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Financial review:part 2

CASH FLOW

£million 2010 2009
Operating profit2 from continuing operations 104.4 92.3
Exceptional items, tax on joint venture and amortisation of acquisition intangibles 1.2 (7.9)
Operating loss from discontinued operations (27.6) (4.7)
Operating profit from continuing and discontinued operations 78.1 79.7
Depreciation, amortisation and other non-cash items 15.7 23.3
Increase in working capital (20.9) (10.8)
Cash generated by continuing and discontinued operations 72.8 92.2
Net interest (3.4) (4.4)
Taxation (21.5) (21.0)
Capital expenditure (25.5) (16.9)
Acquisitions/disposals (25.8) (23.4)
Equity dividends paid (23.2) (20.4)
Equity dividends received 3.3 —
Issue of shares 4.1 3.0
Net movement in cash and bank borrowings (19.2) 9.1
Impact of foreign exchange 0.3 —
Net (debt)/cash (52.9) (34.0)

DIVIDEND

The proposed payment of a final dividend of 8.5p per share together with the payment of the first and second interim dividend payments of 11.5p and 24.0p per share respectively brings the total dividend for the year to 44.0p (2009: 35.5p), a year on year increase of 24% (2009: 14%). The final dividend is to be paid on 4 August 2010 to shareholders on the register on 2 July 2010.

DISCONTINUED OPERATIONS

The loss from our discontinued operations of £42.0m reflects the decision to exit our UK Emergency Services business.

EXCEPTIONAL ITEMS

During the period, we benefited from a one off exceptional revenue gain of £10.2m (2009: exceptional cost of £2.3m relating to the reorganisation of our UK businesses) in respect of previous years’ Insurance Premium Tax following a successful appeal to the High Court.

KEY PERFORMANCE INDICATORS

In order to assist in the management of the business and to provide evidence of achieving its strategic priorities, the Board regularly reviews a number of Key Performance Indicators (’KPIs‘) including customer and policy numbers which are set out opposite for our membership businesses.

CHANGING THE WAY WE MEASURE AND REPORT OUR KPI’s

Core Renewable Customers (’CRCs‘), are those customers that we have recruited under an affinity partner brand (such as a utility or manufacturer) or our own brand and where we have a direct ongoing relationship with the customer including the right to renew. Revenue Customers are those customers where we receive income for providing a policy or service but where we do not have a direct ongoing customer relationship or renewal rights.

In the future, our KPI s will be reported on a Core Renewable basis only as we believe this represents a more accurate picture of our customer numbers and associated KPI s (policies, policies per customer, retention etc). This change in approach only impacts our UK Membership business as all of our international businesses already report KPI s on a Core Renewable basis.

UK KPI’s

              Old basis including Revenue Core Renewable Basis
2010 2009 Change 2010 2009 Change
UK Membership
Affinity Partner Households5 ( m) 23.4 23.4 — 23.4 23.4 —
Total Policies (‘000) 7,552 7,054 7.0% 7,097 6,645 6.8%
Customers (‘000) 3,255 3,159 3.0% 2,876 2,807 2.4%
Retention rate (%) 82.5 83.0 -0.5ppts 83.0 83.2 -0.2ppts
Policies per customer 2.32 2.23 2.47 2.37
Income per customer (£) 74 65 13.7% 82 72 14.6%
Gross new policies (‘000) 1,834 1,826 0.5% 1,581 1,619 -2.4%

INTERNATIONAL KPI’s

With the exception of affinity partner households which for the US shows the position as at 25 May 2010, the policy, customer and market performance metrics of our membership businesses as at 31 March 2010 were as shown below.

2010 2009 Change
France
Affinity Partner Households5 (excl apartments) (m) 14.3 13.5 6.2%
Total Policies (‘000) 1,928 1,567 23.1%
Customers (‘000) 769 683 12.6%
Retention rate (%) 88.3 87.9 0.4ppts
Policies per customer 2.51 2.29
Gross new policies (‘000) 532 526 1.1%
 
Spain
Affinity Partner Households5 ( m) 10.0 9.2 8.7%
Total Policies (‘000) 94 48 97.6%
Customers (‘000) 79 47 67.0%
Policies per customer 1.19 1.01
Gross new policies (‘000) 53 47 13.1%
 
USA
Affinity Partner Households5 ( m) 20.36 9.4 117%
Total Policies (‘000) 756 549 37.6%
Customers (‘000) 580 442 31.2%
Retention rate (%) 82.6 80.0 2.6ppts
Policies per customer 1.30 1.24
Gross new policies (‘000) 290 246 17.6%


FOREIGN EXCHANGE IMPACT

The financial performance reported for our international businesses and comparison with last year is impacted by foreign exchange movements on translation. The reported revenue growth in Europe and the US of 36% and 43% respectively, equates to 31% and 41% in local currency. The total reported operating profit2 of £8.7m in our international membership divisions was reduced by £0.4m as a result of adverse foreign currency movements, reflecting the seasonality of the business and weighting of profits towards the second half.

