Royal Mail. Regulatory Financial Statements July 2017

Transcription

1 Royal Mail Regulatory Financial Statements July 2017

2 Contents Introduction Regulatory Financial Statements The Business 4 The cost of delivering the Universal Service 5 Calculation of the Financeability EBIT margin 5 Changes to the Activity Based Costing Model (ABC Model) 6 Financial Statements Relevant Group Income statement 7 Balance sheet 8 Statement of cash flows 9 Business Reconciliation of the income statement to the Relevant Group 10 Income statement 11 End to end income statement 12 Reconciliation of the capital employed statement to the Relevant Group 13 Reconciliation of the statement of cash flows to the Relevant Group 15 Supporting notes for the regulatory financial statements 17 Income statement for selected products 20 Other Statement of Directors responsibilities 21 Independent auditor s report to Royal Mail plc and Ofcom 22 Glossary and explanation of terms 25 2

3 Regulatory Financial Statements The Postal Services Act 2011 requires Royal Mail as the Universal Service Provider (USP) to publish Regulatory Financial Statements (RFS) as detailed by Ofcom in the USP Accounting Conditions (USPAC). The format of the RFS is defined by Ofcom in the Regulatory Accounting Guidelines (RAG) and any changes to the format are agreed with Ofcom in advance. The RFS are derived from the Annual Report and Financial Statements of Royal Mail plc for the 52 week period ended 26 March However, within the RFS: costs are calculated using an Activity Based Costing Model (ABC Model), which identifies the resources consumed by activities, assigns costs to those resources and thereby allocates those costs to each activity; and all margins have been calculated based on the values as reported within the RFS using the unadjusted income statement charge with respect to pensions and without any other adjustments such as the number of working days in the reporting period. The financial statements set out in the RFS relate to both Royal Mail plc (the Relevant Group ) and, within that, the Business, as required by Ofcom. The Business is a subset of Royal Mail plc s core UK business, UK Parcels, International & Letters (UKPIL) including Network Access, but excluding Parcelforce Worldwide (Parcelforce) and the Royal Mail Property unit (Royal Mail Property & Facilities Solutions (RMPFS)), 1 as shown in the diagram below. The Business, as defined by Ofcom, is the regulatory entity which contains the Universal Postal Service network and all the products provided through or in relation to that network. 2 Royal Mail plc financial statements are issued in line with the Financial Conduct Authority Listing, Disclosure and Transparency Rules and applicable accounting standards. These regulatory financial statements have been produced in line with Ofcom s instructions in the USPAC and RAG. These financial statements are different to our statutory financial statements and our internal management accounts and show results by entities which are regulatory constructs for regulatory purposes. The main focus in the RFS is on the UK operations of the Royal Mail letters and parcels operations, which Royal Mail uses to deliver the Universal Service. The revenues, costs, assets and liabilities and cash flow effects of non-letter services and subsidiaries, associates and any other undertakings (primarily operating outside the UK) have been agreed with Ofcom as being outside the scope of regulatory reporting. In , the Business achieved a Financeability EBIT 3 margin of 4.6 per cent ( : 5.0 per cent - see page 5). Ofcom has assessed an indicative range of 5-10 per cent as a reasonable commercial rate of return for the Financeability EBIT margin. Financeability EBIT margin is one of several measures that Ofcom takes into account in assessing Royal Mail s financial sustainability. 4 Ofcom has previously stated that concerns about financial sustainability may not arise if, for example, the EBIT margin goes below 5% for a shorter period due to specific circumstances which may be addressed by Royal Mail without affecting its longer-term financial sustainability. 5 1 The Business is charged a rental charge for the property facilities it uses that are supplied by RMPFS 2 Ofcom, Review of the Regulation of Royal Mail, 1 March 2017, Footnote 34 3 Business operating profit margin after transformation costs, taking into account the pension charge to cash difference 4 To assess the financial sustainability of the Universal Postal Service, Ofcom will take into account Financeability EBIT margin, cash flow projections of Royal Mail plc, and financial health metrics and other indicators of Royal Mail plc. See Ofcom, Review of the Regulation of Royal Mail, 1 March 2017, Paragraph Ofcom, Review of the Regulation of Royal Mail, 25 May 2016, Annex 6, Paragraph A6.92 3

4 The Business The Universal Service is delivered through Royal Mail s UKPIL business (a separate business segment within the Royal Mail plc financial statements). UKPIL collects, processes and delivers addressed letters and certain parcels in line with Royal Mail s Universal Service Obligation (USO). It also provides other services to businesses and consumers across the UK. For example, UKPIL provides Downstream Access services (described as Network Access in these financial statements) handling and delivering the mail that other postal operators place in UKPIL s downstream network for it to deliver on their behalf. UKPIL is also responsible for the processing of international mail under reciprocal arrangements with other overseas postal administrations as well as for Royal Mail s Philatelic unit. Royal Mail s product channels, including those in the Business product channels, are as follows: Revenue 100% 78% 73% 65% 46% 30% GLS and non core Royal Mail plc UKPIL Parcelforce Worldwide, Royal Mail Property & Facilities Solutions and Inter company eliminations End to End Key products Parcels > 2kg, Unaddressed, Specialist Services, Stamps & Collectibles, Special Delivery 9.00 am and Account Non USO Key products Business & Advertising mail < 2kg letters & parcels RM24 & RM48 < 2kg letters & parcels Royal Mail Tracked < 2kg Business Collections, Mail Order Returns Local Collect & Keepsafe business International contract mail Network Access All products USO Key products 1 st & 2 nd Class Stamp, Meter letters & parcels 1 st & 2 nd Class single piece Account letters and parcels Special Delivery Stamp and Meter Redirections Royal Mail Signed For Local Collect & Keepsafe social International Airmail & Surface letters & parcels Business UKPIL Relevant Group (Royal Mail plc) 4

