Mears Group
Annual Report 2016

Plain-text annual report

Mears Group PLC Annual report and accounts 2016 Helping clients in new ways M e a r s G r o u p P L C A n n u a l r e p o r t a n d a c c o u n t s 2 0 1 6 We carry out 6,000 repairs a day Find out more about our Housing business on page 4 Mears today employs over 15,000 people, providing services in every region of the UK. In partnership with our Housing clients, we maintain, repair and upgrade the homes of hundreds of thousands of people in communities from remote rural villages to large inner city estates. Mears has extended its activities to provide broader housing solutions to solve the challenge posed by the lack of affordable housing. Our Care teams provide support to around 20,000 people a year, enabling older and disabled people to continue living in their own homes. We focus on long-term outcomes for people, rather than short-term solutions and invest in innovations that make a positive impact on people’s quality of life and on their communities’ social, economic and environmental wellbeing by helping clients in new ways… Check out what we are up to on our website, www.mearsgroup.co.uk, and connect with us on social media Mears Group @mearsgroup Mears Group PLC Contents Strategic report 02 Our year in brief 03 Our business 06 Chairman’s statement 08 Chief Executive’s strategy overview 09 Q&A with CEO David Miles 10 Business model 12 Our strategic priorities 14 How have we performed? 18 22 24 Review of operations: Housing 28 Review of operations: Care 32 36 Social value 42 Risk management and principal risks Viability statement Financial review Independent Committee members’ report on Mears’ social value activities We provide care to more than 20,000 elderly and disabled people Find out more about our Care business on page 5 Corporate governance Report of the Nomination Committee Introduction to corporate governance Your Board 45 46 48 Corporate governance report 54 56 Report of the Audit Committee 61 63 Remuneration policy 70 Annual remuneration report 2016 79 Report of the Directors 81 82 Statement of Directors’ responsibilities Independent auditor’s report Report of the Remuneration Committee Financial statements Financial statements – Group 88 Principal accounting policies 100 Consolidated income statement Consolidated statement 101 of comprehensive income 102 Consolidated balance sheet 103 Consolidated cash flow statement 104 105 Notes to the financial statements Consolidated statement of changes in equity Financial statements – Company 137 Principal accounting policies 140 Parent Company balance sheet 141 142 Notes to the financial statements Parent Company statement of changes in equity Shareholder information 148 Five-year record (unaudited) 149 Shareholder and corporate information Annual report and accounts 2016 01 Mears Group PLC Our year in brief Mears is a market leader in providing housing management and maintenance services to the affordable housing sector and a major presence in the homecare and support market. Key highlights → Group revenue of £940.1m (2015: £881.1m), reflecting strong organic growth in Housing following a record year for new contract bidding in 2015. → Group profit before tax and before acquisition intangible amortisation of £40.1m (2015: £36.8m). → Housing revenue of £787.5m (2015: £735.1m), reflecting strong organic growth underpinned by the growth in Housing Management. → Housing operating margin of 5.6% (2015: 5.8%) reflects some dilution from the record number of new contract mobilisations. → Service quality remains our key differentiator; the proportion of customers rating our service as ‘excellent’ was maintained at the record level of 91% (2015: 91%). → Care revenue increased by 5% to £152.6m (2015: £146.0m), reflecting the full-year impact of the acquisition of Care at Home from Care UK. → Rationalisation of our Care business – closure of circa 20% of Care branches and redirection of activities towards maintaining a portfolio of good quality contracts that can provide clear and sustainable margins with more sophisticated clients. → Care operating results reflect the cost of care rationalisation. Excellent progress made in securing charge rate increases following the introduction of the National Living Wage. → EBITDA cash conversion of 70% (2015: 99%) is below our historic norm. Average net debt of £85m (2015: £68m) and net debt at 31 December 2016 of £12.4m (2015: net cash of £0.8m), reflecting the working capital expansion required to fund organic growth, a changing sales mix and an outflow of £10m relating to deferred consideration payable in respect of the acquisition of Omega. → Total dividend increased by 6% to 11.70p per share (2015: 11.00p), reflecting the Board’s confidence in the underlying performance of the Group and the future. → New contract wins of circa £500m (2015: £1 billion); Housing awards of over £250m with a conversion rate of 39% (2015: £900m and 49%); and Care awards of over £200m with a conversion rate of 74% (2015: £80m and 63%). → Order book at £3.1 billion (2015: £3.5 billion) and a solid pipeline of new opportunities. → Visibility of 94% of consensus forecast revenue for 2017 and in excess of 82% for 2018 (2015: 96% and 83% respectively at the turn of the year). 02 Mears Group PLC Annual report and accounts 2016 Group revenue £940.1m +7% 2016 2015 2014 £940.1m £881.1m £838.7m Group operating profit* £41.9m +8% 2016 2015 2014 £41.9m £38.7m £43.3m Dividend per share 11.70p +6% 2016 2015 2014 11.70p 11.00p 10.00p Normalised diluted earnings per share** 30.36p +9% 2016 2015 2014 30.36p 27.94p 32.20p * Operating profit before amortisation of acquisition intangibles (see note 1 to the financial statements). ** On continuing operations, see note 9 to the financial statements. Strategic reportOur business We focus on long-term outcomes and positive social, economic and environmental impact. Our vision Mears’ vision is to make a positive difference to the communities we serve. We do this by improving homes, improving communities and improving lives. Our approach is based on the development of outstanding partnerships with employees, clients, tenants, customers, their families and the wider community. Our values → We value our customers and communities, putting the needs of our customers at the heart of everything we do. → We value teamwork, supporting each other, sharing ideas and never excluding others. → We value personal responsibility, setting and achieving consistently high standards in our work and our conduct and never adopting a negative attitude. → We value innovation, being inventive in our approach and never allowing conventional thinking or bureaucracy to get in the way. Our key strengths Differentiated service delivery In order for customers to recommend us, we must deliver excellent service. We randomly conduct around 80,000 Housing customer surveys each year. Strategic relationships We listen carefully to the needs of our clients and their tenants. As our clients’ needs have changed, we have developed a broader service offering which has increased the depth of our client partnerships. Strong financial management We operate in a high volume, low value and low margin environment where we have delivered consistent financial results over an extended period of time. This is achieved through works management systems, conservative accounting policies and a culture of giving attention to detail. Social value We aim to lead the way with social value in the markets where we operate, delivering meaningful outcomes through positive community engagement projects and effective measurement. Customer excellence rating 91% Value of new contracts mobilised in 2016 £1bn Normalised EPS +9% Net social impact in 2016 £3,555,877 Find out more about our business model on page 10 Find out more about our strategic objectives on page 12 Find out more about our social values on page 36 Annual report and accounts 2016 03 Mears Group PLC Strategic reportOur business continued Housing We repair and maintain around 15% of the Social Homes in the UK and we are increasingly focused on providing broader affordable housing solutions. The Housing division made excellent progress in 2016 Our broader service offering, incorporating our new homes capability, alongside housing management and maintenance, supports our involvement in new partnering models as they emerge alongside traditional outsourcing contracts. We have broadened the services we offer across the sphere of affordable housing. In particular, our acquisition of Omega in 2014 has unlocked a large number of new housing management opportunities. We will look to make further acquisitions to reinforce our market-leading position. Our clients are increasingly looking for partners who can operate strategically as well as operationally across a range of housing services. Mears has extended its core reactive and planned maintenance offering to include housing management to support clients in delivering more integrated solutions, aligned to their strategic challenges. In focus → Milton Keynes regeneration page 28 → Empty Homes – improving neighbourhoods page 27 Our services → Repairs and maintenance → Planned and cyclical maintenance → Estate management → Asset management → Income management → Emergency accommodation Our customers → Local Authorities → Registered Social Landlords → Private landlords → Tenants and service users → Community groups Revenue £787.5m +7% 2016 2015 2014 £787.5m £735.1m £714.7m Operating profit £44.1m +4% 2016 2015 2014 £44.1m £42.4m £34.4m Operating margin 5.6% 2016 2015 2014 5.6% 5.8% 4.8% See note 1 to the financial statements. We repair and maintain over 700,000 homes nationwide Read about our Housing division on page 24 04 Mears Group PLC Annual report and accounts 2016 Strategic reportCare We provide personal care to over 20,000 elderly and disabled people. The Care division made good progress in a challenging period We are continuing to see the emergence of new commissioning models that are long-term partnering orientated, focused on improving quality and cost over time and combining services into an integrated approach to achieve better outcomes for users at less overall cost to the public purse. Whilst there has been no shortage of demand for care work, our barrier has been recruiting sufficient numbers of good quality carers. However, we believe the current funding pressure will be the catalyst for change as will the impact of the National Living Wage on the underlying cost of care. We have a comprehensive range of domiciliary care and complex care services enhanced by the ability to deliver a range of housing adaptations and assistive technology such as telecare. We deliver broad solutions to the independent living challenges faced by so many elderly people, as well as younger people with physical or mental disabilities. In focus → Wiltshire Help to Live at Home page 29 Our services → Independent living services → Aids and adaption → Complex care → Assistive technology (telecare) → Live-in care → Extra care Our customers → Local Authorities → NHS → Charities → Community groups Our staff volunteered over 20,000 hours last year Read about our Care division on page 28 Revenue £152.6m +5% 2016 2015 2014 £152.6m £146.0m £124.0m Operating profit £(1.2)m +25% 2016 £(1.2)m 2015 £(1.6)m 2014 Operating margin (0.8)% 2016 (0.8)% 2015 (1.1)% 2014 £9.6m 7.8% See note 1 to the financial statements. 05 Strategic reportChairman’s statement Bob Holt Chairman I continue to be impressed at the strong growth being delivered by our Housing Management business. Summary → This has been the busiest year on record, with nine new Housing contracts successfully mobilised → We secured a new contract with Milton Keynes Council, representing one of the single largest contracts ever awarded to Mears → During the year we took the decision to exit from in excess of 20% of our existing care contracts where the pricing, longevity and spend certainty did not allow us to deliver a high quality service at sustainable margins → Our aim to make sure jobs and opportunities are open to everyone has been enhanced by our continued Social Mobility Champion status 06 Mears Group PLC Annual report and accounts 2016 I am delighted to report a year of solid progress, particularly within our Housing division, where we have continued to extend our services from our traditional maintenance base to a broader affordable housing offering. The year was the busiest on record for new contract mobilisations, with nine new Housing contracts successfully mobilised. A particular highlight for the year was Mears’ success in securing and mobilising a new partnership with Milton Keynes Council, which represents one of the single largest contracts ever awarded to Mears. The contract initially saw the commencement of repairs and maintenance services to nearly 11,500 homes. The scope of works quickly expanded with Mears engaged to develop 80 new homes. In addition, a number of temporary accommodation solutions are being developed through the joint venture partnership. We anticipate seeing further new client opportunities, similar to Milton Keynes, which bring together all elements of our Housing service offering. Our Housing Management business continues to deliver strong growth. Since Mears extended its services to housing management, accelerated by the acquisition of Omega in 2014, the Group has successfully grown the business from around 2,000 homes under full management to a figure in excess of 9,000. This remains an exciting area for us given the urgency for our clients to find solutions to address the homelessness issue, and the pipeline remains buoyant. We are bringing a number of new innovative service models to this area which I look forward to reporting on in the future. We firmly believe in our long-term Care strategy and that Mears is best placed to benefit from the inevitable market evolution. During the year we took the decision to exit from around 20% of our existing contracts where the pricing, longevity and certainty of spend did not allow us to deliver a high quality service at sustainable margins. I am pleased to report a solid financial performance for the year to 31 December 2016. Group revenue amounted to £940.1m (2015: £881.1m), with this organic growth being driven by our Housing business. Group profit margin edged upwards to 4.26% (2015: 4.17%) with profit before tax and, before acquired intangible amortisation increasing by 9% to £40.1m (2015: £36.8m). Normalised diluted earnings mirrored the increase in operating profits, increasing by 9% to 30.36p (2015: 27.94p). Our performance by operating division is discussed in greater detail in the Review of Operations. The order book sits at £3.1 billion, edging back from the record high of £3.5 billion reported at the end of 2015. Importantly, revenue visibility for 2017 at the turn of the year stood at 93%, which is just below our key performance target of 95%. Revenue visibility for 2017 has subsequently increased to 94%. Revenue visibility for 2018 is 82%, in line with our expectations. Cash generated from continuing operations as a proportion of EBITDA was 70% (2015: 99%) and there was net debt at the year end of £12.4m (2015: net funds of £0.8m). Average daily net debt for the year increased to £85.0m (2015: £68.0m) reflecting the working capital expansion required to fund the strong organic growth this year together with the £10m of deferred consideration payable in respect of the acquisition of Omega. We have a robust cash management culture and, whilst I have no concerns in respect of falling short of our cash target in 2016, we fully understand the importance placed by our investors on this metric. Strategic reportUK exit from the European Union While uncertainty is never positive for business, Mears does not envisage any significant negative impact from an EU exit. It was disappointing that the Government’s domestic policy agenda took a back-seat through much of 2016 as the referendum took centre stage. It is pleasing now that since the turn of the year, significant momentum is building in respect of both Housing and Care policy. Social value At the heart of Mears lies a strong sense of responsibility towards improving people’s lives. We aim to lead the way with social value in the markets where we operate, delivering lasting and meaningful outcomes. During the year we conducted a review of our social value strategy, identifying our key priorities to ensure that we effectively engage with communities and deliver social value on the ground throughout the business, with an effective measurement of the social impact that is created. We continued to secure Social Mobility Champion status from the Department of Business, Energy & Industrial Strategy. Social mobility is about creating opportunities for young people from disadvantaged backgrounds. At Mears, we aim to make sure jobs and opportunities are open to everyone. Our people I commend our employees for their commitment and energy throughout another significant period for the Group and I continue to be impressed by their quality, professionalism and loyalty. Mears has a diverse workforce of circa 15,000 staff including 400 apprentices; the vast majority of our employees live in the areas in which they work. I look forward to reporting news of our further success during the coming year. Dividend The Board remains confident in the future opportunities in our growth markets and consequently it expects to continue following a progressive dividend policy. The Board has recommended a final dividend of 8.40p per share which, when combined with the interim dividend, gives a total dividend for the year of 11.70p (2015: 11.00p), a 6% increase, reflecting the Board’s confidence in the underlying performance of the Group. The dividend is payable, subject to shareholder approval, on 6 July 2017 to shareholders on the register on 16 June 2017. The Board regularly reviews the Group’s dividend policy to maximise returns to shareholders whilst maintaining a prudent capital structure and retaining the ability to invest for growth. Corporate governance and risk management The Board continues to set itself high standards of corporate governance. Our Corporate Governance Report issued within our Annual Report details how we approach governance and the areas of focus for the Board in 2016 and into the future. In line with good practice, we have reviewed and updated the Group’s risk register. The Senior Management Team plays a central role in reviewing and challenging the Group’s risks. The Group risk team presented risk management training modules to all levels of management via the Group development programme, to reinforce our strong risk management ethos. During 2016 the Group has continued to enhance its risk and control environment. A number of new assurance provider functions have been created, including an IT security governance team to provide extra focus on the increasing challenges of cyber-security. Board evaluation and effectiveness Performance evaluation of the Board, its Committees and individual Directors takes place on an annual basis. The Directors were asked for their views on a broad range of areas including Group strategy, independence, experience and effectiveness and the interaction between Board members. It is vital that as a Board we have the right mix of skills, experience and diversity, ensuring that Board members have sufficient knowledge of the Company whilst maintaining their independence and objectivity. I am fortunate as Chairman to be able to call upon a Board with a broad range of expertise and specialist knowledge. During the year, a number of our Non-Executive Directors reached nine years’ service on the Board, and as such are not offering themselves for re-election. I would like to thank David Hosein and Mike Rogers for their significant contribution to the Group. It was also with deep regret that we announced the passing of Rory Macnamara, who had been a Director since June 2010 and chaired our Nomination Committee. Rory will be greatly missed by the Board for his strong technical contribution, and as a trusted colleague. Read more in the governance section on page 45 Annual report and accounts 2016 07 Mears Group PLC Strategic reportChief Executive’s strategy overview The 2016 year saw the largest number of new contract mobilisations in our history. Positively, we performed strongly during this period in terms of both delivering excellent customer service whilst also putting in place robust structures and processes that ensure that these contracts deliver both operationally and financially in the future. Within our Housing division, we have continued to extend our services from our traditional maintenance base to a broader affordable housing offering. Our strategy to broaden our service offering in Housing has created a significant sustainable competitive advantage for Mears. We expect our Housing business to continue to grow through further contract wins. Whilst we are the market leader, we deliver maintenance services to around 15% of the UK’s social housing, which provides us with significant headroom for growth. Furthermore, our Housing Management capabilities offer material growth opportunities, as the demand for affordable housing requires that housing providers work harder and smarter to increase the supply of suitable housing through innovation and partnership. We believe the Housing division is well positioned to deliver strong organic growth. Where appropriate, we will continue to make the right acquisitions to develop the breadth and depth of our services. Our guidance remains unchanged in Housing. We remain on track to deliver annual revenue growth of 5–10% per annum over the medium term and the strong revenue visibility underpins the Board’s confidence. We believe we can maintain our Housing margin at its historic normalised range of 5.7–6.0%, assisted by the shifting sales mix towards housing management services, which typically generate a higher operating margin. We firmly believe in our long-term Care strategy and that Mears is best placed to benefit from the inevitable market evolution. The reduction in revenues, following our exit from around 20% of our existing contracts, has allowed the business to focus on operational quality and switch focus to those strategically important clients which we believe have potential to develop into partnerships and where we are able to deliver a high quality service at sustainable margins. We believe the margin generated by this division can reach similar levels to those of Housing in the medium to long term, however the short term remains more challenging. Continued funding issues in the care market will create a catalyst for change. Whilst we do not see a strong prospect of immediate fundamental change, we are clear in our view that, increasingly, commissioners will have to look to rebalance their contract estate, focusing on working with fewer, better run, service delivery partners. Moreover, further opportunities will result from localised health related outsourcing. Our market-leading approach to service quality and innovation puts us in a strong position, and as the care market evolves, we expect to benefit disproportionately. Our dedication to providing our clients with first class service and value remains undiminished and is key to how we manage the business. David Miles Chief Executive Officer I am more confident than ever in the quality of our leadership team and our front line people. Summary → Our strategy to broaden our service offering in Housing has created a significant sustainable competitive advantage for Mears → We firmly believe in our long-term Care strategy and that Mears is best placed to benefit from the inevitable market evolution → We continue to perform well against all of our strategic priorities and are better placed than ever to meet growing client opportunities → Our commitments to our workforce have never been greater and have included significant investment in training and championing improvements in the pay and conditions of care workers 08 Mears Group PLC Annual report and accounts 2016 Strategic reportQ&A with CEO David Miles Our client partnerships have never been stronger and are increasingly based on clients purchasing a broader range of services. How have you performed against your strategic priorities? We continue to perform well against all of our strategic priorities and are better placed than ever to meet growing client opportunities. We are particularly pleased that 2016 saw the largest number of contract mobilisations ever and that these all went well, giving us a really positive platform for future development. Our client partnerships have never been stronger and are increasingly based on them purchasing a broader range of services from us. Our business has been built on high levels of customer service and 2016 saw another good performance in all areas of our business. I am more confident than ever in the quality of our leadership team and our front line people, given our increasing investment in training and development, backed up by technology enabling us to better deliver and to gain real-time feedback on our performance. Why has there been such significant growth in housing management services? In a short space of time, we have become a leading housing management services provider in the UK. There is a huge demand for services that help address the shortage of suitable affordable accommodation. Mears has created a range of innovative solutions that enable homelessness to be addressed cost effectively and for the long term. We are now managing over 9,000 homes nationally, helping Councils reduce their costs and at the same time giving often vulnerable people a decent and stable home environment. This capability has developed following the acquisition of the Omega business in 2014. Since then we have significantly grown the business, invested in structure and expanded our footprint to many places outside of the South East. Mears has withdrawn from some care contracts. Why is this and will there be more? We remain optimistic for the long-term prospects for homecare. The decision to withdraw from a contract is only made if a Council is not prepared to pay a rate that allows us to meet our pay obligations to our workforce and our service requirements to our customers. Unfortunately there are some Councils that commission care services at rates that do not allow either of the above and we have decided it is the responsible thing to not deliver homecare in these areas. We continue to lead the market on outcome-based partnering contracts and this is where we will focus our energies going forward. Whilst it is likely that we will withdraw from further contracts, where certain Councils do not feel an obligation to reflect the Living Wage within their costs of care, there are an increasing number of care commissioners who are acting responsibly and balancing their own tight budgets with a realistic understanding of the cost of delivering care. We also expect Government to go further in terms of investment in Social Care. Recent announcements mean that Councils can raise additional funding to support these services in 2017 but Mears and others are of course encouraging the Government to put in place more long-term financing solutions, which we believe must and will happen. What do you see as the key opportunities for 2017? There continues to be a good pipeline of opportunities for housing repairs and maintenance services and our leadership position has never been stronger but, in addition, I would highlight three particular areas for 2017. Firstly, Housing Management will continue to see good growth and we expect to see more integrated multi-service contracts, such as the one we have in Milton Keynes. Secondly, given the positive mobilisations in 2016, we do expect these contracts to develop strongly in 2017. Thirdly, given the pressures on the care system, we are seeing more Councils considering outcome-based partnering contracts, this being an area where Mears has also established a leadership position. How has the Social Value Act impacted on Mears’ approach to sustainability and supporting local communities? Acting responsibly, both nationally and within local communities, has always been a fundamental part of the Mears approach. Our Sustainability Strategy has five guiding principles: long-term customer relationships, excellent employee experience, awareness of the environment, being responsible leaders and ensuring a diverse and inclusive approach to our business. In 2016, we introduced a Social Value Group into Mears with three independent experts. Their role has been to challenge Mears to do more building on its solid foundations (see their report on page 42). We make specific social value commitments to each of our clients, whether this be investment in apprenticeships or using our skills to improve important local facilities for the benefit of the communities in which we operate. Our new Geo-Stat tool allows us to target interventions to specific areas of greatest need, for example where there is an area with a high level of worklessness and social isolation. Our commitments to our workforce have never been greater and have included significant investment in training, championing improvements in care worker pay and conditions and taking a national lead in encouraging more women to consider the building trade for their career. Read about our strategic priorities on page 12 Annual report and accounts 2016 09 Mears Group PLC Strategic reportBusiness model We focus on long-term outcomes and positive social, economic and environmental impact. Key resources and relationships Outstanding partnerships We work with Local Authority, Housing Association and care commissioner clients. Our end service users are the recipients of housing services and care in the home. Exceptional people We recognise our staff as our greatest asset. Mears employees are skilled in delivering an excellent service whilst showing a strong customer service ethos and an empathy for our service users. Market-leading technology Our performance is built on a bedrock of first class IT platforms giving market-leading capability and driving innovation. Supply chain partners We choose suppliers who share our values and meet our standards. We work closely with suppliers to develop innovative services and integrate them with our core systems. Financial stability We receive funding through shareholder capital, retained profits, debt and cash generation to run our business and fund its activities. What we do H ousing p e e D e n o ur partnership 1 s p i h s r e d a 2 M a in tain our le Valuing our customers D e v e l o p o u r 3 p e o ple Care How are we maintaining our leadership position How we measure ourselves We measure ourselves with a suite of KPIs focused upon financial and non-financial measures, mindful of there being multiple stakeholders. How we reward for our value creation Our remuneration policy creates an alignment between the creation of value and the remuneration of our Executive Directors and employees. Read more about our key performance indicators on page 14 Read more about our Remuneration Policy on page 63 Link to strategy Our strategic goals sit at the heart of our business model and dictate how we respond to changes taking place in the markets we serve. Read more about our strategic priorities on page 12 1 2 3 How we generate revenue Mears’ revenue is generated from payments from its Local Authority, Housing Association and NHS Trust clients in respect of its Housing and Care services. Whilst the end service users are at the centre of our business model, they do not pay for the service directly. Read about our revenue breakdown in more detail in the Review of Operations on page 24 10 Mears Group PLC Annual report and accounts 2016 Strategic report Why clients and users choose us Service delivery Our service delivery is our key differentiator. We invest heavily in training our people and we are committed to providing them with the skills and equipment to deliver great service. We measure our performance to drive further improvements. Innovation The challenge of delivering service improvements at lower cost requires innovative thinking. We create and lead best practice in our markets. Responsibility, transparency and accountability Operating our business safely, responsibly and in compliance with regulations is paramount. We have a number of open book arrangements and our clients rightly require a high level of financial visibility. Social value Mears defines its responsibilities to society to include social, economic and environmental impact. It takes a proactive approach to these responsibilities and recognises that highlighting the positive difference this makes in communities enthuses staff, motivates customers and clients, creates substantial environmental and social benefits and builds competitive advantage for Mears. This is why Mears refers to its social and environmental activities as “Social Value” – because through these activities it is creating value for Mears and the wider communities in which it operates. How we create value Shareholders We generated a normalised diluted EPS of 30.36p and the proposed dividend for the year increased by 6% to 11.70p per share. Customers We maintain over 700,000 homes in the UK amounting to around 6,000 repairs per day. Mears has extended its activities to provide solutions to resolve the challenges of homelessness. Our Care division provides care and support to around 20,000 people, enabling older and disabled people to continue living in their own homes for longer. Communities At the heart of Mears lies a strong sense of responsibility towards improving people’s lives. We employee over 15,000 people, including around 400 apprentices. We are proud of our Social Mobility Champion status, creating opportunities and enabling people to develop new skills within some of the most disadvantaged and marginalised communities in the UK. Every branch of Mears makes a social value pledge, which focuses on specific activities to improve its local community in at least one of our social value priorities. Government In 2016, we paid £4.9m in corporation tax, £78m in payroll taxes and £46m in indirect taxes. In addition, through the services we provide to the public sector, we are delivering significant cost savings and better value to Local Authorities and the NHS. How we develop our people Mears is committed to training. We employ over 400 apprentices and provide a number of alternative training solutions for upskilling employees and the professional development of Mears’ managers. We are proud to have been appointed as one of only twelve Government Social Mobility Champions working in some of the most marginalised communities in the UK. Read about our new Rotherham Training Academy on page 31 How we manage ourselves Corporate governance We are committed to the highest standards of corporate governance, ensuring the safeguard of stakeholders’ interests and the long-term success and sustainability of our business. Risk management Effective risk management is central to the continuing success of Mears. The Board of Directors has ultimate responsibility for ensuring that risk is effectively managed across the Group. Read more in the Corporate Governance section on page 48 Read more about our risk management and principal risks on page 18 Values Our organisational values shape the way we do business with all stakeholders. Read more about our social value priorities on page 36 Mears Group PLC Annual report and accounts 2016 11 Strategic reportOur strategic priorities Our strategy is to be the market leader in transforming Housing and Care environments. 1 Deepening our client partnerships in both core markets Performance in 2016 → Record year of new contract mobilisations, in particular our Milton Keynes partnership and Key Worker Housing contract → Retention of key client relationships in 2016 including Sedgefield and Manchester → Successful development and introduction of new innovative service offerings such as our partnership with London Borough of Bromley (read more about this on page 25) → Mears was awarded further contracts by Wiltshire Council following service failure by other care providers. We now deliver around 75% of Local Authority funded care in Wiltshire → We undertook hundreds of local community projects with our staff and our supply partners often volunteering their time and resources for the benefit of local communities 2 Maintaining quality leadership Performance in 2016 → 91% of our customers rated our service as excellent → Re-accreditation with Customer Service Excellence including the Community Engagement standard → Contractor accreditation for the fifth year running for TPAS (Tenant Participation Advisory Service) for our approach to tenant and customer engagement → In Care, we have delivered strong regulatory performance in our key Scottish market. Our performance in England has been less consistent, with processes and controls at times falling short of our high expectations → Increasing commitment by Mears to deliver social value to our clients and communities (read more about this on page 36) Performance in 2016 → During 2016, we opened two new bespoke academies in Rotherham and Brentwood → We employ 400 apprentices and have been named a Top 100 Apprentice Employer → We have continued to secure Social Mobility Champion status. Social mobility is about giving young people equal chances in life, regardless of their social background → Successful delivery of a range of upskilling and professional development for Mears managers and employees together with programmes for young and/or unemployed people from our communities → In 2016, Mears once again retained its Investors in People (IIP) accreditation 3 Developing our people 12 Mears Group PLC Annual report and accounts 2016 Strategic report Deepening our client partnerships in both core markets Maintaining quality leadership Developing our people Find out more about our KPIs on page 14 Find out more about our risks on page 18 Focus in 2017 → Maximise growing opportunities in our Housing Management business Link to KPIs → Housing new contract success rate Link to risks → Reputation → Business continuity → Focus on Local Authorities adopting partnership-based → Order book growth and outcome-based commissioning in Care → Continue to raise client awareness of Mears’ wide range of services across Housing and Care → Revenue secured → Revenue growth Focus in 2017 → Improve use of technology to improve the way that services are delivered for our customers → Focus on care quality through better care worker recruitment and retention and continued development of care managers → Continue to deliver strong regulatory performance in our Scottish Care operation. Improve the consistency of our English Care delivery → Continue to drive social value, addressing community issues around social mobility, social isolation and fuel poverty Link to KPIs → Housing new contract success rate → Order book growth → Customer complaints → Excellent service rating Link to risks → Health and safety → Business continuity → People → Reputation Focus in 2017 → The expansion of our apprenticeship programme in Housing and Care Link to KPIs → Housing new contract success rate Link to risks → Health and safety → People → The integration of apprenticeships and other qualifications → Order book growth for Care staff → Management of the CITB levy together with the introduction of the Apprenticeship Levy → Increased focus on succession planning → Increased commitment to enhance the terms and conditions of our employees, in particular of carers where the valuable role they play remains undervalued → Revenue secured → Revenue growth → Carer churn Mears Group PLC Annual report and accounts 2016 13 Strategic reportHow have we performed? Our KPIs are our most important measures to monitor our business and to ensure that we are on target to deliver our strategic priorities. Service delivery remains our key differentiator. Our strong contract bidding and financial performance are direct outputs for delivering great service. Great service delivery “Excellent” service rating (Housing) Customer complaints (Housing) Carer churn (Care) Definition In order for customers to recommend us, we must deliver excellent service. We randomly conduct around 80,000 customer surveys per year. Definition Incidents resulting from poor service result in a complaint. We are committed to dealing with all complaints on an individual basis. Definition The carer churn figure is calculated as the total number of leavers during the year as a proportion of the average carer headcount. Carer churn data is only available from 2014. Results from the year 91% 2016 2015 2014 2013 91% 91% 91% 82% Results from the year 0.27% 2016 2015 2014 2013 0.27% 0.30% 0.30% 0.31% Results from the year 44% 2016 2015 2014 44% 58% 54% We are delighted that our service delivery has remained at the high levels reached in the last two years. Strong performance will ensure competitiveness as we continue to be ranked above our peers. We are committed to providing our colleagues with the skills and equipment to deliver great service. We seek to identify trends in order to improve our overall service quality. There has been some improvement in carer churn rates. We have increased carer pay rates across the business and focused on those Care contracts which provide a better mix of longevity, spend certainty and price, which allows us to offer carers more attractive terms and conditions. How we performed 2016 target 91% On target 2017 target 91% How we performed 2016 target <0.30% How we performed 2016 target 30% Out performance Under performance 2017 target <0.27% 2017 target 30% 14 Mears Group PLC Annual report and accounts 2016 Strategic report Strong contract bidding New contract success (Housing) Order book growth (Group) Secured revenue (Group) Definition Contract success is measured by results of tender by contract value. We typically tender around £1 billion of new opportunities each year. The average contract length is around six years. In order to achieve our organic growth forecasts, we monitor the proportion of new contracts secured as a proportion of total tendered works. Definition Contracts with our clients are long term. Housing contracts average six years and Care contracts average around three years. We only account for contractually secured orders. We anticipate a solid period of new contract bidding in 2017, but would be satisfied to maintain the order book at current levels. Definition Secured revenue measures how much revenue is secured in respect of our revenue forecast for the following year. This performance measure is taken at the beginning of each financial year. Government procurement policy means tenders take around twelve months from advertisement to contract award. Results from the year 39% 2016 2015 2014 2013 39% 49% 35% 32% Results from the year -11% 2016 2014 -11% -13% 2015 +6% 2013 +2% Results from the year 93% 2016 2015 2014 2013 93% 94% 92% 92% The strategy established two years ago was to provide a broader service offering which includes housing management. We are pleased with our bidding success in 2016, with over £250m of new orders secured. However, the total value of tenders submitted was lower than expected. Following our excellent period of new contract success in 2015, our order book had increased by 6% to £3.5 billion. It was not surprising to see some reduction in 2016, falling to £3.1 billion. We have fallen narrowly short at 93% visibility of 2017 revenues. The time lag in securing and mobilising new works means that it is important that the Group secures the remaining 7% early in 2017. We are in a strong position to achieve forecast revenue. How we performed How we performed How we performed 2016 target 33% 2016 target +6% 2016 target 95% Out performance Under performance Under performance 2017 target 33% 2017 target +0% 2017 target 95% Mears Group PLC Annual report and accounts 2016 15 Strategic report How have we performed? continued Financial KPIs are critical to measuring and understanding our financial health. Financial performance Revenue growth (Housing) Operating margin (Group) Profit to cash conversion (Group) Definition Revenue represents the amounts due for services provided during the year. In order to measure organic growth, we deduct incremental revenue arising from acquisitions. We believe that organic growth gives a better indication of business performance, as it is a purer aggregation of market growth, success in new contract bidding and contract retention. Definition Operating margin is the KPI used to measure and understand the profitability of our activities. This KPI is used to continually monitor our costs to ensure services are being delivered efficiently. Definition This is a working capital management KPI, which remains the cornerstone of our business. The key measure is cash inflow from operating activities as a proportion of EBITDA. Whilst we internally target 100%, our external target allows some leniency reflecting an increased working capital requirement to fund organic growth. Results from the year +7% 2016 +7% 2015 +1% 2014 -4% 2013 +10% Results from the year 4.6% 2016 2015 2014 2013 4.6% 4.6% 5.3% 5.0% Results from the year 70% 2016 2015 2014 2013 70% 99% 96% 103% We are pleased to have achieved this target, driven by a very successful new contract success rate in 2015. We continue to invest in our people and systems to provide capacity to achieve our target. The Group’s operating margin has been diluted in both 2016 and 2015 by the performance of Care. The Housing margin was strong, despite the diluting impact of new mobilisations. The solid organic growth delivered in 2016 resulted in some working capital expansion and the increase in trade receivables. The Group also reported a reduction in trade payables due to a changing sales mix. Management is disappointed with this outcome. How we performed How we performed How we performed 2016 target +6% 2016 target >5.1% 2016 target 90% Out performance Under performance Under performance 2017 target 5% 2017 target >5.1% 2017 target 90% 16 Mears Group PLC Annual report and accounts 2016 Strategic report  Read more about our Housing operations on page 24 Read more about our Care operations on page 28 Health & safety Normalised diluted EPS (Group) Accident frequency rate (Group) Definition Normalised earnings are stated before exceptional costs and exclude the amortisation of acquisition intangibles together with an adjustment to reflect a full tax charge. Definition Providing our employees with a safe working environment remains paramount. Our accident frequency rate (AFR) is calculated as the number of reportable incidents divided by the number of hours worked, multiplied by 100,000. Results from the year +9% 2016 +9% 2015 -13% 2014 +15% 2013 +10% Results from the year 0.16 0.16 0.17 2016 2015 2014 2013 0.23 0.31 Our headline EPS increased by 9%, mirroring the increase in profits. However, EPS of 30.36p still sits below the equivalent figure of 32.20p reported in 2014 due to the poor trading results delivered by the Care division. We are working hard to improve that position. We are pleased to have maintained our accident record at low levels. Mears delivers much of its health and safety training through its in-house registered training provider, which is a key factor in achieving year-on-year improvement. How we performed 2016 target >10-15% How we performed 2016 target <0.17 Under performance Out performance 2017 target >10% 2017 target <0.16 Mears Group PLC Annual report and accounts 2016 17 Strategic report Risk management and principal risks Effective management of risks and opportunities is essential to the delivery of the Group’s strategic objectives, the achievement of sustainable shareholder value and maintaining good standards of corporate governance. Risk management process Strategic governance Board Audit Committee Nomination Committee Remuneration Committee Chief Executive Officer Operational and financial governance First line of defence Second line of defence Third line of defence Senior Management Team Operational management Central support functions Details of financial risk management and exposure to price risk are given in note 19 on pages 124 to 128 Risk management function (including internal audit and external advisers) The Senior Management Team The Senior Management Team reviews and identifies the key risks which may impact upon the achievement of the Group’s strategic goals and will consider how these risks are developing with changes in the operations, markets and the regulatory environment. The nature of the risk is reviewed, including the possible triggering events and the aggregated impacts, before setting appropriate mitigation strategies directed at the causes and consequences of each risk. The risk is assessed in relation to the likelihood of occurrence and the potential impact of the risk upon the business, and assessed against a matrix scoring system which is then used to escalate risks within the Group as appropriate. The Senior Management Team has responsibility for managing the Group’s key risks. 18 Mears Group PLC Annual report and accounts 2016 The Board The Board has overall responsibility for determining the nature and extent of risk it is willing to take within the agreed strategy, and ensuring that risks are managed effectively across the Group. Risk is a regular agenda item at Board meetings and is closely aligned to strategy review. The Board also reviews reports on the effectiveness of the systems and processes of risk management and internal control. The Audit Committee The Audit Committee monitors the Group’s key risks identified by the risk assessment processes and reports findings to the Board. It also has delegated responsibility for reviewing in detail the effectiveness of the Group’s system of internal control policies, and procedures for the identification, assessment and reporting of risk. Risk management function The Group risk function headed by the Group’s Chief Risk Officer supports the risk management process by providing guidance and support to management. Group risk also acts as the central point for the coordination and initial review of risk assessment and risk monitoring procedures. To ensure our risk management process continues to drive improvement, the Group risk function monitors the ongoing status and progress of mitigation plans on a quarterly basis. The Group outsources elements of internal audit and cyber-security, to external advisers. The control environment is underpinned by a detailed scheme of delegated responsibilities that defines processes and procedures for the approval process in respect of decision making. This ensures that decisions within the organisation are made by the appropriate level of management. Strategic reportRisk management approach The Group’s approach to risk management is targeted at early identification of risks and mitigation of those risks to reduce their likelihood and impact. The Group is committed to protection of its assets through an effective risk management process, supported by insurance where appropriate. Examples of assets within scope include human, intellectual, physical property and financial resources. Reporting within the Group is structured so that key issues can be escalated rapidly through the management team to the Board where appropriate. Risks are continually monitored, contingency plans are provided and this information is reported through established procedures. There is extensive fieldwork undertaken by risk auditors incorporating systems review, branch visits and cross business surveillance. The internal control approach is designed to manage rather than eliminate the risk of failure and thus can only provide a reasonable, rather than absolute, assurance against material misstatement or loss. Risk management process The responsibility for risk identification, analysis, evaluation and mitigation rests with the line management of the businesses. They are also responsible for reporting and monitoring key risks in accordance with established processes under the Group operational policies. Identified risks are documented in risk registers showing: the risks that have been identified; characteristics of the risks; consequences of the risks; the basis for determining the mitigation strategy; and what reviews and monitoring are necessary. The person(s) accountable for assessing and monitoring each risk is noted. We continue to drive improvements in our risk management process. We also review our business model, core markets and business processes to ensure that we have properly identified all risks. We continually review our mitigating actions to ensure that they are sufficient to minimise our residual risk. Key financial and non-financial risks identified by the business from the risk assessment processes are collated and reviewed by the Audit Committee. The financial and non-financial risk registers are reviewed to monitor the status and progression of mitigation plans; the key risks are reported to the Board on a regular basis. Principal risks The Board has carried out a robust assessment of the principal risks facing the Group, including those that threaten the business model, strategy, future performance, solvency and liquidity. Risks have been identified as principal based on the likelihood of occurrence and the severity of the impact on the Group, and have been identified through the application of policies and processes previously outlined. The Board is keen to simplify the reporting of risks, to ensure the risks disclosed to shareholders are those that are considered as business critical or potentially catastrophic. Therefore no additional risks have been disclosed in this Annual Report. These business-as-usual risks are monitored by divisional management. Prioritising our risks The Group’s risk register rates risks on a matrix scoring system based on their likelihood and potential severity. This severity can be measured using financial, life and limb, customer service, growth, regulatory compliance and reputational criteria. Therefore, Mears measures more than simply the financial impact of the risk. These scores are used to escalate risks and to drive the mitigation plans. Read more in the Corporate governance section on page 48 Read more in the Report of the Audit Committee on page 56 Gross risk Key Net risk IT and data Health and safety IT and data Reputation People Reputation People Health and safety Low Moderate Serious Critical Severity of impact Mears Group PLC Annual report and accounts 2016 19 e c n e r r u c c o f o d o o h i l e k L i Strategic report Risk management and principal risks continued Risks are identified as principal based on the likelihood of occurrence and the potential impact on the Group. The Group’s principal risks are identified below, together with how we mitigate those risks. Key risk movements Each principal risk is considered in the context of how it relates to achievement of the Group’s strategic objectives. The risk discussion includes assessment of gross risk and net risk. Gross risk reflects the exposure and risk landscape before considering the mitigations in place, with net risk being the residual risk after mitigations. The gross risk movement from the prior year for each principal risk has been assessed and is presented below: Mitigations in place supporting the management of the risk to a net risk position are also described for each principal risk. Mitigation → In-house IT system developed to provide operational management with a real-time dashboard of service delivery indicators. → Internal auditing of KPI reporting including ‘mystery shoppers’. → Strict process in place for vetting and approval of subcontractors. → We drive a culture of putting our customers first; this is continually reinforced within internal communications. No change → Well communicated policy for dealing with press enquiries and incident management. → Care risk plans for dealing with vulnerable customers. → Compliance management of bribery and corruption legislation and whistleblowing policy. → We induct and train all new starters. This induction ensures that all employees understand our values and it reinforces the Group’s culture. → We ensure that staff are properly trained for their roles. We ensure that we deliver relevant training and implement best practice. Reputation Definition We recognise that significant commercial value is attributable to the Mears brand. Poor service delivery would damage our reputation. Both our housing and care markets are close-knit communities where examples of poor performance are quickly communicated widely. Furthermore, in Care we deliver services to people who are elderly and vulnerable. A service delivery failure within our Care division could result in the physical harm or, in the most extreme cases, death of a service user. In the environment of caring for vulnerable people, there is a risk of isolated incidents of abuse and neglect which rightly receive significant press coverage with the inevitable reputational damage. KPIs associated with risk: → ‘Excellent’ service rating → Customer complaints → Net carer recruitment and retention 20 Mears Group PLC Annual report and accounts 2016 Strategic reportPeople Definition The Group employs over 15,000 employees who are critical to the success of our contract performance. Attracting and maintaining good relations with employees and the investment in their training and development is essential to the efficiency and sustainability of the Group’s operations. Delivery of strategic objectives increases our ability to attract, motivate and retain talent. In addition, the Care division is facing a challenging environment where the ability to recruit and retain carers is restricting performance. KPIs associated with risk: → ‘Excellent’ service rating → Customer complaints → Carer net recruitment and retention Decreased gross risk exposure → An annual appraisal process is completed for all employees to ensure that all people receive feedback in respect of their performance and to identify future training and development requirements. We hold a national accreditation as an Investor in People. → We are continually looking to improve our position as an employer of choice by improving the level of engagement with our employees through formal communications, awards to recognise success, local events and family fun days. → We are continually monitoring our future skills requirements. → We regularly undertake employee surveys to gauge employee satisfaction and engagement, and any barriers to high level performance. Mitigation → We induct and train all new starters. This induction ensures that all new employees understand our strategy, vision and values. All Care staff have access to NVQ training. → We regularly review and benchmark our remuneration packages to ensure that they remain competitive. → In Care, we are investing in an innovative recruitment process to ensure an increase in the volume and quality of carers. Local Care branches are targeted on a monthly basis in the areas of recruitment and retention. → At the senior end of the business, we have increased our focus on succession planning and increased our investment in senior management development. Our Senior Leadership programme has identified a cross-section of the Group’s brightest talent that we would envisage will play central roles in our future business. → The investment in an in-house dedicated training division to provide a range of employee development services through two academies in Rotherham and Brentwood. Health and safety Definition Mitigation Increased gross risk exposure Prevention of injury or loss of life for both employees and customers is of utmost importance. In addition, it is vital to maintaining the confidence our customers and clients have in our business. KPIs associated with risk: → Accident frequency rates → Reportable incidents → Customer complaints → ‘Excellent’ service rating IT and data Definition A major incident or catastrophic event could impact on the Group’s ability to trade. In addition, it is essential that the security of customer, employee and Company confidential data is maintained. A major breach of information security could have a major negative financial and reputational impact on the business. The risk landscape of IT and data is constantly increasing with deliberate acts of cyber crime becoming more sophisticated and frequent across all markets. → Significant investment in the centralised health, safety and environment (HSE) function to maintain consistency and quality. → We have comprehensive safe systems of work which are well communicated through a robust and coordinated internal training regime. → Regular HSE training and updates are held, predominantly delivered by the internal function. → Independent review of health and safety cases by insurers where recommendations of change are implemented. → Internal Health and Safety auditing → We have robust processes for inducting takes place using third party validation. new staff to ensure importance of health and safety is emphasised together with detailed method statements for working safely. → Annual Group Health and Safety strategy and plan are produced. Mitigation → The Business Continuity Plan is constantly reviewed and frequently tested to ensure it is fit for purpose. → Business continuity and IT disaster recovery management resource is convened at short notice to manage the response and any associated risk to the Group. → Various information security policies and standards are in place with a focus on network security, access controls, encryption, system security, data protection and information handling. Increased gross risk exposure → Information security penetration is externally tested to identify improvement recommendations which are then implemented. → Data Security Committee in place to monitor and review both physical data security and IT data security. Annual report and accounts 2016 21 Mears Group PLC Strategic reportViability statement The Group has a broad spread of customers – our largest client constitutes less than 7% of Group revenues which, while significant, would, in the event of its loss, not impact on the Group’s wider viability. Business planning and financial viability In accordance with C.2.2 of the UK Corporate Governance Code 2014, the Directors have assessed the viability of the Group over a five-year period. A period of five years has been chosen as it reflects the average contract length of five years. Whilst the Group holds contracts which extend beyond this time horizon, a period of greater than five years is considered too long, given the inherent uncertainties involved. Two scenarios were modelled. The first scenario assumed a significant business failure within the Housing division. The model assumed a 6% per annum compound reduction in revenues for each year within the five-year plan, a total reduction of 22%. This was combined with a 1% deterioration in the Housing gross margin which, when combined with an under-recovery in central support overheads, resulted in a reduction in Group net profit margin from 4.3% to 3.0% in year five of the model. The Board considered its key risks. The principal risks are set out on pages 18 to 23 and the most relevant of these risks to viability were considered to be: → a service delivery failure, possibly resulting in the death or harm of a service user, with significant negative publicity and long-term reputation damage; → deterioration in carer churn rates and poor recruitment practices resulting in a material reduction in carer numbers, sales volumes and profitability; → a health and safety failure resulting in serious personal injury or death of an employee or service user, leading to significant financial penalties and significant reputation damage; and → a failure in our IT systems, impacting upon our ability to deliver our services. We provide services to vulnerable people and even a short period of downtime could cause severe reputation damage. A serious system failure could have significant impact on invoicing our customers and collecting cash. A financial model has been built on a contract-by-contract basis for the next twelve months and extended on a business-by-business basis for the following four years. The five-year plan considers cash flows as well as financial covenants. Consideration was given to a number of key assumptions, namely future revenue growth, operating margins and working capital management. The assumptions set were considered conservative given the focus of the model is in respect of underperformance. Sensitivity analysis was undertaken to stress test the resilience of the Group and its business model to the potential impact of the Group’s principal risks, or a combination of those risks. The Board overlaid the potential impact of the principal risks which could affect solvency or liquidity in ‘severe but plausible’ scenarios. The second scenario assumed a similar failure within the Care division. The model assumed a 15% per annum compound reduction in revenues for each year within the five-year plan, a total reduction of 50%. This was combined with a 2% deterioration in the Care gross margin which resulted in a Care operating loss of £4.3m in year five of the model but no reduction in Group net profit margin in the reducing materiality of Care in this scenario. Both scenarios showed that the Group would remain viable even in the event of a severe business failure over an extended period. No mitigating actions were included within either scenario, which was considered conservative albeit not entirely realistic. Whilst the Group’s continuing operations are entirely based in the UK, the large network of branches does reduce the risk of serious business interruption. In addition, the Group has a broad spread of customers – our largest client constitutes less than 7% of Group revenues which, while significant, would, in the event of its loss, not impact on the Group’s wider viability. The Board has recently completed an ‘amend and extend’ of the Group’s revolving credit facility which now runs to July 2020. The Board has considered the Group’s ability to renew the existing debt facilities in July 2020 and believes that the Group has a high level of comfort that replacement sources of funding will be available at that time. The Board also considered the impact of Brexit on the business activities and does not envisage any significant negative effect impacting on the Group’s viability. The Board accepts that uncertainty of results increases as the projections cover a five-year period. However, the Board concluded that there was a reasonable expectation that the Group will continue in operation and would be able to continue to meet liabilities as they fall due over the five-year period of business planning. 