Royal Mail. Regulatory Financial Statements July 2018

Royal Mail Regulatory Financial Statements 2017-18 July 2018

Contents Introduction Regulatory Financial Statements 2017-18 3 The Business 4 The cost of delivering the Universal Service 5 Calculation of the Financeability EBIT margin 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 25 2

Regulatory Financial Statements 2017-18 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 25 March 2018. However, within the RFS: costs are calculated using an Activity Based Costing Model (ABC Model), which identifies the resources consumed by activities, assigns costs to those resources and thereby allocates those costs to each activity; and all margins have been calculated based on the values as reported within the RFS using the unadjusted income statement charge with respect to pensions and without any other adjustments such as the number of working days in the reporting period. The financial statements set out in the RFS relate to both Royal Mail plc (the Relevant Group ) and, within that, the Business, as required by Ofcom. The Business is a subset of Royal Mail plc s core UK business, UK Parcels, International & Letters (UKPIL) including Network Access, but excluding Parcelforce Worldwide (Parcelforce) and the Royal Mail Property unit (Royal Mail Property & Facilities Solutions (RMPFS)), 1 as shown in the diagram below. The Business, as defined by Ofcom, is the regulatory entity which contains the Universal Postal Service network and all the products provided through or in relation to that network. 2 Royal Mail plc financial statements are issued in line with the Financial Conduct Authority Listing, Disclosure and Transparency Rules and applicable accounting standards. These regulatory financial statements have been produced in line with Ofcom s instructions in the USPAC and RAG. These financial statements are different to our statutory financial statements and our internal management accounts and show results by entities which are regulatory constructs for regulatory purposes. In following Ofcom s guidance, in some instances we have to apply management judgement to determine the allocation of costs and revenues to products via our Activity Based Costing system. Operational data such as traffic and hours - have been used to inform these allocations. Royal Mail continues to review and improve our methodologies as we develop additional sources of operational data and as our business transforms its operations. Ofcom has assessed an indicative range of 5-10 per cent as a reasonable commercial rate of return for the Financeability EBIT 3 margin. In 2017-18, the Business achieved a Financeability EBIT of 4.4 percent (2016-17: 4.6 per cent see page 5). It is the second year in a row that Royal Mail is outside of the indicative range. Financeability EBIT margin is one of several measures that Ofcom takes into account in assessing Royal Mail s financial sustainability. 4 Ofcom has previously stated that concerns about financial sustainability may not arise if, for example, the EBIT margin goes below 5% for a shorter period due to specific circumstances which may be addressed by Royal Mail without affecting its longer-term financial sustainability. 5 1 The Business is charged a rental charge for the property facilities it uses that are supplied by RMPFS 2 Ofcom, Review of the Regulation of Royal Mail, 1 March 2017, Footnote 34 3 Business operating profit margin after transformation costs, taking into account the pension charge to cash difference 4 To assess the financial sustainability of the Universal Postal Service, Ofcom will take into account Financeability EBIT margin, cash flow projections of Royal Mail plc, and financial health metrics and other indicators of Royal Mail plc. See Ofcom, Review of the Regulation of Royal Mail, 1 March 2017, Paragraph 3.63 5 Ofcom, Review of the Regulation of Royal Mail, 25 May 2016, Annex 6, Paragraph A6.92 3

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. Royal Mail s product channels, including those in the Business product channels, are as follows: Revenue 100% 75% 70% 62% 43% 28% GLS Royal Mail plc UKPIL Parcelforce Worldwide, Royal Mail Property & Facilities Solutions, Inter company eliminations and e-courier 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

The cost of delivering the Universal Service Royal Mail s statutory obligation as the sole designated USP drives the architecture and costs of the Universal Service mail network. Royal Mail has developed a network to enable it to collect, process and deliver mail throughout the country, and to ensure it can offer a next day service six days a week to around 30 million addresses throughout the UK. The Universal Service network is used by both Universal Service and non-universal Service products. Royal Mail relies on revenues from non-universal Service 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 not be materially different, and therefore a significant proportion of the cost base would remain, whether the Group used the Universal Service mail network for non-universal Services or not. Costs are allocated to each product channel by allocating common costs across all services as determined by Ofcom through the costing rules set out in the RAG and Royal Mail s Activity Based Costing Manual (ABC Manual). However, Royal Mail believes that the cost of the combined network should most appropriately be allocated to Universal Service products in the first instance. If this were the case, under the current revenue structure, Universal Services would be significantly loss-making, and non-universal Service products would be profitable. Therefore, delivering increasing volumes of non-universal Service products including non- Universal Service parcels through the Universal Service mail network is essential in seeking to enable the Universal Service to become financially sustainable. The non-universal Service products make a contribution towards the significant fixed cost of providing the Universal Service network. However, as Universal Service mail volumes continue to decline, under Ofcom s costing rules more costs are allocated to non-universal Service products. Calculation of the Financeability EBIT margin We have estimated the Financeability EBIT margin as follows: Pension charge to cash difference 2017-18 2016-17 UKPIL 458 222 Business 432 209 Financial sustainability EBIT 2017-18 2016-17 External revenue 7,121 7,182 Operating (loss)/profit after transformation costs (120) 122 Add back: Pension charge to cash difference 432 209 Operating profit after transformation costs on a cash basis Operating profit margin after transformation costs on a cash basis 312 331 4.4% 4.6% 5

