Pearson Annual Report 2015

Plain-text annual report

Focused on delivery Pearson Annual report and accounts 2015 Pearson at a glance Financial highlights Sales £4.5bn -5% 2015 Sales by Geography North America Core Growth 66% 19% 15% £2,940m £836m £692m Adjusted operating proﬁ t £723m -3% 2015 (cid:36)(cid:71)(cid:77)(cid:88)(cid:86)(cid:87)(cid:72)(cid:71)(cid:3)(cid:82)(cid:83)(cid:72)(cid:85)(cid:68)(cid:87)(cid:76)(cid:81)(cid:74)(cid:3)(cid:83)(cid:85)(cid:82)(cid:564)(cid:87) by Geography North America Core Growth 72% 17% -2% Penguin Random House 13% Discontinued £480m £114m -£12m £90m £51m Average annual growth in headline terms 2010–2015 Sales £m 6,000 Adjusted earnings per share -1.9% Operating cash ﬂ ow -16.3% Dividend +6.1% 5,000 4,000 3,000 2,000 1,000 (cid:36)(cid:71)(cid:77)(cid:88)(cid:86)(cid:87)(cid:72)(cid:71)(cid:3)(cid:82)(cid:83)(cid:72)(cid:85)(cid:68)(cid:87)(cid:76)(cid:81)(cid:74)(cid:3)(cid:83)(cid:85)(cid:82)(cid:564)(cid:87) £m 1,200 1,000 800 600 400 200 10 11 12 13 14 15 10 11 12 13 14 15 To read about our KPIs go to p14 Throughout this report growth rates are stated on a constant exchange rate (CER) basis unless otherwise stated. Where quoted, underlying growth rates exclude both currency movements and portfolio changes. Section 1 Our business 01 About Pearson Pearson is the world’s learning company, with global capabilities in educational courseware and assessment, based on a strong portfolio of products and services, powered by technology. We believe that our strategy of combining these core capabilities with services enable our partners to scale online, reach more people and ensure better learning outcomes, providing Pearson with a larger market opportunity, a sharper focus on the fastest-growing education markets and stronger ﬁ nancial returns. Our mission is to help people make progress through access to better learning. We believe that learning opens up opportunities, creating fulﬁ lling careers and better lives. This strategic report is formed of three sections ‘Our business’, Our performance’ and ‘Social impact’, (p02-67), and was approved for issue by the board on 4 March 2016 and signed on its behalf by : Coram Williams Chief ﬁ nancial oﬃ cer Strategic report Our business 02 Chairman’s introduction 04 Chief executive’s strategic overview 08 Our business model Our performance 10 Financial overview 14 Key performance indicators 16 Operating performance overview 18 Operating performance: North America, Core, Growth 34 Other ﬁ nancial information 38 Risk management 41 Principal risks and uncertainties 46 Targeting growth through eﬃ cacy Our social impact 54 Our social impact overview 56 Sustainability 59 Our values and behaviours 61 Our relationships 63 Our planet 65 Impact campaigns 67 Social innovation Governance 68 Governance overview 72 Leadership & eﬀ ectiveness 82 Accountability 90 Engagement 94 Report on directors’ remuneration 118 Additional disclosures Financial statements 126 Independent auditors’ report to the members of Pearson plc 134 Group accounts 208 Parent company accounts 222 Five-year summary 224 Corporate and operating measures 227 Shareholder information BC Principal oﬃ ces worldwide O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 02 Pearson plc Annual report and accounts 2015 Chairman’s introduction Sidney Taurel Chairman “ My focus will be on helping guide Pearson back to growth, supporting the management team and all of our employees in our mission: to help more people make progress in their lives through learning.” Dear shareholders, I am proud to introduce our annual report for the ﬁ rst time as Pearson’s chairman. My predecessor, Glen Moreno, made a major contribution to Pearson during his long and successful tenure as chairman. I am sure my fellow shareholders will join me in thanking Glen and wishing him all the best for the future. This is an important time to be joining Pearson. Our 2015 performance was not what we would have wanted, and we now have a plan in place to return the company to growth. The company has a strong purpose at its heart, and has made great strides in focusing on education. My own focus will be on helping guide Pearson back to growth, supporting the management team and all of our employees in our mission: to help more people make progress in their lives through learning. Our immediate priorities This is a challenging time for businesses in global education, with rapid changes taking place in the sector. Digital technology is revolutionising education just as it has all other aspects of the way we work, communicate and do business. In an era of constrained spending, there is a big productivity challenge, as governments and education leaders seek to achieve better outcomes at the same or lower cost. The value of a university degree continues to grow, but many students and institutions face cost pressures. These changes oﬀ er big opportunities for Pearson, but also present risks and transitions that we will need to manage in some of our traditionally strong businesses. With these factors in mind, my immediate priorities are(cid:98)clear: I will be supporting our management team to ensure that we stay focused on our biggest strategic growth objectives. I will oﬀ er guidance to help them to make further progress on simplifying and integrating the business. We need to make sure that Pearson is better able to leverage our assets, skills, and technology platforms in order to deploy our products globally. I will be supporting the team to ensure that capital is allocated in a way that provides better returns for shareholders, ultimately creating a better, more sustainable company for the future. We will engage transparently with shareholders on our capital allocation plans and progress against our strategic goals, as well as on all important issues. We plan to hold our dividend at the 2015 level while we rebuild cover, reﬂ ecting the board’s conﬁ dence in the medium-term outlook for our business, and we are committed to increasing total shareholder returns. These priorities require strong leadership, dedication and hard work from me, the board, and the management team. Our leadership team We have continued to enhance the strength and depth of our board, including the appointment of Coram Williams as our chief ﬁ nancial oﬃ cer. Coram has a decade’s experience working directly for Pearson and helped to lead our joint venture, Penguin Random House, through a successful company integration as its ﬁ rst CFO. Like me, Lincoln Wallen joined the board on 1 January 2016. Lincoln is chief technology oﬃ cer for DreamWorks Animation, and his appointment further strengthens our digital capabilities. Like thousands of Pearson employees across the globe, he also has a background in education and teaching. We have an experienced executive team, and committed employees around the world. I look forward to working with John Fallon and the executive team to deliver our agenda. Read more about our board on pages 72-73. Section 1 Our business 03 Building a company for the future I led Eli Lilly, a business in the global health sector, as CEO and Chair for ten years. I see some clear parallels between health and education that I believe provide opportunities for Pearson. Like health, education aﬀ ects every citizen of the world in a deep and personal way. Both sectors have seen dramatic increases in the use of digital technologies for the beneﬁ t of users – in our case, teachers and students. For us, this means personalised, adaptive learning, with the ability to measure and improve outcomes at an individual level. So we are continuing at pace on our mission to become more digital and service-driven, and a simpler, better integrated business, with eﬃ cacy at the heart of everything we do. Read more on our ongoing commitment to eﬃ cacy on pages 46-53. Pearson’s future I would like to thank you for your continued support of Pearson. It has been a tough 2015, and there are undoubtedly challenges ahead. Pearson is a company with strong market positions, real competitive advantage and a signiﬁ cant medium-term market opportunity. The board believes that the plans we are enacting will help to build on these strengths and enjoy sustained growth. I see an exciting future ahead for Pearson – as with my experience in the health sector, I am inspired by working in a company with a strong sense of purpose. As chairman I am fully focused on helping the management team develop our strategy and deliver long-term value for our students, customers and you, our shareholders. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e Sidney Taurel Chairman Read our full Governance section Governance overview Leadership & eﬀ ectiveness Accountability Engagement Report on directors’ remuneration Additional disclosures p70-71 p72-81 p82-89 p90-93 p94-117 p118-123 i F n a n c i a l s t a t e m e n t s Share price performance One year % change Pearson FTSE 100 FTSE All-Share FTSE All-Share Media STOXX 600 Media Five years % change Pearson FTSE 100 FTSE All-Share FTSE All-Share Media STOXX 600 Media Ten years % change Pearson FTSE 100 FTSE All-Share FTSE All-Share Media STOXX 600 Media -38.2% -4.9% -2.5% 13.3% 12.0% -27.0% 5.8% 12.5% 78.2% 68.8% 7.1% 11.1% 21.0% 88.2% 36.1% Source: Datastream to 31 December 2015 Total shareholder return (TSR) See p14 One year % change Pearson FTSE 100 FTSE All-Share FTSE All-Share Media STOXX 600 Media Five years % change Pearson FTSE 100 FTSE All-Share FTSE All-Share Media STOXX 600 Media Ten years % change Pearson FTSE 100 FTSE All-Share FTSE All-Share Media STOXX 600 Media Source: Datastream to 31 December 2015 -35.7% -1.3% 1.0% 16.5% 15.3% -11.2% 26.9% 33.8% 107.5% 102.6% 59.8% 60.2% 71.8% 155.8% 97.4% 04 Pearson plc Annual report and accounts 2015 Chief executive’s strategic overview John Fallon Chief executive “ 2015 was a year of change and challenge at Pearson, which ultimately will leave us better placed to meet the huge unmet demands in global education.” Dear shareholders, 2015 was a year of change and challenge at Pearson, which ultimately will leave us better placed to meet the huge unmet demands in global education. The biggest change was that, with the sale of the Financial Times Group and our stake in The Economist, we completed Pearson’s exit from the ﬁ nancial news and information market. We thought long and hard about these disposals. It is not easy to part with such globally respected brands, which have been an important part of Pearson for many years. After careful(cid:98)consideration, the board concluded that these transactions made strategic sense, achieved a good ﬁ nancial return for shareholders, and were in the best long-term interest of both The Economist and the Financial Times. The pace of disruptive change in new technology – in(cid:98)particular, the growth of mobile and social media – poses a direct challenge to how leading news organisations produce and sell their journalism. The(cid:98)best way to ensure continuing success is to be part of a global, digital news organisation that is completely focused on the business of journalism. We concluded that new owners with strong track records in media would help grow the FT and The Economist’s global reach and reputation in a digital age, just as we secured Penguin’s creative and commercial future by combining it with Random House to create the world’s largest consumer publisher, Penguin Random House. That(cid:98)business, of which we own a 47% stake, continues to perform well, as you can read on page 33. Our strategy Short-term priorities Strategic growth drivers Deliver transformation Simplify our business Stronger cash generation A growing company 1 Digital & services: Build on our global strength in educational courseware and assessment with leading digital products and services, where we see the greatest potential for growth, scalability and impact on learner progress. 2 Market presence: Our strategy to build on our leading presence in developed markets, and the opportunity to(cid:98)meet growing global demand for education. Section 1 Our business 05 Challenges in 2015 A clear strategy These disposals enable us to focus more fully on our education business, which was where we faced our biggest challenge last year. The cyclical and policy related headwinds we face in our major education markets – which we have described in previous years and which we cover later in this report – are persisting for longer than we anticipated. They are also having a more pronounced impact on our proﬁ tability than we expected, reducing our annual operating proﬁ t(cid:98)by approximately £230m from its peak. These headwinds are largely cyclical and, over the next two years, they should ﬁ nally abate. This means that, although operating proﬁ t and earnings per share were only down marginally in underlying terms on the previous year, they fell short of(cid:98)the goals we set at the start of the year. Our strong competitive performance Pearson’s competitive performance remains strong. We(cid:98)held or increased our market share in higher education courseware, school courseware, and in UK general qualiﬁ cations. In professional testing, virtual schooling, online higher education and other areas we increased our capabilities, our reach and our commercial success substantially. You can read more about our operating performance on pages 16-33. We are also conﬁ dent that education remains an attractive investment opportunity with the growth potential to enable us to serve more students around the world and deliver good, sustainable returns to our(cid:98)shareholders. Our strategy to capitalise on this opportunity is clear. As(cid:98)the world’s learning company, Pearson has world- class capabilities and products in educational courseware and assessment, powered by learning technology. By combining these capabilities with teaching and learning services, we help schools, universities and others to scale online, reach more people and ensure better learning outcomes. As we do(cid:98)so, we provide Pearson with a larger market opportunity, a sharper focus on the fastest-growing education markets and stronger ﬁ nancial returns. This approach recognises that education is undergoing a number of structural changes. The economic value of an education remains large. In the US, for example, the earnings premium of a university degree has never been higher. However, the cost of education is going up faster than inﬂ ation – and public funding for education is under real pressure. This presents our customers – university presidents, school superintendents, teachers and faculty, students and their parents – with a real challenge. It is compounded by the fact that rising costs have not(cid:98)brought any real increases in learning outcomes – which remain uneven and variable – and there is an alarming mismatch between the expectations of educators and employers. For example, according to Gallup research from 2014, 96% of chief academic oﬃ cers in the US rate their institution as somewhat or very eﬀ ective at preparing students for the world of work. Yet only 11% of business leaders agree. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e 3 Measurable outcomes: Our eﬃ cacy programme is our long(cid:98)term commitment to delivering measurable impact. It informs all strategic decision making across Pearson, including our product and(cid:98)services strategy. We will begin(cid:98)reporting formally on this impact(cid:98)from(cid:98)2018. Our constant goals Generate sustainable returns by: Delivering long-term growth Extending our global presence and reach Building on our leading education position To deliver measurable impact i F n a n c i a l s t a t e m e n t s 06 Pearson plc Annual report and accounts 2015 Chief executive’s strategic overview continued Helping teachers to be more eﬀ ective and students more successful We know that technology can help to address these challenges, by making learning more accessible, ﬂ exible, personal and aﬀ ordable. For example, we are(cid:98)drawing on the latest digital advances to develop products which further customise and personalise learning. So we are embedding learning analytics in our(cid:98)new courseware oﬀ erings, such as Revel, to help teachers use data to teach students more eﬀ ectively. For students themselves, we are using adaptive learning technologies to focus their studies on concepts which require more time and attention. We are developing new qualiﬁ cations and certiﬁ cations that help students to translate education into employment by assessing career-relevant knowledge and skills, providing quality assurance to schools, universities and employers. For example, last year we ran nearly 50 million practice or actual assessments for students on digital devices in the US using our TestNav application, aligning these new tests to higher standards for career and college readiness. Online degree and virtual online school programmes represent 10% of Pearson today, from nothing ﬁ ve years ago – and are growing at double-digit rates each year. With a solid platform and market position in the US, we(cid:98)are now growing these businesses globally. With the global online programme management market set to double in the next ﬁ ve years, there will be many more opportunities for Pearson to partner with universities to improve learning. This opportunity is highlighted through our long- standing partnership with Arizona State University, where we are helping to recruit, retain and teach several thousand online students. As more and more universities and students embrace the possibilities for(cid:98)improving access and success in education using technology, there will be many more opportunities for Pearson to partner with institutions on course design, student recruitment and online tuition. All of our new products and services are underpinned by our eﬃ cacy approach, launched three years ago, which is designed to ensure that we help teachers to be(cid:98)more eﬀ ective, and students to be more successful. We(cid:98)are committed to reporting on the learning impact of our individual products from 2018 onwards, through independently audited evidence and reports. We are making good progress towards this target, as you can read later in this report (pages 46-53). Our success in helping our customers address these structural changes in education should enable Pearson to increase our average revenue per customer, and access larger markets as we provide educational services far broader than just stand-alone content or(cid:98)assessment. To make the most of the opportunity, we are making Pearson a simpler, better integrated, more cost-eﬃ cient company. Sharpening the future In January we announced a series of actions that will help us to achieve this goal. We are creating a single global product organisation, combining our three previously separate lines of business. We are integrating our school, clinical and professional assessment operations in North America. We are reducing our exposure to large, direct delivery operations to focus on online, virtual, and blended services in a much more scalable, and proﬁ table way. Each of these changes will help us invest in fewer, bigger opportunities, and ensure that our world-class capabilities can be scaled to customers around the globe. We are also making productivity improvements across all our enabling functions like Technology, HR and Finance – as our product oﬀ ering and customer and employee support becomes more digital. We plan to rationalise our property