coloured word templateprepared by · tax on normalised net profit2 (27.1) (26.4) 2.7 normalised net...

Challenger Limited and its controlled entities ACN 106 842 371

2014 Appendix 4D and Results Announcement

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Challenger Limited ACN 106 842 371 and its controlled entities

www.challenger.com.au

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Appendix 4D Half year report under ASX listing rule 4.2A.3 for the six months ended 31 December 2013

Results for Announcement to the Market 2013 $M

2012 $M

Change %

Revenue from ordinary activities 772.3 842.9 (8.4)

Profit from ordinary activities after tax attributable to members 166.3 222.0 (25.1)

Net profit for the period attributable to members 166.3 222.0 (25.1)

Normalised net profit after tax, management’s preferred measure of profit, for the six months ended 31 December 2013 increased by 10.0% to $163.5 million (31 December 2012: $148.7 million). Refer to Note 2. Segment Information in the Half Year Financial Report for a definition of Normalised net profit after tax and a reconciliation to the statutory profit for the period.

Dividends per security1,2 2013 Cents

2012 Cents

Change %

Interim – unfranked (2012: unfranked) 12.5 9.5 31.6

Record date for determining entitlements to the interim dividend 03 March 2014

Payment date of the interim dividend 28 March 2014 1. There is no dividend reinvestment plan in operation for this dividend. 2. There is no conduit foreign income for this dividend.

Refer to Appendix 1 – ASX Appendix 4D (rule 4.2A.3) on page 46 for further disclosures required under ASX Listing Rule 4.2A.3.

Basis of preparation This half year report under ASX listing rule 4.2A.3 covers Challenger Limited and its controlled entities, and is based on the attached Half Year Financial Report.

Except where stated otherwise, all figures relate to the six months ended 31 December 2013, and the previous corresponding period to the six months ended 31 December 2012.

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Results announcement for the six months ended 31 December 2013

Contents Directors’ report .................................................................................................................................................... 4

1. Directors ................................................................................................................................................ 4

2. Review of operations ............................................................................................................................. 4

3. Dividends ............................................................................................................................................ 10

4. Likely developments and expected results .......................................................................................... 11

5. Significant events after the balance date ............................................................................................ 11

6. Rounding ............................................................................................................................................. 11

7. Auditor’s independence declaration .................................................................................................... 12

8. Authorisation ....................................................................................................................................... 12

Half year financial report .................................................................................................................................... 13

Income statement ................................................................................................................................... 14

Statement of comprehensive income ...................................................................................................... 15

Statement of financial position ................................................................................................................ 16

Statement of changes in equity ............................................................................................................... 17

Statement of cash flows .......................................................................................................................... 19

Notes to the financial statements ............................................................................................................ 20

Directors' Declaration ......................................................................................................................................... 42

Independent Auditor’s Review Report .............................................................................................................. 43

Investor information ........................................................................................................................................... 45

Appendix 1 – ASX Appendix 4D (rule 4.2A.3) ................................................................................................... 46

Directory .............................................................................................................................................................. 48

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31 December 2013 Directors’ report


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Directors’ report The Directors of Challenger Limited (the Company) submit their report, together with the financial report of the Company and its controlled entities (the Group), for the six months ended 31 December 2013.

1. Directors The names and details of the Directors of the Company holding office during the six months to 31 December 2013 and up to the date of this report are listed below. Directors were in office for this entire period unless otherwise stated.

Name Position

Peter Polson Chairman, Independent

Brian Benari Managing Director and Chief Executive Officer

Graham Cubbin Non-Executive Director, Independent

Steven Gregg Non-Executive Director, Independent

Jonathan Grunzweig Non-Executive Director, Independent

Russell Hooper Non-Executive Director, Independent

Brenda Shanahan Non-Executive Director, Independent

JoAnne Stephenson Non-Executive Director, Independent

Leon Zwier Non-Executive Director, Independent

2. Review of operations Strong retail sales of annuities and growing funds under management in the first half of financial year 2014 have continued to build on the solid retirement income platform that Challenger has developed over the past few years.

Key performance indicators for the six months to 31 December 2013 include:

Statutory profit for the period attributable to equity holders of $166.3 million, down $55.7 million compared to the prior corresponding period, reflecting the substantial fair value gains experienced in the comparative period relating to spread contractions in credit markets which were not experienced to the same extent in the current period

Normalised net profit after tax increased 10.0% to $163.5 million compared to the prior corresponding period. Normalised earnings per share increased 3.8 cents (13.6%) to 31.8 cents per share compared to the prior

corresponding period. The normalised cost to income ratio reduced by 1.0 percentage point to 34.0%. Net income increased 6.8%

to $292.2 million and expenses increased 3.9% to $99.4 million compared to the prior corresponding period. Interim dividend of 12.5 cents per share, up 3.0 cents per share, representing an increase of 31.6%. Total Life sales of $1.7 billion, including retail sales of $1.5 billion (a 38.1% increase over the prior

corresponding period), and Life retail net book growth of $539.9 million (7.6% of 30 June 2013 life retail contract liabilities).

Total Funds Management net inflows of $1.1 billion. Total Assets Under Management (AUM) of $48.8 billion, up $4.0 billion (9.0%) since 30 June 2013.

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Normalised profit and investment experience Challenger Life Company Limited (CLC), and its consolidated entities, are required by the Life insurance accounting standard to value all assets and liabilities at fair value. This gives rise to fluctuating valuation movements on assets and liabilities being recognised in the profit and loss in CLC and on consolidation in Challenger Limited. As CLC is generally a long-term holder of assets, due to them being held to match the term of life contract liabilities, Challenger takes a long-term view of the expected capital growth of the portfolio rather than focusing on short-term movements.

Investment experience represents the difference between actual investment gains/losses (both realised and unrealised) and expected gains/losses based on CLC’s long term expected returns through varying economic cycles. Investment experience also includes any economic and actuarial assumption changes, arising from changes in market conditions.

A reconciliation between statutory revenue and management’s view of normalised revenue, ‘net income’, is included in the financial report as part of the Segment information note on page 24. This note also includes a reconciliation of statutory profit before tax and normalised net profit before tax. The application of the normalised profit framework has been reviewed by Challenger’s independent auditor to ensure that the reported results are in accordance with the methodology described in Note 2 to the financial report.

Challenger’s normalised profit after tax was $163.5 million for the six months ended 31 December 2013, an increase of $14.8 million (10.0%) on the prior corresponding period. Normalised profit after tax increased as a result of higher net income (up $18.7 million), partly offset by higher expenses (up $3.7 million).

Total net income increased by $18.7 million (6.8%) due to:

higher Life cash operating earnings (up $12.1 million) as a result of growth in the annuity book; higher Funds Management net fee income (up $8.6 million) due to higher Funds Under Management (FUM);

partly offset by lower corporate income (down $2.0 million) due to lower interest income. The management view of operating expenses is $99.4 million for the six months ended 31 December 2013 which is up $3.7 million on the prior corresponding period. Life expenses increased by $1.6 million, Funds Management expenses increased by $0.8 million and Corporate expenses increased by $1.3 million. Challenger’s business is scalable resulting in Challenger being one of the most efficient Australian financial services companies. Over the past five years, total expenses have increased by 11.8%, whilst absorbing the cost of growth initiatives, and revenues have increased by 58.2%.

The scale and operating leverage in Challenger’s business has resulted in the normalised cost to income ratio falling by 14 percentage points over the last five years to 34.0% for the six months ended 31 December 2013. Reflecting the scale and leverage, Challenger’s future normalised cost to income ratio target is a range of 32% to 36%.

The effective normalised tax rate was 14.2%, which is down from 15.1% in the prior corresponding period. The normalised tax includes a benefit as a result of receiving a private tax ruling in February 2012 from the Australian Tax Office in relation to the application of Taxation of Financial Arrangements (TOFA). The TOFA private ruling is expected to reduce normalised tax by approximately $30 million for each of the three financial years 2012 to 2014. Excluding the $30 million TOFA tax benefit, the effective normalised tax rate was 22.1% for the six months ended 31 December 2013. A reconciliation to the Australian company tax rate of 30% is included in Note 6 to the financial report.

The investment experience after tax profit of $2.8 million for the six months ended 31 December 2013 compared to $73.3 million for the prior corresponding period, with the prior period benefiting from a significant contraction in fixed income credit spreads. The investment experience for the six months ended 31 December 2013 also benefited from a contraction in fixed income spreads however this was offset by declines in property, including transaction costs on recently acquired properties, and infrastructure not achieving its normalised growth assumptions.

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Challenger Limited ACN 106 842 371

and its controlled entities

31 December 2013 Directors' report

challenger www.challenger.com.au

The following tables provide an overview of Challenger's normalised results and components of investment experience for the six months ended:

Management analysis' 31 Dec 2013

$M

31 Dec Change

2012 0/0

$M

Cash earnings 211.3 206.5 2.3

Normalised capital growth 25.9 18.6 39.2

Normalised cash operating earnings 237.2 225.1 5.4

Net fee income 53.8 45.2 19.0

Other income 1.2 3.2 (62.5)

Net income 292.2 273.5 6.8

Operating expenses (99.4) (95.7) 3.9

Normalised EBIT 192.8 177.8 8.4

Interest and borrowing costs (2.2) (2.7) (18.5)

Normalised net profit before tax 190.6 175.1 8.9

Tax on normalised net profit2 (27.1) (26.4) 2.7

Normalised net profit after tax 163.5 148.7 10.0

Investment experience after tax 2.8 73.3 (96.2)

Statutory net profit after tax attributable to equity holders 166.3 222.0 (25.1)

Normalised EBIT by division

Life 200.6 190.1 5.5

Funds Management 20.7 12.9 60.5

Corporate (28.5) (25.2) 13.1

Total 192.8 177.8 8.4

1. Net Income and Operating expenses are internal classifications and are defined in Note 2 Segment Information in the half year financial report. These differ from the statutory Revenue and Expenses classifications as certain direct costs (including commissions and management fees) are netted off against gross revenues and Special Purpose Vehicle revenues, expenses and finance costs are netted and included in aggregate for Net Income. These classifications have been made in the Directors' Report and the segment information note as they reflect metrics used by management to measure the business performance of the Group. Whilst the allocation of amounts to the above items and investment experience differs to the statutory view, both approaches result in the same net after tax profit due to shareholders of the Company.

2. In February 2012 a private binding ruling was received from the ATO confirming the application of the Taxation of Financial Arrangements (TOFA) on certain historical transaction elections. This results in a net reduction of tax expense of circa $30 million for each of the three financial years 2012 to 2014 and so a $15 million tax reduction has been recognised in each interim period reported.

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and its controlled entities challenger ,.44eh'f- 31 December 2013 Directors' report

www.challengercom.au

Management analysis (continued) 31 Dec 31 Dec 2013 2012

$M $M Actual capital growth 3

Cash and fixed income 18.2 145.4

Infrastructure 1.5 6.5

Property (net of debt) (17.0) (5.8)

Equity and other investments 13.1 (0.2)

Total actual capital growth 15.8 145.9

Normalised capital growth 4

Cash and fixed income (14.0) (13.5)

Infrastructure 10.3 11.3

Property (net of debt) 18.7 15.2

Equity and other investments 10.9 5.6

Total normalised capital growth 25.9 18.6

Investment experience

Cash and fixed income 32.2 158.9

Infrastructure (8.8) (4.8)

Property (net of debt) (35.7) (21.0)

Equity and other investments 2.2 (5.8)

(10.1) 127.3

Actuarial assumption changes 5 14.2 (27.0)

Investment experience before tax 4.1 100.3

Tax expense (1.3) (27.0)

Investment experience after tax 2.8 73.3

3. Actual capital growth represents net realised and unrealised capital gains or losses and includes the attribution of interest rate and foreign exchange derivatives that are used to hedge volatility.

4. Normalised capital growth is determined by multiplying the normalised capital growth rate for each asset class by the average investment assets (net of debt) for the period. The normalised growth rates represent the Group's long term capital growth expectations for each asset class over the investment cycle. The normalised growth rate for each asset class is 6.0% for Equity and Other investments, 4.0% for Infrastructure, 2.0% for Property and (0.35%) for Cash and Fixed income. The rates have been set with reference to market growth rates and are reviewed to ensure consistency with prevailing market conditions. There have been no changes made to these rates in the period.

5. Actuarial assumption changes represent the impact of changes in macro-economic variables, including bond yields and inflation factors, expense assumptions, losses on new business and other factors applied in the valuation of life contract liabilities. It also includes the attribution of interest rate derivatives used to hedge interest rate volatility on policy liabilities.