Income statement for the Relevant Group For the 52 weeks ended 25 March 2018 and 52 weeks ended 26 March 2017 Continuing operations 52 weeks 2018 52 weeks 2017 Revenue 10,172 9,776 Operating costs 6 People costs (9,936) (9,286) (5,974) (5,576) Distribution and conveyance costs (2,356) (2,106) Infrastructure costs Other operating costs (899) (868) (707) (736) Operating profit before transformation costs 7 236 490 Transformation costs (113) (137) Operating profit after transformation costs 7 123 353 Operating specific items Employee Free Shares charge (33) (105) Legacy/other costs (8) (18) Amortisation of intangible assets in acquisitions (16) (11) Operating profit 66 219 Non-operating specific items Profit on disposal of property, plant and equipment 71 14 Loss on disposal of business - (2) Earnings before interest and tax 137 231 Finance costs (19) (18) Finance income 3 2 Net pension interest (non-operating specific item) 91 120 Profit before tax 212 335 Tax credit/(charge) 46 (62) Profit for the year 258 273 Profit for the year attributable to: Equity holders of the parent Company 259 272 Non-controlling interests (1) 1 Earnings per share: Basic 25.9p 27.5p Diluted 25.7p 27.3p This statement can also be found in the Royal Mail plc Annual Report and Financial Statements 2017-18. 6 Operating costs are stated before transformation costs, Employee Free Shares charge, Legacy/other costs and amortisation of intangible assets in acquisitions 7 These measures of performance are both before operating specific items 6

Balance sheet for the Relevant Group At 25 March 2018 and 26 March 2017 at 25 March 2018 at 26 March 2017 Non-current assets Property, plant and equipment 2,016 2,062 Goodwill 324 316 Intangible assets 608 567 Investments in associates and joint venture 5 7 Financial assets Pension escrow investments 198 20 Derivatives 5 4 Retirement benefit surplus net of IFRIC 14 adjustment 2,163 3,839 Other receivables 13 13 Deferred tax assets 72 15 5,404 6,843 Assets held for sale 50 37 Current assets Inventories 25 23 Trade and other receivables 1,160 1,117 Income tax receivable 3 7 Financial assets Derivatives 15 8 Cash and cash equivalents 600 299 1,803 1,454 Total assets 7,257 8,334 Current liabilities Trade and other payables Financial liabilities Interest-bearing loans and borrowings Obligations under finance leases Derivatives Income tax payable Provisions (1,927) (1,810) (1) (33) (59) (64) (3) (9) (33) (12) (59) (88) (2,082) (2,016) Non-current liabilities Financial liabilities Interest-bearing loans and borrowings (436) (430) Obligations under finance leases (110) (130) Derivatives (4) (2) Provisions (103) (108) Other payables (41) (47) Deferred tax liabilities (45) (603) (739) (1,320) Total liabilities (2,821) (3,336) Net assets 4,436 4,998 Equity Share capital 10 10 Retained earnings 4,381 4,940 Other reserves 45 47 Equity attributable to parent Company 4,436 4,997 Non-controlling interests - 1 Total equity 4,436 4,998 This statement can also be found in the Royal Mail plc Annual Report and Financial Statements 2017-18. 7

Statement of cash flows for the Relevant Group For the 52 weeks ended 25 March 2018 and 52 weeks ended 26 March 2017 52 weeks 2018 8 52 weeks 2017 Cash flow from operating activities Profit before tax 212 335 Adjustment for: Net pension interest (91) (120) Net finance costs 16 16 Profit on disposal of property, plant and equipment (71) (14) Loss on disposal of business - 2 Legacy/other costs 8 18 Amortisation of intangible assets in acquisitions 16 11 Employee Free Shares charge 33 105 Transformation costs 113 137 Operating profit before transformation costs 236 490 Adjustment for: Depreciation and amortisation 341 301 Share of post-tax loss from associates and joint venture - 2 EBITDA before transformation costs 577 793 Working capital movements 71 (9) Increase in inventories (2) (2) Increase in receivables (7) (40) Increase in payables 89 56 Net (increase)/decrease in derivative assets (9) 2 Decrease in provisions (non-specific items) - (25) Pension charge to cash difference adjustment 458 222 Share-based awards (SAYE, LTIP and DSBP) charge 6 11 Cash cost of transformation operating expenditure (125) (142) Cash cost of operating specific items (12) (61) Cash inflow from operations 975 814 Income tax paid (75) (60) Research and development expenditure credit 5 - Net cash inflow from operating activities 905 754 Cash flow from investing activities Finance income received 3 3 Proceeds from disposal of property (excluding London Development Portfolio), plant and equipment (non-operating specific item) 40 37 London Development Portfolio net proceeds/(costs) (non-operating specific item) 10 (34) Disposal of business (non-operating specific item) - (3) Purchase of property, plant and equipment (219) (230) Acquisition of business interests, net of cash acquired (16) (122) Purchase of intangible assets (software) (141) (157) Payment of deferred consideration in respect of prior years acquisitions (2) (4) Net cash outflow from investing activities (325) (510) Net cash inflow before financing activities 580 244 Cash flow from financing activities Finance costs paid (18) (17) Acquisition of non-controlling interests - (18) Purchase of own shares - (53) Employee exercise of SAYE options 28 - Payment of capital element of obligations under finance lease contracts (63) (74) Cash received on sale and leasebacks 35 41 Drawdown of loan facility - 31 Repayment of loans and borrowings (32) (7) Dividends paid to equity holders of the parent Company (231) (222) Dividend paid to non-controlling interests - (8) Net cash outflow from financing activities (281) (327) Net increase/(decrease) in cash and cash equivalents 299 (83) Effect of foreign currency exchange rates on cash and cash equivalents 2 14 Cash and cash equivalents at the beginning of the year 299 368 Cash and cash equivalents at the end of the year 600 299 This statement can also be found in the Royal Mail plc Annual Report and Financial Statements 2017-18.

