Financial Review
Introduction
Spectris uses adjusted figures as key performance measures in addition to those reported under IFRS. Adjusted figures are stated before amortisation of acquisition-related intangible assets, goodwill impairment charges, profits or losses on the termination or disposal of businesses or major fixed assets, unrealised changes in the fair value of financial instruments, related tax effects and other tax items which do not form part of the underlying tax rate. Unless otherwise stated, all profit and earnings figures referred to below are adjusted measures.
The Spectrum and Ircon businesses were divested in February 2007 and June 2007 respectively (as described further below). The results of these two businesses are not considered to be sufficiently material to be presented as discontinued operations under IFRS. However, in order to aid understanding of the results for the ongoing business, references below to the sales and operating profit results for “continuing businesses” exclude the results of these two businesses and the business sold in April 2006 (Arcom).
Operating performance
| 2007 | 2006 | Increase/ (decrease) |
||||
| Total group | ||||||
| Sales (£m) | 668.4 | 684.5 | (2.4%) | |||
| Operating profit (£m) | 104.8 | 85.7 | 22% | |||
| Operating margin | 15.7% | 12.5% | 3.2pp | |||
| Continuing businesses | ||||||
| Sales (£m) | 659.8 | 642.6 | 2.7% | |||
| Operating profit (£m) | 104.3 | 83.2 | 25% | |||
| Operating margin | 15.8% | 12.9% | 2.9pp |
Total group sales decreased by 2.4% (1.3% increase at constant currencies) and sales in continuing businesses increased by 2.7% (6.5% at constant currencies). The year-on-year impact on sales from acquisitions (acquired in 2006 and 2007) was approximately £6.8 million or 1% of sales.
Adjusted operating profit rose by 22% overall (32% at constant currencies) and by 25% (35% at constant currencies) in continuing businesses, with operating margins improving from 12.5% to 15.7% overall, and from 12.9% to 15.8% on a continuing businesses basis. This growth in operating profit was driven by the increase in sales, an increase in restructuring benefits, a decrease in restructuring costs, and good cost control. The year-on-year impact on profits from acquisitions was approximately £1.3 million or 1% of profits.
Net interest costs, including IAS 19 pension charges but excluding derivative fair value movements, reduced from £9.4 million to £6.8 million. After taking account of lower interest costs, adjusted profit before tax increased by 28% from £76.3 million to £98.0 million.
Unadjusted operating profit, after including goodwill impairment charges of £nil (2006: £1.2 million) and acquisition-related intangible asset amortisation of £1.9 million (2006: £1.8 million), increased by 24% from £82.7 million to £102.9 million.
Unadjusted profit before tax increased by 38% from £85.6 million to £118.1 million. In addition to goodwill impairment charges, acquisition-related intangible asset amortisation charges, and profit on disposal of businesses, the 2007 unadjusted result includes an unrealised gain of £3.0 million on the group’s cross-currency interest rate swaps (2006: unrealised gain of £2.8 million).
Acquisitions and disposals
During the year, two of the group’s businesses made acquisitions. The total consideration, including acquisition expenses and net debt acquired, as well as deferred and contingent consideration expected to be paid in future years, was £6.6 million. The largest of these acquisitions took place close to the end of 2007. These acquisitions contributed £0.6 million of sales during the year. Prior year acquisitions contributed £6.2 million.
In February 2007, Spectris sold the Spectrum business to Illinois Tools Works Inc and in June 2007 the Ircon business to Fluke Electronics Corporation for total net proceeds (after taking account of transaction costs) of £29.8 million, giving rise to a profit on disposal of £19.0 million (2006: £9.5 million).
Taxation
The effective tax rate on profits was 28.0% (2006: 28.8%) compared with the weighted average statutory tax rate of 32.3% (2006: 32.1%). The group benefited from utilising brought forward tax losses which had not previously been recognised on the balance sheet, and from the favourable closure of prior year tax returns. The weighted average statutory tax rate is expected to reduce in future by approximately two percentage points in line with reduced corporate tax rates on profits in several countries where the group operates, principally Germany.
Whilst the effective tax rate is expected to move closer to the weighted average rate over time, it is not expected to increase substantially in the near future.
Earnings per share
Adjusted earnings per share increased by 33% from 43.7p to 58.1p, reflecting the net impact of a 28% increase in adjusted profit before tax and the reduced tax rates.
Basic earnings per share increased by 44% from 49.4p to 70.9p. The differences between the two measures are shown in the table below.
| 2007 Pence |
2006 Pence |
|||
| Basic earnings per share | 70.9 | 49.4 | ||
| Goodwill impairment charges and acquisition-related intangible asset amortisation | 1.6 | 2.4 | ||
| Profit on disposal of businesses | (15.6) | (7.6) | ||
| Unrealised changes in fair value of financial instruments | (2.4) | (2.3) | ||
| Tax effect of the above and other tax items that do not form part of the underlying tax rate | 3.6 | 1.8 | ||
| Adjusted earnings per share | 58.1 | 43.7 |
The weighted average number of shares outstanding during the year
decreased from
124.3 million to 121.6 million. This decrease arose largely as a
result of the share buy-back programme.
