Financial review

Overview

Full year revenue of £2,499.7m (at constant exchange rates) declined by 1.2% on 2009 (a decline of 1.4% at actual exchange rates). Revenue performance showed an improving trend during the year but was held back principally by Textiles & Hygiene in the Benelux and City Link, both of which suffered from a combination of difficult market conditions and issues arising from weak management. Facilities Services recorded revenue growth largely due to the contributions from Knightsbridge Guarding (acquired in June) and a new Transport for London cleaning contract. Pest Control revenue was broadly flat year on year, held back by a decline in the UK Hygiene business, but nevertheless reported good levels of growth in its UK, North American, Northern European and East Africa & Caribbean Pest Control businesses. While Ambius revenue declined 3.6% this represents a significant improvement on 2009’s decline of 10.5% and reflects an easing of market conditions and improving retention. The division moved into positive revenue growth in Q4 2010, the first time since Q4 2008. Asia Pacific revenue declined by 4.9%, impacted by the exit in 2009 of the low-margin Hong Kong Government contract. However, underlying revenue growth was broadly flat year on year, with Asia growing by 1.4% and the Pacific declining by 1.1%.

Contract portfolio, which accounts for 74.3% of revenue, grew by 1.8% year on year of which 1.0% is due to the net effect of acquisitions and disposals and the remainder to significantly improved customer retention rates.

Adjusted operating profit (before amortisation and impairment of intangible assets and one-off items) amounted to £239.2m, an increase of 8.3% on the prior year. Adjusted profit before tax (before amortisation and impairment of intangible assets and one-off items) grew by 15.1% to £191.7m at constant exchange rates and adjusted earnings per share (at AER) grew by 18.2% to 7.81p. Strong divisional profit performances were recorded in Pest Control, Facilities Services and Asia Pacific. The after tax loss for the year was £20.3m, primarily due to the recognition of a £95m impairment of goodwill in City Link.

One-off items including reorganisation costs

Net one-off costs in the year amounted to £25.9m at constant exchange rates, £25.1m at actual exchange rates (2009: £40.2m at constant and actual exchange rates). £28.0m (at constant exchange rates, £27.9m at actual exchange rates) of these relate directly to the group’s major reorganisation programme and consists mainly of redundancy costs, consultancy and plant and office closure costs net of the profit on sale of certain properties. One-off items also include the profit or loss on the disposal of businesses, which totalled £3.7m (at constant exchange rates, £3.0m at actual exchange rates) in 2010. In 2010, a credit of £35.0m (at constant and actual exchange rates) in respect of a change in pension liabilities as a result of using CPI rather than RPI for calculating certain future pensions increases and a £29.2m (at constant and actual exchange rates) charge in respect of a claim under a lease guarantee given by a subsidiary following the disposal of a business some 20 years ago are also included in one-off items. These costs have been separately identified as they are not considered to be “business as usual” expenses and have a varying impact on different businesses and reporting periods.

Net debt and cash flow

Operating cash flow continues to be strong with a full year conversion rate of 114.0% after adjusting for one-off cash flows of £52.8m. Despite this strong performance, operating cash flow was £96.6m lower than 2009 due to lower inflows from working capital, slightly higher capex partly offset by higher EBITDA.

Inflows from working capital were £124.5m lower than last year due to lower debtor inflows (2009 benefiting from unusually high debtors at the end of 2008) and the spend against restructuring provisions made in 2009. EBITDA was £33.4m higher than last year due mainly to improved trading performance. Net capital expenditure was £5.5m higher than 2009.

Tax and interest payments (including finance lease interest) were £0.1m lower than last year with 2009 benefiting from tax repayments not repeated in 2010. Lower interest payments reflected lower debt, interest rates and the timing of payments under various facilities. Free cash flow was therefore £95.7m lower than last year at £141.2m inflow.

Acquisition and disposal cash flows (acquisition of Knightsbridge Guarding, acquisition of the dental reclamation business in Sweden and the disposal of the Textiles business in Spain) amounted to a £7.9m outflow. Foreign exchange translation and other items reduced net debt by £21.2m, leaving net debt at £953.6m at 31 December 2010.

Goodwill impairment

In accordance with the group’s accounting policy, goodwill is tested for impairment annually using cash flow projections based on financial budgets and long-range plans. During the year an impairment charge of £97.8m has been recognised and charged in the income statement – £95.0m relates to City Link and £2.8m relates to a small number of businesses in Asia Pacific.

