GROUP PENSION SCHEME ANNUAL REPORT AND FINANCIAL STATEMENTS 2011

Transcription

1 GROUP PENSION SCHEME ANNUAL REPORT AND FINANCIAL STATEMENTS 2011

2 REPORT AND FINANCIAL STATEMENTS TO 31 DECEMBER 2011 TRUSTEE DIRECTORS C R Green (Chairman) D C Bridges H Galpin M S Green C O Shea C L Woodley SECRETARY C J Symonds SPONSORING EMPLOYERS Hermes Fund Managers Limited and BT Pension Scheme Trustees Limited ACTUARY Mrs J Dingle FIA Towers Watson Limited INDEPENDENT AUDITOR Deloitte LLP LEGAL ADVISERS Sacker & Partners LLP BANKERS The Royal Bank of Scotland plc PENSIONS ADMINISTRATORS Capita Hartshead ACCOUNTANTS AND INVESTMENT ADMINISTRATORS Hermes Fund Managers Limited INVESTMENT MANAGERS* BT Pension Scheme Management Limited & Hermes Investment Management Limited INVESTMENT ADVISERS BT Pension Scheme Management Limited CUSTODIAN The Northern Trust Company The particulars on this page are as at 31 December 2011 Pension Scheme Registry Number: * The Trustee also invests in funds managed by other companies - see pages 10 and 11 for more information on the Trustee s investments

3 CONTENTS TRUSTEE S MISSION STATEMENT 1 CHAIRMAN S STATEMENT 2 TRUSTEE S REPORT 3 ACTUARIAL STATEMENT AND CERTIFICATE 21 SCHEDULE OF CONTRIBUTIONS 23 TECHNICAL PROVISION STATEMENT 27 FINANCIAL STATEMENTS FOR THE YEAR ENDED 31 DECEMBER STATEMENT OF TRUSTEE S RESPONSIBILITIES 29 INDEPENDENT AUDITOR S REPORT 30 INDEPENDENT AUDITOR S STATEMENT ABOUT CONTRIBUTIONS 32 FUND ACCOUNT 33 NET ASSETS STATEMENT 34 STATEMENT ABOUT CHANGE IN MARKET VALUE OF INVESTMENTS 35 NOTES TO THE ACCOUNTS 36 APPENDIX 1 TRUSTEE ARRANGEMENTS 44

4 TRUSTEE S MISSION STATEMENT The Trustee s mission is to manage the Hermes Group Pension Scheme ( HGPS or the Scheme ) efficiently in the interests of the members, to provide the expected benefits, and to ensure that an excellent quality of service is given to those members. 1

5 CHAIRMAN S STATEMENT This has been a year of significant change for HGPS with the closure of the Scheme to future accrual of benefits. As reported last year, Hermes approached the Trustee about closing the Scheme to future accrual, and replacing it with membership of Hermes defined contribution scheme for the future. Hermes consulted with the Trustee before the formal consultation with the active members and took into account the views we expressed. The proposal by Hermes followed these discussions but the Trustee was not required to approve it. Hermes confirmed its intention to proceed with closure and the Trustee then negotiated the necessary changes to the Scheme Rules. The closure finally took place on 31 October Following closure there will be a gradual decline in the number of members of the Scheme and an increase in the proportion of pensioners. The active members (i.e. those employed by Hermes) are now treated as a new class of Employed Deferred Members while they remain in employment with Hermes. This means, for example, that they will retain the right to some redundancy benefits from HGPS, some salary linkage for the benefits accrued to date, and there will be special arrangements if a member is medically retired or dies while still in employment. We will continue to protect the benefits earned to date. The closure did not affect pensioners or members with a deferred pension. More information is on pages 3 and 4. As reported on pages 8 and 9, a full actuarial valuation of HGPS as at 31 December 2011 is being conducted at present. The Trustee and Hermes management have agreed in principle that the funding deficit was 32.8 million at that date and the funding level was 74%, but it is subject to formal approval by the Trustee Board and the Boards of both the Principal Employers. Although the deficit has increased since 2008, the funding level has improved. Details of the actuarial valuation will be attached to this report. The Trustee believes that HGPS remains well protected with a strong joint covenant from Hermes and BT Pension Scheme Trustees Limited. In association with the work on the actuarial valuation we have also been reviewing with Hermes and our advisers our investment strategy, which will change in the long term to take account of the Scheme s increasing maturity, i.e. the Employer and member normal contributions have ceased and the number of pensions we are paying is increasing. The value of the Scheme s net assets rose again during 2011 from 87.9 million to 92.0 million due to the significant Employer and member contributions. The rise in the assets was despite the overall fall in the value of our investments. The return on our assets in 2011 was -0.8%. We underperformed our benchmark, largely because of our underweight position in fixed interest gilts, which was one of the best performing asset classes during the year. We again had a large number of Board and Committee meetings during what was a very busy year and I would like to thank my fellow Trustee Directors who spend significant time ensuring the continued health of the Scheme. COLIN GREEN 2