5 The cost of delivering the Universal Service Royal Mail s statutory obligation as the sole designated USP drives the architecture and costs of the Universal Service mail network. Royal Mail has developed a network to enable it to collect, process and deliver mail throughout the country, and to ensure it can offer a next day service six days a week to around 30 million addresses throughout the UK. The Universal Service network is used by both USO and non-uso products. Royal Mail relies on revenues from non-uso commercial activities, particularly commercial parcels, to help sustain the USO. The annual c. 7 billion cost of running this network is a result of Royal Mail s USP status. The mail estate required to meet this obligation would be broadly the same, and therefore a significant proportion of the cost base would remain, whether the Group used the Universal Service mail network for non-uso services or not. Costs are allocated to each product channel by allocating common costs across all services as determined by Ofcom through the costing rules set out in the RAG and Royal Mail s Activity Based Costing Manual (ABC Manual). However, Royal Mail believes that the cost of the combined network should most appropriately be allocated to USO products in the first instance. If this were the case, under the current revenue structure, USO services would be significantly loss-making, and non-uso products would be profitable. We consider that a key driver of cost is the number and type of items that are handled through the network. Delivering increasing volumes of non-uso products including non-uso parcels through the Universal Service mail network is, therefore, essential in seeking to enable the Universal Service to become financially sustainable. All addressed mail products make a contribution towards the significant fixed cost of providing the Universal Service network. However, as USO mail volumes continue to decline, more costs are allocated to non-uso products. Calculation of the Financeability EBIT margin We have estimated the Financeability EBIT margin as follows: Pension charge to cash difference UKPIL Business Financial sustainability EBIT External revenue 7,182 7,220 Operating profit after transformation costs Add back: Pension charge to cash difference Operating profit after transformation costs on a cash basis Operating profit margin after transformation costs on a cash basis % 5.0% 5

6 Changes to the Activity Based Costing Model (ABC Model) During the period, there have been updates made to the ABC Model to reflect our improved understanding of delivery activity. The updates have been made in three specific areas: 1. Volumetrics: Updated methodology calculates the mean average size across the weight band, based on sample data for product/weight step combination. In addition, for parcel formats a distribution profile of the volume across the weight bands has been applied rather than the more simplistic one-to-one mapping previously used, to map products to parcel delivery formats; 2. Delivery methodology: Making updates to the routing matrix to reflect the complete rollout of New Delivery Methods and making use of better data and removing complexity to attribute costs to activities reflecting operational reality; and 3. Callers Offices: Using the new IT system in place at Callers Offices to provide improved management insight on actual products handled at each office. As a result of these updates, there has been a movement in cost from non-uso to USO products of around 140 million and from non-uso to Access products of around 25 million. This explains the movement in cost that can be seen in schedules on pages 12 and 20 of these statements between these product groups. There is no material impact on the overall Business profitability or margin and no restatement of prior year comparatives is required. 6

7 Income statement for the Relevant Group For the 52 weeks ended 26 March 2017 and 52 weeks ended 27 March 2016 Continuing operations 52 weeks weeks 2016 Revenue 9,776 9,251 Operating costs 7 People costs (9,286) (8,766) (5,576) (5,456) Distribution and conveyance costs (2,106) (1,736) Infrastructure costs Other operating costs (868) (854) (736) (720) Operating profit before transformation costs Transformation costs (137) (191) Operating profit after transformation costs Operating specific items Employee Free Shares charge (105) (158) Legacy/other (costs)/credit (18) 2 Amortisation of intangible assets in acquisitions (11) - Operating profit Profit on disposal of property, plant and equipment (non-operating specific item) Loss on disposal of business (2) - Earnings before interest and tax Finance costs (18) (16) Finance income 2 3 Net pension interest (non-operating specific item) Profit before tax Tax charge (62) (45) Profit for the period from continuing operations Discontinued operations Profit after tax for the period from discontinued operations (non-operating specific item) - 31 Tax on profit from disposal of discontinued operations - (5) Profit for the year Profit for the year attributable to: Equity holders of the parent Company Non-controlling interests 1 7 Earnings per share: Basic continuing operations 27.5p 21.5p Diluted continuing operations 27.3p 21.4p Basic total Group 27.5p 24.1p Diluted total Group 27.3p 24.0p This statement can also be found in the Royal Mail plc Annual Report and Financial Statements In the year, following the acquisition of the minority shareholding (49 per cent) on 31 March 2016, Romec Limited, previously reported in a third operating segment in has been incorporated into the UKPIL segment. The comparative segmental information has been restated accordingly. There has also been a re-presentation of 141 million costs between infrastructure costs and other operating costs in the Group income statement. Total operating costs remain unchanged. 7 Operating costs are stated before transformation costs, Employee Free Shares charge, Legacy/other (costs)/credit and amortisation of intangible assets in acquisitions 7

