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Investment Analyst Views

CIA General Meeting Chicago, Illinois October 19, 2006. Investment Analyst Views. Veritas Investment Research. Independent Unbiased Research Rooted in Forensic Accounting Based on Business Fundamentals Long-term Investment Horizon. What do investors want to do?. Measure earnings

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Investment Analyst Views

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  1. CIA General Meeting Chicago, Illinois October 19, 2006 Investment Analyst Views

  2. Veritas Investment Research • Independent Unbiased Research • Rooted in Forensic Accounting • Based on Business Fundamentals • Long-term Investment Horizon

  3. What do investors want to do? • Measure earnings • Evaluate risk • Value the company • Evaluate how well management is investing the company’s capital

  4. What tools do investors have? • GAAP F/S • Source of Earnings disclosures • Embedded Value disclosures • Notes to the F/S and MD&A, e.g.: • CALM disclosures • Reserve movements • Fair values

  5. What the Street does • Forecasting earnings by segment • Key drivers appear to be: • Premium growth • Net Income margin • Forecasts are then used to plug into: • Forward P:E analysis • Forward P:BV analysis

  6. Relative Price : Earnings Source: BMO Nesbitt Burns

  7. Price : Book Regression

  8. Why we don’t use these techniques • The market doesn’t need a 15th EPS estimate • Target P:E multiples are difficult to justify theoretically • ROE regressions should be a means, not an end • Short term forecasts are inherently fraught with danger • Cause & effect • (Dis)connect between market events and GAAP earnings

  9. Veritas approach to life insurance Profitability is driven by two key components: • Did the Lifeco sell profitable new business? • Existing book of business – did the LifeCo manage better or worse than model?

  10. SOE: Earnings Quality Concerns? Source of Earnings, Common Size Q1-F06 Source: Company reports and Veritas calculations.

  11. SOE - Returns on Surplus Return on Assets Backing Surplus*, 2001-2005 Source: Company reports and Veritas calculations * Simple average of opening and closing balances

  12. SOE - “Core earnings”

  13. How is shareholders’ money invested? Assets Backing Capital Asset Mix Supporting Capital (and Other Liabilities) – Dec. 31, 2005 • Source: Company reports, Veritas calculations • Includes non-policy liabilities and shareholders' equity • ** Includes shareholders' equity, long-term debt, liabilities for preferred shares and capital instruments and non- • controlling interest in subsidiaries

  14. Allowances for future credit losses Source: Company reports and Veritas calculations. IAG does not disclose this figure. Note: Amounts in millions of Canadian dollars • Key takeaways • Dollar amounts are much more significant than impaired loans • MFC has been reducing its reserve • GWO carries a lower reserve

  15. The Whole Portfolio Invested Asset Composition, Q4-F04 vs. Q1-F06

  16. Bonds Only Bond Portfolio Composition, Q4-F04 vs. Q1-F06

  17. Policy Liabilities - the Rollforward • Difficult to glean useful information MFC Policy Liability Rollforward, 2005 (Amounts in millions of Canadian dollars) Source: MFC 2005 annual report

  18. Assumption changes – MFC 2005

  19. EV Valuation MFC share price, EV/share, BV/share

  20. P:EV Multiples

  21. VNB Multiples (Implied)

  22. Implied VNB Growth

  23. VNB / Share Growth

  24. SLF EV Growth Analysis • VNB growth rates are not all that affect EV growth • The market discounts for EV adjustments – the risk inherent in managing the existing book of business

  25. EV Adjustments MFC - black SLF - white Note: circles are annual summary; squares are individual components

  26. Investment Thesis

  27. V-LIST BUY Target: $43.50 VNB / Share Growth

  28. Directly Forecasting EV Supplement with high level EV forecast: Opening EV + EV Accretion + Value of New Business • Capital Returned to Shareholders Closing EV

  29. 3855: What’s My Number? • Vanishing earnings • Balance sheet volatility • Gains / losses on assets backing surplus

  30. 3855: Vanishing Earnings • Forecasted EPS is affected • Therefore, forecasted valuation is affected for those using P:E approach • BV will increase – how does this affect those using P:BV regression? • Does the change adversely affect management decisions?

  31. 3855: Balance Sheet Volatility • Assets backing surplus will be marked to market – GOOD! • Assets backing liabilities will be marked to market – Not so good. • Analysts taking a wait and see approach

  32. 3855: Gains on Assets Backing Surplus • What is the “right” level? • Accounting is similar to banks’ for Investment Securities • Operating earnings / Core earnings • Analysts taking a wait and see approach

  33. 3855: New Disclosures, Please! • Fair value of assets backing surplus, by asset class • Gains recognized in earnings & OCI separately, by asset class • Liability rollforward by quarter, separately showing effect of asset valuation

  34. Other Requested Disclosures • PfADs, reserve details • VNB / segment • SOE / segment • Experience gains or losses by type • Sensitivity to interest rates / equity markets

  35. Questions and Answers

  36. LifeCo Fair Values - Example Fair Value of Assets Backing Equity, as at December 31, 2005 (Amounts in billions of Canadian dollars) Source: Company reports and Veritas calculations. * Includes goodwill and intangibles.

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