Royal Mail. Regulatory Financial Statements July 2016

Transcription

1 Royal Mail Regulatory Financial Statements July 2016

2 Contents Introduction Regulatory Financial Statements The Business 4 The cost of delivering the Universal Service 5 Calculation of the financial sustainability EBIT 5 Financial Statements Relevant Group Income statement 6 Balance sheet 7 Statement of cash flows 8 Business Reconciliation of the income statement to the Relevant Group 9 Income statement 10 End to end income statement 11 Reconciliation of the capital employed statement to the Relevant Group 12 Reconciliation of the statement of cash flows to the Relevant Group 14 Supporting notes for the regulatory financial statements 16 Income statement for selected products 19 Other Statement of Directors responsibilities 20 Independent auditor s report to Royal Mail plc and Ofcom 21 Glossary and explanation of terms 24 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 27 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 (Group Property) 1, as shown in the diagram below. The Business, as defined by Ofcom, is the entity which provides the Universal Service, and takes account of all the costs of both regulated and unregulated products that depend on the core Universal Service activities 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 core network 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 margin of 5.0% 3. This margin is at the bottom of the 5-10 per cent identified by Ofcom as a reasonable commercial rate of return. The equivalent margin for was 5.6% 3. 1 The Business is charged a rental charge for the property facilities it uses that are supplied by Group Property 2 Ofcom, end to end competition in the postal sector, final guidance on Ofcom s approach to assessing the impact on the universal postal service, 27 March 2013, para Ofcom set out in its Annual monitoring update on the postal market Financial year (published Dec 2014) that the 5-10 per cent indicative EBIT range was defined as the cash pension rate adjusted EBIT margin after transformation costs (financeability EBIT margin) See page 5 for details of the calculation of the financeability EBIT 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% 83% 78% 70% 49% 32% GLS, and non core (Romec) Royal Mail plc UKPIL Parcelforce Worldwide, Royal Mail Property Unit 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, to ensure it can offer a next day service six days a week to more than 29 million addresses throughout the UK. The Universal Service network is used by both USO products 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 daily collection and delivery 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 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 financial sustainability EBIT We have estimated the financial sustainability EBIT ( financeability EBIT ) using our understanding of Ofcom s calculation methodology. We understand this calculation as the pension cash rate adjusted EBIT margin after transformation costs. This is calculated as follows: Pension charge to cash difference UKPIL Business Financial sustainability EBIT External revenue 7,220 7,327 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 % 5.6% 5

6 Income statement for the Relevant Group 52 weeks ended 27 March weeks ended 29 March 2015 Continuing operations Specific items Adjusted Specific items Adjusted Revenue 9,251-9,251 9,328-9,328 Operating costs (8,766) (257) (8,509) (8,717) (129) (8,588) People costs (5,456) (257) (5,199) (5,359) (129) (5,230) Distribution and conveyance costs (1,736) - (1,736) (1,764) - (1,764) Infrastructure costs (995) - (995) (1,019) - (1,019) Other operating costs (579) - (579) (575) - (575) Operating profit before transformation costs 485 (257) (129) 740 Transformation costs (191) - (191) (145) - (145) Operating profit after transformation costs 294 (257) (129) 595 Operating specific items: Employee Free Shares charge (158) (158) - (169) (169) - Legacy credit/(costs) (33) (33) - Operating profit 138 (413) (331) 595 Profit on disposal of property, plant and equipment (non-operating specific item) Earnings before interest and tax 167 (384) (198) 595 Finance costs (16) - (16) (30) - (30) Finance income Net pension interest (non-operating specific item) Profit before tax 267 (271) (123) 569 Tax (charge)/credit (45) 73 (118) (72) 66 (138) Profit for the period from continuing operations 222 (198) (57) 431 Discontinued operations Profit after tax for the period from discontinued operations (non-operating specific item) Tax on profit from disposal of discontinued operations (5) (5) Profit for the year 248 (172) (57) 431 Profit for the year attributable to: Equity holders of the parent Company 241 (172) (57) 428 Non-controlling interests Earnings per share: Basic continuing operations 21.5p (19.8)p 41.3p 37.1p (5.7)p 42.8p Diluted continuing operations 21.4p (19.7)p 41.1p 37.1p (5.7)p 42.8p Basic total Group 24.1p (17.2)p 41.3p 37.1p (5.7)p 42.8p Diluted total Group 24.0p (17.1)p 41.1p 37.1p (5.7)p 42.8p 4 During the financial year a provision of 46 million was recognised in the statutory financial statements following an investigation launched by the French Competition Authority in June 2014 into actions by GLS France relating to prior years. This provision was recognised in the financial year rather than the financial year in the RFS 5 The discontinued operations arose as a result of the disposal of DPD Systemlogistik GmbH & Co. KG on 31 March