6 TRUSTEE S REPORT The Trustee is pleased to present the report of the Hermes Group Pension Scheme for the year ended 31 December The Scheme was set up by the Principal Employers - Hermes Pensions Management Limited, which is now called Hermes Fund Managers Limited (Hermes), and the Trustees of the BT Pension Scheme (now BT Pension Scheme Trustees Limited) - by a Deed made on 16 September However, the only employer of members at present is Hermes Fund Managers Limited. Members of HGPS were contracted out of the State Second Pension (S2P) while they contributed to HGPS. The Scheme is registered under the Finance Act 2004 for taxation purposes. The Scheme is a defined benefit pension scheme. THE TRUSTEE Hermes Pension Trustees Limited ( the Trustee ) is a trustee company limited by guarantee which acts as Trustee for the Scheme, and is independent of the Principal Employers. A list of the current Trustee Directors at 31 December 2011 is shown at the beginning of the report. The independent Chairman is Colin Green. Two of the Trustee Directors, David Bridges and Hamish Galpin, were elected by the members. Two of the Trustee Directors, Colin O Shea and Michelle Green, were nominated by the Principal Employers. Carol Woodley is an additional independent Trustee Director. Irrespective of who appoints them, the Directors act collegiately in the best interests of all of the members of the Scheme. The Trustee Board schedules quarterly meetings but also has additional meetings. In 2011 the Board met a total of six times. The Board has a calendar of business which enables it to carry out its duties and monitor the performance of all aspects of the Scheme. CLOSURE OF SCHEME TO FUTURE ACCRUAL Last year we reported that Hermes was closing the Scheme for future accrual of benefits for the active members in the Scheme at that time. After a consultation period with the active members the closure finally took place on 31 October The employees affected were offered membership of the Hermes Group Stakeholder Pension Plan for the future. It is a defined contribution scheme. This other scheme was introduced for new employees in 2008 when HGPS was closed to new members. The active members of HGPS are now treated as a new class of Employed Deferred Members in HGPS while they remain in employment with Hermes. This means, for example, that they will retain the right to some redundancy benefits from HGPS, some salary linkage for the benefits accrued to date and there will be special arrangements in the event that any of these members are medically retired or die while still in employment. From 1 November 2011 members can no longer pay contributions to HGPS. Active members at 31 October 2011 who had non-pensionable salary elements, benefited from conversion of these to pensionable salary for the purposes of calculating benefits accrued up to the date of closure. 3

7 The consultation with the affected members was solely an Employer responsibility and while it was in progress the Trustee legally could not and was not in a position to comment formally about Hermes proposal. The Trustee took legal advice on its role as regards Hermes proposals. The Trustee was advised that it had no role to protect, and should not negotiate future service benefits, as its primary duty is to protect past service benefits (those benefits earned up to the date of the change). Hermes has not reduced any past service benefits and they will continue to be protected by the Trustee. Hermes consulted with the Trustee before the formal consultation with members and listened to our views. The proposal by Hermes followed these discussions but the Trustee was not required to approve it. Following the consultation Hermes confirmed its intention to proceed with closure and the Trustee then discussed and agreed the necessary changes to the Scheme Rules. Since 1 November 2011 HGPS no longer accepts transfers of benefits from other pension schemes, unless the transfer started before that date. However, the Trustee and Hermes did agree that an Employed Deferred Member may transfer in benefits from the Hermes Group Stakeholder Pension Plan if they take their pension when they retire, if employed by Hermes at that time. The transfer amount from the stakeholder plan can then be used to increase the defined benefit pension and / or cash payable from HGPS. None of this affected members who are already in receipt of a pension or already have an entitlement to a deferred pension. TRUST DEED AMENDMENTS On 21 October 2011 a Trust Deed was executed by the Trustee and Principal Employers to introduce new Rules for HGPS from 1 November The new Rules incorporated the changes regarding the closure of the Scheme to future accrual of benefits, and the creation of a new category of Employed Deferred Members. Since then there have been no further amendments to the Scheme s trust documents. OVERVIEW OF THE PERIOD The total value of the Scheme s assets rose from 87.9 million at 31 December 2010 to 92.0 million at 31 December The market value of investments (excluding net investment) fell by 1.6 million during the year. The contributions and other income received, less benefits, administration expenses, interest and other expenditure, added 5.7 million to the Scheme. The Scheme s investment return was -0.8% in the year to 31 December

8 million LATE RECEIPT OF CONTRIBUTIONS Members and normal Employer s contributions for a one month period payable on 31 October 2011 were received late by HGPS. The Employer pays these contributions monthly to HGPS and the legal deadline is for HGPS to receive them within 19 days. Hermes made the payment on 10 November 2011, well within the deadline, but due to a series of administrative errors and delays by various parties the monies did not reach HGPS s bank account until 9 February The Trustee reported this to the Pensions Regulator and wrote to all members to advise them. There were no adverse financial consequences for HGPS, no delays in payment of pensions by HGPS nor a risk to members benefits as HGPS has more than sufficient cash to pay pensions each month. The Trustee Board and its Audit Committee have since reviewed the arrangements with Hermes to ensure there are no delays in receipt of other monies due from Hermes in the future. The Regulator has since confirmed that it intends to take no action. SCHEME ADMINISTRATION Capita Hartshead maintains the membership records of the Scheme, calculates benefits, and deals with other administrative matters. The administrator's full address is: Capita Hartshead Radio House Thanet Way Whitstable Kent CT5 3QP Telephone number: Fax number: hermes.pensions@capita.co.uk Total Net Assets at Market Value The payment of pensions is dealt with by Hermes HR department