portfolio and consolidate major supplier agreements to drive greater cost eﬃ ciency. As a result of these changes, we expect to reduce Pearson’s global workforce by around 4,000 roles, 10%(cid:98)of our headcount. These are decisions that we never take lightly and we are committed to supporting our colleagues during the transition. These actions will(cid:98)be complete by the end of 2016, and will reduce our(cid:98)annual running costs by around £350m. Importantly, they will also create a more focused, integrated business, better able to create and sell products across our markets to improve learning outcomes. This restructuring will give us the improved operational and ﬁ nancial ﬂ exibility to invest in growth areas and underpin shareholder returns. Our reach and impact Big changes in the education landscape will create big opportunities for Pearson to grow our reach and impact. There are huge unmet demands in global education that need to be addressed. In higher education, the number of students going to university worldwide is expected to increase by more than 50 million to 260 million by 2025. Every one of those students wants a degree that(cid:98)is more aﬀ ordable, more accessible and more likely to(cid:98)lead to a good job. One billion people will soon be learning English worldwide. School students and teachers increasingly expect to learn digitally. Section 1 Our business 07 So we plan to increase access to high quality education; ensure the success of all our learners against measurable outcomes; and to help more people around the world make progress in their lives – giving them the ability to secure a better job and a better life. As well as measuring the impact of individual products, we should also be measuring Pearson’s total impact on learning. We are committed to ambitious goals to expand our reach and impact over the next decade. We(cid:98)currently reach around 75 million learners each year. By 2025, our aspiration is to reach 200 million learners each year – more than doubling our reach. These ambitious goals will contribute not only to Pearson’s success, but to the societies of which we are a(cid:98)part. In 2015 Pearson joined other businesses and world leaders in committing to the UN’s Sustainable Development Goals (SDGs). The SDGs represent global challenges, many of which can be alleviated through better literacy and better education. In particular, Goal 4 of the SDGs, to ‘ensure inclusive and equitable quality education and promote lifelong opportunities for all’, is central to the work of every Pearson employee and the millions of teachers and students we work with around the world each year. To help maximise our contribution towards these goals, in 2015 we continued our strong commitment to sustainability, built new relationships with partners like Save the Children and supported a new coalition called Project Literacy. (Read more about Pearson’s social impact on pages 54-67.) We also invested in the Pearson brand in 2015 and it(cid:98)continues as an area of focus in the year ahead. Building a stronger brand will give us a better platform to reach more students and teachers, and act as a mark of quality as we develop and deliver new services across education. We have introduced a new visual brand capturing the curiosity and excitement of learning, which will unify Pearson’s portfolio of products and services over time. The new brand is represented in(cid:98) this annual report for the ﬁ rst time. Our long-term opportunity It’s clear that 2016 will be a tough year as we work through the substantial change programme outlined above. Our plan focuses on operational execution, tight(cid:98)cost management and a sharper strategy to return(cid:98)to growth. We will be faster, leaner and more agile as a result of the changes we are making. We(cid:98)expect our business to stabilise into 2017 and return(cid:98)to growth in 2018. We remain committed to the long-term opportunity for(cid:98)Pearson to provide high quality, aﬀ ordable and accessible education that leads to a better job and a(cid:98)better life. For many people, learning is the route to a(cid:98)job to support their family or to acquiring the skills to help them progress in their career. For others, it’s simply a passion for discovery that enriches their lives. All over the world, we hear parents say the same thing: they want to see a(cid:98)greater return on their investment in education, so(cid:98)that their children can gain skills, get better jobs and succeed in their lives. That remains a very compelling and exciting opportunity. This powerful motivating purpose is what drives Pearson’s business, which carries with it great responsibilities to learners as well as to you, our shareholders. In 2016, we are focused on delivering these responsibilities, and the plans laid out in this report explain how they will be achieved. We are conﬁ dent that they will ultimately make Pearson a(cid:98)simpler, stronger company, and that they set the company up for a sustained period of growth. We’ll(cid:98)keep you updated on our progress. Thank you for your ongoing support. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e John Fallon Chief executive My executive team Coram Williams Chief Financial Oﬃ cer Albert Hitchcock Chief Technology and Operations Oﬃ cer k Michael Barber Chief Education Advisor r Kate James Chief Corporate Aﬀ airs Oﬃ cer Tim Bozik President Global Product k Don Kilburn President North America Rod Bristow President Core Markets w Bob Whelan President Pearson Assessments Giovanni Giovannelli President Growth Markets Melinda Wolfe Chief Human Resources Oﬃ cer i F n a n c i a l s t a t e m e n t s 08 Pearson plc Annual report and accounts 2015 Our business model Creating value by developing products and services that meet learner needs most eff ectively. At the heart of this is our effi cacy strategy which over the long-term provides insight and data on the full impact of our products and services. From 2018 our effi cacy programme will be reporting on this. How our strategy aligns with value creation 1 2 Digital & services Plan and develop We combine our insights into market need with our global education expertise. This perspective informs the planning and development of all our teaching and learning products and services, driven by technology, and shapes those where we place the greatest investment. Market presence Market, sell and serve Our leading position in educational courseware and assessment enables us to build our capabilities in fast-growing related services. We use our experience and expertise across the business to develop scalable, successful products and services, always meeting learner needs. 3 Measurable outcomes Assess and provide insight We measure and assess the impact of our products and services on learner outcomes. This feeds into our global insights capabilities, enabling us to build a deep understanding of learners’ and customers’ needs, and develop world-class products and services. See a summary of our strategy on p04-05 Section 1 Our business 09 Capture insight Exploring customer and learner needs to identify opportunities. Develop strategy & plan Major product divisions integrated with geographic markets to set strategic priorities. Develop product Developed with insight from geographies to address speciﬁ c local needs. BLE O U T C S E M O T U R E S I G H T C P A I N A R U S A E . M 3 S S E S S A T C A P M I 1. D I G I T V E L D E ST R & P L A T O P E G A Y N A L & S E R V I C E S LEARNER OUTCOMES P R O D U C T D E V E L O P T & L M A R E L K E S 2. MARKET PR E S E N C E S E R VE Assess impact Measuring eﬃ cacy and understanding the learner informs all decisions made through the cycle. Serve Customer service and support is a shared responsibility with diﬀ erent owners at diﬀ erent stages. Market & sell Sales activity supported with guidance from global brand and marketing. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 10 Pearson plc Annual report and accounts 2015 Financial overview Coram Williams Chief ﬁ nancial oﬃ cer “ In 2015, Pearson’s sales decreased by £72m in headline terms to £4.5bn. Total adjusted operating proﬁ t rose £1m to £723m.” Sales (at CER) -5% Adjusted earnings per share +5% Operating cash ﬂ ow -33% Dividend per share +2% Business performance £ millions 2015 2014 Headline growth CER growth Underlying growth Sales 4,468 4,540 (2)% (5)% (2)% Adjusted operating proﬁ t Adjusted earnings per share Operating cash ﬂ ow 723 722 – (3)% (2)% 70.3p 66.7p 5% 435 649 (33)% Net debt (654) (1,639) 60% Statutory results £ millions 2015 2014 Headline growth CER growth Underlying growth Sales 4,468 4,540 (2)% Operating (loss)/proﬁ t (Loss)/proﬁ t before tax Proﬁ t for the year Basic earnings per share Cash generated from operations Dividend per share (404) 348 (433) 255 823 470 75% 101.2p 58.1p 74% 518 704 (26)% 52p 51p 2% a) Growth rates are stated on a constant exchange rate (CER) basis unless otherwise stated. Where quoted, underlying growth rates exclude both currency movements and portfolio changes. Unless otherwise stated, sales exclude FT Group, while total adjusted operating proﬁ ts include FT Group. Continuing operations exclude FT Group. b) The ‘business performance’ measures are non-GAAP measures and reconciliations to the equivalent statutory heading under IFRS are included in notes to the consolidated ﬁ nancial statements 2, 6, 7, 8 and 32, and the corporate and operating measures. Section 2 Our performance 11 Proﬁ t and loss statement Return on invested capital In 2015, Pearson’s sales decreased by £72m in headline terms to £4.5bn. Total adjusted operating proﬁ t rose £1m to £723m (2014: £722m). Currency movements, primarily from the depreciation of sterling against the US dollar