7 Balance sheet for the Relevant Group Non-current assets at 27 March 2016 at 29 March 2015 Restated 6 Property, plant and equipment 2,000 1,933 Leasehold land payment 2 2 Goodwill Intangible assets Investment in associates and joint venture 9 5 Financial assets Pension escrow investments Derivatives 2 2 Retirement benefit asset net of IFRIC 14 adjustment 6 3,430 3,367 Other receivables Deferred tax assets 9 8 6,141 5,830 Assets held for sale Current assets Inventories Trade and other receivables 1, Income tax receivable 6 5 Financial assets Derivatives 5 5 Short-term deposits - 56 Cash and cash equivalents ,420 1,317 Total assets 7,600 7,179 Current liabilities Trade and other payables (1,700) (1,668) Financial liabilities Obligations under finance leases (84) (93) Derivatives (33) (34) Income tax payable (23) (14) Provisions (151) (149) (1,991) (1,958) Non-current liabilities Financial liabilities Interest bearing loans and borrowings (392) (366) Obligations under finance leases (136) (179) Derivatives (8) (14) Provisions (96) (104) Other payables (41) (40) Deferred tax liabilities 6 (469) (512) (1,142) (1,215) Liabilities associated with assets held for sale - (10) Total liabilities (3,133) (3,183) Net assets 4,467 3,996 Equity Share capital Retained earnings 6 4,451 3,993 Other reserves (3) (16) Equity attributable to parent Company 4,458 3,987 Non-controlling interests 9 9 Total equity 4,467 3,996 This statement can also be found in the Royal Mail plc Annual Report and Financial Statements During the first half of the financial year a decision was taken to adopt a new accounting policy in relation to pensions administration costs to better reflect the intentions of IAS 19 Employee Benefits. In line with IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors, this change in policy has been applied retrospectively in the Royal Mail plc Annual Report and Financial Statements

8 Statement of cash flows for the Relevant Group 52 weeks ended 27 March weeks ended 29 March 2015 Cash flow from operating activities: Profit before tax Adjustment for: Net pension interest (113) (75) Net finance costs Profit on disposal of property, plant and equipment (29) (133) Legacy credit/(costs) and impairment (2) 79 Employee Free Shares charge Transformation costs 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 (20) 12 (Increase)/decrease in inventories (1) 1 Increase in receivables (62) (52) Increase in payables Net decrease/(increase) in derivative assets 1 (8) Increase/(decrease) in provisions (non-specific items) 20 (1) Pension charge to cash difference (operating specific item) Share-based awards (SAYE and LTIP) charge to cash difference 13 5 Cash cost of transformation operating expenditure (233) (228) Cash cost of operating specific items (6) (8) Cash inflow from operations Income tax paid (40) (37) Net cash inflow from operating activities Cash flows from investing activities Dividends received from associate company 1 - Finance income received 3 4 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) (23) 100 Proceeds from disposal of discontinued operation (non-operating specific item) 41 - Purchase of property, plant and equipment (270) (267) Acquisition of business interests (14) (7) Purchase of intangible assets (software) (191) (153) Payment of deferred consideration in respect of prior years acquisitions (4) (3) Net sale/(purchase) of financial asset investments (current) 56 (55) Net cash outflow from investing activities (363) (342) Net cash inflow before financing activities Cash flows from financing activities Finance costs paid (16) (22) Payment of capital element of obligations under finance lease contracts (90) (75) Cash received on sale and leasebacks New loans Repayment of loans and borrowings - (600) Dividends paid to equity holders (213) (200) Dividend paid to non-controlling interests (7) (1) Net cash outflow from financing activities (290) (492) Net (decrease)/increase in cash and cash equivalents 74 (72) Effect of foreign currency exchange rates on cash and cash equivalents 7 (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