8 Balance sheet for the Relevant Group At 26 March 2017 and 27 March 2016 at 26 March 2017 at 27 March 2016 Non-current assets Property, plant and equipment 2,062 2,002 Goodwill Intangible assets Investment in associates and joint venture 7 9 Financial assets Pension escrow investments Derivatives 4 2 Retirement benefit surplus net of IFRIC 14 adjustment 3,839 3,430 Other receivables Deferred tax assets ,843 6,141 Assets held for sale Current assets Inventories Trade and other receivables 1,117 1,020 Income tax receivable 7 6 Financial assets Derivatives 8 5 Cash and cash equivalents ,454 1,420 Total assets 8,334 7,600 Current liabilities Trade and other payables (1,810) (1,700) Financial liabilities Interest-bearing loans and borrowings (33) - Obligations under finance leases (64) (84) Derivatives (9) (33) Income tax payable (12) (23) Provisions (88) (151) (2,016) (1,991) Non-current liabilities Financial liabilities Interest bearing loans and borrowings (430) (392) Obligations under finance leases (130) (136) Derivatives (2) (8) Provisions (108) (96) Other payables (47) (41) Deferred tax liabilities (603) (469) (1,320) (1,142) Total liabilities (3,336) (3,133) Net assets 4,998 4,467 Equity Share capital Retained earnings 4,940 4,451 Other reserves 47 (3) Equity attributable to parent Company 4,997 4,458 Non-controlling interests 1 9 Total equity 4,998 4,467 This statement can also be found in the Royal Mail plc Annual Report and Financial Statements

9 Statement of cash flows for the Relevant Group For the 52 weeks ended 26 March 2017 and 52 weeks ended 27 March weeks weeks 2016 Cash flow from operating activities Profit before tax Adjustment for: Net pension interest (120) (113) Net finance costs Profit on disposal of property, plant and equipment (14) (29) Loss on disposal of business 2 - Legacy/other costs/(credit) 29 (2) Employee Free Shares charge Transformation costs Operating profit before transformation costs Adjustment for: Depreciation and amortisation Share of post-tax loss/(profit) from associates and joint venture 2 (1) EBITDA before transformation costs Working capital movements (9) (20) Increase in inventories (2) (1) Increase in receivables (40) (62) Increase in payables Net decrease in derivative assets 2 1 (Decrease)/increase in provisions (non-specific items) (25) 20 Pension charge to cash difference adjustment Share-based awards (SAYE and LTIP) charge Cash cost of transformation operating expenditure (142) (233) Cash cost of operating specific items (61) (6) Cash inflow from operations Income tax paid (60) (40) Net cash inflow from operating activities Cash flow from investing activities Dividends received from associate company - 1 Finance income received 3 3 Proceeds from disposal of property (excluding London property portfolio), plant and equipment (non-operating specific item) London property portfolio costs (non-operating specific item) (34) (23) Proceeds from disposal of discontinued operation (non-operating specific item) - 41 Disposal of subsidiary (non-operating specific item) (3) - Purchase of property, plant and equipment (230) (270) Acquisition of business interests, net of cash acquired (122) (14) Purchase of intangible assets (software) (157) (191) Payment of deferred consideration in respect of prior years acquisitions (4) (4) Net sale of financial asset investments (current) - 56 Net cash outflow from investing activities (510) (363) Net cash inflow before financing activities Cash flow from financing activities Finance costs paid (17) (16) Acquisition of non-controlling interests (18) - Purchase of own shares (53) - Payment of capital element of obligations under finance lease contracts (74) (90) Cash received on sale and leasebacks Drawdown of loan facility 31 - Repayment of loans and borrowings (7) - Dividends paid to equity holders of the parent Company (222) (213) Dividend paid to non-controlling interests (8) (7) Net cash outflow from financing activities (327) (290) Net (decrease)/increase in cash and cash equivalents (83) 74 Effect of foreign currency exchange rates on cash and cash equivalents 14 7 Cash and cash equivalents at the beginning of the period Cash and cash equivalents at the end of the period This statement can also be found in the Royal Mail plc Annual Report and Financial Statements

10 Reconciliation of the Income statement for the Business to the Relevant Group 52 weeks ended 26 March weeks ended 27 March 2016 Other operations and adjustments Other units, eliminations and recharges Other operations and adjustments Other units, eliminations and recharges Business UKPIL Relevant Group Business UKPIL Relevant Group Continuing operations Page 11 Page 7 Page 11 Page 7 Revenue 7, ,658 2,118 9,776 7, ,671 1,580 9,251 Transfer charges 8 1 (1) (1) Operating costs (6,929) (403) (7,332) (1,954) (9,286) (6,921) (382) (7,303) (1,463) (8,766) People costs (4,753) (334) (5,087) (489) (5,576) (4,763) (335) (5,098) (358) (5,456) Depreciation and amortisation (222) (32) (254) (58) (312) (203) (31) (234) (38) (272) Other operating costs (1,953) (38) (1,991) (1,407) (3,398) (1,954) (17) (1,971) (1,067) (3,038) Transfer charges 8 (1) (1) Operating profit before transformation costs Transformation costs (132) (5) (137) - (137) (185) (6) (191) - (191) Operating profit after transformation costs Operating profit margin after transformation costs 1.7% 14.1% 2.5% 7.7% 3.6% 1.6% 13.7% 2.3% 7.4% 3.2% Operating specific items charge (111) (13) (124) (10) (134) (150) (6) (156) - (156) Operating profit/(loss) (35) Operating profit/(loss) as per cent of total revenue 0.2% 11.4% 0.8% 7.3% 2.2% (0.5%) 12.4% 0.3% 7.4% 1.5% Addressed volumes (million items) 13,139 (49) 13, ,598 13,718 (25) 13, ,124 Total volumes (million items all formats) 9 16,110 (86) 16, ,532 16,802 (116) 16, ,117 8 The transfer charges to the Relevant Group for Parcelforce from the Business have been eliminated in the Other operations and adjustments column 9 The total volumes of (86) million items ( : (116) million items) in the Other operations and adjustments includes the elimination of unofficial redirections and Royal Mail Signed For (included to support the costing methodology) and unaddressed election mailings offset by Parcelforce volumes. The volume of 508 million items ( : 431 million items) in the Other units, eliminations and recharges column relates to GLS 10