22 Mears Group PLC Annual report and accounts 2016 Strategic reportKey risks impacting upon viability and delivery of our strategic priorities Reputation Service quality remains our key differentiator and underpins our future viability. Customer excellence rating 91% (2015: 91%) People We have over 15,000 employees; the majority of these are interacting with our customers on a daily basis. It is this day-to-day contact which is fundamental in delivering a differentiated service and high levels of satisfaction. It is imperative to Mears’ viability that the Group’s strategic goals are well communicated and understood by all employees. Health and safety Mears’ services and operations involve a series of high risk activities, ranging from dealing with vulnerable customers in need of care, to our building related services, such as working at height and working with gas and electricity. Customer complaints 0.27% (2015: 0.30%) Accident frequency rate 0.16 (2015: 0.17) The Board reviewed the Group’s viability in terms of both its financial viability and its ability to achieve its strategic goals. Our strategic priorities page 12 Effective risk management underpins the Group’s long-term viability. Risk management and principal risks page 18 Annual report and accounts 2016 23 Mears Group PLC Strategic reportReview of operations Summary → The Housing business has continued to deliver excellent financial performance. → We have positioned ourselves to provide a broader service offering to a market where we are seeing an increasing blurring of the boundaries around social, affordable and private rented housing. → The Group has made significant progress in rebalancing its portfolio of Care contracts to focus upon those which have a better mix of longevity, spend certainty and price. → In Care, whilst we have become increasingly selective in new contract bidding, it is pleasing that we have enjoyed a particularly buoyant period for winning new work. 2016 Operating segments Housing £m Care £m Total £m Housing £m 2015 Care £m Total £m Revenue 787.5 152.6 940.1 735.1 146.0 881.1 Operating result* Operating margin* 44.1 (1.2) 42.9 42.4 (1.6) 40.8 5.60% (0.79%) 4.56% 5.77% (1.10%) 4.63% * Pre amortisation of acquisition intangibles and long-term incentive plans. Housing Mears has quickly become the leading provider of housing management services to the public sector, delivering a range of innovative and unique solutions. The Board is very pleased with the progress made by our Housing division, where we have positioned ourselves to provide a broader service offering to a market where we are seeing an increasing blurring of the boundaries around social, affordable and private rented housing. Whilst we have increased the depth and breadth of our capabilities, we place particular emphasis upon ensuring that our wide spectrum of core skills is delivered from the individual operating unit, which is important given the increasingly complex housing challenges being faced by our clients. The Housing business has continued to deliver excellent financial performance with revenues of £787.5m (2015: £735.1m), an increase of 7% reflecting a particularly busy period of new contract mobilisations. Our operating margin of 5.6% (2015: 5.8%) reflects some dilution given this high number of new contract mobilisations. Typically, the Group anticipates a lower margin from a new contract during its mobilisation phase, being a time when the primary focus is in investing resources to establish excellent customer service. Having reported an operating margin of below 5.0% in the first half year, it is pleasing that operating margins normalised during the second half of the year. The Housing division has secured new contracts of over £250m, with a contract win rate on competitively tendered works of 39% (by value) (2015: £900m and 49%). Following a significant period of new contract awards in 2015, in the past year we have focused our attention upon existing contract renewals, notably Sedgefield and Manchester, both of which I am pleased to confirm have chosen to continue their existing relationship with Mears. We were also successful in extending our relationship with Gateshead, although the maintenance will now follow an insourcing solution. Whilst we focus upon a single Housing division, the following provides a breakdown of the revenue streams: Maintenance Regeneration Housing Management Total Housing revenues 2016 £m 2015 £m 602.0 589.0 86.0 99.5 98.4 47.7 787.5 735.1 24 Mears Group PLC Annual report and accounts 2016 Strategic reportMaintenance The Housing division saw maintenance revenues increase to £602.0m (2015: £589.0m). Organic growth of 2% underplays the level of activity in this area. Whilst our historic record of contract renewals is strong, we were disappointed to report, in early 2016, the loss of our flagship contract with Birmingham City Council following a competitive retender, a contract with annual revenues of some £28m. However, it was pleasing to report overall growth in 2016 despite the loss of such a significant contract. The majority of new contract awards commenced in April 2016 and as such only nine months’ trading is reflected in the 2016 trading numbers. Notable contract activities include: → Mears forming a new joint venture with Milton Keynes Council called YourMK, focusing upon the regeneration of key areas in Milton Keynes. The contract, which mobilised in April 2016, initially delivered repairs and maintenance services to nearly 11,500 homes but has since enjoyed a significant extension to the scope of works. This contract is valued at £250m. → Mears’ success in resecuring its Sedgefield contract, delivering responsive and planned maintenance to approximately 8,500 homes, which is valued at £110m over the ten-year contract term. This is a contract renewal, with the original contract having been awarded in 2008. → Mears being re-awarded with a multi-service contract with Manchester City Council on its own behalf and on behalf of Northwards Housing. The contract is for day-to-day repairs and maintenance including void property and general building works to Northwards Housing managed stock and leasehold properties and to Manchester City Council managed hostels, shared houses and residential dwellings. The contract is valued at £31m over its initial four-year term with potential to increase to £78m, subject to extension, over its full ten-year term. Revenue £787.5m +7% 2016 2015 2014 £787.5m £735.1m £714.7m Operating profit £44.1m +4% 2016 2015 2014 £44.1m £42.4m £34.4m Operating margin 5.6% 2016 2015 2014 5.6% 5.8% 4.8% See note 1 to the financial statements. CASE STUDY: HOUSING Joint venture tackles homelessness Homelessness is a growing problem, especially in London, and increasingly councils are looking for innovative ways to fulfil their duties to vulnerable households. Investors gain a return on their investment while the Council stands to save substantially on B&B costs over the long term. More than 1,000 households in Bromley are in temporary accommodation – in many cases this means costly B&Bs, as there is not enough suitable accommodation to meet demand. A new joint venture between the London Borough of Bromley and Mears, named More Homes Bromley, will see Mears purchase and refurbish 400 properties to the Decent Homes standard and manage them on behalf of the council. The £80m landmark venture is funded by BAE Systems Pension Funds. Annual report and accounts 2016 25 Mears Group PLC Strategic reportReview of operations continued Regeneration The Housing division saw capital work revenues reduce to £86.0m (2015: £98.4m). Whilst the level of spend on one-off refurbishment projects has reduced, we are seeing a high number of new development opportunities with existing customers. During the last twelve months, Mears has broadened its service capability to include the provision of new build services through our supply-chain partnerships, primarily targeting our existing Housing clients. Mears is not a property developer or general builder; rather, we will use our entire portfolio of services to provide a more integrated solution which enhances our focus on managing assets for the benefit of owners and client public sector bodies. We see this as a growth area for our Housing division; however, during this transitional period, the new development opportunities have not generated sufficient revenues to replace the reduction of refurbishment works. Notable contracts secured during the period include the following: → Further to the long-term maintenance works that we are delivering for our Welwyn and Hatfield Council client, we have been engaged to develop 29 affordable rented homes on a brownfield site. The works are valued at £5.6m and the contract is due to complete at the end of 2017. Mears will take over the long-term maintenance of these new homes, giving a seamless solution to the housing requirements of Welwyn and Hatfield Council. → Mears’ success in securing the joint venture with Milton Keynes Council, which saw the commencement of repairs and maintenance services in April 2016, has already seen the scope of works expanding. Mears has been engaged to develop 80 new homes spread across seven infill sites around the city. These homes will be for affordable rent, once finished, with a contract value of approximately £11m. Site work commenced during the first quarter of 2017 and will complete in early 2018. Housing Management The Housing division saw Housing Management revenues more than double to £99.5m (2015: £47.7m). This business stream is seeing significant growth opportunities with an annual revenue run rate now at around £120m. Mears has quickly become the leading provider of housing management services to the public sector, delivering a range of innovative and unique solutions. The innovative nature of these propositions has meant that much of the work has been secured without the requirement for an extended, competitive tender process. We expect this to be a continuing trend. → Mears mobilised a Key Worker Housing contract providing a full housing management service throughout the UK. This includes sourcing properties, managing the application and allocation process as well as the subsequent day-to-day administration. The contract, which fully mobilised in April 2016, is valued at over £160m over the initial three-year term. → Mears has been engaged by the London Borough of Bromley (Bromley) to arrange the purchase and refurbishment of 400 homes currently under private ownership. The key aim is to provide Bromley with an alternative, affordable housing supply to replace the significant bed and breakfast accommodation costs currently incurred by Bromley. Mears has engaged funding partners to finance the purchase of properties on behalf of the client. We will then carry out refurbishment works and act as managing agent for the portfolio. The contract will be operated by Bromley and Mears for up to 40 years and is valued at circa £50m. The operation mobilised in February 2016, and the purchase and refurbishment phase will continue over a period of 24 months. This is typical of a number of opportunities within the pipeline. → Mears has entered into a contract with Safe Haven, a charity which acquires homes to use as temporary accommodation for the London Borough of Ealing. Safe Haven owns around 200 homes with a clear plan to increase this number to 400. Mears is engaged, over an initial 20-year term, to carry out all housing management services, including an initial refurbishment programme, so that the homes will now be a long-term affordable housing provision. Our strategy We have maintained a consistent strategy across Housing over a long period: 1 Focus on delivering a high level of customer service We have continued to maintain high levels of customer satisfaction. Over 90% of tenants regard our services as excellent. 2 Drive innovation to provide better outcomes for tenants Successful development and introduction of new partnership models such as our joint ventures with Milton Keynes Council and the London Borough of Bromley. Our service delivery is supported by our internally developed IT systems underpinning our capabilities and driving innovation. 3 Evolve the breadth and depth of our service offering We have, over recent years, extended our Housing offering from our original maintenance offering to full maintenance, regeneration and housing management capability. In addition, Mears provides solutions for clients who wish to insource their maintenance services. 26 Mears Group PLC Annual report and accounts 2016 Strategic report → Mears, through its Registered Provider of Social Housing, and HB Villages are working in partnership to create a new supply of purpose-built accommodation for the Care sector. The objective is for HB Villages to develop and fund the new housing with Mears providing long-term tenancy and asset management services to the residents. The first scheme in Northampton is for an 80-home extra care complex, with Mears providing both housing management and care services. → Mears completed a transaction with Chapter 1 Housing Association for the management of 900 homes in the South and West of England. Following a strategic review by Chapter 1, this form of private sector leased property for homeless families was considered non-core, and they searched for a partner that could ensure a continuity of a quality service. This arrangement also introduced Mears to a further twelve Local Authorities and Mears will look to extend its service offering to those new customer relationships. CASE STUDY: HOUSING Empty homes – improving neighbourhoods With a severe shortage of affordable homes in the UK, empty properties represent a significant waste of resources and a missed opportunity for meeting the housing needs of communities across the country. In the London Borough of Newham, Mears was selected as the preferred partner to refurbish, let and manage 185 flats and houses in 2011, this has risen to over 270 properties. The annual savings to Newham are expected to be in the region of £1.5m. Bringing long-term empty properties and redundant commercial buildings back into use is much more cost effective than building new properties to tackle the shortage of affordable homes, and also improves neighbourhoods. Mears works with several Local Authorities in London, Luton and the South East to revitalise empty properties and provide ongoing management and maintenance. Mears has also worked with: → London Borough of Hounslow – 40 unit hostel → London Borough of Sutton – 40 self-contained units → Luton Borough Council – 54 Room Hostel → Rushmoor Borough council – 45 self-contained units Other customers include London Borough of Enfield, Circle Housing Group and East Thames Housing Association. 4 Focus on building sustainable, long-term partnerships During 2016, we retained a number of key client relationships including Sedgefield and Manchester. 5 Our broader service offering is enabling us to generate multiple revenue streams from single client relationships. Invest in the workforce to ensure that it is both motivated and well trained We invest in extensive training and development of staff at all levels. We have recently opened National Training Academies in both Rotherham and Brentwood. We are one of only twelve UK companies who have been recognised by the Government as a Social Mobility Champion. This is for our work in creating opportunities for people from disadvantaged backgrounds. We employ over 400 apprentices. 6 Primarily focus upon organic growth Given our broad capabilities, our primary focus is on organic growth. We continue to consider bolt-on acquisitions to reinforce our leadership position. Annual report and accounts 2016 27 Mears Group PLC Strategic reportReview of operations continued CASE STUDY: HOUSING YourMK joint venture partnership YourMK, the partnership between Milton Keynes Council and Mears, came into existence on 1 April 2016. YourMK is responsible for the strategic asset management of around 11,500 council-owned properties and leading the regeneration programme in Milton Keynes. Since April, the operational team has completed around 25,000 jobs, with 99% completed within the 28-day target. They have reduced the void turnaround from 16 days to ten, and achieved an average customer satisfaction score of 96.5%. In addition, YourMK is leading the affordable housing building programme for Milton Keynes Council and is currently working with Mears on five sites, with potential for considerably more in the pipeline. The five-year business plan – detailing where regeneration and related work will begin, plus the planned works programme aligned to the business plan – will be published in spring 2017. Completed over 25,000 jobs, with over 99% completed within the 28-day target Customer satisfaction score >95% 28 Mears Group PLC Annual report and accounts 2016 Care The Group has made significant progress in rebalancing its portfolio of Care contracts to focus upon those which have a better mix of longevity, spend certainty and price. Revenues for the Care division were £152.6m (2015: £146.0m), reflecting the full-year impact of the Care at Home acquisition. The Care division reported a loss of £1.2m (2015: £1.6m), broadly in line with management expectations and reflecting the continued challenges of homecare and the additional costs incurred in restructuring our Care activities. The Group has made significant progress in rebalancing its portfolio of Care contracts to focus upon those which have a better mix of longevity, certainty of spend and price. The Group entered 2016 with the imminent introduction of the National Living Wage (NLW) hanging over the Care sector with an increase in the National Minimum Wage from £6.70 to £7.20 per hour from April 2016. In addition, the Scottish Living Wage (SLW) signposted an increase from £6.70 to an enhanced £8.25 per hour, which further impacted on around 25% of our Care operations. Whilst the majority of care providers were very supportive of the principle of paying carers a rate that is more reflective of the crucial role that they deliver, the additional pressure on clients’ already overstretched budgets brought significant uncertainty as to how this additional cost would be funded. The Government has continued to provide some short-term relief, allowing Local Authorities to levy a new social care precept of up to 2% on Council tax, with the money raised to be spent exclusively on adult social care. In addition, the Spring Budget 2017 committed a further £1 billion of additional funding to 2017/18 that will go some way to preventing an immediate collapse but does not represent a long-term solution. During the second half of 2015, and running into 2016, we carried out a detailed review, on a contract-by-contract basis, of charge rates and care worker pay rates. The process placed particular focus upon managing the impact of the NLW and also identifying more effective solutions to the sourcing and retention of sufficient, good quality, care workers. Pleasingly a large number of care commissioners have shown a deeper understanding of the true underlying cost of delivering care. This has resulted in an increasing acceptance that the NLW only really represents a legal minimum, and that one cannot expect to recruit individuals to deliver homecare, and to accept the responsibilities that go with this role, at this minimum rate. It remains a key part of our long-term strategy to see care workers properly recognised as the skilled workers they undoubtedly are. Strategic reportIn aggregate, Mears enjoyed an increase in charge rates of circa 7% within England and Wales and around 15% in Scotland, which is generally in line with the increase in our carer payroll cost and is better than the average increase given to providers across the sector. The outcome of our review has highlighted those care commissioners who we believe, in the medium term, have little desire to change their commissioning strategies and where there is little likelihood of contract pricing that will allow providers to deliver care responsibly. This outcome led us to carry out a substantial restructuring of our Care division, which has seen a reduction in our Care activities by some 20%, a significant proportion of which arose within the North of England, which has the lowest charge rates and more traditional procurement methods. The initial round of branch closures was substantially completed in 2016. Further refining has taken place since the end of the year, seeing Mears withdraw from Northern Ireland and a number of Midlands-based contracts. CASE STUDY: CARE Help to live at home Mears’ partnership with Wiltshire Council to deliver the innovative Help to Live at Home care service has extended to cover six of the county’s eight areas. The new contract is worth £80m over four years, with the option to extend for a further two years. Help to Live at Home takes a different approach to homecare, getting away from the traditional ‘time and task’ model, focusing instead on what people want from their care based on outcomes. Outcomes-based commissioning aims to help people regain independence and prevent them from needing longer-term care. In the first three months of operating the new areas, Mears was able to grow the amount of work delivered by 17%, helping to reduce the rising pressures on health and social care. Mears already successfully runs the service in the South of the region and the new contract extends the service in the East, West and much of the North of the county. New contract value £80m over four years Revenue £152.6m +5% 2016 2015 2014 £152.6m £146.0m £124.0m Operating profit £(1.2)m +25% 2016 £(1.2)m 2015 £(1.6)m 2014 Operating margin (0.8)% 2016 (0.8)% 2015 (1.1)% 2014 £9.6m 7.8% See note 1 to the financial statements. Annual report and accounts 2016 29 Mears Group PLC Strategic reportReview of operations continued A summary of the changing volumes and charge rates as a result of the refocusing of our Care activities is detailed below: Hours per week Annualised revenue £m Charge rate per hour £ As at 1 January 2016* 216,000 148.1 13.19 Contract closures Material new contract awards Other net volume decrease (48,200) 9,100 (15,500) As at 31 December 2016 161,400 126.2 15.04 * Includes contracts under notice of termination as at balance sheet date. Whilst we have experienced significant downsizing in certain geographic areas, we are experiencing a solid pipeline of good quality bidding opportunities. In addition there are growth opportunities with the majority of our remaining clients. Whilst we have become increasingly selective in new contract bidding, it is pleasing that we have enjoyed a particularly buoyant period for winning new work, securing over £200m of contract wins at a win rate of 74% by value (2015: £80m and 63%). More importantly, the quality of the new orders secured is much improved, enjoying a significantly higher charge rate, which enables us to reflect this within our carer pay and conditions. The average contract lengths of these latest awards has increased to in excess of five years and the number of providers reduced significantly, which reflects the trends which we anticipated and should in the future result in a better quality of earnings from our Care activities. Notable wins include: → a contract with Devon County Council for the provision of homecare services. The contract is for an initial five-year period with an option to extend for a further two years and is worth over £100m. Mears is acting as the lead provider partner in four geographic areas across the South of Devon and is responsible for organising and delivering personal care services in that area, predominantly coordinating and supporting the local SME providers. The contract commenced in July 2016; → further contracts by Wiltshire Council, as lead provider within zones in the North and West regions of the county, to add to our existing work in the South and East. The new contract, which is valued at around £85m over its six-year term, means Mears is the prime provider for the significant majority of this work across the county, doubling its previous value of work. The new contract commenced in August 2016; → the renewal of our existing Care contract with the London Borough of Richmond, a client with whom we have enjoyed a long-standing relationship. The new contract, which commenced in July 2016, is for six years and will see us doubling our sales volume; and → being re-awarded its existing Care contract with Aberdeenshire Council, delivering a wide spectrum of homecare and supported living services to people with complex needs, including autism and mental health. The contract has increased our provision to 4,000 hours of support per week. The main limitation to achieving growth in Care and to delivering a consistent, good quality service, remains the sourcing and retention of sufficient care workers of good quality. Whilst we have experienced some improvement in carer turnover during the year, with churn rates falling by 14%, this still remains at unsustainable levels. We remain committed to driving improvement to the conditions of care workers, including better financial rewards and incentives and a more formalised career pathway. Our annual survey of staff also showed a significant increase in job satisfaction, reflecting the effort we have put into making Mears the place to work for care staff interested in developing a career in the sector. We are pleased to see the various UK regulators implementing tougher standards around quality, which will play to our strengths. We are particularly pleased with our regulatory performance in our key Scottish market and, while we have seen some pressure points in England, our processes and controls continue to improve. Our strategy We have maintained a consistent strategy across Care over a long period: 1 Focus on delivering a high level of customer service We achieved Customer Service Excellence accreditation for our Care division, which adds to our existing accreditation for housing services. We have delivered excellent regulatory compliance in Scotland. We are working hard to improve the consistency of our service delivery in England. 2 Drive innovation to provide better outcomes for service users Our Wiltshire contract is very much the flagship for the development of outcome-based working, as opposed to the traditional care focus on task and time. Within Wiltshire, all care plans are written based upon achieving specific outcomes for individual service users. We anticipate more clients commissioning care in this way. 3 Evolve the breadth and depth of our service offering Increasing integration of NHS and social services is growing the number of people with more complex conditions who need care at home. Complex care covers services such as spinal injury treatment, head injury treatment, end of life care, dementia care and learning disability support. 30 Mears Group PLC Annual report and accounts 2016 Strategic report There has never been greater stakeholder pressure to increase funding into social care, including from organisations such as the NHS, which has really been feeling the impact of the underfunded social care system. Mears is playing its part in encouraging additional investment to be made and the additional funding secured from the Spring Budget 2017 and Council tax increases is positive. Mears is widely recognised now as the organisation in homecare that is doing the most to drive change, which we believe is a real positive for the long-term development of our business. CASE STUDY: HOUSING National Training Academy Mears opened our new national Training Academy at the New York Stadium in Rotherham, running courses on plumbing, electrics, roofing, carpentry, joinery, plastering and painting and decorating. The Training Academy delivers accredited apprenticeships for those starting a career in construction or repairs and maintenance, as well as providing training for those currently working in the trades. The Training Academy is our national training facility which also operates a training academy in Brentwood, Essex. The Training Academy also supports unemployed young people and adults of all ages and sexes to gain skills for employment. This includes a new business and management school and, in the future will offer purpose-designed courses and services to our clients. During 2016, Mears recruited over 100 new apprentices 4 Focus on building sustainable, long-term partnerships We are increasingly selective in bidding for new contract opportunities. Our recent success in being awarded five-year contracts with both Devon County Council and Wiltshire Council is reward for this. These contracts are secured at rates which allow us to recruit a workforce delivering high quality care. 5 Invest in the workforce to ensure that it is both motivated and well trained We have agreed new minimum pay levels for our staff which are set ahead of NLW. We are also investing further in training and a range of other benefits. We believe this investment is fundamental in helping reduce the staff churn rate. It is central to our strategy that care workers are properly recognised as the skilled workers they are. 6 Focus upon organic growth With the current challenges in Care, we are entirely focused upon developing our Care offering organically. Whilst we continue to have aspirations to grow the business, our focus in the short term will be on quality and we may see some reduction in size. Annual report and accounts 2016 31 Mears Group PLC Strategic reportFinancial review Andrew Smith Finance Director We operate in a high volume, low value and low margin environment where we have delivered consistent financial results over an extended period of time. Summary Earnings The normalised diluted EPS, which allows for the potential dilutive impact of outstanding share options, increased by 9% to 30.36p (2015: 27.94p). Dividend The Board has recommended a final dividend of 8.40p per share which, when combined with the interim dividend, gives a total dividend for the year of 11.70p (2015: 11.00p), a 6% increase, reflecting the Board’s confidence in the underlying performance of the Group. Cash The efficiency with which the Group manages working capital remains a cornerstone of our business. The Group’s conversion of EBITDA to cash in the year was below target at 70% (2015: 99%). The solid organic growth delivered in 2016 resulted in some working capital expansion and the increase in trade receivables reflects this. 32 Mears Group PLC Annual report and accounts 2016 Group revenue £940.1m (2015: £881.1m) Dividend per share 11.70p (2015: 11.0p) Group operating profit* £41.9m (2015: £38.7m) Cash conversion 70% (2015: 99%) * Before acquisition intangible amortisation. This provides further key information in respect of the financial performance and financial position of the Group to the extent that this is not already covered within the Review of Operations. Acquisitions Having completed a number of significant acquisitions in recent years, notably the Care at Home division of Care UK in 2015 and the Omega Group in 2014, the past year was focused upon consolidation and organic growth with no new acquisitions completed in the period. Contingent consideration of £10.0m was paid during the year, relating to the previous acquisition of Omega. A further payment of £5.0m has been paid in the early part of 2017. The Directors believe it is highly probable that the full contingent consideration will be paid, with the final instalment of £5.0m therefore anticipated in January 2018. The acquisition of Omega included an interest in 50% of the share capital of three jointly owned entities. During 2015, the Group increased its holding to 75% in the year for a cash consideration of £6.1m. Mears has agreed a forward purchase agreement to acquire the remaining 25% for consideration of £6.1m in January 2018. Discontinued activities In November 2013, the Group completed the disposal of the entire share capital of Haydon Mechanical and Electrical Limited (‘Haydon UK’). As part of that disposal, the Group retained the beneficial interest in 49% of the share capital of an investment in a company registered in the United Arab Emirates, Haydon Mechanical and Electrical Company LLC (Haydon LLC). This beneficial interest was retained due to a number of performance guarantees in place at the time of the disposal which would unwind as the underlying contracts were completed. During the year, the Group reduced its interest to 1% of the share capital in return for a nominal consideration. At 31 December 2016, a balance of £3.3m was due from Haydon LLC to the Group. Upon the remaining guarantees being satisfied and the outstanding debtor settled, the Group is in the process of transferring the remaining share to the local management. Strategic reportIn the year, the Group made a full provision against all remaining amounts due from Haydon UK. This was balanced with an operating profit generated by Haydon LLC in the period leading up to its disposal. Accordingly, the net impact on the profit for the year was zero. Amortisation of acquisition intangibles A charge for amortisation of acquisition intangibles of £10.7m (2015: £10.8m) arose in the year. This charge relates to a number of acquisitions in both Housing and Care over recent years. The remaining unamortised value of £19.7m (2015: £26.8m), predominantly relating to order book and customer relationships, will be written off over their estimated lives. Net finance charge A net finance charge of £1.8m has been recognised in the year (2015: £1.9m). The finance cost in respect of bank borrowings was £2.8m (2015: £2.7m), reflecting a slightly higher average debt level. The Group held two interest rate swaps covering 2016. The first fixed at a rate of 1.92% on £27.5m of borrowings and expired in August 2016. The second, which ran throughout the year, fixed at a rate of 1.85% on £30.0m of borrowings. The remaining debt bore a variable LIBOR rate. The Group pays a margin over and above LIBOR which is subject to a ratchet mechanism and which, during the year, was typically in the region of 1.5% above LIBOR. The Group entered into further interest rate swaps impacting upon future periods. One swap, which commenced in January 2017, fixed the rate for a period of four years at 0.83% on £40.0m of borrowings. The net finance costs also include a net credit generated from defined benefit pension accounting of £0.9m (2015: £0.7m). Tax expense Current tax recognised in income statement Deferred tax recognised in income statement Total tax expenses recognised in income statement* Profit before tax and before amortisation of acquired intangibles Profit before tax Effective current tax rate * Continuing activities. 2016 £m 4.7 (1.0) 3.7 2015 £m 5.1 (1.3) 3.8 40.1 36.8 29.4 25.9 16.0% 19.7% The Group complies with all relevant tax laws and regulations regarding the payment of tax and the provision of information to tax authorities. Mears does not undertake any aggressive tax planning or schemes that utilise low tax regimes in other jurisdictions for the purposes of tax avoidance. Mears seeks to maintain an open and honest relationship with the tax authorities and benefits from an HMRC ‘low risk’ status. The headline UK corporation tax rate for the year was 20.0% (2015: 20.3%). The total tax charge for the year on continuing operations was £3.7m (2015: £3.8m) resulting in an effective total tax rate of 11.6% (2015: 14.7%). The key reconciling items to the headline rate were the utilisation of brought forward losses relating to previous acquisitions, an annual corporation tax deduction in respect of share options and adjustments in respect of the prior year estimated tax charge. Total tax includes deferred tax, which is an estimate of the tax due on any differences between the carrying value and the tax base of assets or liabilities. The current tax charge excludes deferred tax and is therefore affected by both permanent and temporary differences in the recognition of items for tax and accounting purposes. The current tax charge for the year on continuing operations was £4.7m (2015: £5.1m), which represents an effective tax rate of 16.0% (2015: 19.7%). For both the years, the key reconciling items to the headline rate were permanent differences on the amortisation of acquisition intangibles and the utilisation of brought forward tax losses primarily associated with the Morrison business. Earnings per share (EPS) 2016 p 2015 p Change % Diluted earnings per share* 23.41 20.10 +16% Normalised diluted earnings per share** Dividend per share * Continuing activities. 30.36 11.70 27.94 11.00 +9% +6% ** Continuing activities before acquired intangible amortisation with an adjustment to reflect a full tax charge. The normalised diluted EPS, which allows for the potential dilutive impact of outstanding share options, increased by 9% to 30.36p (2015: 27.94p). Normalised earnings are based upon continuing activities and exclude the amortisation of acquisition intangibles together with an adjustment to reflect a full tax charge of 18% (2015: 18%). We believe that this normalised diluted EPS measure better allows the assessment of operational performance, the analysis of trends over time, the comparison of different businesses and the projection of future performance. Read the Report of the Audit Committee on page 56 View the primary statements on page 100 Annual report and accounts 2016 33 Mears Group PLC Strategic report Financial review continued Cash performance Operating profit* Depreciation and amortisation EBITDA Cash inflow from operating activities EBITDA to cash conversion Net (debt)/cash at balance sheet date Average net debt in year** * Before amortisation of acquisition intangibles. ** Average debt represents a 366-day mean. 2016 £m 41.9 7.4 49.3 34.5 70% (12.4) 85.0 2015 £m 38.7 6.3 45.0 44.5 99% 0.8 68.0 The efficiency with which the Group manages working capital remains a cornerstone of our business. The Group’s conversion of EBITDA to cash in the year was below target at 70% (2015: 99%), reflecting the organic growth delivered in 2016 resulting in some working capital expansion and the increase in trade receivables reflects this. The Group saw a reduction in trade payables and its associated cash outflow, impacted by a changing sales mix. The Group continues to drive a cash culture internally, which is so important in a high volume, low value and public sector environment. A cash conversion target of in excess of 90% remains the key performance measure and one which historically the Group historically has an excellent track record of delivering. Balance sheet Goodwill and intangible assets Property, plant and equipment Inventories Trade receivables Trade payables Net (debt)/cash Deferred consideration Cash flow hedge Pension Taxation Net assets 2016 £m 2015 £m 219.6 224.9 20.3 11.2 18.4 9.0 157.2 146.9 (186.6) (188.5) (12.4) (16.5) 0.4 8.5 (3.0) 0.8 (20.9) (0.9) 4.0 (2.1) 198.7 191.6 34 Mears Group PLC Annual report and accounts 2016 Goodwill and intangible assets The carrying value of identifiable acquisition intangibles at 31 December 2016 was £19.8m (2015: £26.8m), which predominantly relates to order book and customer relationships valued on acquisition. The carrying value will be amortised over its useful economic life, with over half of this value being expensed over the next two years. The net movement in the year comprised an increase of £3.7m relating to the finalisation of the fair value adjustments made in respect of the Care at Home acquisition completed in 2015 together with a reduction of £10.7m relating to amounts amortised and charged to the Income Statement during the year. The carrying value of goodwill of £193.7m (2015: £193.1m) is not amortised but is reviewed for impairment on an annual basis or more frequently where there is an indication of impairment. The headroom between the goodwill carrying value of the Care division has been low for a number of years. The Board has carried out a detailed impairment review and was encouraged that the improved financial and non-finance performance, driven by the Care rationalisation, has resulted in a significant improvement in this headroom. In addition, intangible assets includes the capitalisation of expenditure incurred in developing the in-house IT platform. Additions in the year amounted to £2.9m (2015: £3.0m) with a carrying value of £6.1m (2015: £5.1m), which is amortised over four years. Tangible fixed assets The Group capital expenditure of £7.4m (2015: £6.2m) relates to IT hardware, other office equipment and the refurbishment of new office premises. The level of capital expenditure in respect of property, plant and equipment in any single year has a close correlation to the number of new contracts mobilised in that period. As detailed within the Review of Operations, 2016 was a record year in respect of new contract mobilisations. The majority of plant utilised by our operational teams is subject to short-term hire and motor vehicles are subject to operating leases and hence neither are included within capital expenditure or recognised as an asset within the balance sheet. Similarly, the Housing Management business has a large number of short-term property leases which are similarly not carried on the balance sheet. The new accounting standard IFRS 16 ‘Leases’ requires lessees to recognise assets and liabilities for all leases, subject to materiality, and is effective for the Group’s 2019 year end. A detailed analysis is being prepared during the course of 2017 to properly understand the impact of this new standard. The Directors’ current expectation is that the accounting methodology will have a material impact upon the balance sheet but is not expected to have a material impact upon the profit before tax. The Group’s bank facility agreement, and associated covenants, will not be impacted by these changes. Working capital and net debt Trade receivables and inventories increased to £168.4m (2015: £155.9m), which reflects the working capital expansion required to fund the organic growth delivered in the year. Trade payables reported a reduction to £186.6m (2015: £188.5m), reflecting a shift in the sales mix in favour of Housing Management, which carries a lower level of trade payables compared to the Housing maintenance activities. Strategic reportOur net debt position at 31 December 2016 was £12.4m (2015: net cash of £0.8m). The Group seeks to minimise its trade receivables at both its June and December period ends, resulting in an atypical low net debt balance. A far more important metric is the Group’s daily net debt balance, which provides a better indication of working capital management. The average net debt over the year was £85m, which represents an increase compared to the prior year, having funded both acquisitions and organic growth. During the year, the Group completed an ‘amend and extend’ to its revolving capital facility which extended the expiry date from July 2018 to July 2020. The total commitment under the facility increased from £120m to £140m. The revised facility enjoys a reduction to the interest cost, with the margin payable over and above LIBOR, which is subject to a ratchet mechanism, reducing from a range of 150–250bps to 120–220bps. The Group continues to maintain a strong relationship with both of its bankers, Barclays and HSBC, and meets with them regularly. Pensions Scheme assets Scheme liabilities Net asset/(liability) Current service cost Scheme assets Scheme liabilities Net asset/(liability) Current service cost Group schemes £m 2016 Other schemes £m Total £m 149.5 406.9 556.5 (137.7) (410.3) (548.0) 11.8 2.1 (3.3) 4.4 Group schemes £m 2015 Other schemes £m 8.5 6.5 Total £m 116.5 332.7 449.2 (111.3) (333.8) (445.1) 5.2 2.1 (1.1) 5.5 4.1 7.7 The Group participates in two principal Group pension schemes (2015: two) together with a further 33 (2015: 30) individual defined benefit schemes where the Group has received Admitted Body status in a Local Government Pension Scheme. At the point of tendering for new contract opportunities, the Group seeks to minimise its exposure to future changes in the required pension contribution rates and to future liabilities resulting from scheme deficits. Whilst the aggregate of all the schemes reports a net asset position, the Group is mindful of managing its risks in this area. Under IAS 19, pension scheme liability values are driven by changes in the net discount rate, which is the yield on high quality corporate bonds less the long-term rate of expected price inflation. Following the result of the EU referendum, an increasingly volatile macro- economic environment has resulted in a downward move in the net discount rate. This has led to a significant increase in pension liabilities. Positively, the pension schemes are reporting strong increases in their scheme assets which have, in aggregate, exceeded the increase in the associated defined benefit obligation. Overall, the Group has reported an increase in its pension net asset from £4.1m to £8.5m. However, one significant negative resulting from the changing assumptions is the charge to the income statement, being the current service cost. The pension charge to the income statement for 2017, which is fixed at the start of the year using the assumptions set at December 2016, is £9.0m, increasing from £6.5m. This element of pension accounting is a non-cash item. Typically cost recovery for pension costs within the underlying customer contracts is aligned to employers’ contributions which are, in the short term at least, unchanged. Guidance for 2017 The 93% visibility of consensus forecast revenues secured for 2017 at the turn of the year fell marginally short of the 95% target. Revenue visibility for 2017 has subsequently increased to 94%. The Group targets annual revenue growth in Housing of 5% to 10% per annum, and our expectation for growth in 2017, given the small short-fall on the headline visibility measure, would be at the bottom end of that range. Our Housing margin has historically been in the range of 5.6%–5.9%. The lower number of new contract mobilisations in 2017 will remove some of the margin dilution experienced in 2016. The shifting sales mix towards Housing Management services, which typically generate a higher operating margin, also provides an opportunity for margins to improve slightly. On the downside, the increase in pension service costs, following a reduction in the associated net discount rate, will reduce Housing profits by circa £2.5m. In Care, the Group is focused on achieving good levels of service at sustainable margins and there is less ambition for achieving revenue growth. During 2016, the Group took the decision to exit from around 20 of its Care contracts and a number of these closures have continued into 2017. However, a number of key new contract wins have also delivered some strong organic growth. The Group has previously made commitments on its Care margins, with the expectation that over time a margin can be delivered in Care that is similar to those delivered in Housing. In 2017, we expect Care performance to be in line with that trajectory and return to profit. We will continue to manage working capital to a high standard, targeting EBITDA to cash conversion in excess of 90%. Annual report and accounts 2016 35 Mears Group PLC Strategic reportSocial value At the heart of Mears lies a strong sense of responsibility towards improving people’s lives. We are committed to achieving this by ensuring everyone we work with creates greater value and receives wider benefits from an integrated social value approach. We aim to lead the way with social value in the markets where we operate, delivering lasting and meaningful outcomes through positive community engagement projects and effective measurement. The concept of social value has long been embedded in Mears. We already have a strong reputation for delivering some great long-term community and legacy projects. To maintain the focus on delivering excellence in social value, responding to the changing requirements of the Social Value Act of 2012, Mears conducted a review of our social value strategy. We needed to demystify social value by exploring the key challenges that social housing and service providers face in meeting the requirements of the Act. The review identified four key social value priorities. These have become the focus areas against which all of our community and engagement activities are considered and measured. Mears has a strong belief and culture that we have a responsibility to contribute to the needs of our wider society. So, further to understanding the outcomes of the legislation, the challenge we approached and delivered, with our social value commitments, was to develop a strategy and framework of practical approaches to effectively engage with communities and deliver social value on the ground throughout the business, with an effective measurement of the social impact that is created. Thought leadership approach Mears has taken an active approach to initiate thought leadership campaigns, to drive the agenda for social value in our markets. Mears has continued to lead thinking across the housing and care sectors. We have produced a report with the think tank ResPublica looking at factors influencing regeneration programmes and highlighting our work with Milton Keynes Council. Mears has also once again championed the case nationally for greater focus and investment in homecare and this subject has now risen significantly as an area of national debate. We will continue to champion the cause of care workers and service users. Social value board: our key influencers To support our approach to developing and continually improving our social value framework, the social value board was created. Our social value board will ensure we take a strategic approach to corporate social responsibility and embed it into each aspect and area of our operations. The board will provide validation and challenge, ensuring a continuous improvement focus to our social value delivery. To help us realise our vision, we have appointed three external experts to lead the board, who are all experts in the field. Net social impact £3,555,877 in the year Read the Independent Committee Members’ Report on Mears’ Social Value Activities on page 42 36 Mears Group PLC Annual report and accounts 2016 Hazel Blears The former Secretary of State for Communities and Local Government and Minister for Health championed the Social Value Act through Parliament. Richard Kennedy Richard is chair of the board for Social Value UK and co-chair of Social Value International. Dr Greg Lavery Greg is a global expert in sustainability with 18 years’ experience of implementing carbon reduction and money-saving waste management strategies across the world. Greg has spoken internationally on low carbon and sustainability. Strategic reportMears’ four social value priorities Championing local Improving the wellbeing of the people and communities we serve Fair for all Reducing prejudice, improving understanding of differences and supporting social inclusion Creating chances Providing career, skills and employment opportunities Healthy planet Making a positive contribution to our planet Delivering solutions for local activities The introduction of an annual social value calendar delivers national themes and awareness for local activity, focusing on the four key social value priorities. This has enabled the branches to design and deliver local activities, which supports the overall strategy and the delivery of the branch social value plan. Embedding the commitment and approach with accreditation success To ensure we always strive to improve, we open ourselves to an annual programme of accreditations. These external assessments tell us if we’re reaching what we aim to achieve. MARCH – JUNE Social Value Activity Planner 2016 14th-18th National Apprentice week 7th World Health Day 9th National No Smoking Day S c h o o l a w a r e n e s i o n s s s e s A p p r e n t s f o r c e s i 2nd-8th Deaf awareness week JULY – OCTOBER Social Value Activity Planner 2016 1st International day of older persons 1st-7th Volunteers Week 17th-23rd Dementia awareness week 6th-12th Child Safety week 12th Disability awareness Day Promotework placements 25th Macmillan coffee morning Sustainability month 3rd-9th Dyslexia awareness week 17th-23rd National baking week Children in Need MARCH APRIL MAY JUNE JULY AUGUST SEPTEMBER OCTOBER PLAN YOUR VOLUNTEERING HOURS 4th-10th National Public Health week 16th-22nd Learning at work week Alcohol awareness month 6th-12th Carers Week 13th-19th Adult learners Week PLAN ALEAF EVENT S U P P O R T A L O C A L S P O R T S E V E N T 12th International youth day Macmillan cancer awareness month World Altzheimers month 2nd World smile day Breast cancer awareness month 10th World mental health day World mental health awareness month Fair for all Championing Local Creating Chances Healthy Planet Fair for all Championing Local Creating Chances Healthy Planet Social Value Activity Planner 2016 NOVEMBER – DECEMBER We’re delighted to say that 2016 brought great success. Mears was accredited by G4S (on behalf of CSE) for customer service excellence, including community engagement, and by TPAS for our approach to tenant and customer engagement. We also continued to secure Social Mobility Champion status from the Department for Business Innovation and Skills. 