9 Reconciliation of the Income statement for the Business to the Relevant Group 52 weeks ended 27 March weeks ended 29 March 2015 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 10 Page 6 Page 10 Page 6 Revenue 7, ,666 1,585 9,251 7, ,757 1,571 9,328 Transfer charges 7 1 (1) (1) Operating costs (6,921) (394) (7,315) (1,451) (8,766) (6,899) (372) (7,271) (1,446) (8,717) People costs (4,763) (258) (5,021) (435) (5,456) (4,685) (234) (4,919) (440) (5,359) Depreciation, amortisation and impairments costs (203) (30) (233) (39) (272) (213) (29) (242) (37) (279) Other operating costs (1,954) (107) (2,061) (977) (3,038) (2,000) (110) (2,110) (969) (3,079) Transfer charges 7 (1) (1) Operating profit before transformation costs Transformation costs (185) (6) (191) - (191) (145) - (145) - (145) Operating profit after transformation costs Operating profit margin after transformation costs 1.6% 10.0% 2.1% 8.5% 3.2% 3.9% 13.3% 4.4% 8.0% 5.0% Operating specific items charge (150) (6) (156) - (156) (166) (36) (202) - (202) Operating (loss)/profit (35) Operating (loss)/profit as per cent of total revenue (0.5%) 8.8% (0.0%) 8.5% 1.5% 1.6% 4.9% 1.8% 8.0% 2.8% Addressed volumes (million items) 8, 9 13,718 (25) 13, ,124 14, , ,501 Total volumes (million items all formats) 8, 9 16,802 (116) 16, ,117 17,387 (120) 17, ,658 7 The transfer charges to the Relevant Group for Parcelforce from the Business have been eliminated in the Other operations and adjustments column 8 The total volumes of (116) million items ((120) million ) 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 431 million items ( million items) in the Other units, eliminations and recharges column relates to GLS 9 The 391 million GLS items previously disclosed as 436 million items in now excludes 45 million items in relation to a GLS discontinued operation (DPD Systemlogistik GmbH & Co. KG), sold on 31 March 2015, to enable like for like comparison 9

10 Income statement for the Business 52 weeks ended 27 March weeks ended 29 March 2015 Revenue 7,220 7,327 Transfer charges Operating costs (6,921) (6,899) People costs (4,763) (4,685) Depreciation, amortisation and impairment costs (203) (213) Other operating costs (1,954) (2,000) Transfer charges (1) (1) Operating profit before transformation costs Transformation costs (185) (145) Operating profit after transformation costs Operating profit margin after transformation costs 1.6% 3.9% Operating specific items (150) (166) Operating (loss)/profit (35) 118 Operating (loss)/profit as a per cent of total revenue (0.5)% 1.6% Addressed volumes (million items) 13,718 14,094 Total volumes (million items all formats) 16,802 17,387 Note on transformation costs and operating specific items 52 weeks ended 27 March weeks ended 29 March 2015 Transformation costs Business UKPIL Business UKPIL Voluntary redundancy (117) (117) (81) (81) Business transformation payments (2) (2) (9) (9) Project costs (66) (72) (55) (55) Total (185) (191) (145) (145) Operating specific items Employee Free Shares charge (151) (158) (162) (169) Impairment and legacy credit/(costs) 1 2 (4) (33) Total (150) (156) (166) (202) 10 This statement includes transfer charges to the Relevant Group for Parcelforce of 1 million ( 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 10