11 Income statement for the Business 52 weeks ended 26 March weeks ended 27 March 2016 Revenue 7,182 7,220 Transfer charges Operating costs (6,929) (6,921) People costs (4,753) (4,763) Depreciation and amortisation (222) (203) Other operating costs (1,953) (1,954) Transfer charges (1) (1) Operating profit before transformation costs Transformation costs (132) (185) Operating profit after transformation costs Operating profit margin after transformation costs 1.7% 1.6% Operating specific items (111) (150) Operating profit/(loss) 11 (35) Operating profit/(loss) as a per cent of total revenue 0.2% (0.5)% Addressed volumes (million items) 13,139 13,718 Total volumes (million items all formats) 16,110 16,802 Note on transformation costs and operating specific items 52 weeks ended 26 March weeks ended 27 March 2016 Transformation costs Business UKPIL Business UKPIL Voluntary redundancy (61) (61) (117) (117) Business transformation payments - - (2) (2) Project costs (71) (76) (66) (72) Total (132) (137) (185) (191) Operating specific items Employee Free Shares charge (100) (105) (151) (158) Legacy/other (costs)/credit (11) (18) 1 2 Amortisation of intangible assets in acquisitions - (1) - - Total (111) (124) (150) (156) 10 This statement includes transfer charges to the Relevant Group for Parcelforce of 1 million ( : 1 million). The transfer charge relates to the mark up of 10 per cent on the vehicle costs charged to Parcelforce by the Business for the provision of network conveyance services and the provision of the fleet for dedicated use by Parcelforce 11

12 End to end income statement for the Business weeks ended 26 March weeks ended 27 March 2016 USO Mail Other Total Business USO Mail Other Total Business Revenue 2,923 4,259 7,182 2,969 4,251 7,220 Transfer charges Operating costs (2,582) (4,535) (7,117) (2,482) (4,639) (7,121) People costs (1,445) (3,308) (4,753) (1,375) (3,387) (4,762) Depreciation and amortisation (82) (140) (222) (70) (133) (203) Other operating costs (867) (1,086) (1,953) (837) (1,118) (1,955) Transfer charges 12 (188) (1) (189) (200) (1) (201) Operating profit/(loss) before transformation costs 341 (87) (187) 300 Transformation costs (42) (90) (132) (59) (126) (185) Operating profit/(loss) after transformation costs 299 (177) (313) 115 Operating profit/(loss) margin after transformation costs 10.2% (4.2%) 1.7% 14.4% (7.4%) 1.6% Operating specific items (31) (80) (111) (42) (108) (150) Operating profit/(loss) 268 (257) (421) (35) Operating profit/(loss) as a per cent of total revenues 9.2% (6.0%) 0.2% 13.0% (9.5%) (0.5%) Addressed volumes (million items) 2,976 10,163 13,139 3,194 10,525 13,718 Total volumes (million items all formats) 2,976 13,134 16,110 3,194 13,608 16, During the period there have been updates made to the ABC Model to reflect our improved understanding of delivery activity. As a result, there has been a movement in cost from non-uso to USO products of around 140 million and from non-uso to Access products of around 25 million. There is no material impact on the overall Business profitability or margin and no restatement of prior year comparatives is required 12 This statement includes both transfer charges to the Relevant Group for Parcelforce of 1 million ( : 1 million) and transfer pricing between the USO and the Other channel for use of Special Delivery and the over 2kg Parcels. The transfer charges in Other are offset by the transfer charges in Operating costs in USO Mail 12

13 Reconciliation of the capital employed statement for the Business to the Relevant Group As at 26 March 2017 Total Business Other Operations and adjustments 13 UKPIL Other units, eliminations and recharges Relevant Group Non-current assets Property, plant and equipment 1, , ,062 Goodwill Intangible assets Investments in associates and joint venture Financial assets Pension escrow investments Derivatives Retirement benefit surplus net of IFRIC 14 adjustment 3, ,839-3,839 Other receivables Deferred tax assets , , ,843 Assets held for sale Current assets Inventories Trade and other receivables 2,636 (1,888) ,117 Income tax receivable Financial assets Derivatives Cash and cash equivalents ,656 (1,714) ,454 Total assets 7,767 (726) 7,041 1,293 8,334 Current liabilities Trade and other payables (1,556) 173 (1,383) (427) (1,810) Financial liabilities Interest-bearing loans and borrowings - (32) (32) (1) (33) Obligations under finance leases (63) (1) (64) - (64) Derivatives - (9) (9) - (9) Income tax payable (12) (12) Provisions (47) (29) (76) (12) (88) (1,666) 102 (1,564) (452) (2,016) Capital employed (total assets less current liabilities) 6,101 (624) 5, ,318 Return on capital employed % Non-current liabilities Financial liabilities Interest-bearing loans and borrowings (430) Obligations under finance leases (130) Derivatives (2) Provisions (108) Not reported at this level Other payables (47) Deferred tax liabilities (603) (1,320) Total liabilities (3,336) Net assets 4,998 Total equity 4, Other operations and adjustments include Parcelforce, RMPFS and inter business eliminations for UK operations 14 The return on capital employed shown above as defined by Ofcom excludes non-current liabilities. Royal Mail uses a different definition which includes non-current liabilities which results in a higher return 13

