EX-99.1 2 d324094dex991.htm EX-99.1 EX-99.1

Exhibit 99.1

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Manulife Financial Corporation

Consolidated Financial Statements

For the year ended December 31, 2016


Responsibility for Financial Reporting

The accompanying consolidated financial statements of Manulife Financial Corporation are the responsibility of management and have been approved by the Board of Directors. It is also the responsibility of management to ensure that all information in the annual report to shareholders is consistent with these consolidated financial statements.

The consolidated financial statements have been prepared by management in accordance with International Financial Reporting Standards and the accounting requirements of the Office of the Superintendent of Financial Institutions, Canada. When alternative accounting methods exist, or when estimates and judgment are required, management has selected those amounts that present the Company’s financial position and results of operations in a manner most appropriate to the circumstances.

Appropriate systems of internal control, policies and procedures have been maintained to ensure that financial information is both relevant and reliable. The systems of internal control are assessed on an ongoing basis by management and the Company’s internal audit department.

The actuary appointed by the Board of Directors (the “Appointed Actuary”) is responsible for ensuring that assumptions and methods used in the determination of policy liabilities are appropriate to the circumstances and that reserves will be adequate to meet the Company’s future obligations under insurance and annuity contracts.

The Board of Directors is responsible for ensuring that management fulfills its responsibility for financial reporting and is ultimately responsible for reviewing and approving the consolidated financial statements. These responsibilities are carried out primarily through an Audit Committee of unrelated and independent directors appointed by the Board of Directors.

The Audit Committee meets periodically with management, the internal auditors, the external auditors and the Appointed Actuary to discuss internal control over the financial reporting process, auditing matters and financial reporting issues. The Audit Committee reviews the consolidated financial statements prepared by management and then recommends them to the Board of Directors for approval. The Audit Committee also recommends to the Board of Directors and shareholders the appointment of external auditors and approval of their fees.

The consolidated financial statements have been audited by the Company’s external auditors, Ernst & Young LLP, in accordance with Canadian generally accepted auditing standards and the standards of the Public Company Accounting Oversight Board (United States). Ernst & Young LLP has full and free access to management and the Audit Committee.

 

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   LOGO

Donald A. Guloien

President and Chief Executive Officer

  

Steve B. Roder

Senior Executive Vice President and Chief Financial Officer

Toronto, Canada

February 9, 2017

Appointed Actuary’s Report to the Shareholders

I have valued the policy liabilities and reinsurance recoverables of Manulife Financial Corporation for its Consolidated Statements of Financial Position as at December 31, 2016 and 2015 and their change in the Consolidated Statements of Income for the years then ended in accordance with actuarial practice generally accepted in Canada, including selection of appropriate assumptions and methods.

In my opinion, the amount of policy liabilities net of reinsurance recoverables makes appropriate provision for all policyholder obligations and the consolidated financial statements fairly present the results of the valuation.

LOGO

Mr. Steven A. Finch

Executive Vice President and Appointed Actuary

Toronto, Canada

February 9, 2017

 

Consolidated Financial Statements   Manulife Financial Corporation   2016 Annual Report        107


Independent Auditors’ Report of Registered Public Accounting Firm

To the Shareholders of Manulife Financial Corporation

We have audited the accompanying consolidated financial statements of Manulife Financial Corporation, which comprise the Consolidated Statements of Financial Position as at December 31, 2016 and 2015, and the Consolidated Statements of Income, Comprehensive Income, Changes in Equity and 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 as issued by the International Accounting Standards Board, 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.

Auditors’ 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 and the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we comply with ethical requirements and plan and perform the audit 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 auditors’ 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 auditors consider 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. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements, 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 Manulife Financial Corporation as at December 31, 2016 and 2015, and its financial performance and its cash flows for the years then ended in accordance with International Financial Reporting Standards as issued by the International Accounting Standards Board.

Other Matter

We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), Manulife Financial Corporation’s internal control over financial reporting as of December 31, 2016, based on criteria established in Internal Control – Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) and our report dated February 9, 2017 expressed an unqualified opinion on Manulife Financial Corporation’s internal control over financial reporting.

 

 

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Chartered Professional Accountants

Licensed Public Accountants

Toronto, Canada

February 9, 2017

 

108         Manulife Financial Corporation   2016 Annual Report   Consolidated Financial Statements


Independent Auditors’ Report of Registered Public Accounting Firm on Internal Control Under Standards of The Public Company Accounting Oversight Board (United States)

To the Shareholders of Manulife Financial Corporation

We have audited Manulife Financial Corporation’s internal control over financial reporting as of December 31, 2016, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) (the COSO criteria). Manulife Financial Corporation’s management is responsible for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting included in Management’s Report on Internal Control Over Financial Reporting contained in the Management’s Discussion and Analysis. Our responsibility is to express an opinion on the company’s internal control over financial reporting based on our audit.

We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with International Financial Reporting Standards as issued by the International Accounting Standards Board. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with International Financial Reporting Standards as issued by the International Accounting Standards Board, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

In our opinion, Manulife Financial Corporation maintained, in all material respects, effective internal control over financial reporting as of December 31, 2016, based on the COSO criteria.

We also have audited, in accordance with Canadian generally accepted auditing standards and the standards of the Public Company Accounting Oversight Board (United States), the Consolidated Statements of Financial Position as at December 31, 2016 and 2015, and the Consolidated Statements of Income, Comprehensive Income, Changes in Equity and Cash Flows for the years then ended of Manulife Financial Corporation, and our report dated February 9, 2017, expressed an unqualified opinion thereon.

 

 

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Chartered Professional Accountants

Licensed Public Accountants

Toronto, Canada

February 9, 2017

 

Consolidated Financial Statements   Manulife Financial Corporation   2016 Annual Report        109


Consolidated Statements of Financial Position

 

As at December 31,

(Canadian $ in millions)

   2016              2015         

Assets

          

Cash and short-term securities

   $ 15,151          $ 17,885     

Debt securities

     168,622            157,827     

Public equities

     19,496            16,983     

Mortgages

     44,193            43,818     

Private placements

     29,729            27,578     

Policy loans

     6,041            5,912     

Loans to bank clients

     1,745            1,778     

Real estate

     14,132            15,347     

Other invested assets

     22,760                  20,378           

Total invested assets (note 4)

     321,869                  307,506           

Other assets

          

Accrued investment income

     2,260            2,264     

Outstanding premiums

     845            878     

Derivatives (note 5)

     23,672            24,272     

Reinsurance assets (note 8)

     34,952            35,426     

Deferred tax assets (note 6)

     4,439            4,067     

Goodwill and intangible assets (note 7)

     10,107            9,384     

Miscellaneous

     7,360                  5,825           

Total other assets

     83,635                  82,116           

Segregated funds net assets (note 22)

     315,177                  313,249           

Total assets

   $   720,681                $   702,871           

Liabilities and Equity

          

Liabilities

          

Insurance contract liabilities (note 8)

   $ 297,505          $ 285,288     

Investment contract liabilities (note 9)

     3,275            3,497     

Deposits from bank clients

     17,919            18,114     

Derivatives (note 5)

     14,151            15,050     

Deferred tax liabilities (note 6)

     1,359            1,235     

Other liabilities

     15,596                  14,952           
     349,805            338,136     

Long-term debt (note 11)

     5,696            1,853     

Capital instruments (note 12)

     7,180            7,695     

Segregated funds net liabilities (note 22)

     315,177                  313,249           

Total liabilities

     677,858                  660,933           

Equity

          

Preferred shares (note 13)

     3,577            2,693     

Common shares (note 13)

     22,865            22,799     

Contributed surplus

     284            277     

Shareholders’ retained earnings

     9,759            8,398     

Shareholders’ accumulated other comprehensive income (loss):

          

Pension and other post-employment plans

     (417         (521  

Available-for-sale securities

     (394         345     

Cash flow hedges

     (232         (264  

Translation of foreign operations and real estate revaluation surplus

     6,390                  7,432           

Total shareholders’ equity

     41,832            41,159     

Participating policyholders’ equity

     248            187     

Non-controlling interests

     743                  592           

Total equity

     42,823                  41,938           

Total liabilities and equity

   $ 720,681                $ 702,871           

The accompanying notes are an integral part of these Consolidated Financial Statements.

 

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LOGO

Donald A. Guloien

President and Chief Executive Officer

  

Richard B. DeWolfe

Chairman of the Board of Directors

 

110         Manulife Financial Corporation   2016 Annual Report   Consolidated Financial Statements


Consolidated Statements of Income

 

For the years ended December 31,

(Canadian $ in millions except per share amounts)

   2016              2015         

Revenue

          

Premium income

          

Gross premiums

   $   36,659          $   32,020     

Premiums ceded to reinsurers

     (9,027         (8,095  

Premiums ceded, net of commission and additional consideration relating to Closed Block reinsurance transaction (note 3)

                      (7,996        

Net premiums

     27,632                  15,929           

Investment income (note 4)

          

Investment income

     13,390            11,465     

Realized and unrealized gains (losses) on assets supporting insurance and investment contract liabilities and on the macro hedge program

     1,134                  (3,062        

Net investment income

     14,524                  8,403           

Other revenue

     11,181                  10,098           

Total revenue

     53,337                  34,430           

Contract benefits and expenses

          

To contract holders and beneficiaries

          

Gross claims and benefits (note 8)

     25,059            23,761     

Change in insurance contract liabilities

     18,014            7,452     

Change in investment contract liabilities

                203     

Benefits and expenses ceded to reinsurers

     (8,097         (7,265  

Change in reinsurance assets (note 8)

     (842               (6,810        

Net benefits and claims

     34,134            17,341     

General expenses

     6,995            6,221     

Investment expenses (note 4)

     1,646            1,615     

Commissions

     5,818            5,176     

Interest expense

     1,013            1,101     

Net premium taxes

     402                  358           

Total contract benefits and expenses

     50,008                  31,812           

Income before income taxes

     3,329            2,618     

Income tax expense (note 6)

     (196               (328        

Net income

   $ 3,133                $ 2,290           

Net income attributed to:

          

Non-controlling interests

   $ 143          $ 69     

Participating policyholders

     61            30     

Shareholders

     2,929                  2,191           
     $ 3,133                $ 2,290           

Net income attributed to shareholders

     2,929            2,191     

Preferred share dividends

     (133               (116        

Common shareholders’ net income

   $ 2,796                $ 2,075           

Earnings per share

          

Basic earnings per common share (note 13)

   $ 1.42          $ 1.06     

Diluted earnings per common share (note 13)

     1.41            1.05     

Dividends per common share

     0.740                  0.665           

The accompanying notes are an integral part of these Consolidated Financial Statements.