9 MEMBERS AND BENEFICIARIES The following table shows the changes in HGPS membership in PENSIONERS Number of pensioners at 31 December Retirements 4 Number of pensioners at 31 December DEFERRED PENSIONERS Number of deferred pensioners at 31 December Start of period adjustment 1 Retirements (3) Transfer out (2) New deferred pensions 23 Number of deferred pensioners at 31 December EMPLOYED DEFERRED MEMBERS* Number of active members at 31 December Start of period adjustment (1) Members leaving service (23) Retirements (1) Number of employed deferred members* at 31 December * When the Scheme closed to future accrual on 31 October 2011 the active members became employed deferred members see page 3 6

10 The graph below shows the development of the membership since 2004: Pensioners 700 Deferred pensioners Active members* * When the Scheme closed to future accrual on 31 October 2011 the active members became employed deferred members see page 3 FUNDING POSITION Until the Scheme closed to future accrual on 31 October 2011, members paid a contribution to the Scheme of 5% of their basic annual pensionable salary. The Employer pays the balance of the costs of the Scheme. After the Scheme Actuary carried out a full valuation of the Scheme as at 31 December 2008, she issued her final report to the Trustee on 26 October 2009 and a schedule of contributions was signed by the Trustee and Principal Employers on 29 October The outcome of the valuation was that, on an ongoing basis, there was a deficit of assets compared with the amount needed to cover the cost of the benefits earned up to 31 December 2008, of 27.2 million. The funding level was 67% on this basis. The Actuary calculated the Employer s contribution rate for future service to be 20.1% of active members basic annual pensionable salaries effective 1 January 2009, and the Employer paid contributions at this rate until 31 October In addition to the regular contributions, the Employer agreed with the Trustee that it would pay a series of monthly cash payments to extinguish the Scheme s 27.2 million deficit in respect of accrued benefits to 31 December 2008, with the aim of paying off the deficit by the middle of The detailed payment plan is in the schedule of contributions on page 23. The Employer has previously agreed to meet any funding strain arising in respect of enhanced benefits on redundancy or early retirement other than ill-health retirement. In addition, the Employer has been meeting separately the cost of the annual Pension Protection Fund levy. A full actuarial valuation of HGPS as at 31 December 2011 has been conducted and will be finalised once these accounts are signed. The Trustee and Hermes management have agreed that the funding deficit was 32.8 million at that date and 7

11 the funding level was 74%, but it is subject to formal approval by the Trustee Board and the Boards of both the Principal Employers. The deficit has increased since the full actuarial valuation at the end of 2008 because the negative impact of changes in financial assumptions has outweighed the positive financial affect of Hermes significant contributions, higher investment returns than assumed, lower salary increases than assumed and pension increases changing from RPI to CPI for some members. However, the funding level has improved over the three years to 31 December 2011 as the value of the assets has also been increasing. Details of the actuarial valuation at 31 December 2011 will be attached to this report. Members should not be too concerned with the deficit. The contributions Hermes has agreed to pay after each actuarial valuation, combined with the strong joint covenant of Hermes and BT Pension Scheme Trustees Limited, satisfied the HGPS Trustee that HGPS is well protected and that the funding deficit will be removed. On a discontinuance basis, if the Scheme had been wound up on 31 December 2008 and the benefits had been secured with an insurance company, the Actuary estimated that the Scheme s assets would have been sufficient to cover about 37% of the members benefits and there would have been a deficit of 97.5 million on this basis. At 31 December 2011 it is estimated that the assets would have been sufficient to cover about 38% of the members benefits and there would have been a deficit of about 151 million on this basis. Inclusion of this information does not imply that the Principal Employers are thinking of winding-up the Scheme. This is simply one of the measures of Scheme liabilities that are required to be produced at each actuarial valuation and funding update for the Trustee s and the Pension Regulator s information. Members have been sent information on the funding position in annual summary funding statements. Copies of the Actuary s reports and other documents relating to the actuarial valuations are available from the Scheme Secretary at the address on page 20 or from the Scheme s website ( BENEFITS AND TRANSFERS For active members who joined HGPS from 1 April 1999 onwards, benefits for pensionable service from 1 January 2009 were based on career average revalued earnings. Benefits for these members accrued before 1 January 2009 are based on final salary. All benefits for members who joined prior to 1 April 1999, i.e. former members of the Hermes Pension Scheme, are based on final salary. Transfers into and out of the Scheme are made on terms determined by the Actuary under the Rules of the Scheme. Transfer values represent fair value in relation to the alternative benefits payable. No allowance is made for any discretionary increases to pensions. When the Scheme closed to future accrual on 31 October 2011 the Trustee ceased to accept transfers-in of benefits from other pension schemes. However, as stated on page 5, the Trustee and Hermes did agree that an Employed Deferred Member may transfer in benefits from the Hermes Group Stakeholder Pension Plan if they take their pension when they retire, if employed by Hermes at that time. The transfer amount from the stakeholder plan can then be used to increase the defined benefit pension and / or cash payable from HGPS. Until 31 October 2011 the lump sum death benefits payable from HGPS on the death of active members of the Scheme was four times pensionable salary, and they were insured by the Trustee under a Group Policy with Legal & General Assurance 8