14 Reconciliation of the capital employed statement for the Business to the Relevant Group 6 As at 27 March 2016 Non-current assets Total Business Other operations and adjustments 13 UKPIL Other units, eliminations and recharges Relevant Group Property, plant and equipment 1, , ,000 Leasehold land payment Goodwill Intangible assets Investments in associates Financial assets Pension escrow investments Derivatives Retirement benefit surplus net of IFRIC 14 adjustment 3, ,430-3,430 Other receivables Deferred tax assets , , ,141 Assets held for sale Current assets Inventories Trade and other receivables 2,167 (1,408) ,020 Income tax receivable Financial assets Derivatives Short-term deposits Cash and cash equivalents ,185 (1,192) ,420 Total assets 6,877 (270) 6, ,600 Current liabilities Trade and other payables (1,196) (182) (1,378) (322) (1,700) Financial liabilities Obligations under finance leases (83) (1) (84) - (84) Derivatives - (33) (33) - (33) Income tax payable - (9) (9) (14) (23) Provisions (71) (30) (101) (50) (151) (1,350) (255) (1,605) (386) (1,991) Capital employed (total assets less current liabilities) 5,527 (525) 5, ,609 Return on capital employed % Non-current liabilities Financial liabilities Interest bearing loans and borrowings (392) Obligations under finance leases (136) Derivatives (8) Provisions (96) Other payables Not reported at this level (41) Deferred tax liabilities (469) Liabilities associated with assets held for sale - Total liabilities (3,133) Net assets 4,467 Total equity 4,467 (1,142) 14

15 Reconciliation of the Statement of cash flows for the Business to the Relevant Group For the 52 weeks ended 26 March 2017 Cash flow from operating activities Other Business Operations and adjustments UKPIL Other units, eliminations and recharges Relevant Group Operating profit before transformation costs Adjustment for: Depreciation and amortisation Share of post-tax profit from associates EBITDA before transformation costs Working capital movements (11) 1 (10) 1 (9) Decrease/(Increase) in inventories (3) - (3) 1 (2) Increase in receivables (53) (40) Increase/(decrease) in payables, provisions and derivatives (16) (4) (20) Pension charge to cash difference adjustment Share-based awards (SAYE and LTIP) charge Cash cost of transformation operating expenditure (138) (4) (142) - (142) Cash cost of operating specific items 279 (296) (17) (44) (61) Cash inflow/(outflow) from operations 826 (182) Income tax paid 13 (27) (14) (46) (60) Net cash inflow/(outflow) from operating activities 839 (209) Cash flow from investing activities Finance income received Proceeds from disposal of property (excluding London property portfolio), plant and equipment (non-operating specific item) London property portfolio costs (non-operating specific item) - (34) (34) - (34) Disposal of subsidiary (non-operating specific item) - (3) (3) - (3) Purchase of property, plant and equipment (160) (9) (169) (61) (230) Acquisition of business interests, net of cash acquired - (6) (6) (116) (122) Purchase of intangible assets (software) (153) (1) (154) (3) (157) Payment of deferred consideration in respect of prior years acquisitions (4) (4) Net cash outflow from investing activities (311) (21) (332) (178) (510) Net cash inflow/(outflow) before financing activities 528 (230) 298 (54) 244 Cash flow from financing activities Finance costs paid (2) (12) (14) (3) (17) Acquisition of non-controlling interests - (18) (18) - (18) Purchase of own shares (53) - (53) - (53) Payment of capital element of obligations under finance lease contracts (32) (41) (73) (1) (74) Cash received on sale and leasebacks Drawdown of loan facility Repayment of loans and borrowings (7) (7) Dividends paid to equity holders of the parent company - (222) (222) - (222) Dividends paid to non-controlling interests - (8) (8) - (8) Net cash outflow from financing activities (87) (229) (316) (11) (327) Net increase/(decrease) in cash and cash equivalents 441 (459) (18) (65) (83) 15