Reconciliation of the Income statement for the Business to the Relevant Group Continuing operations Business 52 weeks ended 25 March 2018 52 weeks ended 26 March 2017 Other operations and adjustments UKPIL Other units, eliminations and recharges Relevant Group Business Other operations and adjustments UKPIL Other units, eliminations and recharges Revenue 7,121 494 7,615 2,557 10,172 7,182 476 7,658 2,118 9,776 Transfer charges 8 1 (1) - - - 1 (1) - - - Operating costs (7,136) (434) (7,570) (2,366) (9,936) (6,929) (403) (7,332) (1,954) (9,286) People costs (5,006) (360) (5,366) (608) (5,974) (4,753) (334) (5,087) (489) (5,576) Depreciation and amortisation (256) (33) (289) (52) (341) (222) (32) (254) (58) (312) Other operating costs (1,873) (42) (1,915) (1,706) (3,621) (1,953) (38) (1,991) (1,407) (3,398) Transfer charges 8 (1) 1 - - - (1) 1 - - - Operating (loss)/profit before transformation costs (14) 59 45 191 236 254 72 326 164 490 Transformation costs (106) (7) (113) - (113) (132) (5) (137) - (137) Operating (loss)/profit after transformation costs (120) 52 (68) 191 123 122 67 189 164 353 Operating profit margin after transformation costs (1.7)% 10.5% (0.9)% 7.5% 1.2% 1.7% 14.1% 2.5% 7.7% 3.6% Operating specific items charge (32) (11) (43) (14) (57) (111) (13) (124) (10) (134) Operating (loss)/profit (152) 41 (111) 177 66 11 54 65 154 219 Operating (loss)/profit margin (2.1)% 8.3% (1.5)% 6.9% 0.6% 0.2% 11.4% 0.8% 7.3% 2.2% Addressed volumes (million items) 12,487 12 12,499 584 13,083 13,139 (48) 13,091 508 13,599 Total volumes (million items all formats) 9 15,665 (57) 15,608 584 16,192 16,110 (85) 16,025 508 16,533 Relevant Group 8 The transfer charges to the Relevant Group for Parcelforce from the Business have been eliminated in the Other operations and adjustments column 9 The total volume of (57) million items (2016-17: (85) million items) in the Other operations and adjustments includes the elimination of volumes included in the Business to support the costing methodology, such as unofficial redirections and Royal Mail Signed For, offset by Parcelforce volumes of 98 million items (2016-17: 96 million items). The volume of 584 million items (2016-17: 508 million items) in the Other units, eliminations and recharges column relates to GLS 9

Income statement for the Business 52 weeks ended 25 March 2018 52 weeks ended 26 March 2017 Revenue 7,121 7,182 Transfer charges 10 1 1 Operating costs (7,136) (6,929) People costs (5,006) (4,753) Depreciation and amortisation (256) (222) Other operating costs (1,873) (1,953) Transfer charges (1) (1) Operating (loss)/profit before transformation costs (14) 254 Transformation costs (106) (132) Operating (loss)/profit after transformation costs (120) 122 Operating profit margin after transformation costs (1.7)% 1.7% Operating specific items (32) (111) Operating (loss)/profit (152) 11 Operating (loss)/profit margin (2.1)% 0.2% Addressed volumes (million items) 12,487 13,139 Total volumes (million items all formats) 15,665 16,110 Note on transformation costs and operating specific items 52 weeks ended 25 March 2018 52 weeks ended 26 March 2017 Transformation costs Business UKPIL Business UKPIL Voluntary redundancy (42) (44) (61) (62) Project costs (64) (69) (71) (75) Total (106) (113) (132) (137) Operating specific items Employee Free Shares charge (32) (33) (100) (105) Legacy/other (costs)/credit - (9) (11) (18) Amortisation of intangible assets in acquisitions - (1) - (1) Total (32) (43) (111) (124) 10 This statement includes transfer charges to the Relevant Group for Parcelforce of 1 million (2016-17: 1 million). The transfer charge relates to the mark up of 10 per cent on the vehicle costs charged to Parcelforce by the Business for the provision of network conveyance services and the provision of the fleet for dedicated use by Parcelforce 10