21st-25th Road safety week Social isolaton awareness month 10th-16th Recycling week Heavenly hampers giveaway Winter warm awareness month International day of persons with disabilities 27th Small business saturday 1st NOVEMBER DECEMBER Celebration events for trainees/ apprentices 16th-22nd Alcohol awareness week Christmas hope Safe toys and gifts month Local Christmas charities 19th Social enterprise day Consider social isolation, plan a Christmas lunch Social mobility is about giving young people equal chances in life, regardless of where they were born, the school they go to, or the jobs their parents do. At Mears, we aim to make sure jobs and opportunities are open to everyone and we want to inspire other businesses to follow suit. Championing Local Creating Chances Healthy Planet Fair for all Measuring our success It’s vital to know if what we’re doing really does make a difference. The only way to do that is by measuring – but how can you measure social impact? It’s a tough challenge, particularly when social impacts can be hard (such as new jobs created) and soft (something as simple and yet profound as increased happiness). Our approach is based on evaluating wellbeing. A bespoke social value calculator enables Mears to measure our impacts and outcomes. “ The Social Mobility Champions have risen to the challenge set by Government and shown genuine commitment to bringing about positive change. They have gone beyond just volunteering in schools or changing the way they advertise jobs; they have made social mobility a core part of their corporate strategy.” Nick Boles, Skills Minister Annual report and accounts 2016 37 Mears Group PLC Strategic report Social value continued Focus on championing local: Improving the wellbeing of people and the communities we serve Working with partners and clients is key to identifying the local social value projects for the business to get involved in. Through the development of branch social value plans, which are measured to establish social impact, we can really push the boundaries to deliver the social value commitments in our communities locally. The local approach, whilst utilising the benefit of national partners, really makes a difference and we urge all business units and branches to develop their plans, to talk to their partners and clients, to work together, utilising our commitment of volunteers from the business, and to make a real POSITIVE difference to enable the individuals and the communities in which we operate to flourish and thrive. Total number of projects in the year to date 496 Total volunteering hours 58,650 Doing the right thing #BetterBusiness Delivering our social value plans: in practice We plan to make it easy for everyone in Mears to get behind our goal, by creating awareness and understanding and providing the framework and tools needed for success. The social value strategy and framework of tools have been cascaded to all key stakeholders in the business, utilising new methods of communication such as webinars, in addition to the traditional briefings and approach. Every branch of Mears makes a social value pledge, which focuses on specific activities to improve its local community in at least one of these areas. All branches are measured on a social value plan. Insight into focusing on the right projects in the right locations… We have developed a bespoke market-leading online portal that gives our colleagues an insight into local demographics and helps identify areas of deprivation. This enables users throughout the business to drill down into a local area and find out more information about the demographics of an area, including layer crime statistics, depravation information and isolation data, along with health and environmental data. This allows us to target intervention and outreach to the most disadvantaged groups, focus on the right outcomes and make targeted social value decisions. Further development of this solution will allow insight into specific housing stock locations, aligned to our client business, to fully support the collaborative approach to targeting the right outcomes in the right locations. 38 Mears Group PLC Annual report and accounts 2016 Strategic reportFocus on fair for all: Targeting under-represented groups Mears commits to a fully structured approach to target groups that are under-represented in the building and construction sector such as females, black and minority ethnic groups (BME) groups and those with disabilities in the area. To achieve this objective we conducted a focused recruitment campaign to target particular groups and organised a series of events to support the campaign. In focus: addressing training needs of hard-to-reach groups through collaborative working Through our contract with Manchester City Council, and working with our partners Yes Manchester and The Skills Company, we held a pilot Pre-recruitment Programme to target candidates out of reach of the employment market. They included a diverse mix of individuals representing the hard-to-reach groups, including persons with mental health issues and an ex-offender. One area of particular focus is to encourage more women into the trades and management. Mears has a funded partnership with the CITB. This has the aim of increasing the number of female trade apprentices and operatives in the social housing business maintenance sector. Through a targeted and curriculum-based approach to working with schools and colleges, we provide a focused approach to supporting local schools and college sessions. Leading the way in fair for all in the care market Our Care division has experienced a challenging market environment this year. The sector has been under severe funding pressure. We have focused on those strategically important clients which we believe have potential to develop into partnerships where we are able to deliver a high quality service. We take a responsible and ethical approach to paying our carers and have endeavour to influence clients in this area. We are fully supportive of the new National Living Wage legislation, which we believe is really important in attracting a workforce capable of delivering to the growing demands of the care market. Given our focus on quality, we will only bid for opportunities where we can pay our workforce at a level that will not only meet legal minimum requirements but will ensure we have the workforce to deliver the high quality service that is at the heart of our strategy. Training Opportunities Continued funding issues in the care market will create a catalyst for change, as will the consequences of implementing the National Living Wage, and Mears will proactively engage in this challenge to shape the service, supporting the fair for all focus. Employment Opportunities The pilot was a great success and we directly recruited six out of the eight candidates for the Mears National Apprenticeship Programme and all of them are currently working towards NVQ Levels 2 and 3 in a range of trade and technical specialisms. One of the barriers that we encountered in formulating the Pre-recruitment Programme related to the issue of candidates being disqualified from receiving Universal Credit during the six weeks of training. To overcome this The Skills Company negotiated a special arrangement with JobCentre Plus so that candidates could continue to receive their benefits. One of the critical factors contributing to the success of the Pre-recruitment Programme has been the time taken to communicate and explain the training in detail at the outset. This has ensured that candidates fully understand the programme objectives, what is entailed, what is required from them and the possibility of an apprenticeship at the end of the training. One trainee maintenance operative got her opportunity through Yes Manchester which helped her to secure a six-week traineeship on the pre-recruitment Programme. After completing the traineeship, she was offered a place on our apprenticeship programme as a maintenance trainee and is currently working towards her NVQ. Our trainee said: “ This has been life changing for me. Instead of jobs with no future and suffering from stress, I am now doing something I enjoy. It’s really boosted my confidence and had a positive effect on my health and wellbeing.” Training Opportunities NEETs ????? NEETs Employment ????? Opportunities Promoting SMEs Promoting SMEs Number of work placement opportunities offered to young people from lower socioeconomic groups between January and December 2016 350+ Local business Disadvantaged Communities Annual report and accounts 2016 39 Mears Group PLC Social Enterprise Local Economy Benefits Disadvantaged Communities Local business Young People Recycling Opportunities Local Economy Benefits Social Enterprise Young People Recycling Opportunities Strategic reportSocial value continued Focus on creating chances: Mears is investing in the future through training and skills The Academies are dedicated to improving the skills of employees and the employability of people within the communities we serve. During 2016 Mears opened two brand new, bespoke Academies in Rotherham, South Yorkshire, and Brentwood, Essex. The Academies are fully equipped and accredited to deliver practical training and apprenticeships across the trades, and have IT suites and modern classroom facilities. Our flagship Rotherham Academy houses our national gas training centre, accredited by BPEC, to train operatives to the standard required for registration with Gas Safe. Across the Group, we employ 400 apprentices and have been named as a Top 100 Apprentice Employer by the National Apprenticeship Service in recognition of the positive experience apprentices have with us. Mears runs Study Programmes for young people as a precursor to apprenticeships and an alternative to school or college. Around 20 16 to 19-year-olds participate in the programme at any point in time. Transforming lives is at the heart of what we strive to achieve. Through our genuine commitment to social value and providing training opportunities to local people in the areas we operate, Mears is in a unique position to make a real, sustainable and long-term difference to the lives of local people. Mears has an impressive training track record as we currently employ around 400 apprentices nationally, with a clear commitment to working with our clients and partners, which will support the transformation of lives through greater access to a wide range of training opportunities. During 2017 we will bring together the delivery of qualifications and apprenticeships to Care staff under the umbrella of one national service provider, primarily to improve quality and standards as well as the experience of the learner. Number of employees involved in delivering social value projects 7,000+ Number of apprentices on structured apprenticeship framework 400+ 40 Mears Group PLC Annual report and accounts 2016 Rotherham careers event brings employment opportunities Mears brought together local businesses and organisations to showcase employment and training opportunities at the annual Local Employment Advisory Forum (LEAF) event in Rotherham, with over 1,429 attending, and supported by 65 local businesses, with over 500 current vacancies to showcase employment and training opportunities in the area, as well as providing advice on how to gain the skills needed by employers. The event was sponsored by Mears and Rotherham Council, delivered in partnership with Jobcentre Plus. Focus on creating chances: providing career, skills and employment opportunities Our approach is to target excluded and hard-to-reach groups, entering partnerships at a national and regional level with organisations. Creating chances is about having a workforce drawn from local communities, thus creating opportunities for careers and enabling people to develop new and existing skills. Number of school students who attended careers talks and engagement projects 8,500 Number of schools engaged in our projects 90+ Strategic report Focus on health and safety It was another positive year for the Mears safety and quality in 2016. We have reduced accident rates by over 10% and achieved RoSPA President’s Award (14 consecutive Golds), for our continued commitment to accident and ill-health prevention. We successfully continued our certification to ISO 9001, ISO 14001 and OHSAS 18001. We also attained a diversion from landfill of over 94% of our waste. Having gained approval as a CITB Training Provider we now have 14 registered instructors available to deliver the full suite of CITB Site Safety schemes. In 2017 we will continue to challenge our standards and look to continuously improve the safety environment for all of our employees. In focus: working with social enterprise to reuse materials We engage and collaborate with social enterprises to facilitate the reuse of various items we come across whilst undertaking our services. We have worked with a number of social enterprises such as Electronics Recycling (Relectricals) and Mustard Tree, which is a Manchester-based social enterprise working to tackle homelessness and provide employment opportunities. This approach, whilst supporting our wider social value objectives, ensures that any reusable items are reused/recycled and waste to landfill is minimised. Focus on healthy planet: A successful partnership with Network Waste has helped Mears to achieve 90% recycling rates and more than a 10% reduction in waste costs. We are committed to being a good corporate citizen in all our dealings with customers, colleagues, suppliers and in the communities where we work. To ensure a consistent approach throughout our supply chain, we expect our suppliers to have or adopt similar business principles to our own. We are working towards a set of social values where suppliers will be required to acknowledge the significance of social, environmental and ethical matters in their conduct, and work towards improving quality standards. We are committed to minimising the environmental impact of our activities and our success to date has been externally recognised through our accreditations to the Carbon Footprint Status and Green Accord Premier Status. We are also members of the Sustainable Homes Index for Tomorrow (SHIFT) and a member of the FTSE4Good Index, the leading global responsible investment index which is designed to measure the performance of companies that meet globally recognised corporate responsibility standards. In line with our environmental accreditations, we actively measure all carbon emissions and waste to identify improvement opportunities and set clear targets for reduction. Our environment proposals are aligned with the social value priorities and are designed to ensure that our commitments can be clearly evidenced and measured through the tangible outcomes we will demonstrate: → Reduce waste and increase recycling rates using a national waste strategy, site waste management plans and our partnership with Network Waste. → Reduce fleet emissions using a recently upgraded green fleet, GPS tracker systems and Smarter Driver Training. → Reduce the carbon footprint of our activities using a mixture of Company-wide measures and bespoke initiatives tailored to the priorities of the partnership. → Produce a SMART plan to manage and measure our environmental commitments against the environmental priorities identified. Annual report and accounts 2016 41 Mears Group PLC Strategic reportIndependent Committee members’ report on Mears’ social value activities Authored by the independent members of the Mears Social Value Committee: → Dr Greg Lavery → Richard Kennedy → Rt Hon Hazel Blears Read our Social Value key influencers on page 36 How corporate social responsibility/ social value is done at Mears Mears defines its responsibilities to society to include its social, economic and environmental impact. It takes a proactive approach to these responsibilities and recognises that highlighting the positive difference this makes in communities enthuses staff, motivates customers and clients, creates substantial environmental and social benefits and builds competitive advantage for Mears. This is why Mears refers to its social and environmental activities as ‘Social Value’ – because through these activities it is creating value for Mears and the wider communities in which it operates. Social Value in Mears is delivered by staff, often on a daily basis alongside their job. Social Value is overseen by Mears’ Social Value Committee, headed by Director Alan Long and comprising senior executives from within the business as well as independent external experts. Mears has chosen four strategic pillars of Social Value to focus its efforts where it can create the greatest impact in a way which is most relevant to the business. These are: → Championing Local: improving the wellbeing of people and the communities they serve; → Fair for All: reducing prejudice, improving understanding of differences and supporting social inclusion; → Creating Chances: providing career, skills and employment opportunities; and → Healthy Planet: making a positive contribution to our planet. The ‘Red Thread’ defines the culture of the organisation and expected behaviours. This culture sets the aspirations and standards of the Company, which, together with the four themes above, provide the parameters within which staff focus their efforts to create Social Value. Delivery and creation of Social Value is site and staff specific, with a vast range of activities occurring that are all chosen for their local relevance. Strengths and weaknesses of Mears’ approach to social value Narrowing the scope of such a broad topic of Social Value, through the four themes, is considered prudent, enabling the organisation/staff to focus on a few priorities that deliver the most impact. Allowing a wide range of activities under these themes empowers teams/staff to address local issues where the needs are greatest. This has the added benefit of creating bespoke and well researched action plans that are attractive to clients because they add value beyond the contracted services which Mears provides, while also addressing local issues. However, these bespoke local solutions mean that Mears is currently not easily able to present a simple story of its activities to external observers, which makes it difficult to capture the full impact of its work. Key achievements of the Social Value Committee in the last year The importance of managers in the creation of Social Value was identified. This starts with creating consequences for and addressing poor management and recognising that improvement requires management training. Positive leadership which drives Social Value should be rewarded. These key points have been addressed through manager training in people management as well as through management personnel changes. HR practices and policies have been reviewed and compared with best practice, leading to: → a review of the salary banding structure, bonus scheme and process for annual pay awards (consistently administered); → a review of the gender gap and actions taken to address this with a particular focus on ensuring a more equal representation of females at the operative level; → the development of a reward and consequence model; and → a review of the appraisal system. The staff satisfaction survey was reviewed and actions were identified to improve Mears’ performance. Mears’ collaboration with and expectations of suppliers were examined with the specific focus of driving Social Value through Mears’ procurement. A series of metrics related to Social Value has been created, enabling Mears to measure performance and progress. 42 Mears Group PLC Annual report and accounts 2016 Strategic report Areas for further improvement Find better ways to extract Social Value through pre-competitive collaboration with key suppliers and subcontractors. Examples could include: → transport collaboration to reduce both environmental impacts and costs; → more creative ways to train future leaders of Mears, such as exchanges/secondments with other friendly organisations, such as Travis Perkins; → sharing Mears’ Social Value lessons with suppliers and subcontractors to lead change throughout the sector; and Overall assessment compared to most companies and leading companies The independent Social Value Committee members commend Mears on its wide range of Social Value initiatives in all regions that demonstrate strong community focus and excellent social and environmental behaviours from management and staff. The level of local consultation to unearth and identify community needs and build them into bids is ahead of current mainstream business practices and is strongly focused on creating maximum Social Value while contributing to winning contracts. This is an excellent alignment that creates a win-win situation for all parties. → setting targets for suppliers around employment opportunities and local sourcing. Mears is also a leader in engaging its front line staff with practical Social Value projects to which they willingly contribute. Mears can further integrate its Social Value work into its value proposition for clients to aid with market differentiation and competitive advantage. For example, substantial work is being done by the Care division tackling loneliness, supporting those with dementia, facilitating timely discharge from hospital, and providing support at home and in the community. All of these have clear and measurable cost advantages in savings to the healthcare system as well as improvements in wellbeing for those with health conditions and their carers and families. Articulating this value and building it into client discussions, bids and reports is a logical, if not easy, next step. Mears is currently missing the marketing benefits of its Social Value activities due to the perceived difficulty in communicating the diverse range of its actions as well as the general sense of humility within the business. It is recommended that Mears recognise and communicate its local and tailored approach, giving examples from real projects to illustrate it. Mears should be communicating that it is committed to addressing the most important issues where it is able to have an impact in each community where it operates. No two communities are the same, so Mears develops bespoke programmes for each. This is an easy-to-communicate message that is attractive to clients and accurately represents Mears’ value-adding approach. There could be opportunities to reduce the environmental impact of Mears’ activity through smart procurement, for example using sustainable office refurbishment options to address the second biggest concern from staff in the recent staff satisfaction survey (i.e. office conditions). Environmental performance and improvements have not yet been discussed by the Social Value Committee, nor have the business opportunities related to environmental sustainability and resource efficiency. In 2016 Mears demonstrated sector leadership by enacting the Living Wage and remaining uncompromising on staff working hours throughout its challenging price renegotiations with clients. Further, Mears has been courageous and outspoken on this important issue, leading the care sector. An example of this is Mears walking away from contracts where clients were unwilling to pay for the Living Wage and appropriate travel time. The long-term approach of Mears will benefit all in the sector. Mears is a modest company which has not captured many of the marketing benefits offered by Social Value creation. In this respect it lags behind many sustainability leaders. Addressing this issue should improve bid success rates and profitability for Mears, as well as building staff pride. The Strategic Report was approved by the Board of Directors on 27 March 2017 and signed on its behalf by The work of the Social Value Committee continues, with a range of aspects of the business not yet reviewed. As a result, this report should be read as an interim document as part of a work in progress. D J Miles Chief Executive Officer david.miles@mearsgroup.co.uk Annual report and accounts 2016 43 Mears Group PLC Strategic reportCorporate governance Report of the Nomination Committee Introduction to corporate governance Your Board 45 46 48 Corporate governance report 54 56 Report of the Audit Committee 61 63 Remuneration policy 70 Annual remuneration report 2016 79 Report of the Directors 81 82 Statement of Directors’ responsibilities Independent auditor’s report Report of the Remuneration Committee We seek to maintain high standards of corporate governance as this will help to facilitate the success of the Company and sustain this over time. 44 Mears Group PLC Annual report and accounts 2016 Introduction to corporate governance Bob Holt Chairman Code compliance We apply the provisions of the UK Corporate Governance Code 2014 (the ‘Code’). The Directors confirm that the Group has complied with all provisions set out in the Code during the year ended 31 December 2016. Dear shareholder, We seek to create a working culture where honesty, openness and fairness are valued. We seek to maintain high standards of corporate governance as this will help to facilitate the success of the Company and sustain this over time. An important distinction between the management, led by David Miles, Chief Executive Officer, and the Board is that the management is responsible for running the business while the Board, acting under my leadership, provides constructive challenge to management, which is necessary to create accountability and drive performance. This results in an environment that creates and preserves value for shareholders. It is vital that, as a Board, we have the right mix of skills, experience and diversity, ensuring that Board members have sufficient knowledge of the Company whilst maintaining their independence and objectivity. I am fortunate as Chairman to be able to call upon a Board with a broad range of expertise and specialisms. It was with deep regret that we announced the passing of Rory Macnamara, who had been a Director since June 2010 and chaired our Nomination Committee. Rory will be greatly missed by the Board for his strong technical contribution, and as a trusted colleague. Julia Unwin has agreed to become the replacement Chair of the Nomination Committee. During the year, a number of our Non-Executive Directors have reached nine years’ service, and as such are not offering themselves for re-election. I would like to thank David Hosein and Mike Rogers for their significant contribution to the Group. Peter Dicks has also now reached nine years’ service. However, given the unexpected loss of Rory Macnamara, I have asked Peter to remain on the Board as Senior Independent Non-Executive Director for a further year to provide continuity and stability. We take succession at Board and senior management level very seriously. We believe we have a good record of resourcing the needs of our business along with developing our own people in line with our desired culture. Since the year end, we have identified two new recruits to the Board. I am delighted to propose to shareholders that they approve the appointment of Roy Irwin and Jason Burt as Directors at the 2017 AGM. I believe that we have achieved a good balance with the right skills and experience which will add considerably to Board discussions. We will keep the Board composition under continuous review and I would expect the Group to make further Non-Executive Director appointments during 2017 to bring additional skills and even further diversity to the Board. During 2016, the Board visited two of our largest operations in Gateshead, which is the hub for a number of significant Housing contracts, and our newly opened Rotherham Training Academy. Such visits are essential to enable the Non-Executive Directors to understand better the day-to-day functioning of our business. We will not compromise on our governance principles. The Board is committed to maintaining the Group’s operations in accordance with the highest standards of corporate governance as set out in the UK Corporate Governance Code issued in 2014 and has complied with all Code principles and relevant provisions throughout the year. We continue to engage with our shareholders and explain our business model and key priorities to ensure that we deliver our strategic goals and value to all our stakeholders. R Holt Chairman bob.holt@mearsgroup.co.uk 27 March 2017 Annual report and accounts 2016 45 Mears Group PLC Corporate governanceYour Board Bob Holt OBE Non-Executive Chairman Age: 62 Tenure: 20 years Skills and experience: Bob had a controlling interest in Mears at the time of flotation in October 1996. He has a background in developing support service businesses. He has operated in the service sector since 1981, initially in a financial capacity then moving into general management. Principal external appointments: Chairman, Lakehouse PLC Chairman, Totally PLC Chairman, DX Group PLC David J Miles Chief Executive Officer Age: 50 Andrew C M Smith Finance Director Age: 44 Alan Long Executive Director Age: 54 Tenure: 20 years (10 years on the Board) Tenure: 17 years (10 years on the Board) Tenure: 11 years (7 years on the Board) Skills and experience: Skills and experience: Skills and experience: David joined Mears in 1996 and, prior to his appointment to the Board in January 2007, was Managing Director of the Mears Social Housing division. Prior to joining Mears, David held a senior position with the Mitie Group. His background is in electrical engineering. Principal external appointments: None Andrew joined Mears in 1999 and, prior to his appointment to the Board, was Finance Director covering the Group’s subsidiaries. Andrew qualified as a Chartered Accountant in 1994 and worked in professional practice prior to joining Mears. Principal external appointments: None Alan joined Mears in 2005 and, prior to his appointment to the Board in August 2009, was Managing Director of the Group’s Care division, having previously held the position of Group Sales and Marketing Director. Prior to joining Mears, Alan held senior roles at Britannia Building Society, Mars and Smith & Nephew. Principal external appointments: None Non-Executive proposed appointments to be confirmed at the 2017 AGM N Julia Unwin CBE Non-Executive Director Age: 60 Jason Burt Non-Executive Director Age: 51 Roy Irwin Non-Executive Director Age: 62 Tenure: 1 year Skills and experience: Skills and experience: Skills and experience: Julia is former Chief Executive of the Joseph Rowntree Foundation and the Joseph Rowntree Housing Trust. She has significant experience in the housing and care sectors, having been a member of the Housing Corporation Board for ten years. Principal external appointments: Yorkshire Water Services Limited Jason Burt was a senior partner at Plexus Law, specialising in complex employers’ and public liability claims. His appointment will further integrate health and safety into the Group’s governance structures, driving good working and health and safety practices. Jason will chair a newly formed Health, Safety and Environment core group and be a member of the Audit and Risk Committee. Principal external appointments: None Roy Irwin has significant experience in the social housing sector, having lately been Chief Inspector for the Audit Commission following a career of over 30 years in public sector housing. Since 2013, Roy has held the position of Non-Executive Chairman of Plexus and Omega Housing, being Mears’ registered providers of social housing with the Homes and Communities Agency. Principal external appointments: None 46 Mears Group PLC Annual report and accounts 2016 Rory Macnamara It was with deep regret that the Group announced the passing of Rory Macnamara, who served as a Director throughout the year until the date of his death, 17 December 2016. Corporate governanceR A N S A N R Peter F Dicks Non-Executive Deputy Chairman and Senior Independent Director Age: 74 Tenure: 9 years Skills and experience: Peter has been active in the venture capital and investment fields for a number of years. He is currently a Director of a number of companies. He joined Mears in 2008 and is Chairman of the Remuneration Committee. Principal external appointments: Chairman, Miton UK MicroCap Trust plc Geraint Davies CBE Non-Executive Director Age: 62 David L Hosein* Non-Executive Director Age: 53 Michael G Rogers* Non-Executive Director Age: 75 Tenure: 1 year Tenure: 9 years Tenure: 9 years Skills and experience: Skills and experience: Skills and experience: Geraint is a fellow member of the Institute of Chartered Accountants in England and Wales. He was previously a partner for a leading professional practice for over 25 years. His commercial experience includes working with Registered Social Landlords and a number of organisations in the healthcare sector. Principal external appointments: Cardiff International Airport Limited David has over 17 years’ consulting experience, the last five of which have been at OC&C Strategy Consultants Limited where he is a partner. David has worked extensively in the support services sector for corporate and private equity clients. Previously, he was a partner in Arthur Andersen. He joined Mears in 2008. Principal external appointments: Partner, OC&C Michael founded Careforce in 1999 and has over 30 years’ experience in healthcare services and care provision. In 1976 he joined Nestor Medical Group Limited as Managing Director and went on to become Chief Executive of Nestor Healthcare Group plc from 1986 to 1996. From 1996 to 1999 he worked as a consultant to a number of healthcare related organisations. Principal external appointments: Non-Executive Director, Totally PLC * Not standing for re-election. Ben Westran Company Secretary Age: 40 Tenure: 13 years Skills and experience: Ben is a Chartered Accountant and, prior to his appointment as Company Secretary, was Group Financial Controller and Director of a number of the Group’s subsidiaries. Ben joined the Group in 2004 having previously worked in professional practice. Key: R Remuneration Committee A Audit Committee N Nomination Committee Chairman S Senior Independent Non-Executive Director Length of tenure of Board Non-Executive/Executive Directors 10+ years 7-9 years 0-3 years 2 4 Executive 3 3 Non-Executive 6 Annual report and accounts 2016 47 Mears Group PLC Corporate governanceCorporate governance report Leadership How the Board operates The Board leads and provides strategic direction to the Group and carries ultimate responsibility for management of the Group’s activities and financial performance. The Board acknowledges accountability to shareholders for proper conduct of the business, and responsibility for the long-term success of the Group, having regard to the interests of all stakeholders. The Board’s prime objective is to ensure the ongoing commercial and financial success of the Group. The Board provides entrepreneurial leadership of the Group within a sound and prudent risk management framework using effective internal control systems which enable risk to be assessed and managed. The Board sets the Group’s strategic objectives, and the nature and extent of principal risks it is willing to take in achieving these strategic objectives, and ensures that the necessary financial and human resources are in place for the Group to meet these objectives. The Board sets the Group’s values and standards and ensures that the Group’s obligations to its shareholders and others are understood and met. It is through the Divisional Boards that the operational and financial business of the Group is delivered. The Housing and Care Boards meet monthly and the key matters considered include: → financial performance and actual performance in comparison to forecast; → review of quarterly revised forecasts; → monitoring strategic developments; → business development and review of active tenders and opportunity pipeline; The Group’s business model and strategic priorities can be found on pages 10 and 11 and 12 to 13. → monitoring service delivery performance measures and driving improvement; The Board maintains and regularly reviews a full list of matters and decisions that are reserved to, and can only be approved by, the Board. These are reviewed annually and include but are not limited to: → Group strategy and operating plans; → corporate governance and risk management; → the approval of budgets; → changes to the Group’s debt and equity funding; → appointment, termination and remuneration of Directors and the Company Secretary; → financial reporting and audit, including interim and full-year results announcements and dividends; → approving significant acquisitions and disposals; and → values and ethics. The day-to-day running of the business is delegated to the Executive Directors through Divisional Boards, which comprise the Chief Executive Officer, the Finance Director and the Executive Director together with other senior divisional team members. → values and culture and driving consistency and best practice together with employee engagement; and → health, safety and environment. The Board delegates certain responsibilities to its three principal Committees. → The Audit Committee ensures the integrity of financial information, the effectiveness of the financial controls and the internal control and risk management systems. → The Nomination Committee recommends the appointment of Directors and conducts a review of succession planning at Board and Operating Board levels. → The Remuneration Committee sets the remuneration policy for Executive Directors and determines their individual remuneration arrangements. The Chairman of each Committee briefs the Board at each meeting on the principal items that were discussed, decisions made and key issues. The activities of these Committees are discussed in more detail later in this report. Each Committee comprises Non-Executive Directors only, as required by the UK Corporate Governance Code 2014. The Chair of each Committee is present at the AGM to answer questions from shareholders. 48 Mears Group PLC Annual report and accounts 2016 Corporate governanceCorporate governance framework Responsibility for good governance lies with the Board. There is a strong and effective governance system in place throughout the Group which ensures that integrity and good ethical conduct are the foundations of our decision making. The governance framework extends to operational activities, as outlined in the risk management process on pages 18 to 23. The Chairman The Chief Executive Officer Key responsibilities: → is responsible for the leadership of the Board and ensuring its effectiveness; → sets the Board’s agenda and ensures adequate time is available for discussion of all agenda items; → ensures all discussion is in the context of the long-term success of the Group; → promotes a culture of openness and debate by facilitating the effective contribution of Non-Executive Directors; → ensures that the Directors receive accurate, timely and clear information; and → is responsible for designing a rigorous annual evaluation of the performance of the Board and individual Directors. Audit Committee Remuneration Committee Nomination Committee The Board Key objective: The Audit Committee is responsible for effective corporate governance in respect of financial reporting, agreeing the scope of the external audit, the setting of the auditor’s remuneration and reviewing the effectiveness of the Group’s internal controls, risk management and internal audit processes. Key objective: The Remuneration Committee is responsible for setting, reviewing and recommending the remuneration policy and strategy in respect of Executive remuneration. Key objective: The Nomination Committee is responsible for ensuring that the Board comprises a high level and range of business experience, skills and diversity to enable the Group to be managed effectively. Key responsibilities: → manages the day-to-day business operations of the Group; → ensures that the appropriate standards of corporate governance permeate throughout the organisation; → recommends key strategies and is responsible for execution of those agreed by the Board; → takes a leading role in the relationship with all external agencies and in promoting Mears Group PLC; and → directs the risk profile of the Group in line with the risk appetite and categories of risk identified and accepted by the Board.  Read the Report of the Audit Committee on page 56 Read the Report of the Remuneration Committee on page 61 Read the Report of the Nomination Committee on page 54 Read the Review of Operations on page 24 Divisional Boards Key objective: The Housing and Care Divisional Boards are the principal forum through which the operational and financial business of the Group is delivered. Annual report and accounts 2016 49 Mears Group PLC Corporate governanceCorporate governance report continued Leadership Board composition and meetings in 2016 Number of meetings Potential Actual Potential Actual Potential Actual Potential Actual Potential Actual Board Strategy days Audit Nomination Remuneration R Holt D J Miles A C M Smith A Long M G Rogers P F Dicks D L Hosein R Macnamara G Davies J Unwin 6 6 6 6 6 6 6 6 6 2 6 6 6 6 6 6 6 4 6 2 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 — 5 5 — — 5 — 5 5 — — 5 5 — — 5 — 4 5 — — — — — — 1 1 1 — — — — — — — 1 1 1 — — — — — — 2 2 — 2 — — — — — — 2 2 — 1 — — During the year, the Board had a total of eight Directors, all of whom, with the exception of Rory Macnamara, served throughout the year. Rory Macnamara died on 17 December 2016. The roles of the Chairman and the Chief Executive Officer are clearly established, set out in writing and agreed by the Board. The table above shows the attendance of Directors at scheduled Board and Committee meetings. The Board scheduled seven meetings during the year including one strategy day. Additional ad hoc meetings or conference calls were also organised pertaining to specific matters which required Directors’ involvement between the scheduled meetings. The Board comprises the Chairman, the Chief Executive Officer, the Finance Director, the Executive Director and six Non-Executive Directors. Peter Dicks was the Senior Independent Non-Executive Director throughout the period. The Directors’ biographical details are set out on page 46. These indicate the respective backgrounds and range of business experiences which enable the Board to operate effectively. Their differing mix of skills and business experience is a major contribution to the proper functioning of the Board and its Committees, ensuring that matters are challenged and there is constructive debate. In addition to the meetings scheduled, the Chairman and the Non-Executive Directors met without the presence of the Executive Directors, and the Non-Executive Directors met without the presence of the Executive Directors and the Chairman. The Chairman and the Chief Executive Officer The roles of the Chairman and the Chief Executive Officer are separate and clearly defined. Nonetheless, they maintain a close working relationship to ensure integrity of the Board’s decision-making process and successful delivery of the Group’s strategic priorities. Bob Holt is Non-Executive Chairman. The Chairman creates and manages the constructive dialogue between the Executive and Non-Executive Directors. He works with the Company Secretary to ensure appropriate matters are discussed during Board meetings. David Miles is the Chief Executive Officer. He has the responsibility for leading the Executive Directors and the senior team in the day-to-day management of the business and ensures effective implementation of Group strategy. Non-Executive Directors and independence of our Board At the date of this Annual Report, the Group has a Non-Executive Chairman and five Non-Executive Directors. The Non-Executive Directors constructively challenge and develop proposals on strategy and scrutinise the performance of management in meeting agreed goals and objectives and monitor the reporting of performance. They satisfy themselves on the integrity of financial information and that financial controls and systems of risk management are robust and defensible. They determine appropriate levels of remuneration of Executive Directors and have a prime role in appointing and, where necessary, removing Executive Directors. Peter Dicks was the Senior Independent Non-Executive Director throughout 2016. Peter is not intending to stand for re-election at the 2018 AGM having reached nine years’ service. The Senior Independent Non-Executive Director, if required, will deputise for the Chairman. He is available to talk to shareholders if they have issues or concerns. 50 Mears Group PLC Annual report and accounts 2016 Corporate governanceIn addition to planned Board meetings, the Chairman meets with the Non-Executive Directors to discuss, on a less formal basis, Group performance, strategy, governance and Board succession plans. The Executive Directors do not attend these meetings. The Chairman, having started the year fulfilling an Executive role, is not considered independent. The Board considers all other Non-Executive Directors who served during the year to be independent in terms of judgement and character and free from any relationship that might materially interfere with the exercise of independent judgement. Independence of long-serving Independent Non-Executive Directors has been determined as part of the Board appraisal, where conduct and communications recorded from meetings were assessed. All Directors act in what they consider to be the best interests of the Company, consistent with their statutory duties. The Code suggests that the length of tenure is a factor to consider when determining independence. The Nomination Committee is responsible for the progressive refreshing of the Board’s membership. The terms of reference of Non-Executive Directors are reviewed annually as part of the Board performance evaluation. Activities of the Board during the year Board discussion during 2016 to deliver strategic priorities Strategy → Discussed strategy and performance of both operating segments Financial performance → Approval of 2016 budget → Reviewed performance by business segment → Approval of 2015 Annual Report and dividend → Approval of announcement of final results for 2015 → Approval of amend and extend to revolving debt facility → Approval of interest rate and fuel hedging instruments Deliver our strategic priorities 1 Deepening our client partnerships in both core markets 2 Maintain quality leadership 3 Corporate governance and risk management → Reviewed and considered matters discussed at Audit Committee meetings → Selection and appointment of new Non-Executive Directors Values and ethics → Review of social mobility plan → Red Thread → Review of output from employee satisfaction survey → Visited our new Rotherham Training Academy Develop our people Stakeholder engagement Read about our strategic priorities on page 12 → Engaged with private shareholders at AGM → Reviewed and considered investor feedback following final and interim results investor roadshows Annual report and accounts 2016 51 Mears Group PLC Corporate governanceCorporate governance report continued Effectiveness Board performance evaluation overview The performance evaluation process included: → a review of the areas of Board roles and responsibility; → an internally facilitated review by the Chairman, which included meeting with all Board members individually; → the structure and composition of the Board and its Committees and the performance of the Committees; → the quantity, quality and scope of information provided to the Board; → an assessment of the appropriateness of Directors’ terms of reference; → the content of Board meetings and presentations to meetings; and → the openness of communications between the Board members and Executive Management. Board performance The Chairman is responsible for ensuring Directors are properly briefed on issues to be discussed at Board meetings and that they have full and timely access to relevant information, including minutes of previous Board and Committee meetings. Timely access to information is a priority in order for Directors to be able to consider and present their own challenges to each meeting. The quality and timeliness of information provided to Directors was included as part of the Board evaluation. The findings were that information provided to Directors was thorough and relevant, and in all instances provided suitably in advance. Director induction and development The Group’s policy is to provide appropriate training to its Directors. Training takes into account each individual’s qualifications and experience and includes environmental, social and governance training, tailored to individual requirements as appropriate. The Chairman regularly meets with each Director to review and agree any training and development needs. All Directors have access to the Company Secretary, who is responsible for ensuring that Board procedures and applicable rules and regulations are observed. All Directors also have unfettered access to the Group’s operations and staff. In accordance with Board policy, following her appointment, Julia Unwin received a full, formal and tailored induction relating to all of the Group’s activities upon joining the Board. Board appraisal Performance evaluation of the Board, its Committees and individual Directors takes place on an annual basis. The 2016 Board performance evaluation was internally facilitated. The Chairman met with all Board members individually and asked for their views on a broad range of areas including Group strategy, independence, experience, effectiveness, shareholders and the interaction between Board members. Each Board member provided feedback and key observations on the Board’s effectiveness as well as suggestions for further enhancement. The performance of the Chairman was reviewed separately in a process led by the Senior Independent Director. The Chairman reviewed the range of feedback provided and identified some broad themes. Some recommendations were proposed which have been implemented, but the overall conclusion was that the Board is working effectively. An externally facilitated performance evaluation will be conducted during 2017 in line with the requirements of the Code. Your Board has due regard for the benefits of diversity in its membership, including gender, and strives to maintain the right balance. It comprises individuals with deep knowledge and experience in core and diverse business sectors within local, international and global markets, bringing a wide range of perspectives to the business. This diversity ensures thorough challenge during discussions which results in effectiveness in all aspects of the Board. Re-election of Directors To promote good governance, and in accordance with the requirements of the Code, each of the current Directors will offer themselves for re-election annually. Following the evaluation of the Board’s performance during the year, it is confirmed that the performance of each of the Non-Executive Directors continues to be effective and that they are considered to demonstrate appropriate commitment to the role. Indemnifications of Directors In accordance with our Articles of Association and to the extent permitted by the laws of England and Wales, Directors are granted an indemnity from the Company in respect of liabilities incurred as a result of their position in office. However, our indemnity does not cover Directors or officers in the event of being proven of acting dishonestly or fraudulently. 