 

Consolidated Financial Statements   Manulife Financial Corporation   2016 Annual Report        111


Consolidated Statements of Comprehensive Income

 

For the years ended December 31,

(Canadian $ in millions)

   2016              2015         

Net income

   $    3,133                $ 2,290           

Other comprehensive income (“OCI”), net of tax:

          

Items that may be subsequently reclassified to net income:

          

Foreign exchange gains (losses) on:

          

Translation of foreign operations

     (1,044         5,450     

Net investment hedges

     2            (131  

Available-for-sale financial securities:

          

Unrealized losses arising during the year

     (218         (165  

Reclassification of net realized gains and impairments to net income

     (523         (283  

Cash flow hedges:

          

Unrealized gains (losses) arising during the year

     21            (64  

Reclassification of realized losses to net income

     11            11     

Share of other comprehensive loss of associates

                      (3        

Total items that may be subsequently reclassified to net income

     (1,751               4,815           

Items that will not be reclassified to net income:

          

Change in pension and other post-employment plans

     104            8     

Real estate revaluation reserve

                      2           

Total items that will not be reclassified to net income

     104                  10           

Other comprehensive income (loss), net of tax

     (1,647               4,825           

Total comprehensive income, net of tax

   $ 1,486                $   7,115           

Total comprehensive income attributed to:

          

Non-controlling interests

   $ 141          $ 67     

Participating policyholders

     61            31     

Shareholders

     1,284                  7,017           

Income Taxes included in Other Comprehensive Income

 

For the years ended December 31,

(Canadian $ in millions)

   2016              2015         

Income tax expense (recovery) on:

          

Unrealized foreign exchange gains/losses on translation of foreign operations

   $         1          $         5     

Unrealized foreign exchange gains/losses on net investment hedges

     22            (48  

Unrealized gains/losses on available-for-sale financial securities

     (15         (120  

Reclassification of realized gains/losses and recoveries/impairments to net income on available-for-sale financial securities

     (183         (36  

Unrealized gains/losses on cash flow hedges

     15            (39  

Reclassification of realized gains/losses to net income on cash flow hedges

     6            6     

Share of other comprehensive loss of associates

                (1  

Change in pension and other post-employment plans

     57            (11  

Real estate revaluation reserve

                      1           

Total income tax recovery

   $ (97             $ (243        

The accompanying notes are an integral part of these Consolidated Financial Statements.

 

112         Manulife Financial Corporation   2016 Annual Report   Consolidated Financial Statements


Consolidated Statements of Changes in Equity

 

For the years ended December 31,

(Canadian $ in millions)

   2016              2015         

Preferred shares

          

Balance, beginning of year

   $ 2,693          $ 2,693     

Issued (note 13)

     900                

Issuance costs, net of tax

     (16                         

Balance, end of year

     3,577                  2,693           

Common shares

          

Balance, beginning of year

     22,799            20,556     

Issued on exercise of stock options

     66            37     

Issued in exchange of subscription receipts

                      2,206           

Balance, end of year

     22,865                  22,799           

Contributed surplus

          

Balance, beginning of year

     277            267     

Exercise of stock options and deferred share units

     (12         (6  

Stock option expense

     19                  16           

Balance, end of year

     284                  277           

Shareholders’ retained earnings

          

Balance, beginning of year

     8,398            7,624     

Net income attributed to shareholders

     2,929            2,191     

Preferred share dividends

     (133         (116  

Common share dividends

     (1,435               (1,301        

Balance, end of year

     9,759                  8,398           

Shareholders’ accumulated other comprehensive income (loss) (“AOCI”)

          

Balance, beginning of year

     6,992            2,166     

Change in unrealized foreign exchange gains (losses) of net foreign operations

     (1,042         5,319     

Change in actuarial gains (losses) on pension and other post-employment plans

     104            8     

Change in unrealized gains (losses) on available-for-sale financial securities

     (739         (446  

Change in unrealized gains (losses) on derivative instruments designated as cash flow hedges

     32            (53  

Change in real estate revaluation reserve

                1     

Share of other comprehensive loss of associates

                      (3        

Balance, end of year

     5,347                  6,992           

Total shareholders’ equity, end of year

     41,832                  41,159           

Participating policyholders’ equity

          

Balance, beginning of year

     187            156     

Net income attributed to participating policyholders

     61            30     

Other comprehensive income attributed to policyholders

                      1           

Balance, end of year

     248                  187           

Non-controlling interests

          

Balance, beginning of year

     592            464     

Net income attributed to non-controlling interests

     143            69     

Other comprehensive loss attributed to non-controlling interests

     (2         (2  

Contributions, net

     10                  61           

Balance, end of year

     743                  592           

Total equity, end of year

   $  42,823                $  41,938           

The accompanying notes are an integral part of these Consolidated Financial Statements.

 

Consolidated Financial Statements   Manulife Financial Corporation   2016 Annual Report        113


Consolidated Statements of Cash Flows

 

For the years ended December 31,

(Canadian $ in millions)

   2016              2015         

Operating activities

          

Net income

   $ 3,133          $      2,290     

Adjustments:

          

Increase in insurance contract liabilities

          18,014            7,452     

Increase in investment contract liabilities

                203     

(Increase) decrease in reinsurance assets, excluding the impact of Closed Block reinsurance transaction

     (842         1,391     

Amortization of (premium) discount on invested assets

     78            90     

Other amortization

     693            580     

Net realized and unrealized (gains) losses and impairments on assets

     (2,804         3,487     

Deferred income tax recovery

     (235         (343  

Stock option expense

     19                  16           

Cash provided by operating activities before undernoted items

     18,056            15,166     

Cash decrease due to Closed Block reinsurance transaction (note 3)

                (2,023  

Changes in policy related and operating receivables and payables

     (1,020               (2,769        

Cash provided by operating activities

     17,036                  10,374           

Investing activities

          

Purchases and mortgage advances

     (104,059         (77,141  

Disposals and repayments

     82,001            66,942     

Change in investment broker net receivables and payables

     (186         102     

Net cash decrease from sale and purchase of subsidiaries and businesses

     (495               (3,808        

Cash used in investing activities

     (22,739               (13,905        

Financing activities

          

Decrease in repurchase agreements and securities sold but not yet purchased

     (23         (212  

Issue of long-term debt, net (note 11)

     3,899                

Redemption of long-term debt (note 11)

     (158         (2,243  

Issue of capital instruments, net (note 12)

     479            2,089     

Redemption of capital instruments (note 12)

     (949         (350  

Funds repaid, net

     (19         (46  

Secured borrowing from securitization transactions

     847            436     

Changes in deposits from bank clients, net

     (157         (351  

Shareholders’ dividends paid in cash

     (1,593         (1,427  

Contributions from non-controlling interests, net

     10            61     

Common shares issued, net (note 13)

     66            37     

Preferred shares issued, net (note 13)

     884                            

Cash provided by (used in) financing activities

     3,286                  (2,006        

Cash and short-term securities

          

Decrease during the year

     (2,417         (5,537  

Effect of foreign exchange rate changes on cash and short-term securities

     (347         2,102     

Balance, beginning of year

     17,002                  20,437           

Balance, December 31

     14,238                  17,002           

Cash and short-term securities

          

Beginning of year

          

Gross cash and short-term securities

     17,885            21,079     

Net payments in transit, included in other liabilities

     (883               (642        

Net cash and short-term securities, January 1

     17,002                  20,437           

End of year

          

Gross cash and short-term securities

     15,151            17,885     

Net payments in transit, included in other liabilities

     (913               (883        

Net cash and short-term securities, December 31

   $ 14,238                $ 17,002           

Supplemental disclosures on cash flow information

          

Interest received

   $ 10,550          $ 9,925     

Interest paid

     983            1,071     

Income taxes paid

     841                  787           

The accompanying notes are an integral part of these Consolidated Financial Statements.

 

 

114         Manulife Financial Corporation   2016 Annual Report   Consolidated Financial Statements


Notes to Consolidated Financial Statements

 

Page Number   Note     

116

 

Note 1

  Nature of Operations and Significant Accounting Policies

123

 

Note 2

  Accounting and Reporting Changes

125

 

Note 3

  Acquisitions and Distribution Agreement

126

 

Note 4

  Invested Assets and Investment Income

133

 

Note 5

  Derivative and Hedging Instruments

139

 

Note 6

  Income Taxes

141

 

Note 7

  Goodwill and Intangible Assets

143

 

Note 8

  Insurance Contract Liabilities and Reinsurance Assets

151

 

Note 9

  Investment Contract Liabilities

152

 

Note 10

  Risk Management

158

 

Note 11

  Long-Term Debt

159

 

Note 12

  Capital Instruments

160

 

Note 13

  Share Capital and Earnings Per Share

162

 

Note 14

  Capital Management

163

 

Note 15

  Stock-Based Compensation

164

 

Note 16

  Employee Future Benefits

169

 

Note 17

  Interests in Structured Entities

171

 

Note 18

  Commitments and Contingencies

173

 

Note 19

  Segmented Information

174

 

Note 20

  Related Parties

175

 

Note 21

  Subsidiaries

177

 

Note 22

  Segregated Funds

178

 

Note 23

  Information Provided in Connection with Investments in Deferred Annuity Contracts and SignatureNotes Issued or Assumed by John Hancock Life Insurance Company (U.S.A.)

184

 

Note 24

 

Comparatives

 

 

Notes to Consolidated Financial Statements   Manulife Financial Corporation   2016 Annual Report        115


Notes to Consolidated Financial Statements

(Canadian $ in millions except per share amounts or unless otherwise stated)

Note 1    Nature of Operations and Significant Accounting Policies

(a) Reporting entity

Manulife Financial Corporation (“MFC”) is a publicly traded company and the holding company of The Manufacturers Life Insurance Company (“MLI”), a Canadian life insurance company, and John Hancock Reassurance Company Ltd. (“JHRECO”), a Bermudian reinsurance company. MFC and its subsidiaries (collectively, “Manulife” or the “Company”) is a leading financial services group with principal operations in Asia, Canada and the United States. Manulife’s international network of employees, agents and distribution partners offers financial protection and wealth management products and services to personal and business clients as well as asset management services to institutional customers. The Company operates as Manulife in Canada and Asia and as John Hancock in the United States.

MFC is domiciled in Canada and incorporated under the Insurance Companies Act (Canada) (“ICA”). These Consolidated Financial Statements have been prepared in accordance with International Financial Reporting Standards (“IFRS”) as issued by the International Accounting Standards Board (“IASB”).

These Consolidated Financial Statements should be read in conjunction with “Risk Management” in the 2016 Management’s Discussion and Analysis (“MD&A”) dealing with IFRS 7 “Financial Instruments: Disclosures” as the discussion on market risk and liquidity risk includes certain disclosures that are considered an integral part of these Consolidated Financial Statements.

These Consolidated Financial Statements as at and for the year ended December 31, 2016 were authorized for issue by MFC’s Board of Directors on February 9, 2017.

(b) Basis of preparation

The preparation of Consolidated Financial Statements in conformity with IFRS requires management to make judgments, estimates and assumptions that affect the application of accounting policies and the reported amounts of assets and liabilities, and the disclosure of contingent assets and liabilities as at the date of the Consolidated Financial Statements, and the reported amounts of revenue and expenses during the reporting periods. Actual results may differ from these estimates. The most significant estimation processes relate to the assumptions used in measuring insurance and investment contract liabilities, assessing assets for impairment, determination of pension and other post-employment benefit obligation and expense assumptions, determining income taxes and uncertain tax positions and fair valuation of certain invested assets. Estimates and underlying assumptions are reviewed on an ongoing basis. Revisions to accounting estimates are recognized in the year in which the estimates are revised and in any future years affected. Although some variability is inherent in these estimates, management believes that the amounts recorded are appropriate. The significant accounting policies used and the most significant judgments made by management in applying these accounting policies in the preparation of these Consolidated Financial Statements are summarized below.

(c) Fair value measurement

Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction (not a forced liquidation or distress sale) between market participants at the measurement date, that is, an exit value.

When available, quoted market prices are used to determine fair value. If quoted market prices are not available, fair value is typically based upon alternative valuation techniques such as discounted cash flows, matrix pricing, consensus pricing services and other techniques. Broker quotes are generally used when external public vendor prices are not available.

The Company has a process in place that includes a review of price movements relative to the market, a comparison of prices between vendors, and a comparison to internal matrix pricing which uses predominately external observable data. Judgment is applied in adjusting external observable data for items including liquidity and credit factors.

