International financial reporting standards
This annual report is the Group’s first to be presented under International Financial Reporting Standards (IFRS). Reconciliations of the Group’s profit for the year 2004 and balance sheet at 31 December 2004, showing the effects of changes in presentation and accounting policies arising from the adoption of IFRS on the figures reported under UK GAAP in March 2005, are included in Note 37.
While the new standards have had little impact on the results in our contracting sectors (Building, Engineering and Rail), two of the new standards, IAS 32 and IAS 39, relating to financial instruments, fundamentally affect the way we account for our interests in PFI/PPP concessions and for our preference shares. The results presented in the formal accounts (pages 52 to 107) reflect the application of these standards to 2005 results but not to those for 2004, with a consequent impact on comparability. In order to provide appropriate period-to-period comparisons, in addition to the formal accounts we have provided unaudited “pro forma” 2004 results, including the impact of IAS 32 and IAS 39, which are set out on pages 108 to 110. In the commentary below, the use of these “pro forma” 2004 comparatives has been indicated with an asterisk (*).
We continue to monitor the development of those financial reporting standards yet to be finalised, particularly in the area of accounting for PFI/PPP concessions.
Results
Revenue in 2005, including the Group’s share of the revenue of joint ventures and associates, increased by 16%, of which 3% was attributable to the acquisition of Gammon in August 2004.
Profit from operations before exceptional items increased from £94m to £115m (22%). In the building and building services sector, there was another good performance from Mansell and satisfactory progress in other operating companies, including Balfour Beatty Construction whose profits have recovered strongly in the second half year following some contract losses reported in the first half year. Progress has been very satisfactory in the civil and specialist engineering sector, with the return to profit of US civil engineering as well as good progress elsewhere, particularly in RCS, the Group’s road manager and maintainer, and Balfour Beatty Power Networks. Performance in our rail sector was steady in the UK and in the international rail electrification business, but reflected the loss of rail maintenance profits and the continued impact of contract difficulties in the US. Performance has continued to be satisfactory in our investments sector. During 2005, new concessions came on stream for the M77/GSO roads in Scotland, major school schemes in North Lanarkshire and Bassetlaw, and street lighting in South Tyneside.
A more detailed analysis of performance in our operating businesses is contained in the Operating Review.
Acquisitions and goodwill
During December 2005, the Group acquired an additional 31.4% interest in the Consort Edinburgh Royal Infirmary PFI concession for £31m. The Group also made three smaller acquisitions for consideration totalling £25m. Goodwill arising on these acquisitions amounted to £14m.
An exceptional charge of £4m has been made in 2005 for impairments to goodwill in respect of Balfour Beatty Rail Inc (2004: £18m) following the annual review, resulting in £284m goodwill on the Group’s balance sheet at 31 December 2005 (2004: £279m).
Disposals
The Group sold a 15% interest in the Connect Roads A30/A35, A50 and M77/GSO PFI concessions to I2 in December 2005 for £13.5m. The associated £224m non-recourse net debt was then deconsolidated from the Group’s balance sheet as, following this transaction, Balfour Beatty and I2 exercise joint control over these road concessions.
Exceptional items
The Group has recorded a net exceptional gain of £4m. A gain of £30m, after tax of £12m, arose in respect of the Group’s share of initial distributions received by Barking Power from the administrators of TXU Europe and a £6m gain was realised on the sale of a 15% interest in three Connect Roads PFI concessions. These gains were partly offset by £8m costs arising from a settlement payment to resolve investigations by the US Government into a joint venture contract completed in 2000 and from the Group’s admission of breaches of the Health and Safety at Work Act following the Hatfield derailment in October 2000 for which the associated fine had already been provided; an impairment charge of £8m in respect of the Group’s investment in Romec Ltd; £4m goodwill impairment charges; £3m premium on the purchase of preference shares; and £6m cost of repaying the Company’s US$120m term loan. These items, along with other prior year tax adjustments relating to exceptional items, have given rise to a £3m net tax charge.
Taxation
The Group’s effective tax rate in 2005 was 35% (2004: 32%*) of profit before taxation and exceptional items, excluding the Group’s share of the results of joint ventures and associates. The increase in the effective rate follows from the recognition in 2004 of £17m previously written off Advance Corporation Tax (ACT). The Group has continued to benefit from the use of brought forward tax losses in Germany.
Pre-tax profits and earnings
Profits from continuing operations before taxation and exceptional items amounted to £134m (2004: £107m*), an increase of 25%, and adjusted earnings per share were 24.1p (2004: 22.1p*), an increase of 9%.
Cash
The Group has again benefited from a strong cash flow from operations and improvements in working capital management.
| 2005 £m |
2004 £m |
|
| Group operating profit | 58 | 56 |
| Trading profit from discontinued operations | - | 8 |
| Depreciation | 41 | 41 |
| Impairment charge | 12 | 18 |
| Other items | (5) | 2 |
| Working capital decrease | 61 | 23 |
| Cash generated from operations | 167 | 148 |
Cash flow from operations provided further capacity to grow the Group’s core activities through three acquisitions (£25m outflow) and two transactions in PFI/PPP concessions (net £17m outflow). The level of the Group’s net cash at 31 December 2005 increased to £315m (2004: £311m), before taking into account the consolidation of £14m (2004: £244m) of non-recourse net debt held in wholly-owned PFI/PPP project companies.