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Earnings per share As shown in the table below, on a normalised basis, basic earnings per share (EPS) increased by 13.6% to 31.8 cents and diluted EPS increased by 9.0% to 30.3 cents. Statutory basic and diluted EPS of 32.3 cents and 30.8 cents respectively decreased in line with the reduced profit when compared to the prior corresponding period.

For the period ended

31 Dec 2013

Cents

31 Dec 2012

cents Change

%

Basic – normalised 31.8 28.0 13.6

Diluted – normalised 30.3 27.8 9.0

Basic – statutory 32.3 41.8 (22.7)

Diluted – statutory 30.8 41.5 (25.8)

Life financial results Normalised EBIT in the Life division increased by $10.4 million (5.5%) to $204.6 million over the prior corresponding period due to higher normalised cash operating earnings (increased by $12.0 million), partly offset by higher expenses (up $1.6 million). The normalised COE margin is unchanged from the six month period to 30 June 2013. The Life division recorded total sales of $1,747.1 million for the period. Retail annuity sales were $1,457.0 million for the period, representing a 38.1% increase compared to retail sales of $1,055.3 million for the prior corresponding period. In addition, there were institutional sales of $290.1 million mainly representing reinvested maturities (compared to $921.2 million in the prior corresponding period). The increase in average investment assets of the Life division, from $10.4 billion for the six months to 30 June 2013 to $10.7 billion for the six months to 31 December 2013, was driven by positive net annuity flows, cash operating earnings and positive investment experience net of dividends paid. The Group has continued to invest in product development, marketing and increased distribution capability during the period to support ongoing sales growth.

Funds Management financial results Funds Management normalised EBIT increased by $7.8 million (60.5%) to $20.7 million over the prior corresponding period, reflecting $8.6 million higher total net fee income, partly offset by higher expenses (up $0.8 million). This resulted in an increase in normalised ROE (pre-tax) from 19.6% in the prior corresponding period to 31.3%. The Funds Management division experienced positive funds flow during the period of $1,113.8 million. Fidante Partners Funds Under Management (FUM) was $33.7 billion at 31 December 2013, up from $29.8 billion at 30 June 2013. Challenger Investment Partners (previously Aligned Investments) FUM was $11.3 billion at 31 December 2013, unchanged from 30 June 2013. New Challenger Investment Partners institutional mandates in property were offset by lower Howard Mortgage Fund FUM. Total FUM of $45.0 billion at 31 December 2013 is up from $41.1 billion at 30 June 2013, representing growth of $3.9 billion (9.5%) over the six month period.

Capital management Challenger’s capital position is managed at both the Group and the prudentially regulated CLC level with the objective of maintaining the financial stability of the Group and CLC whilst ensuring that shareholders earn an appropriate risk adjusted return. Refer to Note 16. Contributed equity in the Half Year Financial Report for further information on the Group Capital Management Plan and CLC’s Internal Capital Adequacy Assessment Process (ICAAP). Net shareholder funds were $2,052.3 million at 31 December 2013 up from $1,947.4 million at 30 June 2013, representing $3.99 per share (30 June 2013: $3.78 per share). At 31 December 2013 there was $154.8 million of available Group cash (30 June 2013: $177.1 million) and the Group corporate debt facilities of $250.0 million were undrawn at 31 December 2013 (30 June 2013: undrawn) providing additional financial flexibility.

Dividend and share buy back policy

Challenger targets a combined dividend and buy back payout ratio of approximately 50% of normalised net profit after tax over the medium term, with buy back activity subject to prevailing market conditions and alternative uses of capital.

The Challenger Board regularly reviews the dividend policy as part of the Group’s capital management plan. In August 2013, the Board increased the targeted dividend payout ratio, increasing it by five percentage points to a range of 35% to 40% of normalised net profit after tax. Refer to section 3 below for further details on future dividend and share buy back policy.

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Challenger Life Company (CLC) regulatory capital base

CLC holds capital in order to ensure that, under a range of adverse scenarios, it can continue to meet its regulatory and contractual obligations to its customers. CLC is regulated by the Australian Prudential Regulation Authority (APRA) and is required to hold a minimum level of regulatory capital.

CLC’s regulatory capital base and prescribed capital amounts have been calculated based on regulatory capital standards issued by APRA. APRA issued new capital standards (LAGIC standards) that became effective from 1 January 2013.

CLC’s excess capital above the prescribed capital amount (PCA) at 31 December 2013 was $975.7 million, up $78.3 million since 30 June 2013. CLC’s PCA ratio at 31 December 2013 was 1.79 times and the common equity tier 1 (CET1) ratio was 1.4 times.

APRA’s LAGIC capital standards increased CLC’s PCA by $322.8 million from 1 January 2013. However, the transition to the increase from LAGIC is recognised evenly over a three year period, commencing 1 January 2014, so that the increase in capital phases in by three incremental steps of $107.6 million per year. Accordingly, on 1 January 2014 the LAGIC transition balance declines by one third (to $215.2 million), which reduces CLC’s excess capital above the PCA to $868.1 million and CLC’s PCA ratio to 1.65 times. The entire LAGIC transition balance will be fully amortised by 1 January 2016.

Subordinated Debt

CLC’s regulatory capital base includes $486.8 million of admissible subordinated debt. APRA has advised that existing subordinated debt tranches will continue to be fully eligible as Tier 2 regulatory capital until each tranche’s first call date after 1 January 2013, and will then amortise over four years.

CLC’s subordinated debt includes $134.0 million which had a call date on 7 June 2013. As a result, under APRA’s transition arrangements, only $107.2 million (i.e. 80% of the total amount) is eligible as Tier 2 regulatory capital on 31 December 2013.

The largest tranche of CLC’s existing subordinated debt is a $351.3 million tranche with a call date in November 2017. As such, this tranche will continue to be fully eligible as Tier 2 regulatory capital until its call date in November 2017 and will continue to be partially eligible until November 2021.

CLC’s target surplus

CLC maintains a target level of capital representing APRA’s PCA plus a target surplus. The target surplus is a management guide to the level of excess capital that CLC seeks to carry over and above APRA’s minimum requirements. CLC’s target surplus is set to ensure that it provides a buffer against adverse market conditions and having regard to CLC’s credit rating. CLC uses internal capital models to determine its target surplus, which are risk-based and are responsive to changes in CLC’s asset allocation and market conditions.

While CLC does not target a specific PCA ratio, CLC’s internal capital models result in a PCA ratio under current circumstances in the range of 1.4 times to 1.6 times. This range can change over time and is dependent on numerous factors. CLC’s PCA ratio is currently higher than the targeted range of 1.4 to 1.6 times, as CLC’s capital position contemplates the amortisation of the LAGIC transition balance over the next two years. Excluding the full LAGIC transition balance ($322.8 million), CLC’s PCA ratio at 31 December 2013 was 1.4 times, which is within CLC’s targeted PCA range.

CLC excess regulatory capital and Group cash

In addition to CLC’s excess regulatory capital, Challenger also maintains cash at a Group level which is available to meet regulatory requirements if required. Group cash at 31 December 2013 was $154.8 million, down $22.3 million from 30 June 2013. Challenger has an undrawn Group banking facility of $250.0 million which is maintained to provide additional financial flexibility. The banking facility was undrawn throughout the six months ended 31 December 2013.

CLC’s excess regulatory capital plus Group cash at 31 December 2013 was $1,130.5 million, up from $1,074.5 million at 30 June 2013. The increase reflects Life earnings (including investment experience) net of dividends to Group, and changes in capital intensity from book growth and changes in asset allocation.

APRA’s Level 3 (conglomerate) proposals

APRA is currently developing a supervisory framework for Level 3 groups which will be effective from 1 January 2015. Level 3 groups are groups of companies that perform material activities across one or more APRA regulated industry and/or in one or more non-APRA regulated industries.

Draft Level 3 standards were issued by APRA in May 2013 and final standards were due to be issued by 31 December 2013. APRA are yet to issue final standards. Based on the draft standards, Challenger expects to be fully compliant on 1 January 2015.

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Credit ratings CLC are rated by Standard & Poor’s (S&P). In November 2013, S&P reaffirmed both CLC and Challenger Limited’s ratings under S&P’s global insurance ratings criteria. Ratings were confirmed as:

CLC: ‘A’ with a stable outlook; and Challenger Limited: ‘BBB+’ with a stable outlook.

The S&P ratings reflect the financial strength of Challenger Limited and CLC. In particular, they demonstrate Challenger’s strong business profile, earnings and capital position.

Likely developments and expected results. Details on likely developments and expected results are given in section 4 below.

3. Dividends and share buy back On 16 August 2013, the Directors of the Company declared a final unfranked dividend on ordinary shares in respect of the year ended 30 June 2013 of 10.5 cents per share. The final dividend of $55.0 million was paid on 27 September 2013.

On 17 February 2014, the Directors of the Company declared an interim unfranked dividend on ordinary shares of 12.5 cents per share in respect of the half year ended 31 December 2013 representing a 32% increase on the 2013 interim dividend (31 December 2012: 9.5 cents per share, unfranked). The increase reflects both a higher normalised profit after tax (up 10%) and a higher dividend payout ratio of 39% (31 December 2012 -34%) of normalised profit after tax. The interim dividend of approximately $65.3 million, unfranked, has not been provided for in the 31 December 2013 half year financial report and will be paid on 28 March 2014.

Challenger intends to frank dividends to the maximum extent possible. However, Challenger currently is unable to frank dividends due to carried forward tax losses which need to be utilised before franking credits are generated. Challenger expects to recommence partial dividend franking for the final 2014 dividend, which is expected to be paid in September 2014. Approximately 40% of the final 2014 dividend is also expected to be franked, however this is subject to market conditions and Challenger’s second half financial performance. Dividend franking levels are expected to continue to increase as carried forward tax losses are utilised and franking credits are generated. Challenger targets a combined dividend and buy back payout ratio of approximately 50% of normalised profit after tax over the medium term, subject to prevailing market conditions and alternative uses of capital. Given Challenger’s current inability to frank dividends, Challenger operates an on-market share buy back program to enhance shareholder returns. Challenger’s on-market buy back program operates under s257B of the Corporations Act, which allows up to 10% of the smallest number of shares on issue in the previous 12 months to be bought back. The amount bought back under Challenger’s on-market buy back program in any period is subject to prevailing market conditions and alternative uses of capital. Challenger initiated its buy back program in 2008 and has bought back 150 million shares ($500 million) since initiating the program, which has enhanced growth in earnings per share. During the six months ended 31 December 2013, no shares were bought back, with $25 million of capital allocated to the acquisition of Bendzulla Actuarial. The Challenger Board regularly reviews the dividend policy as part of the Group’s capital management plan. In August 2013, the Board increased the targeted dividend payout ratio, increasing it by five percentage points to a range of 35% to 40% of normalised net profit after tax. In February 2014, the Board determined that the targeted dividend payout ratio would increase by another five percentage points to a range of 40% to 45% of normalised net profit after tax, with the increase effective for the final 2014 dividend. The final 2014 dividend is expected to be paid in September 2014, with the amount dependent on prevailing market conditions and the second half financial performance. Whilst Challenger maintains the flexibility to operate its on-market buy back program under s257B of the Corporations Act, no buy back is expected in the second half of the year ended 30 June 2014 due to the Board increasing the second half dividend payout ratio to a range of 40% to 45% and $25 million of capital allocated to the Bendzulla acquisition. F

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4. Likely developments and expected results The Australian retirement income market is expected to grow strongly over the next 20 years as Australia’s baby boomers (born 1943–1960) move from the retirement savings phase of superannuation to the retirement spending phase. Australia’s baby boomers control approximately two thirds of Australia’s $1.7 trillion1 of superannuation assets. As a result of these demographic trends, approximately $72 billion2 will move from the savings to retirement phase in financial year 2015.

Life is also well positioned to benefit from changes in retiree risk preferences. Many retirees are risk averse and demanding long term protection from the risks they face in retirement, including longevity, inflation and market risks. Annuities address these concerns, and as a result Challenger is experiencing increased demand for Life’s products, particularly longer dated lifetime annuities

The Australian funds management market is an attractive market underpinned by compulsory superannuation contributions, which are legislated to increase from 9.25% to 12% of gross employee salaries. The Australian superannuation market is forecast to grow from $1.7 trillion today to $7 trillion3 over the next 20 years.

Challenger’s Fidante Partners business model has widespread support from investors and asset consultants. Opportunities exist to expand both existing boutique partners as well as adding new partners, which will provide further growth opportunities. Fidante Partners has recently added a new boutique, Tempo Asset Management, increasing the number of separately branded active managers to fourteen.

