directors report and accounts 2006 - Notes 6-9
Annual Report
and Accounts 2006
6 Taxation on ordinary activities
a) Summary of tax on ordinary activities
| 2006 £m | 2005 £m | |
|---|---|---|
| UK Corporation Tax | 14 | 42 |
| comprising | ||
| - current year tax expense | 768 | 591 |
| - double taxation relief | (754) | (549) |
| Overseas tax | 681 | 693 |
| comprising | ||
| - current year tax expense | 743 | 705 |
| - adjustments in respect of prior periods | (62) | (12) |
| Total current tax | 695 | 735 |
| Deferred tax | 21 | (45) |
| comprising | ||
| - deferred tax relating to origination and reversal of temporary differences | 16 | (2) |
| - deferred tax relating to a previously unrecognised tax loss | (14) | (42) |
| - deferred tax relating to changes in tax rates | 19 | (1) |
| 716 | 690 |
b) Factors affecting the tax charge
The taxation charge differs from the standard 30 per cent rate of corporation tax in the UK. The major causes of this difference are listed below:
| 2006 | 2005 | |||
|---|---|---|---|---|
| £m | % | restated £m | % | |
| Profit before tax | 2,764 | 2,584 | ||
| Less: share of associates post-tax profit | (431) | (392) | ||
| 2,333 | 2,192 | |||
| Tax at 30% (2005: 30%) on the above | 700 | 30.0 | 658 | 30.0 |
| Factors affecting the tax rate: | ||||
| Tax at standard rates other than UK corporation tax rate | (56) | (2.4) | (45) | (2.1) |
| National tax rate relief | (15) | (0.6) | (24) | (1.1) |
| State and local taxes | 50 | 2.1 | 58 | 2.6 |
| Permanent differences | 9 | 0.5 | (30) | (1.4) |
| Overseas withholding taxes | 50 | 2.1 | 50 | 2.3 |
| Double taxation relief on UK profits | (13) | (0.6) | (9) | (0.4) |
| Unutilised tax losses | 13 | 0.6 | 13 | 0.6 |
| Adjustments in respect of previous periods | (62) | (2.7) | (12) | (0.5) |
| Deferred tax charges at other tax rates | 21 | 0.9 | 32 | 1.5 |
| Deferred tax attributable to an increase in the rate of domestic income tax | 19 | 0.8 | (1) | (0.0) |
| 716 | 30.7 | 690 | 31.5 | |
c) Tax on items recognised directly in equity
| 2006 £m | 2005 £m | |
|---|---|---|
| Current tax | 14 | 19 |
| Deferred tax | (2) | 22 |
| Charged to equity | 12 | 41 |
7 Earnings per share
Basic earnings per share are based on equity earnings of £1,896 million (2005 restated: £1,767 million, as explained in note 4) and 2,059 million (2005: 2,095 million) ordinary shares of 25p each, being the weighted average number of shares in issue during the year (excluding shares held to satisfy the Group's employee share schemes).
For the calculation of diluted earnings per share, the weighted average number of shares in issue is increased to 2,076 million (2005: 2,112 million) to reflect the potential dilutive effect of employee share schemes.