11 End to end income statement for the Business 52 weeks ended 27 March weeks ended 29 March 2015 USO Mail Other Total Business USO Mail Other Total Business Revenue 2,969 4,251 7,220 3,083 4,244 7,327 Transfer charges Operating costs (2,482) (4,639) (7,121) (2,582) (4,502) (7,084) People costs (1,375) (3,387) (4,762) (1,415) (3,270) (4,685) Depreciation, amortisation and (78) (135) (213) impairments (70) (133) (203) Other operating costs (837) (1,118) (1,955) (904) (1,096) (2,000) Transfer charges (200) (1) (201) (185) (1) (186) Operating profit/(loss) before transformation costs 487 (187) (72) 429 Transformation costs (59) (126) (185) (45) (100) (145) Operating profit/(loss) after transformation costs 428 (313) (172) 284 Operating profit/(loss) margin after transformation costs 14.4% (7.4%) 1.6% 14.8% (3.9%) 3.9% Operating specific items (42) (108) (150) (45) (100) (145) Operating profit/(loss) 386 (421) (35) 406 (288) 118 Operating profit/(loss) as a per cent of total revenues 13.0% (9.5%) (0.5%) 13.2% (6.5%) 1.6% Addressed volumes (million items) 3,194 10,525 13,718 3,363 10,731 14,094 Total volumes (million items all formats) 3,194 13,608 16,802 3,363 14,024 17, This statement includes both transfer charges to the Relevant Group for Parcelforce of 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 11

12 Reconciliation of the capital employed statement for the Business to the Relevant Group As at 27 March 2016 Total Business Other Operations and adjustments 12 UKPIL Other units, eliminations and recharges Relevant Group Non-current assets Property, plant and equipment 1, , ,000 Leasehold land payments Goodwill Intangible assets Investments in associates and joint venture Financial assets Pension escrow investments Derivatives Retirement benefit surplus net of IFRIC 14 adjustment 3, ,430-3,430 Other receivables Deferred tax assets - (1) (1) , , ,141 Assets held for sale Current assets Inventories Trade and other receivables 2,167 (1,431) ,020 Income tax receivable Financial assets Derivatives Short-term deposits Cash and cash equivalents ,185 (1,237) ,420 Total assets 6,877 (325) 6,552 1,048 7,600 Current liabilities Trade and other payables (1,196) (149) (1,345) (355) (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) (222) (1,572) (419) (1,991) Capital employed (total assets less current liabilities) 5,527 (547) 4, ,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) (1,142) Liabilities associated with assets held for sale - Total liabilities (3,133) Net assets 4,467 Total equity 4, Other operations and adjustments include Parcelforce, Group Property and inter business eliminations for UK operations 13 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 12

13 Reconciliation of the capital employed statement for the Business to the Relevant Group As at 29 March 2015 Restated 6 Non-current assets Total Business Other operations and adjustments 12 UKPIL Other units, eliminations and recharges Relevant Group Property, plant and equipment 1, , ,933 Leasehold land payment Goodwill Intangible assets Investments in associates Financial assets Pension escrow investments Derivatives Retirement benefit surplus net of IFRIC 14 adjustment 6 3, ,367-3,367 Other receivables Deferred tax assets - (2) (2) , , ,830 Assets held for sale Current assets Inventories Trade and other receivables 2,326 (1,635) Income tax receivable Financial assets Derivatives Short-term deposits Cash and cash equivalents (10) ,332 (1,420) ,317 Total assets 6,828 (588) 6, ,179 Current liabilities Trade and other payables (1,245) (97) (1,342) (326) (1,668) Financial liabilities Obligations under finance leases (93) - (93) - (93) Derivatives - (34) (34) - (34) Income tax payable - (2) (2) (12) (14) Provisions (82) (21) (103) (46) (149) (1,420) (154) (1,574) (384) (1,958) Capital employed (total assets less current liabilities) 5,408 (742) 4, ,221 Return on capital employed % Non-current liabilities Financial liabilities Interest bearing loans and borrowings (366) Obligations under finance leases (179) Derivatives (14) Provisions (104) Other payables Not reported at this level (40) Deferred tax liabilities 6 (512) Liabilities associated with assets held for sale (10) Total liabilities (3,183) Net assets 3,996 Total equity 3,996 (1,215) 13

