Compass Group Annual Review 2006

Revenue

Overall, the Group delivered revenue growth of 7% on a reported basis, 6% on a constant currency basis and 7% organic growth (previously referred to as like-for-like growth).

Operating profit

Operating profit from continuing operations including associates is £508 million (2005: £496 million) an increase of 2.4%.

Finance cost

Net finance cost for the year is £134 million (2005: £155 million) including £11 million non-cash income on hedge accounting ineffectiveness (arising on the revaluation of interest rate hedging instruments that do not qualify for hedge accounting under IAS 39) (2005: charge £(3) million). Excluding this hedge accounting ineffectiveness, the underlying net finance cost for the year is £145 million (2005: £152 million). We currently anticipate underlying net finance costs to be around £105 million-£110 million for 2007 principally reflecting a full year’s benefit of the net disposal proceeds received during the course of 2006.

Profit before tax

Profit before tax from continuing operations before exceptional items is £374 million (2005: £341 million) up 9.7%.

On an underlying basis, before hedge accounting ineffectiveness, profit before tax from continuing operations increased by 5.5% to £363 million (2005: £344 million).

Income tax expense

The overall Group tax charge before exceptional items for the year is £113 million (2005: £96 million), giving an effective tax rate of 30% (2005: 28%). We expect the Group’s effective tax rate to average around the 30% level for the foreseeable future.

Basic earnings per share

Basic earnings per share are 13.3 pence (2005: 9.0 pence) up 47.8%. Excluding exceptional items and discontinued operations, basic earnings per share on an underlying basis, before hedge accounting ineffectiveness, are 11.4 pence (2005: 10.9 pence) up 4.6%. Attributable profit and basic earnings per share are reconciled in the following table.

	Attributable profit			Basic earnings per share
	2006 £m		2005 £m	2006 pence		2005 pence	Change
Reported	285		195	13.3		9.0	47.8%
Discontinued
operations and
exceptional items	(34	)	36	(1.6	)	1.7
Hedge accounting
ineffectiveness
– after tax	(7	)	4	(0.3	)	0.2
Underlying	244		235	11.4		10.9	4.6%

Dividends

The recommended final dividend is 6.7 pence per share resulting in a total dividend of 10.1 pence per share for the year (2005: 9.8 pence), a year-on-year increase of 3.1% over 2005. Dividend cover for 2006 was 1.1 times underlying earnings. Whilst we remain committed to continue to grow the dividend in real terms, our objective over the medium term remains to move the dividend cover more towards the two times level.

Acquisitions

The acquisition of the remaining 51% interest in Levy Restaurants not already held was completed on 18 April 2006 for $250 million (£134 million).

The Group’s strategic focus continues to be on the organic development of its existing core businesses. As a result, only a small number of minor acquisitions were completed where these reinforced sectoral presence in certain areas.

The Group does not currently anticipate any significant new acquisitions during 2007 and payments of deferred consideration in respect of past acquisitions and the buyout of minority interests is currently expected to total around £30 million in 2007.

Disposal of Selecta

In November 2006, the Group announced its intention to dispose of its Selecta vending businesses operating in 21 countries in Continental Europe and in the UK.

These businesses generated revenue of £476 million, earnings before interest and tax (EBIT) of £45 million and earnings before interest, tax and depreciation (EBITDA) of £87 million in 2006. Net capital expenditure in 2006 totalled £46 million.

Pensions

The Group now accounts for pensions in accordance with IAS 19.

Significant one-off contributions were made to the two main UK defined benefit schemes during the year totalling £280 million following the disposal of the SSP business and the Strand Palace Hotel.

As a result, the total pensions deficit was significantly reduced at 30 September 2006 to £282 million (2005: £555 million).

The Group has reviewed its pension assumptions and continued to move to more prudent assumptions in determining the deficit, including life expectancy assumptions which have again been increased in 2006.

For example in the UK, life expectancy assumptions at age 65 for a pensioner has been increased to 19.7 years (male), 22.6 years (female) (2005: 17.8 years (male), 20.7 years (female)) and for non-pensioners life expectancy assumptions have been increased to 20.9 years (male), 23.7 years (female) (2005: 19.4 years (male), 22.4 years (female)).

The total pensions charge in the year was £33 million (2005: £26 million) for defined contribution schemes and £35 million (2005: £53 million) for defined benefit schemes. Of the defined benefit scheme costs, £11 million (2005: £14 million) was charged to net finance cost.

Return on capital employed

Return on capital employed (ROCE) is 10.7% (2005: 10.7%) based on the continuing business before exceptional items, excluding the Group’s minority partner’s share of total operating profit, net of tax at 30%, and using an average capital employed for the year of £3,232 million (2005: £3,137 million) calculated from the IFRS balance sheet.

Under UK GAAP, included within average capital employed was goodwill previously written off to reserves, now extinguished under IFRS, and goodwill amortised prior to 30 September 2004, the date at which the net book value of goodwill was frozen under IFRS. Including these adjustments, average capital employed for the year, for the continuing businesses, would have been £6,294 million (2005: £6,051 million) and return on capital employed for the continuing business would have been 5.9% (2005: 5.9%).

Financial targets

The Group’s three year targets for the continuing business for 2006-2008 remain unchanged at:

• 100 basis points improvement in ROCE;
  
• free cash flow from continuing operations of £800 million-£850 million.
  

Cash flow

Free cash flow from the continuing business totalled £265 million (2005: £227 million). The major factors contributing to the increase were: £24 million reduction in net capital expenditure and £44 million lower working capital outflow, offset by £14 million higher net interest payments and £29 million higher net tax payments.

Net capital expenditure, which two years ago exceeded £300 million will, for the next two-three years, be at a level of around 2% of revenues after the disposal of the Selecta vending business. We are working hard at improving our working capital performance and now expect to see an average annual outflow of approximately £20 million. Given the scale of the working capital balances, there are however likely to be fluctuations between years.

The Group’s cash tax rate for the year was 27% (2005: 20%), based on underlying profit before tax. We expect the average cash tax rate to remain at a similar level for the foreseeable future, but again with some potential fluctuations between years.

The net interest outflow of £174 million in 2006 includes an outflow of £20 million over and above the income statement charge relating to the swap reversal transactions carried out in 2004.

Acquisition payments were £167 million (2005: £121 million) comprising the acquisition of the remaining 51% interest in Levy Restaurants which was completed on 18 April 2006 for $250 million (£134 million), £8 million from the buyout of half of the remaining 10% of Onama in Italy, £8 million of deferred consideration in respect of prior years’ transactions and £18 million in respect of other sundry acquisitions less £1 million of cash acquired.

Disposal proceeds net of transaction costs comprises consideration of £1,955 million less £118 million of cash disposed and £45 million consideration deferred to future periods, plus £15 million of deferred consideration received in the year relating to prior years’ transactions.

Conclusion

The successful disposals of the travel concessions businesses including SSP and the exit from the Middle East military catering business have resulted in a more focused Group and leaves us in a stronger financial position. The focus in the coming year will be on improving underlying business performance.

Andrew Martin
Group Finance Director