12 Society Ltd. Those members became Employed Deferred Members from 1 November 2011 and the lump sum now payable from HGPS if they die before taking their benefits is 1.25 times pensionable salary. This is not insured. Hermes provides a lump sum death benefit for all employees of eight times pensionable salary that is not related to HGPS, which is insured. PENSION INCREASES Former Hermes Pension Scheme Members Who Joined Pre-1 April 1999 Pensions in payment and deferred pensions are increased in April each year in line with the government s pension increase orders, in the same way that public sector pensions are increased. In practice these increases are based on inflation for the twelve months ending the previous September, and there is no cap on the increases. From April 2011 the government has changed the basis for public sector pensions from Retail Prices Index (RPI) to Consumer Prices Index (CPI) increases, and this also affected former Hermes Pension Scheme members because of the link in the Scheme Rules to legislation. Pensions in payment and deferred pensions increased by 3.1% from April 2011, based on the increase in the CPI from September 2009 to September Members Who Joined Post-1 April 1999 Pensions in payment are increased in line with the rise in the RPI, up to a maximum of 5% per annum, and that has not changed. The increase for 2011 was 4.6% based on the increase in the RPI from September 2009 to September Deferred pensions are revalued up to retirement in line with government legislation. In the past these increases in deferment were based on RPI but from 2011 the increases have been based on CPI because of the change in government policy. The increases are capped at 5% per annum for benefits earned before 6 April 2009 and at 2.5% per annum for benefits earned on or after 6 April The cap is checked cumulatively across the whole period of deferment not in each individual year. The deferred pension revaluation for 2011 was 3.1% based on the increase in the CPI from September 2009 to September 2010, although the cap of 2.5% applied to benefits earned on or after 6 April All members were advised of the changes in the arrangements for increasing pensions in payment and deferred pensions. No discretionary pension increases were paid in BENEFIT STATEMENTS Pensioners and deferred pensioners are advised annually of the increase to their benefits. Active members were given a statement of their benefits as at 1 April After the Scheme closed to future accrual on 31 October 2011 those members were then also given a statement of their benefits as at that date. 9

13 AUDIT COMMITTEE To aid the Trustee s oversight of financial controls, it has an Audit Committee consisting of four Trustee Directors: Mr Bridges, Mr Green, Ms Green and Mrs Woodley, who is the Chairman. The Committee generally meets twice each year. The Committee considers the Annual Report and Financial Statements before it is finally approved by the Trustee Board, and meets with the external auditor and Hermes management. The Committee regularly considers a number of areas of the Scheme s operations including financial control, risk assessment, and the effectiveness of the audit process, and makes recommendations to the full Trustee Board where necessary. At every meeting, the Committee discusses a risk assessment report for HGPS. STATEMENT OF INVESTMENT PRINCIPLES In compliance with the Pensions Act 1995, the Trustee maintains a Statement of Investment Principles (SIP), which sets out its policy for investing the assets of the Scheme. The SIP is reviewed annually and a new Statement was signed in December The Scheme s strategic asset allocation is being reviewed in conjunction with the actuarial valuation as at 31 December 2011, and a revised SIP will be produced. Any member of the Scheme who would like a copy of the current SIP should contact the Scheme Secretary, at the address on page 20. A copy is also available on the HGPS website at For a number of years the Trustee has maintained detailed objectives and constraints for investing the Scheme s assets, and these are additional to the SIP. The objectives and constraints are reviewed and amended from time to time. These objectives and constraints can be obtained from the Scheme Secretary. They are also available on the Investment page of the Scheme s website. The Trustee has not made any investments which are not consistent with the SIP, nor have they made any employer-related investments or loans. THE MANAGEMENT OF INVESTMENTS Apart from the Scheme s gilts investments, most of the Scheme's assets are held in pooled investment vehicles to improve diversification. While it is correct for accounting purposes to treat the pooled investment vehicles in the accounts as the Scheme's assets, the Trustee nevertheless considers that for asset-mix purposes the values of the underlying funds should be used to determine sector exposure and the following tables and charts have been drawn up on that basis. A significant proportion of the exposure is obtained via a Legal & General unitised insurance policy whose value is determined by the performance of the underlying funds. At the end of 2011 HGPS had investments in the following funds managed by Legal and General Investment Management Limited: UK Equity Index Fund Europe (ex-uk) Equity Index Fund North America Equity Index Fund Japan Equity Index Fund 10