during the period, increased sales by £137m and operating proﬁ ts by(cid:98)£22m. At constant exchange rates (i.e. stripping out the impact(cid:98)of those currency movements), our sales fell by(cid:98)5% primarily due to a change in revenue model at Connections Education which now records revenues charged at cost on a net basis; and adjusted operating proﬁ t fell by 3% due to revenue mix and an operating loss in our Growth segment. The net eﬀ ect of acquisitions, disposals and revenue model adjustments reduced sales by £129m and operating proﬁ ts by £9m. Stripping out the impact of portfolio changes and currency movements, revenues were down 2% in(cid:98)underlying terms while adjusted operating proﬁ t fell(cid:98)2%. Net interest payable in 2015 was £46m, compared to(cid:98)£64m in 2014. Our tax rate in 2015 was 15.5% compared to 17.9% in 2014. The decrease in both interest and tax was primarily due to agreement on(cid:98)historical tax positions and the release of associated(cid:98)accrued interest. Our return on average invested capital was 5.8% (2014: 5.6%) primarily due to lower operating cash tax paid. Statutory results Our statutory results showed a proﬁ t for the year after(cid:98)tax of £823m, including gains on the disposal of(cid:98)the Financial Times Group, The Economist Group and(cid:98)PowerSchool of £1,214m and an impairment of goodwill and intangibles of £849m, primarily reﬂ ecting trading pressures in our Growth and North America businesses. Included within the net gain on disposal is a £70m balance sheet write down on the disposal of(cid:98)PowerSchool, related to the reduced market opportunity for software (such as Pearson System of(cid:98)Courses and Schoolnet) which was to be integrated with PowerSchool and the recognition that adoption of(cid:98)such software in US Schools is now unlikely to occur at the rate originally envisaged. Balance sheet Our net debt decreased to £654m (2014: £1,639m) primarily reﬂ ecting the disposals of the Financial Times, The Economist Group and PowerSchool and an increased dividend from Penguin Random House, oﬀ set by the strengthening of the US dollar relative to sterling, a higher group dividend and higher working capital. Pearson’s net debt/EBITDA ratio decreased from 1.9x in 2014 to 0.8x in 2015 and our interest cover increased from 11.3x to 15.7x. Adjusted earnings per share were 70.3p (2014: 66.7p). Dividend The Board is proposing a ﬂ at ﬁ nal dividend of 34p, which results in a 2% increase in the overall 2015 dividend to 52p, subject to shareholder approval. Cash generation Headline operating cash ﬂ ow decreased by £214m to £435m as a result of challenging trading and disposals. Operating cash conversion fell from 90% in 2014 to 60% in 2015 due to: a mismatch between cash and accrued incentive compensation as a result of lower incentive compensation awards for 2015 when compared to 2014; capital expenditure greater than depreciation due(cid:98)to investments in our enabling function technology designed to lower administrative costs; an increase in(cid:98)US Higher Education textbook returns; and pension top-up payments as a result of a triennial valuation. These factors were partly oﬀ set by an increased dividend payment from Penguin Random House. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 12 Pearson plc Annual report and accounts 2015 Financial overview continued 2016 outlook Trading conditions In 2016, we expect to report adjusted operating proﬁ t before restructuring costs of between £580m and £620m. This reﬂ ects the impact of: the in-year beneﬁ ts from restructuring oﬀ set by the loss of operating proﬁ t from disposals made in 2015, ongoing challenging conditions in our largest markets, the reinstatement of(cid:98)the employee incentive pool and other operational factors (including dual running costs as we rationalise our technology infrastructure, cost inﬂ ation and increased pre-publication amortisation relating to new product launches). We expect adjusted earnings per share to be between 50p and 55p, after a normalised interest charge of approximately £60m and a tax rate of approximately 19%. In 2016, we are excluding the one-oﬀ cost of our major restructuring from adjusted operating proﬁ t and earnings per share to better reﬂ ect the underlying earnings potential of the business. Operating proﬁ t after restructuring charges is expected to be in the £260m to £300m range. This guidance is based on our current portfolio of businesses and exchange rates on 31 December 2015. The major factors behind this guidance are as follows: While we expect to achieve continued good growth in areas such as virtual schools and online programme management, we anticipate trading conditions to remain challenging in our major markets in 2016. North America In North America, our largest market, we anticipate US college enrolments will be ﬂ at given forecast modest improvements in US employment; a smaller adoption market in K-12 learning services and lower participation rate partially oﬀ set by growth in open territories driven by new products; reduced testing revenues in North America reﬂ ecting State and National Assessment contract losses worth approximately £100m announced in 2015; and growth in clinical assessments and professional certiﬁ cation. Core In our Core markets (which include the UK, Italy and Australia), we expect declines in vocational course registrations in UK schools, ongoing pressure in our various learning services businesses, partially oﬀ set by(cid:98)growth in managed services in Australia and the UK. At VUE, we will cease to deliver the contract to administer the UK Driving Theory test for the DVSA in(cid:98)September 2016. Growth In our Growth markets (which include Brazil, China, India and South Africa), we expect continued pressure in South Africa on government spending on textbooks and lower enrolments in CTI, macro-economic pressures in emerging markets, speciﬁ cally China and Brazil, oﬀ set by growth from new products such as our Wall Street English new student experience. Penguin Random House In Penguin Random House, we anticipate that additional beneﬁ ts from the ongoing integration of(cid:98)the(cid:98)business will be broadly oﬀ set by reduced demand for ebooks, following industry-wide changes in(cid:98)terms in 2015. Section 2 Our performance 13 To implement this programme, we will incur costs of approximately £320m in 2016 and expect to generate annualised savings of approximately £350m, with approximately £250m of savings in 2016 and a further £100m of savings in 2017. We have already implemented a number of signiﬁ cant associated actions since announcing the programme in January. Currency movements In 2015, Pearson generated approximately 63% of its sales in the US, 6% in Greater China, 5% in the Eurozone, 3% in Brazil, 2% in Canada, 2% in Australia, 2% in South Africa and 1% in India and our guidance is based on exchange rates at 31 December 2015. Interest and tax We expect our interest charge to be approximately £60m, with lower average net debt levels oﬀ set by the(cid:98)absence of released accrued interest payments following agreement on historical tax positions. We(cid:98)expect a tax rate of approximately 19% on our total(cid:98)proﬁ t before tax (which includes the post-tax contribution from Penguin Random House). Coram Williams Chief ﬁ nancial oﬃ cer O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e Portfolio changes We completed the sale of PowerSchool on 31 July 2015 for £222m; the sale of the Financial Times on 30(cid:98)November 2015 for £858m; and substantially completed the sale of our 50% stake in The Economist Group on 16 October 2015 for £469m. In addition we disposed of Fronter and a number of print textbook lists in the US. Total disposals contributed approximately £90m to 2015 operating proﬁ t which will(cid:98)not recur in 2016. Other operational factors Dual running costs from technology implementations, increased investment amortisation from new product launches and cost inﬂ ation will increase costs by approximately £90m in 2016 when compared to 2015. Incentive compensation Group incentive compensation was zero in 2015 reﬂ ecting the weakness of performance versus budget. The incentive pool will be reinstated to £110m in 2016 to(cid:98)ensure our workforce is incentivised to sustain its strong competitive performance and to implement a signiﬁ cant programme of change within the company. Restructuring Building on the work we have done over the last three years, we are taking further action to simplify our business, reduce our costs and position Pearson for growth in our major markets. We will: create a single courseware product organisation; integrate our North America assessment operations; reduce our exposure to large scale direct delivery and focus on more scalable online, virtual, and blended services; implement major eﬃ ciency improvements across all our enabling functions - technology, ﬁ nance, HR; and rationalise our property portfolio and renegotiate and consolidate major supplier agreements. i F n a n c i a l s t a t e m e n t s 14 Pearson plc Annual report and accounts 2015 Key performance indicators Five-year performance Financial objectives KPI Maintain long-term growth Sales Sales fell 5% at CER in 2015 and have grown over the last ﬁ ve years at an average annual rate of over 1%, reﬂ ecting good long-term growth in digital and services businesses and acquisitions in the global education market, partially oﬀ set by a shift to subscription revenues, recent cyclical and policy factors and adverse exchange rate movements in emerging markets. Performance +1.2% Total adjusted operating proﬁ t Total adjusted operating proﬁ t fell 3% in 2015 at CER and has fallen at a compound annual rate of 