Challenger Investments Partners is continuing to build out its client base and product offering. There are significant opportunities to add new mandates from domestic and international institutions, superannuation funds and sovereign wealth funds. Challenger Investments Partners has a strong pipeline with approximately $0.7 billion of mandates, which are unfunded at 31 December 2013.

Expected results Given the strong first half Life retail sales the Life retail net book growth target has been increased from 8% (~$570 million) to a range of 10% (~$710 million) to 12% (~$850 million), excluding any impact from the maturity of the High Yield Fund annuity for the year ended 30 June 2014. In February 2011, the Challenger High Yield Fund was converted to a 3 year annuity, with approximately $300 million maturing in March 2014. Retail net book growth guidance excludes the High Yield Fund annuity maturity, as reinvestment rates for this annuity are difficult to determine.

Life COE guidance has also been increased from a range of between $465 million and $475 million to a range of $470 million and $480 million for the year ended 30 June 2014. The increase in guidance reflects the acquisition of Bendzulla Actuarial (refer below) and higher than expected retail net book growth in the six months ended 31 December 2013.

5. Significant events after the balance date On 16 December 2013 Challenger announced the intended acquisition of Bendzulla Actuarial, the leading provider of Self-Managed Superannuation Fund (SMSF) actuarial certificates in Australia. An actuarial certificate is required by an SMSF when one (or more) members is in the retirement phase and one (or more) is in the savings phase. This acquisition completed in February 2014.

Bendzulla’s market share of actuarial certificates is over 60%, with approximately 60,000 certificates per annum delivered via client relationships with over 5,500 Australian accounting firms. Whilst not material to the balance sheet or profit of the Group, the Bendzulla acquisition is a strategic investment for Challenger in terms of SMSF retiree research, product and service development and education. The Bendzulla product and service offering will be expanded to assist SMSFs and their advisers manage retirement risks. The Bendzulla acquisition is earnings per share accretive in the first year and meets Challenger’s 18% pre-tax return on equity hurdle.

At the date of this financial report, and other than as reported above, no other matter or circumstance has arisen that has affected, or may significantly affect, the Group’s operations, the results of those operations or the Group’s state of affairs in future financial years.

6. Rounding The amounts contained in this report and the financial report have been rounded off to the nearest $100,000 under the option available to the Group under Australian Securities & Investments Commission (ASIC) Class Order 98/100. The Group is an entity to which the class order applies. 1 APRA Superannuation Statistics – September 2013 2 Rice Warner Actuaries projection 3 Deloitte – Dynamics of the Australian superannuation system: the next 20 years 2013 – 2033 – September 2013

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EY Building a better working world

Ernst & Young 680 George Street Sydney NSW 2000 Australia GPO Box 2646 Sydney NSW 2001

Tel: +61 2 9248 5555 Fax: +61 2 9248 5959 ey.com/au

Auditor's independence declaration to the Directors of Challenger Limited

In relation to our review of the half year financial report of Challenger Limited for the six months ended 31 December 2013, to the best of my knowledge and belief, there have been no contraventions of the auditor independence requirements of the Corporations Act 2001 or any applicable code of professional conduct.

Liability limited by a scheme approved under Professional Standards Legislation.

CYV-

Ernst & Young

D N Jewell Partner 17 February 2014



31 December 2013 Directors' report

0(dC4'.■ challenger i4o www.challenger.com.au

7. Auditor's independence declaration The Directors received the following declaration from the auditor of Challenger Limited:

8. Authorisation Signed in accordance with a resolution of the Directors of Challenger Limited

G A Cubbin Director Sydney 17 February 2014

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31 December 2013 Half year financial report


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Half year financial report Contents Page Income statement 14 Statement of comprehensive income 15 Statement of financial position 16 Statement of changes in equity 17 Statement of cash flows 19 Notes to the Financial Statements 20 1. Basis of preparation and accounting policies 20 2. Segment information 21 3. Revenue 25 4. Expenses 26 5. Finance costs 26 6. Income tax 27 7. Dividends paid and proposed 27 8. Earnings per share 28 9. Financial assets – fair value through profit and loss 28 10. Investment and development property 29 11. Goodwill 29 12. Interest bearing financial liabilities 29 13. Special Purpose Vehicles 31 14. External unit holders’ liabilities 31 15. Life contract liabilities 32 16. Contributed equity 34 17. Fair value information 37 18. Reconciliation of profit to operating cash flow 40 19. Subsequent events 40 20. Contingent liabilities, contingent assets and credit commitments 41 Directors’ declaration 42 Independent Auditors Review Report 43 This half year financial report covers Challenger Limited (the Company) and its controlled entities (the Group).

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Income statement For the six months ended 31 December

Note

2013 $M

2012 $M

Revenue 3 772.3 842.9 Expenses 4 (445.1) (388.9) Finance costs 5 (121.6) (168.2) Share of profits of associates 6.8 5.0 Profit before income tax 212.4 290.8 Income tax expense 6 (25.1) (51.3)

Profit for the period 187.3 239.5 Profit attributable to equity holders 166.3 222.0 Profit attributable to non-controlling interests 21.0 17.5 Profit for the period 187.3 239.5

Earnings per share:

Basic earnings per share 8 32.3 41.8

Diluted earnings per share 8 30.8 41.5

The income statement should be read in conjunction with the accompanying notes.

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Statement of comprehensive income For the six months ended 31 December

Note 2013 $M

2012 $M

Profit for the period 187.3 239.5 Other comprehensive income/(expense)1 from: - Translation of foreign entities (1.6) (23.3) - Income tax benefit

6 2.3 7.0 0.7 (16.3) - Hedge of net investment in foreign entities1 6.0 25.0 - Income tax expense

6 (2.2) (7.5) 3.8 17.5 - Cash flow hedges – SPV1,2 (2.9) 3.7 (2.9) 3.7

Other comprehensive income net of tax for the period 1.6 4.9

Total comprehensive income for the period 188.9 244.4

Comprehensive income attributable to equity holders 167.9 226.9

Comprehensive income attributable to non-controlling interests 21.0 17.5

Total comprehensive income for the period 188.9 244.4

1. These items may eventually be recycled to the profit and loss section of the income statement. 2. SPV = Special Purpose Vehicles

The statement of comprehensive income should be read in conjunction with the accompanying notes.

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Statement of financial position As at

Note

31 Dec 2013

$M

30 June 2013

$M

31 Dec 2012

$M

Assets

Cash and cash equivalents 395.1 1,030.6 648.1 Cash and cash equivalents - SPV 13 255.1 278.7 330.3 Receivables 223.5 333.4 114.9 Mortgage assets – SPV 13 3,382.1 4,039.4 4,617.9 Derivative assets 237.5 328.0 438.9 Financial assets – fair value through profit and loss 9 9,582.3 8,599.2 8,279.9 Investment and development property 10 2,585.0 2,431.4 2,372.9 Plant and equipment 143.6 137.6 130.0 Current tax asset 0.5 - - Investments in associates 36.4 40.0 49.8 Other assets 53.8 45.4 52.7 Goodwill 11 506.8 506.8 506.0 Other intangible assets 15.3 14.3 13.6

Total assets 17,417.0 17,784.8 17,555.0

Liabilities Payables 222.0 207.8 323.4 Derivative liabilities 326.5 381.4 137.8 Interest bearing financial liabilities 12 2,311.8 2,035.7 1,784.5 Interest bearing financial liabilities - SPV 13 3,335.2 3,825.8 4,439.2 External unit holders' liabilities 14 1,000.3 1,751.4 1,777.0 Provisions 26.1 27.0 30.2 Current tax liability - 2.3 0.2 Deferred tax liabilities 161.7 135.9 102.9 Life contract liabilities 15 7,617.2 7,123.3 6,819.6

Total liabilities 15,000.8 15,490.6 15,414.8

Net assets 2,416.2 2,294.2 2,140.2

Equity Contributed equity 16 1,263.2 1,271.9 1,313.5 Reserves 52.1 49.8 33.0 Retained earnings 737.0 625.7 480.8

Total equity attributable to equity holders 2,052.3 1,947.4 1,827.3 Non-controlling interests 363.9 346.8 312.9

Total equity 2,416.2 2,294.2 2,140.2

The statement of financial position should be read in conjunction with the accompanying notes. F

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Statement of changes in equity Attributable to equity holders

For the six months ended 31 December 2013 Note

Contributed equity

$M

Share based

payment reserve

$M

Cash flow hedge

reserve – SPV

$M

Foreign currency

translation reserve

$M

Adjusted controlling

interest reserve

$M

Retained earnings

$M Total

$M

Non-controlling

interests $M

Total Equity

$M At 1 July 2013 1,271.9 30.0 3.6 (2.0) 18.2 625.7 1,947.4 346.8 2,294.2

Profit for the period - - - - - 166.3 166.3 21.0 187.3 Other comprehensive income - - (2.9) 4.5 - 1.6 - 1.6 Total comprehensive income - - (2.9) 4.5 - 166.3 167.9 21.0 188.9 Other equity movements Shares purchased in CPP Trust 16 (15.6) - - - - - (15.6) - (15.6) Vested shares released from the CPP Trust 16 15.3 - - - - - 15.3 - 15.3 CPP deferred share purchases 16 (8.4) - - - - - (8.4) - (8.4) Share based payment expense less releases

- (2.8) - - - - (2.8) - (2.8)

Change in holding in adjusted controlling interest reserve

- - - - 3.5 - 3.5 - 3.5

Dividends paid 7 - - - - - (55.0) (55.0) - (55.0) Other non-controlling interests movements

- - - - - - - (3.9) (3.9)

At 31 December 2013 1,263.2 27.2 0.7 2.5 21.7 737.0 2,052.3 363.9 2,416.2

The statement of changes in equity should be read in conjunction with the accompanying notes. F

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Statement of changes in equity (continued)

Attributable to equity holders

For the six months ended 31 December 2012 Note

Contributed equity

$M

Equity option

premium reserves

$M

Share based

payment reserve

$M

Cash flow hedge

reserve – SPV

$M

Foreign currency

translation reserve

$M

Adjusted controlling

interest reserve

$M

Retained earnings

$M Total

$M

Non-controlling

interests $M

Total Equity

$M At 1 July 2012 1,313.1 65.0 35.6 (0.9) (8.4) 17.7 270.1 1,692.2 352.3 2,044.5 Profit for the period - - - - - - 222.0 222.0 17.5 239.5 Other comprehensive income - - - 3.7 1.2 - - 4.9 - 4.9 Total comprehensive income - 65.0 35.6 3.7 1.2 17.7 222.0 226.9 17.5 244.4 Other equity movements Shares purchased and cancelled under share buy back

16 (20.4) - - - - - - (20.4) - (20.4)

Vested shares released from the CPP Trust

32.3 - - - - - - 32.3 - 32.3

CPP deferred share purchases (11.5) - - - - - - (11.5) - (11.5) Share based payment expense less releases

16 - - (14.9) - - - - (14.9) - (14.9)

Change in holding in adjusted controlling interest reserve

16 - - - - - (2.7) - (2.7) - (2.7)

Dividends paid 7 - - - - - - (55.7) (55.7) - (55.7) Transfer from equity option reserve on expiry of share options, net of tax

- (65.0)

1.7 - - - 44.4 (18.9) - (18.9)

Consolidation of new controlled entities - - - - - - - - (4.9) (4.9) Other non-controlling interests movements

- - - - - - - - (52.0) (52.0)

At 31 December 2012 1,313.5 - 22.4 2.8 (7.2) 15.0 480.8 1,827.3 312.9 2,140.2 The statement of changes in equity should be read in conjunction with the accompanying notes.