| 2006 | 2005 restated | |||||
|---|---|---|---|---|---|---|
| Earnings £m | Weighted average number of shares m | Earnings per share pence | Earnings £m | Weighted average number of shares m | Earnings per share pence | |
| Basic earnings per share | 1,896 | 2,059 | 92.08 | 1,767 | 2,095 | 84.34 |
| Share options and convertible redeemable preference shares | 17 | (0.75) | 17 | (0.68) | ||
| Diluted earnings per share | 1,896 | 2,076 | 91.33 | 1,767 | 2,112 | 83.66 |
Earnings have been affected by a number of exceptional items. To illustrate the impact of these, an alternative earnings per share is shown below:
Alternative earnings per share calculation
| Diluted | Basic | |||||||
|---|---|---|---|---|---|---|---|---|
| 2006 | 2005 restated | 2006 | 2005 restated | |||||
| Earnings £m | Earnings per share pence | Earnings £m | Earnings per share pence | Earnings £m | Earnings per share pence | Earnings £m | Earnings per share pence | |
| Unadjusted earnings per share | 1,896 | 91.33 | 1,767 | 83.66 | 1,896 | 92.08 | 1,767 | 84.34 |
| Restructuring costs per income statement | 216 | 10.40 | 271 | 12.83 | 216 | 10.49 | 271 | 12.93 |
| Tax and minority interests on | ||||||||
| restructuring costs | (48) | (2.31) | (57) | (2.70) | (48) | (2.33) | (57) | (2.72) |
| Losses / (gains) on disposal of a business, brands and joint venture per income statement | (41) | (1.98) | (72) | (3.41) | (41) | (1.99) | (72) | (3.44) |
| Tax on losses / (gains) on disposal of a business, brands and joint venture | 18 | 0.87 | 18 | 0.87 | ||||
| Associates: restructuring costs, US Federal tobacco buy-out, brand impairments, exceptional tax credits and other impairments per income statement | (4) | (0.19) | (3) | (0.14) | (4) | (0.19) | (3) | (0.14) |
| Net finance costs adjustment per note below | (19) | (0.90) | (19) | (0.91) | ||||
| Adjusted earnings per share | 2,037 | 98.12 | 1,887 | 89.34 | 2,037 | 98.93 | 1,887 | 90.06 |
IFRS requires fair value changes for derivatives, which do not meet the tests for hedge accounting under IAS39, to be included in the income statement. In addition, certain exchange differences are required to be in the income statement under IFRS and, as they are subject to exchange rate movements in the period, they can be a volatile element of net finance costs, and one which does not always reflect an economic gain or loss for the Group. Consequently, in calculating the adjusted earnings per share, the following items are excluded :
- £nil million (2005: £8 million gain) relating to derivatives for which hedge accounting was obtained during 2005; and
- £nil million (2005: £11 million gain) relating to exchange gains in net finance costs where there is a compensating exchange loss reflected in differences in exchange taken directly to changes in total equity.
8 Dividends and other appropriations
| 2006 | 2005 | |||
|---|---|---|---|---|
| Pence per share | £m | Pence per share | £m | |
| Ordinary shares | ||||
| Interim | ||||
| 2006 paid 13 September 2006 | 15.70 | 323 | ||
| 2005 paid 14 September 2005 | 14.00 | 293 | ||
| Final | ||||
| 2005 paid 4 May 2006 | 33.00 | 685 | ||
| 2004 paid 4 May 2005 | 29.20 | 617 | ||
| 48.70 | 1,008 | 43.20 | 910 | |
The Directors have recommended to shareholders a final dividend of 40.20 pence per share for the year ended 31 December 2006. If approved, this dividend will be paid to shareholders on 3 May 2007. This dividend is subject to approval by shareholders at the Annual General Meeting and therefore, in accordance with IAS10, it has not been included as a liability in these Financial Statements. The total estimated dividend to be paid is £821 million which takes the total dividends declared in respect of 2006 to £1,144 million (2005: £977 million) representing 55.90 pence per share (2005: 47.00 pence per share).
As described in note 3, while the 2006 interim dividend did not comply with the technical requirements of the Companies Act 1985, the payment has been presented as a dividend payment above.
9 Intangible assets
| Goodwill £m | Computer software £m | Trademarks brands and licences £m | Assets in the course of development £m | Total £m | |||
|---|---|---|---|---|---|---|---|
| 1 January 2006 | |||||||
| Cost | 7,887 | 228 | 16 | 31 | 8,162 | ||
| Accumulated amortisation and impairment | (162) | (13) | (175) | ||||
| Net book value at 1 January 2006 | 7,887 | 66 | 3 | 31 | 7,987 | ||
| Differences on exchange | (617) | (4) | (1) | (622) | |||
| Additions | |||||||
| - internal development | 9 | 12 | 21 | ||||
| - acquisitions of subsidiaries and minority interests | 80 | 5 | 85 | ||||
| - separately acquired | 23 | 2 | 14 | 39 | |||
| Reallocations | 17 | (17) | |||||
| Amortisation charge | (33) | (1) | (34) | ||||
| 31 December 2006 | |||||||
| Cost | 7,350 | 258 | 23 | 39 | 7,670 | ||
| Accumulated amortisation and impairment | (180) | (14) | (194) | ||||
| Net book value at 31 December 2006 | 7,350 | 78 | 9 | 39 | 7,476 | ||
| 1 January 2005 | |||||||
| Cost | 7,607 | 210 | 14 | 17 | 7,848 | ||
| Accumulated amortisation and impairment | (136) | (12) | (148) | ||||
| Net book value at 1 January 2005 | 7,607 | 74 | 2 | 17 | 7,700 | ||
| Differences on exchange | 271 | 8 | (1) | 278 | |||
| Additions | |||||||
| - internal development | 6 | 21 | 27 | ||||
| - acquisitions of subsidiaries | 9 | 9 | |||||
| - separately acquired | 11 | 2 | 1 | 14 | |||
| Reallocations | 7 | (7) | |||||
| Disposals | (5) | (5) | |||||
| Amortisation charge | (35) | (1) | (36) | ||||
| 31 December 2005 | |||||||
| Cost | 7,887 | 228 | 16 | 31 | 8,162 | ||
| Accumulated amortisation and impairment | (162) | (13) | (175) | ||||
| Net book value at 31 December 2005 | 7,887 | 66 | 3 | 31 | 7,987 |
Included in computer software and assets in the course of development above are internally developed assets with a carrying value of £80 million (2005: £64 million). The costs of internally developed assets include capitalised expenses of third party consultants as well as software licence fees from third party suppliers.