52 Mears Group PLC Annual report and accounts 2016 Corporate governanceShareholder engagement Principal methods of communication with investors → Annual Report and Accounts → Interim statements → Trading updates → Quarterly newsletters → Group website (www.mearsgroup.co.uk) Investor relations The Company is committed to maintaining good communications with investors. Normal shareholder contact is the responsibility of the Executive Directors, who respond on a daily basis to queries from institutional and private investors. The Chairman, the Senior Independent Director and other Non-Executive Directors are available to shareholders to discuss any matters they wish to raise. The Directors regularly meet shareholders at operational locations, which both parties find more rewarding as it provides greater insight into the business and its processes. All Directors are available at each AGM and shareholder participation is encouraged. The Board is committed to maintaining regular contact through the provision of the Annual Report, regular Interim Reports and regular trading updates. This information can be found on the Group’s website (www.mearsgroup.co.uk). There is an active programme of communication with existing and potential shareholders. There is increased dialogue with institutional investors following the publication of final and interim results, which is facilitated through a series of formal presentations. The Group regularly receives and responds to questions raised by small private shareholders through the investor enquiry portal within the Group’s website. In addition, a number of private shareholders attend the Company’s AGM. Feedback from communications with major shareholders and other investors, where necessary, is discussed at each Board meeting. In addition, analyst views are shared prior to Board meetings enabling an opportunity for discussion and challenge. Shareholders are given access to other members of the Senior Management Team, giving an insight into the strength of the Senior Management Team. The feedback from this year’s shareholder dialogue gave consistent support for the Group’s Housing strategy, particularly the recent development in Housing Management. The shareholder feedback in respect of Care was less consistent and the Board welcomes this challenge. Succession planning has been identified as a key area for the Group ensuring that there is less reliance on the Group Chief Executive. The Group has more regular contact with its banking partners, Barclays and HSBC, and the Group values this close relationship. P F Dicks Senior Independent Non-Executive Director peter.dicks@mearsgroup.co.uk 27 March 2017 Q1 2016 Investor meetings prior to the close period. Following release of final results for 2015, investor roadshow spanning six days, meeting with both ‘buy’ and ‘sell’ side. Q2 2016 Regular update meetings with existing and prospective shareholders. AGM held in June 2016, providing an opportunity to meet a number of private investors. Q3 2016 Following release of interim results for 2015, investor roadshow spanning five days, meeting with both ‘buy’ and ‘sell’ side. Q4 2016 Regular update meetings with existing and prospective shareholders. Investor lunch providing cross-section of fund managers to meet the key management beneath the PLC Board. Shareholder consultation in respect of setting the remuneration policy for approval at the 2017 AGM. 10.5m 10.3% Total shareholdings over 2% 75.5m 73.6% 9.9m 9.7% 7.2m 7.0% 6.3m 6.1% 5.7m 5.6% 4.3m 3.2% 4.3m 4.2% 4.4m 4.2% 5.1m 5.0% 5.2m 5.1% 2.2m 2.1% 2.3m 2.2% 2.4m 2.4% 2.6m 2.5% 3.1m 3.0% PrimeStone Capital Columbia Threadneedle Investments Majedie Asset Management Artemis Investment Management Heronbridge Investment Management Fidelity Management & Research Shareholder Value Management Invesco Asset Management Schroder Investment Management BlackRock Inc Legal & General Investment Management Franklin Templeton Investments Montanaro Asset Management Slater Investments Close Asset Management Annual report and accounts 2016 53 Mears Group PLC Corporate governanceReport of the Nomination Committee It was with great sadness that, in December 2016, we learnt of the death of Rory Macnamara who had been Chair of the Nomination Committee for the past six years. The Committee had already commenced a process to identify new Non-Executive Directors with the right balance of skills and experience to succeed retiring Non-Executive Directors, and on my appointment as Chair in February 2017 I was delighted to propose the appointment of Roy Irwin and Jason Burt. Together these appointments bring significant and valuable experience. Roy Irwin deepens our understanding of local authorities, and Housing Associations, through a career spent in the housing environment. Jason Burt brings great knowledge of the health and safety operating environment, and his appointment underlines our commitment to outstanding performance in this area. Subject to the approval of shareholders at the 2017 AGM, Roy Irwin and Jason Burt will be formally appointed as Non-Executive Directors. During the year, the Committee considered the membership of each Board Committee and updated its succession plans for Executive and Non-Executive Directors and senior management. The Committee will search actively for additional Non-Executive Directors who can further enhance the quality of the Board and anticipates the appointment of a further Non-Executive Director during 2017. Mears has a diverse workforce of around 15,000 employees, including 400 apprentices. The Company believes in promoting diversity at all levels of the organisation. Diversity and respect for all are core to our induction programmes. It will be an important part of my new role to ensure the Group makes further progress in respect of diversity across the Group, including at Board level. During the year, the Group retained its status as one of the Government’s Social Mobility Champions. Social mobility is about giving young people equal chances in life, regardless of where they were born, the school they attend or the jobs of their parents. The Government initiative began during 2015 and Mears was one of just twelve UK companies awarded the status of Social Mobility Champion; we have pledged to lead by example – encouraging behavioural change in our business to ensure jobs and opportunities are open to everyone. The benefits of diversity are appropriately balanced with their capabilities, values and approach. Julia Unwin Nomination Committee Chairman Introduction The Nomination Committee ensures there is an effective balance of skills and experience for Board discussions. Succession and diversity are key aspects of our agenda to ensure the Board is continually challenged. 54 Mears Group PLC Annual report and accounts 2016 Corporate governanceCommittee meetings Given three Non-Executive Directors reached nine years’ service, and can no longer be considered independent, this year has been a particularly active one in terms of ensuring the Board secures new Non-Executive appointments whilst maintaining the right mix of skills and experience. The Committee formally met once during the year with all members of the Committee present at the meeting. In addition to its formal meeting, there was regular contact between Committee members as well as ad hoc meetings with other Board members and management, when deemed necessary by the Committee Chairman, particularly relating to the search process for the new Non-Executive Directors. The Committee considered the balance of skills, experience and diversity of the Board. The Board acknowledges that diversity extends beyond the boardroom and supports the management effort to build a diverse organisation. The Company believes in promoting diversity at all levels of the organisation; at present 23% of our senior managers are female. The Board is confident that this will increase over time. It is the aspiration of the Board for the diversity in membership to mirror the diversity in our Senior Management Team. Currently 9% of Board members are female (2015: 9%). When considering the optimum composition of the Board, the benefits of diversity are appropriately balanced with their skills, knowledge, experience and approach. J Unwin Nomination Committee Chairman julia.unwin@mearsgroup.co.uk 27 March 2017 “ There is a formal, rigorous and transparent procedure for the appointment of new Directors to the Board. The search for Board candidates is conducted, and appointments are made, on merit, against objective criteria and with due regard to the benefits of diversity on the Board, including gender.” Role of the Committee The Nomination Committee’s responsibilities include: → keeping under review the composition of the Board and succession to it and succession planning for senior management positions within the Group; → making recommendations to the Board concerning appointments to the Board, whether of Executive or Non-Executive Directors, having regard to the balance of skills, knowledge, experience and diversity of the Board; → reviewing the length of service of Non-Executive Directors to ensure a progressive refreshing of the Board, whilst retaining the correct level of experience; → making recommendations to the Board concerning the re-appointment of any Non-Executive Director at the conclusion of his/her specified term and the re-election of any Director by shareholders under the retirement provisions of the Company’s Articles of Association; → managing a formal, rigorous and transparent procedure for any appointments of new Directors to the Board; → prior to the appointment of a Director, requiring that the proposed appointee discloses any other business interests that may result in a conflict of interest and reports any future business interests that could result in a conflict of interest; and → ensuring that, on appointment to the Board, Non-Executive Directors receive a formal letter of appointment setting out clearly what is expected of them in terms of time commitment, Committee service and involvement outside Board meetings. Annual report and accounts 2016 55 Mears Group PLC Corporate governanceReport of the Audit Committee Accountability This report sets out how the Committee has discharged its responsibilities during the year. The Board is required to ensure that the Annual Report is fair, balanced, concise and understandable, and the Committee assists in considering this. This report also sets out, in relation to the financial statements, the significant issues considered and how these were addressed. I have spent considerable time during my first year as Chairman of the Audit Committee meeting the divisional senior management and I have had a number of detailed review meetings with the Group’s Chief Risk Officer (CRO) during which I have obtained a high degree of comfort around the risk management and control environment of the Group. With this being my first full year as Audit Committee Chairman, I believe that I have added fresh challenge and value to what is already a robust process. The work of the Committee is far-ranging. However, without attempting to summarise here, I would draw attention to the following: In relation to financial reporting, the two primary significant judgements relate to the carrying value of goodwill and revenue recognition. Both of these have a high level of materiality and also carry a significant level of judgement. In reaching its conclusions, the Audit Committee has had detailed discussions with management and also gained assurance from the procedures carried out by Grant Thornton when testing both areas. In addition to these two, the Audit Committee has included defined benefit pension valuations as a third key estimate. Whilst the valuations are prepared by qualified actuaries providing a high level of comfort as to the reasonableness of the carrying value, the Audit Committee is mindful that in today’s volatile economic environment, assumptions around discount rates and corporate bond rates have become unpredictable and can result in a material change in the carrying value of pension assets and liabilities over a short time period. In relation to risk management and internal control, we focused on financial controls and updating and reviewing the risk register which enables the review of the internal audit plan and the internal audit findings which are produced by our internal audit team led by the CRO. Principal risks are generated from our risk register; further information relating to principal risks can be found on pages 18 to 23. In relation to risk management, the Senior Management Team plays a central role in safeguarding against risk. The Group’s risk personnel present risk management training modules to ensure operations are conducted with a strong risk management ethos and I attended and presented at a senior management development event. In relation to the independence and effectiveness of the external auditor, the Committee continues to review the external audit engagement on an annual basis having carried out a tender exercise in 2013. The review process includes reviewing reports produced by the external auditor, and Committee discussion around the sophistication and appropriateness of audit procedures and approach. The tender process resulted in the re-appointment of Grant Thornton UK LLP, which has been the Group’s external auditor since 1996. The Senior Statutory Auditor, Simon Lowe, will rotate off the Mears audit, in accordance with the Ethical Standards, at the end of the 2016 audit process and a new person will be introduced to this role. The Audit Committee anticipates carrying out an audit tender in 2018. Geraint Davies Audit Committee Chairman Introduction The Audit Committee assists the Board in fulfilling its oversight responsibilities regarding, in particular, the Company’s financial and corporate reporting, risk management and internal controls, and the independence and effectiveness of the external auditor. 56 Mears Group PLC Annual report and accounts 2016 Corporate governanceRole of the Committee The Committee has access to the financial expertise of the Group and its auditor and, if required, can seek further professional advice at the expense of the Group. The key responsibilities of the Committee are to: → consider the appointment of the external auditor, its reports to the Committee and its independence, including an assessment of its appropriateness to conduct any non-audit work; → review the financial statements and announcements relating to the financial performance of the Company; → review the internal audit programme and ensure that the internal audit function is adequately resourced and has appropriate standing within the Company; → discuss with the external auditor the nature and scope of the audit; → review, and challenge where necessary, the actions and judgements of management, in relation to the interim and annual financial statements before submission to the Board; → formally review the effectiveness of the external and internal audit processes; → consider management’s response to any major external or internal audit recommendations; → review the Company’s plans for business continuity; → review the Company’s plans for prevention and detection of fraud, bribery and corruption; → review the effectiveness of the whistleblowing arrangements; and → report to the Board on how it has discharged its responsibilities. The Committee’s terms of reference are available on the Company’s website and on request from the Company Secretary. The Committee comprises financially literate members with the requisite ability and experience to enable it to discharge its responsibilities. With the very sad and untimely death of Rory Macnamara, who had sat on the Committee for six years, I am working with the Chair of the Nomination Committee to find a replacement with suitable recent and relevant financial experience. Committee meetings The Committee met five times during the year with attendance by all members. These meetings were also attended by the Group Chief Executive Officer, the Group Finance Director and the Chief Risk Officer as required by invitation from the Chairman of the Audit Committee. The external auditor, Grant Thornton UK LLP, was invited to all meetings. There was also significant dialogue outside formal meetings between Committee members, Executive Directors and the external auditor particularly during the audit process and the preparation of the Annual Report. The Audit Committee Chairman meets with the external auditor regularly throughout the year. Main activities of the Committee during the year Financial and business reporting The Audit Committee shares the responsibility with the Board for reviewing the appropriateness of the Annual Report and half-year announcements, to ensure that they properly reflect the Group’s business model, strategic priorities, key risks and financial and non-financial performance. Consideration is given to the reasonableness of the accounting policies, adherence to accounting standards and sufficiency and clarity of the information disclosed. The primary areas of judgement considered by the Committee in relation to the 2016 accounts, and how these were addressed, were: Carrying value of goodwill For the purposes of assessing impairment, assets are grouped at the lowest level for which there are separately identifiable cash flows; these are termed as cash-generating units (CGUs). Due to the Board successfully integrating the newly acquired Care business into the existing Care business, there have been two CGUs identified: Social Housing and Care. Determining whether goodwill is impaired requires an estimate of the value in use of each of the CGUs to which goodwill has been allocated. The value-in-use calculation involves an estimate of the future cash flows of the CGU and also the selection of an appropriate discount rate to calculate present values. Future cash flows are estimated using the current one-year budget, extrapolated for five years to December 2021 using specific rates with a general terminal growth rate being used thereafter. This has been derived from the extensive business planning process described in greater detail within note 10 on pages 114 to 117 of the Annual Report. Estimated growth rates over each period are based on past experience and knowledge of the individual sector’s markets. The Directors consider that the estimates and judgements involved in determining the value in use of the Care CGU goodwill are the most significant to the Group and they have therefore utilised the services of an external consultant to assist with this impairment review. The value in use is most sensitive to changes in the terminal growth rate, the explicit growth rate during the forecast period and the discount rate. The sensitivity to changes in these estimations is detailed in note 10. The Audit Committee takes reassurance from the previous year’s impairment review, where the key assumptions have subsequently been found to have been reasonably conservative and that the actual results in the subsequent year have delivered better outcomes than anticipated. The headroom in the period, being the excess between value in use compared to carrying value, has increased which gives the Audit Committee further reassurance although the Committee remains mindful that there is still significant uncertainty in the Care sector and key assumptions could change and materially impact upon the carrying value of the Care business. Annual report and accounts 2015 57 Mears Group PLC Corporate governanceReport of the Audit Committee continued Main activities of the Committee during the year continued Financial and business reporting continued Carrying value of goodwill continued The Audit Committee addressed this area of judgement by reviewing the key assumptions proposed by management, notably forecast growth rate, discount rate, terminal growth rate and carer recruitment and retention rates. Given the importance of these assumptions, the Committee also reviewed reports prepared by a third party valuation expert, PwC, which provided validation to the management proposals: → the Committee reviewed the asset valuation report prepared by PwC on behalf of management to discuss the report in detail. The Committee gave particular focus to the sensitivity analysis which showed the level of changes in key value-in-use calculation assumptions that would be required before triggering any impairment; → the Committee reviewed the disclosure in the notes to the financial statements; and → this area represented a prime area of audit focus and Grant Thornton UK LLP provided detailed feedback to the Committee. Revenue recognition Revenue is recognised when the outcome of a job or contract can be estimated reliably; revenue associated with the transaction is recognised by reference to the stage of completion of work at the balance sheet date. The outcome of the transaction is deemed to be able to be estimated reliably when all the following conditions are satisfied: → the amount of revenue can be measured reliably; → it is probable that the economic benefits associated with the transaction will flow to the entity; → the stage of completion of the transaction at the balance sheet date can be measured reliably; and → the costs incurred for the transaction and the costs to complete the transaction can be measured reliably. Full provision is made for future losses on all contracts in the year in which the loss is first foreseen. The Audit Committee addressed this area of judgement in the following ways: → the Committee reviewed the key judgements report prepared by management which provided a detailed explanation in respect of the valuation of unbilled works and the recognition of revenues; → the Committee took comfort from the contract management system which is central in generating the valuation of works (both billed and unbilled) and the integrated process that follows to ensure an accurate cut-off so that revenue is appropriately matched to cost. Grant Thornton tested these systems during its audit fieldwork and provided feedback to the Committee on this crucial area; and 58 Mears Group PLC Annual report and accounts 2016 → this area represented a prime area of external audit focus. Grant Thornton UK LLP carried out both controls-based and substantive testing of the amounts recoverable on contracts, adopting a blend of risk-based and random sampling approaches to testing, and provided detailed feedback to the Committee in this area. Grant Thornton’s comments can be seen on page 82. Defined benefit pension valuation A number of key estimates have been made, which are given below and which are largely dependent on factors outside the control of the Group: → inflation rates; → mortality; → discount rate; and → salary and pension increases. Details of the particular estimates used are included in the pensions note (note 24) on pages 131 to 135. Where the Group has a contractual right to recover the costs of making good any deficit pension scheme, the fair value of that asset has been recognised and disclosed. The right to recover costs is limited to exclude situations where the Group causes the scheme to incur service costs in excess of those which would have been incurred were the members employed within Local Government. The Directors have made judgements in respect of whether any of the deficit is as a result of such situations. The right to recover costs is also limited to situations where the cap on contributions payable by the Group is not set so as to contribute to reducing the deficit in the scheme. The Directors, in conjunction with the scheme actuaries, have made judgements in respect of the predicted future service cost and contributions to the scheme to reflect this in the fair value of the asset recognised. The Audit Committee addressed this area of judgement in the following ways: → the Committee reviewed the key assumptions proposed by management, notably assumptions in respect of discount rate, RPI, CPI and future salary increases. Given the materiality of this area, the Committee reviewed a report prepared by Ernst & Young LLP which validated the assumptions set by management and provided a comparison with other quoted companies; → the Committee reviewed the accounting treatment of pension related transactions. Full disclosure has been provided within the pensions note (note 24) on pages 131 to 135; and → given the technical nature of this area, the Committee placed reliance upon the actuarial reports prepared by the respective scheme actuaries in respect of each of the defined benefit pension schemes. Corporate governanceInternal control and risk management With respect to its oversight of risk management and internal controls, the Board reviewed and discussed a wide range of matters with management, internal audit and external audit, as appropriate. This extends to cover all material controls, including operational, compliance and financial controls and risk management systems. The Directors are satisfied that procedures are in place to ensure that the Group complies with the Guidance on Risk Management, Internal Control and Related Financial and Business Reporting (the Risk Guidance) published by the Financial Reporting Council in September 2014. The Board has delegated some of these responsibilities to the Audit Committee which has reviewed the effectiveness of the system of internal control and ensured that any remedial action has been or is being taken on any identified weaknesses. The system of internal controls is designed to manage rather than eliminate the risk of failure to achieve business objectives and can only provide reasonable, but not absolute, assurance against material misstatement or loss. It includes all controls including financial, operational and compliance controls and risk management procedures. The Group has an ongoing process for identifying, evaluating and managing the significant risks faced by the Group. The Group endeavours to ensure that the appropriate controls, systems and training are in place and has established procedures for all business units to operate appropriate and effective risk management. The processes used to assess the effectiveness of the internal control systems are ongoing, allowing a cumulative assessment to be made, and include the following: → delegation of day-to-day management to operational management within clearly defined systems of control, including: → the identification of levels of authority within clearly identified organisational reporting structures; → the identification and appraisal of financial risks both formally, within the annual process of preparing business plans and budgets, and informally, through close monitoring of operations; → regular reviews by the Board and the Audit Committee of identified fraudulent activity and actions being taken to remedy any control weaknesses; → regular reviews by management and the Audit Committee of the scope and results of internal and external audit work across the Group and the implementation of recommendations; → consideration by the Board and by the Audit Committee of the major risks facing the Group and of the procedures in place to manage them and to ensure controls react to changes in the Group’s overall risk profile. These include health and safety, people, legal compliance, quality assurance, insurance and security, and reputational, social, ethical and environmental risks; → discussion relating to a presentation from the IT Director on cyber-security, including an assessment of vulnerabilities and the programmes being implemented to protect the Group against this evolving and potentially catastrophic risk; → consideration and discussion relating to regular updates from the Finance Director regarding developments within the finance function; and → review of the Group’s treasury policies with the Finance Director and Head of Treasury in order to ensure best practice is being adhered to. The Board has reviewed these procedures and considers them appropriate given the nature of the Group’s operations. The Chief Risk Officer (CRO) and the Finance Director presented a report on the robustness of the internal controls for the year and an internal audit plan for 2017. The Committee has concluded that the system of internal control and risk management is embedded into the operations of the Group and the actions taken to mitigate any weaknesses are carefully monitored. The key controls in place are: → a defined organisational structure and an appropriate level of delegated responsibility to operational management; → authorisation limits for financial and non-financial transactions; → written operational procedures; → a comprehensive financial reporting system within which → a robust system of financial budgeting and forecasting; → a robust system of financial reporting with actual results compared to budget and forecast results; and → regular reporting of operational performance and risks to the Board. actual results are compared with approved budgets, quarterly reforecasts and previous years’ figures on a monthly basis and reviewed at both local and Group level; and → an investment evaluation procedure to ensure an appropriate level of approval for all capital and revenue expenditure; → discussion and approval by the Board of the Group’s strategic directions, plans and objectives and the risks to achieving them, combined with regular reviews by management of the risks to achieving objectives and actions being taken to mitigate them; → review and approval by the Board of annual budgets, combined with regular operational and financial reviews of performance against budget, prior year results and regular forecasts by management and the Board; Annual report and accounts 2016 59 Mears Group PLC Corporate governanceReport of the Audit Committee continued Main activities of the Committee during the year continued Internal control and risk management continued In 2014 a review of internal controls was performed by independent internal audit outsourced partners KPMG. This work was commissioned on a risk-based approach and was performed to provide the Committee with independent assurance over the quality of risk management and strength of internal controls. The procedures performed by KPMG were undertaken within inherently risky areas that would affect KPI performance. This assignment was finalised during 2015 and the independent view of internal controls was that controls were generally adequate, though improvements were suggested. The improvements have been implemented. In line with the Audit Plan for 2017, the Committee anticipates refreshing and extending this review during the course of the coming year. The Company has in place internal control and risk management systems in relation to the Company’s financial reporting process and the Group’s process for the preparation of consolidated accounts. The consolidated financial statements are produced by the Group finance function, which is responsible for the review and compilation of reports and financial results from each of the operating subsidiaries in accordance with the Group reporting procedures. The consolidated financial statements are supported by detailed working papers. The Audit Committee is responsible for overseeing and monitoring these processes, which are designed to ensure that the Company complies with relevant regulatory reporting and filing requirements. As at the end of the period covered by this report, the Audit Committee, with the participation of the Chief Executive Officer and the Finance Director, evaluated the effectiveness of the design and operation of disclosure controls and procedures designed to ensure that information required to be disclosed in financial reports is recorded, processed, summarised and reported within specified time periods. The Committee carried out a review of its effectiveness with input from Committee and Board members, management and the external auditor. The review concluded that the Audit Committee members had sufficient expertise and committed time to discharge their responsibilities. External audit related services The Committee is also responsible for monitoring and reviewing the performance, independence and objectivity of Grant Thornton UK LLP, the external auditor. The external auditor has also confirmed that it has complied with relevant UK independence standards. It is expected that the formal rotation of the current lead audit partner will be effective from the audit of the financial statements for 2017. During the year the Financial Reporting Council (FRC) undertook an audit quality review of the Grant Thornton statutory audit of 2015. The results were discussed separately by me with both the FRC and Grant Thornton. The Audit Committee was pleased with the positive outcome and two minor amendments have been made to the audit process for the current year. The Company has adopted a strict policy of prohibiting the external auditor from carrying out non-audit services, in order to safeguard audit objectivity and independence. The Committee is responsible for approval of all non-audit services provided by Grant Thornton; however, this is considered to be in exceptional circumstances only. In such an exceptional event, the Audit Committee would approve only where the Company would be disadvantaged by engaging an alternative provider, for instance where Grant Thornton possesses a detailed knowledge of the structure of the business or an understanding of the markets that the Group operates in. During 2016, Mears was delighted to retain its accreditation with Investors in People (IIP). This followed a four-week assessment programme which involved external assessors visiting 16 branches and interviewing around 300 employees. IIP in the South of England is delivered by Grant Thornton under licence from the UK Commission for Employment and Skills. Whilst Mears played no part in the selection of Grant Thornton as its external assessor, the fee of £45,000 paid to Grant Thornton for this assessment is required to be disclosed within non-audit services. Other than in respect of this IIP assessment, there were no fees paid to Grant Thornton during the year in respect of non-audit services. In the comparative 2015 year, fees relating to non-audit services amounted to £0.03m, being 7% of total fees. G Davies Audit Committee Chairman geraint.davies@mearsgroup.co.uk 27 March 2017 60 Mears Group PLC Annual report and accounts 2016 Corporate governanceReport of the Remuneration Committee Peter Dicks Remuneration Committee Chairman Dear shareholder, On behalf of the Board, I am pleased to present the report on Directors’ remuneration for 2016. You will have read earlier in the Annual Report that 2016 has been a solid year of further progress for the Company. During the last twelve months, the Company has continued to make significant progress in a number of areas including: → achieving a broader housing service offering; → an important step forward with the award of the long-term joint venture partnership with Milton Keynes Council; → an order book standing at £3.1 billion with solid visibility for 93% of 2016 consensus revenues reflecting strong progress in positioning the business for the future; and → continued financial discipline evidenced by conservative accounting policies and a track record of strong cash management. Despite progress made during the year that ensures that the Group is well positioned, the external operating environment around the Care business remains challenging, impacting earnings for the year. As a result, there will be no contribution to the Management Incentive Plan (MIP) in 2016. Details of our performance against MIP targets are as follows. Performance measures* Threshold Maximum Actual EPS growth TSR growth Cash conversion (underpin) ROCE (underpin) 8% 10% 80% 10% 13% 20% 80% 10% 5% 3% 70% 18% * See pages 73 and 74 for definitions of performance measures and actual remuneration outcomes. Review of remuneration policy The Company’s remuneration policy was last approved at the 2014 AGM and as such is due for renewal at the 2017 AGM. During the year, the Committee undertook an in-depth review of the current policy to ensure that we have in place a forward-looking policy that supports the evolving business strategy, striking a balance between short-term corporate success and long-term value creation ensuring there is no payment for failure. In making its review, the Remuneration Committee also considered the goals it would like the remuneration policy to support. These are set out below: → ensuring that Executive remuneration is linked to performance and sustained achievement of annual financial, strategic and operational objectives which lead to the creation of long-term shareholder value; → providing greater alignment between Executives’ interests and those of shareholders; → awareness of the need for more fairness in pay outcomes across the wider workforce; → maintaining flexibility, in recognition of the uncertain business environment, while making sure that remuneration outcomes are aligned to long-term shareholder interests by ensuring a significant proportion of any incentive payout is linked to the achievement of hard financial targets; and Annual report and accounts 2016 61 Mears Group PLC Corporate governanceReport of the Remuneration Committee continued “ The Company’s remuneration structure has been designed to support the evolving business strategy and foster a pay for performance culture, helping us achieve our corporate goals.” Review of remuneration policy continued → shareholder support for the rationale and structure of Executive remuneration of our key Executives who are critical to executing the business strategy. Following the review, the Committee determined that it wanted to retain the simplified salary and single ‘deferred annual bonus’ style incentive arrangement but that it needed to make a number of key changes primarily targeted at further strengthening the alignment of Executive pay with the interests of shareholders. These changes are designed to bring parts of the structure into line with best practice corporate governance whilst recognising certain aspects of the industry in which our employees operate. The Company is proposing to introduce a new incentive arrangement, the Executive Incentive Plan (EIP), which will replace the current Management Incentive Plan (MIP). The EIP, which will be split into two parts, simplifies the current annual incentive arrangement through the removal of the bonus banking construct and the cash payment mechanism. Significantly, under the EIP, annual award levels will be reduced from 250% to 200% of salary, paid in shares with no element of cash bonus. This reduction in incentive value has been largely driven by the Executive team, which is mindful of the pay structure of the wider workforce and wants to implement a greater fairness in pay structure. The Remuneration Committee is comfortable that this reduction in award levels does not present a retention risk as the proposed structure is designed to enable management to build up a meaningful level of equity in the business over the next five years. Of the reduced annual award level of 200% of salary, 100% of salary will be granted in deferred shares to ensure that the management team is locked in over the next five years. This element of the award will feature a financial underpin relating to earnings growth. Management is therefore provided with the opportunity to build up a meaningful stake in the business which ensures simple alignment with the long-term sustainable performance of the business. Furthermore, the high probability of payout of this element provides an enhanced lock in mechanism to reflect the reduction in award levels. The other 100% of salary will be granted as a ‘performance on grant’ type share award and will be granted based on the successful achievement of a range of annual performance measures which support the business strategy on a rolling basis. Amounts earned will vest over a three to five-year period on the same basis as the deferred share award. The Committee believes that it is important that shares start to vest at the three-year point rather than a longer period in order to ensure strong alignment with the interests of shareholders and the tenure of the management team. The EIP has been designed to ensure that it is fully aligned with the strategic priorities of the Group and provides a holistic assessment of overall corporate performance. The deferred share element featuring an EPS underpin provides a simple alignment with the long-term sustainable performance of the business by ensuring that management can build up and retain a meaningful shareholding in the Company. 62 Mears Group PLC Annual report and accounts 2016 The performance element of the EIP focuses on those metrics which will drive long-term value creation on a rolling basis from both: → a financial and operational perspective – growing earnings (EPS) and the quality of those earnings (ROCE) from both an organic and non-organic perspective balanced with strong cash and balance sheet management (cash conversion); and → a strategic perspective – strong customer service and our good health and safety record which helps win new contracts with end users and support new innovative operating models. Specific targets will be set on an annual basis taking account of both the short and medium-term business plan to ensure that the targets are sufficiently stretching and in the best interest of the shareholders. The Committee is mindful to ensure that there is no payment for poor performance and will therefore ensure that it reviews all incentive awards prior to grant and will exercise discretion to moderate the total annual incentive outcomes if necessary, to ensure that they balance management performance and the shareholder experience in any given financial year. Other remuneration and related issues The Remuneration Committee is acutely aware of the sensitivity around increasing pay levels in excess of the general workforce increase but believes that this is necessary to retain individuals as part of an overall remuneration strategy in which overall levels of remuneration remain conservative and a high proportion of total pay is delivered in long-term equity. As such it should be noted, that even after the proposed increases, the remuneration of the Executive Directors will be some of the lowest in the sector. Furthermore, the shareholding requirement will be increased over time to 400% of salary to reflect the new share award structure. This will ensure that the Executive Directors build up a meaningful shareholding in the Company so that their interests are directly aligned with those of shareholders in line with investor sentiment. 2017 AGM The Committee wishes to thank those shareholders who have actively engaged in helping the Committee shape a new remuneration policy. We have taken feedback into account and believe we have a structure that will both retain and motivate management, while being sensitive to the external and internal operating environment. The Directors’ remuneration policy will be subject to a binding shareholder vote, and the Annual Report on Remuneration along with this statement will be subject to an advisory shareholder vote at the forthcoming AGM on 7 June 2017. I hope that you find the information in this report helpful and I look forward to your support at the forthcoming AGM. I am always happy to hear from the Company’s shareholders and you can contact me direct, or via the Company Secretary, Ben Westran, if you have any questions on this report or more generally in relation to the Company’s remuneration. P F Dicks Remuneration Committee Chairman peter.dicks@mearsgroup.co.uk 27 March 2017 Corporate governanceRemuneration policy Directors’ remuneration policy Remuneration policy and philosophy Remuneration policy How is this achieved? A simple and transparent remuneration structure that retains and motivates Executives while being sympathetic to Mears’ operating environment from both an external and internal perspective. → Conservative levels of fixed remuneration balanced with one annual incentive strongly linked to performance. → The performance element of the annual incentive incorporates robust financial, operational and strategic KPIs that are aligned with an evolving business strategy in an uncertain economic environment. → All incentive payments are deferred into equity over a five-year period ensuring clear alignment with shareholders’ interests and ‘at-risk’ remuneration. A proportion of each Executive’s total compensation should be linked to performance related pay and the provision of equity. → All incentive payments are delivered in ‘deferred’ shares. At stretching performance, around one third of the Executive Directors’ total remuneration is based on the achievement of key corporate metrics that are aligned to the Company’s long-term strategy. There should be a commitment to fostering a performance culture that aligns an individual’s rewards with the key corporate metrics that drive shareholder value creation. → The performance measures used in the Executive Incentive Plan are directly aligned with our corporate goals and as such ensure that there is no payment for poor performance. → The Committee will ensure that the remuneration package does not lead to irresponsible behaviour and that it takes appropriate account of risk. Executive Directors The table below sets out the key elements of the policy for Executive Directors: Objective and link to strategy Base salary Operation Maximum opportunity Performance measures and assessment Not applicable. The purpose of the base salary is to: The Committee reviews base salaries annually in April. → help recruit and retain key individuals; → reflect the individual’s experience, role and contribution within the Group; and → ensure fair reward for ‘doing the job’. The Committee will retain the discretion to increase an individual’s salary where there is a significant difference between current levels and a market competitive rate. When determining base salaries and whether to increase levels the Committee will take the following into consideration: → the performance of the individual Executive Director; → the individual Executive Director’s experience and responsibilities; → the impact on fixed costs of any increase; → pay and conditions throughout the Group; and → the economic environment. When setting the salary levels for the Executive Directors, in addition to the factors summarised above, salary levels paid by companies of a similar size and complexity to Mears are taken into account. The annual increase will not exceed 10% of annual base salary. The Committee is guided by the general increase for the broader employee population but may decide to award a lower increase for Executive Directors or indeed exceed this to recognise, for example, an increase in the scale, scope or responsibility of the role and/or to take into account relevant market movements. The Company will set out in the section headed Implementation of Remuneration Policy, in the following financial year, the salaries for that year for each of the Executive Directors. Annual report and accounts 2016 63 Mears Group PLC Corporate governanceRemuneration policy continued Directors’ remuneration policy continued Executive Directors continued Objective and link to strategy Other benefits Operation Maximum opportunity Performance measures and assessment To provide benefits that are valued by the recipient and are appropriately competitive. The Executive Directors receive additional benefits including a company-provided car or an allowance in lieu, life assurance and private medical insurance. Other benefits may be provided where appropriate. Benefits in kind are not pensionable. Benefit values vary year on year depending on premiums and the maximum potential value is the cost of these provisions. Not applicable. Pension To provide a framework to save for retirement that is appropriately competitive. All Executive Directors receive a contribution into their respective defined contribution plans, which are subject to periodic review to ensure that they remain in line with rates applicable in the market. Only the base salary is pensionable. The Executive Directors receive a contribution of 15% of salary. Not applicable. Executive Incentive Plan (EIP) To provide a link between reward and corporate performance in order to appropriately retain and motivate the Executive Directors and senior management who are critical to executing the business strategy. To align the interests of Executive Directors and senior management more closely with shareholders over the longer term and provide a greater exposure to share price movements over this period. Annual awards of nil-cost options will be made based on the achievement of annual performance measures. Awards will be made in two parts: → 50% of the maximum award will be granted in deferred shares (“Part A”); and → 50% of the maximum award will be granted based on the achievement of a range of annual performance measures (“Part B”). Both awards will vest 60% after three years, with a further 20% after four years and the remaining 20% after five years. The Committee may award dividends/dividend equivalents on shares to the extent that the shares vest. In exceptional circumstances (such as recruitment) the Committee retains the discretion to provide an element of the award in cash. Further details of the operation of the EIP, including the performance measures for 2017, are set out on pages 76 and 77. Annual awards made to Executive Directors will be capped at a maximum of 200% of salary. For Part A of the award, 100% will vest if the EPS metric is met in full. For Part B of the award: → 20% of the award will vest for threshold performance; and → 100% of the award will vest for maximum performance. There is straight-line vesting between these points. The performance measure for Part A will be earnings per share. The performance measures for Part B of the 2017 awards are as follows: earnings per share (EPS), return on capital employed (ROCE), cash conversion, customer satisfaction and health and safety. The Remuneration Committee has discretion to set performance measures and weightings on an annual basis, with performance measures for the next financial year set out in the Statement of Implementation on pages 76 to 78. The EIP contains malus (up to date of vesting) and clawback (two years post vesting) provisions. 64 Mears Group PLC Annual report and accounts 2016 Corporate governanceDirectors’ remuneration policy continued Executive Directors continued Objective and link to strategy Operation Maximum opportunity Performance measures and assessment All-employee share plans Under the SIP, Sharesave and CSOP, the maximum amount is equal to the regulatory limits set from time to time. Not applicable. Encourages employees to own shares in order to increase alignment over the longer term. All employees are eligible to participate in the Company’s Share Incentive Plan (SIP) and Sharesave Plan. Under the terms of the Sharesave Plan all employees can apply for three or five-year options to acquire the Company’s shares priced at a discount of up to 20%. Under the terms of the SIP the Company can choose to offer free shares, partnership shares, matching shares (up to two for one on any partnership shares purchased) and/or dividend shares. In addition the Company operates a discretionary unapproved share plan and a Company Share Option Plan (CSOP). No awards to Executive Directors are proposed under these plans. Shareholding requirement Secures a long-term locked-in alignment between the Executive Directors and shareholders, ensuring that they build up and maintain a minimum level of shareholding throughout their employment with the Company. The shareholding requirement will operate in the following manner: Minimum shareholding requirement is 400% of salary. Not applicable. → only shares unconditionally owned by the Executive Director will count against the requirement; and → shares can be built up over a five-year period from implementation of the policy through the vesting and retention of share awards and/or MIP/EIP payments. Provisions of previous policy that will continue to apply No further contributions can be made to participants’ plan accounts under the MIP. Not applicable. Management Incentive Plan (MIP) Participants have a plan account into which annual contributions by Mears are made. No further contributions are due to be made under the new policy. Each year participants are entitled to withdraw up to 50% of the plan account balance in cash or shares with the remaining 50% deferred in shares. 50% of the plan account is at risk of forfeiture each year if minimum levels of performance are not met. 2017 is the final year of the MIP. No further contributions will be made; however, the final balance of a participant’s plan account is due to be paid out in shares. The Committee has determined that this final payment will be deferred into shares which vest in annual instalments (rather than a single payment) over 2017–2019. Further details of the operation of the MIP, including the performance measures for 2016, are set out on page 73. Annual report and accounts 2016 65 Mears Group PLC Corporate governanceRemuneration policy continued Directors’ remuneration policy continued Notes to the future policy table Changes to remuneration policy from previous policy The Management Incentive Plan (MIP) has been replaced by the EIP as the Company’s variable incentive arrangement. The EIP retains the single ‘deferred annual bonus’ style of the MIP but has a small number of key changes which are designed to further strengthen the alignment of the Executives’ pay with the interests of shareholders. → Under the EIP, awards will be made 100% in shares rather than split between cash and shares. → An element of deferral has been retained with awards vesting 60% after three years, 20% after four years and 20% after five years. This compares to the MIP, which had a decreasing length of holding period as the plan progressed. → Maximum award levels have been reduced from 250% of salary to 200% of salary. Of this, 100% of salary will be granted as deferred shares. The remaining 100% of salary will be awarded based on the successful achievement of a range of annual performance measures, as per the previous construct. → Strategic and operational performance measures have been introduced to sit alongside the previous EPS and TSR measures. → Malus and clawback provisions have been introduced in line with UK corporate governance best practice. Deferred awards under the MIP will continue to vest though the payment schedule, which has been increased to four years from two to provide further alignment between Executive Directors and shareholders. See page 73 for further details. In addition to the all-employee Sharesave Plan, the Company is intending to introduce the Mears Share Incentive Plan (SIP). The previous Share Plan will not continue to operate for Executive Directors under the new policy. All awards under this incentive have now vested. Reasons for selecting performance measures The Committee wanted to ensure that the performance measures selected provide a holistic assessment of overall corporate performance and tie in to the non-financial objectives that the Company embraces throughout the organisation. EPS growth has been selected as it provides direct alignment to the Company’s strategic objectives over the long term and is also transparent, fully understood by participants and an externally audited metric over which they have line of sight. The use of ROCE and cash conversion (previously incorporated as underpins) ensures that quality of earning is protected and the Company maintains strong working capital management. Customer satisfaction and health and safety performance conditions are included as these are key KPIs that the Company focuses on and by performing strongly in these areas, it will help win new contracts with end users and support new innovative operating models. Targets are calibrated to reflect the Committee’s assessment of good to exceptional performance and taking into account internal budgets and the current economic environment. 