturity of three months or less. INVESTM ENTS The following is a description of the methodologies used to value instruments carried at fair value: Bonds at fair value through profit or loss and available for sale Fair values for bonds classified as fair value through profit or loss or available for sale are determined with reference to quoted market bid prices primarily provided by third-party independent pricing sources. The Corporation obtains quoted prices in active markets, when available, for identical assets at the balance sheet date to measure bonds at fair value in its fair value through profit or loss and available-for-sale portfolios. Where prices are not quoted in a normally active market, fair values are determined by valuation models. The Corporation maximizes the use of observable inputs and minimizes the use of unobservable inputs when measuring fair value. The Corporation estimates the fair value of bonds not traded in active markets Investments include bonds, mortgages and other loans, shares, investment by referring to actively traded securities with similar attributes, dealer properties, and loans to policyholders. Investments are classified as either quotations, matrix pricing methodology, discounted cash flow analyses fair value through profit or loss, available for sale, held to maturity, loans and/or internal valuation models. This methodology considers such factors and receivables or as non-financial instruments, based on management’s as the issuer’s industry, the security’s rating, term, coupon rate and position intention relating to the purpose and nature for which the instruments were in the capital structure of the issuer, as well as yield curves, credit curves, acquired or the characteristics of the investments. The Corporation currently prepayment rates and other relevant factors. For bonds that are not traded has not classified any investments as held to maturity. Investments in bonds and shares normally actively traded on a public market in active markets, valuations are adjusted to reflect illiquidity, and such adjustments are generally based on available market evidence. In the absence are either designated or classified as fair value through profit or loss or of such evidence, management’s best estimate is used. classified as available for sale and are recorded on a trade-date basis. Fixed Shares at fair value through profit or loss and available for sale Fair values for income securities are included in bonds on the Consolidated Balance Sheets publicly traded shares are generally determined by the last bid price for the (balance sheets). Fair value through profit or loss investments are recognized security from the exchange where it is principally traded. Fair values for shares at fair value on the balance sheets with realized and unrealized gains and for which there is no active market are determined by discounting expected losses reported in the statements of earnings. Available-for-sale investments future cash flows. The Corporation maximizes the use of observable inputs are recognized at fair value on the balance sheets with unrealized gains and minimizes the use of unobservable inputs when measuring fair value. and losses recorded in other comprehensive income. Gains and losses The Corporation obtains quoted prices in active markets, when available, for are reclassified from other comprehensive income and recorded in the identical assets at the balance sheets dates to measure shares at fair value in statements of earnings when the available-for-sale investment is sold or its fair value through profit or loss and available-for-sale portfolios. impaired. Interest income earned on both fair value through profit or loss and available-for-sale bonds is recorded as investment income earned in the statements of earnings. Mortgages and other loans, and Bonds classified as loans and receivables Fair values for bonds and mortgages and other loans, classified as loans and receivables, are determined by discounting expected future cash flows using Investments in shares where a fair value cannot be measured reliably are current market rates. classified as available for sale and carried at cost. Investment properties Fair values for investment properties are determined Investments in mortgages and other loans and bonds not normally actively using independent appraisal services and include management adjustments traded on a public market and other loans are classified as loans and for material changes in property cash flows, capital expenditures or general receivables and are carried at amortized cost net of any allowance for credit market conditions in the interim period between appraisals. losses. Interest income earned and realized gains and losses on the sale of investments classified as loans and receivables are recorded in net investment income in the statements of earnings. Impairment Investments are reviewed regularly on an individual basis to determine impairment status. The Corporation considers various factors in the impairment evaluation process, including, but not limited to, the financial Investment properties are real estate held to earn rental income or for condition of the issuer, specific adverse conditions affecting an industry capital appreciation. Investment properties are initially measured at cost or region, decline in fair value not related to interest rates, bankruptcy or and subsequently carried at fair value on the balance sheets. All changes defaults, and delinquency in payments of interest or principal. Impairment in fair value are recorded as net investment income in the statements of losses on available-for-sale shares are recorded if the loss is significant or earnings. Properties held to earn rental income or for capital appreciation prolonged and subsequent losses are recorded in net earnings. that have an insignificant portion that is owner occupied or where there is no intent to occupy on a long-term basis are classified as investment properties. Properties that do not meet these criteria are classified as owner-occupied properties. Property that is leased that would otherwise be classified as investment property if owned by the Corporation is also included with investment properties. Investments are deemed to be impaired when there is no longer reasonable assurance of timely collection of the full amount of the principal and interest due. The fair value of an investment is not a definitive indicator of impairment, as it may be significantly influenced by other factors, including the remaining term to maturity and liquidity of the asset. However, market price must be taken into consideration when evaluating impairment. 53 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTE 2 BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) For impaired mortgages and other loans, and bonds classified as loans and of the underlying reinsurance contract. Reinsurance assets are reviewed for receivables, provisions are established or impairments recorded to adjust impairment on a regular basis for any events that may trigger impairment. the carrying value to the net realizable amount. Wherever possible the fair Lifeco considers various factors in the impairment evaluation process, value of collateral underlying the loans or observable market price is used to including, but not limited to, collectability of amounts due under the terms establish net realizable value. For impaired available-for-sale bonds, recorded of the contract. The carrying amount of a reinsurance asset is adjusted at fair value, the accumulated loss recorded in the investment revaluation through an allowance account with any impairment loss being recorded in reserves is reclassified to net investment income. Impairments on available- the statements of earnings. for-sale debt instruments are reversed if there is objective evidence that a permanent recovery has occurred. All gains and losses on bonds classified or designated as fair value through profit or loss are already recorded in earnings, therefore, a reduction due to impairment of these assets will be recorded in earnings. As well, when determined to be impaired, contractual interest is no longer accrued and previous interest accruals are reversed. Fair value movement on the assets supporting insurance contract liabilities is a major factor in the movement of insurance contract liabilities. Changes Any gains or losses on buying reinsurance are recognized in the statement of earnings immediately at the date of purchase and are not amortized. Premiums and claims ceded for reinsurance are deducted from premiums earned and insurance and investment contract benefits. Assets and liabilities related to reinsurance are reported on a gross basis in the balance sheets. The amount of liabilities ceded to reinsurers is estimated in a manner consistent with the claim liability associated with reinsured risks. in the fair value of bonds designated or classified as fair value through DERECOG N ITION profit or loss that support insurance contract liabilities are largely offset by IGM enters into transactions where it transfers financial assets recognized corresponding changes in the fair value of liabilities except when the bond on its balance sheets. The determination of whether the financial assets has been deemed impaired. TR AN SACTION COSTS Transaction costs are expensed as incurred for financial instruments classified or designated as fair value through profit or loss. Transaction costs for financial assets classified as available for sale or loans and receivables are added to the value of the instrument at acquisition and taken into net earnings using the effective interest method. Transaction costs for financial liabilities classified as other than fair value through profit or loss are deducted are derecognized is based on the extent to which the risks and rewards of ownership are transferred. If substantially all of the risks and rewards of a financial asset are not retained, IGM derecognizes the financial asset. The gains or losses and the servicing fee revenue for financial assets that are derecognized are reported in net investment income in the statements of earnings. If all or substantially all risks and rewards are retained, the financial assets are not derecognized and the transactions are accounted for as secured from the value of the instrument issued and taken into net earnings using the financing transactions. effective interest method. OWN ER- OCCU PIED PROPERTIES AN D CAPITAL AS SETS INVESTM ENT IN JOINTLY CONTROLLED CORPOR ATION Capital assets and property held for own use are carried at cost less A jointly controlled corporation is any entity in which unanimous consent is required over the entity’s management and operating and financial policy. The investment in the jointly controlled corporation is accounted for using the equity method. The share in net earnings of the jointly controlled corporation accumulated depreciation and impairments. Depreciation is charged to write off the cost of assets, using the straight-line method, over their estimated useful lives, which vary from 3 to 50 years. Capital assets are tested for impairment whenever events or changes in circumstances indicate that the is recognized in the statement of earnings, the share in other comprehensive carrying amount may not be recoverable. income of the jointly controlled corporation is recognized in the statement > Building, owner-occupied properties, and components 10 – 50 years of other comprehensive income and the change in equity is recognized in the statement of changes in equity. LOAN S TO POLICYHOLDERS > Equipment, furniture and fixtures > Other capital assets 3 – 10 years 3 – 10 years Depreciation methods, useful lives and residual values are reviewed at least Loans to policyholders are shown at their unpaid principal balance and are annually and adjusted if necessary. fully secured by the cash surrender values of the policies. The carrying value of loans to policyholders approximates fair value. OTH ER AS SETS REIN SU R ANCE CONTR ACTS Trading account assets consist of investments in Putnam-sponsored funds, which are carried at fair value based on the net asset value of these funds. Lifeco, in the normal course of business, is both a user and a provider of Investments in these assets are included in other assets on the balance sheet reinsurance in order to limit the potential for losses arising from certain with realized and unrealized gains and losses reported in the statements exposures. Assumed reinsurance refers to the acceptance of certain insurance of earnings. risks by Lifeco underwritten by another company. Ceded reinsurance refers to the transfer of insurance risk, along with the respective premiums, to one or more reinsurers who will share the risks. To the extent that assuming reinsurers are unable to meet their obligations, Lifeco remains liable to its Also included in other assets are deferred acquisition costs relating to investment contracts. Deferred acquisition costs are recognized if the costs are incremental and incurred due to the contract being issued. policyholders for the portion reinsured. Consequently, allowances are made GOODWILL AN D INTANG IB LE AS SETS for reinsurance contracts which are deemed uncollectible. Goodwill represents the excess of purchase consideration over the fair value Assumed reinsurance premiums, commissions and claim settlements, as of net assets acquired. Following recognition, goodwill is measured at cost well as the reinsurance assets associated with insurance and investment less any accumulated impairment losses. contracts, are accounted for in accordance with the terms and conditions 54 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 2 BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Intangible assets represent finite life and indefinite life intangible assets IN SU R ANCE AN D INVESTM ENT CONTR ACT LIAB ILITIES acquired and software acquired or internally developed by the Corporation Contract classification Lifeco’s products are classified at contract inception, and its subsidiaries. Finite life intangible assets include the value of software, for accounting purposes, as insurance contracts or investment contracts, some customer contracts, distribution channels, distribution contracts, depending on the existence of significant insurance risk. Significant insurance deferred selling commissions, property leases and technology. Finite life risk exists when Lifeco agrees to compensate policyholders or beneficiaries intangible assets are tested for impairment whenever events or changes of the contract for specified uncertain future events that adversely affect the in circumstances indicate that the carrying value may not be recoverable. policyholder and whose amount and timing is unknown. Intangible assets with finite lives are amortized on a straight-line basis over their estimated useful lives, not exceeding a period of 30 years. When significant insurance risk exists, the contract is accounted for as an insurance contract in accordance with IFRS 4, Insurance Contracts (IFRS 4). Commissions paid by IGM on the sale of certain mutual funds are deferred and Refer to Note 21 for a discussion of insurance risk. amortized over their estimated useful lives, not exceeding a period of seven years. Commissions paid on the sale of deposits are deferred and amortized over their estimated useful lives, not exceeding a period of five years. When a client redeems units in mutual funds that are subject to a deferred sales charge, a redemption fee is paid by the client and is recorded as revenue by IGM. Any unamortized deferred selling commission asset on the initial sale of these mutual fund units is recorded as a disposal. IGM regularly reviews the carrying value of deferred selling commissions with respect to any events or circumstances that indicate impairment. Among the tests performed by IGM to assess recoverability is the comparison of the future economic benefits derived from the deferred selling commission asset in relation to its carrying value. Indefinite life intangible assets include brands and trademarks, some customer contracts, the shareholders’ portion of acquired future participating account profits, trade names and mutual fund management contracts. Amounts are classified as indefinite life intangible assets when based on an In the absence of significant insurance risk, the contract is classified as an investment or service contract. Investment contracts with discretionary participating features are accounted for in accordance with IFRS 4 and investment contracts without discretionary participating features are accounted for in accordance with IAS 39, Financial Instruments: Recognition and Measurement. Lifeco has not classified any contracts as investment contracts with discretionary participating features. Investment contracts may be reclassified as insurance contracts after inception if insurance risk becomes significant. A contract that is classified as an insurance contract at contract inception remains as such until all rights and obligations under the contract are extinguished or expire. Investment contracts are contracts that carry financial risk, which is the risk of a possible future change in one or more of the following: interest rate, commodity price, foreign exchange rate, or credit rating. Refer to Note 21 for a discussion on risk management. analysis of all the relevant factors, and when there is no foreseeable limit Measurement Insurance contract liabilities represent the amounts to the period over which the asset is expected to generate net cash inflows required, in addition to future premiums and investment income, to provide for the Corporation. The identification of indefinite life intangible assets is for future benefit payments, policyholder dividends, commission and policy made by reference to relevant factors such as product life cycles, potential administrative expenses for all insurance and annuity policies in force obsolescence, industry stability and competitive position. with Lifeco. The Appointed Actuaries of Lifeco’s subsidiary companies are Goodwill and indefinite life intangible assets are tested for impairment annually or more frequently if events indicate that impairment may have occurred. Intangible assets that were previously impaired are reviewed at each reporting date for evidence of reversal. In the event that certain conditions have been met, the Corporation would be required to reverse the impairment charge or a portion thereof. Goodwill has been allocated to groups of cash generating units (CGU), representing the lowest level in which goodwill is monitored for internal reporting purposes. Goodwill is tested for impairment by comparing the carrying value of the groups of CGU to the recoverable amount to which the goodwill has been allocated. Intangible assets are tested for impairment by comparing the asset’s carrying amount to its recoverable amount. An impairment loss is recognized for the amount by which the asset’s carrying amount exceeds its recoverable amount. The recoverable amount is the higher of the asset’s fair value less cost to sell or value in use, which is calculated using the present value of estimated future cash flows expected to be generated. SEG REGATED FU N DS Segregated fund assets and liabilities arise from contracts where all financial risks associated with the related assets are borne by policyholders and are presented separately in the balance sheets at fair value. Investment income and changes in fair value of the segregated fund assets are offset by a corresponding change in the segregated fund liabilities. responsible for determining the amount of the liabilities to make appropriate provisions for Lifeco’s obligations to policyholders. The Appointed Actuaries determine the liabilities for insurance contracts and investment contracts using generally accepted actuarial practices, according to the standards established by the Canadian Institute of Actuaries. The valuation uses the Canadian Asset Liability Method (CALM). This method involves the projection of future events in order to determine the amount of assets that must be set aside currently to provide for all future obligations and involves a significant amount of judgment. Insurance contract liabilities are computed with the result that benefits and expenses are matched with premium income. Under fair value accounting, movement in the fair value of the supporting assets is a major factor in the movement of insurance contract liabilities. Changes in the fair value of assets are largely offset by corresponding changes in the fair value of liabilities. Investment contract liabilities are measured at fair value through profit and loss, except for certain annuity products measured at amortized cost. DEFERRED INCOM E RESERVES Included in other liabilities are deferred income reser ves relating to investment contract liabilities. Deferred income reserves are amortized on a straight-line basis to recognize the initial policy fees over the policy term, not to exceed 20 years. 55 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTE 2 BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) POLICYHOLDER B EN EFITS DERIVATIVE FINANCIAL IN STRU M ENTS Policyholder benefits include benefits and claims on life insurance contracts, The Corporation and its subsidiaries use derivative products as risk maturity payments, annuity payments and surrenders. Gross benefits and management instruments to hedge or manage asset, liability and capital claims for life insurance contracts include the cost of all claims arising during positions, including revenues. The Corporation’s policy guidelines prohibit the year and settlement of claims. Death claims and surrenders are recorded the use of derivative instruments for speculative trading purposes. on the basis of notifications received. Maturities and annuity payments are recorded when due. FINANCIAL LIAB ILITIES Financial liabilities, other than insurance and investment contract liabilities, are classified as other liabilities. Debentures and debt instruments, capital trust securities and other liabilities are initially recorded on the balance sheets at fair value and subsequently carried at amortized cost using the effective interest rate method with amortization expense recorded in the statements of earnings. EQ U IT Y Financial instruments issued by the Corporation are classified as stated capital if they represent a residual interest in the assets of the Corporation. Preferred shares are classified as equity if they are non-redeemable, or retractable only at the Corporation’s option and any dividends are discretionary. Incremental costs that are directly attributable to the issue of share capital are recognized as a deduction from equity, net of income tax. Reser ves are composed of share-based compensation and other comprehensive income. Share-based compensation represents the vesting of share options less share options exercised. Other comprehensive income represents the total of the unrealized foreign exchange gains (losses) on translation of foreign operations, the unrealized gains (losses) on available-for-sale assets, the unrealized gains (losses) on cash flow hedges, and the share of other comprehensive income of the jointly controlled corporation. Non-controlling interest represents the proportion of equity that is attributable to minority shareholders. SHARE- BASED PAYM ENTS The fair value-based method of accounting is used for the valuation of compensation expense for options granted to employees. Compensation expense is recognized as an increase to operating and administrative expenses in the statements of earnings over the period that the stock options vest, with a corresponding increase in share-based compensation reserves. When the stock options are exercised, the proceeds, together with All derivatives are recorded at fair value on the balance sheets. The method of recognizing unrealized and realized fair value gains and losses depends on whether the derivatives are designated as hedging instruments. For derivatives that are not designated as hedging instruments, unrealized and realized gains and losses are recorded in net investment income on the statements of earnings. For derivatives designated as hedging instruments, unrealized and realized gains and losses are recognized according to the nature of the hedged item. Derivatives are valued using market transactions and other market evidence whenever possible, including market-based inputs to models, broker or dealer quotations or alternative pricing sources with reasonable levels of price transparency. When models are used, the selection of a particular model to value a derivative depends on the contractual terms of, and specific risks inherent in the instrument, as well as the availability of pricing information in the market. The Corporation generally uses similar models to value similar instruments. Valuation models require a variety of inputs, including contractual terms, market prices and rates, yield curves, credit curves, measures of volatility, prepayment rates and correlations of such inputs. To qualify for hedge accounting, the relationship between the hedged item and the hedging instrument must meet several strict conditions on documentation, probability of occurrence, hedge effectiveness and reliability of measurement. If these conditions are not met, then the relationship does not qualify for hedge accounting treatment and both the hedged item and the hedging instrument are reported independently, as if there was no hedging relationship. Where a hedging relationship exists, the Corporation documents all relationships between hedging instruments and hedged items, as well as its risk management objectives and strategy for undertaking various hedge transactions. This process includes linking derivatives that are used in hedging transactions to specific assets and liabilities on the balance sheets or to specific firm commitments or forecasted transactions. The Corporation also assesses, both at the hedge’s inception and on an ongoing basis, whether derivatives that are used in hedging transactions are effective in offsetting changes in fair values or cash flows of hedged items. Hedge effectiveness is reviewed quarterly through correlation testing. the amount recorded in share-based compensation reserves, are added to Fair value hedges For fair value hedges, changes in fair value of both the the stated capital of the entity issuing the corresponding shares. hedging instrument and the hedged item are recorded in net investment income Lifeco follows the liability method of accounting for share-based awards issued by its subsidiaries Putnam and PanAgora Asset Management, Inc. and consequently any ineffective portion of the hedge is recorded immediately in net investment income. Compensation expense is recognized as an increase to operating expenses in Cash flow hedges For cash flow hedges, the effective portion of the changes the statements of earnings and a liability is recognized on the balance sheets in fair value of the hedging instrument is recorded in the same manner as the over the vesting period of the share-based awards. The liability is remeasured hedged item in either net investment income or other comprehensive income, at fair value at each reporting period with the change in the liability recorded while the ineffective portion is recognized immediately in net investment income. in operating expense and is settled in cash when the shares are purchased Gains and losses on cash flow hedges that accumulate in other comprehensive from employees. REPU RCHASE AG REEM ENTS income are recorded in net investment income in the same period the hedged item affects net earnings. Gains and losses on cash flow hedges are immediately reclassified from other comprehensive income to net investment income if and Lifeco enters into repurchase agreements with third-party broker-dealers in when it is probable that a forecasted transaction is no longer expected to occur. which Lifeco sells securities and agrees to repurchase substantially similar securities at a specified date and price. As substantially all of the risks and rewards of ownership of assets are retained, Lifeco does not derecognize the assets. Such agreements are accounted for as investment financings. 