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Statement of cash flows For the six months ended 31 December

Notes 2013

$M 2012

$M Operating activities Receipts from customers 324.4 388.1 Annuity receipts 15 1,457.0 1,055.3 Annuity payments 15 (1,079.6) (999.4) Payments to reinsurer 15 (4.0) (3.9) Interest paid to external unit holders (18.4) (77.5) Receipts from external unit holders 290.1 921.2 Payments to external unit holders (1,042.1) (953.7) Payments to vendors and employees (299.0) (327.1) Dividends received 26.9 21.7 Interest received 271.8 270.3 Interest paid (38.4) (32.4) Income tax paid (2.2) (1.6)

Net cash (outflow)/inflow from operating activities 18 (113.5) 261.0

Investing activities Payments on net purchases of investments (432.3) (317.8) Mortgage loan repayments 609.0 744.7 Payments for purchases of plant and equipment (3.2) (14.8)

Net cash inflow from investing activities 173.5 412.1

Financing activities Proceeds from drawdown of interest bearing liabilities 21.5 28.3 Repayment of interest bearing liabilities (662.1) (808.3) Payments for Treasury shares, net of option proceeds and share buy back (15.6) (8.9) Distributions paid to non-controlling interests (7.9) (8.4) Dividends paid (55.0) (55.7) Payments to non-controlling interests for redemption of units - (1.3)

Net cash outflow from financing activities (719.1) (854.3) Net decrease in cash and cash equivalents (659.1) (181.2) Cash and cash equivalents at the start of the period 1,309.3 1,159.6 Cash and cash equivalents at the end of the period 650.2 978.4 Comprising: Cash 395.1 648.1 Cash – SPV 255.1 330.3 Cash and cash equivalents at the end of the period 650.2 978.4 The statement of cash flows should be read in conjunction with the accompanying notes.

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31 December 2013 Half year financial report – Notes to the financial statements


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Notes to the financial statements For the six months ended 31 December 2013

1. Basis of preparation and accounting policies Challenger Limited (the Company or the parent entity) is a company limited by shares, incorporated in Australia, whose shares are publicly traded on the Australian Securities Exchange (ASX).

This half year financial report of Challenger Limited and its controlled entities (the Group) for the six months ended 31 December 2013 was authorised for issue in accordance with a resolution of the Directors of the Company on 17 February 2014.

(i) Basis of preparation This general purpose half year financial report for the six months ended 31 December 2013 has been prepared in accordance with Accounting Standard AASB 134 Interim Financial Reporting, and the Corporations Act 2001.

The half year financial report does not include all the notes normally included in an annual financial report. It is recommended that this half year financial report be read in conjunction with the financial report for the year ended 30 June 2013 and any public announcements made by the Group in accordance with the continuous disclosure obligations of the ASX listing rules.

Unless stated otherwise, the half year financial report is presented in Australian dollars and amounts are rounded to the nearest one hundred thousand dollars.

(ii) New and revised accounting standards and interpretations Except for the matters referred to below, the accounting policies and methods of computation are the same as those adopted in the annual report for the year ended 30 June 2013. Where applicable, comparative figures have been updated to reflect any changes in the current period.

Changes in accounting policy or disclosure

AASB 10 Consolidated Financial Statements and AASB 12 Disclosure of Interests in Other Entities

AASB 10 and AASB 12 have been applied in the period. AASB 10 provides further clarity on the concept of control and AASB 12 enhances disclosure requirements for subsidiaries, joint arrangements, associates and unconsolidated structured entities. Application of AASB 10 has not resulted in changes to those entities deemed to be controlled by the Group and AASB 12 will result in increased disclosure in the 30 June 2014 annual financial report.

AASB 13 Fair Value Measurement

This standard establishes a single source of guidance for determining the fair value of assets and liabilities. AASB 13 does not change when an entity is required to use fair value, but rather provides guidance on how to determine fair value when fair value is required or permitted.

AASB 13 also expands the disclosure requirements for all assets or liabilities carried at fair value. This includes information about the assumptions made and the qualitative impact of those assumptions on the fair value determined. Additional disclosure for financial assets and liabilities is required for the first time in half-year accounts.

Consequential amendments were also made to other standards via AASB 2011-8 which has resulted in additional disclosures around the fair values of financial instruments.

The adoption of other amendments and changes which were effective during the period did not result in any material changes to the financial report.

Accounting standards and interpretations issued but not yet effective

There are a number of amendments to Australian Accounting Standards, in addition to those described in the most recent annual financial report, that are available for early adoption but that have not been applied in this half year financial report. The amendments would have resulted in only minor disclosure impacts if they had been early adopted.

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2. Segment information Business segments The reporting segments1 of the Group are as follows:

Life Funds

Management Total reporting

segments Corporate and other2 Total

For the six months ended 31 December

31 Dec 2013

$M

31 Dec 2012

$M

31 Dec 2013

$M

31 Dec 2012

$M

31 Dec 2013

$M

31 Dec 2012

$M

31 Dec 2013

$M

31 Dec 2012

$M

31 Dec 2013

$M

31 Dec 2012

$M Net income 237.2 225.1 53.8 45.2 291.0 270.3 1.2 3.2 292.2 273.5 Operating expenses (36.6) (35.0) (33.1) (32.3) (69.7) (67.3) (29.7) (28.4) (99.4) (95.7) Normalised EBIT 200.6 190.1 20.7 12.9 221.3 203.0 (28.5) (25.2) 192.8 177.8 Interest and borrowing costs - - - - - - (2.2) (2.7) (2.2) (2.7)

Normalised net profit/(loss) before tax/segment profit 200.6 190.1 20.7 12.9 221.3 203.0 (30.7) (27.9) 190.6 175.1 Tax on normalised profit (27.1) (26.4) Normalised net profit after tax 163.5 148.7 Investment experience after tax 2.8 73.3

Profit attributable to equity holders 166.3 222.0

As at 31 December Segment assets 11,379.6 11,017.6 147.4 143.2 11,527.0 11,160.8 5,402.3 5,953.2 16,929.3 17,114.0 Segment liabilities (9,428.2) (9,252.7) (16.8) (16.6) (9,445.0) (9,269.3) (5,432.0) (6,017.4) (14,877.0) (15,286.7) Net assets attributable to equity holders 1,951.4 1,764.9 130.6 126.6 2,082.0 1,891.5 (29.7) (64.2) 2,052.3 1,827.3

Other statutory segment information Revenue from external customers 341.8 368.5 47.6 37.5 389.4 406.0 (9.6) (11.0) 379.8 395.0 Interest revenue 370.6 412.7 - - 370.6 412.7 21.9 35.2 392.5 447.9 Interest expense (119.2) (166.7) - (0.1) (119.2) (166.8) (2.4) (1.4) (121.6) (168.2) Intersegment revenue (11.5) (11.6) 11.5 11.6 - - - - - - Depreciation and amortisation (5.3) (3.1) - (0.2) (5.3) (3.3) (3.8) (3.6) (9.1) (6.9) 1. See pages 22 and 23 for definitions of the terms used in the management view of segments. 2. ‘Corporate and other’ includes corporate companies, corporate SPV, non-controlling interests and Group eliminations. F

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2. Segment information (continued) Definitions Operating segments

The format of the segment information is the same as that provided to the Chief Executive Officer (the chief operating decision maker) of the Group. The Group operates in the following segments:

Life – includes annuity and life insurance business carried out by Challenger Life Company Limited (CLC). CLC invests in assets providing long-term income streams for customers.

Funds Management – earns fees from its Fidante Partners and Challenger Investment Partners (formally Aligned Invesments) operations, providing an end-to-end funds management business as well as managing one listed fund and a number of unlisted fund mandates.

Corporate and other – consists of other income and costs that fall outside the day-to-day operations of the reportable segments. These include the costs of the Group CEO and CFO, shared services across the Group, long-term incentive costs, Directors' fees, corporate borrowings and associated borrowing costs and shareholder registry services.

To reconcile to Group results, Corporate and other also includes eliminations and non-core activities of the Group.

Net income and operating expenses differ from revenue and expenses as disclosed in the income statement as certain direct costs (including commissions, property expenses and management fees) included in expenses are netted off against gross revenues in deriving the management view of net income above. In addition, the revenues, expenses and finance costs from Special Purpose Vehicles (SPV) are separately disclosed in the statutory view but are netted off in net income. Revenue also includes investment gains and losses but these are excluded from the management view as they form part of investment experience (see below). Net income consists of the sub categories of normalised cash operating earnings, being the management view of revenue for the Life segment, net fee income, being the management view of revenue from the Funds Management segment, and other income, being the management view of revenue from Corporate and other.

Normalised cash operating earnings is calculated as normalised capital growth (see below) plus cash earnings. Cash earnings represents the sum of investment yield (being the management view of revenue from investment assets such as net rental income, dividends, and interest), interest expense, commission and fees.

Normalised EBIT

Normalised earnings before interest and tax (EBIT) is the sum of net income and operating expenses, as defined above. It excludes investment experience, corporate interest and borrowing costs, tax and significant items.

Interest and borrowing costs differ from finance costs as disclosed in the income statement for similar reasons to revenue and expenses, with the major difference arising from the netting of SPV finance costs against SPV revenue in net income in the management view.

Tax on normalised profit represents the consolidated statutory tax expense or benefit for the period, less tax attributable to non-controlling interests, less the tax applied to investment experience.

Investment experience after tax

The Group is required by accounting standards to value assets and liabilities supporting the life insurance business at fair value. This can give rise to fluctuating valuation movements being recognised in the income statement, particularly during periods of market volatility. As the Group is generally a long-term holder of assets, due to them being held to match to the term of life contract liabilities, the Group takes a long-term view of the expected capital growth of the portfolio rather than focusing on short-term volatility. Investment experience is a mechanism employed to remove the volatility arising from asset and liability valuation from the results so as to more accurately reflect the underlying performance of the Group.

Investment experience is calculated as the difference between the actual investment gains/losses (both realised and unrealised) and the normalised capital growth plus actuarial assumption changes. Investment experience after tax is investment experience net of tax at the prevailing income tax rate.

Normalised capital growth is determined by multiplying the normalised capital growth rate for each asset class by the average investment assets for the period. The normalised growth rates represent the Group’s medium to long-term capital growth expectations for each asset class over the investment cycle. The normalised growth rates are 6.0% for Equity and Other Investments, 4.0% for Infrastructure, 2.0% for Property and (0.35%) for Cash, and fixed income. The rates have been set with reference to medium to long-term market growth rates and are reviewed to ensure consistency with prevailing market conditions.

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2. Segment information (continued) Actuarial assumption changes represents the impact of changes in macro-economic variables, including bond yields and inflation factors, expense assumptions, losses on new business and other factors applied in the valuation of life contract liabilities. It also includes the attribution of interest rate derivatives used to hedge interest rate volatility.

Major customers

The Group does not rely on any large individual customers and so there is no significant concentration risk.

Products and services

The Group’s divisional segment split represents the products that the Group supplies.

Life – offers fixed rate retirement and superannuation products that are designed for investors who are seeking a low-risk investment for a period of time and want to protect their capital.

Funds Management – has equity investments in a number of boutique fund managers and, through the Challenger Investment Partners business, offers a range of managed investments across the major asset classes.

Geographical areas

The Group operates predominantly in Australia and so no geographical split is provided to the chief operating decision maker.

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2. Segment information (continued)

31 Dec 2013

$M

31 Dec 2012

$M Reconciliation of management view of revenue to statutory revenue Reporting segments 291.0 270.3 Corporate and other 1.2 3.2 Net income – management view of revenue 292.2 273.5

Expenses and finance costs offset against management revenue SPV expenses and finance costs offset against SPV income 63.0 101.3 Commission expenses offset against related income 25.9 26.4 Amortisation of deferred portfolio and origination costs offset against mortgage income 0.9 1.1

Change in life contract liabilities and reinsurance contracts recognised in expenses offset against revenue 231.0 189.7 Property related expenses offset against property income 32.1 33.1 Interest and loan amortisation costs 59.6 68.2 Management fees 41.1 28.0 Adjustment for non-controlling interests and other items 22.4 21.3

Difference between management view of investment experience and statutory recognition Total actual capital growth 15.8 145.9 Normalised capital growth (25.9) (18.6) Actuarial assumption changes 14.2 (27.0)

Statutory view – revenue 772.3 842.9 Reconciliation of management to statutory view of pre-tax profit Reportable segment normalised net profit before tax 221.3 203.0 Corporate and other normalised net loss before tax (30.7) (27.9) Normalised net profit before tax – management view of pre-tax profit 190.6 175.1

Investment experience before tax 4.1 100.3 Profit attributable to non-controlling interests excluded from management view 21.0 17.5

Other (3.3) (2.1)