66 Mears Group PLC Annual report and accounts 2016 Differences in remuneration policy for all employees The Company sets terms and conditions for employees which reflect the different legislative and labour market conditions that operate in each of our jurisdictions. We will always meet or exceed national minimum standards for terms and conditions of employment in each of our business areas. Pay arrangements in our businesses also reflect local performance with personal increases based on achievement, individually assessed. Mears believes in the value of continuous improvement, both for the individual and for the Company. In general, all employees receive base salary, benefits and pension, and are eligible to participate in the Company’s share plans. Share awards and bonus plans are cascaded down below Executive level to senior management, aligning the Senior Management Team to deliver value for the Group. The remuneration of the Executive Directors and Senior Executives is more heavily weighted towards variable pay than for other employees with a large proportion of their overall package dependent on successful and sustained execution of the business strategy over the longer term. Committee discretions The Committee will operate the EIP and MIP according to their respective rules. The Committee retains discretion, consistent with market practice, in a number of regards to the operation and administration of these plans. These include, but are not limited to, the following: → the participants; → the timing of grant of an award; → the size of an award; → the determination of vesting; → discretion required when dealing with a change of control or restructuring of the Group; → determination of the treatment of leavers based on the rules of the plan and the appropriate treatment chosen; → adjustments required in certain circumstances (e.g. rights issues, corporate restructuring events and special dividends); → the annual review of performance measures and weighting for the EIP and exercise conditions (if any) for the EIP and the MIP; and → in exceptional circumstances the payment of a proportion of the EIP in cash. These discretions, which in certain circumstances can be operated in both an upward and downward manner, are consistent with market practice and are deemed necessary for the proper and fair operation of the schemes in order to achieve their original purpose. It is the Committee’s policy, however, that there should be no element of reward for poor performance and any upward discretion will only be applied in exceptional circumstances. Corporate governanceDirectors’ remuneration policy continued Illustrations of application of remuneration policy We estimate that the level of remuneration received by each Executive Director for the first full year in which the policy applies will be, indicatively, at three different levels of performance: → minimum performance includes where only fixed pay (salary, benefits and pension); → on-target performance includes Part A of the EIP and 60% of Part B of the EIP; and → maximum performance includes the maximum opportunity under the EIP. Fixed pay is base salary for 2017 plus the value of pension and other benefits. The charts demonstrate the balance between fixed and variable pay for minimum, threshold and maximum performance for Executive Directors’ remuneration in 2017 in line with the relevant policy. Approach to recruitment remuneration In the event that the Company recruits a new Executive Director (either from within the organisation or externally), when determining appropriate remuneration arrangements, the Committee will take into consideration all relevant factors (including but not limited to quantum, the type of remuneration being offered and the jurisdiction the candidate was recruited from) to ensure that arrangements are in the best interests of both the Company and its shareholders without paying more than is necessary to recruit an Executive of the required calibre. The Committee would generally seek to align the remuneration of any new Executive Director following the same principles as for the current Executive Directors (set out in the table on page 70). The elements that would be considered by the Company for inclusion in the remuneration package for a new Director are in line with those offered to existing Directors (see policy table on pages 63 to 65 for more details): → salary and benefits including defined contribution pension participation or a salary supplement in lieu of pension provision; → participation in the EIP of up to 200% of salary; → participation in all-employee share plans operating at that time; and → costs relating to but not limited to relocation, legal, financial, tax and visa advice and pre-employment medical checks. The maximum variable remuneration will be 200% of salary. The Committee may make awards on appointing an Executive Director to ‘buy out’ remuneration arrangements forfeited on leaving a previous employer. Awards made by way of compensation for forfeited awards would be made on a comparable basis, taking account of performance achieved (or likely to be achieved), the proportion of the performance period remaining and the form of the award. Compensation could be in cash or shares. D J Miles 1,400 ’ 800 1,000 ) 1,200 0 0 0 £ ( n o i t a r e n u m e R 400 600 200 57% £619 43% £464 63% £774 37% £464 100% £464 0 Minimum On-target Maximum A C M Smith Annual variable Fixed ) ’ 0 0 0 £ ( n o i t a r e n u m e R 1,000 800 600 400 200 0 58% £413 42% £304 63% £516 37% £304 100% £304 Minimum On-target Maximum Annual variable Fixed A Long 1,000 ) ’ 0 0 0 £ ( n o i t a r e n u m e R 800 600 400 200 0 57% £338 43% £254 63% £422 38% £254 100% £254 Minimum On-target Maximum Annual variable Fixed Annual report and accounts 2016 67 Mears Group PLC Corporate governance Remuneration policy continued Directors’ remuneration policy continued Approach to recruitment remuneration continued The Committee’s policy is for all Executive Directors to have rolling service contracts with a notice period of twelve months, unless on an exceptional basis to complete an external recruitment successfully, when a longer initial period reducing to twelve months may be used. Service contracts and payment for loss of office Director Executive D J Miles A C M Smith A Long Chairman/Non-Executive R Holt D L Hosein M G Rogers P F Dicks R Macnamara G Davies J Unwin J Burt R Irwin Date of contract/ letter of appointment Notice period by Company or Director June 2008 June 2008 August 2009 June 2015 June 2008 June 2008 June 2008 June 2010 October 2015 January 2016 February 2017 February 2017 12 months 12 months 12 months Rolling 6-month appointment Rolling 6-month appointment Rolling 6-month appointment Rolling 6-month appointment Rolling 6-month appointment Rolling 6-month appointment Rolling 6-month appointment Rolling 6-month appointment Rolling 6-month appointment All Executive Directors’ contracts are rolling and, therefore, will continue unless terminated by written notice. In the event of the termination of an Executive Director’s contract, salary and benefits will be payable during the notice period. There will, however, be no automatic entitlement to bonus payments or share incentive grants during the period of notice. The rules of the EIP and the MIP set out what happens to awards if a participant ceases to be an employee or Director of Mears before the end of the vesting period. Generally, any outstanding share awards will lapse on such cessation, except in certain circumstances. If the Executive Director ceases to be an employee or Director as a result of death, injury, ill health, redundancy, retirement, the sale of the business or company that employs the individual or any other reason at the discretion of the Committee, then they will be treated as a ‘good leaver’ under the plan rules. Under the EIP, a proportion of a good leaver’s award will vest on cessation of employment by reference to the time elapsed from grant to cessation. The Committee has discretion to determine the period during which the good leaver may exercise their award after cessation. On a change of control, all awards under the EIP will vest immediately. Under the MIP, a good leaver’s accumulated plan account (as measured at the date of cessation of employment) will be paid to them. For other leavers, any amounts not vested will lapse. On a change of control, the accumulated plan accounts of all participants (as measured at the date of change of control) will be paid to them. 68 Mears Group PLC Annual report and accounts 2016 Corporate governanceDirectors’ remuneration policy continued Chairman and Non-Executive Directors The Board as a whole is responsible for setting the remuneration of the Non-Executive Directors, other than the Chairman whose remuneration is determined by the Committee and recommended to the Board. The table below sets out the key elements of the policy for the Chairman and Non-Executive Directors. Objective and link to strategy Operation Maximum opportunity Performance measures and assessments To provide compensation that attracts individuals with appropriate knowledge and experience. Fee levels are reviewed periodically taking into account independent advice and the time commitment required of Non-Executive Directors. The fees paid to the Chairman and the fees of the other Non-Executive Directors aim to be competitive with other listed companies which the Committee (in the case of the Chairman) and the Board (in respect of the Non-Executive Directors) consider to be of equivalent size and complexity. Non-Executive Directors receive a base fee and additional fees for the role of Senior Independent Director or membership and/or chairmanship of certain Committees. The Chairman receives a single fee and does not receive any additional fees for membership and/or chairmanship of Committees. Non-Executive Directors also receive reimbursement of reasonable expenses (and any tax thereon) incurred through undertaking their duties and/or Company business. Any increase in Non-Executive Director base fees or additional Committee/membership fees (if introduced) may be above the level awarded to other employees, given that they may only be reviewed periodically and may need to reflect any changes to time commitments or responsibilities. Non-Executive Director fees are not performance related. Non-Executive Directors do not receive any variable remuneration element. The maximum potential value of any benefits provided is the cost of these provisions. The Company will pay reasonable expenses incurred by Non-Executive Directors. Current fee levels are set out in the Statement of Implementation on page 76. Annual report and accounts 2016 69 Mears Group PLC Corporate governanceRemuneration policy continued Directors’ remuneration policy continued Other Non-Executive appointments Executive Directors have an obligation to inform the Board, specifically the Remuneration Committee, of any Non-Executive positions held or being contemplated and of the associated remuneration package. The Remuneration Committee will consider the merits of each case and carefully consider the work and time commitment required to fulfil the Non-Executive duties and the potential benefit to the Group and then determine whether the remuneration should be retained by the Executive or passed over to the Group. Consideration of employment conditions elsewhere in the Company in developing policy In setting the remuneration policy for Executive Directors, the Remuneration Committee takes into account Group and business unit performance including both financial performance and safety improvements in the year. Due to the wide variety of labour market conditions and the markets in which we operate, pay rates are not normally considered when considering Executive Director base pay reviews. The Remuneration Committee reviews and notes the salaries of Senior Executives within the Group. The Committee has not expressly sought the views of employees and no remuneration comparison measurements were used when drawing up the Directors’ remuneration policy. Through the Board, however, the Committee is updated as to employee views on remuneration generally. Consideration of shareholder views The Committee is committed to an ongoing dialogue with shareholders and seeks shareholder views when any significant changes are being made to remuneration arrangements. We remain sensitive to the views of shareholders and sought to consult many of our largest shareholders regarding the changes we are proposing to the remuneration policy. As a result of the feedback received, the Committee made a number of changes to the initial design to ensure that the new incentives are delivering the necessary lock-in and motivation to deliver long-term shareholder value, particularly given the reduction in total share-based incentive levels from 250% to 200%. The Company will continue to monitor shareholder comments and retain an open dialogue as necessary. Annual remuneration report 2016 Annual report on remuneration This section of the Remuneration Report contains details of how the Company’s remuneration policy for Directors was implemented during the financial year. Single total figure of remuneration (audited) Executive Directors The remuneration of Executive Directors showing the breakdown between elements and comparative figures is shown below. Figures provided have been calculated in accordance with the regulations. Executive Director (£’000) D J Miles A C M Smith A Long Year Salary Taxable benefits Pension Annual incentives Total remuneration 2016 2015 2016 2015 2016 2015 363 363 242 242 198 198 19 19 7 7 11 11 54 54 36 36 30 30 — — — — — — 436 436 285 285 239 239 70 Mears Group PLC Annual report and accounts 2016 Corporate governanceAnnual report on remuneration continued Single total figure of remuneration (audited) continued Non-Executive Directors The remuneration of Non-Executive Directors showing the breakdown between elements and comparative figures is shown below. Figures provided have been calculated in accordance with the regulations. Chairman and Non-Executive Director (£’000) R Holt D L Hosein M G Rogers P F Dicks D Marston R Macnamara G Davies J Unwin 1. From the 2017 AGM, R Holt will receive no benefits. Year 2016 2015 2016 2015 2016 2015 2016 2015 2016 2015 2016 2015 2016 2015 2016 2015 Basic fees 250 250 45 45 45 45 45 45 — 22 45 45 45 11 45 — Additional fees — — — — — — — — — — — — — — — — Other 95 1 95 — — — 3 — — — — — — — — — — Total fees 345 345 45 45 45 48 45 45 — 22 45 45 45 11 45 — Annual report and accounts 2016 71 Mears Group PLC Corporate governanceAnnual remuneration report 2016 continued Annual report on remuneration continued Additional details in respect of single total figure table (audited) The outcome of the MIP for the year ended 31 December 2016, being year four on the schematic, is set out on page 73. The following schematic illustrates the operation of the MIP: Start of year 1 Year 1 Year 2 Year 3 Year 4 Year 5 Measurement date at the end of each plan year Contribution Contribution or deduction Contribution or deduction Contribution or deduction Participants’ plan accounts 50% of closing balance paid at the end of each plan year as a combination of cash or shares. Unpaid balance deferred in shares 100% of closing balance in plan paid in shares 72 Mears Group PLC Annual report and accounts 2016 Corporate governanceAnnual report on remuneration continued Additional details in respect of single total figure table (audited) continued The performance measures and targets for the MIP for the year ended 31 December 2016 are detailed below: Description Weighting Calculation Targets Earnings per share (EPS) 80% → Growth in diluted EPS. → Threshold: Absolute total shareholder return (TSR) 20% Cash conversion (underpin) N/A  Return on capital employed (ROCE) (underpin) N/A Diluted EPS is stated before exceptional costs, share-based payments, costs relating to the MIP and amortisation of acquisition intangibles and is adjusted for a normalised tax charge from 1 January 2016 to 31 December 2016. → Base figure of 29.58p to be used. 8% EPS growth leads to 20% maximum contribution. → Maximum: 13% EPS growth leads to 100% maximum contribution. → Straight-line contribution between 8% and 13% growth. → Growth in absolute → Threshold: TSR from 1 January 2016 to 31 December 2016 (using an average period of 30 days for both dates). → Starting share price is £4.47. → Cash inflow from operating activities as a proportion of operating profit before acquisition intangible amortisation measured at 31 December 2016. → Operating profit before acquisition intangible amortisation and exceptional costs/(total assets – current liabilities less all balances relating to bank borrowings and overdrafts classified within non-current liabilities) at 31 December 2016. 10% TSR growth leads to 20% maximum contribution. → Maximum: 15% TSR growth leads to 100% maximum contribution. → Straight-line contribution between 10% and 15% growth. → A threshold level of cash conversion of 80% must be achieved. → If this threshold level is not achieved, 50% of any annual contribution in relation to EPS will be forfeited. → A threshold level of ROCE of 10% must be achieved. → If this threshold level is not achieved, 50% of any annual contribution in relation to EPS will be forfeited. The actual performance achievement is summarised below: Performance measures EPS growth TSR growth Cash conversion (underpin) ROCE (underpin) Actual 5% 3% 82% 18% % of target satisfied 0% 0% Yes Yes The Remuneration Committee was also satisfied that a minimum level of corporate performance had been exceeded and so no forfeiture of the accumulated plan account was necessary. Annual report and accounts 2016 73 Mears Group PLC Corporate governanceAnnual remuneration report 2016 continued Annual report on remuneration continued Additional details in respect of single total figure table (audited) continued The value of plan accounts following the contribution for the year is set out below: 2015 closing balance brought forward (shares) 2015 closing balance brought forward (£)1 2016 contribution (£) % of salary 2016 plan account balance (£) 2016 plan account balance (shares)1 2016 account balance to be withdrawn in shares (£) 2016 account plan balance converted into deferred shares, vesting over 2017 and 2019 (shares) D J Miles 207,998 948,469 — — 948,469 207,998 474,235 103,999 A C M Smith 138,665 632,313 — — 632,313 138,665 316,157 69,333 A Long 113,453 517,347 — — 517,347 113,453 258,674 56,727 1. Using share price as at 31 December 2016 = 456p. As set out in the policy, it is proposed that, following the withdrawal of 50% of the 2016 plan account balance in shares, the remaining balance will be converted into deferred shares, with vesting in annual instalments over 2017 to 2019. The Committee believes that the change to the timings of payments and 100% use of shares will provide further alignment between Executive Directors and shareholders. The deferred shares remain subject to continued employment and as such only the portion vesting each year will be included in the single figure table. Statement of Directors’ shareholding and share interests (audited) Directors’ share interests are set out below: Director D J Miles A C M Smith A Long R Holt D L Hosein M G Rogers P F Dicks G Davies J Unwin J Burt R Irwin Share interests Conditional unvested Vested but unexercised Share awards/ options Options Total interests held at year end 103,999 69,333 56,727 443,748 164,729 248,666 69,333 149,684 56,727 150,000 — 150,000 — — — — 40,000 — — 39,541 — 2,500 — — — — — — — — — — — Number of beneficially owned shares 175,020 110,000 36,230 — — 40,000 39,541 2,500 — — — On 29 April 2016 the following Directors and connected persons exercised options over shares received pursuant to the Mears Group PLC Share Plan (2013): Date of transaction 29 April 2016 29 April 2016 29 April 2016 Number of options exercised and sold 203,367 135,578 110,927 Option price Sale price per share Gain on exercise 1p per share 1p per share 1p per share £4.00 £4.00 £4.00 811,434 540,956 442,599 Director D J Miles A C M Smith A Long 74 Mears Group PLC Annual report and accounts 2016 Corporate governanceAnnual report on remuneration continued Shareholder dilution In accordance with the Association of British Insurers’ guidelines, the Company can issue a maximum of 10% of its issued share capital in a rolling ten-year period to employees under all its share plans. In addition, of this 10% the Company can issue 5% to satisfy awards under discretionary or Executive plans. The Company operates all its share plans within these guidelines. Performance graph and table (unaudited) The graph below shows the Group’s performance, measured by TSR, compared with the constituents of the FTSE All-Share support service sector over the last eight years. The Index is the most relevant to compare the Group’s performance against its peers. £285 £240 £195 £150 £105 £60 Dec 08 Dec 09 Dec 10 Dec 11 Dec 12 Dec 13 Dec 14 Dec 15 Dec 16 Mears FTSE All-Share SS FTSE AS The table below shows the Chief Executive Officer’s remuneration package over the past eight years, together with incentive payout/ vesting as compared to the maximum opportunity. Year 2016 2015 2014 2013 2012 2011 2010 2009 Single figure of total remuneration (£’000) Bonus payout (as % maximum opportunity) Long-term incentive accrual rate (as % maximum opportunity) 436 436 412 825 409 384 270 600 — — — — — — — — — 20% 35% 100% — — — — — Name D J Miles D J Miles D J Miles D J Miles D J Miles D J Miles D J Miles R Holt R Holt 1,095 100% Annual report and accounts 2016 75 Mears Group PLC Corporate governanceAnnual remuneration report 2016 continued Annual report on remuneration continued Percentage change in Chief Executive Officer’s remuneration The table below compares the percentage change in the salary of the Chief Executive Officer with that of the wider employee population. Chief Executive Officer Office salaries Remuneration Salary entitlement Benefits Bonus/ incentives 5% 1% 0% — 0% — Relative importance of spend on pay The table below sets out the relative importance of spend on pay in the financial year and previous financial year compared with other disbursements from profit. Significant distributions Total Directors’ pay Profit distributed by way of dividend Underlying profit before tax Disbursements from profit in financial year 2016 £’000 Disbursements from profit in previous financial year 2015 £’000 1,530 11,483 40,062 1,858 10,445 36,757 % change 1% 10% 9% Statement of implementation of remuneration policy in the following financial year Executive Directors Salary The salary entitlements for the forthcoming year are set out below: Executive Director D J Miles A C M Smith A Long Pension Details of pension contributions for the year ended 31 December 2016 are set out below: Executive Director D J Miles A C M Smith A Long 2017 £ 386,817 257,912 211,019 2016 £ 381,100 254,100 207,900 % change 1.5% 1.5% 1.5% Pension 15% 15% 15% EIP As set out in the policy table, the EIP is split into two parts: the deferred share award and the performance share award. Set out below is the maximum opportunity of each part for the year ended 31 December 2017: Part A – Deferred share award (% of salary) 100% Part B – Performance share award (% of salary) 100% 76 Mears Group PLC Annual report and accounts 2016 Corporate governanceStatement of implementation of remuneration policy in the following financial year continued Executive Directors continued EIP continued For the 2017 EIP, the performance share award threshold level of vesting is 20% for each measure. The measures and weightings are set out below: Condition Earnings per share (EPS) ROCE EBITDA cash conversion Other Customer satisfaction Health and safety In setting these targets, the Committee is taking under consideration (amongst other items): → the Company’s business plan; → consensus forecasts for the Company; and → alignment with the Company’s business strategy. Non-Executive Directors The following table sets out the fee rates for the Non-Executive Directors: Chairman fee Base fee Committee Chairman fee Committee membership fee Weighting 40% 40% 20% Payout range (threshold to maximum opportunity) 20%–100% 20%–100% 20%–100% 20%–100% 20%–100% 2017 2016 250,000 50,000 15,000 5,000 — 45,000 — — % change N/A 11 N/A N/A It should be noted that the Chairman no longer receives any benefits from the date of the 2017 AGM. For 2016 the benefits amounted to £95,000. Role of the Committee and activities The Committee determines the total individual remuneration packages of each Executive Director of the Group and certain other senior employees (and any exit terms) and recommends to the Board the framework and broad policies of the Group in relation to Senior Executive remuneration. The Committee determines the targets for all of the Group’s performance related remuneration and exercises the Board’s powers in relation to all of the Group’s share and incentive plans. There is a formal and transparent procedure for developing policy on Executive remuneration and for determining the remuneration of individual Directors. The Remuneration Committee is responsible for: → determining and agreeing with the Board the broad remuneration policy for: → the Chairman, the Executive Directors and senior management; and → the Executive Directors’ remuneration and other benefits and terms of employment, including performance related bonuses and share options; and → approving the service agreements of each Executive Director, including termination arrangements. No Director is involved in determining his/her own remuneration. Annual report and accounts 2016 77 Mears Group PLC Corporate governanceAnnual remuneration report 2016 continued Statement of implementation of remuneration policy in the following financial year continued Annual overview The Committee has continued to work to build investor confidence with regard to its Executive remuneration policies and remains committed to the following actions: → improving the level of openness and transparency in remuneration reporting through a detailed Annual Remuneration Report; → operating a structured incentive arrangement with clear financial performance targets for each year; → undertaking a regular review of the remuneration policies for Executive Directors and other Senior Executives within the Group to ensure that they remain appropriate to retain and motivate such individuals; → considering pay policies within the Group as a whole when determining Executive Directors’ remuneration packages; → encouraging Executive Directors and Senior Executives to build up a meaningful shareholding in the Company to more closely align the interests of shareholders and Executives; and → being kept fully aware and informed on developments and best practice in the field of remuneration and corporate governance from external advisers, institutional shareholders and their representative bodies. Notwithstanding the above, the Committee recognises that the success of the Group is dependent upon the efforts of key individuals and that they should be fairly rewarded for their efforts and contributions in making Mears the success it is. Advisers to the Committee In 2016, the Committee continued to engage PwC and received wholly independent advice on Executive compensation. PwC is a member of the Remuneration Consultants Group and complies with its code of conduct that sets out guidelines to ensure that its advice is independent and free of undue influence. Fees paid to PwC in respect of these services in the year ended 31 December 2016 were £30,000. Statement of voting at general meeting The table below shows the historic voting outcomes in respect of the remuneration policy and Annual Remuneration Report. Item Votes for % Votes against % Votes withheld To approve the Directors’ Remuneration Report (2016) 84,285,932 97.924 1,740,944 2.023 45,779 To approve the remuneration policy (2014) 73,134,765 90.863 7,350,317 9.132 3,688 The total number of ordinary shares eligible to vote at the 2016 AGM was 102,526,212. Every shareholder has one vote for every ordinary share held. 78 Mears Group PLC Annual report and accounts 2016 Corporate governanceReport of the Directors The Directors present their report together with the consolidated financial statements for the year ended 31 December 2016. Principal activities The principal activities of the Group are the provision of a range of outsourced services to the public and private sectors. The principal activity of the Company is to act as a holding company. Appointment of Directors Directors are appointed by ordinary resolution, or the existing Directors may appoint a person as a Director to either fill a vacancy or as an additional Director provided that the number of Directors does not exceed the maximum permissible. Any person appointed by the Directors must retire at the next AGM but will be eligible for re-election at that meeting. Business review The Company is required to set out a fair review of the business of the Group during the reporting period. The information that fulfils this requirement can be found in the Strategic Report, Review of Operations and Financial Review. The results of the Group can be found within the Consolidated Income Statement. Information required to be disclosed in respect of emissions and future developments is included within the Strategic Report. Dividend The final dividend in respect of 2015 of 7.90p per share was paid in July 2016. An interim dividend in respect of 2016 of 3.30p was paid to shareholders in November 2016. The Directors recommend a final dividend of 8.40p per share for payment on 4 July 2017 to shareholders on the Register of Members on 16 June 2017. This has not been included within the consolidated financial statements as no obligation existed at 31 December 2016. Corporate governance Details of the Group’s corporate governance are set out on pages 48 to 53. Key performance indicators (KPIs) We focus on a range of key indicators to assess our performance. Our performance indicators are both financial and non-financial and ensure that the Group targets its resources around its customers, employees, operations and finance. Collectively they form an integral part of the way that we manage the business to deliver our strategic goals. Our primary performance indicators are detailed on pages 14 to 17. Directors The present membership of the Board is set out with the biographical detail on page 46. In line with current practice, all of the Directors will retire and, being eligible, offer themselves for re-election at the AGM in June 2017. The beneficial interests of the Directors in the shares of the Company at 31 December 2016 and 31 December 2015 are detailed within the Remuneration Report on page 74. The process governing the appointment and replacement of Directors is detailed within the Report of the Nomination Committee on pages 54 and 55. Amendment to Articles of Association The Company’s Articles of Association can be amended only by a special resolution of the members, requiring a majority of not less than 75% of such members voting in person or by proxy. Share capital authorisations The 2016 AGM held in June 2016 authorised: → the Directors to allot shares within defined limits. The Companies Act 2006 requires directors to seek this authority and, following changes to FSA rules and institutional guidelines, the authority was limited to one third of the issued share capital, a total of £340,000 plus an additional one third of issued share capital of £340,000 that can only be used for a rights issue or similar fund raising; → the Directors to issue shares for cash on a non pre-emptive basis. This authority was limited to 10% of the issued share capital of £104,000 and is required to facilitate technical matters such as dealing with fractional entitlements or possibly a small placing; and → the convening of general meetings (other than an AGM) on 14 days’ notice. This results from a European Union directive that became effective on 3 August 2010 and will override Section 307 of the Companies Act 2006 where the requirement to give 21 days’ notice for certain meetings has been amended. Further details of these authorisations are available in the notes to the 2016 Notice of AGM. Shareholders are also referred to the 2017 Notice of AGM, which contains similar provisions in respect of the Company’s equity share capital as detailed below. AGM The 2017 AGM will be held at the offices of Buchanan, 107 Cheapside, London EC2V 6DN on 7 June 2017 at 9.30am and a formal Notice of Meeting and Form of Proxy are enclosed. The ordinary business to be conducted will include the re-appointment of all Directors. The special business will comprise the following resolutions: → to authorise the Directors to allot shares within defined limits. The Companies Act 2006 requires Directors to seek this authority and, following changes to FSA rules and institutional guidelines, the authority, as in previous years, will be limited to one third of the issued share capital, plus an additional one third of issued share capital that can only be used for a rights issue or similar fund raising; → to authorise the Directors to issue shares for cash on a non pre-emptive basis. This authority is limited to 10% of the issued share capital and is required to facilitate technical matters such as dealing with fractional entitlements or possibly a small placing; → to authorise the convening of general meetings (other than an AGM) on 14 days’ notice. This results from a European Union directive that became effective on 3 August 2010 and will override Section 307 of the Companies Act 2006 where the requirement to give 21 days’ notice for certain meetings has been amended; and → to approve the amended rules of the Mears All-Employee Share Plan in the form produced to the meeting and the Directors be authorised to do all things necessary in order to adopt and carry the amended scheme into effect. Annual report and accounts 2016 79 Mears Group PLC Corporate governanceReport of the Directors continued Principal risks and uncertainties Risk is an accepted part of doing business. The Group’s financial risk management is based upon sound economic objectives and good corporate practice. The Board has overall responsibility for risk management and internal control within the context of achieving the Group’s objectives. Our process for identifying and managing risks is set out in more detail within the Corporate Governance Statement. The key risks and mitigating factors are set out on pages 18 to 23. Details of financial risk management and exposure to price risk, credit risk and liquidity risk are given in note 19 on pages 124 to 128. Contracts of significance The Group is party to significant contracts within each segment of its business. The Directors do not consider that any one of those contracts is essential in its own right to the continuation of the Group’s activities. Payment policy The Company acts purely as a holding company and as such is non-trading. Accordingly, no payment policy has been defined. However, the policy for Group trading companies is to set the terms of payment with suppliers when entering into a transaction and to ensure suppliers are aware of these terms. Group trade creditors during the year amounted to 61 days (2015: 57 days) of average supplies for the year. Capital structure The Group is financed through both equity share capital and debt. Details of changes to the Company’s share capital are given in note 21 to the financial statements. The Company has a single class of shares – ordinary 1p shares – with no right to any fixed income and with each share carrying the right to one vote at the general meetings of the Company. Under the Company’s Articles of Association, holders of ordinary shares are entitled to participate in any dividends pro-rata to their holding. The Board may propose and pay interim dividends and recommend a final dividend for approval by the shareholders at the AGM. A final dividend may be declared by the shareholders in a general meeting by ordinary resolution but such dividend cannot exceed the amount recommended by the Board. Substantial shareholdings As at 28 February 2017 the Company has been notified of, or is aware of, the shareholders holding 2% or more of the issued share capital of the Company, as detailed in the table adjacent. 80 Mears Group PLC Annual report and accounts 2016 Fund manager Number (m) City London PrimeStone Capital London Majedie Asset Management Bath Heronbridge Investment Management Frankfurt Shareholder Value Management London Schroder Investment Management London Legal & General Investment Management London Franklin Templeton Investments London Columbia Threadneedle Investments Edinburgh Artemis Investment Management Fidelity Management & Research Boston Invesco Perpetual Asset Management Henley-on- Thames London London London London BlackRock Inc Montanaro Asset Management Slater Investments Close Asset Management 10.5 9.9 7.2 6.3 5.7 5.2 5.1 4.4 4.3 4.3 3.1 2.6 2.4 2.3 2.2 % 10.3 9.7 7.0 6.1 5.6 5.1 5.0 4.2 4.2 4.2 3.0 2.5 2.4 2.2 2.1 Disabled employees Applications for employment by disabled persons are always fully considered, bearing in mind the aptitudes of the applicant concerned. In the event of members of staff becoming disabled, every effort is made to ensure that their employment with the Group continues and that appropriate training is arranged. It is the policy of the Group that the training, career development and promotion of disabled persons should, as far as possible, be identical to that of other employees. Employee information and consultation The Group has received recognition under the ‘Investors in People’ award. The Group continues to involve its staff in the future development of the business. Information is provided to employees through a daily news email, a quarterly newsletter posted out to all staff, the Group website and the intranet to ensure that employees are kept well informed of the performance and objectives of the Group. CREST CREST is the computerised system for the settlement of share dealings on the London Stock Exchange. CREST reduces the amount of documentation required and also makes the trading of shares faster and more secure. CREST enables shares to be held in an electronic form instead of the traditional share certificates. CREST is voluntary and shareholders can keep their share certificates if they wish. This may be preferable for shareholders who do not trade in shares on a frequent basis. Auditor Grant Thornton UK LLP offers itself for re-appointment as auditor in accordance with Section 489 of the Companies Act 2006. By order of the Board B Westran Company Secretary ben.westran@mearsgroup.co.uk 27 March 2017 Corporate governanceStatement of Directors’ responsibilities In respect of the Directors’ Report and financial statements The Directors are responsible for preparing the Annual Report, the Remuneration Report and the financial statements in accordance with applicable law and regulations. Company law requires the Directors to prepare financial statements for each financial year. Under that law the Directors are required to prepare Group financial statements in accordance with International Financial Reporting Standards (IFRS) as adopted by the European Union and have elected to prepare the Company financial statements in accordance with United Kingdom Generally Accepted Accounting Practice including FRS 102 ‘The Financial Reporting Standard Applicable in the UK and the Republic of Ireland’ (United Kingdom Accounting Standards and Applicable Law). Under company law the Directors must not approve the financial statements unless they are satisfied that they give a true and fair view of the state of affairs and profit or loss of the Group and the Company for that period. In preparing these financial statements, the Directors are required to: → select suitable accounting policies and then apply them consistently; → make judgements and estimates that are reasonable and prudent; → state whether applicable accounting standards have been followed, subject to any material departures disclosed and explained in the financial statements; and → prepare the financial statements on the going concern basis unless it is inappropriate to presume that the Company will continue in business. The Directors are responsible for keeping adequate accounting records that are sufficient to show and explain the Group and Company’s transactions and disclose with reasonable accuracy at any time the financial position of the Group and the Company and enable them to ensure that the financial statements and Remuneration Report comply with the Companies Act 2006 and Article 4 of the IAS Regulation. They are also responsible for safeguarding the assets of the Company and hence for taking reasonable steps for the prevention and detection of fraud and other irregularities. The Directors confirm that: → so far as each Director is aware there is no relevant audit information of which the Company’s auditor is unaware; and → the Directors have taken all the steps that they ought to have taken as Directors in order to make themselves aware of any relevant audit information and to establish that the auditor is aware of that information. The Directors are responsible for the maintenance and integrity of the corporate and financial information included on the Company’s website. Legislation in the United Kingdom governing the preparation and dissemination of financial statements may differ from legislation in other jurisdictions. To the best of my knowledge: → the financial statements, prepared in accordance with the applicable set of accounting standards, give a true and fair view of the assets, liabilities, financial position and profit or loss of the Company and the undertakings included in the consolidation taken as a whole; and → the Annual Report includes a fair review of the development and performance of the business and the position of the Company and the undertakings included in the consolidation taken as a whole, together with a description of the principal risks and uncertainties that they face. The Directors are responsible for preparing the Annual Report in accordance with applicable law and regulations. The Board considers the Annual Report and Accounts, taken as a whole, as fair, balanced and understandable and that it provides the information necessary for shareholders to assess the Company’s performance, business model and strategy. Going concern We principally operate in robust defensive markets, Social Housing and Care, where spend is largely non-discretionary and our contracts tend to be long-term partnerships. The Group had net debt of £12.4m at 31 December 2016. The core debt required to satisfy the day-to-day requirements of the business is in the region of £85m. This represents significant headroom against the £140m unsecured revolving credit facility, with an additional accordion mechanism allowing the facility to be increased to a maximum of £200m, maturing in July 2020. After reviewing the Group’s and Company’s budget for the next financial year and longer-term plans, the Directors consider that, as at the date of approving the financial statements, it is appropriate to adopt the going concern basis in preparing the financial statements. On behalf of the Board A C M Smith Finance Director andrew.smith@mearsgroup.co.uk 27 March 2017 Annual report and accounts 2016 81 Mears Group PLC Corporate governanceIndependent auditor’s report To the members of Mears Group PLC Our opinion on the financial statements is unmodified In our opinion: → the financial statements give a true and fair view of the state of the Group’s and of the Parent Company’s affairs as at 31 December 2016 and of the Group’s profit for the year then ended; → the Group financial statements have been properly prepared in accordance with International Financial Reporting Standards (IFRSs) as adopted by the European Union; → the Parent Company financial statements have been properly prepared in accordance with applicable law and United Kingdom Accounting Standards (United Kingdom Generally Accepted Accounting Practice) including FRS 102 ‘The Financial Reporting Standard Applicable in the UK and Republic of Ireland’; and → the financial statements have been prepared in accordance with the requirements of the Companies Act 2006 and, as regards the Group financial statements, Article 4 of the IAS Regulation. Who we are reporting to This report is made solely to the Company’s members, as a body, in accordance with Chapter 3 of Part 16 of the Companies Act 2006. Our audit work has been undertaken so that we might state to the Company’s members those matters we are required to state to them in an auditor’s report 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 Company’s members as a body, for our audit work, for this report, or for the opinions we have formed. What we have audited Mears Group PLC’s financial statements for the year ended 31 December 2016 comprise the Group principal accounting policies, the Consolidated Income Statement, the Consolidated Statement of Comprehensive Income, the Consolidated Balance Sheet, the Consolidated Cash Flow Statement, the Consolidated Statement of Changes in Equity, the related Group notes, the Company principal accounting policies, the Parent Company Balance Sheet, the Parent Company Statement of Changes in Equity and the related Company notes. * * y t i l i b a b o r P The financial reporting framework that has been applied in the preparation of the Group financial statements is applicable law and IFRSs as adopted by the European Union. The financial reporting framework that has been applied in the preparation of the Parent Company financial statements is United Kingdom Generally Accepted Accounting Practice including FRS 102 ‘The Financial Reporting Standard Applicable in the UK and Republic of Ireland’. Overview of our audit approach → the key audit risks were identified as: revenue recognition and contract accounting, goodwill impairment, and defined benefit pension schemes; → overall Group materiality was set at £2.1m, which represents 4.8% of the Group’s earnings before interest, tax and amortisation; and → we performed full scope audits at three companies and specific audit procedures over certain balances and transactions at six further companies to gain sufficient, appropriate audit evidence over all material balances at both divisional and Group levels. Our assessment of risk At the outset of our audit we identified the risks and matters that would need to be considered in dispensing our duties and then updated them as the audit progressed. These were first presented to the Audit Committee on 2 December 2015 and then as part of our concluding procedures on 3 March 2016. The following graph illustrates the risks identified by us and our assessment of the impact of them on our audit approach. Revenue recognition and contract accounting Financial instruments and hedging Defined benefit pension schemes Goodwill impairment Fraud and whistleblowing Going concern Compliance with legislation Financial statements, disclosure and compliance Valuation of goodwill and intangibles Contract costs Taxation Control over investees Capitalisation of costs Employee remuneration Impact* * Impact that the identified risk would have on the Group’s financial statements. ** Probability that the identified risk could occur during the year if not properly controlled. Key Significant risks Other risks Other areas of focus 82 Mears Group PLC Annual report and accounts 2016 Corporate governanceOur assessment of risk continued In arriving at our opinions set out in this report, we highlight the following risks that, in our judgement, had the greatest effect on our audit: Audit risk How we responded to the risk Revenue recognition and contract accounting Our audit work included but was not restricted to: Refer to pages 92 to 94. Revenue is recognised throughout the Group as the fair value of consideration receivable in respect of the performance of contracts and the provision of services. Provision is made for expected contract losses as soon as they are foreseen. Determining the amount of revenue to be recognised, requires management to make significant judgements and estimates as to the stage of completion, the costs to complete, the impact of any changes in scope of work and the recoverability of work-in-progress and receivables balances. We therefore identified revenue recognition and contract accounting as a significant risk. → an evaluation of the methodology by which the Directors determine the amount of revenue and profit to recognise based on each type of contract as disclosed in the accounting policies. This included assessing whether the accounting policies adopted by the Directors are in accordance with the requirements of International Accounting Standard (IAS) 11 “Construction Contracts”, IAS 18 “Revenue” and IFRIC 12 “Service Concession Arrangements”, and whether management accounted for revenue in accordance with the accounting policies; → testing key controls, where applicable, over the recognition of revenue and the allocation of costs to the contracts, including invoicing, cost approval and cost allocation; → judgementally selecting contracts by reference to materiality and other risk factors including loss making contracts and contracts with significant aged work-in-progress and receivables balances; → selecting a samples of contract balances, accrued income and revenue transactions, including contract invoicing, care invoicing and rental and rebates income, to ensure coverage across the Group; → assessing, for the selected items and samples, whether the revenue and profit recognised are in accordance with the Group’s accounting policies by agreeing inputs to contract terms, re-performing management’s calculations and assessing management’s assumptions and assertions underpinning their forecasts for contracts’ future performance by reference to supporting documentation, such as contract KPIs, historical performance against forecasts and discussions with key operations personnel; → reviewing contracts that are loss making or at risk of incurring future losses during the remaining life of the contract and challenging management’s assumptions and assertions relating to the future results of those contracts by reference to supporting evidence such as management’s plans to return the contract to profit, forecast models, previous history of turning around loss making contracts and correspondence with clients where appropriate. We also visited a number of sites during the year in order to further understand the operations; and → investigating the recoverability of receivables, accrued income and work-in-progress balances by reference to post balance sheet cash collection, certifications performed by the Group or external Quantity Surveyors, reviewing the quality of supporting evidence, including internal and external legal opinions, expert valuer reports and correspondence with customers, and examining the Group’s historical experience of recovery. Annual report and accounts 2016 83 Mears Group PLC Corporate governanceIndependent auditor’s report continued To the members of Mears Group PLC Our assessment of risk continued Audit risk How we responded to the risk Goodwill impairment Our audit work included but was not restricted to: Refer to pages 90 and 91. The Directors are required to make an annual assessment to determine whether the carrying value of goodwill of £193.7m is impaired. Past experience has indicated that there is significant headroom in the goodwill balance relating to the Housing division cash-generating unit (CGU) but limited headroom in the goodwill balance relating to the Care division CGU, which accounts for £99.6m of the carried goodwill. → obtaining management’s discounted cash flow forecast for the Care division used in the impairment review and comparing it to our understanding of the division and recalculating the arithmetical accuracy of those calculations; → testing and challenging the assumptions utilised in the impairment models, including the ability for the Group to recruit and retain the appropriate levels of carers, the rate at which the Group can pass National Living Wage increases on to customers, the rate at which the Group can increase its contracted hours and the discount rates and terminal values used; The process for assessing whether an impairment exists under IAS 36 ‘Impairment of Assets’ is complex. The process of determining the value in use, through forecasting cash flows related to CGUs and the determination of the appropriate discount rate and other assumptions to be applied, can be highly judgemental and can significantly impact the results of the impairment review. → we involved our specialist valuation team to consider whether the market level assumptions used were appropriate to the Care division’s circumstances and where possible, benchmarked these assumptions against available industry data; and → testing the accuracy of management’s forecasting through a comparison of budget to actual data and historical variance trends and reviewing the cash flows for exceptional or unusual items or assumptions. We therefore identified the impairment review of goodwill undertaken by management in relation to the Care division as a significant risk. Defined benefit pensions schemes Our audit work included but was not restricted to: Refer to page 95. The Group operates two defined benefit pension schemes and is admitted body of a number of other defined benefit pension schemes. At 31 December 2016 the defined benefit pension schemes had a combined net surplus of £24.2m, of which £8.5m is recognised in the financial statements as recoverable. The gross value of the pension assets and obligations which form the net surplus amounted to £572.2m and £548.0m respectively. → utilising the expertise of our actuarial specialists in order to review the appropriateness of the assumptions used in the calculation of the obligations and testing the appropriateness of the valuation methodologies and their inherent actuarial assumptions by benchmarking key assumptions such as discount rates, wages and salary growth rates and mortality rates to available market data; → testing the accuracy of underlying membership data utilised by the Group’s actuaries for the purpose of calculating the scheme liabilities by selecting a sample of employees and agreeing key standing data such as date of birth, gender and date of membership to underlying records; The measurement of the obligations in accordance with IAS 19 (revised) “Employee Benefits” involves significant judgement and their valuation is subject to complex actuarial assumptions. Small variations in those actuarial assumptions can lead to a materially different value of pension liabilities being recognised within the Group financial statements. → directly confirming the existence and valuation of pension scheme assets with asset managers for Group schemes and analysing the movements on assets for a sample of admitted body schemes; and → considering the appropriateness of the recognition of any scheme surpluses by reviewing scheme rules to assess whether the Group will benefit from any future refund or reduction in future contributions as a result of such surpluses. We therefore identified the valuation of the defined benefit pension schemes obligations as a significant risk. 84 Mears Group PLC Annual report and accounts 2016 Corporate governanceOur application of materiality and an overview of the scope of our audit Materiality We define materiality as the magnitude of misstatement in the financial statements that makes it probable that the economic decisions of a reasonably knowledgeable person would be changed or influenced. We use materiality in determining the nature, timing and extent of our audit work and in evaluating the results of that work. We determined materiality for the audit of the Group financial statements as a whole to be £2.1m (2015: £1.7m), which is 4.80% (2015: 4.75%) of the Group’s earnings before, interest, tax and amortisation. This benchmark is considered the most appropriate because it is the key financial measure by which management assess the performance of the Group and is used to report to investors on the financial performance of the Group. Materiality for the current year is higher than the level that we determined for the year ended 31 December 2015 as a result of higher earnings before, interest, tax and amortisation of the Group in the year. We use a different level of materiality, performance materiality, to drive the extent of our testing and this was set at 75% of financial statement materiality for the audit of the Group financial statements. We also determine a lower level of specific materiality for certain areas such as Directors’ remuneration and related party transactions. We determined the threshold at which we will communicate misstatements to the Audit Committee to be £105,000. In addition we communicate misstatements below that threshold that, in our view, warrant reporting on qualitative grounds. Overview of the scope of our audit A description of the generic scope of an audit of financial statements is provided on the Financial Reporting Council’s website at www.frc.org.uk/auditscopeukprivate. We conducted our audit in accordance with International Standards on Auditing (ISAs) (UK and Ireland). Our responsibilities under those standards are further described in the ‘Responsibilities for the financial statements and the audit’ section of our report. We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our opinion. We are independent of the Group in accordance with the Auditing Practices Board’s Ethical Standards for Auditors, and we have fulfilled our other ethical responsibilities in accordance with those Ethical Standards. Our audit approach was based on a thorough understanding of the Group’s business and is risk-based. In order to address the risks described above as identified during our planning procedures, we performed a full scope audit of the financial statements of the Parent Company, Mears Group PLC, and of the Group’s operations throughout the United Kingdom. The companies of the Group were evaluated by the Group audit team based on a measure of materiality considered as a percentage of total Group assets, revenues and profit before taxes, to assess the significance of the component and to determine the planned audit response. For those components that we determined to be significant components, either a full scope approach or specific procedures in relation to specific balances and transactions were carried out. This approach was determined based on their relative materiality to the Group and our assessment of audit risk. The Group’s companies vary significantly in size. We performed full scope audits at three companies. Specific audit procedures over certain balances and transactions were performed on a further six companies, to give appropriate coverage of all material balances at both divisional and Group levels. Together, the reporting units subject to audit procedures, being full scope and specific procedures, were responsible for 90% of the Group’s revenues, 89% of the Group’s earnings before, interest, tax and amortisation and 88% of Group’s total assets. For significant components requiring a full scope approach an interim visit was conducted before the year end to undertake substantive procedures in advance of the final visit and to evaluate the Group’s internal control environment including its IT systems. We then evaluated and tested controls over the financial reporting systems identified as part of our risk assessment, reviewed the accounts production process and addressed critical accounting matters. We sought wherever possible, to rely on the effectiveness of the Group’s internal controls which allows us to reduce substantive testing. We then undertook substantive testing on significant transactions and material account balances, including the procedures outlined above in relation to the key risks. For the components where specific procedures were carried out a similar testing strategy was applied, focused on the significant transactions and material account balances. The remaining non-significant components of the Group were subject to analytical procedures over their financial performance and position after taking into account the risks identified above and the significance of the component to the Group. The charts on page 86 summarise the extent of our audit approach. Annual report and accounts 2016 85 Mears Group PLC Corporate governanceIndependent auditor’s report continued To the members of Mears Group PLC 24% 10% 76+ 66+ 13% 59+ Total assets Revenue EBITA 66% 59% 29% 76% 12% 11% Full scope Specific procedures Analytical Full scope Specific procedures Analytical Full scope Specific procedures Analytical Other reporting required by regulations Our opinion on other matters prescribed by the Companies Act 2006 is unmodified In our opinion, the part of the Directors’ Remuneration Report to be audited has been properly prepared in accordance with the Companies Act 2006. In our opinion, based on the work undertaken in the course of the audit: → the information given in the Strategic Report and the Directors’ Report for the financial year for which the financial statements are prepared is consistent with the financial statements; and Matters on which we are required to report by exception Under the Companies Act 2006 we are required to report to you if, in our opinion: → adequate accounting records have not been kept by the Parent Company, or returns adequate for our audit have not been received from branches not visited by us; or → the Parent Company financial statements and the part of the Directors’ Remuneration Report to be audited are not in agreement with the accounting records and returns; or → certain disclosures of Directors’ remuneration specified by law are not made; or → the Strategic Report and the Directors’ Report have been prepared in accordance with applicable legal requirements. → we have not received all the information and explanations we require for our audit. Matter on which we are required to report under the Companies Act In the light of the knowledge and understanding of the Group and the Parent Company and its environment obtained in the course of the audit, we have not identified material misstatements in the Strategic Report or the Directors’ Report. Under the Listing Rules, we are required to review: → the Directors’ statements in relation to going concern and longer-term viability, set out on pages 22 and 23 respectively; and → the part of the Corporate Governance Statement relating to the Company’s compliance with the provisions of the UK Corporate Governance Code specified for our review. 