End to end income statement for the Business 52 weeks ended 25 March 2018 52 weeks ended 26 March 2017 USO Mail Other Total Business USO Mail Other Total Business Revenue 2,824 4,297 7,121 2,923 4,259 7,182 Transfer charges 11-207 207-189 189 Operating costs (2,566) (4,776) (7,342) (2,582) (4,535) (7,117) People costs (1,470) (3,536) (5,006) (1,445) (3,308) (4,753) Depreciation and amortisation (90) (166) (256) (82) (140) (222) Other operating costs (800) (1,073) (1,873) (867) (1,086) (1,953) Transfer charges 11 (206) (1) (207) (188) (1) (189) Operating profit/(loss) before transformation costs 258 (272) (14) 341 (87) 254 Transformation costs (32) (74) (106) (42) (90) (132) Operating profit/(loss) after transformation costs 226 (346) (120) 299 (177) 122 Operating profit/(loss) margin after transformation costs 8.0% (8.1)% (1.7)% 10.2% (4.2%) 1.7% Operating specific items (9) (23) (32) (31) (80) (111) Operating profit/(loss) 217 (369) (152) 268 (257) 11 Operating profit/(loss) margin 7.7% (8.6)% (2.1)% 9.2% (6.0%) 0.2% Addressed volumes (million items) 2,726 9,761 12,487 2,976 10,163 13,139 Total volumes (million items all formats) 2,726 12,939 15,665 2,976 13,134 16,110 11 This statement includes both transfer charges to the Relevant Group for Parcelforce of 1 million (2016-17: 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

Reconciliation of the capital employed statement for the Business to the Relevant Group As at 25 March 2018 Total Business Other Operations and adjustments UKPIL Other units, eliminations and recharges Relevant Group Non-current assets Property, plant and equipment 1,024 590 1,614 402 2,016 Goodwill - 17 17 307 324 Intangible assets 488 33 521 87 608 Investments in associates and joint venture - 5 5-5 Financial assets Pension escrow investments - 198 198-198 Derivatives - 5 5-5 Retirement benefit surplus net of IFRIC 14 adjustment 2,033 130 2,163-2,163 Other receivables 1 3 4 9 13 Deferred tax assets - 61 61 11 72 3,546 1,042 4,588 816 5,404 Assets held for sale - 50 50-50 Current assets Inventories 18 3 21 4 25 Trade and other receivables 2,576 (1,825) 751 409 1,160 Income tax receivable - - - 3 3 Financial assets Derivatives - 15 15-15 Cash and cash equivalents - 433 433 167 600 2,594 (1,374) 1,220 583 1,803 Total assets 6,140 (282) 5,858 1,399 7,257 Current liabilities Trade and other payables (1,597) 140 (1,457) (470) (1,927) Financial liabilities Interest-bearing loans and borrowings - - - (1) (1) Obligations under finance leases (58) (1) (59) - (59) Derivatives - (3) (3) - (3) Income tax payable - (22) (22) (11) (33) Provisions (32) (24) (56) (3) (59) (1,687) 90 (1,597) (485) (2,082) Capital employed (total assets less current liabilities) 4,453 (192) 4,261 914 5,175 Return on capital employed 12 (2.7)% Non-current liabilities Financial liabilities Interest-bearing loans and borrowings (436) Obligations under finance leases (110) Derivatives (4) Provisions (103) Not reported at this level Other payables (41) Deferred tax liabilities (45) (739) Total liabilities (2,821) Net assets 4,436 Total equity (4,436) 12 The return on capital employed shown above as defined by Ofcom excludes non-current liabilities. 12

Reconciliation of the capital employed statement for the Business to the Relevant Group As at 26 March 2017 Non-current assets Total Business Other operations and adjustments UKPIL Other units, eliminations and recharges Relevant Group Property, plant and equipment 1,072 624 1,696 366 2,062 Goodwill - 16 16 300 316 Intangible assets 444 31 475 92 567 Investments in associates - 7 7-7 Financial assets Pension escrow investments - 20 20-20 Derivatives - 4 4-4 Retirement benefit surplus net of IFRIC 14 adjustment 3,595 244 3,839-3,839 Other receivables - 5 5 8 13 Deferred tax assets - - - 15 15 5,111 951 6,062 781 6,843 Assets held for sale - 37 37-37 Current assets Inventories 17 2 19 4 23 Trade and other receivables 2,636 (1,888) 748 369 1,117 Income tax receivable - 7 7-7 Financial assets Derivatives - 8 8-8 Cash and cash equivalents 3 157 160 139 299 2,656 (1,714) 942 512 1,454 Total assets 7,767 (726) 7,041 1,293 8,334 Current liabilities Trade and other payables (1,556) 173 (1,383) (427) (1,810) Financial liabilities Interest bearing loans and borrowings - (32) (32) (1) (33) Obligations under finance leases (63) (1) (64) - (64) Derivatives - (9) (9) - (9) Income tax payable - - - (12) (12) Provisions (47) (29) (76) (12) (88) (1,666) 102 (1,564) (452) (2,016) Capital employed (total assets less current liabilities) 6,101 (624) 5,477 841 6,318 Return on capital employed 12 2.0% Non-current liabilities Financial liabilities Interest bearing loans and borrowings (430) Obligations under finance leases (130) Derivatives (2) Provisions (108) Not reported at this level Other payables (47) Deferred tax liabilities (603) Total liabilities (3,336) Net assets 4,998 Total equity 4,998 (1,320) 13