The Company categorizes its fair value measurements according to a three-level hierarchy. The hierarchy prioritizes the inputs used by the Company’s valuation techniques. A level is assigned to each fair value measurement based on the lowest level input significant to the fair value measurement in its entirety. The three levels of the fair value hierarchy are defined as follows:

Level 1 – Fair value measurements that reflect unadjusted, quoted prices in active markets for identical assets and liabilities that the Company has the ability to access at the measurement date reflecting market transactions.

Level 2 – Fair value measurements using inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly. These include quoted prices for similar assets and liabilities in active markets, quoted prices for identical or similar assets and liabilities in inactive markets, inputs that are observable that are not prices (such as interest rates, credit risks, etc.) and inputs that are derived from or corroborated by observable market data. Most debt securities are classified within Level 2. Also, included in the Level 2 category are derivative instruments that are priced using models with observable market inputs, including interest rate swaps, equity swaps, and foreign currency forward contracts.

Level 3 – Fair value measurements using significant non-market observable inputs. These include valuations for assets and liabilities that are derived using data, some or all of which is not market observable, including assumptions about risk. Level 3 securities include

 

116         Manulife Financial Corporation   2016 Annual Report   Notes to Consolidated Financial Statements


less liquid securities such as structured asset-backed securities, commercial mortgage-backed securities (“CMBS”), certain long duration bonds and other securities that have little or no price transparency. Embedded and complex derivative financial instruments as well as real estate classified as investment property are also included in Level 3.

(d) Basis of consolidation

MFC consolidates the financial statements of all entities, including certain structured entities that it controls. Subsidiaries are entities controlled by the Company. The Company has control over an entity when the Company has the power to govern the financial and operating policies of the entity, is exposed to variable returns from its activities which are significant in relation to the total variable returns of the entity and the Company is able to use its power over the entity to affect its share of variable returns. In assessing control, significant judgment is applied while considering all relevant facts and circumstances. When assessing decision-making power, the Company considers the extent of its rights relative to the management of an entity, the level of voting rights held in an entity which are potentially or presently exercisable, the existence of any contractual management agreements which may provide the Company with power over an entity’s financial and operating policies and to the extent of minority ownership in an entity, if any, the possibility for de facto control being present. When assessing returns, the Company considers the significance of direct and indirect financial and non-financial variable returns to the Company from an entity’s activities in addition to the proportionate significance of such returns. The Company also considers the degree to which its interests are aligned with those of other parties investing in an entity and the degree to which it may act in its own interest.

The financial statements of subsidiaries and controlled structured entities are included in the Company’s consolidated results from the date control is established and are excluded from consolidation from the date control ceases. The initial control assessment is performed at inception and is reconsidered at a later date if the Company acquires or loses power over key operating and financial policies of the entity; acquires additional interests or disposes of interests in the entity; the contractual arrangements of the entity are amended such that the Company’s proportionate exposure to variable returns changes; or if the Company’s ability to use its power to affect its variable returns from the entity changes.

The Company’s Consolidated Financial Statements have been prepared using uniform accounting policies for like transactions and events in similar circumstances. Intercompany balances, and income and expenses arising from intercompany transactions, have been eliminated in preparing the Consolidated Financial Statements.

Non-controlling interests are interests of other parties in the equity of MFC’s subsidiaries and are presented within total equity, separate from the equity of MFC’s shareholders. Non-controlling interests in the net income and other comprehensive income (“OCI”) of MFC’s subsidiaries are included in total net income and total other comprehensive income, respectively. An exception to this occurs where the subsidiary’s shares are required to be redeemed for cash on a fixed or determinable date, in which case non-controlling interests in the subsidiary’s capital are presented as liabilities of the Company and non-controlling interests in the subsidiary’s income and OCI are recorded as expenses of the Company.

The equity method of accounting is used to account for entities over which the Company has significant influence (“associates”), whereby the Company records its share of the associate’s net assets and financial results using uniform accounting policies for similar transactions and events. Significant judgment is used to determine whether voting rights, contractual management and other relationships with the entity, if any, provide the Company with significant influence over the entity. Gains and losses on the sale of associates are included in income when realized, while impairment losses are recognized immediately when there is objective evidence of impairment. Gains and losses on transactions with associates are eliminated to the extent of the Company’s interest in the associate. Investments in associates are included in other invested assets on the Company’s Consolidated Statements of Financial Position.

(e) Invested assets

Invested assets that are considered financial instruments are classified as fair value through profit or loss (“FVTPL”), loans and receivables, or as available-for-sale (“AFS”) financial assets. The Company determines the classification of its financial assets at initial recognition. Invested assets are recognized initially at fair value plus, in the case of investments not at FVTPL, directly attributable transaction costs. Invested assets are classified as financial instruments at FVTPL if they are held for trading, if they are designated by management under the fair value option, or if they are designated by management when they include one or more embedded derivatives. Invested assets classified as AFS are non-derivative financial assets that do not fall into any of the other categories described above.

Valuation methods for the Company’s invested assets are described above. All fair value valuations are performed in accordance with IFRS 13 “Fair Value Measurement”. The three levels of the fair value hierarchy and the disclosure of the fair value for financial instruments not carried at fair value on the Consolidated Statements of Financial Position are described in note 4. Fair value valuations are performed by the Company and by third-party service providers. When third-party service providers are engaged, the Company performs a variety of procedures to corroborate pricing information. These procedures may include, but are not limited to, inquiry and review of valuation techniques, inputs to the valuation and vendor controls reports.

Cash and short-term securities comprise cash, current operating accounts, overnight bank and term deposits, and fixed income securities held for the purpose of meeting short-term cash commitments. Short-term securities are carried at fair value. Short-term securities are comprised of investments due to mature within one year of the date of purchase. The carrying value of these instruments approximates fair value due to their short-term maturities and they are generally classified as Level 1. Commercial paper and discount notes are classified as Level 2 because these securities are typically not actively traded. Net payments in transit and overdraft bank balances are included in other liabilities.

 

Notes to Consolidated Financial Statements   Manulife Financial Corporation   2016 Annual Report        117


Debt securities are carried at fair value. Debt securities are generally valued by independent pricing vendors using proprietary pricing models incorporating current market inputs for similar instruments with comparable terms and credit quality (matrix pricing). The significant inputs include, but are not limited to, yield curves, credit risks and spreads, measures of volatility and prepayment rates. These debt securities are classified as Level 2, but can be Level 3 if the significant inputs are unobservable. Realized gains and losses on sale of debt securities and unrealized gains and losses on debt securities designated as FVTPL are recognized in investment income immediately. Unrealized gains and losses on AFS debt securities are recorded in OCI, with the exception of unrealized gains and losses on foreign currency translation which are included in income. Impairment losses on AFS debt securities are recognized in income when there is objective evidence of impairment. Impairment is considered to have occurred, based on management’s judgment, when it is deemed probable that the Company will not be able to collect all amounts due according to the debt security’s contractual terms.

Equities are comprised of common and preferred equities and are carried at fair value. Equities are classified as Level 1, as fair values are based on quoted market prices. Realized gains and losses on sale of equities and unrealized gains and losses on equities designated as FVTPL are recognized in investment income immediately. Unrealized gains and losses on AFS equities are recorded in OCI. Impairment losses on AFS equities are recognized in income on an individual security basis when there is objective evidence of impairment. Impairment is considered to have occurred when fair value has declined below cost by significant amounts or for prolonged periods of time. Judgment is applied in determining whether the decline is significant or prolonged.

Mortgages are carried at amortized cost, and are classified as Level 3 due to the lack of observability of certain significant valuation inputs. Realized gains and losses are recorded in investment income immediately. Impairment losses are recorded on mortgages when there is no longer reasonable assurance as to the timely collection of the full amount of principal and interest and are measured based on the discounted value of expected future cash flows at the original effective interest rates inherent in the mortgages. Expected future cash flows are typically determined in reference to the fair value of collateral security underlying the mortgages, net of expected costs of realization and any applicable insurance recoveries. Significant judgment is applied in the determination of impairment including the timing and account of future collections.

The Company accounts for insured and uninsured mortgage securitizations as secured financing transactions since the criteria for sale accounting are not met. For these transactions, the Company continues to recognize the mortgages and records a liability in other liabilities for the amount owed at maturity. Interest income from these mortgages and interest expense on the borrowing are recorded using the effective interest rate method.

Private placements, which include corporate loans for which there is no active market, are carried at amortized cost. Realized gains and losses are recorded in income immediately. Impairment losses are recorded on private placements when there is no longer assurance as to the timely collection of the full amount of principal and interest. Impairment is measured based on the discounted value of expected future cash flows at the original effective interest rates inherent in the loans. Significant judgment is applied in the determination of impairment including the timing and amount of future collections.

Policy loans are carried at an amount equal to their unpaid balance. Policy loans are fully collateralized by the cash surrender value of the underlying policies.

Loans to Manulife Bank of Canada (“Manulife Bank” or “Bank”) clients are carried at unpaid principal less allowance for credit losses, if any. Loans to Bank clients are considered impaired when there is objective evidence of impairment as a result of one or more loss events that have occurred after initial recognition, with a negative impact on the estimated future cash flows of a loan.

Once established, allowances for impairment of mortgages, private placements and loans to Bank clients are reversed only if the conditions that caused the impairment no longer exist. Reversals of impairment charges on AFS debt securities are only recognized in income to the extent that increases in fair value can be attributed to events subsequent to the impairment loss being recorded. Impairment losses for AFS equity instruments are not reversed through income. On disposition of an impaired asset, any allowance for impairment is released.

In addition to impairments and provisions for loan losses (recoveries) reported in investment income, the measurement of insurance contract liabilities via the investment return assumptions include expected future credit losses on fixed income investments. Refer to note 8 (d).

Interest income is recognized on debt securities, mortgages, private placements, policy loans and loans to Bank clients as it accrues and is calculated by using the effective interest rate method. Premiums, discounts and transaction costs are amortized over the life of the underlying investment using the effective yield method for all debt securities as well as mortgages and private placements measured at amortized cost.

The Company records purchases and sales of invested assets on a trade date basis, except for loans originated by the Company, which are recognized on a settlement date basis.

Real estate consists of both own use and investment property. Own use property is carried at cost less accumulated depreciation and any accumulated impairment losses. Depreciation is calculated based on the cost of an asset less its residual value and is recognized in income on a straight-line basis over the estimated useful life ranging from 30 to 60 years. Impairment losses are recorded in income to the extent the recoverable amount is less than the carrying amount. Where own use property is included in assets backing insurance contract liabilities, the fair value of own use property is used in the valuation of insurance contract liabilities.

Investment property is property held to earn rental income, for capital appreciation, or both. Investment property is measured at fair value with changes in fair value recognized in income. Fair value is determined using external appraisals that are based on the highest

 

118         Manulife Financial Corporation   2016 Annual Report   Notes to Consolidated Financial Statements


and best use of the property. The valuation techniques used include discounted cash flows, the direct capitalization method as well as comparable sales analysis and include both observable and unobservable inputs. Inputs include existing and assumed tenancies, market data from recent comparable transactions, future economic outlook and market risk assumptions, capitalization rates and internal rates of return. Investment property is classified as Level 3.

Other invested assets include private equity and property investments held in power and infrastructure and timber as well as in agriculture and oil and gas sectors. Private equity investments are accounted for as associates using the equity method (as described in note 1(d) above) or are classified as FVTPL or AFS and carried at fair value. Investments in oil and gas exploration and evaluation costs are measured on a “successful efforts” basis. Timber and agriculture properties are measured at fair value with changes in fair value recognized in income with the exception of bearer plants which are measured at amortized cost (refer to note 2(II)). The fair value of other invested assets is determined using a variety of valuation techniques as described in note 4. Other invested assets that are measured at fair value are classified as Level 3.

