Business review

Business review

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During the year we completed the final stage of our transformation programme.



Our Directors' report is presented in four sections – the Business review, Other disclosures, our Corporate governance report and the Directors' remuneration report. The Directors' report represents the management report of the Group.
 

Group overview

During the year, we completed the final stages of our transformation programme. We took action to reduce risk and increase certainty in respect of our pension schemes' position. The Group has achieved also a financing arrangement to July 2015 that reflects the financial strength of the business.

Group financial overview

Overall Group revenue has reduced 4.2% to £395.4 million (2010: £412.8 million). In the second half of the year, we have seen revenue growth in our core markets, compared to the first half of the year. This has been offset by the continued effect of the disposal of certain break fix activities to Phoenix IT Group in January 2010 and of reduced volume on lower margin activities.

Group EBITDA before exceptional items has increased to £76.0 million (2010: £69.8 million) benefiting from a reduction in operating costs across the Group and our continued focus on higher margin activities.

Depreciation and amortisation has reduced by £5.7 million to £27.3 million (2010: £33.0 million) which reflects mainly the reduced amortisation of intangible assets arising on acquisition.

Finance costs have remained flat at £7.4 million reflecting a reduction in the quantum of debt offset by the write off of prepaid loan arrangement fees associated with the Group's previous bank facility which was refinanced in November 2010.

The combination of the improvement in EBITDA before exceptional items, lower depreciation and amortisation and lower exceptional costs has resulted in Group profit before tax increasing by 71.3% to £32.9 million (2010: £19.2 million).

Net debt has reduced to £82.0 million (2010: £116.8 million) as a result of strong performance throughout the year, and out-performance in the final quarter of the year, on the management of receivables and working capital. The year-end debt position has benefited also from a lower level of capital spend than anticipated of £13.9 million (2010: £17.6 million) due to the timing of a number of capital projects.

PLC and associated costs (PLC)

This segment includes Public Company central and share scheme expenses and the costs, excluding current and past service costs, associated with the Group's defined benefit pension schemes. The net pre-exceptional costs incurred in the PLC segment have reduced to £7.7 million (2010: £10.2 million), as a result of lower costs associated with the Group's defined benefit schemes of £0.3 million (2010: £2.9 million). Such pension costs have reduced due to a recovery in asset values and a reduction in liabilities of the scheme over the last two financial years.

Group operating profit

Group operating profit is £40.3 million (2010: £26.5 million). The overall improvement in operating profit of £13.8 million is a result of:

  • £6.2 million improvement in Group EBITDA before exceptional items;
  • £1.9 million reduction in exceptional costs; and
  • £5.7 million reduction in depreciation and amortisation.

Exceptional costs amount to £8.3 million (2010: £10.2 million) and comprise:

  • £4.2 million (2010: £5.0 million) of restructuring costs relating to employees;
  • £3.0 million credit (2010: £Nil) from the curtailment gain arising from the closure of the Group's two defined benefit schemes to future accrual and breaking the salary link; and
  • £7.1 million (2010: £Nil) relating to the forecast loss arising on the build stage of a contract to build and manage a broadband network on behalf of a third party provider. This contract has now been revised, in terms of reducing the scope of, and changes to, its network design and reflecting also certain operational challenges on the build element. The remaining build phase of this contract is envisaged to be completed by the end of this financial year after which Kcom will have a profitable ten year managed service contract. As part of the agreement to re-scope the network, we have been able to reduce materially the level of work in progress on this contract.

Depreciation and amortisation has reduced by 17.3% to £27.3 million (2010: £33.0 million). Of this, amortisation of intangible assets arising on acquisitions has fallen to £5.5 million (2010: £7.5 million). At the year end, the net book value of intangible assets arising on acquisitions amounts to £0.5 million (2010: £6.0 million), which will be fully charged to the Income Statement over the next two financial years to 31 March 2013. The balance of depreciation and amortisation has reduced by £3.7 million to £21.8 million (2010: £25.5 million) reflecting the reduction in capital spend over the last two financial years compared to historical levels.

Finance costs

Net finance costs have remained flat at £7.4 million despite the reduction in debt. This is mainly due to the write off of arrangement fees in respect of the previous banking facility which was refinanced in November 2010, along with increased borrowing costs associated with the new facility.

The Group has entered previously into fixed rate swap arrangements for £80.0 million of debt at a weighted average rate of 5.5%. In order to provide certainty over future interest costs, the Group has entered into new forward start fixed rate swap arrangements for £60.0 million of debt which commence on maturity of the existing swaps in January 2012. The new hedges have a weighted average rate of 2.7% and mature in July 2015.