56 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 2 BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Net investment hedges Foreign exchange forward contracts may be used The Corporation and its subsidiaries also have unfunded supplementary to hedge net investment in foreign operations. Changes in the fair value of pension plans for certain employees. Pension expense related to current these hedges are recorded in other comprehensive income. Hedge accounting services is charged to earnings in the period during which the services is discontinued when the hedging no longer qualifies for hedge accounting. are rendered. EM B EDDED DERIVATIVES An embedded derivative is a component of a host contract that modifies the cash flows of the host contract in a manner similar to a derivative, according to a specified interest rate, financial instrument price, foreign exchange rate, underlying index or other variable. Embedded derivatives are treated as separate contracts and are recorded at fair value if their economic characteristics and risks are not closely related to those of the host contract and the host contract is not itself recorded at fair value through the statement of earnings. Embedded derivatives that meet the definition of an insurance contract are accounted for and measured as an insurance contract. FOREIG N CU RRENCY TR AN SL ATION In addition, the Corporation and its subsidiaries provide certain post- employment healthcare, dental, and life insurance benefits to eligible retirees, employees and advisors. The current cost of post-employment health, dental and life benefits is charged to earnings using the projected unit credit method pro-rated on services. FU N DS H ELD BY CEDING IN SU RERS / FU N DS H ELD U N DER REIN SU R ANCE CONTR ACTS Under certain forms of reinsurance contracts, it is customary for the ceding insurer to retain possession of the assets supporting the liabilities ceded. Lifeco records an amount receivable from the ceding insurer or payable to the reinsurer representing the premium due. Investment revenue on these funds withheld is credited by the ceding insurer. The Corporation and its subsidiaries operate with multiple functional currencies. The Corporation’s financial statements are prepared in Canadian INCOM E TA XES dollars, which is the functional and presentation currency of the Corporation. The income tax expense for the period represents the sum of current income For the purpose of presenting financial statements, assets and liabilities are tax and deferred income tax. Income tax is recognized as an expense or translated into Canadian dollars at the rate of exchange prevailing at the income in profit or loss except to the extent that it relates to items that are balance sheet dates and all income and expenses are translated at an average recognized outside profit or loss (whether in other comprehensive income of daily rates. Unrealized foreign currency translation gains and losses on the or directly in equity), in which case the income tax is also recognized outside Corporation’s net investment in its foreign operations and a jointly controlled profit or loss. corporation are presented separately as a component of other comprehensive income. Unrealized gains and losses are recognized in earnings when there has been a disposal of a foreign operation or a jointly controlled corporation. Current income tax Current income tax is based on taxable income for the year. Current tax liabilities (assets) for the current and prior periods are measured at the amount expected to be paid to (recovered from) the taxation All other assets and liabilities denominated in foreign currencies are translated authorities using the rates that have been enacted or substantively enacted into each entity’s functional currency at exchange rates prevailing at the at the balance sheet date. Current tax assets and current income tax liabilities balance sheet dates for monetary items and at exchange rates prevailing are offset, if a legally enforceable right exists to offset the recognized amounts at the transaction dates for non-monetary items. Realized and unrealized and the entity intends either to settle on a net basis, or to realize the assets exchange gains and losses are included in net investment income and are not and settle the liability simultaneously. material to the financial statements of the Corporation. PEN SION PL AN S AN D OTH ER POST- EM PLOYM ENT B EN EFITS The Corporation and its subsidiaries maintain defined benefit pension plans as well as defined contribution pension plans for eligible employees and advisors. Deferred income tax Deferred income tax is the tax expected to be payable or recoverable on tax loss carry forwards and on differences arising between the carrying amounts of assets and liabilities in the financial statements and the corresponding bases used in the computation of taxable income and is accounted for using the balance sheet liability method. Deferred tax liabilities are generally recognized for all taxable temporary differences and deferred tax The plans provide pension based on length of service and final average assets are recognized to the extent that it is probable that taxable profits will be earnings. The benefit obligation is actuarially determined and accrued available against which deductible temporary differences can be utilized. Such using the projected benefit method pro-rated on service. Pension expense assets and liabilities are not recognized if the temporary difference arises from consists of the aggregate of the actuarially computed cost of pension benefits the initial recognition of an asset or liability in a transaction other than a business provided in respect of the current year’s service, and imputed interest on the combination that at the time of the transaction affects neither accounting nor accrued benefit obligation, less expected returns on plan assets, which are taxable profit or loss. valued at market value. Past service costs are amortized on a straight-line basis over the average period until the benefits become vested. Vested past service costs are recognized immediately in pension expense. For the defined benefit plans, actuarial gains and losses are amortized into the statements of earnings using the straight-line method over the average remaining working life of employees covered by the plan to the extent that the net cumulative unrecognized actuarial gains and losses at the end of the previous reporting period exceed corridor limits. The corridor is defined as ten per cent of the greater of the present value of the defined benefit obligation or the fair value of plan assets. The amortization charge is reassessed at the beginning of each year. The cost of pension benefits is charged to earnings using the projected benefit method pro-rated on services. Deferred tax assets and liabilities are measured at the tax rates expected to apply in the year when the asset is realized or the liability is settled, based on tax rates (and tax laws) that have been enacted or substantively enacted at the balance sheet date. Deferred tax assets and deferred tax liabilities are offset, if a legally enforceable right exists to net current tax assets against current income tax liabilities and the deferred income taxes relate to the same taxable entity and the same taxation authority. The carrying amount of deferred tax assets is reviewed at each balance sheet date and reduced to the extent that it is no longer probable that sufficient taxable profit will be available to allow all or part of the deferred tax asset to be utilized. 57 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTE 2 BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Unrecognized deferred tax assets are reassessed at each balance sheet date and In accordance with the transitional provisions in IAS 19, this change in are recognized to the extent that it has become probable that future taxable profit IFRS will be applied retroactively and is anticipated to decrease equity by will allow the deferred tax asset to be recovered. approximately $470 million at January 1, 2012 (decrease of $330 million in Deferred tax liabilities are recognized for taxable temporary differences arising on investments in the subsidiaries and a jointly controlled corporation, except where the group controls the timing of the reversal of the temporary difference and it is probable that the temporary differences will not reverse in the foreseeable future. Under the balance sheet liability method, a provision for tax uncertainties which meet the probable threshold for recognition is measured. Measurement of the provision is based on the probability weighted average approach. LEASES shareholders’ equity and $140 million in non-controlling interests) with an additional decrease to equity by approximately $240 million at January 1, 2013 (decrease of $165 million in shareholders’ equity and $75 million in non- controlling interests). Furthermore, the effect of applying this standard retroactively will decrease earnings before tax by approximately $12 million for the year ended December 31, 2012. IFRS 10 — Consolidated Financial Statements Effective for the Corporation on January 1, 2013, IFRS 10, Consolidated Financial Statements uses consolidation principles based on a revised definition of control. The definition of control Leases that do not transfer substantially all the risks and rewards of is dependent on the power of the investor to direct the activities of the ownership are classified as operating leases. Payments made under operating investee, the ability of the investor to derive variable returns from its holdings leases, where the Corporation is the lessee, are charged to net earnings over in the investee, and a direct link between the power to direct activities and the period of use. receive benefits. Where the Corporation is the lessor under an operating lease for its The IASB issued amendments to IFRS 10 and IFRS 12 in October 2012 that investment property, the assets subject to the lease arrangement are introduced an exception from consolidation for the controlled entities of presented within the balance sheets. Income from these leases is recognized investment entities. Lifeco continues to review the financial reporting of in the statements of earnings on a straight-line basis over the lease term. the segregated funds for the risk of policyholders presented within Lifeco’s financial statements to determine whether it would be different than the EARN ING S PER SHARE current reporting under IFRS. Basic earnings per share is determined by dividing net earnings available to common shareholders by the weighted average number of common shares outstanding for the year. Diluted earnings per share is determined using the same method as basic earnings per share, except that the weighted average number of common shares outstanding includes the potential dilutive effect of outstanding stock options granted by the Corporation and its subsidiaries, as determined by the treasury stock method. FUTU RE ACCOU NTING CHANG ES The Corporation continuously monitors the potential changes proposed by the International Accounting Standards Board (IASB) and analyzes the effect that changes in the standards may have on the Corporation’s consolidated financial statements when they become effective. IFRS 11 — Joint Arrangements Effective for the Corporation on January 1, 2013, IFRS 11, Joint Arrangements separates jointly controlled entities between joint operations and joint ventures. The standard eliminates the option of using proportionate consolidation in accounting for interests in joint ventures, requiring an entity to use the equity method of accounting. The standard is not expected to have a significant impact on the Corporation’s financial position or results of operations. IFRS 12 — Disclosure of Interest in Other Entities Effective for the Corporation on January 1, 2013, IFRS 12, Disclosure of Interest in Other Entities proposes new disclosure requirements for the interest an entity has in subsidiaries, joint arrangements, associates, and structured entities. The standard requires enhanced disclosure, including how control was determined and any restrictions that might exist on consolidated assets and E FFEC TI V E FO R T H E CO R P O R ATI O N I N 2 01 3 liabilities presented within the financial statements. The standard is expected IAS 19 — Employee Benefits Effective on January 1, 2013, the Corporation to result in additional disclosures. adopted the amended IAS 19, Employee Benefits. The amended IAS 19 includes IFRS 13 — Fair Value Measurement Effective for the Corporation on requirements for the measurement, presentation and disclosure for defined January 1, 2013, IFRS 13, Fair Value Measurement provides guidance to increase benefit plans. Amendments include: > The elimination of the deferral and amortization approach (corridor approach) for recognizing actuarial gains and losses in net earnings. Actuarial gains and losses will be recognized in other comprehensive income. Actuarial gains and losses recognized in other comprehensive consistency and comparability in fair value measurements and related disclosures through a “fair value hierarchy”. The hierarchy categorizes the inputs used in valuation techniques into three levels. The hierarchy gives the highest priority to (unadjusted) quoted prices in active markets for identical assets or liabilities and the lowest priority to unobservable inputs. income will not be reclassified to net earnings in subsequent periods. This standard relates primarily to disclosure and will not impact the financial > The elimination of the concept of an expected return on assets (EROA). results of the Corporation. Amended IAS 19 requires the use of the discount rate in the place of EROA IAS 1 — Presentation of Financial Statements Effective for the Corporation in the determination of the net interest component of the pension expense. on Januar y 1, 2013, IAS 1, Presentation of Financial Statements includes This discount rate is determined by reference to market yields at the end requirements that other comprehensive income be classified by nature and of the reporting period on high-quality corporate bonds. grouped between those items that will be classified subsequently to profit or > Changes in the recognition of past service costs. Past service costs loss (when specific conditions are met) and those that will not be reclassified. resulting from plan amendments or curtailments will be recognized in This revised standard relates only to presentation and will not impact the net earnings in the period in which the plan amendments or curtailments financial results of the Corporation. occur, without regard to vesting. 58 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 2 BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) IFRS 7 — Financial Instruments: Disclosure Effective for the Corporation The new standard also requires: on January 1, 2013, the IASB issued amendments to IFRS 7 regarding disclosure of offsetting financial assets and financial liabilities. The amendments will allow users of financial statements to improve their understanding of transfer transactions of financial assets (for example, securitizations), including understanding the possible effects of any risks that may remain > embedded derivatives to be assessed for classification together with their financial asset host; > an expected loss impairment method be used for financial assets; and > amendments to the criteria for hedge accounting and measuring with the entity that transferred the assets. The amendments also require effectiveness. additional disclosures if a disproportionate amount of transfer transactions The full impact of IFRS 9 on the Corporation will be evaluated after the remaining are undertaken near the end of a reporting period. This revised standard relates only to disclosure and will not impact the financial results of the Corporation. E FFEC TI V E FO R T H E CO R P O R ATI O N S U B S EQ U E N T TO 2 01 3 IFRS 4 — Insurance Contracts The IASB issued an exposure draft proposing changes to the accounting standard for insurance contracts in July 2010. The proposal would require an insurer to measure insurance liabilities using a model focusing on the amount, timing, and uncertainty of future cash flows associated with fulfilling its insurance contracts. This is vastly different from the connection between insurance assets and liabilities considered under the Canadian Asset Liability Method (CALM) and may cause significant volatility in the results of Lifeco. The exposure draft also proposes changes to the presentation and disclosure within the financial statements. Since the release of the exposure draft, there have been discussions within the insurance industry and between accounting standards setters globally recommending significant changes to the 2010 exposure draft. At this time no stages of the IASB’s project to replace IAS 39, Financial Instruments: Recognition and Measurement — impairment methodology, hedge accounting, and asset and liability offsetting — are finalized. The current timetable for adoption of IFRS 9, Financial Instruments is for the annual period beginning January 1, 2015; however, the Corporation continues to monitor this standard in conjunction with developments to IFRS 4. IAS 32 — Financial Instruments: Presentation Effective for the Corporation on January 1, 2014, IAS 32, Financial Instruments: Presentation clarifies the existing requirements for offsetting financial assets and financial liabilities. The Corporation is evaluating the impact this standard will have on the presentation of its financial statements. E X P O S U R E D R A F T S N OT Y E T E FFEC TI V E IAS 17 — Leases The IASB issued an exposure draft proposing a new accounting model for leases where both lessees and lessors would record the assets and liabilities on the balance sheet at the present value of the lease payments arising from all lease contracts. The new classification would be the right-of-use model, replacing the operating and finance lease accounting new standard has been either re-exposed or released. models that currently exist. Lifeco will continue to measure insurance contract liabilities using the Canadian The full impact of adoption of the proposed changes will be determined once Asset Liability Method until such time when a new IFRS for insurance contract the final leases standard is issued. measurement is issued. A final standard is not expected to be implemented for several years; Lifeco continues to actively monitor developments in this area. IFRS 9 — Financial Instruments Effective for the Corporation on January 1, 2015, IFRS 9, Financial Instruments requires all financial assets to be classified on initial recognition at amortized cost or fair value while eliminating the existing IAS 18 — Revenue The IASB issued a second exposure draft in November 2011 which proposed a single revenue recognition standard to align the financial reporting of revenue from contracts with customers and related costs. A company would recognize revenue when it transfers goods or services to a customer in the amount of the consideration the company expects to categories of available for sale, held to maturity, and loans and receivables. receive from the customer. The full impact of adoption of the proposed changes will be determined once the final revenue recognition standard is issued, which is targeted for release in 2013. NOTE 3 CASH AND CASH EQUIVALENTS DECEMBER 31 Cash Cash equivalents Cash and cash equivalents 2012 1,152 2,161 3,313 2011 912 2,473 3,385 59 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTE 4 INVESTMENTS CARRYING VALU ES AN D FAIR VALU ES Carrying values and estimated fair values of investments are as follows: DECEMBER 31 Bonds Designated as fair value through profit or loss [1] Classified as fair value through profit or loss [1] Available for sale Loans and receivables Mortgages and other loans Loans and receivables Designated as fair value through profit or loss [1] Shares Designated as fair value through profit or loss [1] Available for sale Investment properties Loans to policyholders CARRYING VALUE 2012 FAIR VALUE CARRYING VALUE 2011 FAIR VALUE 62,963 62,963 60,112 60,112 2,113 7,377 10,934 83,387 2,113 7,377 12,438 84,891 1,853 7,050 9,744 78,759 1,853 7,050 10,785 79,800 22,548 23,787 21,226 22,514 249 249 292 292 22,797 24,036 21,518 22,806 5,971 825 6,796 3,525 7,082 5,971 825 6,796 3,525 7,082 5,502 900 6,402 3,201 7,162 5,502 900 6,402 3,201 7,162 123,587 126,330 117,042 119,371 [1] Investments can be categorized as fair value through profit or loss in two ways: designated as fair value through profit or loss at the option of management, or classified as fair value through profit or loss if they are actively traded for the purpose of earning investment income. BON DS AN D MORTGAG ES Carrying value of bonds and mortgages due over the current and non-current term are as follows: DECEMBER 31, 2012 Bonds Mortgage loans DECEMBER 31, 2011 Bonds Mortgage loans 1 YEAR OR LESS 8,351 2,057 10,408 1 YEAR OR LESS 7,627 2,042 9,669 1–5 YEARS 16,899 10,069 26,968 1–5 YEARS 17,450 8,916 26,366 TERM TO MATURIT Y OVER 5 YEARS 57,744 10,401 68,145 TERM TO MATURIT Y OVER 5 YEARS 53,367 10,249 63,616 CARRYING VALUE TOTAL 82,994 22,527 105,521 CARRYING VALUE TOTAL 78,444 21,207 99,651 The above table excludes the carrying value of impaired bonds and mortgages, as the ultimate timing of collectability is uncertain. 60 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 4 INVESTMENTS (CONTINUED) IM PAIRED INVESTM ENTS , ALLOWANCE FOR CREDIT LOS SES , INVESTM ENTS WITH RESTRUCTU RED TERM S Carrying amount of impaired investments DECEMBER 31 Impaired amounts by type Fair value through profit or loss Available for sale Loans and receivables Total 2012 365 27 41 433 2011 290 51 36 377 The allowance for credit losses and changes in the allowance for credit losses related to investments classified as loans and receivables are as follows: Balance, beginning of year Net provision (recovery) for credit losses Write-offs, net of recoveries Other (including foreign exchange rate changes) Balance, end of year 2012 37 (9) (5) (1) 22 2011 68 (13) (15) (3) 37 The allowance for credit losses is supplemented by the provision for future credit losses included in insurance contract liabilities. N ET INVESTM ENT INCOM E 2012 Regular net investment income: Investment income earned Net realized gains (losses) (available for sale) Net realized gains (losses) (other classifications) Net recovery (provision) for credit losses (loans and receivables) Other income (expenses) Changes in fair value on fair value through profit or loss assets: Net realized/unrealized gains (losses) (classified fair value through profit or loss) Net realized/unrealized gains (losses) (designated fair value through profit or loss) Net investment income BONDS 3,698 124 10 1 – 3,833 22 2,196 2,218 6,051 MORTGAGE AND OTHER LOANS SHARES INVESTMENT PROPERTIES OTHER TOTAL 230 255 532 946 – 46 8 (12) 988 5 – 5 993 2 2 – – 234 – 389 389 623 – – – (63) 192 – 104 104 296 – 1 – (69) 464 5,661 126 59 9 (144) 5,711 2 29 (68) (66) 398 2,621 2,650 8,361 61 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTE 4 INVESTMENTS (CONTINUED) 2011 Regular net investment income: Investment income earned Net realized gains (losses) (available for sale) Net realized gains (losses) (other classifications) Net recovery (provision) for credit losses (loans and receivables) Other income (expenses) Changes in fair value on fair value through profit or loss assets: Net realized/unrealized gains (losses) (classified fair value through profit or loss) Net realized/unrealized gains (losses) (designated fair value through profit or loss) Net investment income MORTGAGE AND OTHER LOANS SHARES INVESTMENT PROPERTIES OTHER TOTAL 940 190 254 396 BONDS 3,780 119 11 20 – – 33 (7) (2) 7 – – – 3,930 964 197 74 4,166 4,240 8,170 – (7) (7) 957 – (280) (280) (83) – – – (65) 189 – 143 143 332 – – – (66) 330 – 58 58 388 5,560 126 44 13 (133) 5,610 74 4,080 4,154 9,764 Investment income earned comprises income from investments that distributions. Investment properties income includes rental income earned are classified as available for sale, loans and receivables and classified or on investment properties, ground rent income earned on leased and sub- designated as fair value through profit or loss. Investment income from leased land, fee recoveries, lease cancellation income, and interest and other bonds and mortgages and other loans includes interest income and premium investment income earned on investment properties. and discount amortization. Income from shares includes dividends and INVESTM ENT PROPERTIES The carrying value of investment properties and changes in the carrying value of investment properties are as follows: Balance, beginning of year Additions Change in fair value through profit or loss Disposals Foreign exchange rate changes Balance, end of year 2012 3,201 166 104 – 54 3,525 2011 2,957 161 143 (99) 39 3,201 TR AN SFERRED FINANCIAL AS SETS or refunds additional collateral as the fair value of the loaned securities Lifeco engages in securities lending to generate additional income. Lifeco’s fluctuates. Included in the collateral deposited with Lifeco’s lending agent is securities custodians are used as lending agents. Collateral, which exceeds cash collateral of $141 million as at December 31, 2012. In addition, the securities the market value of the loaned securities, is deposited by the borrower lending agent indemnifies Lifeco against borrower risk, meaning that the with Lifeco’s lending agent and maintained by the lending agent until the lending agent agrees contractually to replace securities not returned due underlying security has been returned. The market value of the loaned to a borrower default. As at December 31, 2012, Lifeco had loaned securities securities is monitored on a daily basis by the lending agent, who obtains (which are included in invested assets) with a market value of $5,930 million. 