14 Asia Pacific (ex-japan) Developed Equity Index Fund. Emerging Markets Equity Fund Active Corporate Bond Over 10 Year - Fund The value of the Legal & General insurance policy at 31 December 2011 was 44.4 million. Other fund vehicles employed are as follows: UK equities A small part of the UK equities portfolio is invested in the Hermes Specialist UK Focus Fund. Emerging A State Street Common Trust Fund, which is an unlisted openended investment fund. Markets Commodities The Hermes Commodities Index Plus Fund, which invests in commodities swaps (referencing a basket of underlying commodities futures). Property The Hermes Property Unit Trust (HPUT), the BlackRock UK Property Fund and the Standard Life Long Lease Property Fund, which are balanced funds providing exposure to all sectors of the commercial property market. This is an efficient means of investing indirectly in property for small pension schemes. Absolute Return The Hermes BPK Fund and the K2 Overseas Investors Fund. (hedge) funds The Hermes Group of companies are involved in managing a number of HGPS s portfolios. Hermes Investment Management Limited is the investment manager for the bonds portfolio and the commodities fund. Hermes Focus Asset Management Limited manages the Hermes Specialist UK Focus Fund. HPUT is managed by Hermes Real Estate Investment Management Limited. The Trustee reviews all the investment managers and funds regularly. During 2011 the investments in two WisdomTree Exchange Traded Funds were sold. They were Fundamental Indexing equities funds. INVESTMENT COMMITTEE The Trustee has an Investment Committee, which oversees the implementation of changes to the asset allocation and it enables the Scheme to react more quickly to sudden changes in the investment environment should the need arise. The Committee comprises Mr Galpin, Mr Green, Mr O Shea and Mrs Woodley. It is intended that it will normally meet four times each year between Trustee Board meetings. The Committee receives reports and advice from the Trustee s appointed investment advisor, BT Pension Scheme Management Limited (BTPSM). BTPSM has delegated authority to make tactical changes within agreed ranges around the strategic asset allocation, and may discuss these with the Investment Committee. If deemed appropriate, BTPSM or the Investment Committee may recommend to the Trustee Board tactical changes outside the agreed ranges. ASSET MIX The Trustee sets targets for the Scheme s long term strategic asset mix. The current strategic asset mix is shown on page 12. After the last full actuarial valuation the Trustee and its advisers undertook a comprehensive review of strategic asset allocation with an asset liability modelling 11

15 study involving external consultants. The conclusion was that as the Scheme would mature more quickly, we should gradually reduce the level of risk inherent in the Scheme s asset allocation. Consequently, it was decided that the allocation to risk seeking assets would be reduced immediately in 2010 from 85% to 80% and would then reduce further to 65% over 10 years, and there would be more diversification. The strategic allocation to bonds was increased because they match liabilities better, however, for tactical reasons this has not been fully implemented yet. The allocation to equities was reduced significantly and there were new or increased allocations to other risk seeking assets such as property, commodities and absolute return funds to increase the diversification of the portfolio. This mainly took place in 2010 but some further small changes were made in We will also be making a new allocation to global credit i.e. bonds. A manager has been selected and we are undertaking due diligence. The revised strategy aimed to reduce volatility of returns while maintaining a reasonably ambitious return expectation. The Scheme s long-term allocation to risk seeking assets such as equities and commodities is supported by the strong covenant from the sponsors and, because the Scheme will be fairly immature for some years to come (i.e. there are relatively few pensioners compared to the other members who are not yet entitled to their benefits), the Trustee can take a fairly long term view. The Trustee is reviewing the strategic asset allocation again in 2012 with an asset liability modelling study in conjunction with the actuarial valuation as at 31 December The chart and table below shows the long term strategic asset mix as at 31 December 2011, the actual asset mix at 1 January 2011 and the actual asset mix at 31 December During 2011 there was no allocation to fixed interest gilts or global credit. The Trustee has also authorised BT Pension Scheme Management Limited to make short term tactical shifts in asset allocation within defined ranges around the strategic asset mix % Asset Allocation Strategic Asset Mix 01 January December

16 Strategic Asset Mix % Actual Asset Mix 1 January 2011 % Actual Asset Mix 31 December 2011 % UK equities Overseas Equities Fundamental Indexing Property Unit Trusts Index Linked Fixed Interest Gilts Corporate Bonds Commodities Absolute Return Global Credit Cash and AVC funds TOTAL NET INVESTMENT DURING THE YEAR The net investment during the period 1 January 2011 to 31 December 2011 was as follows: million UK Equities (1.0) Overseas Equities 0.5 UK Index Linked Investments (0.2) Property 1.2 Commodities 1.9 Absolute Return 0.9 Deposits and AVCs

17 INVESTMENT PORTFOLIO AT 31 DECEMBER 2011 The breakdown of the investment portfolio at 31 December 2011 is shown in the following table. UK Equities Legal & General Investment Management 16.8 Hermes Specialist UK Focus Fund 0.7 UK FTSE Futures (4.0) Overseas Equities Legal & General Investment Management 23.9 State Street Emerging Markets Fund 1.3 Overseas Futures 1.0 million million Hermes Commodities Index Plus Fund 4.8 Absolute Return Funds 8.2 UK Property Unit Trusts 14.1 Index Linked UK Government Securities 10.4 LGIM Active Corporate Bond Fund 3.7 Deposits, AVC Funds & other investment assets* * The cash required to back futures contracts has been reallocated to the appropriate asset class to reflect the underlying economic exposure. The amount invested in overseas equities at 31 December 2011 was as follows: million % of total investments North America Europe Japan Pacific Basin (ex Japan) Emerging Markets

18 The Scheme does not hold any employer-related investments. INVESTMENT REPORT FOR THE PERIOD The global economic outlook continues to cause nervousness in the markets and HGPS s investments have been affected by the volatility experienced throughout In mid-2010 HGPS sold its remaining fixed interest gilts because of the poor short term outlook and during 2011 had no exposure to this asset class. The amount of cash held was increased during The tactical underweight position in fixed interest gilts is being kept under review. The exposure to equities reduced due to a small amount of disinvestment and the falls in the markets. During 2011 the investments in two Fundamental Indexing equities funds were sold. There was net investment in property, commodities and the absolute return funds. The Japanese tsunami in March 2011 disrupted the recovery in global manufacturing. Increasing geopolitical instability exacerbated the impact of ongoing concerns about the global economy and the Eurozone debt crisis. It was generally a poor year for equities, but a much better one for the gilt market as problems in the Eurozone and austerity in the UK led many investors to seek safe haven investments. Over the year the overall investment return for HGPS was -0.8% against the benchmark return of -0.5%, and this underperformance was largely because of the underweight position in fixed interest gilts. INVESTMENT PERFORMANCE We continue to monitor investment performance against Scheme benchmarks and peer group returns provided by WM. The overall benchmark return is obtained by combining the strategic asset allocation of the Scheme with the asset class returns of appropriate market indices. The table on the next page shows the Scheme s overall rate of return for the year to 31 December 2011 and the benchmark return, and also compares the Scheme s returns for the major asset classes with the Scheme s benchmark returns for those asset classes: 15