5.1% since 2010 reﬂ ecting good long-term growth in digital and services oﬀ set by the sale of businesses, recent cyclical and policy factors and adverse exchange rate movements in emerging markets. -5.1% Deliver sustainable returns Total adjusted earnings Total adjusted earnings per share is up 5% year-on-year in 2015, reﬂ ecting portfolio changes, exchange rate movements and a lower tax rate. Over ﬁ ve years EPS has declined at an average annual rate of 1.9% reﬂ ecting good long-term growth in our digital and services businesses oﬀ set by declines in print, portfolio changes, cyclical and policy factors and adverse exchange rate movements in emerging markets. -1.9% Return on invested capital ROIC grew 0.2% to 5.8% in 2015 and was aﬀ ected by a lower tax charge. ROIC has fallen from 10.2% in 2010. We expect ROIC to improve as we deliver the plans for simpliﬁ cation and growth that we announced in January and make progress towards our 2018 goals. -4.4 percentage points Total shareholder return TSR in 2015 was -36% which compares to a -1% return on the FTSE 100 Index of large UK listed companies. Over ﬁ ve years, Pearson has returned approximately -11%, well behind the return on the FTSE 100 Index of 27% over the same period. Our recent shareprice performance has been disappointing but we are conﬁ dent that the plans and strategy laid out in this report will make Pearson a simpler, stronger company, and that they set the company up for a sustained period of growth and value creation. -11.2% Dividends per share We increased dividends in comparison to 2014 by 2% to 52p, our 24th straight year of increasing our dividend above the rate of inﬂ ation. Pearson plans to hold its dividend at the 2015 level whilst it rebuilds cover, reﬂ ecting the Board’s conﬁ dence in the medium term outlook. +6.1% Manage our cash position effectively Operating cash ﬂ ow Operating cash ﬂ ow fell to £435m in 2015, reﬂ ecting an increase in(cid:98)capital investment in new simpliﬁ ed systems, higher returns in our US higher education business due to de-stocking at one major retailer, weaker trading and pension top-ups partly oﬀ set by an increased dividend from Penguin Random House. Over ﬁ ve years operating cash ﬂ ow has declined at an average annual rate of over 16% per annum, reﬂ ecting good long-term growth in our digital and(cid:98)services businesses oﬀ set by declines in print, portfolio changes, recent cyclical and policy factors and adverse exchange rate movements. -16.3% Section 2 Our performance 15 Strategic objectives Data/Progress Transform to digital and services Digital and services revenue share 2010: 46.5% 2015: 65.0% £2.1bn £2.9bn Grow presence in emerging markets Emerging markets revenue share 2010: 11.3% 2015: 16.4% £475m £734m Deliver measurable impact (Efficacy) › Reporting programme on track for 2018 › Growth and impact goals set for 2025 Product improvements identiﬁ ed by eﬃ cacy reviews are being implemented on track with plans 95% See strategic growth drivers on p04-05 Non-ﬁ nancial measures Deliver gender balance Gender diversity Men Women Board 7 70% 3 30% Senior managers (excl executive board directors) 68 66% 35 All employees 16,781 41% 24,260 34% 59% Reduce our carbon footprint Global Greenhouse Gas (GHG) emissions Metric tonnes CO2e O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e Maintain community investment 2015 110,724 -15% 2014 129,742 (cid:20)(cid:8)(cid:3)(cid:82)(cid:85)(cid:3)(cid:80)(cid:82)(cid:85)(cid:72)(cid:3)(cid:82)(cid:73)(cid:3)(cid:83)(cid:85)(cid:72)(cid:16)(cid:87)(cid:68)(cid:91)(cid:3)(cid:83)(cid:85)(cid:82)(cid:564)(cid:87)(cid:86) 2015 2014 2013 2012 2011 2010 1.5% (£10.7m) 2.0% (£14.4m) 1.5% (£11.4m) 1.2% (£11.5m) 1.2% (£13.1m) 1.6% (£10.5m) See Our social impact section on p54-67 i F n a n c i a l s t a t e m e n t s Data/Progress Sales 2010-2015 £m 6,000 5,000 4,000 3,000 2,000 1,000 0 10 11 12 13 14 15 (cid:36)(cid:71)(cid:77)(cid:88)(cid:86)(cid:87)(cid:72)(cid:71)(cid:3)(cid:82)(cid:83)(cid:72)(cid:85)(cid:68)(cid:87)(cid:76)(cid:81)(cid:74)(cid:3)(cid:83)(cid:85)(cid:82)(cid:564)(cid:87)(cid:3)(cid:21)(cid:19)(cid:20)(cid:19)(cid:16)(cid:21)(cid:19)(cid:20)(cid:24) £m 1,000 800 600 400 200 0 10 11 12 13 14 15 Adjusted earnings per share Pence 2015 2014 2013 2012 2011 2010 70.3p 66.7p 70.1p 82.6p 86.0p 77.5p Return on invested capital % 2015 2014 2013 2012 2011 2010 5.8% 5.6% 5.4% 9.1% 9.0% 10.3% TSR: Five-year change % Pearson FTSE 100 FTSE All-Share FTSE All-Share Media STOXX 600 Media -11.2% 44.8% 51.8% 122.1% 107.5% (cid:39)(cid:76)(cid:89)(cid:76)(cid:71)(cid:72)(cid:81)(cid:71)(cid:3)(cid:83)(cid:72)(cid:85)(cid:3)(cid:86)(cid:75)(cid:68)(cid:85)(cid:72)(cid:3)(cid:76)(cid:81)(cid:3)(cid:564)(cid:86)(cid:70)(cid:68)(cid:79)(cid:3)(cid:92)(cid:72)(cid:68)(cid:85) Pence 2015 2014 2013 2012 2011 2010 52.0p 51.0p 48.0p 45.0p 42.0p 38.7p (cid:50)(cid:83)(cid:72)(cid:85)(cid:68)(cid:87)(cid:76)(cid:81)(cid:74)(cid:3)(cid:70)(cid:68)(cid:86)(cid:75)(cid:3)(cid:565)(cid:82)(cid:90) £m 2015 2014 2013 2012 2011 2010 £435m £649m £588m £788m £983m £1,057m 16 Pearson plc Annual report and accounts 2015 Section 2 Our performance 17 Operating performance overview Developing for access, delivering for outcomes Education is a sector with large growth opportunities for Pearson. The rise of digital and the need for eﬀ ective learning which better equips students for their future careers are trends which will beneﬁ t us in the long term. Pearson has world class capabilities and products in educational courseware and assessment, powered by learning technology. By combining these capabilities with digital teaching and learning services, we help schools, universities and others to scale online, reach more people and ensure better learning outcomes. Our primary segments for management reporting are Geographies (North America, Core and Growth), as this is how we drive business performance. This is how we reach learners, through content and digital services in individual classrooms; through broad partnerships with public and private education institutions and, in certain markets, by directly expanding capacity through our own schools and colleges. O O u u r r b b u u s s i i n n e e s s s s O O u u r r p p e e r r f f o o r r m m a a n n c c e e O O u u r r S S o o c c i i a a l l i i m m p p a a c c t t G G o o v v e e r r n n a a n n c c e e i i F F n n a a n n c c i i a a l l s s t t a a t t e e m m e e n n t t s s 18 Pearson plc Annual report and accounts 2015 Section 2 Our performance 19 Operating performance Geography North America Sales £2.9bn Adjusted operating proﬁ t £480m Revenues grew 1% in headline terms, due to the depreciation of sterling against the US dollar, but fell by 5% at CER and 1% in underlying terms. In School, strong enrolment growth in Connections Education, good growth in clinical assessment and market share gains in courseware were oﬀ set by the impact of a smaller textbook adoptions market and weakness in the open territories in K-12 courseware, and a change in revenue model at Connections Education which records revenue for services charged at cost on a net basis. In Higher Education, market share gains in courseware were oﬀ set by lower enrolments (total US college enrolments fell 1.7%, with combined two-year public and four-year for-proﬁ t enrolments declining 4.4%, aﬀ ected by a rising employment rate and regulatory change aﬀ ecting the for-proﬁ t and developmental learning sectors), higher textbook returns and list sales. Strong enrolment growth at Pearson online services was oﬀ set by lower revenues from Learning Studio, a higher education learning management system that we are retiring, and the impact of a change in revenue model. In Professional, revenues grew strongly at VUE due to higher volumes of professional certiﬁ cation assessments. Adjusted operating proﬁ ts rose 8% in headline terms due to currency movements, fell 1% at CER and were up 1% in underlying terms, with contract losses in school assessment and an adverse revenue mix oﬀ set by tight cost control and the proﬁ t on sale of lists. Read about Tremayne and the General Education Degree on p20 O O u u r r b b u u s s i i n n e e s s s s O O u u r r p p e e r r f f o o r r m m a a n n c c e e O O u u r r S S o o c c i i a a l l i i m m p p a a c c t t G G o o v v e e r r n n a a n n c c e e i i F F n n a a n n c c i i a a l l s s t t a a t t e e m m e e n n t t s s 20 Pearson plc Annual report and accounts 2015 Operating performance continued North America continued School Connections Education, our virtual school business served over 68,000 full time equivalent students through full-time virtual and blended school programmes in 2015, up 11% from 2014 as a result of underlying growth and a new statewide school in North Carolina. Connections manages 30 virtual public schools with three new, full-time state-wide virtual public schools approved for the 2016-17 school year to serve students in Arkansas, Washington and New Mexico. In its annual Parent Satisfaction Survey, 93% of parents of students enrolled in full-time online partner schools “recommend” Connections to other families. In courseware, revenue declined year-on-year despite strong market share performance, primarily due to a smaller overall adoption market as compared to 2014. Overall market share increased slightly driven by a strong performance in new adoption markets where we won 31% (2014: 25%) of new adoptions competed for, or 29% (2014: 25%) of the total new adoption market of $730m in 2015 (2014: $910m), led by a strong performance in Grades K-6 Social Studies in Texas and Indiana, and in Grades K-6 Science in Oklahoma. We expanded iLit, our digital reading intervention programme, covering a broader range of students including English language