62 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 5 FUNDS HELD BY CEDING INSURERS Included in funds held by ceding insurers of $10,537 million at December 31, 2012 on the portfolio of assets included in the amounts on deposit. These amounts ($9,923 million at December 31, 2011) is an agreement with Standard Life on deposit are included in funds held by ceding insurers on the balance Assurance Limited (Standard Life). During 2008, Canada Life International Re sheets. Income and expenses arising from the agreement are included in net Limited (CLIRE), Lifeco’s indirect wholly owned Irish reinsurance subsidiary, investment income on the statements of earnings. signed an agreement with Standard Life, a U.K.-based provider of life, pension and investment products, to assume by way of indemnity reinsurance a large block of payout annuities. Under the agreement, CLIRE is required to put amounts on deposit with Standard Life and CLIRE has assumed the credit risk At December 31, 2012 CLIRE had amounts on deposit of $9,951 million ($9,411 million at December 31, 2011). The details of the funds on deposit and related credit risk on the funds are as follows: Carrying values and estimated fair values: DECEMBER 31 Cash and cash equivalents Bonds Other assets Supporting: Reinsurance liabilities Surplus CARRYING VALUE 120 9,655 176 9,951 9,406 545 9,951 The following table provides details of the carrying value of bonds included in the funds on deposit by industry sector: DECEMBER 31 Bonds issued or guaranteed by: Canadian federal government Provincial, state and municipal governments U.S. treasury and other U.S. agencies Other foreign governments Government-related Supranationals Asset-backed securities Residential mortgage-backed securities Banks Other financial institutions Basic materials Communications Consumer products Industrial products/services Natural resources Real estate Transportation Utilities Miscellaneous Total bonds CARRYING VALUE 49 9,182 180 9,411 9,082 329 9,411 2012 FAIR VALUE 120 9,655 176 9,951 9,406 545 9,951 2012 71 16 16 2,455 443 172 258 87 2,070 1,007 58 224 617 31 320 475 145 1,119 71 9,655 2011 FAIR VALUE 49 9,182 180 9,411 9,082 329 9,411 2011 – 88 – 3,074 369 128 242 73 1,807 747 21 239 404 26 220 381 117 1,135 111 9,182 63 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTE 5 FUNDS HELD BY CEDING INSURERS (CONTINUED) The following table provides details of the carrying value of bonds by asset quality: BOND PORTFOLIO QUALIT Y DECEMBER 31 AAA AA A BBB BB and lower Total bonds 2012 3,103 2,183 3,539 507 323 9,655 NOTE 6 INVESTMENT IN JOINTLY CONTROLLED CORPORATION As at December 31, 2012, Parjointco, 50% held by the Corporation, held a 55.6% equity interest in Pargesa (56.5% as at December 31, 2011). Pargesa’s financial information as at December 31, 2012 can be obtained in its publicly available information. Carrying value of the investment in a jointly controlled corporation is as follows: Carrying value, beginning of year Share of earnings (losses) Share of other comprehensive income (loss) Dividends Other Carrying value, end of year 2012 2,222 134 (100) (65) (42) 2,149 2011 3,520 1,819 3,116 468 259 9,182 2011 2,448 (20) (222) – 16 2,222 During 2012, Pargesa recorded an impairment charge on its investment in led to determining a value in use below the existing carrying value. The GDF Suez. The Corporation’s net share of this charge was $48 million. impairment recorded results in a reduction of the carrying value of Lafarge. During 2011, Pargesa recorded an impairment charge on its investment in The Corporation’s share of this charge was $133 million. Lafarge SA. An impairment test was performed as Lafarge’s share price The fair value of the Corporation’s indirect interest in Pargesa is approximately has persistently been at a level significantly below its carrying value. In $2,300 million as at December 31, 2012. The carrying value of the investment 2011, the test was renewed in a weakened economic environment, and in Pargesa, adjusted for investment revaluation reserve, is $1,700 million. 64 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 7 OWNER-OCCUPIED PROPERTIES AND CAPITAL ASSETS The carrying value of owner-occupied properties and capital assets and the changes in the carrying value of owner-occupied properties and capital assets are as follows: DECEMBER 31 Cost, beginning of year Additions Disposal Change in foreign exchange rates Cost, end of year Accumulated amortization, beginning of year Amortization Disposal Change in foreign exchange rates Accumulated amortization, end of year Carrying value, end of year OWNER- OCCUPIED PROPERTIES 577 33 – (3) 607 (36) (7) – – (43) 564 2012 CAPITAL ASSETS 846 93 (32) – 907 (649) (52) 24 (3) (680) 227 OWNER- OCCUPIED PROPERTIES 521 52 – 4 577 (32) (4) – – (36) 541 The following table provides details of the carrying value of owner-occupied properties and capital assets by geographic location: DECEMBER 31 Canada United States Europe NOTE 8 OTHER ASSETS DECEMBER 31 Accounts receivable Interest due and accrued Income taxes receivable Premiums in course of collection Deferred acquisition costs Trading account assets Prepaid expenses Accrued benefit asset [Note 24] Other 2012 589 172 30 791 2012 1,285 1,096 204 484 541 313 120 495 830 2011 CAPITAL ASSETS 802 77 (16) (17) 846 (626) (52) 11 18 (649) 197 2011 536 175 27 738 2011 1,095 1,106 181 422 529 207 129 456 528 It is expected that $4,248 million of other assets will be realized within 12 months from the reporting date. Changes in deferred acquisition costs for investment contracts are as follows: Balance, beginning of year Additions Amortization Foreign exchange Disposals Balance, end of year 5,368 4,653 2012 529 120 (69) 9 (48) 541 2011 508 123 (71) 6 (37) 529 65 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTE 9 GOODWILL AND INTANGIBLE ASSETS GOODWILL The carrying value of the goodwill and changes in the carrying value of the goodwill are as follows: DECEMBER 31 Balance, beginning of year Change in foreign exchange rates Other Balance, end of year INTANG IB LE AS SETS 2012 2011 COST ACCUMUL ATED IMPAIRMENT CARRYING VALUE COST ACCUMUL ATED IMPAIRMENT CARRYING VALUE 9,703 (31) (109) 9,563 (917) 8,786 9,607 27 – (4) (109) 31 65 (890) (27) – 8,717 4 65 (890) 8,673 9,703 (917) 8,786 The carrying value of the intangible assets and changes in the carrying value of the intangible assets are as follows: I N D E FI N IT E LI FE I N TA N G I B LE A S S E T S BRANDS AND TRADEMARKS CUSTOMER CONTRACT- RELATED SHAREHOLDER PORTION OF ACQUIRED FUTURE PARTICIPATING ACCOUNT PROFIT TRADE NAMES MUTUAL FUND MANAGEMENT CONTRACTS 2,321 (57) 2,264 (825) 23 (802) 354 – 354 – – – 285 – 285 – – – 740 – 740 – – – 1,462 354 285 740 3,467 BRANDS AND TRADEMARKS CUSTOMER CONTRACT- RELATED SHAREHOLDER PORTION OF ACQUIRED FUTURE PARTICIPATING ACCOUNT PROFIT TRADE NAMES MUTUAL FUND MANAGEMENT CONTRACTS 2,264 57 2,321 (801) (24) (825) 354 – 354 – – – 285 – 285 – – – 740 – 740 – – – 1,496 354 285 740 3,507 TOTAL 4,426 (66) 4,360 (919) 26 (893) TOTAL 4,357 69 4,426 (892) (27) (919) 726 (9) 717 (94) 3 (91) 626 714 12 726 (91) (3) (94) 632 DECEMBER 31, 2012 Cost, beginning of year Change in foreign exchange rates Cost, end of year Accumulated impairment, beginning of year Change in foreign exchange rates Accumulated impairment, end of year Carrying value, end of year DECEMBER 31, 2011 Cost, beginning of year Change in foreign exchange rates Cost, end of year Accumulated impairment, beginning of year Change in foreign exchange rates Accumulated impairment, end of year Carrying value, end of year 66 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 9 GOODWILL AND INTANGIBLE ASSETS (CONTINUED) FI N IT E LI FE I N TA N G I B LE A S S E T S DECEMBER 31, 2012 Cost, beginning of year Additions Disposal/redemption Change in foreign exchange rates Other, including write-off of assets fully amortized Cost, end of year Accumulated amortization, beginning of year Amortization Disposal/redemption Other, including write-off of assets fully amortized Accumulated amortization, end of year Carrying value, end of year CUSTOMER CONTRACT- RELATED DISTRIBUTION CHANNELS DISTRIBUTION CONTRAC TS TECHNOLOGY AND PROPERT Y LEASES SOFT WARE DEFERRED SELLING COMMISSIONS TOTAL 571 100 107 – – (7) – 564 (204) (31) – – (235) 329 – – 3 – 103 (29) (5) – – (34) 69 3 – – – 110 (33) (8) – – (41) 69 25 – – – – 25 (22) (3) – – (25) – 545 105 (19) (3) 27 655 (295) (72) 15 – (352) 303 1,551 2,899 212 (103) – (212) 320 (122) (7) (185) 1,448 2,905 (800) (223) 59 212 (752) 696 (1,383) (342) 74 212 (1,439) 1,466 DECEMBER 31, 2011 Cost, beginning of year Additions Disposal/redemption Change in foreign exchange rates Other, including write-off of assets fully amortized Cost, end of year Accumulated amortization, beginning of year Amortization Impairment Disposal/redemption Change in foreign exchange rates Other, including write-off of assets fully amortized Accumulated amortization, end of year Carrying value, end of year CUSTOMER CONTRACT- RELATED DISTRIBUTION CHANNELS DISTRIBUTION CONTRAC TS TECHNOLOGY AND PROPERT Y LEASES SOFT WARE DEFERRED SELLING COMMISSIONS TOTAL 564 100 103 – – 7 – 571 (169) (34) – – (1) – (204) 367 – – – – 100 (24) (4) – – (1) – (29) 71 4 – – – 107 (26) (7) – – – – (33) 74 25 – – – – 25 (17) (5) – – – – (22) 3 449 1,623 2,864 38 (1) 5 54 545 (240) (61) (4) – (3) 13 (295) 250 238 (104) – (206) 1,551 (829) (237) – 60 – 206 (800) 751 280 (105) 12 (152) 2,899 (1,305) (348) (4) 60 (5) 219 (1,383) 1,516 RECOVER AB LE AMOU NT For Lifeco, the key assumptions used for the discounted cash flow calculations The recoverable amount of all cash generating units is determined as the are based on past experience and external sources of information. The key higher of fair value less cost to sell and value-in-use. Fair value is determined assumptions are as follows: using a combination of commonly accepted valuation methodologies, namely comparable trading multiples, comparable transaction multiples and discounted cash flow analysis. Comparable trading and transaction multiples methodologies calculate value by applying multiples observed in the market against historical results or projections approved by management, as applicable. Value calculated by discounted cash flow analysis uses cash flow projections based on financial budgets approved by management covering an initial period (typically four or five years). Value beyond the initial period is derived from applying a terminal value multiple to the final year of the initial > Risk-adjusted discount rates used for the calculation of present value are based on Lifeco’s weighted average cost of capital. > Economic assumptions are based on market yields on risk-free interest rates at the end of each reporting period. > Terminal growth rate represents the rate used to extrapolate new business contributions beyond the business plan period, and is based on management’s estimate of future growth; it ranges between 0% and 3.0%, depending on the nature of the business. projection period. The terminal value multiple is a function of the discount For IGM, the valuation models used to assess fair value utilized assumptions rate and the estimated terminal growth rate. The estimated terminal growth that include levels of growth in assets under management from net sales and rate is not to exceed the long-term average growth rate (inflation rate) of the market pricing and margin changes, synergies achieved, discount rates, and markets in which the subsidiaries of the Corporation operate. observable data from comparable transactions. 67 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTE 9 GOODWILL AND INTANGIBLE ASSETS (CONTINUED) The fair value less cost to sell was compared with the carrying amount of goodwill and indefinite life intangible assets and it was determined there was no impairment in the value of these assets. ALLOCATION TO CASH G EN ER ATING U N ITS Goodwill and indefinite life intangible assets have been assigned to cash generating units as follows: DECEMBER 31 LIFECO Canada Group Individual insurance / wealth management Europe Insurance and annuities Reinsurance United States Financial services Asset management IGM Investors Group Mackenzie Other and corporate GOODWILL INTANGIBLES TOTAL GOODWILL INTANGIBLES 2012 2011 TOTAL 1,142 3,028 1,563 1 123 – 1,443 1,250 123 8,673 – 973 1,142 4,001 1,142 3,028 – 973 1,142 4,001 109 1,672 1,563 107 1,670 – – 1,360 – 1,003 22 1 123 1,360 1,443 2,253 145 3,467 12,140 1 127 – 1,500 1,302 123 8,786 – – 1,402 – 1,003 22 1 127 1,402 1,500 2,305 145 3,507 12,293 NOTE 10 SEGREGATED FUNDS INVESTM ENTS ON ACCOU NT OF SEG REGATED FU N D POLICYHOLDERS DECEMBER 31 Cash and cash equivalents Bonds Mortgage loans Shares Investment properties Accrued income Other liabilities 2012 4,837 24,070 2,303 69,254 6,149 239 (1,904) 104,948 2011 5,334 21,594 2,303 63,885 5,457 287 (2,278) 96,582 68 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 10 SEGREGATED FUNDS (CONTINUED) INVESTM ENT AN D IN SU R ANCE CONTR ACTS ON ACCOU NT OF SEG REGATED FU N D POLICYHOLDERS YEAR ENDED DECEMBER 31 Balance, beginning of year Additions (deductions): Policyholder deposits Net investment income Net realized capital gains (losses) on investments Net unrealized capital gains (losses) on investments Unrealized gains (losses) due to changes in foreign exchange rates Policyholder withdrawals Net transfer from General Fund Balance, end of year NOTE 11 INSURANCE AND INVESTMENT CONTRACT LIABILITIES IN SU R ANCE AN D INVESTM ENT CONTR ACT LIAB ILITIES DECEMBER 31, 2012 Insurance contract liabilities Investment contract liabilities DECEMBER 31, 2011 Insurance contract liabilities Investment contract liabilities GROSS LIABILIT Y 119,919 739 120,658 GROSS LIABILIT Y 114,730 782 115,512 2012 96,582 13,819 1,189 1,094 4,316 (213) (11,831) (8) 8,366 104,948 REINSURANCE ASSETS 2,064 – 2,064 REINSURANCE ASSETS 2,061 – 2,061 COM POSITION OF IN SU R ANCE AN D INVESTM ENT CONTR ACT LIAB ILITIES AN D REL ATED SU PPORTING AS SETS The composition of insurance and investment contract liabilities of Lifeco is as follows: DECEMBER 31, 2012 Participating Canada United States Europe Non-participating Canada United States Europe GROSS LIABILIT Y 27,851 8,942 1,241 27,283 17,356 37,985 120,658 REINSURANCE ASSETS (88) 14 – 746 241 1,151 2,064 2011 94,827 13,462 755 1,048 (3,539) 887 (10,876) 18 1,755 96,582 NET 117,855 739 118,594 NET 112,669 782 113,451 NET 27,939 8,928 1,241 26,537 17,115 36,834 118,594 69 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTE 11 INSURANCE AND INVESTMENT CONTRACT LIABILITIES (CONTINUED) DECEMBER 31, 2011 Participating Canada United States Europe Non-participating Canada United States Europe GROSS LIABILIT Y 26,470 8,639 1,230 27,099 16,657 35,417 115,512 REINSURANCE ASSETS (50) 18 – 919 276 898 2,061 NET 26,520 8,621 1,230 26,180 16,381 34,519 113,451 The composition of the assets supporting liabilities and equity of Lifeco is as follows: DECEMBER 31, 2012 Carrying value Participating liabilities Canada United States Europe Non-participating liabilities Canada United States Europe Other Total equity Total carrying value Fair value DECEMBER 31, 2011 Carrying value Participating liabilities Canada United States Europe Non-participating liabilities Canada United States Europe Other Total equity Total carrying value Fair value BONDS MORTGAGE LOANS SHARES INVESTMENT PROPERTIES OTHER TOTAL 12,818 4,307 874 17,519 14,280 22,420 6,507 3,811 82,536 84,040 6,903 4,221 188 40 4,428 2,464 2,827 493 532 17,875 19,067 – 162 1,565 – 127 – 1,023 7,098 7,136 932 – 19 3 – 2,977 4,447 146 3,768 612 2,173 10,438 27,851 8,942 1,241 27,283 17,356 37,985 4 394 3,525 3,525 108,470 115,474 11,826 17,586 142,684 253,718 142,684 256,452 BONDS MORTGAGE LOANS SHARES INVESTMENT PROPERTIES OTHER TOTAL 11,862 6,686 3,864 4,059 855 16,674 13,523 20,449 6,563 4,088 78,073 79,114 152 56 4,738 2,369 2,506 484 441 17,432 18,662 – 176 1,329 – 119 – 1,216 6,704 6,772 507 – 22 20 – 3,551 4,428 121 4,338 765 2,092 10,251 26,470 8,639 1,230 27,099 16,657 35,417 6 554 3,201 3,201 100,099 107,152 9,805 16,104 133,358 238,768 133,358 241,107 Cash flows of assets supporting insurance and investment contract liabilities Changes in the fair values of assets backing capital and surplus, less related are matched within reasonable limits. Changes in the fair values of these income taxes, would result in a corresponding change in surplus over time assets are essentially offset by changes in the fair value of insurance and in accordance with investment accounting policies. investment contract liabilities. 70 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 11 INSURANCE AND INVESTMENT CONTRACT LIABILITIES (CONTINUED) CHANG ES IN IN SU R ANCE CONTR ACT LIAB ILITIES The change in insurance contract liabilities during the year was the result of the following business activities and changes in actuarial estimates: DECEMBER 31, 2012 Balance, beginning of year Impact of new business Normal change in force Management action and changes in assumptions Business movement from/to external parties Impact of foreign exchange rate changes Impact of Crown amalgamation PARTICIPATING NON-PARTICIPATING GROSS LIABILIT Y REINSURANCE ASSETS NET GROSS LIABILIT Y REINSURANCE ASSETS NET TOTAL NET 36,303 (32) 36,335 72 1,621 (260) – (262) 529 – (6) (34) – (2) – 72 1,627 (226) – (260) 529 78,427 4,664 (528) (380) (48) 310 (529) 2,093 76,334 112,669 326 35 (306) (7) (3) – 4,338 (563) (74) (41) 313 (529) 4,410 1,064 (300) (41) 53 – Balance, end of year 38,003 (74) 38,077 81,916 2,138 79,778 117,855 DECEMBER 31, 2011 Balance, beginning of year Crown Ancillary reclassification Impact of new business Normal change in force Management action and changes in assumptions Impact of foreign exchange rate changes Balance, end of year PARTICIPATING NON-PARTICIPATING GROSS LIABILIT Y REINSURANCE ASSETS NET GROSS LIABILIT Y REINSURANCE ASSETS NET TOTAL NET 34,398 (89) 133 1,719 (139) 281 36,303 25 – – (14) (45) 2 (32) 34,373 73,007 2,508 70,499 104,872 (89) 133 1,733 (94) 279 89 3,088 1,910 (806) 1,139 – (329) 476 (583) 21 89 3,417 1,434 (223) 1,118 – 3,550 3,167 (317) 1,397 36,335 78,427 2,093 76,334 112,669 Under fair value accounting, movement in the fair value of the supporting The decrease in the United States was primarily due to updated life mortality assets is a major factor in the movement of insurance contract liabilities. ($33 million decrease), updated longevity assumptions ($3 million decrease), Changes in the fair value of assets are largely offset by corresponding changes decrease in provisions for policyholder behaviour ($3 million decrease) and in the fair value of liabilities. The change in the value of the insurance contract updated expenses and taxes ($1 million decrease), partially offset by provisions liabilities associated with the change in the value of the supporting assets is for asset and mismatch risk ($7 million increase). included in the normal change in force above. Net participating insurance contract liabilities decreased by $226 million In 2012, the major contributors to the increase in net insurance contract in 2012 due to management actions and assumption changes. The decrease liabilities were the impact of new business ($4,410 million increase) and the was primarily due to decreases in the provision for future policyholder normal change in the in-force business ($1,064 million increase), primarily dividends ($2,078 million decrease), improved Individual Life mortality due to the change in fair value. Lifeco’s net non-participating insurance contract liabilities decreased by $74 million in 2012 due to management actions and assumption changes including a $138 million decrease in Canada, a $97 million increase in Europe and a $33 million decrease in the United States. The decrease in Canada was primarily due to updated life insurance mortality ($79 million decrease), updated expenses and taxes ($75 million decrease), modelling refinements across the Canadian segment ($71 million decrease), updated longevity assumptions ($21 million decrease) and updated morbidity ($124 million decrease), updated expenses and taxes ($92 million decrease) and modelling refinements in Canada ($10 million decrease), partially offset by lower investment returns ($2,056 million increase), increased provisions for policyholder behaviour ($19 million increase) and updated morbidity assumptions ($3 million increase). In 2011, the major contributors to the increase in net insurance contract liabilities were the impact of new business ($3,550 million increase) and the normal change in the in-force business ($3,167 million increase) primarily due to the change in fair value. assumptions ($9 million decrease), partially offset by provisions for asset and Net non-participating insurance contract liabilities decreased by $223 million mismatch risk ($66 million increase) and increased provisions for policyholder in 2011 due to management actions and assumption changes, including behaviour in individual insurance ($41 million increase). a $68 million decrease in Canada, a $132 million decrease in Europe and a The increase in Europe was primarily due to updated longevity improvement $23 million decrease in the United States. assumptions ($348 million increase), increased provisions for policyholder Lifeco adopted the revised Actuarial Standards of Practice for subsection 2350 behaviour in reinsurance ($109 million increase), increase in provision for relating to future mortality improvement in insurance contract liabilities for expenses and taxes ($36 million increase), modelling refinements ($32 million life insurance and annuities. The resulting decrease in net non-participating increase), increased provisions for asset and mismatch risk ($15 million insurance contract liabilities for life insurance was $446 million, including a increase) and updated morbidity assumptions ($3 million increase), partially $182 million decrease in Canada, a $242 million decrease in Europe (primarily offset by updated base longevity assumptions ($358 million decrease) and reinsurance) and a $22 million decrease in the United States. The resulting updated life insurance mortality ($85 million decrease). 71 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTE 11 INSURANCE AND INVESTMENT CONTRACT LIABILITIES (CONTINUED) change in net insurance contract liabilities for annuities was a $47 million assumptions ($15 million increase), partially offset by modelling refinements increase, including a $53 million increase in Canada, a $58 million decrease in the U.K. and Reinsurance segments ($69 million decrease), updated base in Europe and a $52 million increase in the U.S. annuity mortality ($42 million decrease), and reduced provisions for asset The remaining increase in Canada was primarily due to increased provisions liability matching ($16 million decrease). for policyholder behaviour in Individual Insurance ($172 million increase), The remaining decrease in the United States was primarily due to updated provision for asset liability matching ($147 million increase), updated base annuity mortality ($28 million decrease) and updated base life insurance base annuity mortality ($43 million increase) and a reclassification mortality ($23 million decrease). from miscellaneous liabilities ($29 million increase), partially offset by updated expenses and taxes ($137 million decrease), updated morbidity assumptions ($101 million decrease), updated base life insurance mortality ($38 million decrease), modelling refinements across the Canadian segment ($40 million decrease) and reinsurance-related management actions ($16 million decrease). Net participating insurance contract liabilities decreased by $94 million in 2011 due to management actions and assumption changes. The decrease was primarily due to decreases in the provision for future policyholder dividends ($1,556 million decrease), modelling refinements in Canada ($256 million decrease), improved Individual Life mortality ($256 million decrease, including $27 million from the Standards of Practice revision) and updated expenses The remaining increase in Europe was primarily due to increased provisions and taxes ($15 million decrease), partially offset by lower investment returns for policyholder behaviour in reinsurance ($227 million increase), updated ($1,952 million increase), and increased provisions for policyholder behaviour base life insurance mortality ($50 million increase) and updated morbidity ($40 million increase). CHANG ES IN INVESTM ENT CONTR ACT LIAB ILITIES M EASU RED AT FAIR VALU E DECEMBER 31 Balance, beginning of year Normal change in-force business Investment experience Impact of foreign exchange rate changes Balance, end of year 2012 782 (87) 51 (7) 739 2011 791 (54) 35 10 782 The carrying value of investment contract liabilities approximates their fair Annuitant mortality is also studied regularly and the results are used value. No investment contract liabilities have been reinsured. to modify established industry experience annuitant mortality tables. Mortality improvement has been projected to occur throughout future CANADIAN U N IVERSAL LIFE EM B EDDED DERIVATIVES years for annuitants. Lifeco bifurcated the index-linked component of the universal life contracts as this embedded derivative is not closely related to the insurance host and is not itself an insurance contract. The forward contracts are contractual agreements in which the policyholder is entitled to the performance of the underlying index. The policyholder may select one or more indices from a list of major indices. ACTUARIAL AS SU M PTION S In the computation of insurance contract liabilities, valuation assumptions have been made regarding rates of mortality/morbidity, investment returns, levels of operating expenses, rates of policy termination and rates of utilization of elective policy options or provisions. The valuation assumptions use best estimates of future experience together with a margin for adverse deviation. These margins are necessary to provide for possibilities of misestimation and/or future deterioration in the best estimate assumptions and provide reasonable assurance that insurance contract liabilities cover a range of possible outcomes. Margins are reviewed periodically for continued appropriateness. The methods for arriving at these valuation assumptions are outlined below: Mortality A life insurance mortality study is carried out annually for each major block of insurance business. The results of each study are used to update Lifeco’s experience valuation mortality tables for that business. When there is insufficient data, use is made of the latest industry experience to derive an appropriate valuation mortality assumption. The actuarial standards were amended to remove the requirement that, for life insurance, any reduction in liabilities due to mortality improvement assumption be offset by an equal amount of provision for adverse deviation. Appropriate provisions have been made for future mortality deterioration on term insurance. Morbidity Lifeco uses industry-developed experience tables modified to reflect emerging Lifeco experience. Both claim incidence and termination are monitored regularly and emerging experience is factored into the current valuation. Property and casualty reinsurance Insurance contract liabilities for property and casualty reinsurance written by London Reinsurance Group Inc. (LRG), a subsidiary of London Life, are determined using accepted actuarial practices for property and casualty insurers in Canada. The insurance contract liabilities have been established using cash flow valuation techniques, including discounting. The insurance contract liabilities are based on cession statements provided by ceding companies. In certain instances, LRG management adjusts cession statement amounts to reflect management’s interpretation of the treaty. Differences will be resolved via audits and other loss mitigation activities. In addition, insurance contract liabilities also include an amount for incurred but not reported losses which may differ significantly from the ultimate loss development. The estimates and underlying methodology are continually reviewed and updated, and adjustments to estimates are reflected in earnings. LRG analyses the emergence of claims experience against expected assumptions for each reinsurance contract separately and at the portfolio level. If necessary, a more in-depth analysis is undertaken of the cedant experience. Investment returns The assets which correspond to the different liability categories are segmented. For each segment, projected cash flows from the current assets and liabilities are used in the Canadian Asset Liability Method to determine insurance contract liabilities. Cash flows from assets are reduced to provide for asset default losses. Testing under several interest rate and equity scenarios (including increasing and decreasing rates) is done to provide for reinvestment risk (refer to Note 21). 