86 Mears Group PLC Annual report and accounts 2016 Corporate governance24 + 10 + z 11 + 13 + z 29 + 12 + z Responsibilities for the financial statements and the audit What the Directors are responsible for: As explained more fully in the Statement of Directors’ responsibilities set out on page 81, the Directors are responsible for the preparation of the financial statements and for being satisfied that they give a true and fair view. What we are responsible for: Our responsibility is to audit and express an opinion on the financial statements in accordance with applicable law and ISAs (UK and Ireland). Those standards require us to comply with the Auditing Practices Board’s Ethical Standards for Auditors. Simon Lowe Senior Statutory Auditor for and on behalf of Grant Thornton UK LLP Statutory Auditor, Chartered Accountants London 27 March 2017 Matters on which we are required to report by exception continued Under the ISAs (UK and Ireland), we are required to report to you if, in our opinion, information in the annual report is: → materially inconsistent with the information in the audited financial statements; or → apparently materially incorrect based on, or materially inconsistent with, our knowledge of the Group acquired in the course of performing our audit; or → otherwise misleading. In particular, we are required to report to you if: → we have identified any inconsistencies between our knowledge acquired during the audit and the Directors’ statement that they consider the Annual Report is fair, balanced and understandable; or → the Annual Report does not appropriately disclose those matters that were communicated to the Audit Committee which we consider should have been disclosed. We have nothing to report in respect of any of the above matters. We also confirm that we do not have anything material to add or to draw attention to in relation to: → the Directors’ confirmation in the annual report that they have carried out a robust assessment of the principal risks facing the Group including those that would threaten its business model, future performance, solvency or liquidity; → the disclosures in the Annual Report that describe those risks and explain how they are being managed or mitigated; → the Directors’ statement in the financial statements about whether they have considered it appropriate to adopt the going concern basis of accounting in preparing them, and their identification of any material uncertainties to the Group’s ability to continue to do so over a period of at least twelve months from the date of approval of the financial statements; and → the Directors’ explanation in the Annual Report as to how they have assessed the prospects of the Group, over what period they have done so and why they consider that period to be appropriate, and their statement as to whether they have a reasonable expectation that the Group will be able to continue in operation and meet its liabilities as they fall due over the period of their assessment, including any related disclosures drawing attention to any necessary qualifications or assumptions. Annual report and accounts 2016 87 Mears Group PLC Corporate governancePrincipal accounting policies – Group Basis of preparation The consolidated financial statements of the Group have been prepared in accordance with IFRS as adopted by the European Union and with those parts of the Companies Act 2006 applicable to companies reporting under IFRS and therefore the Group financial statements comply with Article 4 of the EU International Accounting Standards Regulations. The financial statements are prepared under the historical cost convention as modified by the revaluation of derivative financial instruments and share-based payments. The accounting policies remain unchanged from the previous year except for the modification of a number of standards with effect from 1 January 2016. Changes include Disclosure Initiative (Amendments to IAS 1), Accounting for Acquisitions of Interests in Joint Operations (Amendments to IFRS 11), Sale or Contribution of Assets between an Investor and its Associate or Joint Venture (Amendments to IFRS 10 and IAS 28), Investment Entities: Applying the Consolidation Exception (Amendments to IFRS 10, IFRS 12 and IAS 28) and Annual Improvements 2012–2014 (which made amendments to IFRS 5 ‘Non-current Assets Held for Sale and Discontinued Operations’, IFRS 7 ‘Financial Instruments: Disclosures’, IAS 19 ‘Employee Benefits’ and IAS 34 ‘Interim Financial Reporting’). The adoption of these amendments had no material effect on the Group’s financial statements. The preparation of financial statements in conformity with generally accepted accounting principles requires the use of estimates and judgements that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the year. Although these estimates are based on the Directors’ best knowledge of the amounts, actual results may ultimately differ from those estimates. The most significant estimates made by the Directors in these financial statements are set out in ‘Use of judgements and estimates’ on pages 98 and 99. Mears Group PLC is incorporated and domiciled in England and Wales (registration number 3232863). Its registered office and principal place of business is 1390 Montpellier Court, Gloucester Business Park, Brockworth, Gloucester GL3 4AH. Mears Group PLC’s shares are listed on the London Stock Exchange. The Directors consider that as at the date of approving the financial statements, there is a reasonable expectation that the Group and the Company have adequate resources to continue in operational existence for the foreseeable future. For this reason, the Directors continue to adopt the going concern basis in preparing the financial statements. The Directors have discussed the principal risks and uncertainties of the business in the Risk Management section on pages 18 to 23. Basis of consolidation The Consolidated Balance Sheet includes the assets and liabilities of the Company and its subsidiaries and is made up to 31 December 2016. Entities over which the Group has the ability to exercise control over financial and operating policies are accounted for as subsidiaries. Control is achieved where the Company has existing rights that give it the current ability to direct the activities that affect the Company’s returns and exposure or rights to variable returns from the entity. Interests acquired in entities are consolidated from the effective date of acquisition and interests sold are consolidated up to the date of disposal. All significant intercompany transactions and balances between Group enterprises, including unrealised profits arising from intra-group transactions, are eliminated on consolidation; no profit is taken on sales between Group companies. Non-controlling interests in the net assets of consolidated subsidiaries are identified separately from the Group’s equity therein. Non-controlling interests consist of the amount of those interests at the date of the original business combination and the non-controlling shareholders’ share of changes in equity since the date of the combination. Total comprehensive income is attributed to non-controlling interests even if this results in the non-controlling interest having a deficit balance. A joint venture is a joint arrangement whereby the parties that have joint control have the rights to the net assets of the arrangement. Investments in joint ventures are accounted for using the equity method of accounting. Under this method, the Group’s share of post-acquisition profits or losses is recognised in the Consolidated Income Statement; the cost of the investment in a given joint venture, together with the Group’s share of that entity’s post-acquisition changes to shareholders’ funds, is included in investments within the Consolidated Balance Sheet. 88 Mears Group PLC Annual report and accounts 2016 Financial statementsBusiness combinations Business combinations are accounted for using the acquisition method. The acquisition method involves the recognition at fair value of all identifiable assets and liabilities, including contingent liabilities of the subsidiary at the acquisition date, regardless of whether or not they were recorded in the financial statements of the subsidiary prior to acquisition. On initial recognition, the assets and liabilities of the subsidiary are included in the Consolidated Balance Sheet at their fair values, which are also used as the bases for subsequent measurement in accordance with the Group accounting policies. Goodwill is stated after separating out identifiable intangible assets. Goodwill represents the excess of acquisition cost over the fair value of the Group’s share of the identifiable net assets of the acquired subsidiary at the date of acquisition. Where applicable the consideration for an acquisition includes any assets or liabilities arising from a contingent consideration arrangement, measured at fair value at the acquisition date. Subsequent changes in such fair values are adjusted against the cost of acquisition where they result from additional information obtained up to one year from the acquisition date about facts and circumstances that existed at the acquisition date. All other subsequent changes in the fair value of contingent consideration classified as an asset or liability are recognised in accordance with IAS 39 in the Consolidated Income Statement. Costs relating to acquisitions in the year have been expensed. For transactions with non-controlling parties that do not result in a change of control, the difference between the fair value of the consideration paid and the amount by which the non-controlling interest is adjusted is recognised in equity. Any business combinations prior to 1 January 2010 were accounted for in accordance with the standards in place at the time, which differ in the following respects: transaction costs directly attributable to the acquisition formed part of the acquisition costs; contingent consideration was recognised if, and only if, the Group had a present obligation, the economic outflow was more likely than not and a reliable estimate was determinable; and subsequent adjustments to the contingent consideration were recognised as part of goodwill. Property, plant and equipment Items of property, plant and equipment are stated at historical cost, net of depreciation. Historical cost includes expenditure that is directly attributable to the acquisition of the items. Subsequent costs are included in the asset’s carrying amount or recognised as a separate asset, as appropriate, only when it is probable that future economic benefits associated with the item will flow into the Group and the cost of the item can be measured reliably. All other repairs and maintenance are charged to the Income Statement during the financial period in which they are incurred. Freehold land is not depreciated. Depreciation on other assets is calculated to write down the cost less estimated residual value over their estimated useful economic lives. The rates generally applicable are: Freehold buildings Leasehold improvements Plant and machinery – – – 2% p.a., straight line over the period of the lease, straight line 25% p.a., reducing balance Fixtures, fittings and equipment – 25% p.a., reducing balance Motor vehicles – 25% p.a., reducing balance Residual values are reviewed annually and updated if appropriate. The carrying value is reviewed for impairment in the period if events or changes in circumstances indicate the carrying value may not be recoverable. An asset’s carrying value is written down immediately to its recoverable amount if the asset’s carrying amount is greater than its estimated recoverable amount. Gains and losses on disposals are determined by comparing the proceeds with the carrying amount and are recognised within administrative expenses in the Income Statement. Annual report and accounts 2016 89 Mears Group PLC Financial statements Principal accounting policies – Group continued Intangible assets In accordance with IFRS 3 (Revised) ‘Business Combinations’, an intangible asset acquired in a business combination is deemed to have a cost to the Group of its fair value at the acquisition date. The fair value of the intangible asset reflects market expectations about the probability that the future economic benefits embodied in the asset will flow to the Group. Where an intangible asset might be separable, but only together with a related tangible or intangible asset, the group of assets is recognised as a single asset separately from goodwill where the individual fair values of the assets in the Group are not reliably measurable. Where the individual fair values of the complementary assets are reliably measurable, the Group recognises them as a single asset provided the individual assets have similar useful lives. Intangible assets are amortised over the useful economic life of those assets. Development costs incurred on software development are capitalised when all the following conditions are satisfied: → completion of the software module is technically feasible so that it will be available for use; → the Group intends to complete the development of the module and use it; → the software will be used in generating probable future economic benefits; → there are adequate technical, financial and other resources to complete the development and to use the software; and → the expenditure attributable to the software during its development can be measured reliably. Costs incurred making intellectual property available for use (including any associated borrowing costs) are capitalised when all of the following conditions are satisfied: → completion of the data set is technically feasible so that it will be available for use; → the Group intends to complete the preparation of the data and use it; → the data will be used in generating probable future economic benefits; → there are adequate technical, financial and other resources to complete the data set and to use it; and → the expenditure attributable to the intellectual property during its development can be measured reliably. Development costs not meeting the criteria for capitalisation are expensed as incurred. Careful judgement by management is applied when deciding whether the recognition requirements for development costs have been met. This is necessary as the economic success of any development is uncertain and may be subject to future technical problems at the time of recognition. Judgements are based on the information available at each balance sheet date. In addition, all internal activities related to the research and development of new software are continually monitored by management. The cost of an internally generated intangible asset comprises all directly attributable costs necessary to create, produce and prepare the asset to be capable of operating in the manner intended by management. Directly attributable costs include employee costs incurred on software development. Amortisation commences upon completion of the asset and is shown within other administrative expenses. Until the asset is available for use on completion of the project, the assets are subject to impairment testing only. Development expenditure is amortised over the period expected to benefit. The identifiable intangible assets and associated periods of amortisation are as follows: Order book Client relationships Development expenditure Intellectual property – – – – over the period of the order book, typically three years over the period expected to benefit, typically five years 20 to 25% p.a., straight line over the period of usefulness of the intellectual property, typically five years Goodwill Goodwill arises on the acquisition of subsidiaries and represents any excess of the cost of the acquired entity over the Group’s interest in the fair value of the entity’s identifiable assets and liabilities acquired and is capitalised as a separate item. Goodwill is recognised as an intangible asset. Under the business combinations exemption of IFRS 1, goodwill previously written off directly to reserves under UK GAAP is not recycled to the Income Statement on calculating a gain or loss on disposal. 90 Mears Group PLC Annual report and accounts 2016 Financial statements Impairment For the purposes of assessing impairment, assets are grouped at the lowest levels for which there are separately identifiable cash flows: cash-generating units (CGUs). As a result, some assets are tested individually for impairment and some are tested at CGU level. Goodwill is allocated to those CGUs that are expected to benefit from synergies of the related business combination and represent the lowest level within the Group at which management monitors the related cash flows. Goodwill or CGUs that include goodwill and those intangible assets not yet available for use are tested for impairment at least annually. All other individual assets or CGUs are tested for impairment whenever events or changes in circumstances indicate that the carrying amount may not be recoverable. An impairment loss is recognised in the Income Statement for the amount by which the asset or CGU’s carrying amount exceeds its recoverable amount. The recoverable amount is the higher of fair value, reflecting market conditions less costs to sell, and value in use based on an internal discounted cash flow evaluation. Impairment losses recognised for CGUs, to which goodwill has been allocated, are credited initially to the carrying amount of goodwill. Any remaining impairment loss is charged pro-rata to the other assets in the CGU. With the exception of goodwill, all assets are subsequently reassessed for indications that an impairment loss previously recognised may no longer exist. Inventories Inventories are stated at the lower of cost and net realisable value. Cost is the actual purchase price of materials. Work in progress Work in progress is included in inventories after deducting any foreseeable losses and payments on account not matched with revenue. Work in progress represents costs incurred on contracts that cannot be matched with contract work accounted for as revenue. Work in progress is stated at the lower of cost and net realisable value. Cost comprises materials, direct labour and any subcontracted work that has been incurred in bringing the inventories and work in progress to their present location and condition. Amounts recoverable on contracts Amounts recoverable on contracts are included in trade and other receivables and represent revenue recognised in excess of payments on account. Accounting for taxes Income tax comprises current and deferred taxation. Current tax assets and/or liabilities comprise those obligations to, or claims from, fiscal authorities that are unpaid at the balance sheet date. They are calculated according to the tax rates and tax laws applicable to the accounting periods to which they relate, based on the taxable profit for the year. Where an item of income or expense is recognised in the Income Statement, any related tax generated is recognised as a component of tax expense in the Income Statement. Where an item is recognised directly to equity or presented within the Consolidated Statement of Comprehensive Income, any related tax generated is treated similarly. Deferred taxation is the tax expected to be repayable or recoverable on differences between the carrying amounts of assets and liabilities in the financial statements and corresponding tax bases used in the computation of taxable profit and is accounted for using the balance sheet liability method. Deferred taxation liabilities are generally recognised on all taxable temporary differences in full with no discounting. Deferred taxation assets are recognised to the extent that it is probable that taxable profits will be available against which deductible temporary differences can be utilised. However, deferred tax is not provided on the initial recognition of goodwill, nor on the initial recognition of an asset or liability, unless the related transaction is a business combination or affects tax or accounting profit. Deferred taxation is calculated using the tax rates and laws that are expected to apply in the period when the liability is settled or the asset is realised, provided they are enacted or substantively enacted at the balance sheet date. The carrying value of deferred taxation assets is reviewed at each balance sheet date and reduced to the extent that it is no longer probable that sufficient taxable profits will be available against which taxable temporary differences can be utilised. Deferred tax is charged or credited to either the Consolidated Income Statement, the Consolidated Statement of Comprehensive Income or equity to the extent that it relates to items charged or credited. Deferred tax relating to items charged or credited directly to equity is also credited or charged to equity. Annual report and accounts 2016 91 Mears Group PLC Financial statementsPrincipal accounting policies – Group continued Revenue Revenue is measured in accordance with IAS 18 ‘Revenue’ and IAS 11 ‘Construction Contracts’ at the fair value of the consideration received or receivable, for goods and services provided in the normal course of business, net of rebates and discounts and after eliminating sales within the Group. Housing Revenue is recognised when the outcome of a job or contract can be estimated reliably; revenue associated with the transaction is recognised by reference to the stage of completion of work at the balance sheet date. The outcome of the transaction is deemed to be able to be estimated reliably when all the following conditions are satisfied: → the amount of revenue can be measured reliably; → it is probable that the economic benefits associated with the transaction will flow to the entity; → the stage of completion of the transaction at the balance sheet date can be measured reliably; and → the costs incurred for the transaction and the costs to complete the transaction can be measured reliably. Whilst all Housing contracts can fit within the guidelines laid down for revenue recognition as detailed above, the alternative contractual pricing mechanisms do result in different methods of assessing the stage of completion. The Group has therefore recognised revenue dependent on the nature of transactions in line with IAS 18. There are some contracts where we are entitled to a fee to reimburse the costs relating to a new contract start-up. This fee is sometimes paid on commencement or paid in instalments over an extended period. Where the contractual entitlement to this income crystallises upon commencement, the revenue is recognised. All costs relating to pre-commencement and mobilisation are written off as they are incurred. There are numerous contractual pricing mechanisms but one can broadly divide these into five types. Schedule of rates (SOR) contracts There is an element of SOR in the majority of contracts. At tender stage we enter a price for each of the numerous tasks carried out in respect of property maintenance. Typically we price for uplift or a discount against a pre-priced schedule. This price will, in some cases, be an all-encompassing price for the cost of direct works, the local site overhead, central overhead and profit contribution. In other instances, the SOR tendered may only recover direct works with an alternative mechanism to recover the other elements. Wherever possible, we seek to identify all works tickets received individually and capture costs and billing at the individual work ticket level. In so doing, this allows revenue to be recognised with a high degree of accuracy. Typically, reactive maintenance works are invoiced within a month of completion; hence, the majority of revenue recognised has already been valued at the individual work ticket level and the significant majority has been subsequently settled. The only element of revenue or profit recognition that requires judgement is against those jobs that are part complete or those completed works that have not been subject to a final valuation. For part completed works, consideration needs to be given as to whether the Group will recover the transaction costs incurred. Whether the outcome of the transaction can be estimated reliably needs to be considered contract by contract based on historic outcomes and knowledge of any events that may affect future job profitability. Where the outcome of the transaction cannot be estimated reliably, revenue is recognised only to the extent that the costs incurred are anticipated to be recovered. Where the outcome of the transaction can be estimated reliably, an element of anticipated profit is recognised within revenue to the extent that historic outcomes adjusted for knowledge of any events that may affect future job profitability support such recognition. For completed but not yet priced works, the outcome of the individual valued work tickets is not reviewed individually for the purposes of profit and revenue recognition. However, given the high volume of historical data to provide an accurate indication of underlying contract margin at a particular site, the Group considers that the application of an anticipated profit margin on cost to all completed and unbilled works produces a reliable measure. For completed and priced works, the likely outcome for the individual work ticket can be determined individually for the purposes of profit and revenue recognition. The Group considers that the recognition of the anticipated profit for the individual job within revenue is appropriate. Full provision is made in respect of any job if a future loss is foreseen. 92 Mears Group PLC Annual report and accounts 2016 Financial statementsRevenue continued Housing continued Open book contracts Typically the open book element of contracts relates to the local site overhead. A priced overhead model is usually provided to a client at tender stage and the client pays the Group a fixed sum for maintaining this local site. This is typically an agreed fixed price. Revenue is recognised in line with cost incurred and similarly the attributable profit recognised against that cost. Any over or underspends are typically at the risk of the Group. The actual overhead spend is often subject to an open book review which is then used as the basis for agreeing future pricing. On the rare occasions that a contract does recover costs under a pure ‘cost plus’ arrangement, revenue is recognised in line with cost incurred and similarly the attributable profit recognised against that cost. Full provision is made in respect of any contract if a future loss is foreseen. Lump sum contracts This type of contract is becoming more commonplace. To avoid the onerous burden of administering a high volume, low value activity, the pricing mechanism is reduced to either a price per ticket or a price per property. Historically, many gas servicing and breakdown contracts have been procured on a lump sum basis. However, it is now becoming increasingly common within the reactive maintenance environment. There is typically an exclusions list for works that are not considered repairs and not deemed to fall within the lump sum price. It is normal for this excluded element of the works to be billed under an SOR arrangement. For practical purposes, in the majority of lump sum contracts, revenue is recognised on a straight-line basis over the contract term. There is not a material impact of seasonality in a client’s reactive maintenance spend (in terms of either volume or value of orders received). In terms of the lump sum element of the contract, the revenue is split evenly across the twelve-monthly reporting periods. No element of revenue is either advanced or deferred. There are a small number of lump sum contracts where recognising revenue on a straight-line basis would be inappropriate. These are contracts where the phasing of the works over the contract term varies materially over the period of the contract and there is a mismatch between the delivery of works and the timing of invoicing against those works. For these contracts, the Group has historically reverted to recognising revenue based on the proportion of costs incurred to date compared with the estimated total costs of the contract. Full provision is made in respect of any contract if a future loss is foreseen. Rental income Rental income relating to Housing Management activities is recognised in the Income Statement on a straight-line basis over the term of the lease. Where initial costs are required to make good the housing to perform Housing Management activities, a straight-line basis of revenue recognition would not be appropriate. Where there are initial costs, revenue is recognised based on the proportion of costs incurred to date compared with the estimated total costs of the contract. Full provision is made in respect of any contract if a future loss is foreseen. Construction contracts Revenue reflects the contract activity during the year and is measured at the fair value of consideration received or receivable. When the outcome can be assessed reliably, contract revenue and associated costs are recognised as revenue and expenses respectively by reference to the stage of completion of the contract activity at the balance sheet date. The stage of completion of the contract at the balance sheet date is usually assessed by comparing the proportion of costs incurred to estimated total contract costs. Where this is not representative, contract milestones are used as a basis of assessing the stage of completion. Where the outcome of a construction contract cannot be estimated reliably, revenue is recognised only to the extent that it is probable that contract costs incurred will be recoverable. Contract costs are recognised as an expense in the period in which they are incurred. In the case of a fixed price contract, the outcome of a construction contract is deemed to be estimated reliably when all the following conditions are satisfied: → it is probable that economic benefits associated with the contract will flow to the Group; → both the contract costs to complete the contract and the stage of completion at the balance sheet date can be measured reliably; and → the contract costs attributable to the contract can be clearly identified and measured reliably so that actual contract costs incurred can be compared with prior estimates. Annual report and accounts 2016 93 Mears Group PLC Financial statementsPrincipal accounting policies – Group continued Revenue continued Housing continued Construction contracts continued The gross amount due from customers for contract work is presented as an asset for all contracts in progress for which costs incurred, plus recognised profits (less recognised losses), exceed progress billings. The gross amount due to customers for contract work is presented as a liability for all contracts in progress for which progress billings exceed costs incurred plus recognised profits (less losses). Full provision is made for losses on all contracts in the year in which the future loss is first foreseen. Care Revenue is recognised when the actual care has been delivered and is generally based on a price per time period of care delivered. Revenue relating to care delivered and not invoiced is accrued and disclosed under trade and other receivables as amounts recoverable on contracts. Certain ‘block’ contracts guarantee a certain level of revenue. Revenue attributable to any unused capacity under block contracts, where the Group is able to invoice for contracted services not provided, is recognised when the recovery of income is considered virtually certain. There is minimal scope for judgement based on the care process. The Group utilises rostering systems to manage care. These systems allow for planning a rota for each staff member, together with the corresponding pay and bill rates for the particular service type, length of service and time of delivery. These results are very accurate in the calculation of billable time, income and corresponding employee pay for a particular contract, branch or region. Accrued income is determined by applying an average historical billing rate to the number of unbilled hours delivered at the balance sheet date. Variances are reviewed in the following month once actual billing is known. The rostering systems allow unbilled hours to be calculated based on planned, rostered and actual visits along with the corresponding pay and bill rates for the particular service type, length of service and time of delivery. These results are very accurate in the calculation of billable time, income and corresponding employee pay for a particular contract, branch or region. Segment reporting Segment information is presented in respect of the Group’s operating segments based upon the format that the Group reports to its chief operating decision makers. The Group considers that the chief operating decision makers are the Executive Directors and Senior Executives of the business. Exceptional costs Exceptional costs are disclosed on the face of the Consolidated Income Statement where these are material and considered necessary to explain the underlying financial performance of the Group. They are either one-off in nature or necessary elements of expenditure to derive future benefits for the Group which have not been capitalised in the Consolidated Balance Sheet. Costs of restructure are only considered to be exceptional where the restructure is transformational and the resultant cost is significant. Acquisition costs are only considered to be exceptional where the acquisition and the resultant cost are significant. Employee benefits Retirement benefit obligations The Group operates both defined benefit and defined contribution pension schemes as follows: i) Defined contribution pensions A defined contribution plan is a pension plan under which the Group pays fixed contributions into an independent entity. The Group has no legal obligations to pay further contributions after payment of the fixed contribution. The contributions recognised in respect of defined contribution plans are expensed as they fall due. Liabilities and assets may be recognised if underpayment or prepayment has occurred and are included in current liabilities or current assets as they are normally of a short-term nature. The assets of the schemes are held separately from those of the Group in an independently administered fund. 94 Mears Group PLC Annual report and accounts 2016 Financial statementsEmployee benefits continued Retirement benefit obligations continued ii) Defined benefit pensions The Group contributes to defined benefit schemes which require contributions to be made to separately administered funds. A defined benefit plan is a pension plan that defines an amount of pension benefit that an employee will receive on retirement, usually dependent on one or more factors such as age, years of service and salary. The legal obligations for any benefits from this kind of pension plan remain with the Group, even if plan assets for funding the defined benefit plan have been set aside. Scheme liabilities are measured using the projected unit funding method, applying the principal actuarial assumptions at the balance sheet date. Assets are measured at market value. In accordance with IFRIC 14, the asset that is recognised is restricted to the amount by which the IAS 19 (Revised) service cost is expected, over the lifetime of the scheme, to exceed funding contributions payable in respect of accruing benefits. Where the Group has a contractual obligation to make good any deficit in its share of a Local Government Pension Scheme (LGPS) but also has the right to recover the costs of making good any deficit from the Group’s client, the fair value of that guarantee asset has been recognised and disclosed. The right to recover costs is limited to exclude situations where the Group causes the scheme to incur service costs in excess of those which would have been incurred were the members employed within Local Government. The right to recover costs is also limited to situations where the cap on employer contributions payable by the Group is not set so as to contribute to reducing the deficit in the scheme. Movements in the guarantee asset are taken to the Income Statement and to the Statement of Comprehensive Income to match the movement in pension assets and liabilities. Actuarial gains and losses are taken to the Statement of Comprehensive Income as incurred. For this purpose, actuarial gains and losses comprise both the effects of changes in actuarial assumptions and experience adjustments arising because of differences between the previous actuarial assumptions and what has actually occurred. Other movements in the net surplus of deficit are recognised in the Income Statement, including the current service cost, any past service cost and the effect of curtailments or settlements. The net interest cost is also charged to the Income Statement. The amount charged to the Income Statement in respect of these plans in included within operating costs. The Group’s contributions to the scheme are paid in accordance with the rules of the schemes and the recommendations of the actuary. Share-based employee remuneration All share-based payment arrangements that were granted after 7 November 2002 and had not vested before 1 January 2005 are recognised in the consolidated financial statements in accordance with IFRS 2. The Group operates equity-settled and cash-settled share-based remuneration plans for its employees. All employee services received in exchange for the grant of any share-based remuneration are measured at their fair values. These are indirectly determined by reference to the fair value (excluding the effect of non-market based vesting conditions) of the share options awarded. Their value is determined at the date of grant and is not subsequently remeasured unless the conditions on which the award was granted are modified. The fair value at the date of the grant is calculated using the Black Scholes option pricing model and the cost is recognised on a straight-line basis over the vesting period. Adjustments are made to reflect expected and actual forfeitures during the vesting period. For SAYE plans, employees are required to contribute towards the plan. This non-vesting condition is taken into account in calculating grant date fair value. All share-based remuneration is ultimately recognised as an expense in the Income Statement. For equity-settled share-based payments there is a corresponding credit to the share-based payment reserve; for cash-settled share-based payments the Group recognises a liability at the balance sheet date. Upon exercise of share options, the proceeds received net of any directly attributable transaction costs up to the nominal value of the shares issued are allocated to share capital, with any excess being recorded as share premium. Annual report and accounts 2016 95 Mears Group PLC Financial statementsPrincipal accounting policies – Group continued Leases In accordance with IAS 17 ‘Leases’, the economic ownership of a leased asset is transferred to the lessee if they bear substantially all the risks and rewards related to the ownership of the leased asset. The related asset is recognised at the time of inception of the lease at the fair value of the leased asset or, if lower, the present value of the lease payments plus incidental payments, if any, to be borne by the lessee. A corresponding amount is recognised as a finance leasing liability, irrespective of whether some of these lease payments are payable upfront at the date of inception of the lease. Subsequent accounting for assets held under finance lease agreements, i.e. depreciation methods and useful lives, correspond to those applied to comparable acquired assets. The corresponding finance leasing liability is reduced by lease payments less finance charges, which are expensed to finance costs. Finance charges represent a constant periodic rate of interest on the outstanding balance of the finance lease liability. All other leases are treated as operating leases. Payment on operating lease agreements is recognised as an expense on a straight-line basis over the lease term. Associated costs, such as maintenance and insurance, are expensed as incurred. The Group does not act as a lessor. Financial instruments Financial assets and liabilities are recognised in the Balance Sheet when the Group becomes party to the contractual provisions of the instrument. The principal financial assets and liabilities of the Group are as follows: Financial assets When financial assets are recognised initially under IAS 39 ‘Financial Instruments: Recognition and Measurement’, they are measured at fair value, net of transaction costs other than for financial assets carried at fair value through the Income Statement. The Group’s financial assets are included in the Balance Sheet as current assets, except for those maturing more than twelve months after the balance sheet date, whereupon they are classified as non-current assets. The Group’s financial assets comprise ‘Trade and other receivables’, ‘Amounts recoverable on contracts’ and ‘Cash at bank and in hand’ in the Balance Sheet. Loans and receivables Trade receivables, amounts recoverable on contracts and cash at bank and in hand are non-derivative financial assets with fixed or determinable payments that are not quoted in an active market. Trade receivables and amounts recoverable on contracts are initially recorded at fair value net of transaction costs, being invoiced value less any provisional estimate for impairment should this be necessary due to a loss event. Trade receivables are subsequently remeasured at invoiced value, less an updated provision for impairment. Any change in their value through impairment or reversal of impairment is recognised in the Income Statement. Provisions against trade receivables and amounts recoverable on contracts are made when objective evidence is received that the Group will not be able to collect all amounts due to it in accordance with the original terms of those receivables. The amount of the write down is determined as the difference between the asset’s carrying amount and the present value of estimated future cash flows. Individually significant balances are reviewed separately for impairment based on the credit terms agreed with the customer. Other balances are grouped into credit risk categories and reviewed in aggregate. Cash and cash equivalents include cash at bank and in hand and bank deposits available with no notice or less than three months’ notice from inception that are subject to an insignificant risk of changes in value. Bank overdrafts are presented as current liabilities to the extent that there is no right of offset with cash balances. Following initial recognition, financial assets are subsequently remeasured at amortised cost using the effective interest rate method. Financial liabilities The Group’s financial liabilities are overdrafts, trade and other payables including contingent consideration, and interest rate swaps. They are included in the Balance Sheet line items ‘Short-term borrowings and overdrafts’, ‘Trade and other payables’, ‘Financial liabilities’ and ‘Other liabilities’. All interest related charges are recognised as an expense in ‘Finance cost’ in the Income Statement with the exception of those that are directly attributable to the construction of a qualifying asset which are capitalised as part of that asset. 96 Mears Group PLC Annual report and accounts 2016 Financial statementsFinancial instruments continued Financial liabilities continued Bank and other borrowings are initially recognised at fair value net of transaction costs. Gains and losses arising on the repurchase, settlement or cancellation of liabilities are recognised respectively in finance revenue and finance costs. Borrowing costs are recognised as an expense in the period in which they are incurred with the exception of those which are directly attributable to the construction of a qualifying asset which are capitalised as part of that asset. Trade payables on normal terms are not interest bearing and are stated at their fair value on initial recognition and subsequently at amortised cost. Contingent consideration is initially recognised at fair value and is subsequently measured at fair value through the Income Statement. Derivative financial instruments The Group uses derivative financial instruments to hedge its exposure to interest rate risks arising from operational and financing activities. Derivative financial instruments are recognised initially and subsequently at fair value, with mark-to-market movements recognised in the Income Statement except where cash flow hedge accounting is applied. The fair value of interest rate swaps is the estimated amount that the Group would receive or pay to terminate the swap at the balance sheet date, taking into account current interest rates and the current creditworthiness of the swap counterparties. In accordance with its treasury policy, the Group does not hold or issue derivative financial instruments for trading purposes. Hedge accounting for interest rate swaps Where an interest rate swap is designated as a hedge of the variability in cash flows of an existing or highly probable forecast loan interest payment, the effective part of any valuation gain or loss on the swap instrument is recognised in ‘Other comprehensive income’ in the hedging reserve. The cumulative gain or loss is removed from equity and recognised in the Income Statement at the same time as the hedged transaction. The ineffective part of any gain or loss is recognised in the Income Statement immediately. When a hedging instrument or hedge relationship is terminated but the hedged transaction is still expected to occur, the cumulative gain or loss at that point remains in equity and is recognised in accordance with the above policy when the transaction occurs. If the hedged transaction is no longer probable, the cumulative unrealised gain or loss recognised in equity is recognised in the Income Statement immediately. Nature and purpose of each reserve in equity Share capital is determined using the nominal value of shares that have been issued. Share premium represents the difference between the nominal value of shares issued and the total consideration received. Equity-settled shared-based employee remuneration is credited to the share-based payment reserve until the related share options are exercised. Upon exercise the share-based payment reserve is transferred to retained earnings. The hedging reserve represents the effective part of any gain or loss on a cash flow hedge which has not been removed from equity and recognised in the Income Statement. The merger reserve relates to the difference between the nominal value and total consideration in respect of the acquisition of Careforce Group plc, Supporta plc and Morrison Facilities Services Limited where the Company was entitled to the merger relief offered by the Companies Act. Dividends Dividend distributions payable to equity shareholders are included in ‘Current financial liabilities’ when the dividends are approved in a general meeting prior to the balance sheet date. Annual report and accounts 2016 97 Mears Group PLC Financial statementsPrincipal accounting policies – Group continued Use of judgements and estimates The preparation of financial statements requires management to make estimates and judgements that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of income and expenditure during the reported period. The estimates and associated judgements are based on historical experience and various other factors that are believed to be reasonable under the circumstances, the results of which form the basis of making judgements about carrying values of assets and liabilities that are not readily apparent from other sources. The estimates and underlying judgements are reviewed on an ongoing basis. Revisions to accounting estimates are recognised in the period in which the estimate is revised if the revision affects only that period or in the period of the revision and future periods if the revision affects both current and future periods. In the preparation of these consolidated financial statements, estimates and judgements have been made by management concerning the selection of useful lives of property, plant and equipment, provisions necessary for certain liabilities, when to recognise revenue on long-term contracts, actuarial judgements, discount rates used within impairment reviews, the underlying share price volatility for valuing equity-based payments and other similar evaluations. Actual amounts could differ from those estimates. Critical judgements in applying the Group’s accounting policies Revenue recognition Revenue is recognised based on the stage of completion of job or contract activity. As described in the Revenue section on pages 92 and 93, certain types of Housing pricing mechanisms and Care revenue require minimal judgement; however, Housing lump sum contracts and construction contracts do require judgements and estimates to be made to determine the stage of completion and the expected outcome for the individual contract. Joint arrangements The Group participates in a number of joint arrangements where control of the arrangement is shared with another party. A joint arrangement is classified as a joint operation or as a joint venture, depending on management’s assessment of the legal form and substance of the arrangement. The classification can have a material impact on the consolidated financial statements. The Group’s share of assets, liabilities, revenue, expenses and cash flows of joint operations would be included in the consolidated financial statements on a line-by-line basis, whereas the Group’s investment and share of results of joint ventures are shown within single line items in the Consolidated Balance Sheet and Consolidated Income Statement respectively. Key sources of estimation uncertainty Impairment of goodwill Determining whether goodwill is impaired requires an estimate of the value in use of the CGUs to which goodwill has been allocated. The value-in-use calculation involves an estimate of the future cash flows of the CGUs and also the selection of appropriate discount rates to calculate present values. Future cash flows are estimated using the current one-year budget forecast, extrapolated for a future growth rate. The estimated growth rates are based on past experience and knowledge of the individual sector’s markets. Changes in the estimated growth rate could result in variations to the carrying value of goodwill. The Directors consider that the estimates and judgements involved in determining the value in use of the Care CGU goodwill are the most significant and have therefore utilised the services of an external consultant to undertake this impairment review. The estimated cash flows and future growth rates are based on past experience and knowledge of the sector. The value in use is most sensitive to changes in the terminal growth rate, the explicit growth rate and the discount rate. The sensitivity to changes in these estimations is detailed in note 11. 98 Mears Group PLC Annual report and accounts 2016 Financial statementsUse of judgements and estimates continued Key sources of estimation uncertainty continued Defined benefit liabilities A number of key estimates have been made, which are given below, which are largely dependent on factors outside the control of the Group: → inflation rates; → mortality; → discount rate; and → salary and pension increases. Details of the particular estimates used are included in the pensions note. Sensitivity analysis for these key estimates is included in note 24. Where the Group has a contractual obligation to make good any deficit in its share of an LGPS but also has the right to recover the costs of making good any deficit from the Group’s client, the fair value of that asset has been recognised and disclosed. The right to recover costs is limited to exclude situations where the Group causes the scheme to incur service costs in excess of those which would have been incurred were the members employed within Local Government. The Directors have made judgements in respect of whether any of the deficit is as a result of such situations. The right to recover costs is also limited to situations where the cap on employer contributions to be suffered by the Group is not set so as to contribute to reducing the deficit in the scheme. The Directors, in conjunction with the scheme actuaries, have made judgements in respect of the predicted future service cost and contributions to the scheme to reflect this in the fair value of the asset recognised. New standards and interpretations not yet applied IFRS 9 ‘Financial Instruments’ specifies how an entity should classify and measure financial assets, including some hybrid contracts. The Group is expected to apply this standard for the Group’s 31 December 2018 financial statements. IFRS 15 ‘Revenue from Contracts with Customers’. This standard introduces a new revenue recognition model that recognises revenue either at a point in time or over time. The model features a contract-based five-step analysis of transactions to determine whether, how much and when revenue is recognised. The Group is currently expected to apply this standard for the Group’s 31 December 2018 financial statements. Management has started to assess the impact of this standard but is not yet in a position to provide quantified information. IFRS 16 ‘Leases’. Under IFRS 16 lessees have to recognise a lease liability reflecting future lease payments and a ‘right-of-use asset’ for almost all lease contracts. This is a significant change compared to IAS 17 under which lessees were required to make a distinction between a finance lease (on balance sheet) and an operating lease (off balance sheet). IFRS 16 contains an optional exemption for certain short-term leases and leases of low value assets. The Group is expected to apply this standard for the Group’s 31 December 2019 financial statements, subject to endorsement by the EU. Management has started to assess the impact of this standard but is not yet in a position to provide quantified information. A number of standards have been modified. These include Disclosure Initiative (Amendments to IAS 7), Recognition of Deferred Tax Assets for Unrealised Losses (Amendments to IAS 12) and Classification and Measurement of Share-based Payment Transactions (Amendments to IFRS 2). None of these amendments are expected to have a material effect on the Group’s Financial Statements. Annual report and accounts 2016 99 Mears Group PLC Financial statementsConsolidated income statement For the year ended 31 December 2016 Continuing operations Sales revenue Cost of sales Gross profit Other administrative expenses Amortisation of acquisition intangibles Total administrative costs Operating profit before amortisation of acquisition intangibles Operating profit Finance income Finance costs Profit for the year before tax and the amortisation of acquisition intangibles Profit for the year before tax Tax expense Profit for the year from continuing operations Discontinued operations Loss from discontinued operations Tax income from discontinued operations Loss for the year after tax from discontinued operations Profit for the year from continuing and discontinued operations Attributable to: Owners of the Parent Non-controlling interest Profit for the year Earnings per share – from continuing operations Basic Diluted Earnings per share – from continuing and discontinued operations Basic Diluted The accompanying accounting policies and notes form an integral part of these financial statements. 100 Mears Group PLC Annual report and accounts 2016 Note 2016 £’000 2015 £’000 1 940,100 881,139 (695,206) (649,007) 244,894 232,132 (203,044) (193,470) 11 (10,690) (10,837) (213,734) (204,307) 1 1 3 3 41,850 38,662 31,160 27,825 1,152 1,171 (2,940) (3,076) 40,062 36,757 29,372 25,920 6 (3,676) (3,832) 25,696 22,088 7 7 9 9 9 9 — — — (7,964) 165 (7,799) 25,696 14,289 21,526 12,874 4,170 1,415 25,696 14,289 23.54p 23.41p 20.31p 20.10p 21.03p 20.91p 12.65p 12.52p Financial statementsConsolidated statement of comprehensive income For the year ended 31 December 2016 Profit for the year Other comprehensive income/(expense): Which will be subsequently reclassified to the Income Statement: Cash flow hedges: – losses arising in the year – reclassification to the Income Statement Increase/(decrease) in deferred tax asset in respect of cash flow hedges Which will not be subsequently reclassified to the Income Statement: Actuarial gain/(loss) on defined benefit pension scheme (Decrease)/increase in deferred tax asset in respect of defined benefit pension schemes Other comprehensive income/(expense) for the year Total comprehensive income for the year Attributable to: Owners of the Parent Non-controlling interest Total comprehensive income for the year The accompanying accounting policies and notes form an integral part of these financial statements. Note 2016 £’000 2015 £’000 25,696 14,289 19 19 19 24 20 (884) 643 39 (72) 559 (97) 3,676 (3,371) (804) 675 2,670 (2,306) 28,366 11,983 24,196 10,568 4,170 1,415 28,366 11,983 Annual report and accounts 2016 101 Mears Group PLC Financial statementsConsolidated balance sheet As at 31 December 2016 Assets Non-current Goodwill Intangible assets Property, plant and equipment Pension and other employee benefits Financial assets Deferred tax asset Current Assets included in disposal group classified as held for sale Inventories Trade and other receivables Financial assets Cash at bank and in hand Total assets Equity Equity attributable to the shareholders of Mears Group PLC Called up share capital Share premium account Share-based payment reserve Hedging reserve Merger reserve Retained earnings Total equity attributable to the shareholders of Mears Group PLC Non-controlling interest Total equity Liabilities Non-current Long-term borrowing and overdrafts Pension and other employee benefits Deferred tax liabilities Financial liabilities Other payables Current Liabilities included in disposal group classified as held for sale Short-term borrowings and overdrafts Trade and other payables Financial liabilities Current tax liabilities Current liabilities Total liabilities Total equity and liabilities Note 2016 £’000 2015 £’000 10 11 12 24 17 20 7 14 15 17 19 21 19 19 24 20 17 18 7 19 16 17 193,712 25,913 20,265 15,992 677 5,704 193,058 31,851 18,436 8,272 — 6,584 262,263 258,201 — 13,255 9,021 146,879 — 68,612 11,234 157,181 839 52,904 222,158 237,767 484,421 495,968 1,026 58,320 1,975 (774) 46,214 92,555 1,019 58,124 1,651 (572) 46,214 86,438 199,316 (642) 192,874 (1,246) 198,674 191,628 60,000 7,498 7,120 612 15,950 91,180 57,500 4,224 6,970 368 15,396 84,458 — 13,255 10,290 194,103 510 1,724 5,278 187,264 478 1,547 194,567 219,882 285,747 304,340 484,421 495,968 The financial statements were approved and authorised for issue by the Board of Directors and were signed on its behalf on 27 March 2017. D J Miles Director A C M Smith Director Company number: 03232863 The accompanying accounting policies and notes form an integral part of these financial statements. 