Funding

We have delivered another year of strong cash performance in 2010, generating £220.1m (2009: £316.7m) representing 114% conversion from profit (after adjusting for one-off cash flows of £52.8m).

At 31 December 2010 the group had net debt of £954m. Of this, £868m is represented by capital market notes issued by the group and the earliest maturity of any of these instruments is 2013. The group has good headroom in its bank facilities in terms of funds available to withdraw and has good and improving headroom in relation to its covenant.

The company has commenced discussions with the pension trustees in relation to the triennial valuation of the UK Pension Scheme as at 31 March 2010 and any funding implications arising from this.

Dividend

The board continues to keep dividends under review and is committed to their resumption when i) the company’s cash flow is robust and ii) when the foundations of sustainable and profitable growth have been established in all of the company’s principal businesses. Only one of these criteria has been met in the financial year to 31 December 2010.

Interest

Net interest payable of £51.1m for the year was £6.5m lower than in 2009. Favourable interest rates and lower net debt reduced the year on year charge by £5.8m and mark to market moves by a further £7.1m. These benefits were offset by lower net pension interest receivable of £5.8m and other smaller items amounting to £0.6m.

Tax

The income tax expense for the year was £34.8m on the reported profit before tax of £14.5m. The reason for the high tax charge on the reported profit was that there is no tax relief on the goodwill impairment of £97.8m or the provision of £29.2m in respect of a lease guarantee claim reported within one-off items. Adjusting for these two items the effective tax rate is 24.6% of profit before tax. This compares with a blended rate of tax for the countries in which the group operates of 29%. The principal factor that caused the lower effective tax rate (after adjusting for the two items mentioned above) is the release of prior year provisions for tax no longer considered necessary as various issues were either settled or became statute barred in the year. The blended tax rate for 2011 is also expected to be 29%.

IFRS 8

Segmental information has been presented in accordance with IFRS 8 “Operating Segments” which the group has implemented with effect from 1 January 2009. This statement reflects internal organisation changes made on 1 January 2010 resulting in UK Hygiene and Ireland Healthcare businesses moving from Facilities Services to Textiles & Hygiene and also the changes made on 1 July 2010 resulted in these same businesses moving from Textiles & Hygiene to the Pest Control division and the transfer of the UK Shared Service Centre from Facilities Services to Central costs on 1 November 2010. Prior year comparisons have been restated.

Financial risk management policies

Financial risk management policies are shown in the Business Review.

Acquisitions

The group acquired businesses in the year for a net consideration of £19.6m. Details of businesses acquired and revenue and operating profit therefrom are set out in note 30 to the accounts.

Pensions

The group’s total IAS 19 net deficit was £11.9m at the end of 2010 compared with £64.3m at December 2009. The group has a number of small defined benefit schemes outside the UK but the principal scheme (“the Scheme”) is in the UK.

The Scheme had a net surplus of £5.0m at December 2010 compared with a net deficit of £47.9m a year earlier. This positive movement of £52.9m was due primarily to an increase in the fair value of assets and a £35.0m credit to pension liabilities as a result of using CPI rather than RPI for calculating certain pension increases.

The net surplus comprises the aggregate of the value of the Scheme assets and liabilities:

• the Scheme assets increased by £69.6m to £1,048.4m driven primarily by an increase in the value of our interest rate swap portfolio. The Scheme comprises approximately 20% equities and 80% bonds and other financial instruments; and
• the Scheme liabilities increased by £16.7m to £1,043.4m driven by:
  • a reduction in yield on AA corporate bonds – the yield determines the discount factor used to calculate the net present value of the future scheme liabilities (the lower the yield, the greater the liabilities).
  • this was partially compensated for by the use of CPI (3.0%) rather than RPI (3.7%) as longer-term outlook for inflation – this drives our view on future pension increases.

Asset allocation is determined by the pension trustees in conjunction with the company.

The company has commenced discussions with the pension trustees in relation to the triennial valuation of the Scheme as at March 2010 and any funding implications arising from this.

Further details are shown in note 24.

Accounting standards

The financial statements included in this annual report have been prepared and presented under IFRS as adopted by the EU. The group’s accounting policies are set out under Accounting policies.