14 Reconciliation of the Statement of cash flows for the Business to the Relevant Group For the 52 weeks ended 27 March 2016 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 (1) (1) EBITDA before transformation costs Working capital movements 66 (41) 25 (45) (20) Decrease/(Increase) in inventories 1 (1) - (1) (1) Increase in receivables (32) (16) (48) (14) (62) Increase/(decrease) in payables, provisions and derivatives 97 (24) 73 (30) 43 Pension charge to cash difference (operating specific item) Share-based awards (SAYE and LTIP) charge to cash difference Cash cost of transformation operating expenditure (226) (7) (233) - (233) Cash cost of operating specific items and internal financing 238 (235) 3 (9) (6) Cash inflow/(outflow) from operations 837 (188) Income tax paid 3 (10) (7) (33) (40) Net cash inflow/(outflow) from operating activities 840 (198) 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 - (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 (197) 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 (423)

15 Reconciliation of the Statement of cash flows for the Business to the Relevant Group For the 52 weeks ended 29 March 2015 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 (501) 306 (195) Decrease in inventories Increase in receivables (30) (11) (41) (11) (52) (Decrease)/increase in payables, provisions and derivatives (472) 317 (155) Pension charge to cash difference (operating specific item) Share-based awards (SAYE and LTIP) charge to cash difference Cash cost of transformation operating expenditure (216) (12) (228) - (228) Cash cost of operating specific items and internal financing 182 (185) (3) (5) (8) Cash inflow from operations Income tax paid (37) (37) Net cash inflow from operating activities Cash flow from investing activities Finance income received Proceeds from disposal of property, plant and equipment (nonoperating specific item) Proceeds from disposal of discontinued operations (nonoperating specific item) Purchase of property, plant and equipment (213) (17) (230) (37) (267) Acquisition of business interests (7) (7) Purchase of intangible assets (software) (124) (13) (137) (16) (153) Payment of deferred consideration in respect of prior years acquisitions (3) (3) Net purchase of financial asset investments (current) - (55) (55) - (55) Net cash (outflow)/inflow from investing activities (334) 53 (281) (61) (342) Net cash (outflow)/inflow before financing activities (97) Cash flow from financing activities Finance costs paid (5) (16) (21) (1) (22) Payment of capital element of obligations under finance lease contracts (61) (14) (75) - (75) Cash received on sale and leasebacks New loans Repayment of loans and borrowings - (600) (600) - (600) Dividends paid to equity holders of the parent company - (200) (200) - (200) Dividends paid to non-controlling interests (1) (1) Net cash (outflow)/inflow from financing activities (66) (817) (883) 391 (492) Net (decrease)/increase in cash and cash equivalents (163) (565) (728) 656 (72) 15

16 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 published 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 used, in accordance with that Act, 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 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 ,088 Business as at 29 March 2015 Property Fixtures and equipment Plant and machinery Vehicles Business Gross book value 1, ,701 Accumulated depreciation (664) (153) (530) (282) (1,629) Net book value , Inventories Business As at 27 March 2016 As at 29 March 2015 Total Supplies and materials (uniforms, fuel, printing & stationery, mailbags and engineering spares) Merchandise

17 Supporting notes for the regulatory financial statements (continued) 4. Trade and other receivables Business As at 27 March 2016 As at 29 March 2015 Total 2,167 2,326 Trade receivables (net of bad debt provision of 17m ( m)) Prepayments and accrued income Intercompany balances 1,545 1, Trade and other payables Business As at 27 March 2016 As at 29 March 2015 Total (1,196) (1,245) Trade payables and accruals (688) (749) Advance customer payments (306) (286) Social security (61) (79) Intercompany balances (77) (77) Other (64) (54) 6. Financial liabilities (obligations under finance leases) Business As at 27 March 2016 As at 29 March 2015 Minimum payments Finance charges Present value of payments Minimum payments Finance charges Present value of payments Due within 1 year (84) 1 (83) (96) 3 (93) 17

18 Supporting notes for the regulatory financial statements (continued) 7. Provisions Business As at 27 March 2016 As at 29 March 2015 Total (71) (82) Voluntary redundancy (12) (53) Other (59) (29) 18