72 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 11 INSURANCE AND INVESTMENT CONTRACT LIABILITIES (CONTINUED) Expenses Contractual policy expenses (e.g., sales commissions) and tax Policyholder dividends and adjustable policy features Future expenses are reflected on a best estimate basis. Expense studies for indirect policyholder dividends and other adjustable policy features are included operating expenses are updated regularly to determine an appropriate in the determination of insurance contract liabilities with the assumption estimate of future operating expenses for the liability type being valued. that policyholder dividends or adjustable benefits will change in the future Improvements in unit operating expenses are not projected. An inflation in response to the relevant experience. The dividend and policy adjustments assumption is incorporated in the estimate of future operating expenses are determined consistent with policyholders’ reasonable expectations, such consistent with the interest rate scenarios projected under the Canadian expectations being influenced by the participating policyholder dividend Asset Liability Method as inflation is assumed to be correlated with new policies and/or policyholder communications, marketing material and past money interest rates. Policy termination Studies to determine rates of policy termination are updated regularly to form the basis of this estimate. Industry data is also available and is useful where Lifeco has no experience with specific types of policies or its exposure is limited. Lifeco has significant exposures in respect of the T-100 and Level Cost of Insurance Universal Life products in Canada and policy termination rates at the renewal period for renewable term policies in Canada and Reinsurance. Industry experience has guided Lifeco’s persistency assumption for these products as Lifeco’s own experience is very limited. Utilization of elective policy options There are a wide range of elective options embedded in the policies issued by Lifeco. Examples include term renewals, conversion to whole life insurance (term insurance), settlement annuity purchase at guaranteed rates (deposit annuities) and guarantee resets (segregated fund maturity guarantees). The assumed rates of utilization are based on Lifeco or industry experience when it exists and, when not, on judgment considering incentives to utilize the option. Generally, whenever it is clearly in the best interests of an informed policyholder to utilize an option, then it is assumed to be elected. practice. It is Lifeco’s expectation that changes will occur in policyholder dividend scales or adjustable benefits for participating or adjustable business respectively, corresponding to changes in the best estimate assumptions, resulting in an immaterial net change in insurance contract liabilities. Where underlying guarantees may limit the ability to pass all of this experience back to the policyholder, the impact of this non-adjustability impacting shareholder earnings is reflected in the impact of changes in best estimate assumptions above. RI SK MANAG EM ENT Insurance risk Insurance risk is the risk that the insured event occurs and that there are large deviations between expected and actual actuarial assumptions, including mortality, persistency, longevity, morbidity, expense variations and investment returns. As an insurance company, Lifeco is in the business of accepting risk associated with insurance contract liabilities. Lifeco’s objective is to mitigate its exposure to risk arising from these contracts through product design, product and geographical diversification, the implementation of its underwriting strategy guidelines, and through the use of reinsurance arrangements. The following table provides information about Lifeco’s insurance contract liabilities’ sensitivities to management’s best estimate of the approximate impact as a result of changes in assumptions used to determine Lifeco’s liability associated with these contracts. Mortality (increase) Annuitant mortality (decrease) Morbidity (adverse change) Investment returns Parallel shift in yield curve Increase Decrease Change in equity markets Increase Decrease Change in best estimate returns for equities Increase Decrease Expenses (increase) Policy termination (adverse change) 2012 2011 CHANGES IN ASSUMPTIONS IMPAC T ON LIFECO PROFIT OR LOSS POWER FINANCIAL’S SHARE CHANGES IN ASSUMPTIONS IMPAC T ON LIFECO PROFIT OR LOSS POWER FINANCIAL’S SHARE 2% 2% 5% 1% 1% 10% 10% 1% 1% 5% 10% (208) (274) (188) 121 (504) 18 (96) 342 (376) (56) (473) (147) (194) (133) 85 (356) 13 (68) 242 (266) (40) (334) 2% 2% 5% 1% 1% 10% 10% 1% 1% 5% 10% (188) (176) (181) 123 (511) 21 (57) 292 (316) (55) (435) (133) (124) (128) 87 (361) 15 (40) 206 (223) (39) (307) 73 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTE 11 INSURANCE AND INVESTMENT CONTRACT LIABILITIES (CONTINUED) Concentration risk may arise from geographic regions, accumulation of risks and market risks. The concentration of insurance risk before and after reinsurance by geographic region is described below. DECEMBER 31 Canada United States Europe GROSS LIABILIT Y REINSURANCE ASSETS 55,134 26,298 39,226 120,658 658 255 1,151 2,064 2012 NET 54,476 26,043 38,075 GROSS LIABILIT Y REINSURANCE ASSETS 53,569 25,296 36,647 869 294 898 2011 NET 52,700 25,002 35,749 118,594 115,512 2,061 113,451 Reinsurance risk Maximum limits per insured life benefit amount (which Reinsurance contracts do not relieve Lifeco from its obligations to vary by line of business) are established for life and health insurance and policyholders. Failure of reinsurers to honour their obligations could result reinsurance is purchased for amounts in excess of those limits. in losses to Lifeco. Lifeco evaluates the financial condition of its reinsurers Reinsurance costs and recoveries as defined by the reinsurance agreement are to minimize its exposure to significant losses from reinsurer insolvencies. reflected in the valuation with these costs and recoveries being appropriately Certain of the reinsurance contracts are on a funds withheld basis where calibrated to the direct assumptions. Lifeco retains the assets supporting the reinsured insurance contract liabilities, thus minimizing the exposure to significant losses from reinsurer insolvency on those contracts. NOTE 12 OBLIGATION TO SECURITIZATION ENTITIES IGM securitizes residential mortgages through the Canada Mortgage and mortgage principal. A component of this swap, related to the obligation Housing Corporation (CMHC)-sponsored National Housing Act Mortgage- to pay CMB coupons and receive investment returns on repaid mortgage Backed Securities (NHA MBS) Program and Canada Mortgage Bond (CMB) principal, is recorded as a derivative and had a negative fair value of $56 million Program and through Canadian bank-sponsored asset-backed commercial at December 31, 2012. paper (ABCP) programs. These transactions do not meet the requirements for derecognition as IGM retains prepayment risk and certain elements of credit risk. Accordingly, IGM has retained these mortgages on its balance sheets and has recorded an offsetting liability for the net proceeds received as obligations to securitization entities which is carried at amortized cost. Under the NHA MBS and CMB Programs, IGM has an obligation to make timely payments to security holders regardless of whether amounts are received from mortgagors. All mortgages securitized under the NHA MBS and CMB Programs are insured by CMHC or another approved insurer under the program. As part of the ABCP transactions, IGM has provided cash reserves IGM earns interest on the mortgages and pays interest on the obligations for credit enhancement which are carried at cost. Credit risk is limited to to securitization entities. As part of the CMB transactions, IGM enters these cash reserves and future net interest income as the ABCP Trusts have no into a swap transaction whereby IGM pays coupons on CMBs and receives recourse to IGM’s other assets for failure to make payments when due. Credit investment returns on the NHA MBS and the reinvestment of repaid risk is further limited to the extent these mortgages are insured. DECEMBER 31, 2012 Carrying value NHA MBS and CMB Programs Bank-sponsored ABCP Total Fair value SECURITIZED MORTGAGES OBLIGATIONS TO SECURITIZATION ENTITIES 3,285 1,354 4,639 4,685 3,312 1,389 4,701 4,787 NET (27) (35) (62) (102) The carrying value of obligations to securitization entities, which is recorded net of issue costs, includes principal payments received on securitized mortgages that are not due to be settled until after the reporting period. Issue costs are amortized over the life of the obligation on an effective interest rate basis. 74 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 13 DEBENTURES AND DEBT INSTRUMENTS DECEMBER 31 DEBT INSTRUMENTS GREAT-WEST LIFECO INC. Commercial paper and other short-term debt instruments with interest rates from 0.27% to 0.35% (0.20% to 0.39% in 2011) Revolving credit facility with interest equal to LIBOR rate plus 1% or U.S. prime rate loan (US$200 million) Term note due October 18, 2015, bearing an interest rate of LIBOR plus 0.75% (US$304 million), unsecured Notes payable with interest rate of 8.0% due May 6, 2014, unsecured TOTAL DEBT INSTRUMENTS DEBENTURES POWER FINANCIAL CORPORATION 6.90% debentures, due March 11, 2033, unsecured GREAT-WEST LIFECO INC. 6.14% debentures due March 21, 2018, unsecured 4.65% debentures due August 13, 2020, unsecured 6.40% subordinated debentures due December 11, 2028, unsecured 6.74% debentures due November 24, 2031, unsecured 6.67% debentures due March 21, 2033, unsecured 6.625% deferrable debentures due November 15, 2034, unsecured (US$175 million) 5.998% debentures due November 16, 2039, unsecured Subordinated debentures due May 16, 2046, bearing an interest rate of 7.153% until May 16, 2016 and, thereafter, a rate of 2.538% plus the 3-month LIBOR rate, unsecured (US$300 million) Subordinated debentures due June 21, 2067, bearing an interest rate of 5.691% until June 21, 2017 and, thereafter, at a rate equal to the Canadian 90-day bankers’ acceptance rate plus 1.49%, unsecured Subordinated debentures due June 26, 2068, bearing an interest rate of 7.127% until June 26, 2018 and, thereafter, at a rate equal to the Canadian 90-day bankers’ acceptance rate plus 3.78%, unsecured IGM FINANCIAL INC. 6.58% debentures 2003 Series, due March 7, 2018, unsecured 7.35% debentures 2009 Series, due April 8, 2019, unsecured 6.65% debentures 1997 Series, due December 13, 2027, unsecured 7.45% debentures 2001 Series, due May 9, 2031, unsecured 7.00% debentures 2002 Series, due December 31, 2032, unsecured 7.11% debentures 2003 Series, due March 7, 2033, unsecured 6.00% debentures 2010 Series, due December 10, 2040, unsecured TOTAL DEBENTURES On May 9, 2011, IGM repaid the $450 million 2001 Series 6.75% debentures which had matured. The principal payments on debentures and debt instruments in each of the next five years is as follows: 2013 2014 2015 2016 2017 Thereafter CARRYING VALUE 2012 FAIR VALUE CARRYING VALUE 2011 FAIR VALUE 97 198 301 2 598 250 199 498 100 191 397 170 342 296 97 198 301 2 598 324 234 557 117 256 512 176 431 307 100 204 304 3 611 250 199 497 100 190 397 175 343 310 100 204 308 3 615 295 229 522 115 237 472 170 383 298 995 1,097 994 1,028 497 150 375 125 150 175 150 200 592 176 466 151 194 220 190 232 497 150 375 125 150 175 150 200 551 175 457 148 189 213 185 220 5,260 5,858 6,232 6,830 5,277 5,888 5,887 6,502 296 1 301 – – 5,260 75 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTE 14 CAPITAL TRUST SECURITIES DECEMBER 31 GREAT-WEST LIFE CAPITAL TRUST 5.995% capital trust securities due December 31, 2052, unsecured CANADA LIFE CAPITAL TRUST 6.679% capital trust securities due June 30, 2052, unsecured 7.529% capital trust securities due June 30, 2052, unsecured Acquisition-related fair value adjustment Trust securities held by subsidiaries of Lifeco as investments Trust securities held by Lifeco as investments CARRYING VALUE – – 150 150 14 (45) – 119 2012 FAIR VALUE – – 216 216 – (45) – 171 CARRYING VALUE 350 300 150 800 15 (44) (238) 533 2011 FAIR VALUE 363 307 197 867 – (44) (246) 577 Canada Life Capital Trust (CLCT) redeemed all of its outstanding $300 million CLCT, a trust established by Canada Life, had issued $150 million of Canada principal amount Canada Life Capital Securities — Series A (CLiCS — Series A) on Life Capital Securities — Series B (CLiCS — Series B), the proceeds of which June 29, 2012 at par. Lifeco previously held $122 million of these CLiCS — Series A were used by CLCT to purchase Canada Life senior debentures in the amount as a long-term investment. of $150 million. Great-West Life Capital Trust redeemed all of its outstanding $350 million Distributions and interest on the capital trust securities are classified as principal amount Great-West Life Capital Trust Securities — Series A on financing charges on the statements of earnings (see Note 23). The fair value December 31, 2012 at par. Lifeco previously held $116 million of these capital for capital trust securities is determined by the bid-ask price. trust securities as a long-term investment. Subject to regulatory approval, CLCT may redeem the CLiCS — Series B, in whole or in part, at any time. NOTE 15 OTHER LIABILITIES DECEMBER 31 Bank overdraft Accounts payable Dividends and interest payable Income taxes payable Repurchase agreements Deferred income reserves Deposits and certificates Funds held under reinsurance contracts Accrued benefit liability [Note 24] Other It is expected that $4,205 million of other liabilities will be settled within 12 months from the reporting date. 2012 448 1,842 332 684 225 427 163 335 920 935 2011 437 1,760 330 513 250 406 151 169 867 953 6,311 5,836 76 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 15 OTHER LIABILITIES (CONTINUED) DEFERRED INCOM E RESERVES Changes in deferred income reserves are as follows: Balance, beginning of year Additions Amortization Foreign exchange Disposals Balance, end of year 2012 406 103 (42) 8 (48) 427 2011 377 97 (38) 5 (35) 406 DEPOSITS AN D CERTIFICATES Included in assets on the balance sheets are cash and cash equivalents, shares, loans, and accounts and other receivables amounting to $163 million ($151 million at December 31, 2011) related to deposits and certificates. TERM TO MATURIT Y DEMAND 1 YEAR OR LESS 1 – 5 YEARS OVER 5 YEARS DECEMBER 31, 2012 TOTAL DECEMBER 31, 2011 TOTAL 136 – 136 9 – 9 12 1 13 2 3 5 159 4 163 147 4 151 Deposits Certificates NOTE 16 INCOME TAXES EFFECTIVE INCOM E TA X R ATE The Corporation’s effective income tax rate is derived as follows: YEARS ENDED DECEMBER 31 Combined basic Canadian federal and provincial tax rates Increase (decrease) in the income tax rate resulting from: Non-taxable investment income Lower effective tax rates on income not subject to tax in Canada Earnings of investment in jointly controlled corporation Impact of rate changes on deferred income taxes Loss consolidation transaction Other Effective income tax rate As of January 1, 2012, the federal corporate tax rate decreased from 16.5% to 15.0%. INCOM E TA X EXPEN SE The components of income tax expense on continuing operations recognized in net earnings are: YEARS ENDED DECEMBER 31 Current income taxes Deferred income taxes 2012 % 26.5 (5.4) (2.0) (1.0) (0.1) – (1.9) 16.1 2012 603 (40) 563 2011 % 28.0 (3.4) (2.5) 0.2 (0.2) (0.4) (2.1) 19.6 2011 519 187 706 77 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTE 16 INCOME TAXES (CONTINUED) DEFERRED INCOM E TA XES Deferred income taxes consist of the following taxable temporary differences on: DECEMBER 31 Insurance and investment contract liabilities Loss carry forwards Investments Deferred selling commissions Intangible assets Other Classified on the balance sheets as: Deferred income tax assets Deferred income tax liabilities 2012 (272) 1,184 (839) (186) 77 (7) (43) 1,170 (1,213) (43) 2011 (321) 1,007 (788) (197) 162 86 (51) 1,207 (1,258) (51) A deferred income tax asset is recognized for deductible temporary difference that the subsidiary and other historically profitable subsidiaries with which and unused losses and carry forwards only to the extent that realization of it files or intends to file a consolidated United States income tax return will the related income tax benefit through future taxable profits is probable. generate sufficient taxable income against which the unused United States Recognition is based on the fact that it is probable that the entity will have taxable profits and/or tax planning opportunities available to allow the deferred income tax asset to be utilized. Changes in circumstances in future periods may adversely impact the assessment of the recoverability. The uncertainty of the recoverability is taken into account in establishing the deferred income tax assets. Management of the Corporation and its subsidiaries assesses the recoverability of the deferred income tax asset carrying values based on future years’ taxable income projections and believes the carrying values of the deferred income tax assets as of December 31, 2012 are recoverable. At December 31, 2012 Lifeco had tax loss carry forwards totalling $3,600 million ($3,013 million in 2011). Of this amount, $3,471 million expires between 2013 and 2032, while $129 million has no expiry date. Lifeco will realize this benefit in future years through a reduction in current income taxes payable. One of Lifeco’s subsidiaries has had a history of recent losses. The subsidiary has a net deferred tax asset balance of $1,088 million (US$1,088 million) as at December 31, 2012 composed principally of net operating losses and future deductions related to goodwill which has been previously impaired for book accounting purposes. Management of Lifeco has concluded that it is probable losses and deductions will be utilized. Certain state net operating losses in the amount of $46 million (US$46 million) which were incurred before 2012, other state temporary differences of $99 million (US$100 million) and federal charitable contributions of $9 million (US$9 million) have been excluded from the deferred tax assets. A deferred income tax liability has not been recognized in respect of the temporary differences associated with investments in subsidiaries, branches and a jointly controlled corporation as the Corporation and its subsidiaries are able to control the timing of the reversal of the temporary differences, and it is probable that the temporary differences will not reverse in the foreseeable future. As at December 31, 2012, the Corporation and its subsidiaries have non-capital losses of $288 million ($311 million in 2011) available to reduce future taxable income for which the benefits have not been recognized. These losses expire at various dates to 2032. In addition, the Corporation and its subsidiaries have capital loss carry forwards that can be used indefinitely to offset future capital gains of approximately $96 million ($96 million in 2011) for which the benefits have not been recognized. 78 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 17 STATED CAPITAL AUTHORIZED Unlimited number of first preferred shares, issuable in series; of second preferred shares, issuable in series; and of common shares. I S SU ED AN D OUTSTAN DING DECEMBER 31 First Preferred Shares (perpetual) Series A [i] Series D [ii] Series E [iii] Series F [iv] Series H [v] Series I [vi] Series K [vii] Series L [viii] Series M [ix] Series O [x] Series P [xi] Series R [xii] COMMON SHARES [xiii] COMMON SHARES Balance, beginning of year Issued under Stock Option Plan Balance, end of year NUMBER OF SHARES 4,000,000 6,000,000 8,000,000 6,000,000 6,000,000 8,000,000 10,000,000 8,000,000 7,000,000 6,000,000 11,200,000 10,000,000 2012 STATED CAPITAL 100 150 200 150 150 200 250 200 175 150 280 250 2,255 NUMBER OF SHARES 4,000,000 6,000,000 8,000,000 6,000,000 6,000,000 8,000,000 10,000,000 8,000,000 7,000,000 6,000,000 11,200,000 – 709,104,080 664 708,173,680 708,173,680 930,400 709,104,080 639 708,013,680 25 160,000 664 708,173,680 2011 STATED CAPITAL 100 150 200 150 150 200 250 200 175 150 280 – 2,005 639 636 3 639 [i] The Series A First Preferred Shares are entitled to an annual cumulative [vi] The 6.00% Non-Cumulative First Preferred Shares, Series I are entitled dividend at a floating rate equal to 70% of the prime rate of two major to fixed non-cumulative preferential cash dividends at a rate equal to Canadian chartered banks and are redeemable, at the Corporation’s $1.50 per share per annum. The Corporation may redeem for cash the option, at $25.00 per share. [ii] The 5.50% Non-Cumulative First Preferred Shares, Series D are entitled to fixed non-cumulative preferential cash dividends at a rate equal to Series I First Preferred Shares in whole or in part, at the Corporation’s option, at $25.00 per share, together with all declared and unpaid dividends to, but excluding, the date of redemption. $1.375 per share per annum. The Corporation may redeem for cash the [vii] The 4.95% Non-Cumulative First Preferred Shares, Series K are entitled Series D First Preferred Shares in whole or in part, at the Corporation’s to fixed non-cumulative preferential cash dividends at a rate equal to option, at $25.00 per share, together with all declared and unpaid $1.2375 per share per annum. The Corporation may redeem for cash the dividends to, but excluding, the date of redemption. Series K First Preferred Shares in whole or in part, at the Corporation’s [iii] The 5.25% Non-Cumulative First Preferred Shares, Series E are entitled to fixed non-cumulative preferential cash dividends at a rate equal to $1.3125 per share per annum. The Corporation may redeem for cash the Series E First Preferred Shares in whole or in part, at the Corporation’s option, at $25.50 per share if redeemed prior to October 31, 2013, $25.25 per share if redeemed thereafter and prior to October 31, 2014, and $25.00 per share if redeemed thereafter, in each case together with all declared and unpaid dividends to, but excluding, the date of redemption. option, at $25.00 per share, together with all declared and unpaid [viii] The 5.10% Non-Cumulative First Preferred Shares, Series L are entitled dividends to, but excluding, the date of redemption. to fixed non-cumulative preferential cash dividends at a rate equal to [iv] The 5.90% Non-Cumulative First Preferred Shares, Series F are entitled to fixed non-cumulative preferential cash dividends at a rate equal to $1.475 per share per annum. The Corporation may redeem for cash the Series F First Preferred Shares in whole or in part, at the Corporation’s option, at $25.00 per share, together with all declared and unpaid dividends to, but excluding, the date of redemption. [v] The 5.75% Non-Cumulative First Preferred Shares, Series H are entitled to fixed non-cumulative preferential cash dividends at a rate equal to $1.4375 per share per annum. The Corporation may redeem for cash the Series H First Preferred Shares in whole or in part, at the Corporation’s option, at $25.00 per share, together with all declared and unpaid dividends to, but excluding, the date of redemption. $1.2750 per share per annum. The Corporation may redeem for cash the Series L First Preferred Shares in whole or in part, at the Corporation’s option, at $25.75 per share if redeemed prior to October 31, 2013, $25.50 per share if redeemed thereafter and prior to October 31, 2014, $25.25 per share if redeemed thereafter and prior to October 31, 2015, and $25.00 per share if redeemed thereafter, in each case together with all declared and unpaid dividends to, but excluding, the date of redemption. [ix] The 6.00% Non-Cumulative First Preferred Shares, Series M are entitled to fixed non-cumulative preferential cash dividends at a rate equal to $1.50 per share per annum. On January 31, 2014 and on January 31 every five years thereafter, the Corporation may redeem for cash the Series M First Preferred shares in whole or in part, at the Corporation’s option, at 79 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTE 17 STATED CAPITAL (CONTINUED) $25.00 per share plus all declared and unpaid dividends to the date fixed to Non-Cumulative Floating Rate First Preferred Shares, Series Q, at for redemption, or the Series M First Preferred Shares are convertible the option of the holders on January 31, 2016 or on January 31 every five to Non-Cumulative Floating Rate First Preferred Shares, Series N, at years thereafter. the option of the holders on January 31, 2014 or on January 31 every five years thereafter. [xii] In 2012, the Corporation issued 10,000,000 5.50% Non-Cumulative First Preferred Shares, Series R for cash proceeds of $250 million. The 5.50% [x] The 5.80% Non-Cumulative First Preferred Shares, Series O are entitled Non-Cumulative First Preferred Shares, Series R are entitled to fixed to fixed non-cumulative preferential cash dividends at a rate equal to non-cumulative preferential cash dividends at a rate equal to $1.375 per $1.45 per share per annum. The Corporation may redeem for cash the share per annum. The Corporation may redeem for cash the Series R Series O First Preferred Shares in whole or in part, at the Corporation’s First Preferred Shares in whole or in part, at the Corporation’s option, option, at $26.00 per share if redeemed prior to October 31, 2015, at $26.00 per share if redeemed prior to April 30, 2018, $25.75 per share $25.75 per share if redeemed thereafter and prior to October 31, 2016, if redeemed thereafter and prior to April 30, 2019, $25.50 per share $25.50 per share if redeemed thereafter and prior to October 31, 2017, if redeemed thereafter and prior to