ACQUISITIONS

HomeServe continues to add to its organic growth through the completion of carefully selected acquisitions. Acquisition expenditure during the year totalled £25.5m, including the purchase of SFG (£15.6m), acquisitions within our UK Plumbing and Drainage business (£7.0m), and Reactfast (£2.0m), with a further £0.9m of deferred consideration paid in relation to acquisitions completed in prior years. After the year end, we announced the acquisition of National Grid Energy Services’ contract business for net consideration of $14m. This transaction is expected to complete by the end of August 2010.

RISKS AND UNCERTAINTIES

There are a number of potential risks and uncertainties that could have an impact on the Group’s performance as detailed below.

FINANCIAL RISK

As part of its ordinary activities, HomeServe is exposed to a number of financial risks, principally liquidity risk and credit risk. The Group has policies and procedures on how these risks will be monitored and managed.

Liquidity risk relates to the Group’s ability to meet the cash flow requirements of the operations, while avoiding excessive levels of debt.

The Group’s borrowings are principally in the form of short and medium-term revolving credit facilities, which can be drawn down on demand, providing flexible access to debt when required. The total amount available under the facility is £150m and the renewal date is December 2012. The amount of any committed undrawn facilities is closely monitored by the Board on a regular basis.

The business is not currently exposed to significant foreign currency risk in relation to overseas transactions. However, as the overseas businesses grow, its exposure to risks relating to the translation of overseas profits increases. These risks are kept under constant review and policies exist to mitigate them should they increase in significance.

Credit risk principally relates to trade receivables from customers. Detailed policies and procedures for the assessment of all customers are in place including reviewing credit history and setting appropriate credit limits before trading commences. The majority of our trade receivable balances within our continuing operations relate to our membership customers who pay for their policies on a monthly or quarterly basis through continuous payment methods, such as direct debit.

INTEREST RATE RISK

The Group’s exposure to the risks of changes in market interest rates relates primarily to the Group’s long-term debt requirements with floating interest rates. The Group’s policy is to manage its interest cost using a mix of fixed and variable rate debts. To manage this, the Group enters into interest rate swaps for certain periods, in which the Group agrees to exchange, at specified intervals, the difference between fixed and variable rate interest amounts calculated by reference to an agreed upon notional principal amount. These swaps are designated to hedge underlying debt obligations.

COMMERCIAL RELATIONSHIPS

Underpinning the success in each of our chosen markets are close commercial relationships with a number of utility companies, household insurers, household appliance manufacturers and furniture retailers. Many of these are long-term contractual relationships and the loss of these relationships could have a significant effect on the Group’s future profitability and cash flows. This risk is managed through regular reviews and contact with the senior management of these customers in order to ensure that we respond to their needs and deliver the service that they expect.

COMPETITORS

Additionally, there are a number of other businesses that provide services that are similar to those of the Group and as such could compete in one or more of our chosen markets. In order to address this risk, a regular review of the market and our position is undertaken and the activities of other participants are closely monitored. The development of innovative products and solutions which address the needs of our customers is seen as paramount to maintaining our competitive advantage.

GOING CONCERN

The Group’s business activities, together with the factors likely to affect its future development, performance and position are set out in the Chairman’s statement. Principal risks and uncertainties are detailed in this review. In addition, this review includes, amongst other things, cash flow and financing information.

The Directors confirm that, after reviewing the Group’s budget and cash flows, they have a reasonable expectation that the Group has adequate resources to continue in operational existence for the foreseeable future. For this reason, they continue to adopt the going concern basis in preparing the accounts.

SUMMARY

I am pleased to report another very good financial performance for HomeServe for the year. Our membership businesses have once again delivered strong levels of profit growth including an increased contribution from our international operations. With the UK delivering another good year including customer growth of 3% and a significant increase in our international footprint, the Group is well placed to continue to deliver further profitable growth this financial year and into the future. The business continues to generate strong levels of cash conversion and this, combined with low financial gearing enables us to access the funds required to make strategic acquisitions and accelerate development as a membership-focused business.

Martin Bennett

Chief Financial Officer
25 May 2010


1Including gross up of commissions in 2010 and 2009, but excluding exceptional operating items during the year, see Financial review and notes 4, 5 and 13.

2Excluding amortisation of acquisition intangibles, exceptional operating items and joint venture taxation see Financial review and notes 5 and 13.

3Excluding amortisation of acquisition intangibles and exceptional operating items, see Financial review and notes 5 and 13.

4Includes 5.3m households from SoCalGas and 5m households from National Grid USA which were announced after the year end.

5Affinity Partner households are those households that we market to under an affinity partner brand.

6Includes 5.3m households from SoCalGas and 5m from National Grid USA announced after the year end.

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