Reconciliation of the Statement of cash flows for the Business to the Relevant Group For the 52 weeks ended 25 March 2018 Cash flow from operating activities Business Other Operations and adjustments UKPIL Other units, eliminations and recharges Relevant Group Operating profit before transformation costs (14) 59 45 191 236 Adjustment for: Depreciation and amortisation 256 33 289 52 341 Share of post-tax loss from associates - - - - - EBITDA before transformation costs 242 92 334 243 577 Working capital movements 73 5 78 (7) 71 Increase in inventories (1) - (1) (1) (2) Increase in receivables 45 (28) 17 (24) (7) Increase in payables, provisions and derivatives 29 33 62 18 80 Pension charge to cash difference adjustment 432 26 458-458 Share-based awards (SAYE, LTIP and DSBP) charge 6-6 - 6 Cash cost of transformation operating expenditure (118) (7) (125) - (125) Cash cost of operating specific items (6) (6) (12) - (12) Cash inflow from operations 629 110 739 236 975 Income tax paid - (16) (16) (59) (75) Research and development expenditure credit - 5 5-5 Net cash inflow from operating activities 629 99 728 177 905 Cash flow from investing activities Finance income received - 3 3-3 Proceeds from disposal of property (excluding London Development Portfolio), plant and equipment (non-operating specific item) London Development Portfolio net proceeds/(costs) (non-operating specific item) 2 38 40-40 - 10 10-10 Purchase of property, plant and equipment (154) 6 (148) (71) (219) Acquisition of business interests, net of cash acquired - - - (16) (16) Purchase of intangible assets (software) (122) (6) (128) (13) (141) Payment of deferred consideration in respect of prior years acquisitions - (1) (1) (1) (2) Net cash outflow from investing activities (274) 50 (224) (101) (325) Net cash inflow before financing activities 355 149 504 76 580 Cash flow from financing activities Finance costs paid (2) (12) (14) (4) (18) Employee exercise of SAYE options 28-28 - 28 Payment of capital element of obligations under finance lease contracts (26) (37) (63) - (63) Cash received on sale and leasebacks - 35 35-35 Repayment of loans and borrowings - (32) (32) - (32) Dividends paid to equity holders of the parent company (153) (40) (193) (38) (231) Net cash outflow from financing activities (153) (86) (239) (42) (281) Net increase in cash and cash equivalents 202 63 265 34 299 14

Reconciliation of the Statement of cash flows for the Business to the Relevant Group 13 For the 52 weeks ended 26 March 2017 Cash flow from operating activities Business Other Operations and adjustments UKPIL Other units, eliminations and recharges Relevant Group Operating profit before transformation costs 254 72 326 164 490 Adjustment for: Depreciation and amortisation 222 31 253 48 301 Share of post-tax loss from associates - 1 1 1 2 EBITDA before transformation costs 476 104 580 213 793 Working capital movements (11) 1 (10) 1 (9) Decrease/(Increase) in inventories (3) - (3) 1 (2) Increase in receivables 8 5 13 (53) (40) Increase/(decrease) in payables, provisions and derivatives (16) (4) (20) 53 33 Pension charge to cash difference adjustment 209 13 222-222 Share-based awards (SAYE and LTIP) charge 11-11 - 11 Cash cost of transformation operating expenditure (138) (4) (142) - (142) Cash cost of operating specific items and internal financing (10) (7) (17) (44) (61) Cash inflow/(outflow) from operations 537 107 644 170 814 Income tax paid 13 (27) (14) (46) (60) Net cash inflow/(outflow) from operating activities 550 80 630 124 754 Cash flow from investing activities Finance income received - 2 2 1 3 Proceeds from disposal of property (excluding London Development Portfolio), plant and equipment (non-operating specific item) 2 30 32 5 37 London Development Portfolio costs (non-operating specific item) - (34) (34) - (34) Disposal of subsidiary (non-operating specific item) - (3) (3) - (3) Purchase of property, plant and equipment (160) (9) (169) (61) (230) Acquisition of business interests, net of cash acquired - (6) (6) (116) (122) Purchase of intangible assets (software) (153) (1) (154) (3) (157) Payment of deferred consideration in respect of prior years acquisitions - - - (4) (4) Net cash outflow from investing activities (311) (21) (332) (178) (510) Net cash inflow/(outflow) before financing activities 239 59 298 (54) 244 Cash flow from financing activities Finance costs paid (2) (12) (14) (3) (17) Acquisition of non-controlling interests - (18) (18) - (18) Purchase of own shares (53) - (53) - (53) Payment of capital element of obligations under finance lease contracts (32) (41) (73) (1) (74) Cash received on sale and leasebacks - 41 41-41 Drawdown of loan facility - 31 31-31 Repayment of loans and borrowings - - - (7) (7) Dividends paid to equity holders of the parent company (137) (36) (173) (49) (222) Dividends paid to non-controlling interests - (8) (8) - (8) Net cash outflow from financing activities (224) (43) (267) (60) (327) Net increase/(decrease) in cash and cash equivalents 15 16 31 (114) (83) 13 The 2016-17 cash flow reconciliation has been restated to reflect methodology changes notified to Ofcom for the allocation of cash outflows within the lines Cash cost of operating specific items and Dividends paid to equity holders of the parent company. These changes have been made to provide a more relevant split of cash flows between the reportable segments. 15