Pensions
Valuation
The last formal actuarial valuation of the Balfour Beatty Pension Fund was carried out at 31 March 2004 and showed a funding position of 102%. A formal actuarial valuation of the Railways Pension Scheme was carried out at 31 December 2004 and showed a funding position of 92%. Formal actuarial valuations of the Mansell schemes were carried out at 31 March 2005 and 31 July 2005 for the Hall & Tawse Retirement Benefit Plan and the Mansell plc Pension Scheme and showed funding positions of 79% and 78% respectively.
The position of each of the funds has been updated by the actuaries at 31 December 2005 to review ongoing funding levels and details are included in Note 25.2. The Group contributed £29m to the Balfour Beatty Pension Fund for the year ended 31 December 2005 (2004: £30m).
Charges
Pension charges of £49m (2004: £48m, before £8m exceptional settlement gain) have been made to the income statement in accordance with IAS 19, including £37m (2004: £38m) for the Balfour Beatty Pension Fund.
Balance sheet impact
The Group’s balance sheet includes the deficits of £280m (2004: £254m) for the Group’s funds as required by IAS 19 on the assumptions set out in Note 25.1. The Group recorded net actuarial losses for 2005 on those funds totalling £21m (2004: £10m) as the effect of the lower discount rates applied to the funds’ liabilities exceeded the effect of better than expected returns on the assets held by the funds.
Public Private Partnerships (PPP) and the Private Finance Initiative (PFI)
During 2005, the Group invested £61m in a combination of equity in and shareholder loans to its PFI/PPP project companies, including the acquisition of an additional 31.4% interest in the Consort Healthcare Edinburgh Royal Infirmary concession. At 31 December 2005, the Group had invested a total of £149m in equity in and subordinated loans to its 18 project companies and had committed to provide a further £80m over the period 2006 to 2010. The Group has also been appointed preferred bidder for a further four projects to which it is expected at financial close to commit to provide approximately £54m funding.
At 31 December 2005, the Group’s share of non-recourse net debt within project companies amounted to £928m (2004: £688m), comprising £914m (2004: £444m) in relation to joint ventures and associates as disclosed in Note 15.2 and £14m (2004: £244m) on the Group balance sheet in relation to wholly-owned project companies as disclosed in Note 23.
The Directors have carried out a valuation of the Group’s PFI/PPP concessions and this is set out on pages 32 to 33.
Treasury
The Group’s policy remains to carry no significant net debt, other than the non-recourse borrowings of project companies.
The Group’s financial instruments, other than derivatives, comprise cash and liquid investments, and borrowings. The Group enters into derivatives transactions (principally forward foreign currency contracts and interest rate swaps) to manage the currency and interest rate risks arising from the Group’s operations and its sources of finance.
It is, and has been throughout the period under review, the Group’s policy that no speculative trading in financial instruments shall be undertaken. Compliance with policy is monitored through regular reporting and internal audits. The Board reviews and agrees policies for managing each of these risks and they are summarised below.
Finance and liquidity risk
Balfour Beatty’s cash and liquid investments comprise cash, term deposits and the use of liquidity funds. Counterparty risk is monitored regularly and mitigated by limiting deposits in value and duration to reflect the credit rating of the counterparty. During 2005, the Group repaid US$120m of fixed rate loan notes maturing in 2008 and entered into a new series of bilateral facilities, the majority of which mature in 2010. Since 31 December 2005, these bilateral facilities have been reduced to £379m. The purpose of these facilities is to provide liquidity from a group of core relationship banks to support Balfour Beatty in its current and future activities.
Currency risk
The Group’s businesses hedge their known foreign currency transactional exposures by taking out forward foreign exchange contracts. The Group decided in 2005 not to adopt hedge accounting for its foreign currency transactional exposures. As a result, there was a charge to profit of less than £1m which would otherwise have been charged to equity.
Balfour Beatty also faces currency exposures on the translation into sterling of the profits and net assets of overseas subsidiaries and associates, primarily in the US and Europe, and on its overseas trading transactions.
Balfour Beatty does not hedge these profit translation exposures as these are an accounting rather than cash exposure. However, the effect of volatile short-term currency movements on profits is reduced because the Group accounts for currency profits using average exchange rates.
Balfour Beatty’s balance sheet translation exposure is managed by matching approximately 90% of significant net assets denominated in currencies other than sterling by way of currency borrowings and forward foreign exchange contracts. Details of the position and fair values at the year end are shown in Note 20.
Interest rate risk
The Group has no fixed rate borrowings (excluding PFI/PPP non-recourse term loans), following repayment of the Company’s US$ fixed rate loan notes and termination of the associated swaps in June 2005.
Going concern
The Directors, having made appropriate enquiries, consider it reasonable to assume that the Group and the Company have adequate resources to continue for the foreseeable future and, for this reason, have continued to adopt the going concern basis in preparing the accounts.
Anthony Rabin
Finance Director