Other invested assets also include investments in leveraged leases, which are accounted for using the equity method. The carrying value under the equity method reflects the amortized cost of the lease receivable and related non-recourse debt using the effective yield method.

(f) Goodwill and intangible assets

Goodwill represents the difference between the purchase consideration of an acquired business and the Company’s proportionate share of the net identifiable assets acquired and liabilities and contingent liabilities assumed. It is initially recorded at cost and subsequently measured at cost less any accumulated impairment.

Goodwill is tested for impairment at least annually and whenever events or changes in circumstances indicate that the carrying amounts may not be recoverable at the cash generating unit (“CGU”) or group of CGUs level. The Company allocates goodwill to CGUs or groups of CGUs for the purpose of impairment testing based on the lowest level within the entity in which the goodwill is monitored for internal management purposes. The allocation is made to those CGUs or groups of CGUs that are expected to benefit from the business combination in which the goodwill arose. Any potential impairment of goodwill is identified by comparing the recoverable amount of a CGU or group of CGUs to its carrying value. Goodwill is reduced by the amount of deficiency, if any. If the deficiency exceeds the carrying amount of goodwill, the carrying values of the remaining assets in the CGU or group of CGUs are subject to being reduced by the excess on a pro-rata basis.

The recoverable amount of a CGU is the higher of the estimated fair value less costs to sell or the value-in-use of the CGU. In assessing value-in-use, the estimated future cash flows are discounted using a pre-tax discount rate that reflects current market assessments of the time value of money and the risks specific to the asset. In some cases, the most recent detailed calculation made in a prior period of the recoverable amount of a CGU is used in the testing of impairment of goodwill in the current period. This is the case only if there are no significant changes to the CGU, the likelihood of impairment is remote based on the analysis of current events and circumstances, and the most recent recoverable amount substantially exceeds the carrying amount of the CGU.

Intangible assets with indefinite useful lives include the John Hancock brand name and certain investment management contracts. The indefinite useful life assessment for brand is based on the brand name being protected in markets where branded products are sold by trademarks, which are renewable indefinitely, and for certain investment management contracts due to the ability to renew the contracts indefinitely. In addition, there are no legal, regulatory or contractual provisions that limit the useful lives of these intangible assets. An intangible asset with an indefinite useful life is not amortized but is subject to an annual impairment test which is performed more frequently if there is an indication that it is not recoverable.

Intangible assets with finite useful lives include acquired distribution networks, customer relationships, capitalized software, certain investment management contracts and other contractual rights. Distribution networks, customer relationships, and other finite life intangible assets are amortized over their estimated useful lives, five to 68 years, either based on straight-line or in relation to other asset consumption metrics. Software intangible assets are amortized on a straight-line basis over their estimated useful lives of three to five years. Finite life intangible assets are assessed for indicators of impairment at each reporting period, or more frequently when events or changes in circumstances dictate. If any indication of impairment exists, these assets are subject to an impairment test.

(g) Miscellaneous assets

Miscellaneous assets include assets in a rabbi trust with respect to unfunded defined benefit obligations, deferred acquisition costs, capital assets and defined benefit assets, if any (refer to note 1(o)). Deferred acquisition costs are carried at cost less accumulated amortization. These costs are recognized over the period where redemption fees may be charged or over the period revenue is earned. Capital assets are carried at cost less accumulated amortization computed on a straight-line basis over their estimated useful lives, which vary from two to 10 years.

(h) Segregated funds

The Company manages a number of segregated funds on behalf of policyholders. The investment returns on these funds are passed directly to policyholders. In some cases, the Company has provided guarantees associated with these funds.

Segregated funds net assets are measured at fair value and primarily include investments in mutual funds, debt securities, equities, real estate, short-term investments and cash and cash equivalents. With respect to the consolidation requirement of IFRS, in assessing the Company’s degree of control over the underlying investments, the Company considers the scope of its decision making rights, the

 

Notes to Consolidated Financial Statements   Manulife Financial Corporation   2016 Annual Report        119


rights held by other parties, its remuneration as an investment manager and its exposure to variability of returns. The Company has determined that it does not have control over the underlying investments as it acts as an agent on behalf of segregated fund policyholders.

The methodology applied to determine the fair value of investments held in segregated funds is consistent with that applied to invested assets held by the general fund, as described above in note 1(e). Segregated funds net liabilities are measured based on the value of the segregated funds net assets. Investment returns on segregated fund assets belong to policyholders and the Company does not bear the risk associated with these assets outside of guarantees offered on certain variable life and annuity products, for which the underlying investments are held within segregated funds. Accordingly, investment income earned by segregated funds and expenses incurred by segregated funds are offset and are not separately presented in the Consolidated Statements of Income. Fee income earned by the Company for managing the segregated funds is included in other revenue. Refer to note 22.

Liabilities related to guarantees associated with certain funds, as a result of certain variable life and annuity contracts, are recorded within the Company’s insurance contract liabilities. The Company holds assets supporting these guarantees which are recognized in invested assets according to their investment type.

(i) Insurance and investment contract liabilities

Most contracts issued by the Company are considered insurance, investment or service contracts. Contracts under which the Company accepts significant insurance risk from a policyholder are classified as insurance contracts in the Consolidated Financial Statements. A contract is considered to have significant insurance risk if, and only if, an insured event could cause an insurer to make significant additional payments in any scenario, excluding scenarios that lack commercial substance at the inception of the contract. Contracts under which the Company does not accept significant insurance risk are either classified as investment contracts or considered service contracts and are accounted for in accordance with IAS 39Financial Instruments: Recognition and Measurement or IAS 18 “Revenue”, respectively.

Once a contract has been classified as an insurance contract it remains an insurance contract even if the insurance risk reduces significantly. Investment contracts can be reclassified as insurance contracts if insurance risk subsequently becomes significant.

Insurance contract liabilities, net of reinsurance assets, represent the amount which, together with estimated future premiums and net investment income, will be sufficient to pay estimated future benefits, policyholder dividends and refunds, taxes (other than income taxes) and expenses on policies in-force. Insurance contract liabilities are presented gross of reinsurance assets on the Consolidated Statements of Financial Position. The Company’s Appointed Actuary is responsible for determining the amount of insurance contract liabilities in accordance with standards established by the Canadian Institute of Actuaries. Insurance contract liabilities, net of reinsurance assets, have been determined using Canadian Asset Liability Method (“CALM”) as permitted by IFRS 4 “Insurance Contracts”. Refer to note 8.

Investment contract liabilities include contracts issued to retail and institutional investors that do not contain significant insurance risk. Investment contract liabilities and deposits are measured at amortized cost or at fair value by election. The election only reduces accounting mismatches between the assets supporting the contracts and the liabilities. The liability is derecognized when the contract expires, is discharged or is cancelled.

Derivatives embedded within insurance contracts are separated if they are not considered to be closely related to the host insurance contract and do not meet the definition of an insurance contract. These embedded derivatives are presented separately in other assets or other liabilities and are measured at fair value with changes in fair value recognized in income.

(j) Reinsurance assets

The Company uses reinsurance in the normal course of business to manage its risk exposure. Insurance ceded to a reinsurer does not relieve the Company from its obligations to policyholders. The Company remains liable to its policyholders for the portion reinsured to the extent that any reinsurer does not meet its obligations for reinsurance ceded to it under a reinsurance agreement.

Reinsurance assets represent the benefit derived from reinsurance agreements in-force at the reporting date, taking into account the financial condition of the reinsurer. Amounts recoverable from reinsurers are estimated in accordance with the terms of the relevant reinsurance contract.

Gains or losses on reinsurance transactions are recognized in income immediately on the transaction date and are not amortized. Premiums ceded and claims reimbursed are presented on a gross basis on the Consolidated Statements of Income. Reinsurance assets are not offset against the related insurance contract liabilities and are presented separately on the Consolidated Statements of Financial Position. Refer to note 8(a).

(k) Other financial instruments accounted for as liabilities

The Company issues a variety of other financial instruments classified as liabilities, including notes payable, term notes, senior notes, senior debentures, subordinated notes, surplus notes, subscription receipts and preferred shares. These financial liabilities are measured at amortized cost, with issuance costs deferred and amortized using the effective interest rate method.

(l) Income taxes

The provision for income taxes is calculated based on income tax laws and income tax rates substantively enacted as at the date of the Consolidated Statements of Financial Position. The income tax provision is comprised of current income taxes and deferred income taxes. Current and deferred income taxes relating to items recognized in OCI and directly in equity are similarly recognized in OCI and directly in equity, respectively.

 

120         Manulife Financial Corporation   2016 Annual Report   Notes to Consolidated Financial Statements


Current income taxes are amounts expected to be payable or recoverable as a result of operations in the current year and any adjustments to taxes payable in respect of previous years.

Deferred income taxes are provided for using the liability method and result from temporary differences between the carrying values of assets and liabilities and their respective tax bases. Deferred income taxes are measured at the substantively enacted tax rates that are expected to be applied to temporary differences when they reverse.

A deferred tax asset is recognized to the extent that future realization of the tax benefit is probable. Deferred tax assets are reviewed at each reporting date and are reduced to the extent that it is no longer probable that the tax benefit will be realized. Deferred tax assets and liabilities are offset if there is a legally enforceable right to offset current tax liabilities and assets and they relate to income taxes levied by the same tax authority on the same taxable entity.

Deferred tax liabilities are recognized for all taxable temporary differences, except in respect of taxable temporary differences associated with investments in subsidiaries and associates, where the timing of the reversal of the temporary differences can be controlled and it is probable that the temporary differences will not reverse in the foreseeable future.

The Company records provisions for uncertain tax positions if it is probable that the Company will make a payment on tax positions as a result of examinations by the tax authorities. These provisions are measured at the Company’s best estimate of the amount expected to be paid. Provisions are reversed to income in the period in which management assesses they are no longer required or determined by statute.

The Company is subject to income tax laws in various jurisdictions. Tax laws are complex and potentially subject to different interpretations by the taxpayer and the relevant tax authority. The provision for income taxes and deferred income taxes represents 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 year. The Company may be required to change its provision for income taxes or deferred income tax balances when the ultimate deductibility of certain items is successfully challenged by taxing authorities, or if estimates used in determining the amount of deferred tax asset to recognize change significantly, or when receipt of new information indicates the need for adjustment in the amount of deferred income taxes to be recognized. Additionally, future events, such as changes in tax laws, tax regulations, or interpretations of such laws or regulations, could have an impact on the provision for income taxes, deferred tax balances and the effective tax rate. Any such changes could materially affect the amounts reported in the Consolidated Financial Statements in the period these changes occur.

(m) Foreign currency translation

Items included in the financial statements of each of the Company’s subsidiaries are measured using the currency of the primary economic environment in which the entity operates (the “functional currency”).

Transactions in a foreign currency are translated to the functional currency at the exchange rate prevailing at the date of the transaction. Assets and liabilities denominated in foreign currencies are translated to the functional currency at the exchange rate in effect at the reporting date. Revenue and expenses denominated in foreign currencies are translated at the average exchange rate prevailing during the quarter reported. Exchange gains and losses are recognized in income with the exception of translation of net investments in foreign operations and the results of hedging these positions. These foreign exchange gains and losses are recognized in OCI until such time that the foreign operation is disposed of or control or significant influence over it is lost.

(n) Stock-based compensation

The Company provides stock-based compensation to certain employees and directors as described in note 15. Compensation expense of equity instruments is accrued based on the best estimate of the number of instruments expected to vest, with revisions made to that estimate if subsequent information indicates that actual forfeitures are likely to differ from initial estimates, unless forfeitures are due to market-based conditions.