Statutory view – profit before tax 212.4 290.8

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3. Revenue

31 Dec

2013 $M

31 Dec 2012

$M Fee revenue Management fee revenue 62.9 51.0 Fee revenue – SPV 0.9 1.5 Other fee revenue 1.5 7.9 Investment revenue Equity and infrastructure investments Dividend revenue 10.6 6.6 Net realised gain on equity investments 3.4 0.2 Net unrealised gain/(loss) on equity investments 22.4 (0.4) Net realised gain on infrastructure investments - 1.4 Net unrealised (loss)/gain on infrastructure investments (2.0) 3.3 Debt securities and cash Interest revenue 270.7 264.9 Net realised gain on debt securities 51.3 76.1 Net unrealised gain on debt securities1 4.9 131.5 Investment property and property securities Dividend revenue 10.0 4.2 Property rental revenue 118.8 117.8 Net realised gain/(loss) on investment property and property securities 2.7 (0.9) Net unrealised (loss)/gain on investment property and property securities (19.6) 2.9 Other Interest revenue – SPV 121.8 183.0 Net realised (loss)/gain on foreign exchange translation and hedges (77.4) 11.9 Net unrealised gain on foreign exchange translation and hedges 94.6 15.0 Net realised loss on interest rate derivatives (8.2) (16.2) Net unrealised (loss)/gain on interest rate derivatives (10.5) 6.1 Net unrealised gains on equity swap derivatives 0.2 - Other revenue Life insurance premiums and related revenue 272.9 103.8 Change in life insurance contract liabilities2 (204.0) (70.2) Change in life investment contract liabilities2 42.4 (55.0) Change in reinsurance contract liabilities 2.0 (3.5)

Total revenue 772.3 842.9

1. Includes fair value movements in subordinated debt. 2. Change in life contract liabilities arising from discount rates, inflation rates and other assumptions are recognised as revenue, with other

movements being included in Note 4 Expenses. For

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4. Expenses

31 Dec

2013 $M

31 Dec 2012

$M Life insurance claims and expenses 44.4 30.9 Cost of life insurance contract liabilities1 37.9 30.0 Cost of life investment contract liabilities1 147.5 127.7 Reinsurance contracts1 1.2 1.1 Property related expenses2 32.1 33.1 Management fees 41.1 28.0 Commission expenses 25.9 26.4 Amortisation of deferred portfolio and origination costs 0.9 1.1 Fee expenses – SPV 1.0 1.3 Intangibles amortisation expense 1.1 1.0 Employee expenses 56.0 53.4 Employee share based payments 12.2 8.9 Superannuation 2.8 2.5 Occupancy expense – operating lease 3.1 3.5 Depreciation expense 7.1 4.8 Communications 8.0 8.2 IT maintenance 2.7 2.4 Professional fees 7.5 7.0 Other expenses 12.6 17.6

Total expenses 445.1 388.9

1. Cost of life contract liabilities recognised as an expense consists of the interest expense on the liability and any loss on the initial recognition of new business less the release of expenses relating to the current period. The interest expense on the liability represents the unwind of the discount on the opening liability over the period, whereas the impacts of changes in the discount rate applied for the current valuation are included in the change in life contract liabilities disclosed in Note 3 Revenue.

2. Property rental expenses relate to investment properties that generate rental income.

5. Finance costs

31 Dec 2013

$M

31 Dec 2012

$M Interest and loan amortisation expenses incurred by: - SPV 62.0 100.0 - Property trusts 10.8 11.7

- Other entities 46.4 55.2

Other finance costs 2.4 1.3

Total finance costs 121.6 168.2

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6. Income tax

31 Dec 2013

$M

31 Dec 2012

$M Analysis of income tax expense Current income tax expense for the period (15.5) (73.2) Current income tax benefit prior period adjustment 3.1 0.2 Deferred income tax (expense)/benefit (12.7) 21.7 Income tax expense (25.1) (51.3)

Income tax benefit on translation of foreign entities 2.3 7.0 Income tax expense on hedge of net investment in foreign entity (2.2) (7.5) Income tax benefit/(expense) on other comprehensive income 0.1 (0.5)

Reconciliation of income tax expense: Profit before income tax 212.4 290.8

Prima facie income tax based on the Australian company tax rate of 30% (63.7) (87.2) Tax effect of amounts not deductible/assessable in calculating taxable income:

Non-assessable and non-deductible items1 29.2 27.4 Rate differential on offshore income 1.5 (1.5) Non-controlling interest 6.3 5.2 Other items 1.6 4.8

Income tax expense for the period (25.1) (51.3)

1. The 31 December 2012 and 2013 amounts include a reduction in the tax expense of $15.0 million in respect of the application of the Taxation of Financial Arrangements laws for which an ATO private binding ruling was received in February 2012. This will result in a circa $30 million net reduction of the tax expense for the 2014 financial year. The deductions in respect of this ATO private ruling cease on 30 June 2014.

Unused capital losses – The Group has $36.1 million (30 June 2013: $36.3 million) of gross unused capital losses for which no deferred tax asset has been recognised. Unused revenue loss - Revenue losses (net) of $47.7 million (30 June 2013: $53.0 million) of the Challenger tax consolidated group have been recognised as a deferred tax asset. A deferred tax asset in relation to $20.7 million of revenue losses (net) has not been recognised in respect of a non tax consolidated group entity as it is unlikely sufficient assessable gains will be derived by this entity to utilise these losses.

7. Dividends paid and proposed

Dividends declared and paid during the year

31 Dec 2013

$M

31 Dec 2012

$M Final 30 June 2013 unfranked dividend: 10.5 cents (2012: 10.5 cents unfranked) 55.0 55.7

Dividend proposed (not recognised as a liability at period end)

Interim 30 June 2014 unfranked dividend: 12.5 cents (2013: 9.5 cents unfranked) 65.3 50.0

There is no dividend reinvestment plan in operation for dividends. F

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8. Earnings per share The following reflects the income and share data used in the basic and diluted earnings per share computations:

31 Dec 2013

Cents

31 Dec 2012

Cents Basic earnings per share 32.3 41.8 Diluted earnings per share 30.8 41.5

Profit used in the calculation of earnings per share $M $M Profit attributable to equity holders 166.3 222.0 Number of shares Number Number Weighted average ordinary shares for basic earnings per share 514,460,073 531,378,400 Effect of dilution 25,874,647 3,594,934

Weighted average ordinary shares for diluted earnings per share 540,334,720 534,973,334 In determining the weighted average number of ordinary shares used in the calculation of earnings per share, a reduction is made for the average number of treasury shares held. The weighted average number of treasury shares for the period was 16,402,512 (31 December 2012: 12,644,196). There have been no material transactions involving ordinary shares or potential ordinary shares since the reporting date and before the completion of this financial report.

9. Financial assets – fair value through profit and loss

Financial assets at fair value through profit and loss1

31 Dec 2013

$M

30 June 2013

$M

31 Dec 2012

$M Fixed Income securities Domestic sovereign bonds 1,393.9 391.7 - Floating Rate Notes and Corporate bonds 4,480.0 4,691.4 4,946.1 Residential mortgage and asset backed securities 2,015.2 2,006.2 2,081.0 Non-SPV mortgage assets 196.6 155.2 172.5 8,085.7 7,244.5 7,199.6 Equity securities Shares in listed and unlisted corporations 154.3 91.8 49.6 Unit trusts, managed funds and other 276.4 233.5 182.6 Shares in listed corporations held in relation to endowment warrants - - 4.2 430.7 325.3 232.2 Infrastructure investments Units in listed and unlisted infrastructure trusts 331.9 302.3 240.3 Other infrastructure investments 273.1 278.8 289.0 605.0 581.1 529.3 Property securities Indirect property investments in listed and unlisted trusts 460.9 448.3 318.8 Total financial assets at fair value through profit and loss 9,582.3 8,599.2 8,279.9

1. All financial assets at fair value through profit and loss are designated as such on initial recognition.

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10. Investment and development property

31 Dec 2013

$M

30 June 2013

$M

31 Dec 2012

$M Investment property in use 2,488.7 2,333.6 2,277.7 Investment property under development1 18.7 18.6 18.3 Total investment property 2,507.4 2,352.2 2,296.0 Development property2 77.6 79.2 76.9 Total investment and development property 2,585.0 2,431.4 2,372.9 1. Investment properties under development are shown at fair value. 2. Development property is held at the lower of cost or net realisable value, being fair value on completion less costs to complete and

estimated selling costs.

11. Goodwill

31 Dec

2013 $M

30 June 2013

$M

31 Dec 2012

$M Opening balance 506.8 505.7 505.7 Foreign exchange gain - 1.1 0.3

Closing balance1 506.8 506.8 506.0

1. Goodwill was tested and no impairment was required during the period. A discount rate of 11.0% was applied (June 2013: 10.5%).

12. Interest bearing financial liabilities 31 December 2013 30 June 2013 31 December 2012

Outstanding Facility Outstanding Facility Outstanding Facility Bank loans $M $M $M $M $M $M Recourse – Corporate - 250.0 - 250.0 - 250.0 Non-recourse – Controlled property trusts1

752.8 813.9 771.6 827.2 780.1 835.8

Non-recourse – Controlled infrastructure trusts

206.1 206.1 206.1 206.1 206.1 206.1

Non-recourse – Repurchase agreements

729.2 729.2 448.9 448.9 235.7 235.7

Total bank loans 1,688.1 1,999.2 1,426.6 1,732.2 1,221.9 1,527.6 Non-recourse non-bank loans

Subordinated debt issuance

509.5 509.5 510.1 510.1 472.3 472.3

Loan note finance 103.1 103.1 88.2 88.2 79.9 79.9 Controlled property trusts

11.1 11.3 10.8 10.9 10.4 10.6

Total non-bank loans 623.7 623.9 609.1 609.2 562.6 562.8 Total interest bearing liabilities 2,311.8 2,623.1 2,035.7 2,341.4 1,784.5 2,090.4

1. Total facility limit consists of redraw loan facilities limits totalling $300m and non-redraw loan facilities limits totalling $513.9m.

Bank loans Corporate – the facility of $250.0 million is secured by guarantees in place between members of the Group. A floating interest rate was applied to this facility during the period.

Controlled property trusts – the 31 December 2013 balance includes $334.1 million (30 June 2013: $346.5 million) of Yen denominated loans in the Japanese property trusts (31 December 2013: ¥32.0 billion,

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30 June 2013: ¥32.2 billion). These loans have variable terms and are secured by way of first-ranking mortgages over the investment properties. Both loans are due to mature in the financial year ending 2017. On 29 July 2013 the Maitland development entered into a new loan facility with St George replacing its existing facility. The new loan facility consists of three non-redraw tranches totalling $33.7 million with an expiry of 14 July 2016. Challenger Diversified Property Group (CDI) has a $300.0 million multi-option syndicated finance facility with Westpac Banking Corporation Limited (WBC) and Commonwealth Bank of Australia Limited (CBA). The facility comprises three tranches with limits of $90 million, $110 million and $100 million maturing in October 2015, July 2016 and July 2017 respectively, with a weighted average term of 2.7 years. For Australian denominated loans (31 December 2013: $198.9 million, 30 June 2013: $201.0 million), interest on the facility is calculated at the bank bill swap rate plus a margin. For Euro denominated loans (31 December 2013: Є38.5 million or A$59.3 million, 30 June 2013: Є38.5 million or A$54.7 million), interest on the facility is calculated at EURIBOR plus a margin. Challenger Diversified Property Trust 2 and Challenger Diversified Property Development Pty Limited, entities forming part of the stapled CDI group, are guarantors of the facility. The CDI loan facility comprises a secured component and an unsecured component. In relation to the unsecured component, CDI has not granted security over its properties but provided a number of undertakings, including an undertaking not to create or allow encumbrance over its properties. The secured component relates to the funding of property acquisitions in France. Security was granted by way of mortgages of shares in, and of debts between, entities established to acquire the French properties. Bank loans in the other unlisted property trusts of $161.6 million (June 2013: $170.9 million) are secured solely by fixed and floating first mortgages over investment properties. Controlled infrastructure trusts – this amortising facility has an expiry date of June 2016. The facility has variable terms and is secured by the way of first ranking mortgages over the infrastructure asset. Repurchase agreements – CLC has entered into repurchase agreements with the RBA and banking institutions whereby debt securities (or portfolio of debt securities) are sold for cash whilst simultaneously agreeing to repurchase the debt securities at a fixed price and fixed date in the future. These agreements are hedging exposures on the External unit holders’ liabilities and are interest bearing with interest factored into the sellback price and paid on repurchase. CLC has active repurchase agreements for $729.3 million (June 2013: $448.9 million). Of the total balance at 31 December 2013, agreements totalling $349.5 million matured in January 2014 and will continue to be rolled over into new agreements while the requirement still exists. Non-bank loans

Subordinated debt issuance – the Group issued subordinated notes into the US private placement market of US$150 million in December 2006 and A$400 million in November 2007. The notes were issued under an Australian Prudential Regulation Authority (APRA) approved Instrument of Issue and counted as Approved Subordinated Debt for regulatory capital purposes. Under transition relief provided by APRA from the introduction of LAGIC on 1 January 2013 this subordinated debt issuance continues to be fully eligible as Tier 2 regulatory capital until each tranche’s first call date after 1 January 2013 and will then amortise over four years. At 31 December 2013, US$125 million and A$400 million of the subordinated debt was eligible as Tier 2 regulatory capital. The December 2006 notes are unsecured and were issued in two maturities (US$125 million at 10 years with a non-call period of five years and US$25 million at 20 years with a non-call period of 10 years). A portion of this subordinated debt has a fixed interest rate with the remaining portion being floating. The November 2007 issuance was unsecured and matures at 30 years with a non-call period of 10 years. The proceeds of both issuances were made available to Statutory Fund No.2 of Challenger Life Company Limited (SF2) and rank in right of payment either pari passu with, or senior to, all other unsecured and subordinated indebtedness of SF2, except for such indebtedness preferred by operation of bankruptcy laws or similar laws of general application. Subordinated debt is measured at fair value through profit and loss and adjusted for movements in interest rates, credit spreads and foreign exchange rates. Loan note finance – the Group entered into a restricted recourse £25 million loan in September 2006 that is secured against properties. The fixed rate interest applied has been capitalised and is expected to be repaid together with the principal on maturity in 2015. Controlled property trusts – Non-bank loans in the unlisted property trusts are secured solely by fixed and floating first mortgages over properties.