19 12 months to Rate of Return % HGPS Benchmark Overall HGPS Return HGPS Asset Classes:- UK Equities North America Equities Europe (ex UK) Equities Japan Equities Pacific (ex Japan) Equities Emerging Markets Equities Index Linked Gilts Corporate Bonds Commodities Absolute Return Property The Scheme s performance in the last five years is shown in the table below: COMPARISON WITH BENCHMARK AND WM UNIVERSE Annual Rate of Return (%) to 2011 Annualised HGPS Benchmark HGPS out/(under)performance of benchmark WM Universe* HGPS out/(under)performance of WM peer group *Note up to 31 December 2007 the WM Universe incorporated funds with assets of 10 million to 50 million. From 1 January 2008 onwards the WM Universe incorporated funds with assets of 50 million to 250 million. 16

20 The overall Scheme return for 2011 was -0.8% in a difficult and volatile year for markets. It underperformed the benchmark by 0.3%, largely because of the underweight position in fixed interest gilts. In comparison to the peer group the Scheme also underperformed by 4.5% mainly because HGPS had more in equities and less in bonds than the average fund. Over the five year period from 2007 to 2011, the Scheme's return of 2.3% per annum was ahead of its benchmark (2.0%) and behind the peer group (3.6%). For background, during the year to 31 December 2011, the Retail Prices Index increased by 4.8%. ADVISERS The Trustee has appointed Sacker & Partners LLP as its legal advisers, Mrs Judith Dingle of Towers Watson as its actuary and Deloitte LLP as its auditor. The Trustee usually meets each of them at least once each year, but a formal review of these professional advisers will usually occur triennially. Earlier reviews will be arranged if problems arise or an adviser resigns. At the triennial reviews the Trustee decides if it is necessary to arrange for a tendering process, or if the incumbent adviser is to be retained. The Trustee reviewed the actuary in 2011 and was very pleased with the service provided. It decided not to undertake a formal market test of the actuary. However, this will be considered again later in 2012 after the current actuarial valuation has been completed. BT Pension Scheme Management Limited (BTPSM) is our investment adviser. BTPSM also provides investment management and pensions secretariat services for HGPS. The Trustee will also review regularly the Investment Adviser. At these reviews, the Trustee will decide if it is necessary to arrange for a tendering process, or if the incumbent is to be retained. When it is appropriate, the Trustee obtains independent investment advice from, among others, Towers Watson Limited. The Trustee has a contract with Hermes Equity Ownership Services Limited (HEOS) for the provision of share voting services on behalf of HGPS. The Scheme pays HEOS a fee for this service. The auditor, Deloitte LLP, does not provide any non-audit work for the Scheme. However, they do undertake audit and non-audit work for the Principal Employers, Hermes Fund Managers Limited and BT Pension Scheme Trustees Limited. The Trustee has in place arrangements to enable it to be satisfied about the independence of the auditor. SCHEME GOVERNANCE Following a revision of the Myners Principles in 2008, which saw the original 10 principles reduced to 6 higher-level principles, an Investment Governance Group (IGG) was established, comprising leading representatives across the pensions community. The IGG owns the updated principles, monitors their effectiveness and recommends improvements in the way pension schemes are governed. The IGG considers what guidance can be given to trustees on the content of their reporting to 17

21 members. The Trustee believes it conducts itself in accordance with the principles, but it will take account of any guidance from the IGG. The Trustee Board meets at least quarterly and most investment decisions are considered by the entire Board. However an Investment Committee was established in 2010 to oversee the significant changes to the investment portfolio being introduced following the recent actuarial valuation (see page 11). The Board also has an Audit Committee (see page 10). Other ad hoc committees have been established from time to time when necessary, for example when the Scheme Rules and investment management agreements have been reviewed. The Trustee Directors receive training appropriate to their needs, and they continue to assess whether they have the right set of skills both individually and collectively with regular reviews. The Trustee has a three year business plan, which includes rolling reviews of the investment manager, all advisers and all other aspects of the Scheme s operations. The plan is updated annually. The current pensions administrators, Capita Hartshead, were appointed in October 2005 and their performance was last formally reviewed in The administrators performance is measured against a number of service level targets and, generally, it has been excellent since their appointment in When they have dealt with a member Capita send them a questionnaire to obtain their feedback. The results are monitored regularly at Trustee meetings and so far they have generally been very good. The Trustee welcomes all feedback from members, who are encouraged to complete and return any questionnaires they receive from Capita, or advise the Secretary if they have any comments on the pensions administration. CUSTODY OF THE SCHEME S ASSETS The Trustee considers that it is important to keep the investment management of its assets separate from their custody, to minimise the risk of the assets being misused. The custodians will deliver assets only on receipt of a properly executed instruction from the investment manager. The Trustee is responsible for appointing and replacing the custodians who have custody of the Scheme s assets, and this is done by written agreement. Northern Trust was appointed as custodian in January 2009, replacing JPMorgan Chase Bank. This appointment was made after a thorough due diligence exercise was performed by Hermes Administration Services Limited (HASL) on behalf of the Trustee. The Trustee has maintained bank accounts in its name to make and receive payments for the Scheme. ADDED YEARS AND ADDITIONAL VOLUNTARY CONTRIBUTIONS Until 31 October 2011 active members of the Scheme were able to purchase increased benefits in two ways: 18

