Mon Jul 9, 2012 2:51pm EDT
Overview
— We have lowered our ratings on the operating entities that form Aviva
USA by one notch, including the counterparty credit and financial ratings to
‘A’ from ‘A+’, and removed them from CreditWatch Negative, where they were
placed May 17, 2012.
— Our rating action follows Aviva PLC’s announcement of the outcome of
its strategic review on July 5 2012. We now understand more about Aviva PLC’s
main objectives to narrow its focus, build financial strength, and improve
financial performance.
— Based on our review, we have concluded that Aviva USA may not meet a
number of these criteria, particularly financial targets, and as such we are
revising our assessment of its group status to “non-strategically important”
from “strategically important”.
— The negative outlook predominantly reflects our belief that the
group’s continued ownership of the U.S. operations remains uncertain but also
the potential for there to be an impact on our view of the stand-alone credit
profile of the group’s U.S. operations, given their “non-strategically
important” status.

Rating Action
On July 9, 2012, Standard & Poor’s Ratings Services lowered its counterparty
credit and financial strength ratings on Aviva PLC’s U.S. insurance
subsidiaries (Aviva Life and Annuity Co., and Aviva Life and Annuity Co. of
New York; collectively referred to as Aviva USA) to ‘A’ from ‘A+’. The outlook
is negative. (See ratings list for all other rating actions.)

The downgrade reflects our view that the two rated U.S. operating companies
should be classified as “non-strategically important” to the Aviva group,
rather than “strategically important” under our group ratings methodology
criteria.

At the same time, Standard & Poor’s removed the ratings from CreditWatch with
negative implications, where they were placed May 17, 2012, which reflected
our view of the heightened risk and uncertainty over the implications of both
management changes (including the unplanned departure of the group CEO) and
the announced strategic review on Aviva group’s future business and financial
profiles.

The senior secured debt rating on General Repackaging ACES SPC’s Series 2007-4
and 2007-5 notes is linked to the rating on the funding agreement provider,
Aviva Life and Annuity Co and lowered to ‘A’ from ‘A+’.

Rationale
We believe that Aviva USA is “non-strategically important” to Aviva PLC
(A/Watch Neg/–), rather than “strategically important” under our group
methodology criteria. Our change in view was made following a market update on
July 5, 2012, where Aviva PLC announced the results of its strategic review,
which outlined three main objectives:
— Narrowing its focus: Focusing on fewer higher return segments;
— Building financial strength: Building economic capital levels,
reducing capital volatility, and reducing leverage;
— Improving financial performance: Improving returns on capital and
reducing expenses.

The strategic objective to narrow its focus involved splitting the group into
58 segments and classifying these into three categories: “performing”,
“improve and turn around”, and “non-core” — that is, those which are for
disposal. We understand that these segments were classified based on four
different metrics: return on capital employed, new business profitability,
cash generation, and market position/growth prospects. We have reviewed the
contribution from the Aviva USA to the group based on these metrics, in
particular those that focus on financial considerations, and have concluded
that Aviva USA is likely to be within the “non-core” category. This is based
on our view of the returns on capital employed within Aviva USA being similar
to Aviva’s “non-core” segments of around 5%, the relatively high absolute
levels of capital employed, and uncertainty around whether the Aviva USA meets
the group targets for new business profitability. Given our view that Aviva
USA falls in the “non-core” category, this increases the risk that the
business could be sold over the medium term.

In addition, we believe that the increased focus on economic capital ratios
and their sensitivity means that there are further reasons to believe that the
U.S. business, particularly due to its risk profile and credit risk exposure,
may no longer form part of the group’s long-term strategy.

We have not decoupled the ratings on the individual operating companies, given
the U.S. operations are managed on the basis of line of business versus legal
entity. The separate legal entities continue to exist for regulatory, legal,
and accounting reasons. We continue to view capital and liquidity for the most
part as fungible items within the U.S. group, taking into consideration the
normal regulatory constraints. Management continues to target a risk-based
capital ratio of 325% or above for each individual operating company. The
ratings also reflect the sizable capital infusions that have been received
from the parent including $175 million in fiscal 2007 and $710 million in
fiscal 2008.

Our published rating reflects one notch of implied support above Aviva USA’s
stand-alone credit profile. This is a reflection of the historical financial
support and ongoing management oversight and expertise provided by the group
and in particular our view that the group would continue to support the
business to protect the value of its investment. If we believe that the
group’s commitment to the U.S. operations could reduce further, our published
ratings will reflect the stand-alone credit profile of the U.S. operations, by
removing the one notch of implied support that currently exists.

The ratings also reflect what we view as Aviva USA’s strong competitive
position in the U.S. supported by its effective multichannel distribution
network, focused and leading product suite in the indexed products market,
strong prospective core operating performance, and capitalization. In our
opinion, offsetting these positive factors are the earnings concentrations in
two product lines (indexed annuity and indexed life), capital strain created
by AXXX/XXX reserve requirements, and the relatively high proportion of life
products sold with no-lapse guarantees that could be adversely affected in a
prolonged low interest rate environment.

Outlook
The outlook is negative and predominantly reflects our belief that the Aviva
group’s continued ownership of the U.S. operations remains uncertain as the
group looks to implement the actions identified within its strategic review.
It also reflects the potential for there to be an impact on our view of the
stand-alone credit profile of Aviva USA, given these companies’
“non-strategically important” status.

We could revise the outlook to stable if there is new evidence of ongoing
commitment to the U.S. operations from the group or if there is less pressure
on its stand-alone characteristics, for instance following the recent trend of
relative operating performance improvements.

We could lower the ratings if we believe that the group’s commitment to the
U.S. operations will reduce further or if we see evidence that there is a
deterioration of its stand-alone credit profile. Pressure on the stand-alone
credit profile could potentially stem from revisions in our assessments of
capitalization or financial flexibility following the change in status to
“non-strategically important”.

Based on our understanding of the timescales for execution of the group’s
strategic plans, we do not see any prospects for an upgrade over the next 24
months.

Related Criteria And Research
— Principles Of Credit Ratings, Feb. 16, 2011
— Use Of CreditWatch And Outlooks, Sept. 14, 2009
— Holding Company Analysis, June 11, 2009
— Group Methodology, April 22, 2009
— Interactive Ratings Methodology, April 22, 2009
— Counterparty Credit Ratings And The Credit Framework, April 14, 2004

Ratings List
Downgraded; CreditWatch/Outlook Action
To From
Aviva Life and Annuity Co.
Aviva Life & Annuity Co. of New York
Counterparty Credit Rating
Local Currency A/Negative/– A+/Watch Neg/–
Financial Strength Rating
Local Currency A/Negative/– A+/Watch Neg/–

General Repackaging ACES SPC
Series 2007-4 notes A A+/Watch Neg
Series 2007-5 notes A A+/Watch Neg