Supporting notes for the regulatory financial statements 1. Basis of preparation These RFS have been prepared in accordance with the USPAC and the RAG dated January 2014 as supplemented by the ABC Manual and the Accounting Methodology Manual for Regulatory Reporting (AMMRR), as provided to Ofcom in May 2018. The RFS are prepared by disaggregating balances recorded in the general ledgers and other accounting records of Royal Mail plc, maintained in accordance with the Companies Act 2006 and applicable International Financial Reporting Standards (IFRS) as adopted by the European Union, and used for the preparation of Royal Mail plc s statutory financial statements. These regulatory financial statements have been produced using our best endeavours to comply with the USPAC and RAG. To the best of our knowledge, our ABC Model uses the most appropriate available data to prepare these financial statements. 2. Property, plant and equipment Business as at 25 March 2018 Property Fixtures and equipment Plant and machinery Vehicles Business Gross book value 1,148 199 862 659 2,868 Accumulated depreciation (818) (129) (577) (320) (1,844) Net book value 330 70 285 339 1,024 Business as at 26 March 2017 Property Fixtures and equipment Plant and machinery Vehicles Business Gross book value 1,101 203 870 638 2,812 Accumulated depreciation (767) (113) (558) (302) (1,740) Net book value 334 90 312 336 1,072 3. Inventories Business As at 25 March 2018 As at 26 March 2017 Total 18 17 Supplies and materials (uniforms, fuel, printing and stationery, mailbags and engineering spares) 15 14 Merchandise 3 3 16

Supporting notes for the regulatory financial statements (continued) 4. Trade and other receivables Business As at 25 March 2018 As at 26 March 2017 Total 2,576 2,636 Trade receivables (net of bad debt provision of 20m (2016-17: 17m)) 491 537 Prepayments and accrued income 76 76 Intercompany balances 2,009 2,023 5. Trade and other payables Business As at 25 March 2018 As at 26 March 2017 Total (1,597) (1,556) Trade payables and accruals (760) (718) Advance customer payments (283) (289) Social security (68) (67) Intercompany balances (457) (436) Other (29) (46) 6. Financial liabilities (obligations under finance leases) Business As at 25 March 2018 As at 26 March 2017 Minimum payments Finance charges Present value of payments Minimum payments Finance charges Present value of payments Due within 1 year (62) 4 (58) (67) 4 (63) 17

Supporting notes for the regulatory financial statements (continued) 7. Current provisions Business As at 25 March 2018 As at 26 March 2017 Total (32) (47) Voluntary redundancy (1) (13) Other (31) (34) 18

Income statement for selected products 52 weeks ended 25 March 2018 52 weeks ended 26 March 2017 Network Network Access Relay PAF Access Relay PAF Revenue 1,546 32 32 1,547 32 31 Transfer charges - - - - - - Operating costs (1,615) (36) (27) (1,518) (34) (27) People costs (1,296) (25) (22) (1,211) (23) (22) Depreciation and amortisation (66) - - (56) - - Other operating costs (253) (11) (5) (250) (11) (5) Transfer charges - - - (1) - - Operating profit/(loss) before transformation costs (69) (4) 5 29 (2) 4 Transformation costs 14 (18) (1) (2) (25) (1) (1) Operating profit/(loss) after (87) (5) 3 4 (3) 3 transformation costs 15 Operating profit/(loss) margin after transformation costs (5.6)% (15.6)% 9.4% 0.3% (9.4%) 9.7% Addressed volumes (million items) 6,992 7,081 - - Total volumes (million items all formats) 6,992 7,081 - - 14 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

Statement of Directors responsibilities Royal Mail Group Limited is required under the Postal Services Act 2011 16, as detailed by Ofcom through the USP Accounting Conditions, to publish the RFS. The Directors of Royal Mail Group Limited confirm, to the best of their knowledge, that the RFS have been prepared, after agreeing formats with Ofcom, in accordance with the above requirement and that: 1. The statements have been prepared using accounting systems operating on the basis of objectively justifiable cost accounting principles that assign cost and revenue data to the products; 2. Costs and revenues have been directly attributed to products as far as practicable. Common operational costs that cannot be directly assigned are allocated to the products equitably using an ABC system. Overhead costs are allocated to products using a nested EPMU methodology 17. In line with ABC approaches, estimates are required and have been applied in order to comply with the requirements of the Accounting Conditions. The attribution methods, data sources and estimation methods are subject to ongoing review. Where appropriate, the Company will make improvements; 3. The RFS have been prepared adopting the following methodology: In accordance with the USPAC and RAG dated January 2014, as supplemented by the ABC Manual and the AMMRR, as provided to Ofcom 18 in May 2018; and Accounting Policies for the income statement are consistent with International Financial Reporting Standards for the year ended 25 March 2018, as adopted by the EU. In cases of conflict the methodology as documented in the AMMRR will prevail; and 4. The RFS are based on the financial records of the business and have been reconciled to the operating profit within the audited Royal Mail plc financial statements for the year ended 25 March 2018. Signed on behalf of the Board of Royal Mail Group Limited Mick Jeavons July 2018 16 Under USP accounting Universal Service Provider Condition section Acc 1.21 in pursuant of section 39 of the Postal Services Act 2011 17 As detailed in the Glossary and explanation of terms, page 24 18 Annex 11 Direction: Regulatory Accounting Guidelines (RAG) March 2012 and updated January 2014 20