April 30, 2020, $25.25 per share if $25.25 per share if redeemed thereafter and prior to October 31, 2018, and redeemed thereafter and prior to April 30, 2021 and $25.00 per share if $25.00 per share if redeemed thereafter, in each case together with all redeemed thereafter, in each case together with all declared and unpaid declared and unpaid dividends to, but excluding, the date of redemption. dividends to, but excluding, the date of redemption. Share issue costs [xi] The 4.40% Non-Cumulative First Preferred Shares, Series P are entitled to fixed non-cumulative preferential cash dividends at a rate equal to of $7 million in connection with the Series R First Preferred Shares were charged to retained earnings. $1.10 per share per annum. On January 31, 2016 and on January 31 every [xiii] During the year, 930,400 common shares (160,000 in 2011) were issued five years thereafter, the Corporation may redeem for cash the Series P under the Corporation’s Employee Stock Option Plan for a consideration First Preferred Shares in whole or in part, at the Corporation’s option, at of $20 million ($3 million in 2011). $25.00 per share plus all declared and unpaid dividends to the date fixed for redemption, or the Series P First Preferred Shares are convertible For the year ended December 31, 2012, dividends declared on the Corporation’s common shares amounted to $1.40 per share ($1.40 per share in 2011). NOTE 18 SHARE-BASED COMPENSATION DEFERRED SHARE U N IT PL AN EM PLOYEE SHARE PU RCHASE PROG R AM On October 1, 2000, the Corporation established a Deferred Share Unit Effective May 1, 2000, an Employee Share Purchase Program was implemented, Plan for the Directors of the Corporation to promote a greater alignment giving employees the opportunity to subscribe for up to 6% of their gross of interests between Directors and shareholders of the Corporation. Under salary to purchase Subordinate Voting Shares of Power Corporation of this plan, each Director may elect to receive his or her annual retainer and Canada on the open market and to have the Corporation invest, on the attendance fees entirely in the form of deferred share units, entirely in employee’s behalf, up to an equal amount. The amount paid on behalf of cash, or equally in cash and deferred share units. The number of deferred employees was $0.1 million in 2012 ($0.1 million in 2011). share units granted is determined by dividing the amount of remuneration payable by the five-day-average closing price on the Toronto Stock Exchange STOCK OPTION PL AN of the Common Shares of the Corporation on the last five days of the fiscal Compensation expense is recorded for options granted under the quarter (the value of a deferred share unit). A Director who has elected to Corporation’s and its subsidiaries’ stock option plans based on the fair value receive deferred share units will receive additional deferred share units in of the options at the grant date, amortized over the vesting period. respect of dividends payable on the Common Shares, based on the value of a During the year ended December 31, 2012, 668,579 options (777,503 options deferred share unit at that time. A deferred share unit is payable, at the time a in 2011) were granted under the Corporation’s Employee Stock Option Plan. Director’s membership on the Board is terminated or in the event of the death The fair value of these options was estimated using the Black-Scholes option- of a Director, by a lump sum cash payment, based on the value of a deferred pricing model with the following weighted-average assumptions: share unit at that time. At December 31, 2012, the value of the deferred share units outstanding was $13 million ($10 million in 2011). Alternatively, Directors may participate in the Directors Share Purchase Plan. Dividend yield Expected volatility Risk-free interest rate Expected life (years) Fair value per stock option ($/option) Weighted-average exercise price ($/option) 80 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT 2012 4.8% 18.7% 1.7% 9 $2.08 $25.31 2011 4.9% 19.2% 2.3% 9 $2.47 $26.54 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 18 SHARE-BASED COMPENSATION (CONTINUED) Expected volatility has been estimated based on the historical volatility in 2008 which vest equally over a period of five years beginning in 2009; grants of the Corporation’s share price over nine years which is reflective of the of 19,039 options in 2010 which vest as follows: the first 50% three years from expected option life. For the year ended December 31, 2012, compensation expense relating to the stock options granted by the Corporation and its subsidiaries amounted to $13 million ($10 million in 2011). Under the Corporation’s Employee Stock Option Plan, 16,491,200 additional shares are reserved for issuance. The plan requires that the exercise price under the option must not be less than the market value of a share on the date of the grant of the option. Generally, options granted vest on a delayed basis over periods beginning no earlier than one year from date of grant and no later than five years from date of grant. Options recently granted, which are not fully vested, have the following vesting conditions: grants of 830,980 options the date of grant, and the remaining 50% four years from the date of grant; a grant of 679,525 options in 2010 which vest equally over a period of five years beginning in 2011; grants of 743,080 options in 2011 which vest equally over a period of five years beginning in 2012; grants of 21,537 in 2011 options which vest as follows: the first 50% three years from the date of grant, and the remaining 50% four years from the date of grant; grants of 598,325 in 2012 options which vest equally over a period of five years beginning in 2013; grants of 70,254 in 2012 options which vest as follows: the first 50% three years from the date of grant, and the remaining 50% four years from the date of grant. A summary of the status of the Corporation’s Employee Stock Option Plan as at December 31, 2012 and 2011, and changes during the years ended on those dates is as follows: OPTIONS WEIGHTED-AVERAGE EXERCISE PRICE OPTIONS WEIGHTED-AVERAGE EXERCISE PRICE 2012 2011 Outstanding at beginning of year Granted Exercised Outstanding at end of year Options exercisable at end of year 9,097,618 668,579 (930,400) 8,835,797 6,958,267 $ 27.85 25.31 21.65 28.32 28.73 8,480,115 777,503 (160,000) 9,097,618 7,267,535 $ 27.77 26.54 16.87 27.85 27.82 The following table summarizes information about stock options outstanding at December 31, 2012: RANGE OF EXERCISE PRICES $ 21.65 25.07 – 28.13 29.05 – 30.18 31.59 – 32.46 34.46 – 37.13 OPTIONS OUTSTANDING OPTIONS EXERCISABLE WEIGHTED- AVERAGE REMAINING LIFE WEIGHTED- AVERAGE EXERCISE PRICE WEIGHTED- AVERAGE EXERCISE PRICE OPTIONS OPTIONS 2,069,600 2,254,992 887,777 2,567,777 1,055,651 8,835,797 (YRS) 0.6 8.3 5.7 3.1 5.2 4.4 $ 21.65 2,069,600 26.55 29.63 606,608 677,670 32.11 2,548,738 34.81 1,055,651 28.32 6,958,267 $ 21.65 27.17 29.61 32.11 34.81 28.73 EQ U IT Y INCENTIVE PL AN OF PUTNAM Lifeco uses the fair-value based method to account for restricted Class B Ef fec tive September 2 5, 2007, Putnam sponsored the Putnam Shares and options on Class B Shares granted to employees under the Investments, LLC Equity Incentive Plan (the EIP). Under the terms of the EIP, EIP. The fair value of restricted Class B Shares and options on Class B Putnam is authorized to grant or sell Class B Shares of Putnam (the Putnam Shares is determined on each grant date. During 2012, Putnam granted Class B Shares), subject to certain restrictions and to grant options to 1,789,000 (1,189,169 in 2011) restricted Class B common shares and no options purchase Putnam Class B Shares (collectively, the Awards) to certain senior in 2012 or 2011 to certain members of senior management and key employees. management and key employees of Putnam at fair value at the time of the award. Fair value is determined under the valuation methodology outlined in the EIP. Awards vest over a period of up to five years and are specified in the individual’s award letter. Holders of Putnam Class B Shares are not entitled to vote other than in respect of certain matters in regards to the EIP and have no rights to convert their shares into any other securities. The number of Putnam Class B Shares that may be subject to Awards under the EIP is limited to 10,000,000. The share-based payments awarded under the EIP are cash-settled and included within other liabilities on the balance sheets. Compensation expense recorded for the year ended December 31, 2012 related to restricted Class B common shares and Class B stock options earned was $22 million ($3 million in 2011) and is recorded in operating and administrative expenses in the statements of earnings. At December 31, 2012, the carrying value and intrinsic value of the restricted Class B Share and stock option liability was $99 million ($101 million in 2011). 81 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTE 19 NON-CONTROLLING INTERESTS DECEMBER 31 Non-controlling interests include: Participating account surplus in subsidiaries Preferred shareholders of subsidiaries Common shareholders of subsidiaries YEARS ENDED DECEMBER 31 Earnings attributable to non-controlling interests include: Earnings attributable to common shareholders of subsidiaries Dividends to preferred shareholders of subsidiaries Earnings attributable to participating account surplus in subsidiaries 2012 2,505 2,694 5,144 10,343 2012 797 124 276 1,197 2011 2,227 2,044 5,023 9,294 2011 916 105 120 1,141 NOTE 20 CAPITAL MANAGEMENT As a holding company, Power Financial’s objectives in managing its capital > At December 31, 2012, the Risk-Based Capital ratio (RBC) of Great-West Life are to: > provide sufficient financial flexibility to pursue its growth strategy and support its group companies and other investments. > maintain an appropriate credit rating to achieve access to the capital markets at the lowest overall cost of capital. > provide attractive long-term returns to shareholders of the Corporation. The Corporation manages its capital taking into consideration the risk characteristics and liquidity of its holdings. In order to maintain or adjust its capital structure, the Corporation may adjust the amount of dividends paid to shareholders, return capital to shareholders or issue new forms of capital. & Annuity, Lifeco’s regulated U.S. operating company, was estimated to be 440% of the Company Action Level set by the National Association of Insurance Commissioners. Great-West Life & Annuity reports its RBC ratio annually to U.S. insurance regulators. > In the United Kingdom, Canada Life UK is required to satisfy the capital resources requirements set out in the Integrated Prudential Sourcebook, part of the Financial Services Authority Handbook. The capital requirements are prescribed by a formulaic capital requirement (Pillar 1) and an individual capital adequacy framework which requires an entity to self-assess an appropriate amount of capital it should hold, based on the risks encountered from its business activities. At the end of The capital structure of the Corporation consists of preferred shares, 2012, Canada Life UK complied with the capital resource requirements in debentures and equity composed of stated capital, retained earnings and the United Kingdom. non-controlling interests in the equity of subsidiaries of the Corporation. The Corporation utilizes perpetual preferred shares as a permanent and cost- effective source of capital. The Corporation considers itself to be a long-term investor and as such holds positions in long-term investments as well as cash and short-term investments for liquidity purposes. > Other foreign operations and foreign subsidiaries of Lifeco are required to comply with local capital or solvency requirements in their respective jurisdictions. At December 31, 2012 and 2011 Lifeco maintained capital levels above the minimum local regulatory requirements in each of its other foreign operations. One of the foreign operations is in discussions with The Corporation is not subject to externally imposed regulator y its regulator regarding the admissibility of certain assets for the purpose capital requirements. of calculating such local regulatory requirements. The Corporation’s major operating subsidiaries are subject to regulatory IGM subsidiaries subject to regulator y capital requirements include capital requirements along with capital standards set by rating agencies. investment dealers, mutual fund dealers, exempt market dealers, portfolio managers, investment fund managers and a trust company. IGM subsidiaries are required to maintain minimum levels of capital based on either working capital, liquidity or shareholders’ equity. IGM subsidiaries have complied with all regulatory capital requirements. Lifeco’s subsidiaries Great-West Life and Great-West Life & Annuity are subject to minimum regulatory capital requirements. Lifeco’s practice is to maintain the capitalization of its regulated operating subsidiaries at a level that will exceed the relevant minimum regulatory capital requirements in the jurisdictions in which they operate: > In Canada, the Office of the Superintendent of Financial Institutions has established a capital adequacy measurement for life insurance companies incorporated under the Insurance Companies Act (Canada) and their subsidiaries, known as the Minimum Continuing Capital and Surplus Requirements (MCCSR). As at December 31, 2012, the MCCSR ratio for Great-West Life was 207%. 82 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 21 RISK MANAGEMENT Power Financial and its subsidiaries have policies relating to the identification, Principal payments on debentures (other than those of Lifeco and IGM measurement, monitoring, mitigating and controlling of risks associated discussed below) of $250 million due after five years, represent the only with financial instruments. The key risks related to financial instruments significant contractual liquidity requirement of Power Financial. are liquidity risk, credit risk and market risk (currency, interest rate and Power Financial’s liquidity position and its management of liquidity risk have equity price). not changed materially since December 31, 2011. The Corporation and its subsidiaries have also established policies, guidelines For Lifeco, the following policies and procedures are in place to manage or procedures designed to identify, measure and report all material risks. liquidity risk: Management is responsible for establishing capital management procedures for implementing and monitoring the capital plan. The Board of Directors of the Corporation and the boards of directors of its subsidiaries review and approve all capital transactions undertaken by management. LIQ U IDIT Y RI SK > Lifeco closely manages operating liquidity through cash flow matching of assets and liabilities and forecasting earned and required yields, to ensure consistency between policyholder requirements and the yield of assets. Approximately 70% (72% in 2011) of insurance and investment contract liabilities are non-cashable prior to maturity or subject to market Liquidity risk is the risk that the Corporation and its subsidiaries will not be value adjustments. able to meet all cash outflow obligations as they come due. > Management of Lifeco monitors the use of lines of credit on a regular basis, Power Financial is a holding company. As such, corporate cash flows from operations, before payment of dividends to its common and preferred and assesses the ongoing availability of these and alternative forms of operating credit. shareholders, are principally made up of dividends received from its > Management of Lifeco closely monitors the solvency and capital positions subsidiaries and jointly controlled corporation, and income from investments, of its principal subsidiaries opposite liquidity requirements at the holding less operating expenses, financing charges and income taxes. The ability of company. Additional liquidity is available through established lines of Lifeco and IGM, which are also holding companies, to meet their obligations credit or the capital markets. Lifeco maintains a $200 million committed and pay dividends depends in particular upon receipt of sufficient funds from line of credit with a Canadian chartered bank. As well, Putnam maintains their own subsidiaries. Power Financial seeks to maintain a sufficient level of liquidity to meet all its cash flow requirements. In addition, Power Financial and its parent, Power a US$500 million revolving credit agreement with a consortium of banks and on October 18, 2012, Lifeco renewed a US$304 million Putnam non- revolving term loan facility, guaranteed by Lifeco, for three years. Corporation of Canada, jointly have a $100 million uncommitted line of credit In the normal course of business, Lifeco enters into contracts that give rise with a Canadian chartered bank. Power Corporation and Power Financial to commitments of future minimum payments that impact short-term and never accessed the uncommitted line of credit in the past; however, any long-term liquidity. The following table summarizes the principal repayment advances made by the bank under the uncommitted line would be at the schedule of certain of Lifeco’s financial liabilities. bank’s sole discretion. DECEMBER 31, 2012 Debentures and debt instruments Capital trust securities[1] Purchase obligations Pension contributions PAYMENTS DUE BY PERIOD 1 YEAR 296 – 58 133 487 2 YEARS 3 YEARS 4 YEARS 5 YEARS 1 – 13 – 14 301 – 10 – 311 – – 2 – 2 – – – – – AFTER 5 YEARS 3,714 150 – – TOTAL 4,312 150 83 133 3,864 4,678 [1] Payments due have not been reduced to reflect that Lifeco held capital trust securities of $37 million principal amount ($45 million carrying value). IGM’s liquidity management practices include: controls over liquidity > third parties, including Canada Mortgage and Housing Corporation management processes; stress testing of various operating scenarios; and (CMHC) or Canadian bank-sponsored securitization trusts; oversight over liquidity management by committees of the board of directors > institutional investors through private placements. of IGM. A key liquidity requirement for IGM is the funding of commissions paid on the sale of mutual funds. Commissions on the sale of mutual funds continue to be paid from operating cash flows. Certain subsidiaries of IGM are approved issuers of National Housing Act Mortgage-Backed Securities (NHA MBS) and approved sellers into the Canada Mortgage Bond Program (CMB Program). This issuer and seller status provides IGM with additional funding sources for residential mortgages. IGM also maintains sufficient liquidity to fund and temporarily hold IGM’s continued ability to fund residential mortgages through Canadian mortgages. Through its mortgage banking operations, residential mortgages bank-sponsored securitization trusts and NHA MBS is dependent on are sold or securitized to: > Investors Mortgage and Short Term Income Fund and Investors Canadian Corporate Bond Fund; securitization market conditions that are subject to change. A condition of the NHA MBS and CMB Programs is that securitized loans be insured by an insurer that is approved by CMHC. The availability of mortgage insurance is dependent upon market conditions that are subject to change. 83 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTE 21 RISK MANAGEMENT (CONTINUED) IGM’s contractual obligations were as follows: DECEMBER 31, 2012 Repurchase agreements Derivative financial instruments Deposits and certificates Obligations to securitization entities Long-term debt Operation leases Total contractual obligations DEMAND LESS THAN 1 YEAR 1 – 5 YEARS AFTER 5 YEARS – – 136 – – – 225 23 9 789 – 53 – 45 13 3,877 – 152 136 1,099 4,087 – 3 5 35 1,325 79 1,447 TOTAL 225 71 163 4,701 1,325 284 6,769 In addition to IGM’s current balance of cash and cash equivalents, liquidity Derivatives or derivatives not designated as hedges continue to be utilized is available through IGM’s operating lines of credit. IGM’s operating lines of on a basis consistent with the risk management policies of the Corporation credit with various Schedule I Canadian chartered banks totalled $525 million and are monitored by the Corporation for effectiveness as economic hedges as at December 31, 2012, compared to $325 million as at December 31, 2011. On even if specific hedge accounting requirements are not met. The Corporation October 26, 2012, IGM entered into an additional $200 million committed regularly reviews the credit ratings of derivative financial instrument line of credit to provide financing for IGM’s mortgage operations. The counterparties. Derivative contracts are over-the-counter traded with operating lines of credit as at December 31, 2012 consisted of committed counterparties that are highly rated financial institutions. The exposure to lines of $350 million ($150 million in 2011) and uncommitted lines of $175 million credit risk of these derivatives is limited to their fair values which were nil at ($175 million in 2011). IGM has accessed its uncommitted operating lines December 31, 2012. of credit in the past; however, any advances made by the banks under For Lifeco, the following policies and procedures are in place to manage the uncommitted operating lines are at the banks’ sole discretion. As at credit risk: December 31, 2012 and 2011, IGM was not utilizing its committed lines of credit or its uncommitted operating lines of credit. IGM accessed capital markets most recently in December 2010; IGM’s ability to access capital markets to raise funds in future is dependent on market conditions. > Investment guidelines are in place that require only the purchase of investment-grade assets and minimize undue concentration of assets in any single geographic area, industry and company. > Investment guidelines specify minimum and maximum limits for each asset class. Credit ratings are determined by recognized external credit IGM’s liquidity position and its management of liquidity risk have not changed rating agencies and/or internal credit review. materially since December 31, 2011. CREDIT RI SK > Investment guidelines also specify collateral requirements. > Portfolios are monitored continuously, and reviewed regularly with the Credit risk is the potential for financial loss to the Corporation and its board of directors of Lifeco or the investment committee of the board of subsidiaries if a counterparty in a transaction fails to meet its obligations. directors of Lifeco. For Power Financial, cash and cash equivalents, fixed income securities, and > Credit risk associated with derivative instruments is evaluated quarterly derivatives are subject to credit risk. The Corporation continuously monitors based on conditions that existed at the balance sheet date, using practices its credit risk. that are at least as conservative as those recommended by regulators. Cash and cash equivalents amounting to $359 million and fixed income > Lifeco is exposed to credit risk relating to premiums due from policyholders securities amounting to $625 million consist primarily of highly liquid during the grace period specified by the insurance policy or until the policy temporary deposits with Canadian chartered banks as well as bankers’ is paid up or terminated. Commissions paid to agents and brokers are acceptances and short-term securities guaranteed by the Canadian netted against amounts receivable, if any. government. The Corporation regularly reviews the credit ratings of its counterparties. The maximum exposure to credit risk on these financial instruments is their carrying value. The Corporation mitigates credit risk on these financial instruments by adhering to its Investment Policy which > Reinsurance is placed with counterparties that have a good credit rating and concentration of credit risk is managed by following policy guidelines set each year by the board of directors of Lifeco. Management of Lifeco continuously monitors and performs an assessment of creditworthiness outlines credit risk parameters and concentration limits. of reinsurers. Maximum Exposure to Credit Risk for Lifeco The following table summarizes Lifeco’s maximum exposure to credit risk related to financial instruments. The maximum credit exposure is the carrying value of the asset net of any allowances for losses. 