16 Reconciliation of the Statement of cash flows for the Business to the Relevant Group 6 For the 52 weeks ended 27 March 2016 Cash flow from operating activities Business Other Operations and adjustments UKPIL Other units, eliminations and recharges Relevant Group Operating profit before transformation costs Adjustment for: Depreciation and amortisation Share of post-tax profit from associates (1) (1) EBITDA before transformation costs Working capital movements 66 (45) 21 (41) (20) Decrease/(Increase) in inventories 1 (1) - (1) (1) Increase in receivables (32) (17) (49) (13) (62) Increase/(decrease) in payables, provisions and derivatives 97 (27) 70 (27) 43 Pension charge to cash difference adjustment Share-based awards (SAYE and LTIP) charge Cash cost of transformation operating expenditure (226) (7) (233) - (233) Cash cost of operating specific items and internal financing 238 (250) (12) 6 (6) Cash inflow/(outflow) from operations 837 (189) Income tax paid 3 (12) (9) (31) (40) Net cash inflow/(outflow) from operating activities 840 (201) Cash flow from investing activities Dividend received from associate company Finance income received Proceeds from disposal of property (excluding London property portfolio), plant and equipment (non-operating specific item) London property portfolio (costs)/net proceeds (non-operating specific item) Proceeds from disposal of discontinued operations (nonoperating specific item) (23) (23) - (23) Purchase of property, plant and equipment (179) (49) (228) (42) (270) Acquisition of business interests, net of cash acquired - (10) (10) (4) (14) Purchase of intangible assets (software) (167) (6) (173) (18) (191) Payment of deferred consideration in respect of prior years acquisitions (4) (4) Net sale of financial asset investments (current) Net cash (outflow)/inflow from investing activities (342) 1 (341) (22) (363) Net cash inflow/(outflow) before financing activities 498 (200) Cash flow from financing activities Finance costs paid (2) (11) (13) (3) (16) Payment of capital element of obligations under finance lease contracts (52) (38) (90) - (90) Cash received on sale and leasebacks New loans Repayment of loans and borrowings Dividends paid to equity holders of the parent company - (213) (213) - (213) Dividends paid to non-controlling interests (7) (7) Net cash outflow from financing activities (54) (226) (280) (10) (290) Net increase/(decrease) in cash and cash equivalents 444 (426)

17 Supporting notes for the regulatory financial statements 1. Basis of preparation These RFS have been prepared in accordance with the USPAC and the RAG dated January 2014 as supplemented by the ABC Manual and the Accounting Methodology Manual for Regulatory Reporting (AMMRR), as provided to Ofcom in May The RFS are prepared by disaggregating balances recorded in the general ledgers and other accounting records of Royal Mail plc, maintained in accordance with the Companies Act 2006 and applicable International Financial Reporting Standards (IFRS) as adopted by the European Union, and used for the preparation of Royal Mail plc s statutory financial statements. These regulatory financial statements have been produced using our best endeavours to comply with the USPAC and RAG. To the best of our knowledge, our ABC Model uses the most appropriate available data to prepare these financial statements. 2. Property, plant and equipment Business as at 26 March 2017 Property Fixtures and equipment Plant and machinery Vehicles Business Gross book value 1, ,812 Accumulated depreciation (767) (113) (558) (302) (1,740) Net book value ,072 Business as at 27 March 2016 Property Fixtures and equipment Plant and machinery Vehicles Business Gross book value 1, ,805 Accumulated depreciation (713) (179) (542) (283) (1,717) Net book value , Inventories Business As at 26 March 2017 As at 27 March 2016 Total Supplies and materials (uniforms, fuel, printing and stationery, mailbags and engineering spares) Merchandise

18 Supporting notes for the regulatory financial statements (continued) 4. Trade and other receivables Business As at 26 March 2017 As at 27 March 2016 Total 2,636 2,167 Trade receivables (net of bad debt provision of 17m ( : 17m)) Prepayments and accrued income Intercompany balances 2,023 1, Trade and other payables Business As at 26 March 2017 As at 27 March 2016 Total (1,556) (1,196) Trade payables and accruals (718) (688) Advance customer payments (289) (306) Social security (67) (61) Intercompany balances (436) (77) Other (46) (64) 6. Financial liabilities (obligations under finance leases) Business As at 26 March 2017 As at 27 March 2016 Minimum payments Finance charges Present value of payments Minimum payments Finance charges Present value of payments Due within 1 year (67) 4 (63) (84) 1 (83) 18

19 Supporting notes for the regulatory financial statements (continued) 7. Provisions Business As at 26 March 2017 As at 27 March 2016 Total (47) (71) Voluntary redundancy (13) (12) Other (34) (59) 19

20 Income statement for selected products weeks ended 26 March weeks ended 27 March 2016 Network Network Access Relay PAF Access Relay PAF Revenue 1, , Transfer charges Operating costs (1,518) (34) (27) (1,483) (33) (27) People costs (1,211) (23) (22) (1,167) (22) (22) Depreciation and amortisation (56) - - (52) - - Other operating costs (250) (11) (5) (264) (11) (5) Transfer charges (1) Operating profit/(loss) before transformation costs 29 (2) 4 65 (2) 4 Transformation costs 15 (25) (1) (1) (37) - (1) Operating profit/(loss) after 4 (3) 3 28 (2) 3 transformation costs 16 Operating profit/(loss) margin after transformation costs 0.3% (9.4%) 9.7% 1.8% (9.1%) 9.1% Addressed volumes (million items) 7, , Total volumes (million items all formats) 7, , Transformation costs are identified by the type of transformation expenditure as summarised on page 11 and then allocated by the most appropriate driver to product level using nested Equi-Proportional Mark Up (EPMU) methodology 16 Operating specific items are not allocated below Financial Reporting Entity level 20