22 i) by buying added years of pensionable service in the Scheme by paying an additional percentage of salary during their active membership; and ii) by making additional voluntary contributions (AVCs) to a with-profits fund managed by Prudential Assurance Company Limited. There was also an earlier option to pay AVCs to a Santander deposit account. Members can no longer pay AVCs or any contributions to HGPS. The members who paid AVCs to the Prudential or Santander retain their investment in the fund which can be used to provide additional benefits when they retire. The added years benefit a member purchased up to 31 October 2011 is included in their main HGPS benefits. INTERNAL DISPUTE RESOLUTION PROCEDURE The Trustee has found that virtually any query or request for information about the Scheme is capable of being answered satisfactorily by the Hermes HR Department. Nevertheless the Trustee has a procedure to resolve disputes, which gives a member the means of having a grievance considered at the highest level. The Internal Dispute Resolution Procedure (IDRP) is in two stages. At stage 1, the dispute/complaint is considered by the Secretary to the Trustee. A member not satisfied with his decision can ask at stage 2 for the matter to be reconsidered by the Trustee Board. No formal complaints under the IDRP have been received for eight years. A member of the Scheme who has a query or complaint which is likely to prove difficult to resolve is given a copy of the IDRP. A copy of the procedure can be obtained from Hermes HR Department or the Secretary to the Scheme at the address below. HERMES GROUP PENSION SCHEME WEBSITE The Scheme has its own website, which is hosted by Hermes Fund Managers Ltd: The website is aimed at everyone with an interest in the Scheme employed deferred members, pensioners and former Hermes staff with preserved benefits. There is comprehensive, information about the Scheme, although there is no personal information held within the site. Members seeking information about their own benefits are referred to the Scheme s Administrators, Capita Hartshead. Their address can be found on page 5. THE REPORT AND FINANCIAL STATEMENTS The Trustee considers that this report contains all the information which is required to be disclosed to members under current legislation. The financial statements have been prepared and audited in accordance with the regulations made under sections 41(1) and (6) of the Pensions Act

23 Copies of the full report and accounts are being made available via the HGPS website site to all members of the Scheme, who may also obtain a hard copy on request. All members will be advised accordingly. Members who have a general query about the report or their benefit entitlements in Hermes Group Pension Scheme, should contact either the HR department, Hermes Fund Managers Limited, Lloyds Chambers, 1 Portsoken Street, London E1 8HZ, or Chris Symonds, Scheme Secretary, at the same address. The telephone number is Further information on HGPS is available on the Scheme s website All members are invited to attend the Scheme s Annual General Meeting held at Hermes offices. COLIN R GREEN Chairman Hermes Pension Trustees Limited 20

24 ACTUARIAL STATEMENT The most recent actuarial valuation of the Scheme was made as at 31 December 2011, but it has not yet been formally approved by the Trustee and Principal Employers. Details of this valuation will be provided in a Summary Funding Statement later this year. The remainder of this statement refers to the previous valuation as at 31 December An actuarial valuation has two main purposes: to determine whether or not the assets already held by the Scheme are sufficient to finance the prospective benefit entitlements of current and former members, to the extent to which these relate to service prior to the valuation date, and to assess the future level of contributions required, having regard both to the cost of the benefits which will accrue to members after the valuation date and to any past service surplus or shortfall revealed by the valuation. The valuation of the Hermes Group Pension Scheme as a continuing Scheme revealed a past service deficit as at 31 December 2008 of 27.2 million. To eliminate this deficit, the Employer is making a series of additional contributions, as set out in the Schedule of Contributions, which are targeted to eliminate the deficit by 31 May Taken in conjunction with the assumed rate of investment return on the invested assets, I certified that I expected the target of full funding against the ongoing valuation assumptions to be achieved on payment of the above contributions. The Employer has also agreed to make further special contributions, if applicable, to meet the strains which arise on account of redundancies or early retirements of members in good health and also to meet any strains arising if salary increases overall are higher than assumed. The Scheme closed to future benefit accrual on 31 October 2011, so Employer and member contributions to fund future benefit accrual ceased with effect from 1 November The most recent annual funding update with an effective date of 31 December 2010 showed a past service deficit of 25.0 million on financial assumptions consistent with those used for the actuarial valuation as at 31 December The contribution requirements are currently being reviewed as part of the actuarial valuation as at 31 December In the unlikely event that the Employers ceased paying contributions to the Scheme ( discontinuance ), the Trustee could seek to meet benefits payments either by winding up the Scheme or by continuing it as a closed fund. The Trustee could secure members accrued rights by the purchase of appropriate annuities in the event of the Scheme being discontinued, though the terms available from insurance companies at 31 December 2008 were in any event such that, based on the Scheme's assets and liabilities at that date, the premiums charged to secure accrued rights in full would have exceeded the value of the Scheme s assets. Judith Dingle Towers Watson Limited 10 May