84 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 21 RISK MANAGEMENT (CONTINUED) DECEMBER 31 Cash and cash equivalents Bonds Fair value through profit or loss Available for sale Loans and receivables Mortgage loans Loans to policyholders Funds held by ceding insurers[1] Reinsurance assets Interest due and accrued Accounts receivable Premiums in course of collection Trading account assets Other financial assets[2] Derivative assets 2012 1,895 64,850 6,752 10,934 17,875 7,082 10,537 2,064 1,098 977 484 313 973 997 2011 2,056 61,709 6,620 9,744 17,432 7,162 9,923 2,061 1,108 813 422 207 685 968 Total balance sheet maximum credit exposure 126,831 120,910 [1] Includes $9,951 million ($9,411 million at December 31, 2011) of funds held by ceding insurers where Lifeco retains the credit risk of the assets supporting the liabilities ceded (see Note 5). [2] Includes items such as current income taxes receivable and miscellaneous other assets of Lifeco. Credit risk is also mitigated by entering into collateral agreements. The Concentration of Credit Risk for Lifeco Concentrations of credit risk arise amount and type of collateral required depends on an assessment of the from exposures to a single debtor, a group of related debtors or groups of credit risk of the counterparty. Guidelines are implemented regarding debtors that have similar credit risk characteristics in that they operate in the acceptability of types of collateral and the valuation parameters. the same geographic region or in similar industries. The characteristics are Management of Lifeco monitors the value of the collateral, requests similar in that changes in economic or political environments may impact additional collateral when needed and performs an impairment valuation their ability to meet obligations as they come due. when applicable. Lifeco has $25 million of collateral received in 2012 ($21 million The following table provides details of the carrying value of bonds of Lifeco at December 31, 2011) relating to derivative assets. by industry sector and geographic distribution: DECEMBER 31, 2012 Bonds issued or guaranteed by: Canadian federal government Provincial, state and municipal governments U.S. Treasury and other U.S. agencies Other foreign governments Government-related Supranationals Asset-backed securities Residential mortgage-backed securities Banks Other financial institutions Basic materials Communications Consumer products Industrial products/services Natural resources Real estate Transportation Utilities Miscellaneous Total long-term bonds Short-term bonds CANADA UNITED STATES EUROPE TOTAL 4,873 6,454 305 151 1,584 453 2,587 16 2,140 801 252 499 1,903 873 1,100 850 1,747 4,257 2,317 3 1,881 3,421 29 – 11 3,117 452 359 1,578 724 181 43 61 976 8,044 1,205 289 830 165 2,317 1,964 231 553 1,975 1,867 984 665 – 696 3,317 856 323 565 1,739 598 3,342 312 33,162 2,388 35,550 20,249 25,424 358 955 20,607 26,379 4,919 8,396 4,702 8,224 2,789 753 6,534 633 4,816 4,343 1,207 1,233 5,745 2,180 2,330 2,589 3,041 10,916 3,485 78,835 3,701 82,536 85 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTE 21 RISK MANAGEMENT (CONTINUED) DECEMBER 31, 2011 Bonds issued or guaranteed by: Canadian federal government Provincial, state and municipal governments U.S. Treasury and other U.S. agencies Other foreign governments Government-related Supranationals Asset-backed securities Residential mortgage-backed securities Banks Other financial institutions Basic materials Communications Consumer products Industrial products/services Natural resources Real estate Transportation Utilities Miscellaneous Total long-term bonds Short-term bonds CANADA UNITED STATES EUROPE TOTAL 4,328 6,430 271 185 1,293 443 2,696 26 2,168 855 233 508 1,848 695 1,127 608 1,721 3,792 2,024 2 1,980 2,857 25 – 12 3,401 638 416 1,449 748 221 42 53 1,006 8,216 955 211 803 146 1,858 1,615 214 501 1,813 1,771 825 560 – 672 2,689 814 212 554 1,610 624 3,158 277 4,372 8,463 4,134 8,426 2,248 666 6,900 810 4,442 3,919 1,195 1,230 5,432 1,732 2,241 2,218 3,017 9,639 3,115 31,251 2,980 34,231 19,122 23,826 323 571 19,445 24,397 74,199 3,874 78,073 The following table provides details of the carrying value of mortgage loans of Lifeco by geographic location: DECEMBER 31, 2012 Canada United States Europe DECEMBER 31, 2011 Canada United States Europe Asset Quality BOND PORTFOLIO QUALIT Y DECEMBER 31 AAA AA A BBB BB and lower Total 86 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT SINGLE-FAMILY RESIDENTIAL MULTI-FAMILY RESIDENTIAL COMMERCIAL TOTAL 1,676 3,250 – – 921 187 6,982 2,139 2,720 11,908 3,060 2,907 1,676 4,358 11,841 17,875 SINGLE-FAMILY RESIDENTIAL MULTI-FAMILY RESIDENTIAL COMMERCIAL TOTAL 1,591 3,407 – 79 811 108 7,022 1,999 2,415 12,020 2,810 2,602 1,670 4,326 11,436 17,432 2012 29,302 13,463 23,767 14,662 1,342 82,536 2011 29,612 12,525 22,435 12,399 1,102 78,073 NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 21 RISK MANAGEMENT (CONTINUED) DERIVATIVE PORTFOLIO QUALIT Y DECEMBER 31 Over-the-counter contracts (counterparty ratings): AAA AA A Total 2012 9 106 882 997 2011 12 361 595 968 Loans of Lifeco Past Due, but not Impaired Loans that are past due but not considered impaired are loans for which scheduled payments have not been received, but management of Lifeco has reasonable assurance of collection of the full amount of principal and interest due. The following table provides carrying values of the loans past due, but not impaired: DECEMBER 31 Less than 30 days 30 – 90 days Greater than 90 days Total 2012 12 – 4 16 2011 3 1 1 5 The following outlines the future asset credit losses provided for in insurance and investment contract liabilities. These amounts are in addition to the allowance for asset losses included with assets: DECEMBER 31 Participating Non-participating 2012 892 1,667 2,559 2011 852 1,648 2,500 For IGM, cash and cash equivalents, securities holdings, mortgage and > Sold to securitization programs which are classified as loans and investment loan portfolios, and derivatives are subject to credit risk. IGM receivables and totalled $4.6 billion compared to $3.8 billion at December 31, monitors its credit risk management practices continuously to evaluate 2011. An offsetting liability, obligations to securitization entities, has their effectiveness. been recorded and totalled $4.7 billion at December 31, 2012, compared to With respect to IGM, at December 31, 2012, cash and cash equivalents of $3.8 billion at December 31, 2011. $1,059 million ($1,052 million in 2011) consisted of cash balances of $101 million > Related to IGM’s mortgage banking operations which are classified ($97 million in 2011) on deposit with Canadian chartered banks and cash as held for trading and totalled $249 million, compared to $292 million equivalents of $958 million ($955 million in 2011). Cash equivalents are at December 31, 2011. These loans are held by IGM pending sale or composed of Government of Canada treasury bills totalling $233 million securitization. ($521 million in 2011), provincial government and government-guaranteed commercial paper of $473 million ($340 million in 2011) and bankers’ acceptances issued by Canadian chartered banks of $253 million ($94 million in 2011). IGM regularly reviews the credit ratings of its counterparties. The maximum exposure to credit risk on these financial instruments is their carrying value. IGM manages credit risk related to cash and cash equivalents by adhering to its Investment Policy that outlines credit risk parameters and concentration limits. Fair value through profit or loss securities include Canada Mortgage Bonds with a fair value of $226 million ($227 million in 2011). The fair value represents the maximum exposure to credit risk of IGM at December 31, 2012. IGM regularly reviews the credit quality of the mortgage portfolios related to IGM’s mortgage banking operations and its intermediary operations, as well as the adequacy of the collective allowance. As at December 31, 2012, mortgages totalled $4.9 billion ($4.1 billion in 2011) and consisted of residential mortgages: > Related to IGM’s intermediary operations which are classified as loans and receivables and totalled $35 million at December 31, 2012, compared to $31 million at December 31, 2011. As at December 31, 2012, the mortgage portfolios related to IGM’s intermediary operations were geographically diverse, 100% residential (100% in 2011) and 86.2% insured (99.4% in 2011). As at December 31, 2012, impaired mortgages over 90 days were nil, unchanged from December 31, 2011. Uninsured non- performing mortgages over 90 days were nil, unchanged from December 31, 2011. The characteristics of the mortgage portfolios have not changed significantly during 2012. IGM purchases portfolio insurance from CMHC on newly funded qualifying conventional mortgages. Under the NHA MBS and CMB Programs, it is a requirement that securitized mortgages be insured against default by an approved insurer, and IGM has also insured substantially all loans securitized through ABCP programs. At December 31, 2012, 88.3% of the securitized portfolio and the residential mortgages classified as held for trading were insured, compared to 93.0% at December 31, 2011. As at December 31, 2012, impaired mortgages on these portfolios were $1 million, unchanged from December 31, 2011. Uninsured non-performing mortgages over 90 days on these portfolios were $1 million at December 31, 2012, compared to nil at December 31, 2011. 87 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTE 21 RISK MANAGEMENT (CONTINUED) IGM retains certain elements of credit risk on securitized loans. At reinvestment and interest rate risk, with an outstanding notional amount of December 31, 2012, 90.2% of securitized loans were insured against credit $2.4 billion ($1.7 billion in 2011) and having a fair value of $3 million ($7 million losses compared to 96.2% at December 31, 2011. IGM’s credit risk on its in 2011), are reflected on the balance sheet. The exposure to credit risk, which securitization activities is limited to retained interest. The fair value of IGM’s is limited to the fair value of swaps in a gain position, totalled $63 million at retained interests in securitized mortgages was $69 million at December 31, December 31, 2012, compared to $87 million at December 31, 2011. 2012, compared to $24 million at December 31, 2011. Retained interests include: IGM utilizes interest rate swaps to hedge interest rate risk associated with > Cash reserve accounts and rights to future net interest income–which were mortgages securitized through Canadian bank-sponsored ABCP programs. $24 million and $102 million, respectively, at December 31, 2012. Cash The negative fair value of these interest rate swaps totalled $5 million reserve accounts are reflected on the balance sheet, whereas rights to ($23 million in 2011) on an outstanding notional amount of $435 million at future net interest income are not reflected on the balance sheet and will December 31, 2012 ($1.0 billion in 2011). The exposure to credit risk, which is be recorded over the life of the mortgages. limited to the fair value of swaps in a gain position, totalled $0.2 million at The portion of this amount pertaining to Canadian bank-sponsored December 31, 2012, compared to $0.6 million at December 31, 2011. securitization trusts of $55 million ($45 million in 2011) is subordinated IGM also utilizes interest rate swaps to hedge interest rate risk associated to the interests of the trust and represents the maximum exposure to with its investments in Canada Mortgage Bonds. The negative fair credit risk for any failure of the borrowers to pay when due. Credit risk on value of these interest rate swaps totalled $5 million ($7 million in 2011) these mortgages is mitigated by any insurance on these mortgages, as on an outstanding notional amount of $200 million at December 31, 2012 previously discussed, and IGM’s credit risk on insured loans is to the insurer. ($200 million in 2011). The exposure to credit risk, which is limited to the Rights to future net interest income under the NHA MBS and CMB Programs totalled $70 million ($56 million in 2011). Under the NHA MBS fair value of the interest rate swaps which are in a gain position, was nil at December 31, 2012, unchanged from December 31, 2011. and CMB Programs, IGM has an obligation to make timely payments IGM enters into other derivative contracts which consist primarily of interest to security holders regardless of whether amounts are received from rate swaps utilized to hedge interest rate risk related to mortgages held mortgagors. All mortgages securitized under the NHA MBS and CMB pending sale, or committed to, by IGM as well as total return swaps and Programs are insured by CMHC or another approved insurer under the forward agreements on IGM’s common shares utilized to hedge deferred programs. Outstanding mortgages securitized under these programs are compensation arrangements. The fair value of interest rate swaps, total $3.3 billion ($2.7 billion in 2011). > Fair value of principal reinvestment account swaps–had a negative fair value of $56 million at December 31, 2012 ($77 million in 2011) and is reflected on the balance sheet. These swaps represent the component of a swap entered into under the CMB Program whereby IGM pays coupons on Canada Mortgage Bonds and receives investment returns on the reinvestment return swaps and forward agreements was $0.1 million on an outstanding notional amount of $125 million at December 31, 2012, compared to a fair value of nil on an outstanding notional amount of $76 million at December 31, 2011. The exposure to credit risk, which is limited to the fair value of those instruments which are in a gain position, was $2 million at December 31, 2012, compared to $1 million as at December 31, 2011. of repaid mortgage principal. The notional amount of these swaps was The aggregate credit risk exposure related to derivatives that are in a $932 million ($556 million in 2011) at December 31, 2012. gain position of $65 million ($89 million in 2011) does not give effect to any IGM’s exposure to and management of credit risk related to cash and cash equivalents, fixed income securities and mortgage portfolios have not changed materially since December 31, 2011. IGM utilizes over-the-counter derivatives to hedge interest rate risk and reinvestment risk associated with its mortgage banking and securitization activities, as well as market risk related to certain stock-based compensation arrangements. To the extent that the fair value of the derivatives is in a gain netting agreements or collateral arrangements. The exposure to credit risk, considering netting agreements and collateral arrangements, was nil at December 31, 2012 ($0.3 million in 2011). Counterparties are all Canadian Schedule I chartered banks and, as a result, management of IGM has determined that IGM’s overall credit risk related to derivatives was not significant at December 31, 2012. Management of credit risk at IGM has not changed materially since December 31, 2011. position, IGM is exposed to the credit risk that its counterparties fail to fulfill MARKET RI SK their obligations under these arrangements. Market risk is the risk that the fair value or future cash flows of a financial IGM participates in the CMB Program by entering into back-to-back swaps instrument will fluctuate as a result of changes in market factors. Market whereby Canadian Schedule I chartered banks designated by IGM are factors include three types of risks: currency risk, interest rate risk and equity between IGM and the Canadian Housing Trust. IGM receives coupons on price risk. NHA MBS and eligible principal reinvestments and pays coupons on the Canada Mortgage Bonds. IGM also enters into offsetting interest rate swaps with the same bank counterparties to hedge interest rate and reinvestment risk associated with the CMB Program. The negative fair value of these swaps totalled $27 million at December 31, 2012 ($26 million in 2011) and the outstanding notional amount was $5.7 billion ($4.4 billion in 2011). Certain of these swaps relate to securitized mortgages that have been recorded on IGM’s balance sheet with an associated obligation. Accordingly, these swaps, with an outstanding notional amount of $3.3 billion ($2.7 billion in 2011) and having a negative fair value of $29 million ($33 million in 2011), are not reflected on the balance sheet. Principal reinvestment account swaps and hedges of Caution related to risk sensitivities The consolidated financial statements of the Corporation include estimates of sensitivities and risk exposure measures for certain risks, such as the sensitivity due to specific changes in interest rate levels projected and market prices at the valuation date. Actual results can differ significantly from these estimates for a variety of reasons, including: > assessment of the circumstances that led to the scenario may lead to changes in (re)investment approaches and interest rate scenarios considered; 88 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 21 RISK MANAGEMENT (CONTINUED) > changes in actuarial, investment return and future investment activity IGM’s financial instruments are generally denominated in Canadian dollars, assumptions; and do not have significant exposure to changes in foreign exchange rates. > actual experience differing from the assumptions; Interest rate risk Interest rate risk is the risk that the fair value of future > changes in business mix, effective tax rates and other market factors; cash flows of a financial instrument will fluctuate because of changes in the > interactions among these factors and assumptions when more than one market interest rates. changes; and > the general limitations of internal models. Power Financial’s financial instruments are essentially cash and cash equivalents, fixed income securities, and long-term debt that do not have For these reasons, the sensitivities should only be viewed as directional significant exposure to interest rate risk. estimates of the underlying sensitivities for the respective factors based on For Lifeco, the following policies and procedures are in place to mitigate the assumptions outlined below. Given the nature of these calculations, the exposure to interest rate risk: Corporation cannot provide assurance that the actual impact on net earnings attributed to shareholders will be as indicated. > Lifeco utilizes a formal process for managing the matching of assets and liabilities. This involves grouping general fund assets and liabilities into Currency risk Currency risk relates to the Corporation, its subsidiaries segments. Assets in each segment are managed in relation to the liabilities and its jointly controlled corporation operating in different currencies and in the segment. converting non-Canadian earnings at different points in time at different > Interest rate risk is managed by investing in assets that are suitable for foreign exchange levels when adverse changes in foreign currency exchange the products sold. rates occur. Power Financial is exposed through Parjointco to foreign exchange risk as a result of Parjointco’s investment in Pargesa, a company whose functional currency is the Swiss franc. > Where these products have benefit or expense payments that are dependent on inflation (inflation-indexed annuities, pensions and disability claims), Lifeco generally invests in real return instruments to hedge its real dollar liability cash flows. Some protection against changes Power Financial’s financial assets are essentially cash and cash equivalents in the inflation index is achieved as any related change in the fair value and fixed income securities. In managing its own cash and cash equivalents, of the assets will be largely offset by a similar change in the fair value of Power Financial may hold cash balances denominated in foreign currencies the liabilities. and thus be exposed to fluctuations in exchange rates. In order to protect against such fluctuations, Power Financial may from time to time enter into currency-hedging transactions with highly rated financial institutions. As at December 31, 2012, essentially all of Power Financial’s cash and cash equivalents were denominated in Canadian dollars or in foreign currencies with currency hedges in place. > For products with fixed and highly predictable benefit payments, investments are made in fixed income assets or real estate whose cash flows closely match the liability product cash flows. Where assets are not available to match certain cash flows, such as long-tail cash flows, a portion of these are invested in equities and the rest are duration matched. Hedging instruments are employed where necessary when there is a lack For Lifeco, if the assets backing insurance and investment contract liabilities of suitable permanent investments to minimize loss exposure to interest are not matched by currency, changes in foreign exchange rates can expose rate changes. To the extent these cash flows are matched, protection Lifeco to the risk of foreign exchange losses not offset by liability decreases. against interest rate change is achieved and any change in the fair value of Lifeco has net investments in foreign operations. In addition, Lifeco’s debt the assets will be offset by a similar change in the fair value of the liabilities. obligations are mainly denominated in Canadian dollars. In accordance with IFRS, foreign currency translation gains and losses from net investments in foreign operations, net of related hedging activities and tax effects, are recorded in other comprehensive income. Strengthening or weakening of the Canadian dollar spot rate compared to the U.S. dollar, British pound and euro spot rates impacts Lifeco’s total share capital and surplus. Correspondingly, Lifeco’s book value per share and capital ratios monitored by rating agencies are also impacted. The following policies and procedures are in place to mitigate Lifeco’s exposure to currency risk: > Lifeco uses financial measures such as constant currency calculations to monitor the effect of currency translation fluctuations. > Investments are normally made in the same currency as the liabilities supported by those investments. Segmented investment guidelines include maximum tolerances for unhedged currency mismatch exposures. > Foreign currency assets acquired to back liabilities are normally converted back to the currency of the liability using foreign exchange contracts. > For products with less predictable timing of benefit payments, investments are made in fixed income assets with cash flows of a shorter duration than the anticipated timing of benefit payments or equities, as described below. > The risks associated with the mismatch in portfolio duration and cash flow, asset prepayment exposure and the pace of asset acquisition are quantified and reviewed regularly. Projected cash flows from the current assets and liabilities are used in the Canadian Asset Liability Method to determine insurance contract liabilities. Valuation assumptions have been made regarding rates of returns on supporting assets, fixed income, equity and inflation. The valuation assumptions use best estimates of future reinvestment rates and inflation assumptions with an assumed correlation together with margins for adverse deviation set in accordance with professional standards. These margins are necessary to provide for possibilities of misestimation and/or future deterioration in the best estimate assumptions and provide reasonable > A 10% weakening of the Canadian dollar against foreign currencies would assurance that insurance contract liabilities cover a range of possible be expected to increase non-participating insurance and investment outcomes. Margins are reviewed periodically for continued appropriateness. contract liabilities and their supporting assets by approximately the same amount, resulting in an immaterial change to net earnings. A 10% strengthening of the Canadian dollar against foreign currencies would be expected to decrease non-participating insurance and investment contract liabilities and their supporting assets by approximately the same amount, resulting in an immaterial change in net earnings. 89 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTE 21 RISK MANAGEMENT (CONTINUED) Projected cash flows from fixed income assets used in actuarial calculations > IGM is also exposed to the impact that changes in interest rates may have are reduced to provide for potential asset default losses. The net effective yield on the value of mortgages held, or committed to, by IGM. IGM may enter rate reduction averaged 0.18% (0.19% in 2011). The calculation for future credit into interest rate swaps to hedge this risk. losses on assets is based on the credit quality of the underlying asset portfolio. As at December 31, 2012, the impact to annual net earnings of IGM of a Testing under several interest rate scenarios (including increasing and 100-basis-point change in interest rates would have been approximately decreasing rates) is done to assess reinvestment risk. $5 million (Power Financial’s share — $3 million). IGM’s exposure to and One way of measuring the interest rate risk associated with this assumption is to determine the effect on the insurance and investment contract liabilities management of interest rate risk has not changed materially since December 31, 2011. impacting the shareholder earnings of Lifeco of a 1% immediate parallel shift Equity price risk Equity price risk is the uncertainty associated with the in the yield curve. These interest rate changes will impact the projected valuation of assets arising from changes in equity markets. To mitigate cash flows. > The effect of an immediate 1% parallel increase in the yield curve would be to decrease these insurance and investment contract liabilities by equity price risk, the Corporation and its subsidiaries have investment policy guidelines in place that provide for prudent investment in equity markets within clearly defined limits. approximately $181 million, causing an increase in net earnings of Lifeco of Power Financial’s financial instruments are essentially cash and cash approximately $121 million (Power Financial’s share — $85 million). equivalents, fixed income securities, and long-term debt that do not have > The effect of an immediate 1% parallel decrease in the yield curve would exposure to equity price risk. be to increase these insurance and investment contract liabilities by Pargesa indirectly holds substantial investments classified as available approximately $715 million, causing a decrease in net earnings of Lifeco for sale, therefore unrealized gains and losses on these investments are of approximately $504 million (Power Financial’s share — $356 million). recorded in other comprehensive income until realized. These investments In addition to the above, if this change in the yield curve persisted for an extended period the range of the tested scenarios might change. The effect are reviewed periodically to determine whether there is objective evidence of an impairment in value. of an immediate 1% parallel decrease or increase in the yield curve persisting For Lifeco, the risks associated with segregated fund guarantees have been for a year would have immaterial additional effects on the reported insurance mitigated through a hedging program for lifetime Guaranteed Minimum and investment contract liabilities. IGM is exposed to interest rate risk on its loan portfolio, fixed income securities, Canada Mortgage Bonds and on certain of the derivative financial instruments used in IGM’s mortgage banking and intermediary operations. The objective of IGM’s asset and liability management is to control interest rate risk related to its intermediary operations by actively managing its interest rate exposure. As at December 31, 2012, the total gap between deposit assets and liabilities was within IGM’s trust subsidiaries’ stated guidelines. IGM utilizes interest rate swaps with Canadian Schedule I chartered bank counterparties in order to reduce the impact of fluctuating interest rates on its mortgage banking operations, as follows: > IGM has funded fixed rate mor tgages with ABCP as par t of the securitization transactions with bank-sponsored securitization trusts. IGM enters into interest rate swaps with Canadian Schedule I chartered banks to hedge the risk that ABCP rates rise. However, IGM remains Withdrawal Benefit guarantees using equity futures, currency forwards, and interest rate derivatives. For policies with segregated fund guarantees, Lifeco generally determines insurance contract liabilities at a conditional tail expectation of 75 (CTE75) level. Some insurance and investment contract liabilities are supported by investment properties, common stocks and private equities, for example, segregated fund products and products with long-tail cash flows. Generally these liabilities will fluctuate in line with equity market values. There will be additional impacts on these liabilities as equity market values fluctuate. A 10% increase in equity markets would be expected to additionally decrease non-participating insurance and investment contract liabilities by approximately $22 million, causing an increase in net earnings of Lifeco of approximately $18 million (Power Financial’s share — $13 million). A 10% decrease in equity markets would be expected to additionally increase non- participating insurance and investment contract liabilities by approximately $128 million, causing a decrease in net earnings of Lifeco of approximately exposed to the basis risk that ABCP rates are greater than the bankers’ $96 million (Power Financial’s share — $68 million). acceptance rates that it receives on its hedges. > IGM has in certain instances funded floating rate mortgages with fixed rate Canada Mortgage Bonds as part of the securitization transactions under the CMB Program. IGM enters into interest rate swaps with Canadian Schedule I chartered banks to hedge the risk that the interest rates earned on floating rate mortgages decline. As previously discussed, as part of the CMB Program, IGM also is entitled to investment returns on reinvestment of principal repayments of securitized mortgages and is obligated to pay Canada Mortgage Bond coupons that are generally fixed rate. IGM hedges the risk that reinvestment returns decline by entering into interest rate The best estimate return assumptions for equities are primarily based on long-term historical averages. Changes in the current market could result in changes to these assumptions and will impact both asset and liability cash flows. A 1% increase in the best estimate assumption would be expected to decrease non-participating insurance contract liabilities by approximately $443 million, causing an increase in net earnings of Lifeco of approximately $342 million (Power Financial’s share — $242 million). A 1% decrease in the best estimate assumption would be expected to increase non-participating insurance contract liabilities by approximately $492 million, causing a decrease in net earnings of Lifeco of approximately $376 million swaps with Canadian Schedule I chartered bank counterparties. (Power Financial’s share — $266 million). > IGM is exposed to the impact that changes in interest rates may have on the value of its investments in Canada Mortgage Bonds. IGM enters into interest rate swaps with Canadian Schedule I chartered bank counterparties to hedge interest rate risk on these bonds. 