S&P Affirms Ratings, Comments on Aviva plc (AV) Following Move to Acquire Friends Life Group

Standard & Poor's Ratings Services said today that it affirmed its 'A+' long-term counterparty credit and financial strength ratings on the core operating entities across the Aviva group, including the 'A-' long-term counterparty credit rating on the holding company, Aviva plc (NYSE: AV). The outlook on all core operating entities and the holding company is stable.

On Nov. 21, 2014, Aviva PLC and Friends Life Group announced that discussions about the possible all-share combination of the two groups were at an advanced stage. Although there is no certainty that Aviva will make a formal offer, we believe the confirmation by the Board of Friends Life that it is willing to recommend to its shareholders the key terms of the potential combination increases the likelihood of a formal offer. Under the City Code on Takeovers and Mergers, Aviva has until December 19 to confirm its intentions regarding any offer for Friends Life.

Despite the proposed transaction being in line with Aviva's three strategic anchors of being a "true customer composite, digital first and not everywhere," we view this potential transaction as being somewhat inconsistent with our interpretation of the group's strategic journey, increasing the risk of delaying the final phase of the group's strategic plan to improve operating performance.

Given the all-share nature of the proposed transaction and the progress the group has made over the last 12-18 months from a balance-sheet perspective in particular, we assume that--if the transaction goes ahead on the terms announced on Nov. 21, 2014--our assessment of the combined group's financial risk profile will not deteriorate. Although there could be significant execution risk if the transaction proceeds, we believe this risk is adequately captured in our current risk position assessment. In particular, the potential volatility in capital and earnings that could result from the transaction is balanced by the significant progress the group has made in reducing investment-related risk over the past two years. In aggregate, we believe the potential impact on the combined group's financial risk profile is neutral.

The ratings continue to be supported by the group's very strong business risk profile and moderately strong financial risk profile giving the possibility of an 'a+' or an 'a' anchor rating. Aviva's anchor is 'a+' as we view the group's financial profile as resilient, especially given its progress over the past 12-18 months and our assessment of the group's financial flexibility at strong levels.

The stable outlook reflects our view that Aviva will maintain a very strong business risk profile and a moderately strong financial risk profile.

We may take a negative rating action on Aviva if:

The group's financial risk profile deteriorates owing to capital and earnings declining to moderately strong from strong or financial flexibility pressures. This could result from Aviva's exposure to eurozone-related risks, a level of earnings not sufficient to offset the growth of the business, an unexpected negative impact versus our expectation in terms of any acquisition of Friends Life, or a reversal in the deleveraging process which is underway.
The group's business risk profile deteriorates to strong from very strong. This is unlikely, but could occur if we were to revise downward our assessment of underlying operating performance, which could indicate a weakening of our view of the group's competitive advantages.

A positive rating action is likely to depend on the group's financial risk profile improving to strong without impairing its very strong business risk profile.

We may take a positive rating action on Aviva if:

Operating performance levels improve to levels more in line with higher rated peers, especially from the life insurance businesses and the group displays more of a track record in this regard;
Capital adequacy levels remain consistently in the 'AA' range, supported by a reduction in capital and earnings volatility from more selective capital allocation and strategic stability; and
Leverage is reduced (for instance, below 30%) or earnings capacity increases (for instance fixed-charge coverage above 6x), ensuring the assessment of financial flexibility remains strong.

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