21 Statement of Directors responsibilities Royal Mail Group Limited is required under the Postal Services Act , as detailed by Ofcom through the USP Accounting Conditions, to publish the RFS. The Directors of Royal Mail Group Limited confirm, to the best of their knowledge, that the RFS have been prepared, after agreeing formats with Ofcom, in accordance with the above requirement and that: 1. The statements have been prepared using accounting systems operating on the basis of objectively justifiable cost accounting principles that assign cost and revenue data to the products; 2. Costs and revenues have been directly attributed to products as far as practicable. Common operational costs that cannot be directly assigned are allocated to the products equitably using an ABC system. Overhead costs are allocated to products using a nested EPMU methodology 18. In line with ABC approaches, estimates are required and have been applied in order to comply with the requirements of the Accounting Conditions. The attribution methods, data sources and estimation methods are subject to ongoing review. Where appropriate, the Company will make improvements; 3. The RFS have been prepared adopting the following methodology: In accordance with the USPAC and RAG dated January 2014, as supplemented by the ABC Manual and the AMMRR, as provided to Ofcom 19 in May 2017; and Accounting Policies for the income statement are consistent with International Financial Reporting Standards for the year ended 26 March 2017, as adopted by the EU. In cases of conflict the methodology as documented in the AMMRR will prevail; and 4. The RFS are based on the financial records of the business and have been reconciled to the operating profit within the audited Royal Mail plc financial statements for the year ended 26 March Signed on behalf of the Board of Royal Mail Group Limited Michael Jeavons July Under USP accounting Universal Service Provider Condition section Acc 1.21 in pursuant of section 39 of the Postal Services Act As detailed in the Glossary and explanation of terms, page Annex 11 Direction: Regulatory Accounting Guidelines (RAG) March 2012 and updated January

22 Independent auditor s report to Royal Mail plc ( the Company ) and Ofcom ( the Regulator ) We have audited the non-statutory accounts of the Company (for the year ended 26 March 2017 which are set out on pages 7 to 20 of the attached report entitled Regulatory Financial Statements (the Regulatory Financial Statements ) as required by USP Accounting Condition ( USPAC ) 1.3.4, and and the Regulatory Accounting Guidelines. These Regulatory Financial Statements are prepared in accordance with the USPAC and the Regulatory Accounting Guidelines, as supplemented by the Activity Based Costing Manual and the Accounting Methodology Manual for Regulatory Reporting (as provided to the Regulator). In addition, we have considered whether the Company has notified the Regulator in writing of any material changes made to the information required under USPAC seven days prior to the change being made as required by USPAC This report is made, on terms that have been agreed, solely to the Company and the Regulator in order to meet the requirements of the USPAC. Our audit work has been undertaken so that we might state to the Company and the Regulator those matters that we have agreed to state to them in our report, in order to assist the Company to meet the requirements of the USPAC to procure such a report and to facilitate the carrying out by the Regulator of its regulatory functions, and for no other purpose. To the fullest extent permitted by law, we do not accept or assume responsibility to anyone other than the Company and the Regulator, for our audit work, for this report or for the opinions we have formed. Respective responsibilities of the Directors and Auditors As explained more fully in the Statement of Directors responsibilities as set out on page 21, the Directors are responsible for the preparation of the Regulatory Financial Statements in accordance with Annex 10 Statutory Notification: USP accounting condition, to Ofcom s Notification of decision to impose a regulatory condition in accordance with Section 53 of, and paragraph 3(1) of schedule 6 to, the Postal Services Act 2011 dated 27 March Our responsibility is to audit, and express an opinion on, the Regulatory Financial Statements, as required by USPAC 1.3.4, USPAC 1.4.4, USPAC and USPAC 1.6.4, and in accordance with International Standards on Auditing (UK and Ireland), except as stated in the Scope of the audit of the Regulatory Financial Statements below, and having regard to the guidance contained in ICAEW Technical Release TECH 02/16AAF Reporting to regulators on regulatory accounts. Those standards require us to comply with the Auditing Practices Board s Ethical Standards for Auditors. We report our opinion as to whether the Regulatory Financial Statements for the year ended 26 March 2017 have been properly prepared in accordance with the requirements of USP Accounting Conditions; USPAC 1.3.1(a), (b), (c) and (f), USPAC (a), (d), (e), (f), (g), (h) and (i) and USPAC (d). We also report whether, in forming that opinion, having reviewed the relevant Financial Statements and Regulatory Accounting Guidelines, anything has come to our attention that would lead us to conclude that the principles as defined in USPAC and procedures and rules contained in the Regulatory Accounting Guidelines have not been properly applied. We also report our opinion as to whether, in all material respects, the Company has complied with the processes set out in USPAC such that all changes it has made to its Costing Manual have either been reported to the Regulator in accordance with USPAC or were not Material Changes as defined by Regulatory Accounting Guidelines. 22