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13. Special Purpose Vehicles Special Purpose Vehicles (SPV) are entities that fund pools of residential mortgage loans via the issuance of residential mortgage backed securities. All borrowings of these SPV are limited in recourse to the assets of the SPV. The Group is not originating any significant new mortgage assets or securitised liabilities but is managing the run-off of the portfolio.

The Group is deemed to control these entities as a consequence of holding the beneficial interest to the residual income stream but the major risks and rewards, notably credit risk, lie with the mortgage backed security holder. The assets and liabilities of the SPV have been separately disclosed in the financial report as this presentation is considered to provide a more transparent view of the Group’s financial position. Transactions between the SPV and other entities within the Group are eliminated on consolidation. The amounts in respect of the SPV included in the consolidated Group, are as follows:

31 Dec

2013 $M

30 June 2013

$M

31 Dec 2012

$M Cash and cash equivalents 255.1 278.7 330.3 Mortgage assets 3,382.1 4,039.4 4,617.9 Derivative assets 2.5 5.6 2.8 Other assets - 0.9 2.5 Total assets 3,639.7 4,324.6 4,953.5 Payables 302.0 493.2 511.5 Derivative liabilities 1.8 1.9 - Interest bearing liabilities 3,335.2 3,825.8 4,439.2 Total liabilities 3,639.0 4,320.9 4,950.7

Net assets 0.7 3.7 2.8 Cash flow hedge reserve 0.7 3.7 2.8 Total equity attributable to residual income unit holders 0.7 3.7 2.8

14. External unit holders’ liabilities 31 Dec

2013 $M

30 June 2013

$M

31 Dec 2012

$M Total liabilities to external unit holders’ liabilities 1,000.3 1,751.4 1,777.0

The Group controls a number of guaranteed index return trusts which contain funds pertaining to mixed term wholesale mandates. The external unit holders’ liabilities represent the balance owing to third parties on these mandates.

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15. Life contract liabilities 31 Dec

2013 $M

30 June 2013

$M

31 Dec 2012

$M Life investment contract liabilities – at fair value 6,406.8 6,150.0 5,971.9 Life insurance contract liabilities – at Margin on Services valuation 1,155.4 913.5 785.6 Reinsurance contract liabilities – at Margin on Services valuation 55.0 59.8 62.1

Total life contract liabilities 7,617.2 7,123.3 6,819.6

Life investment contract liabilities

Life insurance contract liabilities

Reinsurance contract liabilities

Total life contract liabilities

31 Dec 2013

$M

31 Dec 2012

$M

31 Dec 2013

$M

31 Dec 2012

$M

31 Dec 2013

$M

31 Dec 2012

$M

31 Dec 2013

$M

31 Dec 2012

$M Opening balance 6,150.0 5,806.2 913.5 685.4 59.8 61.4 7,123.3 6,553.0 Deposits and premium receipts 1,186.9 951.5 272.9 103.8 - - 1,459.8 1,055.3 Payments and withdrawals (1,035.2) (968.5) (44.4) (30.9) (4.0) (3.9) (1,083.6) (1,003.3) Revenue per Note 3 (42.4) 55.0 (68.9) (33.6) (2.0) 3.5 (113.3) 24.9 Expense per Note 4 147.5 127.7 82.3 60.9 1.2 1.1 231.0 189.7

Closing balance 6,406.8 5,971.9 1,155.4 785.6 55.0 62.1 7,617.2 6,819.6

Methodology applied in the valuation of life contract liabilities

Life investment contracts are policies regulated by the Life Insurance Act 1995 (the Life Act) that do not meet the definition of an insurance contract (under AASB 4 Insurance Contracts) and are measured at fair value through profit and loss. Life insurance contracts are policies regulated by the Life Act that meet the definition of an insurance contract and are measured using the Margin on Services (MoS) methodology.

The MoS valuation, calculated in accordance with Prudential Standards, results in the systematic release of planned margins over the life of the policy via a ‘profit carrier’. The Group maintains life insurance contracts, being individual lifetime annuities and wholesale mortality and longevity reinsurance. Annuity payments are used as the profit carrier for individual lifetime annuities and premium receipts or best estimate claim payments are used as the profit carrier for wholesale mortality and longevity reinsurance.

Key assumptions applied in the valuation of life contract liabilities

Discount rates – under APRA standards, life insurance contract policy liabilities are calculated by discounting expected future cashflows at a risk-free rate, set at the Commonwealth Government Bond curve (or foreign-denominated liabilities, a curve derived from the yields of highly liquid AAA-rated sovereign risk securities in the currency of the policy liabilities) plus an illiquidity premium where applicable. The illiquidity premium is determined by reference to observable market rates including government guaranteed bank debt, credit-risk adjusted corporate bonds and the spread between the Commonwealth Government Bond curve and the swap curve. Life investment contract policy liabilities are calculated under the fair value through profit and loss provisions of AASB 139 Financial Instruments: Recognition and Measurement. The discount rates are determined based on the current observable, objective rates that relate to the nature, structure and term of the future liability cash flows. For both insurance and investment contracts the approach is the same as adopted at 30 June 2013. Discount rates applied at 31 December 2013 for Australian liabilities were between 3.0% and 5.4% (30 June 2013: 3.2% - 4.8%). Maintenance expenses – based on budgets for the financial year. The expenses are converted to a per-contract unit cost or percentage of account balance, depending on their nature, based on an expense analysis. Inflation – based on long term expectations and reviewed annually for changes in the market environment based on a comparison of real and nominal yields of instruments of equivalent term and credit risk. The current

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assumption for Australia is 1.7% for short-term inflation and 2.9% for long-term (30 June 2013: 1.7% short-term, 2.5% long-term). Voluntary discontinuances / surrenders – No surrenders or voluntary discontinuances are assumed. Mortality – base mortality rates for individual lifetime annuities are determined as a multiple of annuitant lives experience from 1999 to 2002 (IML00 and IFL00 tables), adjusted for Challenger’s own recent experience. Base mortality rates for wholesale mortality and longevity reinsurance are determined as a multiple of pensioner mortality rates (SAPS2 tables) or population rates as appropriate. Rates are adjusted for expected future mortality improvements based on observed and expected improvements. Rates of future mortality improvement for individual lifetime annuities applied at 31 December 2013 are between 1.0% and 4.0% (30 June 2013: 1.0% - 4.0%).

Impact of changes in assumptions on life insurance contracts

Under MoS, changes in actuarial assumptions are recognised by adjusting the value of future profit margins in life insurance contract liabilities. Changes in future profit margins are released over future periods unless that product group is in an expected net loss position (loss recognition), in which case changes in assumptions are recognised in the income statement in the period in which they occur. The valuation impact of changes to discount rate assumptions as a result of market and economic conditions, such as changes in benchmark market yields, are recognised in the income statement in the period in which they occur.

Restrictions on assets

The Life Insurance Act 1995 requires the Group to hold investments to back life contract liabilities in separate statutory funds. The assets in a statutory fund can only be used to meet the liabilities and expenses of that fund, to acquire investments to further the business of the fund or as distributions when solvency and capital adequacy requirements are met.

Statutory fund information

CLC has three statutory funds. Fund 1 is a non-investment-linked fund and fund 3 is investment-linked. Both of these are closed to new business. Fund 2 contains non-investment-linked contracts, including the Group’s term annuity business, lifetime annuity policies and the related reinsurance, plus the wholesale mortality and longevity reinsurance. Life contract liabilities for funds 1, 2 and 3 are $4.6 million, $7,608.6 million and $3.9 million respectively (30 June 2013: $4.9 million, $7,114.7 million, $3.7 million).

Life insurance risk

The Group is exposed to longevity risk on its individual lifetime annuities and wholesale longevity reinsurance, being the risk that annuitants may live longer than expectations, and mortality risk on the wholesale mortality reinsurance, being that death rates in the reference portfolios exceed expectations. The Group manages the longevity risk by regular review of the portfolio to confirm continued survivorship of annuitants receiving income plus regular review of longevity experience to ensure that longevity assumptions remain appropriate. In addition, the Group has entered into reinsurance arrangements to manage longevity risk in respect of closed books of individual lifetime annuities. The Group manages the mortality risk by the regular review of the portfolio to ensure that mortality assumptions remain appropriate. Actuarial information

Mr A Bofinger FIAA, as the Appointed Actuary of Challenger Life Company Limited, is satisfied as to the accuracy of the data used in the valuations of life contract liabilities in the financial report and the tables in this note. The life contract liabilities have been determined at the reporting date in accordance with the Life Insurance Act 1995.

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16. Contributed equity

6 months to 31 Dec 2013

Year to 30 June 2013

6 months to 31 Dec 2012

No. of Shares

M $M

No. of Shares

M $M

No. of Shares

M $M Ordinary shares issued 530.9 1,335.5 530.9 1,335.5 538.7 1,365.1 CPP Trust shares treated as treasury shares (9.0) (40.5) (8.7) (40.2) (8.7) (40.1) CPP deferred share purchases treated as treasury shares (7.8) (31.8) (6.6) (23.4) (3.6) (11.5) Total contributed equity 514.1 1,263.2 515.6 1,271.9 526.4 1,313.5 Movement in contributed equity: Ordinary shares Opening balance 530.9 1,335.5 544.7 1,385.5 544.7 1,385.5 Cancelled under share buy back - - (13.8) (50.0) (6.0) (20.4) Closing balance 530.9 1,335.5 530.9 1,335.5 538.7 1,365.1 CPP Trust Opening balance 8.7 40.2 15.7 72.4 15.7 72.4 Shares purchased (including settled forwards) 3.6 15.6 - - - - Vested shares released to employees (3.3) (15.3) (7.0) (32.2) (7.0) (32.3) Closing balance 9.0 40.5 8.7 40.2 8.7 40.1 CPP deferred share purchases Opening balance 6.6 23.4 - - - - CPP deferred share purchases 3.0 14.0 6.6 23.4 3.6 11.5 Settled forward purchases (1.8) (5.6) - - - - Closing balance 7.8 31.8 6.6 23.4 3.6 11.5 Terms and conditions of contributed equity

Ordinary shares – a holder of an ordinary share is entitled to receive dividends and to one vote on a show of hands and on a poll.

Challenger Performance Plan Trust (CPP Trust) – the CPP Trust is a controlled entity and holds shares in the Company. As a result, the CPP Trust’s shareholding in the Company is disclosed as treasury shares and deducted from equity and dividends paid from the Company to the CPP Trust are eliminated on consolidation.

CPP deferred share purchases – the shares purchased under forward agreements are treated as treasury shares from the date of the agreement. Shares are transferred to the CPP Trust on the future settlement date.

Capital Management

A company is generally limited in the risk-taking activities that it can engage in by the amount of capital it holds, with capital acting as a buffer against risk, ensuring that there are sufficient resources to enable the company to continue normal business in the event of an unexpected loss.

The Group manages capital risk via Capital Management Plans at both the Group and the prudentially regulated CLC levels. The objective of these plans is to maintain financial stability of the Group and CLC whilst ensuring the shareholders earn an appropriate risk adjusted return through optimisation of the capital structures. The Capital Management Plans are approved by the respective boards and are reviewed at least annually.

Capital Management Plan - Group

The Group Capital Management Plan aims to maintain an investment grade credit rating and robust capital ratios in order to support its business objectives and maximise shareholder wealth. The Group believes that maintaining an investment grade rating is the most appropriate target from a capital structure perspective and is essential in order to secure access to capital at a reasonable cost.