90 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 21 RISK MANAGEMENT (CONTINUED) Lifeco offers retail segregated fund products, unitized with profits products value of these funds could increase Lifeco’s liability exposure for providing and variable annuity products that provide for certain guarantees that are these guarantees. Lifeco’s exposure to these guarantees at the balance tied to the fair values of the investment funds. A significant decline in the fair sheet date was: DECEMBER 31, 2012 Canada United States Europe Total DECEMBER 31, 2011 Canada United States Europe Total INVESTMENT DEFICIENCY BY BENEFIT T YPE FAIR VALUE INCOME MATURIT Y 24,192 7,272 3,665 35,129 – – 552 552 29 – 40 69 DEATH 181 59 71 311 TOTAL [1] 181 59 624 864 INVESTMENT DEFICIENCY BY BENEFIT T YPE FAIR VALUE INCOME MATURIT Y DEATH 22,837 7,041 3,232 33,110 – 1 641 642 39 – 124 163 301 79 174 554 TOTAL [1] 301 80 817 1,198 [1] A policy can only receive a payout from one of the three trigger events (income election, maturity or death). Total deficiency measures the point-in-time exposure assuming the most costly trigger event for each policy occurred on December 31, 2012 and December 31, 2011. IGM is exposed to equity price risk on its proprietary investment funds which IGM sponsors a number of deferred compensation arrangements where are classified as available-for-sale securities and its equity securities which payments to participants are linked to the performance of the common are classified as fair value through profit or loss. Unrealized gains and losses shares of IGM Financial Inc. IGM hedges this risk through the use of forward on available-for-sale securities are recorded in other comprehensive income agreements and total return swaps. until they are realized or until management of IGM determines there is objective evidence of impairment in value, at which time they are recorded in the statements of earnings. NOTE 22 OPERATING AND ADMINISTRATIVE EXPENSES YEARS ENDED DECEMBER 31 Salaries and other employee benefits Amortization, depreciation and impairment Premium taxes Other [1] 2012 2,178 178 293 1,047 3,696 2011 2,019 171 264 552 3,006 [1] Other reflects adjustment from Lifeco for the court decision on November 3, 2011 that any monies to be reallocated to the participating accounts will be dealt with in accordance with the participating policyholder dividend policies in the ordinary course of business. No awards are to be paid out to individual class members (refer to Note 29). NOTE 23 FINANCING CHARGES YEARS ENDED DECEMBER 31 Interest on debentures and debt instruments Net interest on capital trust securities Other 2012 341 27 27 395 2011 351 33 25 409 91 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTE 24 PENSION PLANS AND OTHER POST-EMPLOYMENT BENEFITS The Corporation and its subsidiaries maintain funded defined benefit pension Effective January 1, 2013, the Great-West Life Assurance Company Canadian plans for certain employees and advisors as well as unfunded supplementary Employees’ Pension Plan and the London Life Staff Pension Plan added a employee retirement plans (SERP) for certain employees. The Corporation’s defined contribution provision to their plans. All new hires after this date are subsidiaries also maintain defined contribution pension plans for eligible eligible only for defined contribution benefits. This change will reduce Lifeco’s employees and advisors. The Corporation and its subsidiaries provide post- defined benefit plan exposure in future years. employment health, dental and life insurance benefits to eligible retirees and advisors. Subsidiaries of Lifeco have declared partial windups in respect of certain defined pension plans, the impact of which has not been reflected in the Effective July 1, 2012, the defined benefit pension plan of IGM was closed and pension plan accounts. will only accept members hired prior to July 1, 2012. For all eligible employees hired after July 1, 2012, IGM introduced a registered defined contribution pension plan. PL AN AS SETS , B EN EFIT OB LIGATION S AN D FU N DED STATUS CHANGE IN FAIR VALUE OF PLAN ASSETS Fair value of plan assets, beginning of year Expected return on plan assets Employee contributions Employer contributions Actuarial gains (losses) Benefits paid Foreign exchange and other Fair value of plan assets, end of year CHANGE IN DEFINED BENEFIT OBLIGATIONS Defined benefit obligation, beginning of year Employer current service cost Employee contributions Interest on defined obligations Actuarial (gains) losses Benefits paid Past service cost Foreign exchange and other Defined benefit obligation, end of year FUNDED STATUS Fund surplus (deficit) Unamortized past service costs Unamortized net actuarial losses Unrecognized amount due to limit on asset Accrued benefit asset (liability) The aggregate accrued benefit obligations of plan assets are as follows: YEAR ENDED DECEMBER 31 Wholly or partly funded plans Wholly unfunded plans 2012 2011 PENSION PL ANS OTHER POST- EMPLOYMENT BENEFITS PENSION PL ANS OTHER POST- EMPLOYMENT BENEFITS 3,359 191 20 102 82 (185) (22) 3,547 – – – 19 – (19) – – 3,363 208 20 101 (153) (193) 13 3,359 – – – 18 – (18) – – 3,868 449 3,548 442 89 20 194 428 (185) 1 (26) 3 – 22 15 77 20 194 197 (19) (193) – – 6 19 3 – 24 (2) (18) – – 4,389 470 3,868 449 (842) 5 890 (41) 12 (470) (25) 58 – (437) 2012 3,975 414 (509) 5 599 (71) 24 (449) (33) 47 – (435) 2011 3,491 377 The Corporation and its subsidiaries expect to contribute $137 million to their funded and unfunded defined benefit pension and other post-employment benefit plans in 2013. 92 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 24 PENSION PLANS AND OTHER POST-EMPLOYMENT BENEFITS (CONTINUED) The net accrued benefit asset (liability) shown above is presented in these financial statements as follows: DECEMBER 31 Accrued benefit asset [Note 8] Accrued benefit liability [Note 15] Accrued benefit asset (liability) PENSION PL ANS OTHER POST- EMPLOYMENT BENEFITS 495 (483) 12 – (437) (437) 2012 TOTAL 495 (920) (425) PENSION PL ANS OTHER POST- EMPLOYMENT BENEFITS 456 (432) 24 – (435) (435) 2011 TOTAL 456 (867) (411) PEN SION AN D OTH ER POST- EM PLOYM ENT B EN EFIT EXPEN SE 2012 2011 PENSION PL ANS OTHER POST- EMPLOYMENT BENEFITS PENSION PL ANS OTHER POST- EMPLOYMENT BENEFITS Amounts arising from events in the period Defined benefit current service cost Employee contributions Past service cost recognized Interest on defined benefit obligations Actuarial (gain) loss recognized Expected return on plan assets Amount recognized due to limit on asset Defined contribution current service cost 109 (20) 89 2 194 54 (191) (30) 27 145 3 – 3 (8) 22 4 – – – 21 97 (20) 77 3 194 – (208) 8 29 103 AS SET ALLOCATION BY MAJOR CATEGORY WEIG HTED BY PL AN AS SETS — DEFIN ED B EN EFIT PEN SION PL AN S Equity securities Debt securities All other assets 2012 % 52 38 10 100 3 – 3 (8) 24 1 – – – 20 2011 % 47 41 12 100 No plan assets are directly invested in the Corporation’s or subsidiaries’ securities. With respect to Lifeco, plan assets include investments in segregated funds managed by subsidiaries of Lifeco of $1,523 million ($1,430 million in 2011). Plan assets do not include any property occupied or other assets used by Lifeco. 93 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTE 24 PENSION PLANS AND OTHER POST-EMPLOYMENT BENEFITS (CONTINUED) SIG N IFICANT AS SU M PTION S % WEIGHTED AVERAGE ASSUMPTIONS USED TO DETERMINE BENEFIT COST Discount rate Expected long-term rate of return on plan assets Rate of compensation increase WEIGHTED AVERAGE ASSUMPTIONS USED TO DETERMINE ACCRUED BENEFIT OBLIGATION Discount rate Rate of compensation increase WEIGHTED AVERAGE HEALTHCARE TREND RATES Initial healthcare trend rate Ultimate healthcare trend rate Year ultimate trend rate is reached DEFINED BENEFIT PENSION PL ANS OTHER POST-EMPLOYMENT BENEFITS 2012 2011 2012 2011 5.1 5.8 3.6 4.4 3.2 5.5 6.2 3.7 5.1 3.6 5.1 – – 4.2 – 6.5 4.5 2024 5.5 – – 5.1 – 6.7 4.5 2024 The overall expected rate of return on plan assets for the year is determined the defined benefit obligation for defined benefit plans. The mortality based on long-term market expectations prevailing at the beginning of the assumptions applied by the Corporation and its subsidiaries take into year for each asset class, weighted by portfolio allocation, less an allowance consideration average life expectancy, including allowances for future in respect to all expenses expected to be charged to the fund. Anticipated mortality improvement as appropriate, and reflect variations in such factors future long-term performance of individual asset categories is considered, as age, gender and geographic location. The assumptions also take into reflecting management’s best estimates of expected future inflation and consideration an estimation of future improvements in longevity. This expected real yields on fixed income securities and equities. Since the prior estimate is subject to considerable uncertainty and judgment is required in year-end there have been no changes in the method used to determine the establishing this assumption. overall expected rate of return. In 2012, the actual return on plan assets was $273 million ($55 million in 2011). The mortality tables are reviewed at least annually, and assumptions are in accordance with accepted actuarial practice in Canada. Emerging plan The period of time over which benefits are assumed to be paid is based experience is reviewed and considered in establishing the best estimate for on best estimates of future mortality, including allowances for mortality future mortality. improvements. Mortality assumptions are significant in measuring IM PACT OF CHANG ES TO AS SU M ED H EALTHCARE R ATES — OTH ER POST- EM PLOYM ENT B EN EFITS IMPAC T ON END-OF-YEAR ACCRUED POST-EMPLOYMENT BENEFIT OBLIGATION IMPAC T ON POST- EMPLOYMENT BENEFIT SERVICE AND INTEREST COST 2012 2011 2012 2011 44 (37) 46 (38) 2 (2) 2 (2) DEFINED BENEFIT PENSION PL ANS OTHER POST-EMPLOYMENT BENEFITS 2012 (4,389) 3,547 (842) (428) 82 2011 (3,868) 3,359 (509) (197) (153) 2012 (470) – (470) (15) – 2011 (449) – (449) 2 – 1% increase in assumed healthcare cost trend rate 1% decrease in assumed healthcare cost trend rate SU M MARIZED PL AN IN FORMATION Defined benefit obligation Fair value of plan assets Funded status of plan (deficit) Experience adjustment on plan liabilities Experience adjustment on plan assets 94 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 25 DERIVATIVE FINANCIAL INSTRUMENTS In the normal course of managing exposure to fluctuations in interest rates, foreign exchange rates, and to market risks, the Corporation and its subsidiaries are end-users of various derivative financial instruments. Contracts are either exchange traded or over-the-counter traded with counterparties that are credit-worthy financial intermediaries. The following table summarizes the portfolio of derivative financial instruments of the Corporation and its subsidiaries at December 31: 2012 DERIVATIVES NOT DESIGNATED AS ACCOUNTING HEDGES NOTIONAL AMOUNT 1 YEAR OR LESS 1 – 5 YEARS OVER 5 YEARS TOTAL MA XIMUM CREDIT RISK TOTAL ESTIMATED FAIR VALUE Interest rate contracts Futures – long Futures – short Swaps Options purchased Foreign exchange contracts Forward contracts Cross-currency swaps Other derivative contracts Equity contracts Futures – long Futures – short CASH FLOW HEDGES Interest rate contracts Swaps Foreign exchange contracts Cross-currency swaps FAIR VALUE HEDGES Interest rate contracts Swaps 9 71 1,844 257 2,181 300 205 505 900 7 224 1,131 3,817 – 3 3 – – – – 2,613 513 3,126 – 2,001 2,001 4 – – 4 – – 1,348 87 1,435 – 4,772 4,772 – – – – 5,131 6,207 – 1,018 1,018 58 58 30 500 530 124 124 9 71 5,805 857 6,742 300 6,978 7,278 904 7 224 1,135 15,155 30 1,521 1,551 182 182 – – 410 46 456 1 565 566 8 – – 8 – – 318 46 364 – 290 290 (5) – (4) (9) 1,030 645 14 16 30 – – 13 (10) 3 (1) (1) 647 3,820 6,207 6,861 16,888 1,060 95 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTE 25 DERIVATIVE FINANCIAL INSTRUMENTS (CONTINUED) 2011 DERIVATIVES NOT DESIGNATED AS ACCOUNTING HEDGES Interest rate contracts Futures – long Futures – short Swaps Options purchased Foreign exchange contracts Forward contracts Cross-currency swaps Other derivative contracts Equity contracts Futures – long Futures – short CASH FLOW HEDGES Interest rate contracts Swaps Foreign exchange contracts Cross-currency swaps FAIR VALUE HEDGES Interest rate contracts Swaps NOTIONAL AMOUNT 1 YEAR OR LESS 1 – 5 YEARS OVER 5 YEARS TOTAL MA XIMUM CREDIT RISK TOTAL ESTIMATED FAIR VALUE 55 5 1,021 233 1,314 224 43 267 40 7 146 193 – – 2,940 760 3,700 – 1,540 1,540 18 – 2 20 – – 1,495 114 1,609 – 4,662 4,662 – – – – 55 5 5,456 1,107 6,623 224 6,245 6,469 58 7 148 213 – – 434 54 488 – 551 551 – – – – 1,774 5,260 6,271 13,305 1,039 – – – – – – 10 10 10 10 31 31 1,500 1,531 1,510 1,541 92 92 102 102 11 6 17 – – 1,774 5,280 7,894 14,948 1,056 – – 294 53 347 (1) 314 313 (16) – (1) (17) 643 11 (23) (12) (2) (2) 629 The amount subject to credit risk is limited to the current fair value of the FOREIG N EXCHANG E CONTR ACTS instruments which are in a gain position. The credit risk is presented without Cross-currency swaps are used in combination with other investments to giving effect to any netting agreements or collateral arrangements and does not manage foreign currency risk associated with investment activities and reflect actual or expected losses. The total estimated fair value represents the insurance and investment contract liabilities. Under these swaps, principal total amount that the Corporation and its subsidiaries would receive (or pay) to amounts and fixed and floating interest payments may be exchanged in terminate all agreements at year-end. However, this would not result in a gain different currencies. The Corporation and its subsidiaries may also enter or loss to the Corporation and its subsidiaries as the derivative instruments into certain foreign exchange forward contracts to hedge certain product which correlate to certain assets and liabilities provide offsetting gains or losses. liabilities, certain cash and cash equivalents and certain cash flows. INTEREST R ATE CONTR ACTS OTH ER DERIVATIVE CONTR ACTS Interest rate swaps, futures and options are used as part of a portfolio of Equity index swaps, futures and options are used to hedge certain product assets to manage interest rate risk associated with investment activities liabilities. Equity index swaps are also used as substitutes for cash instruments and insurance and investment contract liabilities and to reduce the impact and are used to periodically hedge the market risk associated with certain fee of fluctuating interest rates on the mortgage banking operations and income. Equity put options are used to manage potential credit risk impact intermediary operations. Interest rate swap agreements require the periodic of significant declines in certain equity markets. exchange of payments without the exchange of the notional principal amount on which payments are based. Changes in fair value are recorded in net investment income in the statements of earnings. IGM also enters into total return swaps and forward agreements to manage its exposure to fluctuations in the total return of its common shares related to deferred compensation arrangements. Total return swap and forward Call options grant the Corporation and its subsidiaries the right to enter into agreements require the exchange of net contractual payments periodically or a swap with predetermined fixed-rate payments over a predetermined time at maturity without the exchange of the notional principal amounts on which period on the exercise date. Call options are used to manage the variability in the payments are based. Certain of these instruments are not designated future interest payments due to a change in credited interest rates and the as hedges. Changes in fair value are recorded in operating expenses in the related potential change in cash flows due to surrenders. Call options are also statements of earnings for those instruments not designated as hedges. used to hedge minimum rate guarantees. 96 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 26 FAIR VALUE OF FINANCIAL INSTRUMENTS The following table presents the fair value of the Corporation’s financial instruments using the valuation methods and assumptions described below. Fair values are management’s estimates and are generally calculated using market conditions at a specific point in time and may not reflect future fair values. The calculations are subjective in nature, involve uncertainties and matters of significant judgment. DECEMBER 31 ASSETS Cash and cash equivalents Investments (excluding investment properties) Funds held by ceding insurers Derivative financial instruments Other financial assets Total financial assets LIABILITIES Obligation to securitization entities Debentures and debt instruments Capital trust securities Derivative financial instruments Other financial liabilities Total financial liabilities CARRYING VALUE 2012 FAIR VALUE CARRYING VALUE 2011 FAIR VALUE 3,313 3,313 3,385 3,385 120,062 122,805 113,841 116,170 10,537 10,537 1,060 4,212 1,060 4,212 9,923 1,056 3,539 9,923 1,056 3,539 139,184 141,927 131,744 134,073 4,701 5,858 119 413 4,923 16,014 4,787 6,830 171 413 4,925 17,126 3,827 5,888 533 427 3,930 6,502 577 427 4,509 4,510 15,184 15,946 Fair value is determined using the following methods and assumptions: include actively exchange-traded equity securities, exchange-traded > The fair value of short-term financial instruments approximates carrying value due to their short-term maturities. These include cash and cash equivalents, dividends, interest and accounts receivables, income tax receivable, premiums in course of collection, accounts payable, repurchase agreements, dividends payable, interest payable and income tax payable. > Shares and bonds are valued at quoted market prices, when available. When a quoted market price is not readily available, alternative valuation methods may be used. For mortgage and other loans, bonds, loans and other receivables, the fair value is determined by discounting the expected future cash flows at market interest rates for loans with similar credit risks and maturities (refer to Note 2). > Deposits and certificates (included in other financial liabilities) are valued by discounting the contractual cash flows using market interest rates currently offered for deposits with similar terms and credit risks. > Obligations to securitization entities are valued by discounting the expected future cash flows by prevailing market yields for securities issued by these securitization entities having like maturities and characteristics. futures, and mutual and segregated funds which have available prices in an active market with no redemption restrictions. Level 1 assets also include liquid, exchange-traded equity securities, liquid open-end investment fund units, and investments in Government of Canada Bonds and Canada Mortgage Bonds in instances where there are quoted prices available from active markets. > Level 2 inputs utilize other-than-quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly. Level 2 inputs include quoted prices for similar assets and liabilities in active markets, and inputs other-than-quoted prices that are observable for the asset or liability, such as interest rate and yield curves that are observable at commonly quoted intervals. The fair values for some Level 2 securities were obtained from a pricing service. The pricing service inputs include, but are not limited to, benchmark yields, reported trades, broker/dealer quotes, issuer spreads, two-sided markets, benchmark securities, offers and reference data. Level 2 securities include those priced using a matrix which is based on credit quality and average life, government and agency securities, restricted stock, some private bonds and equities, most > Debentures and debt instruments are determined by reference to current investment-grade and high-yield corporate bonds, most asset-backed market prices for debt with similar terms, risks and maturities. securities and most over-the-counter derivatives. > Derivative financial instruments’ fair values are based on quoted market > Level 3 inputs utilize one or more significant inputs that are not based on prices, where available, prevailing market rates for instruments with observable market inputs and include situations where there is little, if any, similar characteristics and maturities, or discounted cash flow analysis. market activity for the asset or liability. The values of the majority of Level In accordance with IFRS 7, Financial Instruments — Disclosures, the Corporation’s assets and liabilities recorded at fair value have been categorized based upon the following fair value hierarchy: > Level 1 inputs utilize observable, quoted prices (unadjusted) in active markets for identical assets or liabilities that the Corporation has the ability to access. Financial assets and liabilities utilizing Level 1 inputs 3 securities were obtained from single-broker quotes and internal pricing models. Financial assets and liabilities utilizing Level 3 inputs include certain bonds, certain asset-backed securities, some private equities and investments in mutual and segregated funds where there are redemption restrictions, certain over-the-counter derivatives and restructured notes of the master asset vehicle. 97 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTE 26 FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED) The following table presents information about the Corporation’s financial assets and liabilities measured at fair value on a recurring basis as of December 31, 2012 and December 31, 2011: LEVEL 1 LEVEL 2 LEVEL 3 TOTAL 145 5,952 – 225 – – 6,322 4 – 4 5 7 7,350 64,577 249 1,060 73,248 353 – 353 1 12 27 274 – – 151 5,971 7,377 65,076 249 1,060 314 79,884 56 21 77 413 21 434 LEVEL 1 LEVEL 2 LEVEL 3 TOTAL 132 5,485 – 227 – – 7 3 7,010 61,406 292 1,056 1 14 40 332 – – 140 5,502 7,050 61,965 292 1,056 5,844 69,774 387 76,005 – – – 350 – 350 77 26 103 427 26 453 DECEMBER 31, 2012 ASSETS Shares Available for sale Fair value through profit or loss Bonds Available for sale Fair value through profit or loss Mortgage and other loans Fair value through profit or loss Derivatives LIABILITIES Derivatives Other liabilities DECEMBER 31, 2011 ASSETS Shares Available for sale Fair value through profit or loss Bonds Available for sale Fair value through profit or loss Mortgage and other loans Fair value through profit or loss Derivatives LIABILITIES Derivatives Other liabilities 98 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 26 FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED) The following table presents additional information about assets and liabilities measured at fair value on a recurring basis for which the Corporation has utilized Level 3 inputs to determine fair value for the years ended December 31, 2012 and 2011. DECEMBER 31, 2012 Balance, beginning of year Total gains (losses) In net earnings In other comprehensive income Purchases Sales Settlements Transfers out of Level 3 Balance, end of year DECEMBER 31, 2011 Balance, beginning of year Total gains (losses) In net earnings In other comprehensive income Purchases Sales Settlements Transfers out of Level 3 Balance, end of year SHARES BONDS AVAIL ABLE FOR SALE FAIR VALUE THROUGH PROFIT OR LOSS AVAIL ABLE FOR SALE FAIR VALUE THROUGH PROFIT OR LOSS DERIVATIVES, NET OTHER ASSETS (LIABILITIES) 40 332 (77) (26) 1 – – – – – – 1 14 (2) – 3 – – (3) 12 – 3 – (4) (5) (7) 27 48 – – (1) (97) (8) 274 10 – (3) – 14 – (56) (4) – (1) – 10 – (21) 237 SHARES BONDS AVAIL ABLE FOR SALE FAIR VALUE THROUGH PROFIT OR LOSS AVAIL ABLE FOR SALE FAIR VALUE THROUGH PROFIT OR LOSS DERIVATIVES, NET 1 – – – – – – 1 417 42 340 35 – 65 (6) – (497) 14 1 2 – – (5) – 40 54 – – (4) (58) – 332 (26) (62) – – – 11 – (77) OTHER ASSETS (LIABILITIES) (18) (5) – (3) – – – (26) NOTE 27 OTHER COMPREHENSIVE INCOME FOR THE YEAR ENDED DECEMBER 31, 2012 Balance, beginning of year Other comprehensive income (loss) Balance, end of year FOR THE YEAR ENDED DECEMBER 31, 2011 Balance, beginning of year Other comprehensive income (loss) Balance, end of year INVESTMENT REVALUATION AND CASH FLOW HEDGES FOREIGN CURRENCY TRANSL ATION SHARE OF JOINTLY CONTROLLED CORPORATION 96 (18) 78 (249) (53) (302) 176 (100) 76 INVESTMENT REVALUATION AND CASH FLOW HEDGES FOREIGN CURRENCY TRANSL ATION SHARE OF JOINTLY CONTROLLED CORPORATION 81 15 96 (399) 150 (249) 398 (222) 176 TOTAL 284 52 3 (1) (5) (78) (18) TOTAL 756 23 2 62 (10) (52) (497) 284 TOTAL 23 (171) (148) TOTAL 80 (57) 23 99 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTE 28 EARNINGS PER SHARE The following is a reconciliation of the numerators and the denominators used in the computations of earnings per share: YEARS ENDED DECEMBER 31 Net earnings attributable to shareholders Dividends on perpetual preferred shares Net earnings attributable to common shareholders Dilutive effect of subsidiaries Diluted net earnings attributable to common shareholders Weighted average number of common shares outstanding (millions) – Basic Exercise of stock options Shares assumed to be repurchased with proceeds from exercise of stock options Weighted average number of common shares outstanding (millions) – Diluted 2012 1,743 (117) 1,626 (8) 1,618 708.3 3.6 (3.2) 708.7 2011 1,826 (104) 1,722 (12) 1,710 708.1 3.0 (2.3) 708.8 For 2012, 5,190,730 stock options (6,097,618 in 2011) have been excluded from the computation of diluted earnings per share as the exercise price was higher than the market price. YEARS ENDED DECEMBER 31 Basic earnings per common share ($) From continuing operations From discontinued operations Diluted earnings per common share ($) From continuing operations From discontinued operations 2012 2.30 – 2.30 2.28 – 2.28 2011 2.38 0.05 2.43 2.36 0.05 2.41 NOTE 29 CONTINGENT LIABILITIES The Corporation and its subsidiaries are from time to time subject to legal The Court of Appeal for Ontario released a decision on November 3, 2011 in actions, including arbitrations and class actions, arising in the normal course regard to the involvement of the participating accounts of Lifeco subsidiaries of business. It is inherently difficult to predict the outcome of any of these London Life and Great-West Life in the financing of the acquisition of London proceedings with certainty, and it is possible that an adverse resolution Insurance Group Inc. in 1997 (the “Appeal Decision”). could have a material adverse effect on the consolidated financial position of the Corporation. However, based on information presently known, it is not expected that any of the existing legal actions, either individually or in the aggregate, will have a material adverse effect on the consolidated financial position of the Corporation. The Appeal Decision ruled Lifeco subsidiaries achieved substantial success and required that there be adjustments to the original trial judgment regarding amounts which were to be reallocated to the participating accounts going forward. Any monies to be reallocated to the participating accounts will be dealt with in accordance with Lifeco subsidiaries participating policyholder A subsidiary of Lifeco has declared a partial windup in respect of an Ontario dividend policies in the ordinary course of business. No awards are to be defined benefit pension plan which will not likely be completed for some time. paid out to individual class members. On May 24, 2012, the Supreme Court of The partial windup could involve the distribution of the amount of actuarial Canada dismissed the plaintiff ’s application for leave to appeal the Appeal surplus, if any, attributable to the wound-up portion of the plan. In addition Decision. The Appeal Decision directed the parties back to the trial judge to the regulatory proceedings involving this partial windup, a related class to work out the remaining issues. On January 24, 2013 the Ontario Superior action proceeding has been commenced in Ontario related to the partial Court of Justice released a decision ordering that $285 million be reallocated windup and three potential partial windups under the plan. The class action to the participating account surplus. Lifeco will be appealing that decision. also challenges the validity of charging expenses to the plan. The provisions for certain Canadian retirement plans in the amounts of $97 million after tax established by Lifeco’s subsidiaries in the third quarter of 2007 have been reduced to $34 million. Actual results could differ from these estimates. During the fourth quarter of 2011, in response to the Appeal Decision, Lifeco re-evaluated and reduced the litigation provision established in the third quarter of 2010, which positively impacted common shareholder net earnings of Lifeco in 2011 by $223 million after tax (Power Financial’s share — $158 million). 