Stock options are expensed with a corresponding increase in contributed surplus. Restricted share units, special restricted share units and deferred share units are expensed with a corresponding liability accrued based on the market value of MFC’s common shares at the end of each quarter. Performance share units are expensed with a corresponding liability accrued based on specific performance conditions and the market value of MFC’s common shares. The change in the value of the awards resulting from changes in the market value of the Company’s common shares or changes in the specific performance conditions and credited dividends is recognized in income, offset by the impact of total return swaps used to manage the variability of the related liability.

Stock-based compensation cost is recognized over the applicable vesting period, except if the employee is eligible to retire at the time of grant or will be eligible to retire during the vesting period. Compensation cost, attributable to stock options and restricted share units granted to employees who are eligible to retire on the grant date or who will become eligible to retire during the vesting period, is recognized over the period from the grant date to the date of retirement eligibility.

Contributions to the Global Share Ownership Plan (“GSOP”) (refer to note 15(d)), are expensed as incurred. Under the GSOP, subject to certain conditions, the Company will match a percentage of an employee’s eligible contributions to certain maximums. All contributions are used by the plan’s trustee to purchase MFC common shares in the open market.

(o) Employee future benefits

The Company maintains defined contribution and defined benefit pension plans and other post-employment plans for employees and agents including registered (tax qualified) pension plans that are typically funded as well as supplemental non-registered (non-qualified) pension plans for executives, retiree welfare plans and disability welfare plans that are typically not funded.

 

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The Company’s obligation in respect of defined benefit pension and other post-employment benefits is calculated for each plan as the estimated present value of the future benefits that eligible employees have earned in return for their service up to the reporting date using the projected benefit method. The discount rate used is based on the yield at the reporting date on high quality corporate debt securities that have approximately the same term as the obligations and that are denominated in the same currency in which the benefits are expected to be paid.

To determine the Company’s net defined benefit asset or liability, the fair value of plan assets are deducted from the defined benefit obligations. When this calculation results in a surplus, the asset that can be recognized is limited to the present value of future economic benefit available in the form of future refunds from the plan or reductions in future contributions to the plan (the asset limit).

Defined benefit assets are included in other assets and defined benefit liabilities are included in other liabilities. The net benefit cost for the year is recognized in income and is calculated as the sum of the service cost in respect of the fiscal year, the net interest income or expense and any applicable administration expenses, plus past service costs or credits resulting from plan amendments or curtailments. The net interest income or expense is determined by applying the discount rate to the net defined benefit asset or liability. Changes in the net defined benefit asset or liability due to re-measurement of pension and retiree welfare plans are recorded in OCI in the period in which they occur and are not reclassified to income in subsequent periods. They consist of actuarial gains and losses, the impact of the asset limit if any, and the return on plan assets, excluding amounts included in net interest income or expense. Changes in the net defined benefit asset or liability due to re-measurement of disability welfare plans are recognized in income in the period in which they occur.

The cost of defined contribution plans is the contribution provided by the Company and is recognized in income in the periods during which services are rendered by employees.

The cost of retiree welfare plans is recognized in income over the employees’ years of service to their dates of full entitlement.

The current year cost of disability welfare plans is the year-over-year change in the defined benefit obligation, including any actuarial gains or losses.

(p) Derivative and hedging instruments

The Company uses derivative financial instruments (“derivatives”) including swaps, forward and futures agreements, and options to manage current and anticipated exposures to changes in interest rates, foreign exchange rates, commodity prices and equity market prices, and to replicate permissible investments. Derivatives embedded in other financial instruments (“host instruments”) are separately recorded as derivatives when their economic characteristics and risks are not closely related to those of the host instrument, the terms of the embedded derivative are the same as those of a standalone derivative and the host instrument itself is not recorded at FVTPL. Derivatives are recorded at fair value. Derivatives with unrealized gains are reported as derivative assets and derivatives with unrealized losses are reported as derivative liabilities.

A determination is made for each derivative as to whether to apply hedge accounting. Where hedge accounting is not applied, changes in the fair value of derivatives are recorded in investment income. Refer to note 4.

Where the Company has elected to apply hedge accounting, a hedging relationship is designated and documented at inception. Hedge effectiveness is evaluated at inception and throughout the term of the hedge and hedge accounting is only applied when the Company expects that the hedging relationship will be highly effective in achieving offsetting changes in fair value or changes in cash flows attributable to the risk being hedged. The assessment of hedge effectiveness is performed at the end of each reporting period both prospectively and retrospectively. When it is determined that a hedging relationship is no longer effective, or the hedging instrument or the hedged item has been sold or terminated, the Company discontinues hedge accounting prospectively. In such cases, if the derivatives are not sold or terminated, any subsequent changes in fair value of the derivatives are recognized in investment income.

For derivatives that are designated as hedging instruments, changes in fair value are recognized according to the nature of the risks being hedged, as discussed below.

In a fair value hedging relationship, changes in the fair value of the hedging derivatives are recorded in investment income, along with changes in fair value attributable to the hedged risk. The carrying value of the hedged item is adjusted for changes in fair value attributable to the hedged risk. To the extent the changes in the fair value of derivatives do not offset the changes in the fair value of the hedged item attributable to the hedged risk in investment income, any ineffectiveness will remain in investment income. When hedge accounting is discontinued, the carrying value of the hedged item is no longer adjusted and the cumulative fair value adjustments are amortized to investment income over the remaining term of the hedged item unless the hedged item is sold, at which time the balance is recognized immediately in investment income.

In a cash flow hedging relationship, the effective portion of the changes in the fair value of the hedging instrument is recorded in OCI while the ineffective portion is recognized in investment income. Gains and losses accumulated in OCI are recognized in income during the same periods as the variability in the cash flows hedged or the hedged forecasted transactions are recognized in income. The reclassifications from accumulated other comprehensive income (“AOCI”) are made to investment income, with the exception of total return swaps that hedge restricted share units, which are reclassified to general expenses.

Gains and losses on cash flow hedges accumulated in OCI are reclassified immediately to investment income when the hedged item is sold or the forecasted transaction is no longer expected to occur. When a hedge is discontinued, but the hedged forecasted

 

122         Manulife Financial Corporation   2016 Annual Report   Notes to Consolidated Financial Statements


transaction remains highly probable to occur, the amounts accumulated in OCI are reclassified to investment income in the periods during which variability in the cash flows hedged or the hedged forecasted transaction is recognized in income.

In a net investment hedging relationship, the gains and losses relating to the effective portion of the hedge are recorded in OCI. Gains and losses in AOCI are recognized in income during the periods when gains or losses on the underlying hedged net investment in foreign operations are recognized in income.

(q) Premium income and related expenses

Gross premiums for all types of insurance contracts, and contracts with limited mortality or morbidity risk, are generally recognized as revenue when due. Premiums are reported gross of reinsurance ceded (refer to note 8). Revenue on service contracts is recognized as services are rendered.

Expenses are recognized when incurred. Insurance contract liabilities are computed at the end of each year, resulting in benefits and expenses being matched with the premium income.

Note 2    Accounting and Reporting Changes

(a) Changes in accounting policy

(I) Amendments to IAS 16 “Property, Plant and Equipment” and IAS 38 “Intangible Assets”

Effective January 1, 2016, the Company adopted the amendments issued in May 2014 to IAS 16 “Property, Plant and Equipment” and IAS 38 “Intangible Assets”. These amendments were applied prospectively. The amendments clarified that depreciation or amortization of assets accounted for under these two standards should reflect a pattern of consumption of the assets rather than reflect economic benefits expected to be generated from the assets. Adoption of these amendments did not have a significant impact on the Company’s Consolidated Financial Statements.

(II) Amendments to IAS 41 “Agriculture” and IAS 16 “Property, Plant and Equipment”

Effective January 1, 2016, the Company adopted the amendments issued in June 2014 to IAS 41 “Agriculture” and IAS 16 “Property, Plant and Equipment”. These amendments were applied retrospectively. These amendments require that “bearer plants” (that is, plants used in the production of agricultural produce and not intended to be sold as a living plant except for incidental scrap sales) should be considered as property, plant and equipment in the scope of IAS 16 and should be measured either at amortized cost or revalued amount with changes recognized in OCI. Previously these plants were in the scope of IAS 41 and were measured at fair value less cost to sell. These amendments only apply to the accounting requirements of a bearer plant and not agricultural land properties. The Company chose to carry bearer plants at amortized cost. Adoption of these amendments did not have a significant impact on the Company’s Consolidated Financial Statements.

(III) Amendments to IFRS 10 “Consolidated Financial Statements”, IFRS 12 “Disclosure of Interests in Other Entities”, and IAS 28 “Investments in Associates and Joint Ventures”

Effective January 1, 2016, the Company adopted the amendments issued in December 2014 to IFRS 10 “Consolidated Financial Statements”, IFRS 12 “Disclosure of Interests in Other Entities”, and IAS 28 “Investments in Associates and Joint Ventures”. These amendments were applied retrospectively. The amendments clarify the requirements when applying the investment entities consolidation exception. Adoption of these amendments did not have a significant impact on the Company’s Consolidated Financial Statements.

(b) Future accounting and reporting changes

(I) Annual Improvements 2014–2016 Cycle

Annual Improvements 2014-2016 Cycle were issued in December 2016 resulting in minor amendments to three standards and are effective for the Company starting January 1, 2017. While the Company is assessing the impact of these amendments, adoption of these amendments is not expected to have a significant impact on the Company’s Consolidated Financial Statements.

(II) IFRS 16 “Leases”

IFRS 16 “Leases” was issued in January 2016 and is effective for years beginning on or after January 1, 2019, to be applied retrospectively or on a modified retrospective basis. It will replace IAS 17 “Leases” and IFRIC 4 “Determining whether an arrangement contains a lease”. IFRS 16 sets out the principles for the recognition, measurement, presentation and disclosure of leases for both parties to a contract, the customer (“lessee”) and the supplier (“lessor”). The standard brings most leases on-balance sheet for lessees under a single model, eliminating the previous classifications of operating and finance leases. Exemptions to this treatment are for lease contracts with low value assets or leases with duration of less than one year. The on-balance sheet treatment will result in the grossing up of the balance sheet due to right-of-use assets being recognized with offsetting liabilities. Lessor accounting will remain largely unchanged with previous classifications of operating and finance leases being maintained. The Company is assessing the impact of this standard.

(III) Amendments to IAS 7 “Statement of Cash Flows”

Amendments to IAS 7 “Statement of Cash Flows” were issued in January 2016 and are effective for annual periods beginning on or after January 1, 2017, to be applied prospectively. These amendments require companies to provide information about changes in their financing liabilities. Adoption of these amendments is not expected to have a significant impact on the Company’s Consolidated Financial Statements.

 

Notes to Consolidated Financial Statements   Manulife Financial Corporation   2016 Annual Report        123


(IV) IFRIC 22 “Foreign Currency Transactions and Advance Consideration“

IFRIC 22 “Foreign Currency Transactions and Advance Consideration” was issued in December 2016 and will be effective for annual periods beginning on or after January 1, 2018 and may be applied retrospectively or prospectively. IFRIC 22 addresses which foreign exchange rate to use to measure a foreign currency transaction when advance payments are made or received and non-monetary assets or liabilities are recognized prior to recognition of the underlying transaction. IFRIC 22 does not relate to goods or services accounted for at fair value or at the fair value of consideration paid or received at a date other than the date of initial recognition of the non-monetary asset or liability, or to income taxes, insurance contracts or reinsurance contracts. The foreign exchange rate on the day of the advance payment is used to measure the foreign currency transaction. If multiple advance payments are made or received, each payment is measured separately. The Company is assessing the impact of this standard.