102 Mears Group PLC Annual report and accounts 2016 Financial statements Consolidated cash flow statement For the year ended 31 December 2016 Operating activities Result for the year before tax Adjustments Change in inventories Change in trade and other receivables Change in trade and other payables Cash inflow from operating activities of continuing operations before taxation Taxes paid Net cash inflow from operating activities of continuing operations Net cash outflow from operating activities of discontinued operations Net cash inflow from operating activities Investing activities Additions to property, plant and equipment Additions to other intangible assets Proceeds from disposals of property, plant and equipment Acquisition of subsidiary undertakings, net of cash Loans made to other entities (non-controlled) Interest received Net cash outflow from investing activities Financing activities Proceeds from share issue Discharge of finance lease liability Interest paid Dividends paid – Mears Group shareholders Dividends paid – non-controlling interests Net cash outflow from financing activities Cash and cash equivalents, beginning of year Net decrease in cash and cash equivalents Cash and cash equivalents, end of year Cash and cash equivalents comprises the following: – cash at bank and in hand – borrowings and overdrafts Cash and cash equivalents Cash conversion key performance indicator Cash inflow from operating activities of continuing operations EBITDA for continuing operations Conversion Note 2016 £’000 2015 £’000 22 29,372 20,438 (2,213) (8,793) (4,289) 25,920 19,887 (553) 6,668 (7,458) 34,515 44,464 (4,877) (5,888) 29,638 38,576 (3,925) (4,503) 25,713 34,073 (10,029) (2,904) 2 (4,297) (2,978) 86 (10,019) (17,590) (211) 35 — 158 (23,126) (24,621) 202 (661) 1,418 (545) (2,822) (2,764) (11,483) (10,445) (1,019) (128) (15,783) (12,464) 822 3,834 (13,196) (3,012) (12,374) 822 52,904 68,612 (65,278) (67,790) (12,374) 822 34,515 49,260 44,464 44,940 70.1% 98.9% The accompanying accounting policies and notes form an integral part of these financial statements. Annual report and accounts 2016 103 Mears Group PLC Financial statementsConsolidated statement of changes in equity For the year ended 31 December 2016 At 1 January 2015 Net result for the year Other comprehensive income/(expense) Total comprehensive income for the year Deferred tax on share-based payments Issue of shares Share option charges Exercise of share options On acquisition Transactions with non-controlling interests Dividends At 1 January 2016 Net result for the year Other comprehensive income Total comprehensive income for the year Deferred tax on share-based payments Issue of shares Share option charges On disposal Transactions with non-controlling interests Dividends Attributable to equity shareholders of the Company Share capital £’000 Share premium account £’000 Share- based payment reserve £’000 Hedging reserve £’000 Merger reserve £’000 Retained earnings £’000 Non- controlling interest £’000 Total equity £’000 1,011 56,714 1,653 (962) 46,214 92,179 (2,347) 194,462 — — — — 8 — — — — — — — — — 1,410 — — — — — — — — — — 771 (773) — — — — 390 390 — — — — — — — — 12,874 1,415 14,289 — (2,696) — (2,306) — 10,178 1,415 11,983 — — — — — — (552) — — 773 — (5,695) — (10,445) — — — — 282 (468) (128) (552) 1,418 771 — 282 (6,163) (10,573) 1,019 58,124 1,651 (572) 46,214 86,438 (1,246) 191,628 — — — — 7 — — — — — — — — 196 — — — — — — — — — 324 — — — — (202) (202) — — — — — — — 21,526 4,170 25,696 — 2,872 — 2,670 — 24,398 4,170 28,366 — — — — — (635) — — — (6,163) — — — (2,570) 23 (635) 203 324 (2,570) (6,140) — (11,483) (1,019) (12,502) At 31 December 2016 1,026 58,320 1,975 (774) 46,214 92,555 (642) 198,674 The accompanying accounting policies and notes form an integral part of these financial statements. 104 Mears Group PLC Annual report and accounts 2016 Financial statementsNotes to the financial statements – Group For the year ended 31 December 2016 1. Segment reporting Segment information is presented in respect of the Group’s operating segments. Segments are determined by reference to the internal reports reviewed by the Board. The Group had two operating segments during the year: → Housing – services within this sector comprise a full housing management service predominantly to Local Authorities and other Registered Social Landlords; and → Care – services within this sector comprise personal care services to people in their own homes. All of the Group’s activities are carried out within the United Kingdom and the Group’s principal reporting to its chief operating decision maker is not segmented by geography. The principal financial measures used by the chief operating decision maker and the Board to review the performance of the operating segments are that of revenue growth and operating margins in both the core divisions of Housing and Care. The operating result utilised within the key performance measures is stated before amortisation of acquisition intangibles and costs relating to the long-term incentive plans. Operating segments Revenue Housing £’000 2016 Care £’000 Total £’000 Housing £’000 2015 Care £’000 Total £’000 787,530 152,570 940,100 735,129 146,010 881,139 Operating result pre amortisation of acquisition intangibles and long-term incentive plans Operating margin pre amortisation of acquisition intangibles and long-term incentive plans 44,057 (1,199) 42,858 42,413 (1,601) 40,812 5.60% (0.79%) 4.56% 5.77% (1.10%) 4.63% Long-term incentive plans (1,008) — (1,008) (2,150) — (2,150) Operating result pre amortisation of acquisition intangibles 43,049 (1,199) 41,850 40,263 (1,601) 38,662 Amortisation of acquisition intangibles Operating result Net finance costs Tax expense Profit for the year from continuing activities (10,690) 31,160 (1,788) (3,676) 25,696 (10,837) 27,825 (1,905) (3,832) 22,088 All revenue and all non-current assets arise within the United Kingdom. All of the revenue reported is external to the Group. No revenue in respect of a single customer comprises more than 10% of the total revenue reported. Annual report and accounts 2016 105 Mears Group PLC Financial statementsNotes to the financial statements – Group continued For the year ended 31 December 2016 1. Segment reporting continued In addition, the following disclosures have been provided in respect of segmental analysis required by IFRS 8 ‘Operating Segments’: Housing £’000 2016 Care £’000 Total £’000 Housing £’000 2015 Care £’000 Total £’000 348,066 136,355 484,421 359,578 136,390 495,968 (214,339) (71,408) (285,747) (237,689) (66,651) (304,340) 6,553 4,066 6,878 1,837 872 1,507 3,812 — 7,425 5,573 10,690 1,837 5,388 3,710 6,707 1,314 829 1,253 4,130 — 6,217 4,963 10,837 1,314 Operating segments Segment assets Segment liabilities Property, plant and equipment additions Depreciation Amortisation of acquisition intangibles Amortisation of other intangibles 2. Operating costs Operating costs, relating to continuing activities, include: Share-based payments Long-term incentives Depreciation Amortisation of acquisition intangibles Amortisation of other intangibles Loss on disposal of property, plant and equipment Hire of plant and machinery Other operating lease rentals Fees payable for audit and non-audit services during the year were as follows: Fees payable to the auditor for the audit of the Group’s financial statements Other fees payable to the auditor in respect of: – auditing of accounts of subsidiary undertakings pursuant to legislation – taxation advice fees – audit related advisory fees – accreditation related assurance fees Total auditor’s remuneration 2016 £’000 324 684 5,573 2015 £’000 771 1,379 4,963 10,690 10,837 1,837 1,314 48 45 5,450 5,727 112,940 65,461 2016 £’000 60 331 — 8 45 444 2015 £’000 60 331 21 8 — 420 During 2016, Mears was delighted to retain its accreditation with Investors in People (IIP). This followed a four-week assessment programme which involved external assessors visiting 16 branches and interviewing around 300 employees. IIP in the South of England is delivered by Grant Thornton under licence from the UK Commission for Employment and Skills. Whilst Mears played no part in the selection of Grant Thornton as its external assessor, the fee of £0.05m was paid to Grant Thornton for this assessment and is included within accreditation related assurance services. The Group has a strict policy of prohibiting the external auditor from carrying out non-audit services in order to safeguard audit objectivity and independence. 106 Mears Group PLC Annual report and accounts 2016 Financial statements3. Finance income and finance costs Interest charge on overdrafts and short-term loans Interest charge on hedged items (effective hedges) Other interest Finance costs on bank loans, overdrafts and finance leases Interest charge on defined benefit obligation Unwinding of discounting Total finance costs Interest income resulting from short-term bank deposits Interest income resulting from defined benefit asset Unwinding of discounting Other interest income Finance income Net finance charge Gains and losses on hedged items recognised in other comprehensive income Losses arising in the year Reclassification to the Income Statement Changes in mark-to-market of interest rate swaps (effective hedges) 4. Employees Staff costs during the year were as follows: Wages and salaries Social security costs Other pension costs 2016 £’000 2015 £’000 (2,134) (2,136) (643) (26) (559) (4) (2,803) (2,699) (137) — (252) (125) (2,940) (3,076) 19 1,085 40 8 16 964 49 142 1,152 1,171 (1,788) (1,905) (884) 643 241 (72) 559 487 2016 £’000 2015 £’000 299,684 291,542 25,785 22,310 9,292 9,859 334,761 323,711 Annual report and accounts 2016 107 Mears Group PLC Financial statementsNotes to the financial statements – Group continued For the year ended 31 December 2016 4. Employees continued The average number of employees of the Group during the year was: Site workers Carers Office and management Remuneration in respect of Directors was as follows: Emoluments Gains made on the exercise of share options Pension contributions to personal pension schemes 2016 Number 2015 Number 3,897 8,531 3,291 3,900 7,318 3,110 15,719 14,328 2016 £’000 1,334 1,795 195 3,324 2015 £’000 1,323 — 195 1,518 During the year contributions were paid to personal pension schemes for four Directors (2015: four). During the year three Directors (2015: none) exercised share options. 5. Share-based employee remuneration As at 31 December 2016 the Group maintained seven share-based payment schemes for employee remuneration. Details of the share options outstanding are as follows: Outstanding at 1 January Granted Forfeited/lapsed Exercised Outstanding at 31 December 2016 2015 Weighted average exercise price p 255 — 356 33 300 Number ‘000 3,102 — (488) (621) 1,993 Weighted average exercise price p 223 330 394 176 255 Number ‘000 2,994 1,462 (550) (804) 3,102 The weighted average share price at the date of exercise for share options exercised during the period was 405p. At 31 December 2016, 0.4m options had vested and were still exercisable at prices between 1p and 300p. These options had a weighted average exercise price of 74p and a weighted average remaining contractual life of one year. The fair values of options granted were determined using the Black Scholes option pricing model. Significant inputs into the calculation include the market price at the date of grant and exercise prices. Furthermore, the calculation takes into account the future dividend yield, the share price volatility rate and the risk-free interest rate. 108 Mears Group PLC Annual report and accounts 2016 Financial statements 5. Share-based employee remuneration continued The underlying expected share price volatility was determined by reference to historical data. The Company expects the volatility of its share price to reduce as it matures. The risk-free interest rate was determined by the implied yield available on a zero-coupon Government bond at the date of grant. Adjustments are made to reflect expected and actual forfeitures during the vesting period due to failure to satisfy service conditions. In the case of the SAYE scheme the expected forfeitures take account of the requirement to save throughout the life of the scheme. There were no options granted during the year and 0.5m options lapsed during the year. The market price at 31 December 2016 was 456p and the range during 2016 was 353p to 483p. All share-based employee remuneration will be settled in equity. The Group has no legal obligation to repurchase or settle the options. The Group recognised the following expenses related to share-based payments: Giving rise to share-based payment reserve: – SAYE – Share Plan Giving rise to liabilities: – MIP 2016 £’000 2015 £’000 324 — 684 1,008 113 658 1,379 2,150 In total, £0.3m of employee remuneration expense that gave rise to additional share-based payment reserves has been included in the Consolidated Income Statement for 2016 (2015: £0.8m). In total, £0.7m (2015: £1.4m) of liabilities were recognised due to cash-settled share-based payment transactions. Approved share option plan Options are exercisable at a price equal to the average quoted market price of the Company’s shares on the three dealing days prior to the date of grant. The vesting period is three years. If the options remain unexercised after a period of ten years from the date of grant, the options expire. Options are forfeited if the employee leaves Mears before the options vest. All options issued under this plan have vested or were forfeited. Unapproved share option plan Options are exercisable at nominal value. The vesting period is three years. If the options remain unexercised after a period of ten years from the date of grant, the options expire. Options are forfeited if the employee leaves Mears before the options vest. With the introduction of the LTIP in 2008, the Remuneration Committee has decided that no further awards will be made under the unapproved share option plan. All options issued under this plan have vested or were forfeited. Save As You Earn (SAYE) scheme Options are available to all employees. Options are granted for a period of three years. Options are exercisable at a price based on the quoted market price of the Company’s shares at the time of invitation, discounted by up to 20%. Options are forfeited if the employee leaves Mears Group before the options vest which impacts on the number of options expected to vest. If an employee stops saving but continues in employment, this is treated as a cancellation which results in an acceleration of the share-based payment charge. Special Incentive Plan 2007 (SIP) The SIP was introduced in 2007 to reward the then Chief Executive Officer, Bob Holt, with premium priced options linked to long-term performance. The terms and conditions were subsequently amended on 3 July 2009. If the options remain unexercised after a period of ten years from the date of grant, the options expire. There was a single award and no further awards will be made under this plan. All options issued under this plan have vested. Annual report and accounts 2016 109 Mears Group PLC Financial statementsNotes to the financial statements – Group continued For the year ended 31 December 2016 5. Share-based employee remuneration continued The Mears Group PLC Long-term Incentive Plan (LTIP) The LTIP was introduced in October 2008 following shareholder approval. The award of options is offered to a small number of key senior management. The principal terms of the LTIP are detailed below: Principal terms of LTIP Number of options Exercise price Performance period Maximum award limit under the plan will be 200% of salary p.a. 1p 3 years Performance conditions There are two performance targets attaching to the LTIP Award. Expiry conditions Options are forfeited if the employee leaves the Group before the options have vested. 75% of the LTIP Award will relate to an EPS growth target. The other 25% of the LTIP Award relates to the Company’s TSR against the return of the FTSE All-Share Support Services Sector. All options issued under this plan have vested or were forfeited. Management Incentive Plan (MIP) The MIP was introduced in June 2013 following shareholder approval. The award of options is offered to a small number of key senior management. The MIP is a share-based payment plan which is settled through a combination of cash and shares. Further details are provided on page 73 of the Remuneration Report. 6. Tax expense Tax recognised in the Income Statement United Kingdom corporation tax Adjustment in respect of previous periods Total current tax recognised in Income Statement Deferred taxation charge: – on defined benefit pension obligations – on share-based payments – on accelerated capital allowances – on amortisation of acquisition intangibles – on short-term temporary timing differences – on corporate tax losses – impact of change in statutory tax rates Adjustment in respect of previous periods Total deferred taxation recognised in Income Statement Total tax expense recognised in Income Statement on continuing operations Total tax credit recognised in Income Statement on discontinued operations Total tax expense recognised in Income Statement 110 Mears Group PLC Annual report and accounts 2016 2016 £’000 5,672 (972) 2015 £’000 5,783 (642) 4,700 5,141 146 (65) 194 133 (151) (232) (2,066) (2,130) 277 617 (19) (108) (276) 1,609 — (262) (1,024) (1,309) 3,676 — 3,832 (165) 3,676 3,667 Financial statements6. Tax expense continued Tax recognised in the Income Statement continued The charge for the year can be reconciled to the result for the year as follows: Result for the year before tax Result for the year multiplied by standard rate of corporation tax in the United Kingdom for the period of 20.0% (2015: 20.25%) Effect of: – expenses not deductible for tax purposes – income not subject to tax – tax relief on exercise of share options – statutory tax rate changes – temporary timing differences not previously recognised in deferred tax – tax losses not previously recognised in deferred tax – adjustment in respect of prior periods Actual tax expense 2016 £’000 2015 £’000 29,372 17,956 5,874 3,636 563 (885) (463) (19) (15) (299) (1,080) 1,412 — (397) — (20) (60) (904) 3,676 3,667 Deferred tax is recognised on both temporary and permanent differences between the treatment of items for tax and accounting purposes. Deferred tax on the amortisation of acquisition intangibles is a permanent difference and arises because no tax relief is due on this kind of amortisation. Tax losses generated in previous years which are expected to be utilised against future profits are recognised as a deferred tax asset and a subsequent charge arises as those losses are utilised. The majority of the charge of £0.6m (2015: charge of £1.6m) represents losses associated with previous acquisitions which were utilised in the year. No deferred tax asset is recognised in respect of losses of £31.3m (2015: £32.9m) across several entities in the Group as it is not expected that they will be eligible to be utilised against profits in the future. Deferred tax is also recognised on short-term temporary timing differences, primarily relating to provisions. These differences are expected to reverse in the following year and arise because tax relief is only available when the costs are incurred. Capital allowances represent tax relief on the acquisition of property, plant and equipment and are spread over several years at rates set by legislation. These differ from depreciation which is an estimate of the use of an item of property, plant and equipment over its useful life. Deferred tax is recognised on the difference between the remaining value of such an asset for tax purposes and its carrying value in the accounts. The following tax has been charged to other comprehensive income or equity during the year: Deferred tax recognised in other comprehensive income – on defined benefit pension obligations – on cash flow hedges Total deferred tax recognised in other comprehensive income Deferred tax recognised directly in equity Deferred tax charge: – on share-based payments Total deferred tax recognised in equity Total tax Total current tax Total deferred tax 2016 £’000 2015 £’000 804 (39) 765 (675) 97 (578) (635) (635) (552) (552) 4,700 4,976 (894) (2,439) Mears Group PLC Annual report and accounts 2016 111 Financial statementsNotes to the financial statements – Group continued For the year ended 31 December 2016 7. Discontinued activities On 21 November 2013, the Group completed the disposal of the entire share capital of Haydon Mechanical and Electrical Limited (‘Haydon UK’). As part of that disposal, the Group retained the beneficial interest in 49% of the share capital of an investment in a company registered in the United Arab Emirates, Haydon Mechanical and Electrical Company LLC (‘Haydon LLC’). This beneficial interest was retained due to a number of performance guarantees in place at the time of the disposal which unravel as underlying contracts complete. During the period the Group reduced its interest to 1% of the share capital, completing a disposal of 48% for a nominal consideration. Upon the remaining guarantees being satisfied and the outstanding debtor settled, it is the intention of the Group to transfer the remaining share to the local management. As at 31 December 2016, the Group has performance guarantees of £13.7m outstanding and these are anticipated to reduce to £9.4m and £nil by December 2017 and 2018 respectively. These performance guarantees are disclosed as contingent liabilities in note 27. At 31 December 2015, a balance of £2.0m was due from Haydon Mechanical & Electrical Limited to the Group. During the period the Group fully provided against this balance. The provision of £2.0m has been reported as a loss from discontinued activities. In addition, the Group paid £0.6m in respect of an indemnity provided under the share purchase agreement. The cost of £0.6m has been reported as a loss from discontinued activities and a cash outflow from discontinued activities. The results of Haydon LLC up until the point of disposal, which have been aggregated into a single line within the Consolidated Income Statement, comprise sales revenue of £8.3m (2015: £38.5m), costs of sales of £5.2m (2015: £44.1m), administrative expenses of £0.6m (2015: £3.3m) and a tax credit of £nil (2015: £0.2m), equating to a profit on discontinued activities of £2.6m (2015: £6.9m loss). All of this profit has been attributed to the non-controlling interest. At 31 December 2015, a balance of £nil was due from Haydon LLC to the Group. During the period, the Group provided additional financial support to Haydon LLC of £3.4m to fund ongoing losses in the company so as to mitigate its risk in respect of the performance guarantees. This is reported as a cash outflow from discontinued operations. The Directors consider this balance to be recoverable. 8. Dividends The following dividends were paid on ordinary shares in the year: Final 2015 dividend of 7.90p (2015: final 2014 dividend of 7.15p) per share Interim 2016 dividend of 3.30p (2015: interim 2015 dividend of 3.10p) per share 2016 £’000 8,099 3,384 2015 £’000 7,286 3,159 11,483 10,445 The proposed final 2016 dividend of 8.40p per share has not been included within the consolidated financial statements as no obligation existed at 31 December 2016. 112 Mears Group PLC Annual report and accounts 2016 Financial statements9. Earnings per share Earnings per share Effect of amortisation of acquisition intangibles Effect of full tax adjustment Normalised earnings per share Earnings per share Effect of amortisation of acquisition intangibles Effect of full tax adjustment Normalised earnings per share Basic (continuing) Basic (discontinued) 2016 p 23.54 10.44 (3.45) 2015 p 20.31 10.65 (2.73) 2016 p 2015 p (2.51) (7.66) — — — — Basic (continuing and discontinued) 2016 p 21.03 10.44 (3.45) 2015 p 12.65 10.65 (2.73) 30.53 28.23 (2.51) (7.66) 28.02 20.57 Diluted (continuing) Diluted (discontinued) 2016 p 23.41 10.39 (3.44) 2015 p 20.10 10.54 (2.70) 2016 p 2015 p (2.50) (7.58) — — — — Diluted (continuing and discontinued) 2016 p 20.91 10.39 (3.44) 2015 p 12.52 10.54 (2.70) 30.36 27.94 (2.50) (7.58) 27.86 20.36 A normalised EPS is disclosed in order to show performance undistorted by amortisation of intangibles. The Group defines normalised earnings as excluding the amortisation of acquisition intangibles and exceptional costs and adjusted to reflect a full tax charge. The profit attributable to shareholders before and after adjustments for both basic and diluted EPS is: Normalised (continuing) Normalised (discontinued) Normalised (continuing and discontinued) Profit/(loss) attributable to shareholders: – amortisation of acquisition intangibles – full tax adjustment Normalised earnings 2015 £’000 12,874 10,837 2016 £’000 2015 £’000 2016 £’000 2015 £’000 2016 £’000 24,096 10,690 20,673 10,837 (3,535) (2,784) (2,570) (7,799) 21,526 — — — 10,690 — (3,535) (2,784) 31,251 28,726 (2,570) (7,799) 28,681 20,927 Annual report and accounts 2016 113 Mears Group PLC Financial statementsNotes to the financial statements – Group continued For the year ended 31 December 2016 9. Earnings per share continued The calculation of EPS is based on a weighted average of ordinary shares in issue during the year. The diluted EPS is based on a weighted average of ordinary shares calculated in accordance with IAS 33 ‘Earnings Per Share’, which assumes that all dilutive options will be exercised. The additional normalised basic and diluted EPS use the same weighted average number of shares as the basic and diluted EPS. Weighted average number of shares in issue: – dilutive effect of share options Weighted average number of shares for calculating diluted earnings per share 10. Goodwill Gross carrying amount At 1 January 2015 Additions on acquisition At 1 January 2016 Revisions At 31 December 2016 Accumulated impairment losses 2016 Million 2015 Million 102.35 101.77 0.57 1.06 102.92 102.83 Goodwill arising on consolidation £’000 Purchased goodwill £’000 Total £’000 191,597 1,055 192,652 654 406 192,003 — 1,055 406 193,058 — 654 193,306 406 193,712 At 1 January 2015, at 1 January 2016 and at 31 December 2016 — — — Carrying amount At 31 December 2016 At 31 December 2015 193,306 406 193,712 192,652 406 193,058 Goodwill on consolidation arises on the excess of cost of acquisition over the fair value of the net assets acquired on purchase of a company. Purchased goodwill arises on the excess of cost of acquisition over the fair value of the net assets acquired on the purchase of the trade and assets of a business by the Group. Revisions to goodwill additions in prior years relate to liabilities not accrued at the time of the acquisition. These revisions are not considered sufficiently material to warrant restatement of the prior year balances. Goodwill is not amortised but is reviewed for impairment on an annual basis or more frequently if there are any indications that goodwill may be impaired. Goodwill acquired in a business combination is allocated to groups of cash-generating units (CGUs) according to the level at which management monitors that goodwill. Goodwill is carried at cost less accumulated impairment losses. 114 Mears Group PLC Annual report and accounts 2016 Financial statements10. Goodwill continued The carrying value of goodwill is allocated to the following CGUs: Housing Care Goodwill arising on consolidation £’000 Purchased goodwill £’000 Total £’000 93,655 99,651 406 94,061 — 99,651 193,306 406 193,712 An asset is impaired if its carrying value exceeds the unit’s recoverable amount which is based upon value in use. At 31 December 2016 impairment reviews were performed by comparing the carrying value with the value in use for the CGUs to which goodwill has been allocated. The Housing CGU’s value in use is calculated from the Board-approved one-year budgeted cash flows and extrapolated cash flows for the next four years discounted at a post-tax discount rate of 8.0% over a five-year period with a terminal value. The impairment reviews incorporated a terminal growth assumption of 2.0%, in line with the UK long-term growth rate. The Care CGU’s value in use is calculated from a detailed business plan deriving cash flows over a five-year review period, discounted at a post-tax discount rate of 8.3% over a five-year period with a terminal value. The impairment review incorporated a terminal growth assumption of 2.5%, which, whilst marginally higher than the UK long-term growth rate of 2.0%, is supported by the underlying demographics underpinning strong organic growth in adult social care. The estimated growth rates are based on knowledge of the individual CGU’s sector and market and represent management’s base level expectations for future growth, dependent on the CGU. Changes to revenue and direct costs are based on past experience and expectation of future changes within the markets of the CGUs. All CGUs have the same access to the Group’s Treasury function and borrowing arrangements to finance their operations. The rates used were as follows: Housing Care Post-tax discount rate 8.00% 8.30% Pre-tax discount rate 9.10% 9.47% Volume growth rate (years 1-5) 5.00% 2.91% Terminal growth rate 2.00% 2.50% Housing The contracts awarded within the social housing area are significant in size and the contract terms typically average six years in duration. The record of Mears in retaining contracts on expiry is typically over 90%. Budgeted operating profits during the budget period are estimated by reference to the operating margin achieved in the period leading up to the start of the budget period, flexed for known changes in either the pricing mechanism or the cost base at a contract level. There is no inclusion of any anticipated efficiency improvements which have not been formally committed to before the year end. The Directors consider that reasonably possible changes in these key assumptions would not cause a CGU’s carrying amount to exceed its recoverable amount. Annual report and accounts 2016 115 Mears Group PLC Financial statementsNotes to the financial statements – Group continued For the year ended 31 December 2016 10. Goodwill continued Care Management recognises that there remain significant difficulties within the homecare market, although the sector has seen some improvements over the last twelve months. The introduction of the National Living Wage proved a significant boost for providers, with a large number of Local Authorities materially increasing their charge rates, recognising that much of the cost increase in recent years has been absorbed by care providers. Providers have typically passed these rate increases onto their carers in full, adding some stability in a the sector where recruitment and retention represent a significant constraint. The care market in Scotland went further, with all Local Authorities adopting the Scottish Living Wage, a minimum pay rate of £8.25 per hour versus the statutory National Living Wage rate of £7.20. Notwithstanding the improvements, market conditions remain challenging. The Directors note that, given these pressures, a number of competitors are withdrawing from the homecare market, which reflects the difficult conditions but could in part also provide some opportunity. Mears has increased carer pay rates significantly over the last three years, which has reduced margin but improved Mears’ operating position. The Group continues to see significant new contract opportunities as well as opportunities to increase volumes of work with existing clients. Whilst there are still examples of poor commissioning practices, the Directors are confident there are sufficient new bidding opportunities to deliver against the Group’s growth forecast. As part of the annual impairment testing, management performed an extensive business planning process which involved a detailed review, on a contract-by-contract basis, of charge rates and carer pay rates. The process allowed management to appraise the performance of branches against objectives set, and further increased understanding of the main drivers behind negative carer recruitment and retention performance. Carer pay rates continue to be the principal barrier to successful recruitment and retention, but there are a number of factors around culture, working practices and recognition which impact upon maintaining a stable workforce. The business plan identified a number of key factors, which are built in to the value-in-use calculation: → Mears has become increasingly selective, targeting those contracts where the pricing, longevity and spend certainty allow Mears to deliver a high quality service at sustainable margins. During the year, Mears was successful in maintaining its historical contract win rates, achieving this while securing an average charge rate over 25% higher than those rates tendered in 2015. As a result, management has made what is considered to be a conservative assumption, modelling an annual increase of 6,000 hours per week, which will be achieved through new contract bidding. This is well below the actual outcome achieved in 2016. → Recruitment and retention of quality care workers continue to be challenging. Retention methods implemented following the 2015 business planning process have been successful, resulting in reduced carer churn rates. However, recruitment remains challenging and this is expected to continue during the short term, whilst our whole contract portfolio aligns with our new contract bidding strategy. Mears recognises that traditional localised recruitment plays a vital role, aiding recruitment from the existing carer workforce pool. In an attempt to encourage new talent to the care at home market, Mears is utilising innovative recruitment tools to ensure breadth of coverage in attracting new care workers to the sector. Mears’ internal recruitment plan anticipates modest growth during the medium and long term which, on average, equates to three additional carers per year per branch; this represents an increase of 300 carers per year on an existing workforce of 8,000 carers which is considered realistic. However, conservatively, the business plan underpinning the impairment review has stripped out this expected increase and assumes no growth as a result of improved recruitment and retention practices. → Mears is committed to leading the way with carer pay rates; the increase in the National Living Wage in April will further increase direct costs from 1 April 2017. Management will look to maintain a significant differential between Mears pay rates and the National Living Wage to ensure it remains the employer of choice in the homecare sector. Mears had a successful contract negotiation period following the initial introduction of the National Living Wage in April 2016, during which an average charge increase of 7% was secured. Given the Government has provided a clear indication of its intention to increase the National Living Wage to £9.00 per hour in 2020, the Directors have assumed an increase in carer pay rates of 5.0% per annum. The Directors are confident that charge rate increases will be received from clients to match the increase in the cost base. The percentage increase assumed for charge rates matches that of carer pay rates in each year throughout the business plan. 116 Mears Group PLC Annual report and accounts 2016 Financial statements10. Goodwill continued Care continued Management considers that the Care value-in-use calculation is most sensitive to changes in the terminal growth rate, discount rate and EBITA margin. The table below shows the sensitivity of the headroom (£m) to simultaneous changes in the discount rate and the long-term growth rate. Long-term growth rate 1.3% 1.7% 2.1% 2.5% 2.9% 3.3% 3.7% 11. Other intangible assets Gross carrying amount At 1 January 2015 Acquired on acquisition Additions At 1 January 2016 Revisions Additions At 31 December 2016 Accumulated amortisation At 1 January 2015 Amortisation charge for period At 1 January 2016 Amortisation charge for period At 31 December 2016 Carrying amount At 31 December 2016 At 31 December 2015 7.1% 14.5 23.7 32.9 43.6 56.6 72.3 91.6 7.5% 4.9 12.3 20.6 29.6 40.1 52.7 68.0 Discount rate 7.9% (3.6) 3.3 9.9 17.5 26.3 36.6 48.9 8.3% 8.7% 9.1% 9.5% (11.0) (5.0) 0.7 7.1 14.5 23.1 33.1 (17.7) (12.4) (7.5) (1.9) 4.4 11.6 20.0 (23.6) (18.9) (14.7) (9.9) (4.5) 1.7 8.7 (29.0) (24.8) (21.0) (16.9) (12.2) (6.9) (0.9) Acquisition intangibles Other intangibles Client relationships £’000 Order book £’000 acquisition Development expenditure intangibles £’000 £’000 Intellectual property £’000 Total Total other intangibles £’000 Total intangibles £’000 71,761 19,360 91,121 7,355 377 — 5,272 5,649 — — — 2,978 224 — — 7,579 98,700 — 2,978 5,649 2,978 72,138 24,632 96,770 10,333 224 10,557 107,327 — — 3,685 3,685 — — — 2,904 — — — 2,904 3,685 2,904 72,138 28,317 100,455 13,237 224 13,461 113,916 41,352 17,812 7,679 3,158 49,031 20,970 7,313 3,377 59,164 10,837 70,001 10,690 56,344 24,347 80,691 15,794 3,970 19,764 23,107 3,662 26,769 3,937 1,314 5,251 1,837 7,088 6,149 5,082 224 — 224 — 224 — — 4,161 1,314 5,475 1,837 63,325 12,151 75,476 12,527 7,312 88,003 6,149 25,913 5,082 31,851 Annual report and accounts 2016 117 Mears Group PLC Financial statementsNotes to the financial statements – Group continued For the year ended 31 December 2016 11. Other intangible assets continued Revisions to acquisition intangibles additions in prior years relate to liabilities not accrued at the time of the acquisition. These revisions are not considered sufficiently material to warrant restatement of the prior year balances. Development expenditure is an internally developed intangible asset and relates largely to the development of the Group’s Housing job management system, the Group’s Care management system and the UK Planning Portal website. Development expenditure is amortised over its useful economic life of 5.0 years. The weighted average remaining economic life of the asset is 3.0 years (2015: 3.5 years). Intellectual property is amortised over its useful economic life, typically 5.0 years. Amortisation of development expenditure is included within other administrative expenses. Amortisation of acquisition intangibles is presented separately. The value placed on the order book is based upon the cash flow projections over the contracts in place when a business is acquired. Due to uncertainties in trying to forecast revenues beyond the contract term, the Directors have taken a measure of conservatism and value contracts over the contractual term only. The value of the order book is amortised over its remaining life. The value placed on the customer relationships is based upon the non-contractual expected cash inflows. These cash flow projections assume a customer attrition rate of 5% based upon three-year historic trends. 12. Property, plant and equipment Freehold property £’000 Leasehold improvements £’000 Plant and machinery £’000 Fixtures, fittings and equipment £’000 Motor vehicles £’000 Total £’000 691 10,007 3,289 33,527 1,361 48,875 — 97 — — 2,319 (68) — 136 (444) 7,299 3,665 (40) 39 — (11) 7,338 6,217 (563) 788 12,258 2,981 44,451 1,389 61,867 — — — — 1,777 (82) — 113 54 5,535 — — 54 7,425 (204) (3,370) (94) (3,750) 788 13,953 2,890 46,670 1,295 65,596 — — — — — — — — — 788 788 6,786 1,807 23,147 1,255 32,995 — 996 (25) — 372 (360) 5,894 3,538 (38) 11 57 (9) 5,905 4,963 (432) 7,757 1,819 32,541 1,314 43,431 — 1,202 (82) 8,877 5,076 4,501 — 310 26 4,040 — 21 26 5,573 (204) (3,319) (94) (3,699) 1,925 33,288 1,241 45,331 965 13,382 1,162 11,910 54 75 20,265 18,436 Gross carrying amount At 1 January 2015 Acquired on acquisition Additions Disposals At 1 January 2016 Acquired on acquisition Additions Disposals At 31 December 2016 Depreciation At 1 January 2015 Acquired on acquisition Provided in the year Eliminated on disposals At 1 January 2016 Acquired on acquisition Provided in the year Eliminated on disposals At 31 December 2016 Carrying amount At 31 December 2016 At 31 December 2015 118 Mears Group PLC Annual report and accounts 2016 Financial statements13. Investments The subsidiary undertakings within the Group at 31 December 2016 are shown below: 3c Asset Management Limited Ardmore Homecare Limited Careforce Group Plc Careforce Services Limited Coulter Estates Limited Electrical Contracting Services (UK) Limited Energy Insurance Services Limited Evolve Housing Limited Heather Housing Limited Heatherpark Community Services Limited Helcim Group Limited Helcim Homes Limited ILS Group Limited ILS Trustees Limited Independent Living Services (ILS) Limited Insitu Care Limited Jackson Lloyd Limited Laidlaw Scott Limited Let to Birmingham Limited Manchester Working Limited Mears 24/7 LLP Mears Building Contractors Limited Mears Building Services Limited Mears Care (Holdings) Limited Mears Care (Northern Ireland) Limited Mears Care (Scotland) Limited Mears Care Limited Mears Community Care Agency Limited Mears Decorating Services Limited Mears Energy Limited Mears Estates Limited Mears Facility Management Limited Mears Home Improvement Limited Mears Homecare Limited Mears Homes Limited Mears Housing Management Limited Proportion held 100% 100% 100% 100% 100% 100% 100% 50% 100% 100% 100% 100% 100% 100% 100% 100% 100% 100% 100% 80% 50% 100% 100% 100% 100% 100% 100% 100% 100% 100% 100% 100% 100% 100% 100% 100% Country of registration England and Wales England and Wales England and Wales England and Wales Scotland England and Wales England and Wales England and Wales England and Wales Scotland England and Wales England and Wales Scotland Scotland Scotland England and Wales England and Wales Scotland England and Wales England and Wales England and Wales England and Wales England and Wales England and Wales Northern Ireland Scotland England and Wales England and Wales England and Wales England and Wales England and Wales England and Wales England and Wales England and Wales England and Wales England and Wales Nature of business Maintenance services Dormant Dormant Dormant Provision of care Dormant Insurance services Dormant Housing management services Provision of care Dormant Dormant Dormant Dormant Provision of care Dormant Dormant Dormant Housing management services Maintenance services Call centre services Dormant Dormant Intermediate holding company Provision of care Provision of care Provision of care Dormant Dormant Dormant Grounds maintenance Dormant Maintenance services Provision of care Dormant Intermediate holding company Annual report and accounts 2016 119 Mears Group PLC Financial statementsNotes to the financial statements – Group continued For the year ended 31 December 2016 13. Investments continued Mears Insurance Company Limited Mears Learning Limited Mears Lifetime Homes Limited Mears Limited Mears Mechanical & Electrical Limited Mears Modular Homes Limited Mears New Homes Limited Mears Scotland (Housing) Limited Mears Scotland (Services) Limited Mears Scotland LLP Mears Social Housing Limited Mears Wales Limited Mears Window and Door Maintenance Limited Morrison Facilities Services Limited Nurseplus Limited O&T Developments Limited Omega Housing Limited Omega Lettings Limited Planning Portal Limited Plexus UK (First Project) Limited Plexus UK (Systems) Limited PortalPlanQuest Limited Potton Road Management Company Limited Powersave Limited PS Business Services Limited PS Payroll Services Limited R Carter and Son (Painting Contractors) Limited Robert Hawkins (Contractors) Limited Scion Group Limited Scion Property Services Limited Scion Technical Services Limited Supporta Limited Supporta Services Limited Tando Homes Limited Tando Property Services Limited Terraquest Group Limited Terraquest Limited Terraquest Solutions Limited West Haddon Management Company Limited Zenon Property Services Limited Proportion held 99.99% 90% 100% 100% 100% 100% 90% 100% 66.67% 66.67% 100% 100% 100% 100% 100% 75% 100% 100% 75% 100% 100% 75% 90% 100% 100% 100% 100% 100% 100% 100% 100% 100% 100% 75% 75% 100% 100% 100% 90% 100% Country of registration Guernsey England and Wales England and Wales England and Wales England and Wales England and Wales England and Wales Scotland Scotland Scotland England and Wales England and Wales England and Wales Scotland Scotland England and Wales England and Wales England and Wales England and Wales England and Wales England and Wales England and Wales England and Wales England and Wales Scotland England and Wales England and Wales England and Wales England and Wales England and Wales England and Wales England and Wales England and Wales England and Wales England and Wales England and Wales England and Wales England and Wales England and Wales England and Wales Nature of business Insurance services Training provider Dormant Maintenance services Dormant Dormant House building Dormant Maintenance services Maintenance services Dormant Dormant Dormant Maintenance services Provision of care Housing management services Housing registered provider Housing management services Dormant Housing registered provider Dormant Professional services Dormant Dormant Dormant Dormant Dormant Dormant Dormant Dormant Maintenance services Dormant Dormant Housing management services Housing management services Dormant Dormant Professional services Dormant Maintenance services All subsidiary undertakings with the exception of Manchester Working Limited and Omega Housing Limited prepare accounts to 31 December. Manchester Working Limited prepares accounts to 31 March in line with the minority shareholder. Omega Housing Limited prepares accounts to 31 March in line with its historical accounting reference date. 120 Mears Group PLC Annual report and accounts 2016 Financial statements13. Investments continued At 1 January 2016 the Group reassessed the level of influence it held over Mears 24/7 LLP and concluded that the threshold for control had been met. In accordance with IFRS 10, the Group has accounted for this entity as a subsidiary from that date. The Group includes two subsidiaries, Mears Scotland LLP and Manchester Working Limited, with material non-controlling interests. The table below sets out selected financial information in respect of those subsidiaries: Revenue and profits Revenue Expenses and taxation Profit for the year Other comprehensive expense Total comprehensive income Profit/(loss) for the year allocated to non-controlling interests Total comprehensive expense allocated to non-controlling interests Net assets Non-current assets Current assets Current liabilities Total assets less total liabilities Equity shareholders’ funds Non-controlling interests Total equity 2016 £’000 2015 £’000 88,192 84,452 (85,400) (83,473) 2,792 — 2,792 804 — 979 — 979 (273) — 266 295 25,333 24,187 (27,719) (29,394) (2,120) (4,912) (729) (1,391) (2,717) (2,195) (2,120) (4,912) The Group held investments in the following joint ventures at 31 December 2016: Asert LLP More Homes Bromley LLP YourMK LLP Proportion held 50% 50% 50% Country of registration England and Wales England and Wales England and Wales Nature of business Dormant Housing management services Maintenance services Annual report and accounts 2016 121 Mears Group PLC Financial statementsNotes to the financial statements – Group continued For the year ended 31 December 2016 13. Investments continued The following UK subsidiaries will take advantage of the audit exemption set out within Section 479A of the Companies Act 2006 for the year ending 31 December 2016: 3c Asset Management Limited Coulter Estates Limited Heatherpark Community Services Limited ILS Group Limited Independent Living Services (ILS) Limited Let to Birmingham Limited Mears Care (Holdings) Limited Mears Estates Limited Mears Home Improvement Limited Mears Housing Management Limited Scion Group Limited Scion Technical Services Limited Zenon Property Services Limited 14. Inventories Materials and consumables Work in progress Registration number 02859913 SC148145 SC314108 SC285635 SC184499 08757503 03689426 03720903 03716517 04726480 03905442 03671450 07448134 2016 £’000 5,243 5,991 11,234 2015 £’000 4,979 4,042 9,021 The Group consumed inventories totalling £695.2m during the year (2015: £649.0m). No items are being carried at fair value less costs to sell (2015: £nil). 15. Trade and other receivables Current assets: – trade receivables – amounts recoverable on non-construction contracts – prepayments and accrued income Total trade and other receivables 2016 £’000 2015 £’000 49,086 98,405 9,690 47,364 90,627 8,888 157,181 146,879 Trade receivables are normally due within 30 to 60 days and do not bear any effective interest rate. All trade receivables and accrued income are subject to credit risk exposure. Housing customers are typically Local Authorities and Housing Associations where credit risk is minimal. Care customers are typically Local Authorities and NHS Trusts where credit risk is minimal. The ageing analysis of trade receivables is as follows: Neither impaired nor past due Less than three months past due but not impaired More than three months past due but not impaired Total trade and other receivables 122 Mears Group PLC Annual report and accounts 2016 2016 £’000 2015 £’000 46,032 40,869 1,904 1,150 4,008 2,487 49,086 47,364 Financial statements16. Trade and other payables Trade payables Accruals and deferred income Social security and other taxes Payments on account for non-construction contract work Finance lease liabilities Other creditors 2016 £’000 2015 £’000 111,490 100,385 45,571 20,896 54,945 23,669 19 113 140 386 9,175 14,578 187,264 194,103 The fair value of trade payables has not been disclosed as, due to their short duration, management considers the carrying amounts recognised in the Balance Sheet to be a reasonable approximation of their fair value. Included in other creditors is £5.0m (2015: £10.5m) relating to contingent consideration on acquisitions. 17. Financial assets and liabilities Current assets: – diesel hedge Non-current assets: – diesel hedge Total financial assets Current liabilities: – interest rate swaps Non-current liabilities: – interest rate swaps Total financial liabilities 18. Long-term other liabilities Other creditors 2016 £’000 839 677 1,516 2015 £’000 — — — 478 510 612 1,090 368 878 2016 £’000 2015 £’000 15,950 15,396 Included in other creditors is £5.3m (2015: £10.4m) relating to contingent consideration on acquisitions and £6.2m relating to a forward purchase agreement in respect of 25% of Tando Property Services Limited, Tando Homes Limited and O&T Developments Limited. Annual report and accounts 2016 123 Mears Group PLC Financial statementsNotes to the financial statements – Group continued For the year ended 31 December 2016 19. Financial instruments The Group uses a limited number of financial instruments comprising cash and liquid resources, borrowings, interest rate swaps and various items such as trade receivables and trade payables that arise directly from its operations. The main purpose of these financial instruments is to finance the Group’s operations. The Group seeks to finance its operations through a combination of retained earnings and borrowings and investing surplus cash on deposit. The Group uses financial instruments to manage the interest rate risks arising from its operations and sources of finance but has no interests in the trade of financial instruments. Categories of financial instruments Financial assets Fair value (level 2) Diesel hedge – ineffective Amortised cost Trade receivables Amounts recoverable on contracts Cash at bank and in hand Financial liabilities Fair value (level 2) Interest rate swaps – effective Fair value (level 3) Deferred and contingent consideration in respect of acquisitions Amortised cost Bank borrowings and overdrafts Trade payables Accruals and deferred income Other creditors 2016 £’000 2015 £’000 1,516 — 49,086 98,405 52,904 47,364 90,627 68,612 201,911 206,603 (1,090) (878) (16,457) (20,861) (65,278) (67,790) (111,490) (100,385) (44,055) (54,945) (8,668) (9,113) (247,038) (253,972) (45,127) (47,369) The IFRS 13 hierarchy level categorisation relates to the extent the fair value can be determined by reference to comparable market values. The classifications range from level 1, where instruments are quoted on an active market, through to level 3, where the assumptions used to arrive at fair value do not have comparable market data. The fair values of diesel hedges and interest rate swaps have been calculated by a third party expert discounting estimated future cash flows on the basis of market expectations of future interest rates and the wholesale price of diesel (level 2). The amount of contingent consideration payable is generally determined by future expected profits of the acquired businesses. The fair values of contingent consideration have been calculated by the Directors by reference to expected future income and expenditure in respect of the acquired businesses. There have been no transfers between levels during the year. Fair value information The fair value of the Group’s financial assets and liabilities is as disclosed above and approximates to the book value. Financial risk management The Group’s activities expose it to a variety of financial risks: market risk (including interest rate risk and price risk); credit risk; and liquidity risk. The main risks faced by the Group relate to the availability of funds to meet business needs and the risk of credit default by customers. The Group’s overall risk management programme focuses on the unpredictability of financial markets and seeks to minimise potential adverse effects on the Group’s financial performance. Risk management is carried out under policies and guidelines approved by the Board of Directors. 124 Mears Group PLC Annual report and accounts 2016 Financial statements19. Financial instruments continued Borrowing facilities The Group’s borrowing facilities are drawn on as required to manage its cash needs. Banking facilities are reviewed regularly and extended and replaced in advance of their expiry. The Group had total borrowing facilities of £140.0m with Barclays Bank PLC and HSBC Bank plc, of which £65.0m was utilised at 31 December 2016. The facilities comprise a committed four-year £130.0m revolving credit facility and an unsecured overdraft facility of £10.0m. The undrawn amounts at 31 December 2016 were a £65.0m revolving credit facility and an overdraft facility of £10.0m. Interest rate risk management The Group finances its operations through a mixture of retained profits and bank borrowings from major banking institutions at floating rates of interest based on LIBOR. The Group’s exposure to interest rate fluctuations on borrowings is managed through the use of interest rate swaps; hence the fixed rate borrowings relate to floating rate loans where the interest rate has been fixed by a hedging arrangement. The fair value of interest rate exposure on financial liabilities of the Group as at 31 December 2016 was: Financial liabilities – 2016 Financial liabilities – 2015 Interest rate Fixed £’000 Floating £’000 Zero £’000 Total £’000 30,000 35,248 10,294 75,542 57,500 10,290 20,861 88,651 The Group’s policy is to accept a degree of interest rate risk, provided the effects of the various potential changes in rates remain within certain prescribed parameters. Accordingly, at 31 December 2016 the Group had hedged the first £30.0m of the £140.0m total borrowing facilities by entering into an interest rate swap arrangement with Barclays Bank PLC. This consists of one £30.0m swap contract expiring in August 2018, with quarterly maturity, matching the underlying facility. The maturity of the interest rate swap contracts is as follows: Within one year One to two years Two to five years More than five years 2016 2015 Nominal amount hedged £’000 Average applicable interest rates % Nominal amount hedged £’000 Average applicable interest rates % — — 27,500 1.92% 30,000 1.85% — — — — — 30,000 1.85% — — — The Group has also entered into a further five interest rate swap arrangements with HSBC Bank PLC, three £10.0m swap contracts with a deferred start date of January 2017 expiring December 2020 at an applicable interest rate of 0.84% and two £15.0m swap contracts with a deferred start date of August 2018 expiring August 2021 at an applicable interest rate of 0.96%. Effective interest rates Interest rate swaps with fair value liabilities of £1.1m (2015: £0.9m) and average remaining lives of three years and seven months have been accounted for in financial liabilities. The Group’s overall average cost of debt, including effective interest rate swaps, is 2.6% as at 31 December 2016 (2015: 3.0%). Excluding these swaps the average is 1.9% (2015: 2.1%). Cash flow hedging reserve The cash flow hedging reserve comprises all gains and losses arising from the valuation of interest swap contracts which are effective hedges and mature after the year end. These are valued on a mark-to-market basis, accounted for through the Consolidated Statement of Comprehensive Income and recycled through the Consolidated Income Statement when the hedged item affects the Consolidated Income Statement. Annual report and accounts 2016 125 Mears Group PLC Financial statementsNotes to the financial statements – Group continued For the year ended 31 December 2016 19. Financial instruments continued Cash flow hedging reserve continued Movements during the year were: At 1 January 2015 Amounts transferred to the Consolidated Income Statement Revaluations during the year Deferred tax movement At 1 January 2016 Amounts transferred to the Consolidated Income Statement Revaluations during the year Deferred tax movement At 31 December 2016 £’000 (962) 559 (72) (97) (572) 643 (884) 39 (774) At 31 December 2016 the Group had minimal exposure to movements in interest rates as the remaining interest rate risk was offset by the Group’s cash and short-term deposits. If the interest rates had been 0.5% higher or lower and all other variables were held constant, the Group’s profit before taxation for the year ended 31 December 2016 and reserves would decrease or increase, respectively, by £0.2m (2015: £0.1m). Liquidity risk management The Group seeks to manage liquidity risk by ensuring sufficient liquidity is available to meet foreseeable needs and to invest cash assets safely and profitably. Management monitors rolling forecasts of the Group’s liquidity reserve (comprising undrawn borrowing facilities and cash and cash equivalents) on the basis of expected cash flows. This is generally carried out at a local level in the operating companies of the Group in accordance with the practice and limits set by the Group. These limits vary by location and take into account the liquidity and nature of the market in which the entity operates. The quantum of committed borrowing facilities of the Group is regularly reviewed and is designed to exceed forecasted peak gross debt levels. For short-term working capital purposes, the Group utilises bank overdrafts as required. These facilities are regularly reviewed and are renegotiated ahead of their expiry date. The table below shows the maturity profile of the Group’s financial liabilities: Within 1 year £’000 1–2 years £’000 2–5 years £’000 Over 5 years £’000 Total £’000 5,278 — 60,000 159,720 4,493 5,000 11,457 — — — 65,278 — 164,213 — 16,457 478 375 226 11 1,090 2016 Non-derivative financial liabilities Bank borrowings Trade and other payables Deferred and contingent consideration in respect of acquisitions Derivative financial liabilities Interest rate swaps – effective 2015 Non-derivative financial liabilities Bank borrowings Trade and other payables 10,290 159,465 4,978 — 57,500 — — — 67,790 — 164,443 — 20,861 Deferred and contingent consideration in respect of acquisitions 10,443 10,418 Derivative financial liabilities Interest rate swaps – effective 510 210 158 — 878 The Group has disclosed core bank borrowings of £60.0m as due in two to five years. Whilst the amounts borrowed could be repaid each quarter, the Group’s intention is to align core bank borrowings with its interest rate swaps. 