Taxation

The taxation charge of £10.3 million (2010: £1.5 million) reflects the ongoing unwind of the deferred tax asset as the Group moves towards a tax payment position. The high effective rate of 31.2% (2010: 7.7%) reflects mainly the write off of a proportion of the deferred tax balance as a result of the reduction in corporation tax rates from 28% to 26%.

Dividend

The Board is proposing an increased final dividend of 2.50 pence per share (2010: 1.25 pence per share) resulting in a total dividend for the year of 3.60 pence per share (2010: 1.75 pence per share). The Board maintains its commitment to a minimum 10% growth in dividend over the subsequent two years.

Subject to shareholder approval at the KCOM Group PLC AGM on 22 July 2011, the final dividend will be payable on 29 July 2011 to shareholders registered at the close of business on 17 June 2011.

Pension schemes

Net liabilities associated with the Group's retirement benefit obligations have reduced to £6.9 million (2010: £50.4 million). The year on year reduction arises as a result of an increase in scheme assets of £11.9 million and a reduction in retirement benefit liabilities of £31.6 million.

The reduction in liabilities predominantly relates to the Kingston Communications Pension Scheme and reflects the Government's decision to link future inflationary increase for both deferred members and pensions in payment from the Retail Price Index to the Consumer Price Index. This has been recognised in the Statement of comprehensive income as part of the actuarial gain of £31.5 million (2010: £5.6 million).

In addition, the decision to close both schemes to future accrual and break the salary link has also reduced liabilities resulting in a curtailment gain of £3.0 million (2010: £1.7 million). The curtailment gain has been fully recognised in the Income Statement, and due to its incidence and size, the current period gain has been treated as an exceptional item.

The increase in scheme assets is a result of the increased level of deficit contributions into the scheme and recovery of asset values (approximately 60% of scheme assets are held in return seeking asset classes). Effective from 1 April 2010, the Group increased its ongoing deficit contributions into the schemes for the next three years to £6.9 million per annum (previously £3.5 million per annum). The Group made also a one-off contribution of £3.3 million in the first half of the current financial year, into the Kingston Communications Pension Scheme, the Group's main defined benefit scheme.

The Group is committed to continue to mitigate long-term risk associated with the defined benefit schemes. As part of this the Group is working alongside the Trustees to review the current investment strategy to reduce risk and volatility. This is likely to result in a lower proportion of return seeking asset classes than currently held.

Cash flow and net debt

Net debt has reduced to £82.0 million (2010: £116.8 million) reflecting the continued strength of the business and the over-performance in the final quarter of the year in the management of receivables and working capital and the conversion of earnings into cash. Net cash inflow from operations reduced to £68.0 million (2010: £74.6 million), prior year performance having benefited from a substantial one-off working capital improvement as a result of the strategic actions taken by the Group.

Cash outflows associated with the purchase of tangible and intangible assets have reduced to £13.9 million (2010: £17.6 million). This reduction reflects the ongoing evaluation during the year of appropriate investment opportunities in support of growth with a resultant timing difference on capital spend into the next financial year with the Group anticipating expenditure on capital investment to be in the region of £25.0 million.

Paul Simpson

Chief Financial Officer

8 June 2011

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by Paul Simpson
Chief Financial Officer

  • Revenue reduction to £395.4 million (2010: £412.8 million) reflects effect of strategy to exit low margin commodity-based operations.
  • Revenue in the second half of the year of £200.6 million (H1: £194.8 million) demonstrates growth in a number of our key target markets.
  • EBITDA before exceptional items improved to £76.0 million (2010: £69.8 million) following further reductions in operating costs.
  • Profit before tax increased 71.3% to £32.9 million (2010: £19.2 million).
  • Balance sheet strengthened further, with strong cash generation reducing net debt by £34.8 million in the year to £82.0 million (31 March 2010: £116.8 million) and pension deficit reduction to £6.9 million (31 March 2010: £50.4 million).
  • Increase in proposed full year dividend to 3.60 pence (2010: 1.75 pence) above previously announced minimum commitment, reflects strong cash performance and confidence in on-going earnings and cash generation. Previous commitment on dividend growth remains.
Based on our results, we are pleased to recommend an increased final dividend, making the full year dividend more than double that of the previous year.

We took action to reduce risk and increase certainty in respect of our pension schemes' position.


The Board maintains its commitment to a minimum 10% growth in dividend over the subsequent two years.