learners. Research studies show that students using iLit gain two or more years of reading growth in a year using this tablet-based programme (http://pear.sn/PErhf). We launched ReadyGEN, a K-6 reading series and enVisionMATH2.0, the newest oﬀ ering in the highly successful enVisionMATH K-6 maths programme. In State and National Assessments, revenues for the full year declined due to contract losses. High-stakes online test volumes grew strongly, up 130% on 2014 to 26.4(cid:98)million, as customers transitioned to computer- based testing. Paper-based high-stakes test volumes grew 3% to 32.7 million. Pearson successfully delivered English Language, Arts and Math PARCC assessments to 5.1 million students across ten states and the District of Tremayne, General Education Degree graduate, US Living in Maryland in the United States, Tremayne was 19 years old when he realised that dropping out of high school was a big mistake. “I realised that without a high school diploma or GED no one would hire me”. He knew he needed a change, so he turned to the GED Testing Service to(cid:98)help him and found the MyGED portal ﬁ t well with his lifestyle, “having the GED portal online was very convenient, very quick. I used to access it on my phone.” Tremayne successfully passed the test and is looking forward to exciting new opportunities, “when I received my(cid:98)diploma, I was so proud of myself.” “I wasn’t used to accomplishing much in life and realised that I could do anything I put my mind to.” He’s been accepted into a local community college in Maryland and plans to transfer to a four-year school to study engineering. He hopes one day to start his own construction business. Columbia. ACT Aspire delivered Common Core aligned college and career readiness assessments to 1.3 million students up 67% from 2014 and was chosen for three new state-wide deployments in 2016. The states of Arkansas, Mississippi and Ohio will discontinue PARCC assessments in 2016. We were awarded contracts to deliver the Indiana Statewide Test of Educational Progress (ISTEP); renewed the Puerto Rican Tests of Academic Achievement (PPAA) and parts of the assessments contract awarded by the Texas Education Agency; and extended our contracts to administer the Mississippi Science Test and Mississippi Subject Area Testing Program. We ceased to administer the majority of the current Texas STAAR contract in September 2015. Pearson extended its partnership with the College Board for the SAT assessment with the award of a ﬁ ve- year contract for processing of the redesigned SAT and PSAT assessments. Pearson will continue to provide the essay-scoring component for the SAT until March 2016. Clinical assessment grew well, beneﬁ ting from continued growth of the ﬁ fth edition of the Wechsler Intelligence Scale for Children (WISC-V), strong growth in Behavior Assessment for Children 3e (BASC) and rapid growth in Q-Interactive, Pearson’s digital solution for clinical assessment administration with geographic expansion and continued strong growth in active users to over 9,000 from 4,000 in 2014 with test administrations up over 400% to 1.3 million sub-tests. Section 2 Our performance 21 Bradford, High school student, US Bradford attends Hart-Ransom Academic(cid:98)Charter High School, an independent-study high school, which uses Connections Learning for its online learning curriculum. Now in the 11th grade, Bradford likes the online curriculum’s rigour, and has taken advantage of Connections Learning’s(cid:98)ﬂ exibility and self-paced learning to accelerate(cid:98)his education. “It deﬁ nitely challenges me academically, and thanks to the online learning, I can pace myself exactly how I need to be paced.” Bradford appreciates the personal attention he’s received(cid:98)from his online learning teachers, like his Spanish teacher, who he talks to on the phone, and his(cid:98)Maths teacher, who meets him virtually in the LiveLesson room. “I really like how involved the teachers are with the students.” +11% Connections Education served over(cid:98)68,000 Full Time Equivalent students through full-time virtual and blended school programmes in(cid:98)2015, up 11% from 2014 O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 22 Pearson plc Annual report and accounts 2015 Operating performance continued North America continued REVEL Sterling, University student, US Sterling is currently a junior in the business school at Texas A & M University and is majoring in marketing. To fulﬁ l a prerequisite for upper-level business classes, Sterling took a State government course online last summer, using REVEL, Pearson’s interactive learning programme for the humanities and social sciences. “I learned so much in the course because it wasn’t the same thing every time you ﬂ ipped the page,” Sterling explained. “There would be a graph, then a video, and then a picture. And you could get involved with some of the animations.” “I really loved that it was so interactive, because it inﬂ uenced how well I learned and how quickly I picked up the material.” 11m REGISTER In North America, digital registrations grew 3% to almost 11 million with good growth in Science, Business & Economics, Statistics, REVEL and skills applications like Pearson Writer Higher Education Gross courseware revenues fell 1.5% (compared to industry gross revenue declines of 2.7%), due to lower college enrolments oﬀ set by market share gains. Net revenues declined 5.7% (compared to industry net declines of 7.5%) reﬂ ecting the impact of higher returns. Our market share in courseware beneﬁ ted from strong performance from key titles including: Hubbard Economics 5e, Hibbeler Engineering Mechanics 14e and Marieb Human Anatomy & Physiology 10e. Global digital registrations of MyLab and related products grew 3% to nearly 13 million. In North America, digital registrations grew 3% to almost 11 million with good growth in Science, Business & Economics, Statistics, REVEL and skills applications like Pearson Writer, oﬀ set by softness in developmental Mathematics. Faculty-generated case studies indicate that the use of MyLab programmes, as part of a broader course redesign, can support improvements in student test scores and lower institutional cost (http://pear.sn/IZxLE). We launched a suite of features that include Adaptive Practice in our MyLabs to personalise subjects including Mathematics and Nursing practice, Predictive Analytics Early Alerts in Mastering to help science instructors support at-risk students, gamiﬁ cation features in Business and rich learning analytics dashboards in numerous products that oﬀ er deep insight into students’ progress, performance and engagement. Section 2 Our performance 23 In Pearson online services, our higher education Online Program Management (OPM) business, course enrolments grew strongly, up 25% to over 265,000, boosted by strong growth in Arizona State University Online where we renewed our partnership at the start of 2015. We extended our collaboration with Maryville University to launch a Bachelor and Master’s in Cybersecurity and a Doctorate in Leadership. Ohio University is partnering with Pearson to launch a Master’s in Financial Economics and Public Relations. University of Nevada Reno is partnering to increase access to the Master of Social Work degree programme online. Pearson launched a new managed programmes service model with Cincinnati State Technical and Community College, adapting traditional OPM services to the Community College market signing a landmark ten-year agreement to provide marketing, recruiting, admission and retention services both to online and ground-based programmes. In enterprise solutions, Pearson signed signiﬁ cant large-scale, enterprise adoptions of cross-discipline digital content, where content is purchased via an upfront course fee and integrated with university IT systems, with Jones County College, National University, Algonquin College and the University of Missouri system. We signed an expanded strategic partnership agreement with Southern New Hampshire University’s (SNHU) College of Online and Continuing Education (COCE). Pearson will support curriculum development, online tutoring, enterprise-wide content and data integration, ebooks with a print-on-demand option and data and analytics services, which will provide greater visibility into students’ achievement of learning outcomes. The Charles A. Dana Center at The University of Texas at Austin is collaborating with Pearson to provide webbased course resources to community colleges across Texas that dramatically shorten the time it takes for students to earn college credit in mathematics as part of the New Mathways Project. Three courses were launched in 2015: Foundations Mathematical Reasoning, Statistics Reasoning and Quantitative Reasoning, with more planned in 2016. Pearson was named as the premier US Green Building Council Education Partner and will oﬀ er curriculum and course services to universities, associations, training companies, corporations, and workforce education and apprenticeship programmes. We are partnering with Broward College to launch new competency-based workforce certiﬁ cation pathways focused on IT and Healthcare. Pearson will support Broward’s strategy by providing 12 industry certiﬁ cations with existing workforce education courseware, as well as curriculum development services to build new courses towards certiﬁ cation and the Acclaim badging platform. Professional In professional certiﬁ cation, VUE global test volumes grew 11% year-on-year to 14.2 million, boosted by continued growth in IT, Professional and GED, with increased volumes from Microsoft Certiﬁ ed Professional (MCP) Program globally, National Council of State Boards of Nursing and US teacher certiﬁ cation programmes. VUE renewed the Certiport Microsoft Oﬃ ce Specialists and Microsoft Technology Associate programmes for an additional year and extended our partnership with Cisco Systems for three and a half years. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 24 Pearson plc Annual report and accounts 2015 Operating performance continued Geography Core Sales Adjusted operating proﬁ t £836m £114m Revenues declined by 8% in headline terms, 5% at CER and in underlying terms. Growth in Pearson online services in Australia, Wall Street English in Italy, Clinical Assessment in Germany and the Pearson Test of English in Australia was more than oﬀ set by revenue declines in UK qualiﬁ cations as the business nears the end of a period of policy change, revenue declines at VUE, phasing and market weakness in Australian higher education courseware and the focusing of our UK school courseware on products that directly support Pearson Qualiﬁ cations. Adjusted operating proﬁ t (excluding the FT, The Economist and Mergermarket) declined 2% in underlying terms due to lower revenue oﬀ set by tight cost control. Section 2 Our performance 25 Read about Sarah and Pearson College on p26 O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 26 Pearson plc Annual report and accounts 2015 Operating performance continued Core continued School In assessment, UK qualiﬁ cations have been impacted by government policy, where changes to accountability measures have led to a further 20% decline in BTEC registrations in 2015. GCSE and GCE entries for summer 2015 grew modestly compared with 2014, resulting from increases in GCSE registrations in Sport, ICT and Business and strength in iGCSE entries. We successfully delivered the National Curriculum Test for 2015, marking 4 million scripts from 1.7 million students and successfully transitioned the marking of the test to an online-only model. In courseware, UK School revenue fell with growth in primary school more than oﬀ set by declines in secondary, as the vocational market contracted and our upper secondary revenues were impacted by lower market participation as we focus on products that directly support our qualiﬁ cations. More than 5,400 UK schools now subscribe to at least one Bug Club service, our primary school blended reading programme, representing growth of nearly 16% in the year. There are over 1.8 million pupils, more than 9,000 schools and 152,000 teachers currently using a service on ActiveLearn Primary. Italy revenues declined slightly with market share gains in primary oﬀ set by market weakness and a lower share in upper secondary. Australia revenues declined, with growth and increased market share in primary more than oﬀ set by a weaker secondary market. Clinical assessment grew well with Germany beneﬁ ting from strong growth in Kaufman Assessment Battery for Children (K-ABC), partly oﬀ set by declines in Australia, after a strong year in 2014 driven by the release of Wechsler Primary and Preschool Scale of Intelligence IV. P E A R S O N C O L L E G E L O N D O N P E A R SON V U E Sarah, Pearson College London student, UK Noel, Pearson VUE customer, UK Sarah works in the marketing team at Nestlé, having graduated from Pearson College London last September. She says “Education gave me the conﬁ dence to take a step back from a career path that I was unhappy with and ﬁ nd a new direction. It gave me the ﬂ exibility to study a full degree in two years which enabled me to get back on my career ladder as soon as possible.” “Pearson College London gave me the skills to impress at interview, the knowledge to succeed in my new role and the conﬁ dence to apply in the ﬁ rst place.” “Through the(cid:98)degree, and the environment, I was able to understand what I wanted from a career and ﬁ nd the(cid:98)right move for me.” The Chartered Institute of Management Accountants (CIMA) has worked in partnership with Pearson VUE to transform its portfolio of professional-level exams from pen and paper to computer-based testing. Noel Tagoe, Executive Director of CIMA, says: “By maximising the opportunities oﬀ ered through technological advances in(cid:98)computerised assessment, we can access a wide range(cid:98)of testing methods, assess a variety of skills and competencies at diﬀ erent levels, and oﬀ er much greater ﬂ exibility for where and when examinations are taken. All(cid:98)of which will be of tremendous beneﬁ t to both students and, importantly, employers. These changes will take full(cid:98)advantage of the role that technology plays in the lives(cid:98)of the younger generation, and reﬂ ect the evolution in(cid:98)the workplace.” Section 2 Our performance 27 Higher Education Professional The Pearson Test of English Academic (PTEA) saw strong growth in test volumes and revenues after gaining approval from the Australian Department of Immigration and Border Protection to administer a broad range of language tests linked to visa applications. Wall Street English revenues fell slightly with strong growth in Italy oﬀ set by declines in Germany. In courseware, UK revenues declined, primarily due to a weak market. In Australia, revenues declined signiﬁ cantly due to phasing and market weakness. In online services, our Australian University Partnerships business grew strongly with combined course enrolments of nearly 4,000, up 380% from 2014. The growth of our partnership with Monash University was led by the Graduate Diploma in Psychology, which is now one of Monash’s largest postgraduate courses. Our new partnership with Griﬃ th University started very strongly, seeing consistent demand for the MBA programme and the launch of two further courses. Kings College London partnered with Pearson to launch online postgraduate degree programmes in Psychology and Law. Total enrolled students at Pearson College doubled to 232. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e Stephanie, Winner of Outstanding BTEC Student of the Year Award 2015, UK Stephanie studied a Level 3 Diploma in Health and Social Care at Penwith College in the UK. She is passionate about helping others and her outstanding achievements in college and in the local community marked her out to the(cid:98)BTEC Award judges as truly outstanding. Stephanie supported herself ﬁ nancially with paid employment as a community carer alongside her BTEC. She(cid:98)juggled long working hours with her studies, yet still far(cid:98)exceeded the 100-hour work experience requirements of her course, completing a range of placements in hospital wards, care homes and day care centres. She also participated in many local voluntary projects working with individuals in her community who are isolated and lonely. i F n a n c i a l s t a t e m e n t s 28 Pearson plc Annual report and accounts 2015 Section 2 Our performance 29 Operating performance continued Geography Growth Sales Adjusted operating loss £692m -£12m Revenues fell 4% in headline terms, were ﬂ at at CER and fell 1% in underlying terms. In China, revenues grew modestly reﬂ ecting strong sales of premium services in our direct delivery English Language Learning businesses oﬀ set by list disposals. In Brazil, revenues were stable with good growth in private sistemas and language schools, oﬀ set by declines in(cid:98)government funded sistemas and language schools. In South Africa, revenues declined signiﬁ cantly due to a smaller textbook adoption cycle and lower enrolments at CTI, due to a reduction in the number of qualiﬁ ed students graduating from high school and tightening consumer credit aﬀ ecting re-enrolment rates. In the Middle East, our business was impacted by the withdrawal from the Saudi Arabian Colleges of Excellence. Adjusted operating proﬁ t decreased £44m to a loss of(cid:98)£12m due to the strengthening of Sterling against key Emerging Market currencies, revenue declines in(cid:98)South Africa, a contract termination charge arising from the transition of our three Saudi Colleges to new providers, cost inﬂ ation and additional investment in China; partially oﬀ set by the beneﬁ ts of restructuring and integration in Brazil. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s Read about Mpho and MGI on p30 30 Pearson plc Annual report and accounts 2015 Operating performance continued Growth continued School In South Africa, there was continued pressure on Government spending on textbooks due to budget pressures, which resulted in the value of the textbook market falling 60% from a peak of R2.9bn in 2013 to an estimated R1.15bn in 2015. We continued to perform well competitively and maintained a leading market share. In Brazil, sistemas revenues grew well with strong growth in private sistemas partly oﬀ set by declines in NAME, our public sistema, following the cancellation of a large contract as a result of government spending cuts. Overall sistema enrolments fell 7% to nearly 449,000 with declines in NAME partly oﬀ set by growth in our three private sistemas, led by our largest sistema, COC. More than half of COC schools that participated in the High School National Exam (ENEM) ranked among the top three schools in their municipalities. Mpho, MGI graduate, South Africa Mpho Nethengwe is a 28 year-old MGI graduate who is now a Writing and Communication Skills and English Lecturer at her alma mater in Midrand. She says: “The skills I acquired at MGI made it easier for me to step into my role in the working world. I am able to take on every challenge as it comes, to reﬂ ect on, evaluate and improve on what to do in order to remain productive.” Mpho has ambitions of putting her learning and experience into practice, even exploring a possible future(cid:98)career in communications at Pearson. We think she’d be a real asset. In India, enrolments at our managed schools grew 14% to nearly 27,000 students