126 Mears Group PLC Annual report and accounts 2016 Financial statements19. Financial instruments continued Credit risk management The Group’s credit risk is primarily attributable to its trade receivables, amounts recoverable on contracts and work in progress. Trade receivables are normally due within 30 to 60 days. Trade and other receivables included in the Balance Sheet are stated net of a bad debt provision which has been estimated by management following a review of individual receivable accounts. There is no Group-wide rate of provision and provision made for debts that are overdue is based on prior default experience and known factors at the balance sheet date. Receivables are written off against the bad debt provision when management considers that the debt is no longer recoverable. Housing customers are typically Local Authorities and Housing Associations. Care customers are typically Local Authorities and the NHS. The nature of both of these customers means that credit risk is minimal. Other trade receivables contain no specific concentration of credit risk as the amounts recognised represent a large number of receivables from various customers. The Group continually monitors the position of major customers and incorporates this information into its credit risk controls. External credit ratings are obtained where appropriate. Details of the ageing of trade receivables are shown in note 15. Deferred and contingent consideration The table below shows the movements in deferred and contingent consideration: At 1 January 2015 Increase due to new acquisitions in the year Paid in respect of acquisitions Released on reassessment Unwinding of discounting At 1 January 2016 Increase due to forward purchase agreement Paid in respect of acquisitions Released on reassessment At 31 December 2016 Total £’000 21,045 123 (7) (425) 125 20,861 6,163 (10,019) (548) 16,457 Contingent consideration represents an estimate of future consideration likely to be payable in respect of acquisitions. Contingent consideration is discounted for the likelihood of payment and for the time value of money. Contingent consideration becomes payable based upon the profitability of acquired businesses or, in the case of one specific acquisition, the utilisation of certain timing differences in respect of corporation tax. The fair value of contingent consideration is estimated by forecasting future profits and utilising the forecast to determine the likely contingent consideration payable. Information as to the likely timing of payments in respect of these provisions’ financial liabilities is provided earlier within this note. Annual report and accounts 2016 127 Mears Group PLC Financial statementsNotes to the financial statements – Group continued For the year ended 31 December 2016 19. Financial instruments continued Capital management The Group’s objectives when managing capital are: → to safeguard the Group’s ability to continue as a going concern, so that it can continue to provide returns for shareholders and benefits for other stakeholders; → to provide an adequate return to shareholders by pricing products and services commensurately with the level of risk; and → to maintain an optimal capital structure to reduce the cost of capital. The Group sets the amount of capital in proportion to risk. The Group manages the capital structure and makes adjustments to it in light of changes in economic conditions and the risk characteristics of the underlying assets. In order to maintain or adjust the capital structure, the Group may adjust the amount of dividends paid to shareholders, return capital to shareholders, issue new shares or sell assets to reduce debt. The capital structure of the Group consists of net debt as disclosed below and equity as disclosed in the Consolidated Statement of Changes in Equity. Cash and cash equivalents is comprised as follows: – cash at bank and in hand – bank borrowings and overdrafts Cash and cash equivalents 20. Deferred taxation Deferred tax is calculated on temporary differences under the liability method. Deferred tax asset The following deferred tax assets were recognised by the Group as at 31 December 2016: 2016 £’000 2015 £’000 52,904 68,612 (65,278) (67,790) (12,374) 822 Pension Share-based payments scheme £’000 £’000 Cash flow hedges £’000 Tax losses £’000 Short-term temporary differences £’000 1,675 1,311 257 4,358 — (1,598) — — 972 178 759 — — 2,760 (588) 1,909 (230) — — — — — — — (97) 160 — — (160) Total £’000 8,573 178 (697) (552) (918) 6,584 (681) (635) 436 — 2,172 1,679 5,704 — (9) — (821) 845 72 — 596 1,513 — 151 (552) — 910 65 (635) — 340 At 1 January 2015 Acquired on acquisition (Debit)/credit to Consolidated Income Statement Debit to Consolidated Statement of Changes in Equity Debit to Consolidated Statement of Comprehensive Income At 1 January 2016 Credit/(debit) to Consolidated Income Statement Debit to Consolidated Statement of Changes in Equity Credit/(debit) to Consolidated Statement of Comprehensive Income At 31 December 2016 128 Mears Group PLC Annual report and accounts 2016 Financial statements20. Deferred taxation continued Deferred tax asset continued In accordance with IFRS 2 ‘Share-based Payments’, the Group has recognised an expense for the consumption of employee services received as consideration for share options granted. A tax deduction will not arise until the options are exercised. The tax deduction in future periods is dependent upon the Company’s share price at the date of exercise. The estimated future tax deduction is based on the options’ intrinsic value at the balance sheet date. The cumulative amount credited to the Consolidated Income Statement is limited to the tax effect of the associated cumulative share-based payment expense. The excess has been credited directly to equity. This is presented in the Consolidated Statement of Comprehensive Income. In addition to those recognised on the previous page, unused tax losses totalling £31.3m (2015: £32.9m) have not been recognised as the Directors do not consider that it is probable that they will be recovered. The following deferred tax liabilities were recognised by the Group as at 31 December 2016: Deferred tax liabilities At 1 January 2015 Acquired on acquisition Debit/(credit) to Consolidated Income Statement Credit to Consolidated Statement of Comprehensive Income At 1 January 2016 Acquired on acquisition Debit/(credit) to Consolidated Income Statement Debit to Consolidated Statement of Comprehensive Income At 31 December 2016 Pension scheme £’000 3,026 — 124 (1,496) 1,654 — 73 1,400 3,127 Acquisition intangibles £’000 Cash flow hedges £’000 6,392 1,054 (2,130) — 5,316 654 (2,066) — 3,904 — — — — — — — 89 89 Total £’000 9,418 1,054 (2,006) (1,496) 6,970 654 (1,993) 1,489 7,120 Intangible assets acquired as part of a business combination are capitalised at fair value at the date of the acquisition and amortised over their useful economic lives. The UK tax regime calculates tax using the individual financial statements of the members of the Group and not the consolidated accounts. Hence, the tax base of acquisition intangible assets is £nil. The estimated tax effect of this £nil tax base is accounted for as a deferred tax liability which is released over the period of amortisation of the associated acquisition intangible asset. Annual report and accounts 2016 129 Mears Group PLC Financial statementsNotes to the financial statements – Group continued For the year ended 31 December 2016 21. Share capital and reserves Classes of reserves Share capital represents the nominal value of shares that have been issued. Share premium represents the difference between the nominal value of shares issued and the total consideration received. Share-based payment reserve represents employee remuneration which is credited to the share-based payment reserve until the related share options are exercised. Upon exercise the share-based payment reserve is transferred to retained earnings. The cash flow hedging reserve comprises all gains and losses arising from the valuation of interest swap contracts which are effective hedges and mature after the year end. These are valued on a mark-to-market basis, accounted for through the Statement of Comprehensive Income and recycled through the Consolidated Income Statement when the hedged item affects the Consolidated Income Statement. The merger reserve relates to the difference between the nominal value and total consideration in respect of acquisitions, where the Company was entitled to the merger relief offered by the Companies Act. Share capital Allotted, called up and fully paid At 1 January 101,938,335 (2015: 101,134,142) ordinary shares of 1p each Issue of 621,464 (2015: 804,193) shares on exercise of share options At 31 December 102,559,799 (2015: 101,938,335) ordinary shares of 1p each 2016 £’000 2015 £’000 1,019 1,011 7 8 1,026 1,019 During the year 621,464 (2015: 804,193) ordinary 1p shares were issued in respect of share options exercised. The difference between the nominal value of £0.007m and the total consideration of £0.2m has been credited to the share premium account. 22. Notes to the Consolidated Cash Flow Statement The following non-operating cash flow adjustments have been made to the result for the year before tax: Depreciation Loss on disposal of property, plant and equipment Amortisation Share-based payments IAS 19 pension movement Finance income Finance cost Total 2016 £’000 2015 £’000 5,573 4,963 48 45 12,527 12,151 324 (770) (67) 771 (660) (158) 2,803 2,775 20,438 19,887 130 Mears Group PLC Annual report and accounts 2016 Financial statements23. Acquisitions On 1 January 2016 the Group reassessed the level of influence it held over Mears 24/7 LLP and concluded that the threshold for control had been met and therefore, in accordance with IFRS 10, the Group has accounted for this entity as a subsidiary from that date. The effect of this reassessment is an increase in trade assets of £0.8m and an increase in trade payables of £0.7m. In the period ended 31 December 2016, the acquisition contributed revenue of £3.0m and an operating profit of £0.1m. Analysis of net outflow in respect of the purchase of the subsidiary undertakings: Cash payments in respect of prior year acquisitions Total £’000 10,019 24. Pensions Defined contribution schemes The Group operates a defined contribution Group personal pension scheme for the benefit of certain employees. The Group contributes to personal pension schemes of certain Directors and senior employees. The Group operates a stakeholder pension plan available to all employees. During the year, the Group contributed £2.3m (2015: £2.3m) to these schemes. IAS 19 ‘Employee Benefits’ The Group contributes to 35 (2015: 32) principal defined benefit schemes on behalf of a number of employees which require contributions to be made to separately administered funds. These pension schemes are operated on behalf of Mears Limited, Mears Care Limited, Morrison Facilities Services Limited and their subsidiary undertakings. The assets of the schemes are administered by trustees in funds independent from the assets of the Group. In certain cases, the Group will participate under Admitted Body status in the Local Government Pension Scheme. The Group will contribute for a finite period up until the end of the particular contract. The Group is required to pay regular contributions as detailed in the scheme’s schedule of contributions. In some cases these contributions are capped and any excess can be recovered from the body from which the employees originally transferred. Where the Group has a contractual right to recover the costs of making good any deficit in the scheme from the Group’s client, the fair value of that asset has been recognised within the Group’s share of the scheme assets and disclosed on page 132. Certain judgements around the value of this asset have been made and are discussed in the judgements and estimates disclosure within the accounting policies. The disclosures in respect of the two (2015: two) Group defined benefit schemes and the 33 (2015: 30) other defined benefit schemes in this note have been aggregated. Costs and liabilities of the schemes are based on actuarial valuations. The latest full actuarial valuations for the schemes were updated to 31 December 2016 by qualified independent actuaries using the projected unit method. The principal actuarial assumptions at the balance sheet date are as follows: Rate of increase of salaries – first year Rate of increase of salaries – second year Rate of increase of salaries – long term Rate of increase for pensions in payment – based on CPI with a cap of 5% Rate of increase for pensions in payment – based on RPI with a cap of 5% Rate of increase for pensions in payment – based on CPI with a cap of 3% Rate of increase for pensions in payment – based on RPI with a cap of 3% Discount rate Retail prices inflation Consumer prices inflation Life expectancy for a 65-year-old male Life expectancy for a 65-year-old female 2016 2015 1.00% 1.00% 3.35% 2.45% 3.25% 2.10% 2.55% 3.05% 3.35% 2.45% 1.00% 1.00% 3.30% 2.40% 3.20% 2.10% 2.55% 3.95% 3.30% 2.40% 23.9 years 22.4 years 26.4 years 24.7 years Annual report and accounts 2016 131 Mears Group PLC Financial statementsNotes to the financial statements – Group continued For the year ended 31 December 2016 24. Pensions continued IAS 19 ‘Employee Benefits’ continued The amounts recognised in the Consolidated Balance Sheet and major categories of plan assets are: Equities – quoted Equities – unquoted Bonds – quoted Bonds – unquoted Guarantee Property – quoted Property – unquoted Cash Group schemes £’000 2016 Other schemes £’000 Total £’000 Group schemes £’000 2015 Other schemes £’000 Total £’000 36,470 236,932 273,402 39,997 184,989 224,986 — 20,368 20,368 — 24,047 24,047 88,412 77,900 166,312 64,989 62,591 127,580 — 7,932 — 18,587 2,004 10,201 — 15,884 22,643 34,887 7,932 18,587 12,205 15,884 57,530 — 7,663 7,663 — 11,223 11,223 — 122 11,404 6,010 16,671 39,496 6,010 16,793 50,900 Group’s estimated asset share 149,529 422,691 572,220 116,512 352,690 469,202 Present value of funded scheme liabilities (137,721) (410,258) (547,979) (111,327) (333,839) (445,166) Funded status 11,808 12,433 24,241 5,185 18,851 24,036 Scheme surpluses not recognised as assets — (15,747) (15,747) — (19,988) (19,988) Pension asset/(liability) 11,808 (3,314) 8,494 5,185 (1,137) 4,048 The amounts recognised in the Income Statement are as follows: Current service cost Past service cost Settlement and curtailment Administration costs Total operating charge Net interest Group schemes £’000 2016 Other schemes £’000 Total £’000 Group schemes £’000 2015 Other schemes £’000 Total £’000 2,062 4,370 6,432 2,143 5,521 7,664 — — 196 70 169 114 70 169 310 — — 197 39 — 119 39 — 316 2,258 (697) 4,723 (251) 6,981 (948) 2,340 (421) 5,679 (291) 8,019 (712) Total charged to the result for the year 1,561 4,472 6,033 1,919 5,388 7,307 132 Mears Group PLC Annual report and accounts 2016 Financial statements24. Pensions continued IAS 19 ‘Employee Benefits’ continued Cumulative actuarial gains and losses recognised in equity are as follows: On TUPE transfer of employees Group schemes £’000 2016 Other schemes £’000 — — Total £’000 — Return on plan assets below that recorded in net interest 27,129 59,020 86,149 Actuarial gain/(loss) arising from changes in demographic assumptions 1,355 — 1,355 Actuarial (loss)/gain arising from changes in financial assumptions (24,475) (66,308) (90,783) Group schemes £’000 2015 Other schemes £’000 Total £’000 — (223) (223) (4,984) (9,311) 3,800 5,193 (7,406) (12,390) (155) (9,466) 11,167 14,967 819 6,012 — (2,271) (2,271) Actuarial gain arising from liability experience Effects of limitation of recognisable surplus Total gains and losses recognised in equity At 1 January Total at 31 December 1,000 — 1,714 4,241 2,714 4,241 5,009 (1,333) 3,676 (10,738) (5,602) (16,340) (5,302) (5,436) 1,931 (3,371) (7,533) (12,969) (5,729) (6,935) (12,664) (10,738) (5,602) (16,340) Changes in the present value of the defined benefit obligations are as follows: Present value of obligations at 1 January 111,327 333,839 445,166 106,710 331,666 438,376 Group schemes £’000 2016 Other schemes £’000 Total £’000 Group schemes £’000 2015 Other schemes £’000 Total £’000 Current service cost Past service cost Scheme administration costs Interest on obligations Plan participants’ contributions Benefits paid Contract transfer Settlements 2,062 4,370 6,432 2,143 5,521 7,664 — — 70 45 70 45 — — 39 55 39 55 4,355 13,152 17,507 4,027 12,703 16,730 392 1,608 2,000 426 2,007 2,433 (2,535) (7,202) (9,737) (2,297) (6,663) (8,960) — — — (218) — (218) — — 342 — 155 342 — 9,466 Actuarial (gain)/loss arising from changes in demographic assumptions (1,355) — (1,355) 9,311 Actuarial loss/(gain) arising from changes in financial assumptions 24,475 66,308 90,783 (3,800) (11,167) (14,967) Actuarial gain arising from liability experience (1,000) (1,714) (2,714) (5,193) (819) (6,012) Present value of obligations at 31 December 137,721 410,258 547,979 111,327 333,839 445,166 Annual report and accounts 2016 133 Mears Group PLC Financial statementsNotes to the financial statements – Group continued For the year ended 31 December 2016 24. Pensions continued IAS 19 ‘Employee Benefits’ continued Changes in the fair value of the plan assets are as follows: Group schemes £’000 2016 Other schemes £’000 Total £’000 Group schemes £’000 2015 Other schemes £’000 Total £’000 Fair value of plan assets at 1 January 116,512 352,690 469,202 115,818 347,034 462,852 Expected return on plan assets Employer’s contributions Plan participants’ contributions Benefits paid Scheme administration costs Contract transfer Settlements 5,052 3,175 392 13,403 18,455 3,628 1,608 6,803 2,000 4,448 3,298 426 12,994 17,442 4,669 2,007 7,967 2,433 (2,535) (7,202) (9,737) (2,297) (6,663) (8,960) (196) — — (69) — (387) (265) — (387) (197) — — (64) 119 — (261) 119 — Return on plan assets above/(below) that recorded in net interest 27,129 59,020 86,149 (4,984) (7,406) (12,390) Fair value of plan assets at 31 December 149,529 422,691 572,220 116,512 352,690 469,202 History of experience gains and losses is as follows: Fair value of scheme assets Net present value of defined benefit obligations Net surplus Experience adjustments arising on scheme assets Amount Percentage of scheme assets Experience adjustments arising on scheme liabilities Amount Percentage of scheme liabilities Fair value of scheme assets Net present value of defined benefit obligations Net surplus Asset value not recognised as surplus Net deficit Experience adjustments arising on scheme assets Amount Percentage of scheme assets Experience adjustments arising on scheme liabilities Amount Percentage of scheme liabilities 134 Mears Group PLC Annual report and accounts 2016 Group schemes 2016 £’000 2015 £’000 2014 £’000 2013 £’000 2012 £’000 149,529 116,512 115,818 98,910 89,737 (137,721) (111,327) (106,710) (88,195) (79,336) 11,808 5,185 9,108 10,715 10,401 27,129 18.1% (4,984) 10,624 (4.3%) 9.2% 3,796 3.8% 695 0.8% (1,000) (0.7%) (5,193) (4.7%) (910) (0.9%) (932) (1.1%) — — Other schemes 2016 £’000 2015 £’000 2014 £’000 2013 £’000 2012 £’000 422,691 352,690 347,034 324,723 286,328 (410,258) (333,839) (331,666) (295,641) (260,689) 12,433 18,851 15,368 29,082 25,639 (15,747) (19,988) (17,717) (31,173) (27,758) (3,314) (1,137) (2,349) (2,091) (2,119) 59,020 14.0% (7,406) 22,125 25,805 (2.1%) 6.4% 7.9% (1,714) (0.4%) (819) (0.2%) (9,828) (3.0%) (518) (0.2%) 3,991 1.4% 143 0.1% Financial statements24. Pensions continued IAS 19 ‘Employee Benefits’ continued Funding arrangements are agreed for each of the Group’s defined benefit pension schemes with their respective trustees. The employer’s contributions expected to be paid during the financial year ending 31 December 2017 amount to £6.6m. Each of the schemes manage risks through a variety of methods and strategies to limit downside in falls in equity markets, movement in inflation and movement in interest rates. The Group’s defined benefit obligation is sensitive to changes in certain key assumptions. The sensitivity analysis below shows how a reasonably possible increase or decrease in a particular assumption, in isolation, results in an increase or decrease in the present value of the defined benefit obligation as at 31 December 2016. Rate of inflation – decrease/increase by 0.1% Rate of increase in salaries – decrease/increase by 0.1% Discount rate – decrease/increase by 0.1% Life expectancy – decrease/increase by 1 year 25. Operating lease commitments Non-cancellable operating lease rentals payable were as follows: Payable Within one year Between two and five years After more than five years Decrease £’000 Increase £’000 (2,362) (274) 4,509 (5,871) 2,902 321 (3,869) (6,631) Land and buildings Other 2016 £’000 2015 £’000 2016 £’000 2015 £’000 44,917 22,404 11,541 2,641 6,864 3,090 15,456 28,249 — 11,557 17,136 — 78,862 12,595 43,705 28,693 Operating lease payments represent rentals payable by the Group for certain of its office properties and housing management residential properties, the hire of vehicles and the hire of other equipment. These leases have durations ranging from one to 15 years. No arrangements have been entered into in respect of contingent rental payments. 26. Capital commitments The acquisition of Omega included an interest in 50% of the share capital of three jointly owned companies. During 2015 the Group increased its holding to 75% and agreed a forward purchase agreement to acquire the remaining 25% for consideration of £6.1m in January 2018. The Group had no capital commitments at 31 December 2016 or at 31 December 2015. 27. Contingent liabilities The Group has guaranteed that it will complete certain Group contracts that it has commenced. At 31 December 2016 these guarantees amounted to £25.4m (2015: £22.4m). As detailed in note 7, the Group has a facility in place guaranteeing the performance of a number of M&E projects in Haydon Mechanical and Electrical Company LLC. The guarantees will fall away as the underlying contracts are completed and the associated guarantees released. As at 31 December 2016, guarantees amounted to £13.7m (2015: £15.4m). The Group had no other contingent liabilities at 31 December 2016 or at 31 December 2015. Annual report and accounts 2016 135 Mears Group PLC Financial statementsNotes to the financial statements – Group continued For the year ended 31 December 2016 28. Related party transactions Identity of related parties The Group has a related party relationship with its pension schemes, its subsidiaries and its Directors. Pension schemes Details of contributions to pension schemes are set out in note 24 to the financial statements. Subsidiaries The Group has a central treasury arrangement in which all subsidiaries participate. The Directors do not consider it meaningful to set out details of transfers made in respect of this treasury arrangement between companies, nor do they consider it meaningful to set out details of interest or dividend payments made within the Group. Transactions with key management personnel The Group has identified key management personnel as the Directors of Mears Group PLC. Key management personnel held the following percentage of voting shares in Mears Group PLC: Directors Key management personnel’s compensation is as follows: Salaries including social security costs Contributions to defined contribution pension schemes Share-based payments 2016 % 0.4 2015 % 0.4 2016 £’000 2015 £’000 1,762 1,513 195 150 195 150 2,107 1,858 Further details of Directors’ remuneration are disclosed within the Remuneration Report. Transactions with other related parties During the year the Group made a loan to YourMK LLP, an entity in which the Group is a 50% member, totalling £0.2m (2015: £nil). At 31 December 2016, the Group was owed £0.2m (2015: £nil) by YourMK LLP. 136 Mears Group PLC Annual report and accounts 2016 Financial statementsPrincipal accounting policies – Company Statement of compliance Mears Group PLC is a public limited company incorporated in England and Wales. Its registered office is 1390 Montpellier Court, Gloucester Business Park, Brockworth, Gloucester GL3 4AH. Basis of preparation The financial statements have been prepared in accordance with applicable United Kingdom accounting standards, including FRS 102 and the Companies Act 2006. The financial statements have been prepared on the historical cost basis except for the modification to a fair value basis for certain financial instruments specified in the accounting policies below. The financial statements are presented in Sterling. The Company has taken advantage of the exemption in Section 408 of the Companies Act from disclosing its individual profit and loss account. The Company has taken advantage of the reduced disclosures for subsidiaries and the ultimate parent provided for in FRS 102 and has therefore not provided a Statement of Cash Flows or certain disclosures in respect of share-based payments. The principal accounting policies of the Company are set out below. These policies have been applied consistently to all the years presented, unless otherwise stated. Goodwill Goodwill representing the reallocation of amounts previously classed as investments upon the hive-across of trade and assets is capitalised and amortised on a straight-line basis over its estimated useful economic life. Share-based employee remuneration All share-based payment arrangements that were granted after 7 November 2002 are recognised in the financial statements. The Group operates equity-settled and cash-settled share-based remuneration plans for its employees. All employee services received in exchange for the grant of any share-based remuneration are measured at their fair values. These are indirectly determined by reference to the fair value of the share options awarded. Their value is determined at the date of grant and is not subsequently remeasured unless the conditions on which the award was granted are modified. The fair value at the date of the grant is calculated using the Black Scholes option pricing model and the cost is recognised on a straight-line basis over the vesting period. Adjustments are made to reflect expected and actual forfeitures during the vesting period. Share-based remuneration in respect of employees of the Company is ultimately recognised as an expense in the profit and loss account. For equity-settled share-based payments there is a corresponding credit to the share-based payment reserve; for cash-settled share-based payments the Company recognises a liability at the balance sheet date. The Company operates share-based remuneration plans for employees of subsidiaries using the Company’s equity instruments. The fair value of the compensation given in respect of these share-based compensation plans less payments received from subsidiaries in respect of those share-based payments is recognised as a capital contribution. Upon exercise of share options, the proceeds received net of any directly attributable transaction costs up to the nominal value of the shares issued are allocated to share capital with any excess being recorded as share premium. Deferred taxation Deferred tax is recognised on all timing differences where the transactions or events that give the Company an obligation to pay more tax in the future, or a right to pay less tax in the future, have occurred by the balance sheet date. Deferred tax assets are recognised where it is more likely than not that they will be recovered. Deferred tax is measured using rates of tax and laws that have been enacted or substantively enacted by the balance sheet date. Annual report and accounts 2016 137 Mears Group PLC Financial statementsPrincipal accounting policies – Company continued Retirement benefits i) Defined contribution pension scheme The pension costs charged against profits are the contributions payable to individual policies in respect of the accounting period. ii) Defined benefit pensions The Company contributes to defined benefit schemes which require contributions to be made to separately administered funds. A defined benefit plan is a pension plan that defines an amount of pension benefit that an employee will receive on retirement, usually dependent on one or more factors such as age, years of service and salary. The legal obligations for any benefits from this kind of pension plan remain with the Group, even if plan assets for funding the defined benefit plan have been set aside. Scheme liabilities are measured using the projected unit funding method, applying the principal actuarial assumptions at the balance sheet date. Assets are measured at market value. The asset that is recognised is restricted to the amount by which the service cost is expected, over the lifetime of the scheme, to exceed funding contributions payable in respect of accruing benefits. Actuarial gains and losses are taken to the Statement of Comprehensive Income as incurred. For this purpose, actuarial gains and losses comprise both the effects of changes in actuarial assumptions and experience adjustments arising because of differences between the previous actuarial assumptions and what has actually occurred. Other movements in the net surplus or deficit are recognised in the profit and loss account, including the current service cost, any past service cost and the effect of curtailments or settlements. The interest costs less the expected return on assets are also charged to the Income Statement. The amount charged to the Income Statement in respect of these plans is included within operating costs. The Company’s contributions to the schemes are paid in accordance with the rules of the schemes and the recommendations of the actuary. Financial instruments Financial assets and liabilities are recognised in the Balance Sheet when the Company becomes party to the contractual provisions of the instrument. The principal financial assets and liabilities of the Company are as follows: Financial assets Basic financial assets, including trade and other receivables, amounts due to Group companies and cash and cash equivalents, are initially recognised at transaction price, unless the arrangement constitutes a financing transaction, where the transaction is measured at the present value of the future receipts discounted at a market rate of interest. Such assets are subsequently carried at amortised cost using the effective interest method. At the end of each reporting period financial assets measured at amortised cost are assessed for objective evidence of impairment. If an asset is impaired the impairment loss is the difference between the carrying amount and the present value of the estimated cash flows discounted at the asset’s original effective interest rate. The impairment loss is recognised in profit or loss. Financial assets are derecognised when (a) the contractual rights to the cash flows from the asset expire or are settled, or (b) substantially all the risks and rewards of the ownership of the asset are transferred to another party, or (c) despite having retained some significant risks and rewards of ownership, control of the asset has been transferred to another party which has the practical ability to unilaterally sell the asset to an unrelated third party without imposing additional restrictions. Cash and cash equivalents include cash at bank and in hand and bank deposits available with no notice or less than three months’ notice from inception that are subject to an insignificant risk of changes in value. Bank overdrafts are presented as current liabilities to the extent that there is no right of offset with cash balances. 138 Mears Group PLC Annual report and accounts 2016 Financial statementsFinancial instruments continued Financial liabilities Basic financial liabilities, including trade and other payables, and amounts payable to Group companies that are classified as debt, are initially recognised at transaction price, unless the arrangement constitutes a financing transaction, where the debt instrument is measured at the present value of the future receipts discounted at a market rate of interest. Bank borrowings are non-basic financial liabilities and are initially recognised at fair value, being the present value of future payments discounted at a market rate of interest. Bank borrowings are remeasured at fair value. Derivatives, including interest rate swaps, are not basic financial instruments. Derivatives are initially recognised at fair value on the date a derivative contract is entered into and are subsequently remeasured at their fair value. Changes in the fair value of derivatives are recognised in profit or loss in finance costs or finance income as appropriate, unless they are included in a hedging arrangement. Financial liabilities are derecognised when the liability is extinguished, that is when the contractual obligation is discharged or cancelled or expires. Offsetting Financial assets and liabilities are offset and the net amounts presented in the financial statements when there is a legally enforceable right to set off the recognised amounts and there is an intention to settle on a net basis or to realise the asset and settle the liability simultaneously. Hedge accounting for interest rate swaps The Company applies hedge accounting for transactions entered into to manage the cash flow exposures of borrowings. Interest rate swaps are held to manage the interest rate exposures and are designated as cash flow hedges of floating rate borrowings. Changes in the fair values of derivatives designated as cash flow hedges, and which are effective, are recognised directly in equity. Any ineffectiveness in the hedging relationship (being the excess of the cumulative change in fair value of the hedging instrument since inception of the hedge over the cumulative change in the fair value of the hedged item since inception of the hedge) is recognised in the Income Statement. The gain or loss recognised in other comprehensive income is reclassified to the Income Statement when the hedge relationship ends. Hedge accounting is discontinued when the hedging instrument expires or no longer meets the hedging criteria, the forecast transaction is no longer highly probable, the hedged debt instrument is derecognised or the hedging instrument is terminated. Annual report and accounts 2016 139 Mears Group PLC Financial statementsParent Company balance sheet As at 31 December 2016 Non-current assets Intangible assets: goodwill Investments Current assets Debtors Cash at bank and in hand Creditors: amounts falling due within one year Net current assets Total assets less current liabilities Creditors: amounts falling due after more than one year Provisions for liabilities Pension liability Capital and reserves Called up share capital Share premium account Share-based payment reserve Hedging reserve Profit and loss account Shareholders’ funds Note 2016 £’000 2015 £’000 5 6 — — 58,467 58,467 58,467 58,467 7 139,155 135,827 — — 139,155 135,827 8 (27,021) (32,879) 112,134 102,948 170,601 161,415 9 (60,686) (57,961) 14 (4,184) (3,087) 105,731 100,367 11 1,026 1,019 58,320 58,124 1,975 (774) 1,651 (572) 45,184 40,145 105,731 100,367 The Parent Company has taken advantage of Section 408 of the Companies Act 2006 and has not included its own profit and loss account in these financial statements. The Group profit for the year includes a profit of £18.2m (2015: £12.9m) which is dealt with in the financial statements of the Company. The financial statements were approved by the Board of Directors on 27 March 2017. D J Miles Director A C M Smith Director Company number: 03232863 The accompanying accounting policies and notes form an integral part of these financial statements. 140 Mears Group PLC Annual report and accounts 2016 Financial statements Parent Company statement of changes in equity For the year ended 31 December 2016 At 1 January 2015 Net result for the year Other comprehensive income Total comprehensive income for the year Issue of shares Share option charges Exercise of share options Dividends At 1 January 2016 Net result for the year Other comprehensive expense Total comprehensive (expense)/income for the year Issue of shares Share option charges Dividends At 31 December 2016 Share capital £’000 Share premium account £’000 Share- based payment reserve £’000 Hedging reserve £’000 Retained earnings £’000 Total £’000 1,011 56,714 1,653 (962) 35,213 93,629 — — — 8 — — — — — — 1,410 — — — — — — — 771 (773) — — 12,862 12,862 390 390 — — — 1,742 2,132 14,604 14,994 — — 773 1,418 771 — — (10,445) (10,445) 1,019 58,124 1,651 (572) 40,145 100,367 — — — 7 — — — — — 196 — — — — — — 324 — — 18,238 18,238 (202) (1,716) (1,918) (202) 16,522 16,320 — — — — 203 324 — (11,483) (11,483) 1,026 58,320 1,975 (774) 45,184 105,731 The accompanying accounting policies and notes form an integral part of these financial statements. Annual report and accounts 2016 141 Mears Group PLC Financial statementsNotes to the financial statements – Company For the year ended 31 December 2016 1. Result for the financial year This result for the year is stated after charging auditor’s remuneration of £60,000 relating to audit services. 2. Directors and employees Employee benefits expense All staff costs relate to Directors. Staff costs during the year were as follows: Wages and salaries Social security costs Other pension costs The average number of employees of the Company during the year was: Management 2016 £’000 2015 £’000 1,334 1,323 428 182 190 195 1,944 1,708 2016 Number 2015 Number 9 8 3. Share-based employee remuneration As at 31 December 2016 the Group maintained seven share-based payment schemes for employee remuneration. The details of each scheme are included within note 5 to the consolidated financial statements. All share-based employee remuneration will be settled in equity. The Group has no legal obligation to repurchase or settle the options. In total, £0.2m of employee remuneration expense has been included in the Company’s profit and loss account for 2016 (2015: £0.2m), which gave rise to additional paid-in capital. 4. Dividends The following dividends were paid on ordinary shares in the year: Final 2015 dividend of 7.90p (2015: final 2014 dividend of 7.15p) per share Interim 2016 dividend of 3.30p (2015: interim 2015 dividend of 3.10p) per share 2016 £’000 8,099 3,384 2015 £’000 7,286 3,159 11,483 10,445 The proposed final 2016 dividend of 8.40p per share has not been included within the financial statements as no obligation existed at 31 December 2016. 5. Goodwill Cost At 1 January 2016 and at 31 December 2016 Amortisation At 1 January 2016 and at 31 December 2016 Net book value At 31 December 2016 At 31 December 2015 142 Mears Group PLC Annual report and accounts 2016 Goodwill £’000 6,196 6,196 — — Financial statements 6. Fixed asset investments Cost At 1 January 2016 and at 31 December 2016 Investment in subsidiary undertakings £’000 58,467 Details of the subsidiary undertakings of the Company are shown in note 13 to the consolidated financial statements. 7. Debtors Amounts owed by Group undertakings Prepayments and accrued income Other receivables Corporation tax asset Deferred tax asset Diesel hedge 2016 £’000 2015 £’000 135,620 131,951 1,073 — — 946 1,516 810 2,000 12 1,054 — 139,155 135,827 The deferred tax asset above of £0.9m (2015: £1.1m) is due after more than one year. The recoverability of the deferred tax asset is dependent on future taxable profits. The Company expects to realise sufficient profits to enable the deferred tax asset to be recovered. 8. Creditors: amounts falling due within one year Bank loan Bank overdraft Interest rate swaps Accruals Corporation tax Other payables 9. Creditors: amounts falling due in more than one year Bank borrowings Contingent consideration Interest rate swaps 2016 £’000 5,000 19,146 478 1,623 708 66 2015 £’000 10,000 20,801 510 1,548 — 20 27,021 32,879 2016 £’000 2015 £’000 60,000 57,500 74 612 93 368 60,686 57,961 The Company has disclosed core bank borrowings of £60.0m as due in two to five years. Whilst the amounts borrowed could be repaid each quarter, the Company’s intention is to align core bank borrowings with its interest rate swaps. Included in other creditors is £0.1m (2015: £0.1m) relating to deferred consideration on acquisitions. Annual report and accounts 2016 143 Mears Group PLC Financial statementsNotes to the financial statements – Company continued For the year ended 31 December 2016 10. Financial instruments The Company has the following financial instruments: Financial assets that are debt instruments measured at amortised cost: – other receivables Financial assets that are measured at fair value through profit and loss: – diesel hedge Financial liabilities that are measured at fair value through profit and loss: – bank borrowings Financial liabilities that are measured at fair value through other comprehensive income: – interest rate swaps Financial liabilities that are measured at amortised cost: – accruals – other payables Other financial liabilities that are measured at fair value: – contingent consideration 2016 £’000 2015 £’000 — 2,000 1,516 — (65,000) (67,500) (1,090) (878) (1,623) (1,548) (66) (20) (1,689) (1,568) (74) (93) There have been no changes during the period or cumulatively in the fair value of bank borrowings attributable to changes in the credit risk of the instrument. The change attributable to changes in own credit risk is not material due to the short life of individual drawdowns within bank borrowings. The difference between the carrying amount and the amount expected to be paid at maturity is not material due to the short life of individual drawdowns within bank borrowings. The Company pays a margin over and above LIBOR on bank borrowings. The margin is based on the ratio of Group consolidated net borrowings to Group consolidated adjusted EBITDA and could have varied between 1.2% and 2.2% during the year. The Company has entered into interest rate swaps to receive interest at LIBOR and pay interest at fixed rates. At 31 December 2016, this consists of one £30.0m swap contract expiring in August 2018 with a fixed interest rate of 1.85%. The swap has quarterly maturity matching the underlying debt. The Company has also entered into three commodity price hedges in respect of the wholesale price of diesel covering the purchase of 6m litres of diesel per annum. These instruments are used to mitigate the Company’s exposure to any interest rate movements and diesel price movements. The fair value of the interest rate swaps is a liability of £1.1m (2015: £0.9m). The fair value of the commodity price hedge is an asset of £1.5m (2015: £nil). During 2016, a hedging loss of £0.9m (2015: £0.07m) was recognised in other comprehensive income for changes in the fair value of the interest rate swap and £0.6m (2015: £0.6m) was reclassified from the hedge reserve to profit and loss. The Company has also entered into a further five interest rate swap arrangements with HSBC Bank PLC, three £10.0m swap contracts with a deferred start date of January 2017 expiring December 2020 at an applicable interest rate of 0.84% and two £15.0m swap contracts with a deferred start date of August 2018 expiring August 2021 at an applicable interest rate of 0.96%. The Company seeks to manage liquidity risk by ensuring sufficient liquidity is available to meet foreseeable needs and to invest cash assets safely and profitably. Management monitors rolling forecasts of the Group and Company’s liquidity reserve (comprising undrawn borrowing facilities and cash and cash equivalents) on the basis of expected cash flows. The quantum of committed borrowing facilities of the Group and Company is regularly reviewed and is designed to exceed forecasted peak gross debt levels. For short-term working capital purposes, the Group and Company utilise bank overdrafts as required. These facilities are regularly reviewed and are renegotiated ahead of their expiry date. 144 Mears Group PLC Annual report and accounts 2016 Financial statements11. Share capital and reserves Allotted, called up and fully paid At 1 January 101,938,335 (2015: 101,134,142) ordinary shares of 1p each Issue of 621,464 (2015: 804,193) shares on exercise of share options At 31 December 102,559,799 (2015: 101,938,335) ordinary shares of 1p each 2016 £’000 2015 £’000 1,019 7 1,026 1,011 8 1,019 During the year, 621,464 (2015: 804,193) ordinary 1p shares were issued in respect of share options exercised. The difference between the nominal value of £0.007m and the total consideration of £0.2m has been credited to the share premium account. Classes of reserves Share capital represents the nominal value of shares that have been issued. Share premium represents the difference between the nominal value of shares issued and the total consideration received. Share-based payment reserve represents employee remuneration which is credited to the share-based payment reserve until the related share options are exercised. Upon exercise the share-based payment reserve is transferred to retained earnings. The cash flow hedging reserve comprises all gains and losses arising from the valuation of interest swap contracts which are effective hedges and mature after the year end. These are valued on a mark-to-market basis, are accounted for through the Statement of Comprehensive Income and recycled through the Income Statement when the hedged item affects the Income Statement. 12. Capital commitments The Company had no capital commitments at 31 December 2016 or at 31 December 2015. 13. Contingent liabilities The Company has guaranteed that it will complete certain Group contracts that its subsidiaries have commenced. At 31 December 2016 these guarantees amounted to £25.4m (2015: £22.4m). As detailed in note 7 of the Group financial statements, the Company has a facility in place guaranteeing the performance of a number of M&E projects in Haydon Mechanical and Electrical Company LLC. The guarantees will fall away as the underlying contracts are completed and the associated guarantees released. As at 31 December 2016, guarantees amounted to £13.7m (2015: £15.4m). The Company had no other contingent liabilities at 31 December 2016 or at 31 December 2015. 14. Pensions Defined contribution schemes The Company contributes to personal pension schemes of the Directors. Defined benefit scheme The Company operates a defined benefit pension scheme for the benefit of certain employees of its subsidiary companies. The assets of the schemes are administered by trustees in a fund independent from the assets of the Company. Costs and liabilities of the scheme are based on actuarial valuations. The actuarial valuations were reviewed and updated to 31 December 2016 by a qualified independent actuary using the projected unit method. The principal actuarial assumptions at the balance sheet date are as follows: Rate of increase of salaries – first year Rate of increase of salaries – second year Rate of increase of salaries – long term Rate of increase for pensions in payment – based on RPI with a cap of 5% Rate of increase for pensions in payment – based on RPI with a cap of 3% Discount rate Retail prices inflation Consumer prices inflation Life expectancy for a 65-year-old male Life expectancy for a 65-year-old female 2016 2015 1.00% 1.00% 3.35% 3.25% 2.55% 3.05% 3.35% 2.45% 1.00% 1.00% 3.30% 3.20% 2.55% 3.95% 3.30% 2.40% 22.4 years 22.6 years 24.5 years 24.7 years Annual report and accounts 2016 145 Mears Group PLC Financial statementsNotes to the financial statements – Company continued For the year ended 31 December 2016 14. Pensions continued Defined benefit scheme continued The amounts recognised in the Parent Company Balance Sheet and major categories of plan assets as a percentage of total plan assets are: 2016 £’000 5,004 9,470 2,679 2015 £’000 11,341 2,790 705 17,153 14,836 (21,337) (17,923) (4,184) (3,087) 795 617 (3,389) (2,470) 2016 £’000 67 (42) — 25 101 126 2015 £’000 140 42 — 182 183 365 2016 £’000 2015 £’000 17,923 19,771 67 — 700 12 (412) (232) 3,509 140 — 747 27 (451) (389) (656) (230) (1,266) 21,337 17,923 Equities Bonds Cash Group’s estimated asset share Present value of funded scheme liabilities Funded status Related deferred tax asset Pension liability The amounts recognised in the profit and loss account are as follows: Current service cost Administration cost Past service cost Total operating charge Net interest Total charged to the result for the year Changes in the present value of the defined benefit obligations are as follows: Present value of obligations at 1 January Current service cost Past service cost Interest on obligations Plan participants’ contributions Benefits paid Actuarial gain arising from changes in demographic assumptions Actuarial gain/(loss) arising from changes in financial assumptions Actuarial loss arising from liability experience Present value of obligations at 31 December 146 Mears Group PLC Annual report and accounts 2016 Financial statements14. Pensions continued Defined benefit scheme continued Changes in the fair value of the plan assets are as follows: Fair value of plan assets at 1 January Expected return on plan assets Administration costs Employer’s contributions Plan participants’ contributions Benefits paid Return on plan assets above that recorded in net interest Fair value of plan assets at 31 December The movements in the net pension liability and the amount recognised in the Balance Sheet are as follows: Deficit in schemes at 1 January Current service cost Past service cost Administration costs Contributions Other finance income Actuarial gain arising from changes in demographic assumptions Actuarial (loss)/gain arising from changes in financial assumptions Actuarial loss arising from liability experience Return on plan assets above that recorded in net interest Deficit in schemes at 31 December 2016 £’000 2015 £’000 14,836 13,748 599 42 564 (42) 1,057 1,124 12 (412) 1,019 27 (451) (134) 17,153 14,836 2016 £’000 2015 £’000 (3,087) (6,023) (67) — 42 1,057 (101) 232 (3,509) 230 1,019 (140) — (42) 1,124 (183) 389 656 1,266 (134) (4,184) (3,087) The employer’s contributions expected to be paid during the financial year ending 31 December 2017 amount to £1.1m. 15. Related party transactions Identity of related parties The Group has a related party relationship with its pension schemes, its subsidiaries and its Directors. Pension schemes Details of contributions to pension schemes are set out in note 14 to the financial statements. Subsidiaries The Group has a central treasury arrangement in which all subsidiaries participate. The Directors do not consider it meaningful to set out details of transfers made in respect of this treasury arrangement between companies, nor do they consider it meaningful to set out details of interest or dividend payments made within the Group. Transactions with key management personnel The Group has identified key management personnel as the Directors of Mears Group PLC. Details of transactions are disclosed in note 28 to the consolidated financial statements. Annual report and accounts 2016 147 Mears Group PLC Financial statementsFive-year record (unaudited) Income Statement Revenue by business segment Housing Care Continuing activities Discontinued activities Total sales revenue Gross profit 2016 £’000 2015 £’000 2014 £’000 2013 £’000 2012 £’000 787,530 735,129 714,733 742,479 504,686 152,570 146,010 124,007 123,095 112,550 940,100 881,139 838,740 865,574 617,236 — — — 32,632 62,289 940,100 881,139 834,740 898,206 679,525 244,894 232,132 225,041 227,960 184,305 Operating profit before acquisition intangible amortisation and exceptional costs 41,850 38,662 42,995 38,392 31,161 Exceptional items Operating profit Profit for the year before tax PBT before acquisition intangible amortisation and exceptional costs — 31,160 29,372 40,062 — 27,825 25,920 36,757 — (25,493) (2,877) 30,667 29,677 42,005 2,039 277 36,630 20,323 18,199 29,037 Earnings per share Basic Diluted Normalised Dividends per share Balance Sheet Non-current assets Current assets Current liabilities Non-current liabilities Total equity 23.54p 23.41p 30.36p 20.31p 20.10p 27.94p 25.03p 24.65p 32.20p (1.21)p 19.61p (1.17)p 18.85p 28.06p 25.60p 11.70p 11.00p 10.00p 8.80p 8.00p 2016 £’000 2015 £’000 2014 £’000 2013 £’000 2012 £’000 262,263 258,201 268,818 233,960 225,964 222,158 237,767 217,718 241,697 249,719 (194,567) (219,882) (190,040) (222,506) (231,934) (91,180) (84,458) (102,034) (72,850) (74,931) 198,674 191,628 194,462 180,301 168,818 Cash and cash equivalents, end of year (12,374) 822 3,834 (448) (12,384) 148 Mears Group PLC Annual report and accounts 2016 Financial statementsShareholder and corporate information Financial calendar Annual General Meeting 7 June 2017 Record date for final dividend 16 June 2017 Dividend warrants posted to shareholders 6 July 2017 Interim results announced 15 August 2017 Registered office 1390 Montpellier Court Gloucester Business Park Brockworth Gloucester GL3 4AH Tel: 01452 634600 www.mearsgroup.co.uk Company registration number 3232863 Company Secretary Ben Westran 1390 Montpellier Court Gloucester Business Park Brockworth Gloucester GL3 4AH Tel: 01452 634600 Bankers Barclays Bank PLC Wales and South West Corporate Banking 4th Floor, Bridgewater House Counterslip Finzels Reach Bristol BS1 6BX Tel: 0800 285 1152 HSBC Bank plc West & Wales Corporate Banking Centre 3 Rivergate Temple Quay Bristol BS1 6ER Tel: 0845 583 9796 Design Portfolio is committed to planting trees for every corporate communications project, in association with Trees for Cities. Solicitors BPE St James’ House St James’ Square Cheltenham GL50 3PR Tel: 01242 224433 Mishcon de Reya LLP Africa House 70 Kingsway London WC2B 6AH Tel: 020 3321 7000 Travers Smith 10 Snow Hill London EC1A 2AL Tel: 020 7295 3000 Auditor Grant Thornton UK LLP Registered Auditor Chartered Accountants Hartwell House 55–61 Victoria Street Bristol BS1 6FT Tel: 0117 305 7600 Financial adviser Investec Bank PLC 2 Gresham Street London EC2V 7QP Tel: 020 7597 2000 Registrar Neville Registrars Ltd Neville House 18 Laurel Lane Halesowen West Midlands B63 3DA Tel: 0121 585 1131 Joint corporate brokers Liberum Capital Limited Ropemaker Place, Level 12 25 Ropemaker Street London EC2Y 9LY Tel: 020 7418 8900 Peel Hunt Moor House 20 London Wall London EC2Y 5ET Tel: 020 7418 8900 Investor relations Buchanan 107 Cheapside London EC2V 6DN Tel: 020 7466 5000 Internet The Group operates a website which can be found at www.mearsgroup.co.uk. This site is regularly updated to provide information about the Group. In particular all of the Group’s press releases and announcements can be found on the site. Registrar Any enquiries concerning your shareholding should be addressed to the Company’s registrar. The registrar should be notified promptly of any change in a shareholder’s address or other details. Investor relations Requests for further copies of the Annual Report and Accounts, or other investor relations enquiries, should be addressed to the registered office. The Group’s commitment to environmental issues is reflected in this Annual Report which has been printed on Cocoon Offset which is made from 100% post-consumer fibres, FSC® certified and PCF (Process Chlorine Free). Printed in the UK by Pureprint Group using their environmental printing technology, and vegetable inks were used throughout. Pureprint Group is a CarbonNeutral® company. Both manufacturing mill and the printer are registered to the Environmental Management System ISO14001 and are Forest Stewardship Council® (FSC) chain-of-custody certified. Annual report and accounts 2016 149 Mears Group PLC Shareholder information M e a r s G r o u p P L C A n n u a l r e p o r t a n d a c c o u n t s 2 0 1 6 Mears Group PLC 1390 Montpellier Court Gloucester Business Park Brockworth Gloucester GL3 4AH Tel: 01452 634 600 www.mearsgroup.co.uk 

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