23 Scope of the audit of the Regulatory Financial Statements An audit involves obtaining evidence about the amounts and disclosures in the Regulatory Financial Statements sufficient to give reasonable assurance that the Regulatory Financial Statements are free from material misstatement, whether caused by fraud or error. This includes an assessment of: whether the accounting policies are appropriate to the Company s circumstances and have been consistently applied and adequately disclosed and the reasonableness of significant accounting estimates made by the Directors. In addition, we read all the financial and non-financial information in the Report that is entitled Regulatory Financial Statements to identify material inconsistences with the audited Regulatory Financial Statements and to identify any information that is apparently materially incorrect based on, or materially inconsistent with, the knowledge acquired by us in the course of performing the audit. If we become aware of any apparent misstatements or inconsistences we consider the implications for our report. We have not assessed whether the accounting policies are appropriate to the circumstances of the Company where these are laid down by the Regulatory Accounting Guidelines as set out by the Regulator. Where the Regulatory Accounting Guidelines do not give specific guidance on the accounting policies to be followed, our audit includes an assessment of whether the accounting policies adopted in respect of the transactions and balances required to be included in the Regulatory Financial Statements are consistent with those used in the preparation of the statutory financial statements of the Company. Furthermore, as the nature, form and content of Financial Statements are determined by the Regulator, we did not evaluate the overall adequacy of the presentation of the information, which would have been required if we were to express an audit opinion under International Standards on Auditing (UK and Ireland). Opinion on Regulatory Financial Statements as required by Annex 10 USPAC 1.3.4, USPAC and USPAC In our opinion, the Regulatory Financial Statements for the year ended 26 March 2017 have been properly prepared in accordance with the Regulatory Accounting Guidelines and USPAC (a), (b), (c) and (f), USPAC (a), (d), (e), (f), (g), (h) and (i) and USPAC (d). Nothing has come to our attention that would lead us to conclude that the principles as defined in USPAC and procedures and rules contained in the Regulatory Accounting Guidelines have not been properly applied. Opinion on notification of Material Changes to the Regulator as required by USPAC In our opinion, the Company has complied with the processes set out in USPAC 1.6.3, in all material respects, such that all changes it has made to its Costing Manual have either been reported to the Regulator in accordance with the USPAC 1.6.3, or were not Material Changes. Emphasis of matter - Basis of preparation Without modifying our opinion, we draw attention to the fact that the Regulatory Financial Statements have been prepared in accordance with the USPAC and the Regulatory Accounting Guidelines as supplemented by the Activity Based Costing Manual and the Accounting Methodology Manual for Regulatory Reporting (as provided to the Regulator) as set out in the basis of preparation in note 1 to these Regulatory Financial Statements. In particular, we note: - As regards the Guiding Principle c. (Causality), Royal Mail has populated the components of the financial statements with the relevant activity and product costs. Where attribution to a single activity or product cannot be determined by the Regulatory Accounting Guidelines, Royal Mail has performed the attribution in accordance with the Accounting Methodology Manual or the Activity Based Costing Manual for the relevant period (as provided to the Regulator). 23

24 - As regards the Guiding Principle d. (Objectivity), where assumptions have been used in applying financial and operational data, the manner in which these assumptions have been determined are defined within the Accounting Methodology Manual or the Activity Based Costing Manual for the relevant period (as provided to the Regulator). - As regards the Guiding Principle f. (Compliance with statutory accounting standards), the Regulatory Accounting Methodology is based on the accounting standards applied in Royal Mail plc s statutory financial statements other than where changes have been necessary to reflect the procedures and rules set out in the Regulatory Accounting Guidelines. The nature, form and content of Regulatory Financial Statements are determined by Ofcom. It is not appropriate for us to assess whether the nature of the information being reported upon is suitable or appropriate for the Regulator s purposes. Accordingly we make no such assessment. The Regulatory Financial Statements are separate from the statutory financial statements of the Company and have not been prepared under the basis of the presentation and disclosure requirements of International Financial Reporting Standards ( IFRS ). Financial information other than that prepared on the basis of IFRS does not necessarily represent a true and fair view of the financial performance or financial position of a company as shown in financial statements prepared in accordance with the Companies Act Other matters Our opinion on the Regulatory Financial Statements is separate from our opinion on the statutory financial statements of the Company for the year ended 26 March 2017 on which we reported on 17 May 2017, which are prepared for a different purpose. Our audit report in relation to the statutory financial statements of the Company (our Statutory audit ) was made solely to the Company s members, as a body, in accordance with Chapter 3 of Part 16 of the Companies Act Our Statutory audit work was undertaken so that we might state to the Company s members those matters we are required to state to them in a statutory audit report and for no other purpose. In these circumstances, to the fullest extent permitted by law, we do not accept or assume responsibility for any other purpose or to any other person to whom our Statutory audit report is shown or into whose hands it may come save where expressly agreed by our prior consent in writing. KPMG LLP Chartered Accountants and Statutory Auditor 15 Canada Square Canary Wharf London E14 5GL July

25 Glossary and explanation of terms Million pounds sterling weeks ended 26 March weeks ended 27 March Activity Based Costing (ABC) Activity Based Costing is a widely used and accepted method of costing products, services, customers and sales channels, based upon the cost of the activities required to produce these outputs. The method identifies the resource consumed by activities and assigns a cost to the resource utilised by each activity. These are aggregated to derive activity costs. Activity costs are then assigned to outputs, based upon defined cost drivers. These cost drivers provide a measure of the intensity or frequency of an activity demanded by a product or service and reflect a cause and effect relationship. AMMRR The Accounting Methodology Manual for Regulatory Reporting. Downstream Access services (Network Access) Customer and other licensed postal operators mail, which enters the Royal Mail pipeline after collection, outward sortation and distribution processes, for subsequent delivery. Earnings before interest and tax (EBIT) Earnings before the deduction of interest payments and income taxes. Financeability EBIT margin The cash pension rate adjusted EBIT margin after transformation costs. Nested EPMU Methodology Royal Mail uses a nested approach to allocate overheads. Nesting is a method whereby overheads are split in two stages. In the first stage overheads are allocated based upon only the calculated attributable cost base. In the second stage overheads are calculated on the attributable cost base plus the first stage of overhead costs. Office of Communications (Ofcom) The body responsible for regulating postal services in the UK. Pension charge to cash difference This adjustment represents the difference between the IFRS income statement pension charge rate of 28.8 per cent and the actual cash payments into the Royal Mail Pension Plan at 17.1 per cent. 25