(V) IFRS 9 “Financial Instruments”

IFRS 9 “Financial Instruments” was issued in November 2009 and amended in October 2010, November 2013 and July 2014, and is effective for years beginning on or after January 1, 2018, to be applied retrospectively, or on a modified retrospective basis. It is intended to replace IAS 39 “Financial Instruments: Recognition and Measurement”.

The project has been divided into three phases: classification and measurement, impairment of financial assets, and hedge accounting. IFRS 9’s current classification and measurement methodology provides that financial assets are measured at either amortized cost or fair value on the basis of the entity’s business model for managing the financial assets and the contractual cash flow characteristics of the financial assets. The classification and measurement for financial liabilities remains generally unchanged; however, for a financial liability designated as at fair value through profit or loss, revisions have been made in the accounting for changes in fair value attributable to changes in the credit risk of that liability. Gains or losses caused by changes in an entity’s own credit risk on such liabilities are no longer recognized in profit or loss but instead are reflected in OCI.

Revisions to hedge accounting were issued in November 2013 as part of the overall IFRS 9 project. The amendment introduces a new hedge accounting model, together with corresponding disclosures about risk management activity for those applying hedge accounting. The new model represents a substantial overhaul of hedge accounting that will enable entities to better reflect their risk management activities in their financial statements.

Revisions issued in July 2014 replace the existing incurred loss model used for measuring the allowance for credit losses with an expected loss model. Changes were also made to the existing classification and measurement model designed primarily to address specific application issues raised by early adopters of the standard. They also address the income statement accounting mismatches and short-term volatility issues which have been identified as a result of the insurance contracts project.

The Company expects to defer IFRS 9 until January 1, 2021, as allowed under the amendments to IFRS 4 “Insurance Contracts” outlined below.

(VI) Amendments to IFRS 4 “Insurance Contracts”

Amendments to IFRS 4 “Insurance Contracts” were issued in September 2016, which will be effective for annual periods beginning on or after January 1, 2018. The amendments introduce two approaches to address concerns about the differing effective dates of IFRS 9 “Financial Instruments” and the forthcoming new insurance contracts standard: the overlay approach and the deferral approach. The overlay approach provides an option for all issuers of insurance contracts to adjust profit or loss for eligible financial assets by removing any additional accounting volatility that may arise from applying IFRS 9 before the new insurance contracts standard. The deferral approach provides companies whose activities are predominantly related to insurance an optional temporary exemption from applying IFRS 9 until January 1, 2021. The Company expects to defer IFRS 9 until January 1, 2021.

(VII) Amendments to IAS 12 “Income Taxes”

Amendments to IAS 12 “Income Taxes” were issued in January 2016 and are effective for years beginning on or after January 1, 2017, to be applied retrospectively. The amendments clarify recognition of deferred tax assets relating to unrealized losses on debt instruments measured at fair value. A deductible temporary difference arises when the carrying amount of the debt instrument measured at fair value is less than the cost for tax purposes, irrespective of whether the debt instrument is held for sale or held to maturity. The recognition of the deferred tax asset that arises from this deductible temporary difference is considered in combination with other deferred taxes applying local tax law restrictions where applicable. In addition, when estimating future taxable profits, consideration can be given to recovering more than the asset’s carrying amount where probable. Adoption of these amendments is not expected to have a significant impact on the Company’s Consolidated Financial Statements.

(VIII) Amendments to IFRS 2 “Share-Based Payment”

Amendments to IFRS 2 “Share-Based Payment” were issued in June 2016 and are effective for annual periods beginning on or after January 1, 2018, to be applied prospectively. The amendments clarify the effects of vesting and non-vesting conditions on the measurement of cash-settled share-based payments; provide guidance on the classification of share-based payment transactions with net settlement features for withholding tax obligations; and clarify accounting for modification to the terms and conditions of a share-based payment that changes the classification of the transaction from cash-settled to equity-settled. Adoption of these amendments is not expected to have a significant impact on the Company’s Consolidated Financial Statements.

 

124         Manulife Financial Corporation   2016 Annual Report   Notes to Consolidated Financial Statements


(IX) IFRS 15 “Revenue from Contracts with Customers”

IFRS 15 “Revenue from Contracts with Customers” was issued in May 2014 and replaces IAS 11 “Construction Contracts”, IAS 18 “Revenue” and several interpretations. Amendments to IFRS 15 were issued in April 2016. IFRS 15 as amended is effective for annual periods beginning on or after January 1, 2018, to be applied as described below.

IFRS 15 clarifies revenue recognition principles, provides a robust framework for recognizing revenue and cash flows arising from contracts with customers and enhances qualitative and quantitative disclosure requirements. IFRS 15 does not apply to insurance contracts, financial instruments and lease contracts. Accordingly, the adoption of IFRS 15 may impact the revenue recognition related to the Company’s asset management and service contracts and may result in additional financial statement disclosure.

The amendments clarify when a promised good or service is separately identifiable from other promises in a contract; provide clarifications on how to apply the principal versus agent application guidance; and provide clarifications on how an entity will evaluate the nature of a promise to grant a license of intellectual property to determine whether the promise is satisfied over time or at a point in time.

The amendments provide two practical expedients to alleviate transition burden. An entity that uses the full retrospective approach may apply IFRS 15 only to contracts that are not completed as at the beginning of the earliest period presented. An entity may determine the aggregate effect of all of the modifications that occurred between contract inception and the earliest date presented, rather than accounting for the effects of each modification separately. The Company is assessing the impact of this standard.

Note 3    Acquisitions and Distribution Agreement

(a) Mandatory Provident Fund businesses of Standard Chartered

On November 1, 2016, the Company completed its acquisition of Standard Chartered’s Mandatory Provident Fund (“MPF”) and Occupational Retirement Schemes Ordinance (“ORSO”) businesses in Hong Kong, and the related investment management entity. In addition, on November 1, 2016, the Company commenced its 15 year exclusive distribution partnership with Standard Chartered. These arrangements significantly expand Manulife’s retirement business in Hong Kong. Total consideration of $392 was paid in cash.

(b) Distribution agreement with DBS Bank Ltd (“DBS”)

Effective January 1, 2016, the Company entered into a 15-year regional distribution agreement with DBS covering Singapore, Hong Kong, mainland China and Indonesia. The arrangement expands the Company’s strategy for growth in Asia. The Company recognized $536 of distribution network intangible assets on the agreement’s effective date.

(c) Canadian-based operations of Standard Life plc

On January 30, 2015, the Company completed its acquisition of 100 per cent of the shares of Standard Life Financial Inc. and of Standard Life Investments Inc., collectively the Canadian-based operations of Standard Life plc (“Standard Life”). The acquisition contributes to the Company’s growth strategy, particularly in wealth and asset management.

The purchase consideration of $4 billion was paid in cash. The Company recognized $1,477 of tangible net assets, $1,010 of intangible assets, and $1,513 of goodwill.

(d) Retirement plan services business of New York Life

On April 14, 2015, the Company completed its acquisition of New York Life’s (“NYL”) Retirement Plan Services (“RPS”) business. The acquisition of the NYL RPS business supports Manulife’s global growth strategy for wealth and asset management businesses.

The purchase consideration of $787 included conventional financial consideration of $398 plus $389 of net impact of the assumption by NYL of the Company’s in-force participating life insurance closed block (“Closed Block”) through net 60% reinsurance agreements, effective July 1, 2015. The Company recognized $128 of intangible assets and $659 of goodwill. Finalization of the purchase price allocation in 2016 did not result in significant changes to amounts recognized.

 

Notes to Consolidated Financial Statements   Manulife Financial Corporation   2016 Annual Report        125


Note 4    Invested Assets and Investment Income

(a) Carrying values and fair values of invested assets

 

As at December 31, 2016    FVTPL(1)      AFS(2)      Other(3)      Total carrying
value
     Total  fair
value(9)
 

Cash and short-term securities(4)

   $ 269       $ 11,705       $ 3,177       $ 15,151       $ 15,151   

Debt securities(5)

              

Canadian government and agency

     18,030         6,715                 24,745         24,745   

U.S. government and agency

     13,971         13,333                 27,304         27,304   

Other government and agency

     18,629         2,312                 20,941         20,941   

Corporate

     87,374         5,041                 92,415         92,415   

Mortgage/asset-backed securities

     2,886         331                 3,217         3,217   

Public equities

     16,531         2,965                 19,496         19,496   

Mortgages

                     44,193         44,193         45,665   

Private placements

                     29,729         29,729         31,459   

Policy loans

                     6,041         6,041         6,041   

Loans to Bank clients

                     1,745         1,745         1,746   

Real estate

              

Own use property(6)

                     1,376         1,376         2,524   

Investment property

                     12,756         12,756         12,756   

Other invested assets

              

Alternative long-duration assets(7)

     10,707         96         8,048         18,851         19,193   

Various other (8)

     164                 3,745         3,909         3,910   

Total invested assets

   $   168,561       $   42,498       $   110,810       $   321,869       $   326,563   
As at December 31, 2015      FVTPL(1)         AFS(2)         Other(3)        
 
Total carrying
value
  
  
    
 
Total fair
value(9)
  
  

Cash and short-term securities(4)

   $ 574       $ 13,548       $ 3,763       $ 17,885       $ 17,885   

Debt securities(5)

              

Canadian government and agency

     16,965         4,318                 21,283         21,283   

U.S. government and agency

     15,964         12,688                 28,652         28,652   

Other government and agency

     17,895         1,688                 19,583         19,583   

Corporate

     80,269         4,925                 85,194         85,194   

Mortgage/asset-backed securities

     2,797         318                 3,115         3,115   

Public equities

     14,689         2,294                 16,983         16,983   

Mortgages

                     43,818         43,818         45,307   

Private placements

                     27,578         27,578         29,003   

Policy loans

                     5,912         5,912         5,912   

Loans to Bank clients

                     1,778         1,778         1,782   

Real estate

              

Own use property(6)

                     1,379         1,379         2,457   

Investment property

                     13,968         13,968         13,968   

Other invested assets

              

Alternative long-duration assets(7)

     8,952         76         7,253         16,281         16,261   

Various other (8)

     163                 3,934         4,097         4,097   

Total invested assets

   $ 158,268       $ 39,855       $ 109,383       $ 307,506       $ 311,482   

 

(1) 

The FVTPL classification was elected for securities backing insurance contract liabilities in order to substantially reduce any accounting mismatch arising from changes in the value of these assets and changes in the value of the related insurance contract liabilities. There would otherwise be a mismatch if the available-for-sale (“AFS”) classification was selected because changes in insurance contract liabilities are recognized in net income rather than in OCI.

(2) 

Securities that are designated as AFS are not actively traded by the Company but sales do occur as circumstances warrant. Such sales result in a reclassification of any accumulated unrealized gain (loss) in AOCI to net income as a realized gain (loss).

(3) 

Primarily includes assets classified as loans and carried at amortized cost, own use property, investment property, equity method accounted investments, oil and gas investments, and leveraged leases. Refer to note 1(e) for further details regarding accounting policy.

(4) 

Includes short-term securities with maturities of less than one year at acquisition amounting to $3,111 (2015 – $4,796) cash equivalents with maturities of less than 90 days at acquisition amounting to $8,863 (2015 – $9,326) and cash of $3,177 (2015 – $3,763).

(5) 

Debt securities include securities which were acquired with maturities of less than one year and less than 90 days of $893 and $192, respectively (2015 – $905 and $39, respectively).

(6) 

Includes accumulated depreciation of $404 (2015 – $366).