25 Actuary s certification of schedule of contributions Name of scheme Hermes Group Pension Scheme Adequacy of rates of contributions 1. I certify that, in my opinion, the rates of contributions shown in this schedule of contributions are such that the statutory funding objective could have been expected on 31 December 2008 to be met by the end of the period specified in the recovery plan. 2. I also certify that the rates of contributions shown in this schedule are not lower than I would have provided for had I had responsibility for preparing or revising the schedule, the statement of funding principles and any recovery plan. Adherence to statement of funding principles 3. I hereby certify that, in my opinion, this schedule of contributions is consistent with the Statement of Funding Principles dated 23 October The certification of the adequacy of the rates of contributions for the purpose of securing that the statutory funding objective can be expected to be met is not a certification of their adequacy for the purpose of securing the scheme's liabilities by the purchase of annuities, if the scheme were to be wound up. Judith Dingle Fellow of the Institute of Actuaries Watson Wyatt Limited 21 Tothill Street Westminster London SW1H 9LL 30 October

26 Schedule of contributions for the purposes of Section 58 of the Pensions Act 1995 Hermes Group Pension Scheme This schedule of contributions has been prepared by Hermes Pension Trustees Limited, the Trustee of the Hermes Group Pension Scheme (the Scheme ), after obtaining the advice of Judith Dingle, the Scheme Actuary. This schedule satisfies the requirements of Section 227 of the Pensions Act Contributions to be paid to the Scheme from 1 October By active members: Member rate 5% of Salary Due on, or before, the 19th of each month after that in which contributions are deducted from Salary. Any AVCs deducted from members Salaries must also be paid within this timescale. By the employers: In respect of the period from 1 October 2009 Employer rate: 20.1% of Salary Due on, or before, the 19th of each month after that in which contributions are deducted from Salary. PPF levies The Employers will also pay within the time periods required by the PPF all levies payable to the Pension Protection Fund as they fall due. Enhanced benefits on redundancy or early retirement In respect of enhanced benefits granted on redundancy or early retirement (other than ill-health retirement) under the Rules, the Employers will pay an amount equal to the funding strain on each redundancy or early retirement (other than ill-health retirement) as calculated by the Scheme Actuary using the method and assumptions set out in the Statement of Funding Principles dated 23 October The funding strain is the difference, at the date of retirement, in the value of the member s past service liabilities as an active member and the value of the member s retirement benefits. These contributions will be paid to the Scheme within one month of certification by the Actuary of the amount due, unless the Employers and Trustee agree a later date. Additional contributions payable in respect of Salary increases above the level assumed Explanatory note: The intention of this section is to specify the additional calculations that will be payable by the Employers if Salary increases are higher than assumed in the valuation. The calculation at the 2009 Salary review date will look just at that year. The calculation at the 2010 Salary review date will look at the combined position of the 2009 review (allowing for previously agreed payment schedules, if any) and the

27 2010 review and the calculation at the 2011 will look at the combined position of all three years. If, at either the 2010 or 2011 Salary review date, there are some outstanding contributions in respect of earlier years which have not yet been paid by the Employers, these contributions due will either be increased, reduced or eliminated in full, as appropriate to reflect the combined position as a result of actual Salary increases compared to valuation assumptions for the 2 or 3 year period. The mechanism for combining the position for two consecutive years will depend on whether the position at the first year is negative (i.e. actual salary increases lower than the assumptions) or positive (actual salary increases higher than the assumptions). If the first year is negative, interest for one year will be added to this and it will then be added to the figure calculated at the second date to give the combined figure. If the first year is positive, a series of contributions over an agreed payment period no later than 31 December 2011 will have been agreed by the Employers. In order to allow for any contribution payment schedules already agreed, all the outstanding payments due after the second salary review date will be discounted back to that date at the same rate of interest and be added to the figure calculated at the second date to give the combined figure. Note that if no payments are made between the first and second years, this approach will be the same as taking the positive figure calculated in the first year and adding interest for one year and then combining this with the figure calculated at the second date to give the combined figure. At each salary review date in 2009, 2010 and 2011 the Scheme Actuary will calculate the Salary increase shortfall as the difference between: 1. The past service liabilities using the actual Salaries for active members; and 2. The past service liabilities assuming that the Salaries from the previous salary review had increased by retail price inflation plus 1% for the active members. For this purpose, retail price inflation will be measured over the period from December to December and will be subject to a minimum of zero each year. The past service liabilities which relate to career average benefits will be excluded from this calculation. Members with Salary equal to the Scheme-specific earnings cap prior to the salary review date will be excluded from the calculations. The assumptions to be used for the past service liability calculations at each salary review date are those set out in the Statement of Funding Principles dated 23 October The Salary increase shortfall calculated by the Scheme Actuary at each salary review date will be combined with any negative amount carried forward from the previous year plus interest at 6.9% pa or any outstanding contributions which relate to a positive amount in a previous year, discounted to the salary review date at 6.9% pa. This figure will be called the Combined amount. For the 2009 review the Combined amount will be equal to the Salary increase shortfall. If the Combined amount is a negative figure any outstanding payments due in respect of previous years will be cancelled and this negative amount will be carried 24