Impairment testing for intangible assets with indefinite lives including goodwill
Goodwill of £7,350 million (2005: £7,887 million) included in intangible assets in the balance sheet is mainly the result of the following acquisitions: Rothmans Group £3,889 million (2005: £4,206 million); Imperial Tobacco Canada £1,768 million (2005: £2,004 million); and ETI (Italy) £1,113 million (2005: £1,135 million). The principal allocations of goodwill in the Rothmans' acquisition are to the cash-generating units of Continental Europe and South Africa, with the remainder mainly relating to operations in the domestic and export market in the United Kingdom and operations in Asia-Pacific.
Goodwill has been allocated for impairment testing purposes to 13 (2005: 12) individual cash-generating units - four in Europe, one in Africa and Middle East, three in Asia-Pacific, three (2005: two) in Latin America and two in America-Pacific. The carrying amounts of goodwill allocated to the cash-generating units of South Africa (£803 million, 2005: £1,017 million), Continental Europe (£1,020 million, 2005: £1,040 million), Canada (£1,768 million, 2005: £2,004 million) and Italy (£1,119 million, 2005: £1,141 million) are considered significant in comparison with the total carrying amount of goodwill. A further cash-generating unit was established in 2006 with the purchase of minority interests in Chile (note 26).
The recoverable amount of all cash-generating units has been determined on a value-in-use basis. The key assumptions for the recoverable amount of all units are the long term growth rate and the discount rate. The long term growth rate is a nominal rate used purely for the impairment testing of goodwill under IAS36 Impairment of Assets and does not reflect long term planning assumptions used by the Group for investment proposals or for any other assessments. The discount rate is based on the weighted average cost of capital, taking into account the cost of capital and borrowings, to which specific market-related premium adjustments are made. These assumptions have been applied to the individual cash flows of each unit as compiled by local management in the different markets.
The valuation uses cash flow projections based on detailed financial budgets approved by management covering a two year period, with cash flow beyond two years extrapolated by a nominal growth rate of 3 per cent per annum for the years three to 10, whereafter a zero per cent growth rate has been assumed (2005: 3 per cent growth rate in perpetuity). This long term growth rate used does not exceed the expected long term average growth rate for the markets in which the cash-generating units operate. In some instances, such as recent acquisitions or start-up ventures, the valuation is expanded to reflect the medium term plan of management, spanning five years or beyond, with the cash flow beyond these years to year 10, extrapolated by the growth rate of 3 per cent, as above.
Pre-tax discount rates of between 8.1 per cent and 17.9 per cent (2005: 8.1 per cent to 15.7 per cent) were used, based on the Group's weighted average cost of capital, together with any premium applicable for country/area inflation and economical and political risks. The pre-tax discount rates used for the cash-generating units which are significant in comparison with the total carrying amount of goodwill are 12.1 per cent for South Africa (2005: 12.1 per cent), 9.8 per cent for Continental Europe (2005: 9.8 per cent), 10 per cent for Canada (2005: 11 per cent) and 10.7 per cent for Italy (2005: 10.7 per cent).
No impairment charges were recognised in 2006 (2005: £nil). If discounted cash flows per cash-generating unit should fall by 10 per cent, or the discount rate was increased at an after tax rate of 1 per cent, there would be no impairment.