Cash flow
| Operating cash flow | 2007 £m |
2006 £m |
||
| Adjusted operating profit | 104.8 | 85.7 | ||
| Add back: depreciation | 13.1 | 13.2 | ||
| Working capital movement/other | (1.5) | 3.1 | ||
| Net cash flow from operating activities before capital expenditure | 116.4 | 102.0 | ||
| Capital expenditure | (12.7) | (10.5) | ||
| Operating cash flow | 103.7 | 91.5 | ||
| Cash conversion | 99% | 107% | ||
| Non-operating cash flow | ||||
| Tax paid | (23.8) | (21.5) | ||
| Net interest paid | (6.3) | (11.2) | ||
| Dividends paid | (22.2) | (20.2) | ||
| Acquisitions | (6.0) | (13.6) | ||
| Disposals | 29.8 | 13.3 | ||
| Share buy-back | (79.2) | ? | ||
| Exercise of share options | 4.1 | 5.3 | ||
| (Purchase)/sale of own shares by Employee Benefit Trust | (1.6) | 0.9 | ||
| Exchange/other | (4.1) | 3.7 | ||
| Total non-operating cash flow | (109.3) | (43.3) | ||
| Operating cash flow | 103.7 | 91.5 | ||
| Movement in net debt | (5.6) | 48.2 |
Cash conversion of operating profit to operating cash was 99% (2006: 107%). This was achieved mainly through continued control of working capital. The year end working capital expressed as a percentage of sales reduced from 14.8% to 14.2%. Average working capital expressed as a percentage of sales reduced from 13.7% to 13.5%.
Capital expenditure during the year equated to 1.9% of sales
(2006: 1.5%) and,
at £12.7 million (2006: £10.5 million), was 97% of depreciation
(2006: 80%).
The level of tax paid in 2007 was higher than in 2006 due primarily to the increase in profits.
Overall, net debt increased by £5.6 million (2006: reduction of £48.2 million) from £71.7 million to £77.3 million. Interest cost, excluding the financing charge arising from IAS 19, was covered by adjusted operating profit 15.6 times (2006: 9.4 times), providing significant headroom over and above banking covenants which require a minimum of 3 times cover.
Financing and treasury
The group finances its operations from both retained earnings and third-party borrowings, the majority of which are currently at fixed rates of interest.
The group’s principal borrowings relate to its 2000 and 2003 US Private Placement loan notes. The $100 million 2003 US Private Placement has been swapped into euro-denominated borrowings using a cross-currency interest rate swap.
At the year end, 96% of group borrowings were at fixed interest rates (2006: 97%). The ageing profile at the year end showed that 3% of debt is due to mature within one year (2006: 4%), 31% of debt is due to mature in between one and five years (2006: 31%) and the remaining 66% in more than five years (2006: 65%).
Share buy-back
During 2007 the group purchased 8.9 million shares for a total cash consideration of £79.2 million and after the year end acquired a further 1.4 million shares for a total consideration of £9.3 million before announcing its intention to stop the buy-back on 22 February 2008.
Currency
The group has both translational and transactional currency exposures. Translational exposures arise on the translation of overseas company results into sterling. Transactional exposures arise where the currency of sale or purchase invoices differs from the functional currency in which each company prepares its local accounts. The transactional exposures include situations where foreign currency denominated trade debtor, trade creditor and cash balances are held.
The largest transactional exposures are to the US dollar and, to a lesser extent, the euro and the Japanese yen. The largest translational exposures are to the US dollar, the euro and the Danish krone. The table below shows the key average exchange rates during 2007 and 2006. Translational currency exposures are not hedged.
| 2007 (average) |
2006 (average) |
|||
| US $ | 2.00 | 1.84 | ||
| Euro | 1.46 | 1.47 | ||
| Yen | 236 | 214 |
To demonstrate the currency exposures faced by the group, the chart below shows the differences between the group’s consolidated revenues and costs for each of the major currencies.
Forward exchange contracts are used to hedge forecast sale transactions where there is reasonable certainty of an exposure. At 31 December 2007, approximately 61% of the estimated US dollar and Japanese yen exposures for 2008 were hedged using forward exchange contracts.
Defined benefit pension schemes
Operating profit includes a defined benefit pension scheme current service charge of £0.9 million (2006: £0.8 million). The net pension liability in the balance sheet (before taking account of the related deferred tax asset) has reduced to £11.1 million (2006: £18.8 million), largely as a consequence of cash contributions into the schemes and actuarial gains on the scheme assets. During 2007, the group made cash contributions into the defined benefit pension scheme amounting to £3.1 million (2006: £3.3 million).
Clive Watson
Group finance director