(7) 

Includes investments in private equity of $4,619, power and infrastructure of $6,679, oil and gas of $2,093, timber and agriculture of $4,972 and various other invested assets of $487 (2015 – $3,754, $5,260, $1,740, $5,092 and $435, respectively).

(8) 

Includes $3,368 (2015 – $3,549) of leveraged leases. Refer to note 1(e) regarding accounting policy.

(9) 

The methodologies for determining fair value of the Company’s invested assets are described in note 1 and note 4(g).

 

126         Manulife Financial Corporation   2016 Annual Report   Notes to Consolidated Financial Statements


(b) Other invested assets

Other invested assets include investments in associates and joint ventures which were accounted for using the equity method of accounting as follows.

 

     2016            2015  
As at December 31,    Carrying
value
     % of total            Carrying
value
    % of total  

Leveraged leases

   $   3,369         58         $   3,549        70   

Timber and agriculture

     430         8           423        9   

Real estate

     419         7           370        7   

Other

     1,562         27           714        14   

Total

   $ 5,780         100         $ 5,056        100   

The Company’s share of profit and dividends from these investments for the year ended December 31, 2016 were $252 and $17, respectively (2015 – $23 and $14, respectively).

(c) Investment income

 

For the year ended December 31, 2016    FVTPL      AFS      Other(1)      Total      Yields(2)  

Cash and short-term securities

                 0.7%   

Interest income

   $ 7       $ 117       $       $ 124      

Gains (losses)(3)

     18         (18                   

Debt securities

                 4.7%   

Interest income

        5,051         588                 5,639      

Gains (losses)(3)

     1,658         548                 2,206      

Recovery (impairment loss), net

     (18                      (18   

Public equities

                 10.6%   

Dividend income

     534         58                 592      

Gains (losses)(3)

     1,008         201                 1,209      

Impairment loss

             (48              (48   

Mortgages

                 4.1%   

Interest income

                     1,667         1,667      

Gains (losses)(3)

                     81         81      

Provision, net

                     (7      (7   

Private placements

                 5.4%   

Interest income

                     1,494         1,494      

Gains (losses)(3)

                     17         17      

Impairment loss, net

                     (50      (50   

Policy loans

                     358         358         6.1%   

Loans to Bank clients

                 3.9%   

Interest income

                     68         68      

Real estate

                 4.9%   

Rental income, net of depreciation(4)

                     523         523      

Gains (losses)(3)

                     160         160      

Derivatives

                 n/a   

Interest income, net

     1,115                 (33      1,082      

Gains (losses)(3)

     (2,597                      (2,597   

Other invested assets

                 10.3%   

Interest income

                     103         103      

Oil and gas, timber, agriculture and other income

                     1,162         1,162      

Gains (losses)(3)

     634         1         207         842      

Impairment loss, net

                     (83      (83         

Total investment income

   $ 7,410       $ 1,447       $ 5,667       $ 14,524         4.7%   

Investment income

              

Interest income

   $   6,173       $ 703       $ 3,657       $ 10,533         3.4%   

Dividend, rental and other income

     534         58         1,685         2,277         0.7%   

Impairments and provisions for loan losses

     (18      (48      (140      (206      (0.1%

Other

     (6      707         85         786         0.2%   
       6,683         1,420         5,287         13,390      

Realized and unrealized gains (losses) on assets supporting insurance and investment contract liabilities and on macro equity hedges

              

Debt securities

     1,657         5                 1,662         0.5%   

Public equities

     963         22                 985         0.3%   

Mortgages

                     80         80         0.0%   

Private placements

                     12         12         0.0%   

Real estate

                     128         128         0.0%   

Other invested assets

     688                 160         848         0.3%   

Derivatives, including macro equity hedging program

     (2,581                      (2,581      (0.8%
       727         27         380         1,134            

Total investment income

   $ 7,410       $   1,447       $   5,667       $   14,524         4.7%   

 

Notes to Consolidated Financial Statements   Manulife Financial Corporation   2016 Annual Report        127


For the year ended December 31, 2015    FVTPL      AFS      Other(1)      Total      Yields(2)  

Cash and short-term securities

                 1.8%   

Interest income

   $ 10       $ 92       $       $ 102      

Gains (losses)(3)

     (13      220                 207      

Debt securities

                 1.0%   

Interest income

     4,849         529                 5,378      

Gains (losses)(3)

     (3,969      106                 (3,863   

Recovery (impairment loss), net

     (13      4                 (9   

Public equities

                 1.0%   

Dividend income

     434         59                 493      

Gains (losses)(3)

     (551      257                 (294   

Impairment loss

             (32              (32   

Mortgages

                 4.7%   

Interest income

                     1,758         1,758      

Gains (losses)(3)

                     279         279      

Private placements

                 5.6%   

Interest income

                     1,375         1,375      

Gains (losses)(3)

                     97         97      

Impairment loss, net

                     (37      (37   

Policy loans

                     388         388         6.1%   

Loans to Bank clients

                 3.9%   

Interest income

                     69         69      

Provision, net

                     (1      (1   

Real estate

                 11.5%   

Rental income, net of depreciation(4)

                     509         509      

Gains (losses)(3)

                     946         946      

Derivatives

                 n/a   

Interest income, net

     964                 (32      932      

Gains (losses)(3)

     (394              (118      (512   

Other invested assets

                 3.4%   

Interest income

                     112         112      

Oil and gas, timber, agriculture and other income

                     891         891      

Gains (losses)(3)

     111         3         55         169      

Impairment loss, net

     (3              (551      (554         

Total investment income

   $ 1,425       $ 1,238       $ 5,740       $ 8,403         2.9%   

Investment income

              

Interest income

   $ 5,823       $ 621       $ 3,670       $   10,114         3.4%   

Dividend, rental and other income

     434         59         1,400         1,893         0.6%   

Impairments and provisions for loan losses

     (16      (28      (589      (633      (0.2%

Other

     (376      549         (82      91         0.0%   
       5,865         1,201         4,399         11,465      

Realized and unrealized gains (losses) on assets supporting insurance and investment contract liabilities and on macro equity hedges

              

Debt securities

     (3,969      12                 (3,957      (1.3%

Public equities

     (538      25                 (513      (0.2%

Mortgages

                     278         278         0.1%   

Private placements

                     95         95         0.0%   

Real estate

                     980         980         0.3%   

Other invested assets

     249                 106         355         0.1%   

Derivatives, including macro equity hedging program

     (182              (118      (300      (0.1%
       (4,440      37         1,341         (3,062         

Total investment income

   $    1,425       $   1,238       $   5,740       $ 8,403         2.9%   

 

(1) 

Primarily includes assets classified as loans and carried at amortized cost, own use property, investment property, derivative and hedging instruments in cash flow hedging relationships, equity method accounted investments, oil and gas investments, and leveraged leases.

(2) 

Yields are based on income and are calculated using the geometric average of assets held at carrying value during the reporting year.

(3) 

Includes net realized gains (losses) as well as net unrealized gains (losses) for financial instruments at FVTPL, real estate investment properties, and other invested assets measured at fair value. Also includes net realized gains (losses) for financial instruments at AFS and other invested assets carried at amortized cost.

(4) 

Rental income from investment properties is net of direct operating expenses and includes net market rental income on own use properties.

 

128         Manulife Financial Corporation   2016 Annual Report   Notes to Consolidated Financial Statements


(d) Investment expenses

The following table presents total investment expenses of the Company.

 

For the years ended December 31,    2016      2015  

Related to invested assets

   $ 581       $ 572   

Related to segregated, mutual and other funds

     1,065         1,043   

Total investment expenses

   $   1,646       $   1,615   

(e) Investment properties

The following table identifies the amounts included in investment income relating to investment properties.

 

For the years ended December 31,    2016      2015  

Rental income from investment properties

   $   1,204       $    1,164   

Direct operating expenses of investment properties that generated rental income

     (764      (719

Total

   $ 440       $ 445   

(f) Mortgage securitization

The Company securitizes certain insured and uninsured fixed and variable rate residential mortgages and Home Equity Lines of Credit (“HELOC”) through creation of mortgage-backed securities under the Canadian Mortgage Bond Program (“CMB”), as well as through a HELOC securitization program.

Benefits received from the securitization include interest spread between the asset and associated liability. There are no expected credit losses on mortgages that have been securitized under the Canada Mortgage and Housing Corporation (“CMHC”) sponsored CMB and the Platinum Canadian Mortgage Trust (“PCMT”) HELOC securitization programs as they are insured by CMHC and other third-party insurance programs against borrowers’ default. Mortgages securitized in the Platinum Canadian Mortgage Trust II (“PCMT II”) program are uninsured.

Cash flows received from the underlying securitized assets/mortgages are used to settle the related secured borrowing liability. For CMB transactions receipts of principal are deposited into a trust account for settlement of the liability at time of maturity. These transferred assets and related cash flows cannot be transferred or used for other purposes. For the HELOC transactions, investors are entitled to periodic interest payments and the remaining cash receipts of principal are allocated to the Company (the “Seller”) during the revolving period of the deal and are accumulated for settlement during an accumulation period, or repaid to the investor monthly during a reduction period, based on the terms of the note.

The carrying amount of securitized assets reflecting the Company’s continuing involvement with the mortgages and the associated liabilities is as follows.

 

As at December 31, 2016    Securitized assets         
Securitization program    Securitized
mortgages
     Restricted cash and
short-term securities
     Total      Secured borrowing
liabilities(2)
 

HELOC securitization(1)

   $ 1,762       $ 8       $ 1,770       $ 1,750   

CMB securitization

     1,018                 1,018         1,032   

Total

   $ 2,780       $ 8       $ 2,788       $ 2,782   
      Securitized assets         
As at December 31, 2015    Securitized
mortgages
     Restricted cash and
short-term securities
     Total      Secured borrowing
liabilities(2)
 

HELOC securitization(1)

   $   1,500       $   8       $   1,508       $   1,500   

CMB securitization

     436                 436         436   

Total

   $ 1,936       $ 8       $ 1,944       $ 1,936   

 

(1) 

Manulife Bank, an MFC subsidiary, securitizes a portion of its HELOC receivables through Platinum Canadian Mortgage Trust (“PCMT”), and Platinum Canadian Mortgage Trust II (“PCMT II”). PCMT funds the purchase of the co-ownership interests from Manulife Bank by issuing term notes collateralized by an underlying pool of Canada Mortgage and Housing Corporation (“CMHC”) insured HELOCs to institutional investors. PCMT II funds the purchase of the co-ownership interests from Manulife Bank by issuing term notes collateralized by an underlying pool of uninsured HELOCs to institutional investors. The restricted cash balance for the HELOC securitization reflects a cash reserve fund established in relation to the transactions. The reserve will be drawn upon only in the event of insufficient cash flows from the underlying HELOCs to satisfy the secured borrowing liability.

(2) 

The secured borrowing liabilities primarily comprise of Series 2011-1 notes with a floating rate which are expected to mature on December 15, 2021, and the Series 2016-1 notes with a floating rate which are expected to mature on May 15, 2022. Manulife Bank also securitizes insured amortizing mortgages under the National Housing Act Mortgage-Backed Securities (“NHA MBS”) program sponsored by CMHC. Manulife Bank participates in the CMB program by selling NHA MBS securities to Canada Housing Trust (“CHT”), as a source of fixed rate funding.

Fair value of the securitized assets as at December 31, 2016 was $2,821 (2015 – $1,964) and the fair value of the associated liabilities was $2,776 (2015 – $1,937).

 

Notes to Consolidated Financial Statements   Manulife Financial Corporation   2016 Annual Report        129


(g) Fair value measurement

The following table presents fair value of the Company’s invested assets and segregated funds net assets, measured at fair value in the Consolidated Statements of Financial Position and categorized by hierarchy.