19 Income statement for selected products 52 weeks ended 27 March weeks ended 29 March 2015 Network Network Access Relay PAF Access Relay PAF Revenue 1, , Transfer charges Operating costs (1,483) (33) (27) (1,431) (33) (27) People costs (1,167) (22) (22) (1,131) (22) (22) Depreciation, amortisation and impairments costs (52) - - (50) - - Other operating costs (264) (11) (5) (250) (11) (5) Transfer charges Operating profit/(loss) before transformation costs 65 (2) 4 86 (1) 3 Transformation costs 14 (37) - (1) (35) - - Operating profit/(loss) after transformation costs (2) 3 51 (1) 3 Operating profit/(loss) margin after transformation costs 1.8% (9.1%) 9.1% 3.4% (3.1%) 10.0% 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 10 and then allocated by the most appropriate driver to product level using nested Equi-Proportional Mark Up (EPMU) methodology 15 Operating specific items are not allocated below Financial Reporting Entity level 19

20 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 RFS. Royal Mail Group Limited confirms 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 17. In line with ABC approaches, estimates are required and have been applied in order to comply with the requirements of the Accounting Conditions; 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 published AMMRR, as provided to Ofcom 18 in May 2016; and Accounting Policies for the income statement are consistent with International Financial Reporting Standards for the year ended 27 March 2016, as adopted by the EU. In cases of conflict the methodology as documented in the AMRR 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 27 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

21 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 27 March 2016 which are set out on pages 6 to 19 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 20, 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 in accordance with the terms of our engagement letter dated 11 March 2016 and having regard to 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 Audit 05/03 Reporting to Regulators of Regulated Entities issued by the Institute of Chartered Accountants in England and Wales. Those standards require us to comply with the Auditing Practices Board s Ethical Standards for Auditors. 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; the reasonableness of significant accounting estimates made by the Directors; and the overall presentation of the Regulatory Financial Statements. 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 21

22 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 & Ireland). We report our opinion as to whether the Regulatory Financial Statements for the year ended 27 March 2016 have been properly prepared in accordance with the requirements of USP Accounting Conditions; USPAC 1.3.1, USPAC and USPAC 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. 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 27 March 2016 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), USPAC (d) and the Guiding Principles as per USPAC 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. 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). 22

23 - 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 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 ) or United Kingdom Generally Accepted Accounting Practice. 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 The nature, form and content of the Regulatory Financial Statements is determined by the Regulator. 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. Our opinion on the Regulatory Financial Statements is separate from our opinion on the statutory financial statements of the Company for the year ended 27 March 2016 on which we reported on 18 May 2016, 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 July

24 Glossary and explanation of terms Million pounds sterling weeks ended 27 March weeks ended 29 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. Postcode Address File (PAF ) The Postcode Address File (PAF ) is a database of all known UK residential and business addresses and postcodes, it holds c.29 million addresses and c.1.8m postcodes. PAF and its related products are sold to over 37,000 customers who use it for address capture, managing databases and direct mail campaigns. 24

25 Products Products and services offered to customers. For a full list of products refer to Business The Business is a subset of UK Parcels, International & Letters (UKPIL) including Network Access, excluding Parcelforce and the Royal Mail Property unit. Relay Royal Mail Relay is a stand-alone courier and out-of-hours network. Relevant Group Royal Mail plc consolidated financial statements. Regulatory Accounting Guidelines (RAG) Direction given by Ofcom under the USP Accounting condition (USPAC) in accordance with section 53, and paragraph 4 of schedule 6, of the Postal Services Act Transformation costs Relate to the ongoing transformation of the business and include voluntary redundancy, project costs and other transformation-related payments reported by Royal Mail. UK Parcels, International & Letters (UKPIL) The principal operational business unit within Royal Mail. USPAC The USP Accounting Condition (USPAC) imposed on Royal Mail as set out in the notification published by Ofcom at Annex 10 to the statement entitled Securing the Universal Postal Service dated 27 March 2012, and as modified by Ofcom from time to time. 25