Independent auditor s report to Royal Mail plc ( the Company ) and Ofcom ( the Regulator ) Opinion We have audited the Regulatory Financial Statements for the year ended 25 March 2018 of Royal Mail plc ( the Relevant Group ) and within that, the Business, as required by Ofcom. The Business is a subset of Royal Mail plc s core UK business, UK Parcels, International & Letters (UKPIL) including Network Access, but excluding Parcelforce Worldwide (Parcelforce) and the Royal Mail Property unit (Royal Mail Property & Facilities Solutions (RMPFS)) as defined on page 4. These statements comprise the Income statement for the Relevant Group, Balance Sheet for the Relevant Group, Statement of Cash flows for the Relevant Group, Reconciliation of the Income Statement for the Business to the Relevant Group, Income statement for the Business, End to end income statement for the Business, Reconciliation of capital employed statement for the Business to the Relevant Group, Reconciliation of the Statement of Cash flows for the Business to the Relevant Group and related notes as set out on pages 6 to 19 of the attached report (the Regulatory Financial Statements ). In our opinion, the Regulatory Financial Statements for the year ended 25 March 2018 have been properly prepared, in all material respects, in accordance with the Regulatory Accounting Guidelines issued by the Regulator and USP Accounting Condition ( USPAC ) 1.3.1 (a), (b), (c) and (f), USPAC 1.4.1 (a), (d), (e), (f), (g), (h) and (i) and USPAC 1.5.2 (d). Basis for opinion We conducted our audit in accordance with International Standards on Auditing (UK) ( ISAs (UK) ), including ISA (UK) 800, and the terms of our engagement letter dated 10 April 2017 except as stated in the section on Auditor s responsibilities for the audit of the Regulatory Financial Statements section of our report, and having regard to the guidance contained in ICAEW Technical Release Tech 02/16 AAF Reporting to Regulators on Regulatory Accounts issued by the Institute of Chartered Accountants in England & Wales. Our responsibilities under ISAs (UK) are further described in the Auditors responsibilities for the audit of the Regulatory Financial Statements section of our report. We have fulfilled our ethical responsibilities under, and are independent of the company in accordance with, UK ethical requirements under the FRC Ethical Standard. We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our opinion. Emphasis of matter special purpose basis of preparation We draw attention to the fact that the Regulatory Financial Statements have been prepared in accordance with the USPAC and the Regulatory Accounting Guidelines issued by the Regulator, 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). 21

- As regards the Guiding Principle d. (Objectivity), where assumptions have been used in applying financial and operational data, the manner in which these assumptions have been determined are defined within the Accounting Methodology Manual or the Activity Based Costing Manual for the relevant period (as provided to the Regulator). - As regards the Guiding Principle f. (Compliance with statutory accounting standards), the Regulatory Accounting Methodology is based on the accounting standards applied in Royal Mail plc s statutory financial statements other than where changes have been necessary to reflect the procedures and rules set out in the Regulatory Accounting Guidelines. The nature, form and content of Regulatory Financial Statements are determined by Ofcom. It is not appropriate for us to assess whether the nature of the information being reported upon is suitable or appropriate for the Regulator s purposes. Accordingly we make no such assessment. The Regulatory Financial Statements are separate from the statutory financial statements of the Company and have not been prepared under the basis of the presentation and disclosure requirements of International Financial Reporting Standards ( IFRS ) as adopted by the EU. 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 2006. As a result, the Regulatory Financial Statements may not be suitable for another purpose. Our opinion is not modified in this respect. Going concern We are required to report to you if we have concluded that the use of the going concern basis of accounting is inappropriate or there is an undisclosed material uncertainty that may cast significant doubt over the use of that basis for a period of at least twelve months from the date of approval of the non-statutory accounts. We have nothing to report in these respects. Other information The Directors are responsible for the other information, which comprises pages 3 to 5. Our opinion on the Regulatory Financial Statements does not cover the other information and, accordingly, we do not express an audit opinion or any form of assurance conclusion thereon. Our responsibility is to read the other information and, in doing so, consider whether, based on our Regulatory Financial Statements audit work, the information therein is materially misstated or inconsistent with the Regulatory Financial Statements or our audit knowledge. Based solely on that work, we have not identified material misstatements in the other information. Directors responsibilities for the Regulatory Financial Statements 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 2012, and the Regulatory Accounting Guidelines issued by the Regulator, as supplemented by the Activity Based Costing Manual and the Accounting Methodology Manual for Regulatory Reporting (as provided to the Regulator by Royal Mail). The Directors are responsibility for maintaining the Accounting Methodology Manual in accordance with the USPAC requirements. The Directors are also responsible for such internal control as they determine is necessary to enable the preparation of the Regulatory Financial Statements that are free from material misstatement, whether due to fraud or error. 22