 

As at December 31, 2016    Total fair
value
     Level 1      Level 2      Level 3  

Cash and short-term securities

           

FVTPL

   $ 269       $       $ 269       $   

AFS

     11,705                 11,705           

Other

     3,177         3,177                   

Debt securities(1)

           

FVTPL

           

Canadian government and agency

     18,030                 16,392         1,638   

U.S. government and agency

     13,971                 13,169         802   

Other government and agency

     18,629                 18,199         430   

Corporate

     87,374         2         84,174         3,198   

Residential mortgage/asset-backed securities

     10                 8         2   

Commercial mortgage/asset-backed securities

     680                 255         425   

Other securitized assets

     2,196                 2,153         43   

AFS

           

Canadian government and agency

     6,715                 6,470         245   

U.S. government and agency

     13,333                 13,323         10   

Other government and agency

     2,312                 2,260         52   

Corporate

     5,041                 4,791         250   

Residential mortgage/asset-backed securities

     65                 64         1   

Commercial mortgage/asset-backed securities

     123                 48         75   

Other securitized assets

     143                 141         2   

Public equities

           

FVTPL

     16,531         16,524         0         7   

AFS

     2,965         2,963         2           

Real estate – investment property(2)

     12,756                         12,756   

Other invested assets(3)

     14,849                         14,849   

Segregated funds net assets(4)

     315,177         278,066         32,537         4,574   

Total

   $   546,051       $   300,732       $   205,960       $   39,359   
As at December 31, 2015    Total fair
value
     Level 1      Level 2      Level 3  

Cash and short-term securities

           

FVTPL

   $ 574       $       $ 574       $   

AFS

     13,548                 13,548           

Other

     3,763         3,763                   

Debt securities(1)

           

FVTPL

           

Canadian government and agency

     16,965                 15,299         1,666   

U.S. government and agency

     15,964                 15,119         845   

Other government and agency

     17,895                 17,483         412   

Corporate

     80,269         2         76,296         3,971   

Residential mortgage/asset-backed securities

     27                 12         15   

Commercial mortgage/asset-backed securities

     718                 207         511   

Other securitized assets

     2,052                 2,004         48   

AFS

           

Canadian government and agency

     4,318                 4,165         153   

U.S. government and agency

     12,688                 12,675         13   

Other government and agency

     1,688                 1,645         43   

Corporate

     4,925                 4,607         318   

Residential mortgage/asset-backed securities

     49                 41         8   

Commercial mortgage/asset-backed securities

     123                 27         96   

Other securitized assets

     146                 141         5   

Public equities

           

FVTPL

     14,689         14,686         2         1   

AFS

     2,294         2,292         2           

Real estate – investment property(2)

     13,968                         13,968   

Other invested assets(3)

     12,977                         12,977   

Segregated funds net assets(4)

     313,249         277,779         30,814         4,656   

Total

   $ 532,889       $ 298,522       $ 194,661       $ 39,706   

 

(1) 

The debt securities included in Level 3 consist primarily of maturities greater than 30 years for which the Treasury yield curve is not observable and is extrapolated, as well as debt securities where only unobservable single quoted broker prices are provided.

(2) 

For investment property, the significant unobservable inputs are capitalization rates (ranging from 3.75% to 9.75% during the year and ranging from 3.75% to 9.50% for the year 2015) and terminal capitalization rates (ranging from 4.1% to 10.00% during the year and ranging from 4.5% to 9.75% during the year 2015). Holding

 

130         Manulife Financial Corporation   2016 Annual Report   Notes to Consolidated Financial Statements


  other factors constant, a lower capitalization or terminal capitalization rate will tend to increase the fair value of an investment property. Changes in fair value based on variations in unobservable inputs generally cannot be extrapolated because the relationship between the directional changes of each input is not usually linear.
(3) 

Other invested assets measured at fair value are held primarily in power and infrastructure and timber sectors. The significant inputs used in the valuation of the Company’s power and infrastructure investments are primarily future distributable cash flows, terminal values and discount rates. Holding other factors constant, an increase to future distributable cash flows or terminal values would tend to increase the fair value of a power and infrastructure investment, while an increase in the discount rate would have the opposite effect. Discount rates during the year ranged from 9.63% to 16.0% (2015 – ranged from 10.05% to 16.0%). Disclosure of distributable cash flow and terminal value ranges are not meaningful given the disparity in estimates by project. The significant inputs used in the valuation of the Company’s investments in timberland are timber prices and discount rates. Holding other factors constant, an increase to timber prices would tend to increase the fair value of a timberland investment, while an increase in the discount rates would have the opposite effect. Discount rates during the year ranged from 5.0% to 7.5% (2015 – ranged from 5.0% to 7.5%). A range of prices for timber is not meaningful as the market price depends on factors such as property location and proximity to markets and export yards.

(4) 

Segregated funds net assets are measured at fair value. The Company’s Level 3 segregated funds assets are predominantly invested in timberland properties value as described above.

For invested assets not measured at fair value in the Consolidated Statements of Financial Position, the following tables disclose the summarized fair value information categorized by hierarchy, together with the related carrying values.

 

As at December 31, 2016    Carrying
value
     Total fair
value
     Level 1      Level 2      Level 3  

Mortgages(1)

   $ 44,193       $ 45,665       $       $       $ 45,665   

Private placements(2)

     29,729         31,459                 25,699         5,760   

Policy loans(3)

     6,041         6,041                 6,041           

Loans to Bank clients(4)

     1,745         1,746                 1,746           

Real estate – own use property(5)

     1,376         2,524                         2,524   

Other invested assets(6)

     7,911         8,254                         8,254   

Total invested assets disclosed at fair value

   $   90,995       $   95,689       $       –       $   33,486       $   62,203   
As at December 31, 2015     
 
Carrying
value
  
  
    
 
Total fair
value
  
  
     Level 1         Level 2         Level 3   

Mortgages(1)

   $ 43,818       $ 45,307       $       $       $ 45,307   

Private placements(2)

     27,578         29,003                 23,629         5,374   

Policy loans(3)

     5,912         5,912                 5,912           

Loans to Bank clients(4)

     1,778         1,782                 1,782           

Real estate – own use property(5)

     1,379         2,457                         2,457   

Other invested assets(6)

     7,401         7,381                         7,381   

Total invested assets disclosed at fair value

   $ 87,866       $ 91,842       $       $ 31,323       $ 60,519   

 

(1) 

Fair value of commercial mortgages is derived through an internal valuation methodology using both observable and unobservable inputs. Unobservable inputs include credit assumptions and liquidity spread adjustments. Fair value of fixed-rate residential mortgages is determined using the discounted cash flow method. Inputs used for valuation are primarily comprised of prevailing interest rates and prepayment rates, if applicable. Fair value of variable-rate residential mortgages is assumed to be their carrying value.

(2) 

Fair value of private placements is derived through an internal valuation methodology using both observable and unobservable inputs. Unobservable inputs include credit assumptions and liquidity spread adjustments. Private placements are classified within Level 2 unless the liquidity adjustment constitutes a significant price impact, in which case the securities are classified as Level 3.

(3) 

Fair value of policy loans is equal to their unpaid principal balances.

(4) 

Fair value of fixed-rate loans to Bank clients is determined using the discounted cash flow method. Inputs used for valuation are primarily comprised of current interest rates. Fair value of variable-rate loans is assumed to be their carrying value.

(5) 

Fair value of own use real estate and the level of the fair value hierarchy are calculated in accordance with the methodologies described for real estate – investment property in note 1.

(6) 

Other invested assets disclosed at fair value primarily include leveraged leases, oil and gas properties and equity method accounted other invested assets. Fair value of leveraged leases is shown at their carrying values as fair value is not routinely calculated on these investments. Fair value for oil and gas properties is determined using external appraisals based on discounted cash flow methodology. Inputs used in valuation are primarily comprised of forecasted price curves, planned production, as well as capital expenditures, and operating costs. Fair value of equity method accounted other invested assets is determined using a variety of valuation techniques including discounted cash flows and market comparable approaches. Inputs vary based on the specific investment.

Transfers between Level 1 and Level 2

The Company’s policy is to record transfers of assets and liabilities between Level 1 and Level 2 at their fair values as at the end of each reporting period, consistent with the date of the determination of fair value. Assets are transferred out of Level 1 when they are no longer transacted with sufficient frequency and volume in an active market. During the year ended December 31, 2016, the Company transferred nil (2015 – nil) of assets measured at fair value from Level 1 to Level 2. Conversely, assets are transferred from Level 2 to Level 1 when transaction volume and frequency are indicative of an active market. The Company transferred nil (2015 – nil) of assets from Level 2 to Level 1 during the year ended December 31, 2016.

For segregated funds net assets, the Company had $8 transfers from Level 1 to Level 2 for the year ended December 31, 2016 (2015 – nil). The Company had nil transfers from Level 2 to Level 1 for the year ended December 31, 2016 (2015 – $43).

Invested assets and segregated funds net assets measured at fair value on the Consolidated Statements of Financial Position using significant unobservable inputs (Level 3)

The Company classifies the fair values of invested assets and segregated funds net assets as Level 3 if there are no observable markets for these assets or, in the absence of active markets, the majority of the inputs used to determine fair value are based on the

 

Notes to Consolidated Financial Statements   Manulife Financial Corporation   2016 Annual Report        131


Company’s own assumptions about market participant assumptions. The Company prioritizes the use of market-based inputs over entity-based assumptions in determining Level 3 fair values and, therefore, the gains and losses in the tables below include changes in fair value due to both observable and unobservable factors.

The following tables present a roll forward of all invested assets and segregated funds net assets measured at fair value using significant unobservable inputs (Level 3) for the years ended December 31, 2016 and 2015.

 

For the year

ended December 31, 2016

  Balance as
at
January 1,
2016
    Net
realized /
unrealized
gains
(losses)
included
in net
income(1)
    Net
realized /
unrealized
gains
(losses)
included
in AOCI(2)
    Purchases(3)     Sales(4)     Settlements    

Transfer

into

Level 3(5)

   

Transfer

out of

Level 3(5)

    Currency
movement
    Balance as at
December 31,
2016
    Change in
unrealized
gains
(losses) on
assets still
held
 

Debt securities

                     

FVTPL

                     

Canadian government & agency

  $ 1,666      $ (16   $      $ 233      $ (49   $      $      $ (196   $      $ 1,638      $ (62

U.S. government & agency

    845        9               39                             (70     (21     802        10   

Other government & agency

    412        (2            122        (41     (30            (1     (30     430        (4

Corporate

    3,971        (74            634        (158     (165     58        (1,015     (53     3,198        (44

Residential mortgage/asset-backed securities

    15        (1                   (11     (1                          2        1   

Commercial mortgage/asset-backed securities

    511        (4            132        (56     (4            (146     (8     425        (4

Other securitized assets

    48        (1            10        (1     (9            (4            43        (1
      7,468        (89            1,170        (316     (209     58        (1,432     (112     6,538        (104

AFS

                     

Canadian government & agency

    153        36        (47     199        (96                                 245          

U.S. government & agency

    13                                                  (3            10          

Other government & agency

    43                      18        (6                          (3     52          

Corporate

    318        (2     (5     29        (32     (3            (50     (5     250          

Residential mortgage/asset-backed securities

    8        (1     1               (6                          (1     1          

Commercial mortgage/asset-backed securities

    96                      19               (1            (37     (2     75          

Other securitized assets

    5               2                      (1            (4            2          
      636        33        (49     265        (140     (5            (94     (11     635          

Public equities

                     

FVTPL

    1                      6                                           7          

AFS