Standard & Poor’s long-term credit ratings for the Group and CLC at the balance date are ‘BBB+’ (Stable) and ‘A’ (Stable) respectively. There were no changes to either the Group or CLC ratings during the period and they reflect the financial strength of Challenger Ltd and CLC. In particular, they demonstrate Challenger’s strong business profile, earnings and capital position.

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Challenger targets a combined dividend and buy back payout ratio of approximately 50% of normalised net profit after tax over the medium term, subject to prevailing market conditions and alternative uses of capital.

The Group’s current dividend payout ratio target is 35-40% of normalised net profit after tax (as defined in Section 2 of the Directors’ report). In February 2014, the Board determined that the targeted dividend payout ratio would increase by another five percentage points to a range of 40% to 45% of normalised net profit after tax, with the increase effective for the final 2014 dividend (refer section 3 of the Directors’ report for further details).

There were no other material changes to the Group’s Capital Management Plan during the period.

Internal Capital Adequacy Assessment Process (ICAAP) Summary Statement – CLC

CLC is a life insurance company regulated under the Life Act. The Life Act, via Prudential Standards issued by APRA, imposes minimum statutory capital requirements on all life insurance companies. CLC complied with these requirements at all times during the period.

APRA introduced new Prudential Standards that took effect from 1 January 2013 (the Life and General Insurance Capital or LAGIC standards). Under these new standards a life company must have in place an ICAAP, documented in an ICAAP Summary Statement. The CLC ICAAP Summary Statement replaced the CLC Group Capital Management Plan from 1 January 2013.

Prescribed capital amount (PCA)

CLC holds capital in order to ensure that under a range of adverse scenarios it can continue to meet its regulatory and contractual obligations to its customers. CLC is regulated by APRA and is required to hold a minimum level of regulatory capital.

CLC’s regulatory capital base and prescribed capital amounts have been calculated based on regulatory capital standards issued by APRA. APRA issued new capital standards (LAGIC standards) that became effective from 1 January 2013.

APRA’s LAGIC capital standards increased CLC’s PCA by $322.8 million from 1 January 2013. The increase from LAGIC is to be recognised evenly over a three year period, commencing 1 January 2014, so that the increase in capital phases in by three incremental steps of $107.6 million per year. As a result, CLC’s 31 December 2013 excess capital position includes a higher PCA under LAGIC (up $322.8 million) and a LAGIC transition balance of $322.8 million. This results in no change to CLC’s excess capital above the PCA as a result of LAGIC.

CLC’s excess capital above the PCA at 31 December 2013 was $975.7 million, up $78.3 million since 30 June 2013. CLC’s PCA ratio at 31 December 2013 was 1.79 times.

On 1 January 2014 the LAGIC transition balance reduces by one third (to $215.2 million), which reduces CLC’s excess capital above the PCA to $868.1 million and CLC’s PCA ratio to 1.65 times. The entire LAGIC transition balance will be fully amortised by 1 January 2016.

Subordinated debt

CLC’s regulatory capital base includes $486.8 million of admissible subordinated debt. APRA has advised that existing subordinated debt tranches will continue to be fully eligible as Tier 2 regulatory capital until each tranche’s first call date after 1 January 2013, and will then amortise over four years.

CLC’s subordinated debt includes $134.0 million which had a call date on 7 June 2013. As a result, under APRA’s transition arrangements, only $107.2 million (i.e. 80% of the total amount) is eligible as Tier 2 regulatory capital on 31 December 2013.

Tier 1 and Tier 2 regulatory capital

Under APRA’s transition arrangements, CLC’s statutory funds have three years to transition to the minimum requirement of Tier 1 capital representing 80% of the PCA. At a CLC consolidated level, APRA has provided an 18 month transition period to meet the 80% Tier 1 requirement. CLC is currently meeting these requirements at both the statutory and consolidated level.

CLC’s target surplus

CLC maintains a target level of capital representing APRA’s PCA plus a target surplus. The target surplus is a management guide to the level of excess capital that CLC seeks to carry over and above APRA’s minimum requirements. CLC’s target surplus is set to ensure that it provides a buffer against adverse market conditions and having regard to CLC’s credit rating. CLC uses internal capital models to determine its target surplus, which are risk-based and are responsive to changes in CLC’s asset allocation and market conditions.

While CLC does not target a specific PCA ratio, CLC’s internal capital models result in a PCA ratio under current circumstances in the range of 1.4 times to 1.6 times. This range can change over time and is dependent on numerous factors. CLC’s PCA ratio is currently higher than the targeted range of 1.4 to 1.6 times, as CLC’s

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capital position contemplates the amortisation of the LAGIC transition balance over the next two years. Excluding the full LAGIC transition balance ($322.8 million), CLC’s PCA ratio at 31 December 2013 was 1.4 times, which is within CLC’s targeted PCA range. CLC’s excess capital under LAGIC

31 Dec 2013

$M

30 June 2013

$M

Common equity Tier 1 regulatory capital 1,719.0 1,563.5 Tier 2 regulatory capital – subordinated debt 1 486.8 488.8 CLC total regulatory capital base 2,205.8 2,052.3 CLC prescribed capital amount Prescribed capital amount – excluding transition relief 1,552.9 1,477.7 Transition relief 2 (322.8) (322.8) CLC prescribed capital amount 1,230.1 1,154.9 CLC excess over prescribed capital amount 975.7 897.4 Capital adequacy multiple 1.8 1.8 1. Differs from $509.5 million disclosed in Note 12 Interest bearing liabilities due to $4.1 million of accrued interest and capitalised borrowing

costs and $26.8 million of inadmissible Tier 2 regulatory capital. 2. LAGIC transition relief will reduce by one third ($107.6 million) on 1 January 2014, 1 January 2015 and 1 January 2016. After the first tranche

amortised on 1 January 2014 the capital adequacy multiple was 1.65.

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17. Fair value information Fair value determination and classification

Fair value reflects the amount for which an asset could be exchanged or a liability settled, between knowledgeable, willing parties in an arm’s length transaction. The majority of the Group’s financial instruments are held in the life insurance statutory funds of CLC and, as a result, are required by AASB1038 Life Insurance Contracts to be designated at fair value through profit and loss where this is permitted under AASB139 Financial Instruments: Recognition and Measurement.

The following table summarises the carrying amounts and fair values of those financial assets and liabilities not presented on the Statement of Financial position at fair value. These balances are carried at amortised cost. All other financial instruments are either designated at fair value through the profit and loss at initial recognition, or the carrying amount materially approximates the fair value.

31 Dec 13 Carrying

Value Fair

Value Difference between amortised cost and fair value $M $M Receivables – SPV 3,382.1 3,462.8 Interest bearing liabilities – SPV 3,335.2 3,212.0

Financial instruments measured at fair value are categorised under a three level hierarchy, reflecting the availability of observable market inputs when estimating the fair value. If different levels of inputs are used to measure a financial instrument’s fair value, the classification within the hierarchy is based on the lowest level that is significant to the fair value measurement. The three levels are:

Level 1 unadjusted quoted prices in active markets for identical assets or liabilities (i.e. listed securities). Level 2 inputs other than quoted prices included within Level 1 that are observable for the asset or liability,

either directly (i.e. prices) or indirectly (i.e. derived from prices). Level 3 there are inputs for the asset or liability valuation that are not based on observable market data

(unobservable inputs).

The ‘unobservable’ inputs into the valuation of the Group’s Level 3 assets and liabilities are determined based on the best information available, including the Group's own assessment of the assumptions that market participants would use in pricing the asset or liability. Examples of unobservable inputs are estimates about the timing of cash flows, discount rates, earnings multiples and internal credit ratings.

Where different levels of inputs according to the hierarchy are used in a valuation, the instrument is classified according to the lowest level that is significant to the inputs.

Valuation techniques

The Groups’ listed debt, government/semi government securities, ‘over-the-counter’ derivative financial instruments and unlisted debt securities are all classified Level 2. This recognises there is a quoted price available but not from an active market as defined by the standard. Debt securities where market observable inputs are not available are classified Level 3.

Unlisted equity, infrastructure and property securities that are exchange traded are classified Level 1. Where quoted prices are available, but are not from an active market, they are classified Level 2. If market observable inputs are not available they are classified Level 3. Valuations can make use of cash flow forecasts discounted using the applicable yield curve, earning-multiple valuations or, for managed funds, the net assets of the trust per the most recent financial report.

The interest bearing liabilities classified as Level 3 include the subordinated debt notes issued by CLC. These are valued using a benchmark credit spread based on a pool of similar securities. External unit holder liabilities are valued at the face value of the amounts payable and classified as Level 2. The portion of life investment contract liabilities classified as Level 2 represents products or product options for which the liability is determined based on an unmodified account balance, rather than a discounted cash flow as applied to the rest of the portfolio.

Valuation process

For financial instruments categorised within Level 3 of the fair value hierarchy, the valuation process applied in valuing such instruments is governed by the CLC Valuation Committee Charter. The Charter outlines the committee’s responsibilities in the valuation of investment assets and financial liabilities for the purposes of financial reporting. All significant Level 3 financial instruments are referred to the Valuation committee who generally meet monthly, or more frequently if required.

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All financial instruments are measured on a recurring basis. The below table summarises the financial instruments measured at fair value at each level of the fair value hierarchy as at 31 December 2013:

Level 1 Level 2 Level 3 Total 31 Dec 2013 $M $M $M $M Derivative assets - 237.5 - 237.5 Debt securities - 6,610.3 1,475.4 8,085.7 Equity securities 177.1 70.6 183.0 430.7 Infrastructure investments 91.7 - 513.3 605.0 Property securities 148.4 - 312.5 460.9 Fair value financial assets 417.2 6,918.4 2,484.2 9,819.8 Derivative liabilities - 326.5 - 326.5 Interest bearing liabilities - 143.1 612.5 755.6 External unit holders’ liabilities - 1,000.3 - 1,000.3 Investment contract liabilities - 101.2 6,305.6 6,406.8 Fair value financial liabilities - 1,571.1 6,918.1 8,489.2 Level 1 Level 2 Level 3 Total 30 June 2013 $M $M $M $M Derivative assets - 328.0 - 328.0 Debt securities - 5,556.3 1,688.2 7,244.5 Equity securities 115.8 36.3 173.2 325.3 Infrastructure investments 89.7 - 491.4 581.1 Property securities 147.1 - 301.2 448.3 Fair value financial assets 352.6 5,920.6 2,654.0 8,927.2 Derivative liabilities - 381.8 - 381.8 Interest bearing liabilities - 147.6 598.3 745.9 External unit holders’ liabilities - 1,751.4 - 1,751.4 Investment contract liabilities - 106.1 6,043.9 6,150.0 Fair value financial liabilities - 2,386.9 6,642.2 9,029.1

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Might be here until 6pm

Level 3 reconciliation

The following table shows a reconciliation of the movement in the fair value of financial instruments categorised within Level 3 over the period and total gains or losses included in the income statement for assets and liabilities held at 31 December 2013:

31 Dec 20133

Assets Liabilities

$M $M Opening balance 2,654.0 6,642.2 Total gains recognised in revenue 98.7 116.2 Purchases 557.6 1,047.0 Sales (653.6) (887.3) Transfers from other categories1,2 (172.5) - Closing Level 3 balance 2,484.2 6,918.1 Unrealised gains/(losses) included in the income statement for assets and liabilities held as at 31 December 2013

79.6 (116.2)

1. The Group recognises transfers between levels of the fair value hierarchy as at the end of the reporting period during which the transfer has occurred.

2. Transfers to/from other categories are due to changes in the market observability of inputs used in the valuation of financial instruments. There were no transfers between Level 1 and Level 2 during the reporting period.

3. Prior reporting date comparatives can be found in the 30 June 2013 Challenger Limited Annual Financial Report. Level 3 sensitivity

The following table shows the pre-tax sensitivity of Level 3 financial instruments to a reasonable change in alternative assumptions in respect of the non-observable inputs into the fair value calculation:

31 Dec 2013 Level 3 Value1

$M

Positive impact

Negative impact

Valuation technique Key non-observable input2,3

Debt Securities 1,475.4 66.3 (7.9) Discounted cash flow Credit spreads

Interest bearing liabilities

(612.5) (23.7) 22.0 Discounted cash flow Credit spreads

Net debt 862.9 42.6 14.1

Equity securities 183.0 20.2 (20.4) Discounted cash flow Credit spreads Valuation of unlisted scheme Cash flow forecast

Infrastructure securities 513.3 14.8 (14.6) External financial report

Discount rate Valuation of unlisted scheme

Property Securities 312.5 15.6 (15.6) Discounted cash flow External financial report

Valuation of unlisted scheme

Investment Contract liabilities

(6,305.6) 4.4 (4.4) Discounted cash flow Expense assumptions

Total Level 3 (4,433.9) 97.6 (40.9)

1. The fair value of the asset or liability would increase / decrease if the credit spread, discount rate or expense assumptions decreases / increases or if the other inputs increase / decrease.