In preparing the Regulatory Financial Statements, the Directors are responsible for assessing the Relevant Group s ability to continue as a going concern, disclosing as applicable, matters related to going concern and using the going concern basis of accounting unless the Directors either intend to liquidate the company or to cease operations, or have no realistic alternative but to do so. Auditor s responsibilities for the audit of the Regulatory Financial Statements Our objectives are to obtain reasonable assurance about whether the Regulatory Financial Statements are free from material misstatement, whether due to fraud or error, and to issue an auditors report that includes our opinion. Reasonable assurance is a high level of assurance, but is not a guarantee that an audit conducted in accordance with ISAs (UK) will always detect a material misstatement when it exists. Misstatements can arise from fraud or error and are considered material if, individually or in the aggregate, they could reasonably be expected to influence the economic decisions of users taken on the basis of this Regulatory Financial Statements. As part of an audit in accordance with ISAs (UK), we exercise professional judgment and maintain professional scepticism throughout the audit. We also: - Identify and assess the risks of material misstatement of the company s Regulatory Financial Statements, whether due to fraud or error, design and perform audit procedures responsive to those risks, and obtain audit evidence that is sufficient and appropriate to provide a basis for our opinion. The risk of not detecting a material misstatement resulting from fraud is higher than for one resulting from error, as fraud may involve collusion, forgery, intentional omissions, misrepresentations, or the override of internal control. - Obtain an understanding of internal control relevant to the audit in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the company s internal control. - Conclude on the appropriateness of the Directors use of the going concern basis of accounting and, based on the audit evidence obtained, whether a material uncertainty exists related to events or conditions that may cast significant doubt on the company s ability to continue as a going concern. If we conclude that a material uncertainty exists, we are required to draw attention in our report to the related disclosures in the financial statements or, if such disclosures are inadequate, to modify our opinion. Our conclusions are based on the audit evidence obtained up to the date of our report. However, future events or conditions may cause the company to cease to continue as a going concern. - Communicate with those charged with governance regarding, among other matters, the planned scope and timing of the audit and significant audit findings, including any significant deficiencies in internal control that we identify during the audit. - Assess the reasonableness of significant accounting estimates and related disclosures made by the Directors. We have not assessed whether the accounting policies are appropriate to the circumstances of the Company where these are laid down by Regulatory Accounting Guidelines as set out by the Regulator. Where Regulatory Accounting Guidelines does 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. 23

Report on other regulatory matters In forming our opinion on the Regulatory Financial Statements, having reviewed the relevant Financial Statements and Regulatory Accounting Guidelines, nothing has come to our attention that would lead us to conclude that the principles as defined in USPAC 1.7.2 and procedures and rules contained in the Regulatory Accounting Guidelines have not been properly applied. 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 1.6.2 seven days prior to the change being made as required by USPAC 1.6.4. We report our opinion as to whether, in all material respects, the Company has complied with the processes set out in USPAC 1.6.3 such that all changes it has made to its Costing Manual have either been reported to the Regulator in accordance with USPAC 1.6.3 or were not Material Changes as defined by Regulatory Accounting Guidelines. 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. The purpose of our audit work and to whom we owe our responsibilities 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. Our opinion on the Regulatory Financial Statements is separate from our opinion on the statutory financial statements of the Company for the year ended 25 March 2018 on which we reported on 16 May 2018, 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 2006. 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 15 Canada Square Canary Wharf London E14 5GL July 2018 24

Glossary and explanation of terms Million pounds sterling. 2017-18 52 weeks ended 25 March 2018. 2016-17 52 weeks ended 26 March 2017. Activity Based Costing (ABC) Activity Based Costing is a widely used and accepted method of costing products, services, customers and sales channels, based upon the cost of the activities required to produce these outputs. The method identifies the resource consumed by activities and assigns a cost to the resource utilised by each activity. These are aggregated to derive activity costs. Activity costs are then assigned to outputs, based upon defined cost drivers. These cost drivers provide a measure of the intensity or frequency of an activity demanded by a product or service and reflect a cause and effect relationship. AMMRR The Accounting Methodology Manual for Regulatory Reporting. Downstream Access services (Network Access) Customer and other licensed postal operators mail, which enters the Royal Mail pipeline after collection, outward sortation and distribution processes, for subsequent delivery. Earnings before interest and tax (EBIT) Earnings before the deduction of interest payments and income taxes. Financeability EBIT margin The cash pension rate adjusted EBIT margin after transformation costs. Nested EPMU Methodology Royal Mail uses a nested approach to allocate overheads. Nesting is a method whereby overheads are split in two stages. In the first stage overheads are allocated based upon only the calculated attributable cost base. In the second stage overheads are calculated on the attributable cost base plus the first stage of overhead costs. Office of Communications (Ofcom) The body responsible for regulating postal services in the UK. Pension charge to cash difference This adjustment represents the difference between the IFRS income statement pension charge rate of 41.1 per cent and the actual cash payments into the Royal Mail Pension Plan at 17.1 per cent. 25