100 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 29 CONTINGENT LIABILITIES (CONTINUED) During the subsequent event period, in response to the Ontario Superior On October 17, 2012, a subsidiary of Lifeco received an administrative Court of Justice decision on January 24, 2013, Lifeco established an incremental complaint from the Massachusetts Securities Division in relation to that provision of $140 million after tax (Power Financial’s share — $99 million). subsidiary’s role as collateral manager of two collateralized debt obligations. Lifeco now holds $290 million in after-tax provisions for these proceedings. The complaint is seeking certain remedies including the disgorgement of fees, Regardless of the ultimate outcome of this case, there will not be any impact on the capital position of Lifeco or on participating policy contract terms and conditions. Based on information presently known, this matter is not expected to have a material adverse effect on the consolidated financial position of the Corporation. In connection with the acquisition of its subsidiary Putnam, Lifeco has an indemnity from a third party against liabilities arising from certain litigation and regulatory actions involving Putnam. Putnam continues to have potential liability for these matters in the event the indemnity is not honoured. Lifeco expects the indemnity will continue to be honoured and that any liability of Putnam would not have a material adverse effect on its consolidated financial position. NOTE 30 COMMITMENTS AND GUARANTEES a civil administrative fine and a cease and desist order. In addition, that same subsidiary is a defendant in two civil litigation matters brought by institutions involved in those collateralized debt obligations. Based on information presently known, Lifeco believes these matters are without merit. The potential outcome of these matters is not yet determined. Subsidiaries of Lifeco have an investment in a U.S.-based private equity partnership wherein a dispute arose over the terms of the partnership agreement. Lifeco established a provision in the fourth quarter of 2011 for $99 million after tax. The dispute was resolved on January 10, 2012, and as a result, Lifeco no longer holds the provision. GUAR ANTEES INVESTM ENT COM M ITM ENTS In the normal course of operations, the Corporation and its subsidiaries With respect to Lifeco, commitments to investment transactions made in execute agreements that provide for indemnifications to third parties in the normal course of operations in accordance with policies and guidelines transactions such as business dispositions, business acquisitions, loans and and that are to be disbursed upon fulfilment of certain contract conditions securitization transactions. The Corporation and its subsidiaries have also were $516 million as at December 31, 2012 ($675 million as at December 31, 2011). agreed to indemnify their directors and certain of their officers. The nature of At December 31, 2012, $470 million will mature within one year ($555 million these agreements precludes the possibility of making a reasonable estimate at December 31, 2011), $46 million will mature in one to two years ($79 million of the maximum potential amount the Corporation and its subsidiaries at December 31, 2011) and no commitments will mature in a period over two could be required to pay third parties as the agreements often do not specify years ($41 million in two to three years at December 31, 2011). a maximum amount and the amounts are dependent on the outcome of future contingent events, the nature and likelihood of which cannot be determined. Historically, the Corporation has not made any payments under such indemnification agreements. No amounts have been accrued related to these agreements. LET TERS OF CREDIT Letters of credit are written commitments provided by a bank. For Lifeco, the total amount of letter of credit facilities is US$3.0 billion, of which US$2.7 billion is currently issued. The Reinsurance operation from time to time uses letters of credit provided mainly as collateral under certain reinsurance contracts for on-balance sheet policy liabilities. COM M ITM ENTS INVESTED AS SETS ON DEPOSIT FOR REIN SU R ANCE AG REEM ENTS Lifeco has $606 million ($577 million in 2011) of invested assets maintained on deposit in respect of certain reinsurance agreements. Lifeco retains all rights to the cash flows on these assets, however, the investment policies for these assets are governed by the terms of the reinsurance agreements. The Corporation and its subsidiaries enter into operating leases for office space and certain equipment used in the normal course of operations. Lease payments are charged to operations over the period of use. The future minimum lease payments in aggregate and by year are as follows: Future lease payments 2013 153 2014 135 2015 115 2016 95 2017 77 2018 AND THEREAFTER 158 TOTAL 733 101 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTE 31 RELATED PARTY TRANSACTIONS PRINCIPAL SU B SIDIARIES The financial statements of the Corporation include the operations of the following subsidiaries: CORPORATION Great-West Lifeco Inc. The Great-West Life Assurance Company London Life Insurance Company The Canada Life Assurance Company INCORPORATED IN PRIMARY BUSINESS OPERATION CANADA CANADA CANADA CANADA FINANCIAL SERVICES HOLDING COMPANY INSURANCE AND WEALTH MANAGEMENT INSURANCE AND WEALTH MANAGEMENT INSURANCE AND WEALTH MANAGEMENT Great-West Life & Annuity Insurance Company UNITED STATES INSURANCE AND WEALTH MANAGEMENT Putnam Investments, LLC IGM Financial Inc. Investors Group Inc. Mackenzie Financial Corporation Parjointco N.V. Pargesa Holding SA UNITED STATES FINANCIAL SERVICES CANADA CANADA CANADA FINANCIAL SERVICES FINANCIAL SERVICES FINANCIAL SERVICES NETHERL ANDS HOLDING COMPANY SWITZERL AND HOLDING COMPANY % HELD 68.2% 100% 100% 100% 100% 95.6% 58.7% 100% 100% 50% 55.6% Balances and transactions between the Corporation and its subsidiaries, During 2012, IGM sold residential mortgage loans to Great-West Life and which are related parties of the Corporation, have been eliminated on London Life for $232 million ($202 million in 2011). consolidation and are not disclosed in this note. Details of transactions between the Corporation and other related parties are disclosed below. KEY MANAG EM ENT COM PEN SATION TR AN SACTION S WITH REL ATED PARTIES Key management personnel are those persons having authority and responsibility for planning, directing and controlling the activities of In the normal course of business, Great-West Life enters into various the Corporation, directly or indirectly. The persons included in the key transactions with related companies which include providing insurance management personnel are the members of the Board of Directors of the benefits to other companies within the Power Financial Corporation group Corporation, as well as certain management executives of the Corporation of companies. In all cases, transactions are at market terms and conditions. and subsidiaries. The following table describes all compensation paid to, awarded to, or earned by each of the key management personnel for services rendered in all capacities to the Corporation and its subsidiaries: YEARS ENDED DECEMBER 31 Compensation and employee benefits Post-employment benefits Share-based payment 2012 16 7 9 32 2011 15 4 9 28 102 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 32 SUBSEQUENT EVENTS ACQ U I SITION OF IRI SH LIFE G ROU P LIM ITED additional consideration. Power Financial and IGM completed the purchase On February 19, 2013, Lifeco announced that it had reached an agreement of subscription receipts by private placements concurrently with the closing with the Government of Ireland to acquire, through its subsidiary Canada Life of the bought deal public offering of Lifeco’s subscription receipts. The public Limited, all of the shares of Irish Life Group Limited (Irish Life) for $1.75 billion offering and private placements of subscription receipts are at the same price (€1.3 billion). Established in 1939, Irish Life is the largest life and pensions group of $25.70 per subscription receipt. and investment manager in Ireland. Should the subscription receipts be converted into common shares of Lifeco, Lifeco also announced a $1.25 billion offering of subscription receipts Power Financial will hold, directly and indirectly, a 69.4% economic interest exchangeable into Lifeco common shares by way of a $650 million bought in Lifeco. deal public offering as well as concurrent private placements of subscription receipts to Power Financial and IGM for an aggregate amount of $600 million. The acquisition is expected to close in July of 2013, and is subject to customary regulatory approvals, including approvals from the European Commission On March 12, 2013, Power Financial purchased $550 million of Lifeco under the EU Merger Regulation, and certain closing conditions. subscription receipts. On that date, IGM also purchased $50 million of Lifeco subscription receipts. Each subscription receipt entitles the holder to receive one common share of Lifeco upon closing of the acquisition of Irish Life, without any action on the part of the holder and without payment of PREFERRED SHARE I S SU E On Februar y 28, 2013, the Corporation issued 12,000,000 4.80% Non- Cumulative First Preferred Shares, Series S for gross proceeds of $300 million. NOTE 33 SEGMENTED INFORMATION The following strategic business units constitute the Corporation’s reportable > Parjointco holds the Corporation’s interest in Pargesa, a holding company operating segments: > Lifeco offers, in Canada, the United States and Europe, a wide range of life insurance, retirement and investment products, as well as reinsurance and which holds diversified interests in companies based in Europe active in various sectors, including specialty minerals, cement and building materials, water, waste services, energy, and wines and spirits. specialty general insurance products, to individuals, businesses and other > The segment entitled Other is made up of corporate activities of the private and public organizations. Corporation and also includes consolidation elimination entries. > IGM offers a comprehensive package of financial planning services and The accounting policies of the operating segments are those described in investment products to its client base. IGM derives its revenues from Note 2 — Basis of Presentation and Summary of Significant Accounting Policies a range of sources, but primarily from management fees, which are of the financial statements. The Corporation evaluates the performance charged to its mutual funds for investment advisory and management based on the operating segment’s contribution to consolidated net earnings. services. IGM also earns revenue from fees charged to its mutual funds Revenues and assets are attributed to geographic areas based on the for administrative services. point of origin of revenues and the location of assets. The contribution to consolidated net earnings of each segment is calculated after taking into account the investment Lifeco and IGM have in each other. 103 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTE 33 SEGMENTED INFORMATION (CONTINUED) IN FORMATION ON PROFIT M EASU RE FOR THE YEAR ENDED DECEMBER 31, 2012 LIFECO IGM PARJOINTCO OTHER TOTAL REVENUES Premium income, net Investment income, net Fee income EXPENSES Total paid or credited to policyholders Commissions Operating and administrative expenses Financing charges Share of earnings (losses) of investment in jointly controlled corporation Earnings before income taxes – continuing operations Income taxes Contribution to net earnings – continuing operations Contribution to net earnings – discontinued operations Contribution to net earnings Attributable to Non-controlling interests Perpetual preferred shareholders Common shareholders IN FORMATION ON AS SETS AN D LIAB ILITIES M EASU RE DECEMBER 31, 2012 Goodwill Total assets Total liabilities G EOG R APH IC IN FORMATION DECEMBER 31, 2012 Invested assets (including cash and cash equivalents) Investment in jointly controlled corporation Investments on account of segregated fund policyholders Other assets Goodwill and intangible assets Total assets Total revenues 18,820 8,296 2,945 30,061 22,451 1,781 2,968 285 27,485 2,576 – 2,576 368 2,208 – 2,208 969 – 1,239 2,208 – 153 2,425 2,578 – 858 671 92 1,621 957 – 957 190 767 – 767 327 – 440 767 – – – – – – – – – – 134 134 – 134 – 134 – – 134 134 – 18,820 (88) (139) (227) 8,361 5,231 32,412 – 22,451 (138) 57 18 (63) (164) – (164) 5 (169) – 2,501 3,696 395 29,043 3,369 134 3,503 563 2,940 – (169) 2,940 (99) 117 (187) (169) 1,197 117 1,626 2,940 LIFECO 5,857 253,833 236,132 IGM PARJOINTCO OTHER TOTAL 2,816 11,609 7,503 – – 8,673 2,149 1,002 268,593 – 586 244,221 CANADA UNITED STATES EUROPE TOTAL 65,068 28,722 33,110 126,900 – 54,341 4,176 10,129 133,714 16,221 – 23,809 3,311 1,721 57,563 6,401 2,149 26,798 13,503 1,756 2,149 104,948 20,990 13,606 77,316 268,593 9,790 32,412 104 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 33 SEGMENTED INFORMATION (CONTINUED) IN FORMATION ON PROFIT M EASU RE FOR THE YEAR ENDED DECEMBER 31, 2011 LIFECO IGM PARJOINTCO OTHER TOTAL REVENUES Premium income, net Investment income, net Fee income EXPENSES Total paid or credited to policyholders Commissions Operating and administrative expenses Financing charges Share of earnings (losses) of investment in jointly controlled corporation Earnings before income taxes – continuing operations Income taxes Contribution to net earnings – continuing operations Contribution to net earnings – discontinued operations Contribution to net earnings Attributable to Non-controlling interests Perpetual preferred shareholders Common shareholders IN FORMATION ON AS SETS AN D LIAB ILITIES M EASU RE DECEMBER 31, 2011 Goodwill Total assets Total liabilities G EOG R APH IC IN FORMATION DECEMBER 31, 2011 Invested assets (including cash and cash equivalents) Investment in jointly controlled corporation Investments on account of segregated fund policyholders Other assets Goodwill and intangible assets Total assets Total revenues 17,293 9,702 2,903 29,898 23,043 1,548 2,314 289 27,194 2,704 – 2,704 465 2,239 – 2,239 855 – 1,384 2,239 – 161 2,571 2,732 – 895 638 103 1,636 1,096 – 1,096 250 846 63 909 392 – 517 909 – – – – – – – – – – (20) (20) – (20) – (20) – – (20) (20) – (99) (131) (230) 17,293 9,764 5,343 32,400 – 23,043 (131) 54 17 (60) (170) – (170) (9) (161) – (161) (106) 104 (159) (161) 2,312 3,006 409 28,770 3,630 (20) 3,610 706 2,904 63 2,967 1,141 104 1,722 2,967 LIFECO 5,861 238,552 222,664 IGM PARJOINTCO OTHER TOTAL 2,925 10,839 6,625 – 2,222 – – 1,065 574 8,786 252,678 229,863 CANADA UNITED STATES EUROPE TOTAL 61,960 27,403 31,064 120,427 – 49,622 4,087 10,280 – 22,359 3,050 1,769 2,222 24,601 12,501 1,760 2,222 96,582 19,638 13,809 125,949 54,581 72,148 252,678 17,064 6,123 9,213 32,400 105 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT INDEPENDENT AUDITOR’S REPORT TO TH E SHAREHOLDERS OF POWER FINANCIAL CORPOR ATION We have audited the accompanying consolidated financial statements of Power Financial Corporation, which comprise the consolidated balance sheets as at December 31, 2012 and December 31, 2011, and the consolidated statements of earnings, statements of comprehensive income, statements of changes in equity and statements of cash flows for the years then ended, and a summary of significant accounting policies and other explanatory information. Management’s Responsibility for the Consolidated Financial Statements Management is responsible for the preparation and fair presentation of these consolidated financial statements in accordance with International Financial Reporting Standards, and for such internal control as management determines is necessary to enable the preparation of consolidated financial statements that are free from material misstatement, whether due to fraud or error. Auditor’s Responsibility Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We conducted our audits in accordance with Canadian generally accepted auditing standards. Those standards require that we comply with ethical requirements and plan and perform the audits to obtain reasonable assurance about whether the consolidated financial statements are free from material misstatement. An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the consolidated financial statements. The procedures selected depend on the auditor’s judgment, including the assessment of the risks of material misstatement of the consolidated financial statements, whether due to fraud or error. In making those risk assessments, the auditor considers internal control relevant to the entity’s preparation and fair presentation of the consolidated financial statements in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the entity’s internal control. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of accounting estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. We believe that the audit evidence we have obtained in our audits is sufficient and appropriate to provide a basis for our audit opinion. Opinion In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of Power Financial Corporation as at December 31, 2012 and December 31, 2011, and its financial performance and its cash flows for the years then ended in accordance with International Financial Reporting Standards. Signed Deloitte LLP 1 March 13, 2013 Montréal, Québec 1 CPA auditor, CA, public accountancy permit No. A104630 106 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT POWER FINANCIAL CORPORATION FIVE-YEAR FINANCIAL SUMMARY DECEMBER 31 [IN MILLIONS OF CANADIAN DOLL ARS, EXCEPT PER SHARE AMOUNTS] (UNAUDITED) 2012 2011 2010 2009 2008 PREVIOUS CANADIAN GA AP CONSOLIDATED BALANCE SHEETS Cash and cash equivalents Total assets Shareholders’ equity Consolidated assets and assets under management CONSOLIDATED STATEMENTS OF EARNINGS REVENUES Premium income, net Investment income, net Fee income EXPENSES Total paid or credited to policyholders Commissions Operating and administrative expenses Intangible and goodwill impairment Financing charges Share of earnings (losses) of investment in jointly controlled corporation Income taxes Net earnings – continuing operations Net earnings – discontinued operations Net earnings Attributable to Non-controlling interests Perpetual preferred shareholders Common shareholders PER SHARE Operating earnings before other items Net earnings from discontinued operations Net earnings Dividends Book value at year-end MARKET PRICE (COMMON SHARES) High Low Year-end QUARTERLY FINANCIAL INFORMATION [IN MILLIONS OF CANADIAN DOLL ARS, EXCEPT PER SHARE AMOUNTS] (UNAUDITED) 2012 First quarter Second quarter Third quarter Fourth quarter 2011 First quarter Second quarter Third quarter Fourth quarter 3,313 3,385 3,656 4,855 4,689 268,593 252,678 244,644 140,231 141,546 14,029 13,521 12,811 13,207 13,419 523,885 496,781 500,181 471,775 452,158 18,820 8,361 5,231 17,293 9,764 5,343 17,748 9,600 5,174 18,033 30,007 9,678 4,998 1,163 5,540 32,412 32,400 32,522 32,709 36,710 22,451 23,043 23,225 23,809 26,774 2,501 3,696 – 395 29,043 3,369 134 563 2,940 – 2,940 1,197 117 1,626 2,940 2.38 – 2.30 1.4000 16.60 30.15 24.06 27.24 2,312 3,006 – 409 28,770 3,630 (20) 706 2,904 63 2,967 1,141 104 1,722 2,967 2.44 0.05 2.43 1.4000 16.26 31.98 23.62 25.54 2,216 3,837 – 432 29,710 2,812 121 523 2,410 2 2,412 845 99 1,468 2,412 2.30 – 2.08 1.4000 15.26 34.23 27.00 30.73 2,088 3,607 – 494 29,998 2,711 71 565 2,217 – 2,217 778 88 1,351 2,217 2.05 – 1.92 1.4000 16.27 31.99 14.66 31.08 2,172 3,675 2,178 438 35,237 1,473 (181) 16 1,276 692 1,968 631 74 1,263 1,968 1.98 0.71 1.79 1.3325 16.80 40.94 20.33 23.90 TOTAL REVENUES NET EARNINGS EARNINGS PER SHARE — BASIC EARNINGS PER SHARE — DILUTED 7,110 8,374 9,217 7,711 6,919 7,784 9,126 8,571 712 695 813 720 616 803 593 955 0.64 0.61 0.65 0.39 0.52 0.72 0.44 0.75 0.64 0.60 0.65 0.38 0.52 0.71 0.44 0.75 107 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT BOARD OF DIRECTORS MARC A . BIBEAU [2] President and Chief Executive Officer, Beauward Shopping Centres Ltd. ANDRÉ DESMARAIS, O.C., O.Q. [1, 5] Co-Chairman of the Corporation R. JEFFREY ORR [1] President and Chief Executive Officer of the Corporation LOUISE ROY, O.C., O.Q. Invited Fellow and Chair of the Board, Centre interuniversitaire de recherche en analyse and Deputy Chairman, President and des organisations Co-Chief Executive Officer, Power Corporation of Canada THE HONOURABLE PAUL DESMARAIS, P.C., C.C., O.Q. [1, 5] Chairman of the Executive Committee, Power Corporation of Canada PAUL DESMARAIS, JR., O.C., O.Q. [1, 5] Co-Chairman of the Corporation and Chairman and Co-Chief Executive Officer, Power Corporation of Canada GÉRALD FRÈRE [3, 4] Managing Director, Frère-Bourgeois S.A. ANTHONY R. GRAHAM, LL.D. [5] President, Wittington Investments, Limited ROBERT GRATTON Deputy Chairman, Power Corporation of Canada V. PETER HARDER, LL.D. [3, 4] Senior Policy Adviser, Fraser Milner Casgrain LLP RAYMOND ROYER, O.C., O.Q., FCA [1, 2, 3, 4, 5] Company Director T. TIMOTHY RYAN, JR.* Managing Director, Global Head of Regulatory Strategy and Policy, JPMorgan Chase & Co. EMŐKE J.E. SZATHMÁRY, C.M., O.M., PH.D., FRSC [2] President Emeritus, University of Manitoba DIRECTORS EMERITUS JAMES W. BURNS, O.C., O.M. THE HONOURABLE P. MICHAEL PITFIELD, P.C., Q.C. [1] MEMBER OF THE E XECUTIVE COMMIT TEE [2] MEMBER OF THE AUDIT COMMIT TEE [3] MEMBER OF THE COMPENSATION COMMIT TEE [4] MEMBER OF THE REL ATED PART Y AND CONDUC T RE VIE W COMMIT TEE [5] MEMBER OF THE GOVERNANCE AND NOMINATING COMMIT TEE * NOT STANDING FOR RE‑ELEC TION 108 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT OFFICERS PAUL DESMARAIS, JR., O.C., O.Q. Co-Chairman ANDRÉ DESMARAIS, O.C., O.Q. Co-Chairman R. JEFFREY ORR President and Chief Executive Officer RAYMOND L . MCFEETORS Vice-Chairman MICHEL PLESSIS -BÉLAIR, FCA Vice-Chairman HENRI-PAUL ROUSSEAU, PH.D. Vice-Chairman AMAURY DE SEZE Vice-Chairman GREGORY D. TRETIAK, FCA Executive Vice-President and Chief Financial Officer ARNAUD VIAL Senior Vice-President JOCELYN LEFEBVRE, C. A . Managing Director, Power Financial Europe B.V. DENIS LE VASSEUR, C. A . Vice-President and Controller STÉPHANE LEMAY Vice-President, General Counsel and Secretary RICHARD PAN Vice-President LUC RENY, CFA Vice-President ISABELLE MORIN, C. A . Treasurer 109 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT CORPORATE INFORMATION Additional copies of this Annual Report, as well as copies of the annual report of Power Corporation of Canada, are TRANSFER AGENT AND REGISTRAR Computershare Investor Services Inc. available from the Secretary: Offices in: POWER FINANCIAL CORPORATION 751 Victoria Square or Suite 2600, Richardson Building Montréal, Québec Canada H2Y 2J3 1 Lombard Place Winnipeg, Manitoba Canada R3B 0X5 STOCK LISTINGS Shares of Power Financial Corporation are listed on the Toronto Stock Exchange: COMMON SHARES: PWF Montréal, Québec; Toronto, Ontario www.computershare.com SHAREHOLDER SERVICES Shareholders with questions relating to the payment of dividends, change of address and share certificates should contact the Transfer Agent: Computershare Investor Services Inc. Shareholder Services 100 University Avenue, 9th Floor Toronto, Ontario, Canada M5J 2Y1 FIRST PREFERRED SHARES: Telephone: 1-800-564-6253 (toll-free in Canada and the U.S.) Series A: PWF.PR.A Series L: PWF.PR.L or 514-982-7555 Series D: PWF.PR.E Series M: PWF.PR.M www.computershare.com Series E: PWF.PR.F Series O: PWF.PR.O Series F: PWF.PR.G Series P: PWF.PR.P Series H: PWF.PR.H Series R: PWF.PR.R Si vous préférez recevoir ce rapport annuel en français, Series I: PWF.PR.I Series S: PWF.PR.S veuillez vous adresser au secrétaire : Series K: PWF.PR.K WEBSITE www.powerfinancial.com CORPORATION FINANCIÈRE POWER 751, square Victoria ou Bureau 2600, Richardson Building Montréal (Québec) Canada H2Y 2J3 1 Lombard Place Winnipeg (Manitoba) Canada R3B 0X5 The trademarks contained in this report are owned by Power Financial Corporation or a member of the Power Corporation group of companies™. Trademarks that are not owned by Power Financial Corporation are used with permission. 110 POWER FINANCIAL CORPORATION 2012 ANNUAL REPORT DESIGN : W W W. ARD OISE .COM A D A N A C N I D E T N I R P