2. Specific asset valuations will vary from asset to assets as each individual asset or industry profile will determine appropriate valuation inputs to be utilised.

3. The effect of a change to reflect a reasonable possible alternative assumption was calculated by adjusting the credit spreads 50bps and discount rates by 50bps to 100bps, changing the valuation of the unlisted schemes by 5% and adjusting the expense assumptions allocation splits by 10%.

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18. Reconciliation of profit to operating cash flow 31 Dec

2013 $M

31 Dec 2012

$M Profit for the period 187.3 239.5 Adjustments for: Net realised loss/(gain) on disposal of investment assets 16.3 (73.4) Net unrealised gain on revaluation of investments assets (78.1) (158.4) Share of associates' net profit (6.8) (5.0) Change in life contract liabilities 117.7 214.6 Depreciation and amortisation expense 9.1 6.9 Share based payments 12.2 8.9

Operating cash flow not recognised in revenue Dividends from associates 10.3 6.4

Change in operating assets and liabilities, net of disposal/acquisition of controlled entities Increase in receivables (34.5) (51.1) (Increase)/decrease in other assets (8.4) 3.8 Increase in payables 14.2 20.0 (Decrease)/increase in provisions (0.9) 2.8 Increase in life contract liabilities 376.2 52.0 Decrease in external unit holders’ liabilities (751.1) (74.2) Increase in net tax liabilities 23.0 68.2 Net cash (outflow)/inflow from operating activites (113.5) 261.0

19. Subsequent events On 16 December 2013 Challenger announced the intended acquisition of Bendzulla Actuarial, the leading provider of Self-Managed Superannuation Fund (SMSF) actuarial certificates in Australia. An actuarial certificate is required by an SMSF when one (or more) members is in the retirement phase and one (or more) is in the savings phase. This acquisition completed in February 2014.

Bendzulla’s market share of actuarial certificates is over 60%, with approximately 60,000 certificates per annum delivered via client relationships with over 5,500 Australian accounting firms. Whilst not material to the balance sheet or profit of the Group, the Bendzulla acquisition is a strategic investment for Challenger in terms of SMSF retiree research, product and service development and education. The Bendzulla product and service offering will be expanded to assist SMSFs and their advisers manage retirement risks. The Bendzulla acquisition is earnings per share accretive in the first year and meets Challenger’s 18% pre-tax return on equity hurdle.

At the date of this financial report, and other than as reported above, no other matter or circumstance has arisen that has affected, or may significantly affect, the Group’s operations, the results of those operations or the Group’s state of affairs in future financial years.

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20. Contingent liabilities, contingent assets and credit commitments Warranties and contingent liabilities

Over the course of its corporate activity the Group has given, as a seller of companies and as a vendor of real estate properties, warranties to purchasers on several agreements that are still outstanding at 31 December 2013. Other than noted below, at the date of this report no material claims against these warranties have been received by the Group.

Parent entity guarantees and undertakings

Challenger Limited has extended the following guarantees and undertakings to entities in the Group:

1. A guarantee supporting the corporate banking facility and certain other financial commitments, such as hedging arrangements;

2. Letters of support in respect of certain subsidiaries in the normal course of business. The letters recognise Challenger Limited’s intention to provide support to those subsidiaries so that they can continue to meet their obligations; and

3. Australian Financial Services Licence deeds of undertaking as an eligible provider.

Third party guarantees

Bank guarantees have been issued by a third party financial institution on behalf of the Group and its subsidiaries for items in the normal course of business, such as rental contracts. The amounts involved are not considered to be material to the Group.

Contingent future commitments

Challenger Life Company Limited has made capital commitments to external counterparties for future investment opportunities such as development or investment purchases. As at 31 December 2013 there are potential future commitments totalling $95.3 million (30 June 2013: $124.2 million) in relation to these opportunities. Currently there are no requests from any of these parties to make payments.

Contingent tax assets and liabilities

From time to time the Group has interactions with the Australian Taxation Office (ATO) in relation to the taxation treatments of various matters. Any potential tax liability resulting from these interactions is only provided for when it is probable that an outflow will occur and reliable estimate of the amount can be made.

Other contingent obligations information

In the normal course of business, the Group enters into various contracts that could give rise to contingent liabilities in relation to performance obligations under those contracts. The information usually required by Australian accounting standards is not disclosed for a number of such contracts on the grounds that it may seriously prejudice the outcome of the obligations. At the date of this report, significant uncertainty exists regarding any potential liability under these claims.

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31 December 2013 Half year financial report — Directors' declaration

challenger www.challenger.com.au

Directors' declaration In accordance with a resolution of the Directors of Challenger Limited, we declare that, in the opinion of the Directors:

a) the financial statements and notes of Challenger Limited and its controlled entities (the Group) are in accordance with the Corporations Act 2001, including:

(i) giving a true and fair view of the Group's financial position as at 31 December 2013 and of its performance for the six month period ended on that date; and

(ii) complying with Australian Accounting Standard AASB 134 Interim Financial Reporting and the Corporations Regulations 2001;

b) there are reasonable grounds to believe that the Group will be able to pay its debts as and when they become due and payable.

On behalf of the Board

G A Cubbin B R Benari Director Director Sydney Sydney 17 February 2014 17 February 2014

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Independent auditor’s review report


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Independent Auditor’s Review Report

Independent auditor’s review report to the members of Challenger Limited

Report on the half year financial report

We have reviewed the accompanying half year financial report of Challenger Limited, which comprises the Statement of financial

position as at 31 December 2013, and the Income Statement, Statement of Comprehensive Income, Statement of Changes in

Equity and Statement of Cash Flows for the six months ended on that date, other selected explanatory notes and the directors’

declaration of the consolidated entity comprising the company and the entities it controlled at the half year end or from time to

time during the half year.

Directors’ responsibility for the half year financial report

The directors of the company are responsible for the preparation of a half year financial report that gives a true and fair view in

accordance with Australian Accounting Standards and the Corporations Act 2001 and for such internal controls as the directors

determine are necessary to enable the preparation of a half year financial report that is free from material misstatement, whether

due to fraud or error.

Auditor’s responsibility

Our responsibility is to express a conclusion on the half year financial report based on our review. We conducted our review in

accordance with Auditing Standard on Review Engagements ASRE 2410 Review of Interim and Other Financial Reports Performed by the Independent Auditor of the Entity, in order to state whether, on the basis of the procedures described, we have become

aware of any matter that makes us believe that the financial report is not in accordance with the Corporations Act 2001 including:

giving a true and fair view of the consolidated entity’s financial position as at 31 December 2013 and its performance for the half

year ended on that date; and complying with Accounting Standard AASB 134 Interim Financial Reporting and the Corporations Regulations 2001. As the auditor of Challenger Limited and the entities it controlled during the half year, ASRE 2410 requires that

we comply with the ethical requirements relevant to the audit of the annual financial report.

A review of a half year financial report consists of making enquiries, primarily of persons responsible for financial and accounting

matters, and applying analytical and other review procedures. A review is substantially less in scope than an audit conducted in

accordance with Australian Auditing Standards and consequently does not enable us to obtain assurance that we would become

aware of all significant matters that might be identified in an audit. Accordingly, we do not express an audit opinion.

Independence

In conducting our review, we have complied with the independence requirements of the Corporations Act 2001. We have given to

the directors of the company a written Auditor’s Independence Declaration, a copy of which is included in the Directors’ Report.

Liability limited by a scheme approved under Professional Standards Legislation

Ernst & Young 680 George Street Sydney NSW 2000 Australia GPO Box 2646 Sydney NSW 2001

Tel: +61 2 9248 5555 Fax: +61 2 9248 5959 ey.com/au

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Independent auditor's review report

challenger P,V www.challenger.com.au

Conclusion

Based on our review, which is not an audit, we have not become aware of any matter that makes us believe that the half year financial report of Challenger Limited is not in accordance with the Corporations Act 2001, including:

giving a true and fair view of the consolidated entity's financial position as at 31 December 2013 and of its performance for the half year ended on that date; and

(ii) complying with Accounting Standard AASB 134 Interim Financial Reporting and the Corporations Regulations 2001.

Ernst & Young

D N Jewell Partner Sydney 17 February 2014

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Investor information ASX listing

Challenger Limited shares are listed on the ASX under code CGF and company information, as well as trading information, can be accessed via the ASX website at www.asx.com.au. Share prices can also be accessed on Challenger’s website at www.challenger.com.au.

Key dates

Shareholders may like to note the following key dates:

Ex-dividend date for the 2014 interim dividend 25 February 2014

Record date for the 2014 interim dividend 03 March 2014

Dividend payment date 28 March 2014

Shareholder queries

Contact Computershare Investor Services for information about the Challenger Limited share registry if you have any questions about your shareholding:

Computershare Investor Services Pty Limited

Level 4, 60 Carrington Street, Sydney NSW 2000

Investor queries +61 1800 780 782

Facsimile +61 2 8234 5050

To assist with all enquiries, quote your current address and Security Reference Number (SRN) when corresponding with Computershares Investor Services.

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http://www.asx.com.au/

http://www.challenger.com.au/



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Appendix 1 – ASX Appendix 4D (rule 4.2A.3) Appendix 4D item Cross reference

Reporting and previous corresponding period (4D item 1) Page 2

Results for announcement to the market (4D item 2) Page 2

Net tangible assets per security (4D item 3) See below

Details of entities over which control was gained or lost (4D item 4) No changes in the period

Dividends (4D item 5) Page 2

Dividend reinvestment plan (4D item 6) Challenger Limited does not currently operate a dividend reinvestment plan

Details of associates and joint ventures (4D item 7) Page 47

Foreign entities (4D item 8) Not applicable

Audit dispute or qualification (4D item 9) There are no audit disputes or qualifications in respect of the half year

financial report

Net tangible assets per security (4D item 3) 31 Dec

2013 $M

31 Dec 2012

$M

Net assets 2,416.2 2,140.2

Less:

Goodwill 506.8 506.0

Other intangible assets 15.3 13.6

Non-controlling interests 363.9 312.9

Net tangible assets 1,530.2 1,307.7

Ordinary shares, net of treasury shares (number - M) 514.1 526.4

Net tangible assets per security 2.98 2.48

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and its controlled entities challenger ;V www.challenger.com.au

Details of associates and joint ventures (4D item 7)

Ownership interest

31 Dec 31 Dec

2013 2012

Alphinity Investment Management Pty Ltd 30% 30%

Ardea Investment Management Pty Ltd 30% 30%

Bentham Asset Management Pty Ltd 49% 49%

Challenger MBK Fund Management Pte Ltd 50% 50%

Five Oceans Asset Management Pty Ltd 34% 34%

Greencape Capital Pty Ltd 35% 35%

Homeloans Ltd' 22%

Kapstream Capital Pty Ltd 25% 25%

Kinetic Investment Partners Ltd 20% 20%

Merlon Capital Partners Pty Ltd 30% 30%

Metisq Capital Holdings Pty Ltd 49% 49%

Novaport Capital Pty Ltd 49% 49%

Wavestone Capital Pty Ltd 33% 30%

1. Majority of Challenger's share in Homeloans Ltd was sold in April 2013. Homeloans Ltd is now accounted for as an equity investment for Challenger Limited.

Authorisation

Michael Vardanega Company Secretary 17 February 2014

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Directory

Principal Place of Business and

Registered Office in Australia

Level 15

255 Pitt Street

Sydney NSW 2000

Tel +61 2 9994 7000

Directors Peter Polson (Chairman)

Brian Benari (Managing Director and Chief Executive Officer)

Graham Cubbin

Steven Gregg

Jonathan Grunzweig

Russell Hooper

Brenda Shanahan

JoAnne Stephenson

Leon Zwier

Company Secretaries Michael Vardanega

Andrew Brown

Share Register Computershare Investor Services Pty Limited

Level 4, 60 Carrington Street

Sydney NSW 2000

Tel +61 1800 780 782

Website: www.computershare.com.au

Auditor Ernst & Young

680 George Street

Sydney NSW 2000

Website www.challenger.com.au

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