and we launched a pilot in more than 60 schools of MyPedia, an inside service ‘sistema’ solution for schools comprising print and digital content, assessment and academic support services. Middle East school courseware and professional development revenues grew strongly on improved distribution. Higher Education In South Africa, after strong growth over a number of years, student enrolments at CTI universities fell by 16% to 11,300 driven by a 13% decline in qualiﬁ ed graduating high school students and tightening consumer credit aﬀ ecting re-enrolment rates. In Mexico, our fully accredited online university partnership, UTEL, increased the number of students enrolled by 34% to nearly 12,600. +14% Enrolments at our managed schools in India grew 14% Section 2 Our performance 31 +34% In Mexico, our fully accredited online university partnership, UTEL, increased the number of students enrolled by 34% In India, Higher Education courseware revenues grew strongly. Cornell University partnered with Pearson to launch the Cornell-ILR Experienced Managers Programme in India, with a blended learning approach combining online and in-person instruction. In the Middle East, our three-year partnership with Taibah University in Saudi Arabia, to enable its transformation to a fully blended and personalised learning model, is progressing with over 4,000 students enrolled in our solution in 2015. Our partnership with the Preparatory Year Deanship at Um Al Qura University (PYP-UQU), to provide online learning and assessment technology has delivered 13,000 MyMathLab, MyITLab and MasteringPhysics licences. We withdrew from an agreement to run three Saudi Arabian Colleges of Excellence, with the colleges transitioning to new providers from 30 June 2015. This resulted in a termination charge. Alvir, English student, Brazil Alvir is a 17 year-old who has been studying at Wizard for three years. In the beginning, studying English was only a way to remember his father, who used to love the language. But studying evolved into something bigger and helped him to achieve his goals; he got his ﬁ rst job as an assistant teacher at Wizard, and took the TOEIC exam, achieving the maximum 990 points. Alvir says that English has helped him to meet new people and now his goal is to(cid:98)live abroad some day. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 32 Pearson plc Annual report and accounts 2015 Operating performance continued Growth continued Professional In Pearson English, good growth in direct delivery in China, private expenditure in language schools in Brazil, and English Language Teaching (ELT) was partly oﬀ set by the impact of lower public expenditure in language schools in Brazil. In China, Wall Street English (WSE) achieved strong revenue growth, reﬂ ecting success in the premium segment and the growth in VIP branded oﬀ erings. Overall enrolments grew modestly to over 67,000 with new enrolments growing strongly. We launched the New Student Experience (NSE) in six pilot centres during December 2015. The NSE delivers a major upgrade to the Wall Street English service with adaptive, personalised learning incorporating Pearson’s Global Scale of English. Global Education achieved moderate revenue growth as the market shifted to more intensive premium courses with smaller class sizes and new products, which resulted in enrolments declining 6.5% to 85,110. We launched around 30 new MyEnglishLab products including Top Notch 3e and Progress. MyTOEFLLab and the second edition of MyIELTSLab successfully launched in China in WSE and Global Education. Global student registrations for MyEnglishLab and other ELT digital courseware grew 14% to 739,000. Pearson Test of English grew strongly in India. Grupo Multi in Brazil saw strong revenue growth at Wizard, our consumer-facing franchised English language learning business, but this was oﬀ set by declines in government orders due to public spending cuts. We opened 40 new school-in-school units for Multi English franchises in K-12 sistemas partner schools. Angelina, Wall Street English graduate, China Angelina runs a wedding planning company in Shenzhen, China. Learning English with Wall Street English has enabled her to attract more international clients. She is now qualiﬁ ed with a top wedding planning institution in North America and is realising her dream of giving couples their perfect wedding memories. Section 2 Our performance 33 Penguin Random House Pearson owns 47% of Penguin Random House, the ﬁ rst truly global consumer book publishing company. Penguin Random House had a strong performance in 2015, boosted by publication of hundreds of Adult and Children’s bestsellers across its territories, including the ﬁ ction mega-successes of Grey and The Girl on the Train, which each sold over 7 million copies worldwide. The US business published 584 New York Times print and ebook bestsellers in 2015 (2014: 760, based on a broader New York Times title count than 2015). The division beneﬁ ted from the multi-million copy successes of Grey by E L James and the Adult debut novel The Girl on the Train by Paula Hawkins. Children’s authors who extended their outstanding sales in 2015 include Dr. Seuss, John Green, R.J. Palacio, James Dashner, Rick Yancey, Drew Daywalt, and Oliver Jeﬀ ers. Additional notable Adult titles include The Life-Changing Magic of Tidying Up by Marie Kondo; Rogue Lawyer by John Grisham; Lost Ocean by Johanna Basford; Between The World and Me by Ta-Nehisi Coates; and the movie tie-in paperback The Martian by Andy Weir. The UK business published 201 titles on the Sunday Times bestseller lists (2014: 206). The division enjoyed outstanding sales for Grey and The Girl on the Train, which each sold more than 2 million UK copies, and for Harper Lee’s Go Set A Watchman and Jamie Oliver’s Everyday Super Food. Great demand continued for Jeﬀ Kinney’s Diary of a Wimpy Kid and John Green’s titles, and for DK Publishing’s Star Wars publications. Penguin Random House’s promising 2016 publishing lists include new titles from Lisa Brennan-Jobs, Bill Bryson, Lee Child, Harlan Coben, Phil Collins, Janet Evanovich, Ina Garten, John Grisham, Jazz Jennings, Jeﬀ Kinney, Marie Kondo, John le Carré, Jojo Moyes, Jamie Oliver, James Patterson, Nathaniel Philbrick, Pope Francis, Nora Roberts, John Sandford, Danielle Steel and Star Wars. Penguin Random House completed the sale of Author Solutions, its supported self-publishing services company, to an aﬃ liate of Najaﬁ Companies, an international private-investment ﬁ rm, on 31 December, and sold its Australian online bookseller Bookworld to online retailer Booktopia in August. The integration of Penguin and Random House continued to provide net beneﬁ ts through organisational alignments and systems, and warehouse combinations in 2015, as well as for 2016 and thereafter. The North America warehouse consolidation was completed in February 2015, and in December, the UK business announced it will be gradually closing its Rugby distribution centre and relocating its inventory to two other locations. The integration in Spain and Latin America of Santillana with Grupo Editorial Penguin Random House remains on course. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 34 Pearson plc Annual report and accounts 2015 Other financial information Net ﬁ nance costs All ﬁ gures in £ millions Net interest payable Finance income in respect of employee beneﬁ t plans Other net ﬁ nance costs Net ﬁ nance costs 2015 2014 (46) (64) 4 13 (29) 1 (30) (93) Net interest payable in 2015 was £46m, compared to £64m in 2014. The majority of the movement in net interest payable is due to the release of accrued interest following agreement of historical tax positions. For our debt portfolio, our ﬁxed rate policy reduces the impact of changes in market interest rates, however we were still able to beneﬁt from low average US dollar interest rates during the year as the majority of the Group’s debt is US dollar denominated. Year-on-year, average three- month US dollar LIBOR rose by 0.1% to 0.3%. This slight increase in ﬂoating market interest rates, along with the impact of changes in our debt portfolio, foreign exchange translation and the eﬀ ect of slightly lower levels of average net debt in the period led to little change in the year-on-year interest charge on debt. Interest receivable on cash balances held overseas was reduced from the prior year due mainly to the weakening of emerging market currencies against sterling. The Group’s average net debt fell by £61m, largely as a result of disposals in the fourth quarter of 2015 oﬀ setting the translation of our predominantly US dollar debt. These combined factors contributed to the overall decrease in the Group’s average net interest payable from 3.6% to 2.7%. Finance income and costs relating to retirement beneﬁ ts have been excluded from our adjusted earnings as we believe the income statement presentation does not reﬂ ect the economic substance of the underlying assets and liabilities. Also included in the statutory deﬁ nition of net ﬁ nance costs (but not in our adjusted measure) are ﬁ nance costs for deferred consideration associated with acquisitions, foreign exchange and other gains and losses. Finance costs for deferred consideration are excluded from adjusted earnings as they relate to the future potential acquisition of non-controlling interests and do not reﬂ ect cash expended. Foreign exchange and other gains and losses are excluded from adjusted earnings as they represent short-term ﬂ uctuations in market value and are subject to signiﬁ cant volatility. Other gains and losses may not be realised in due course as it is normally the intention to hold the related instruments to maturity. In 2015, the total of these items excluded from adjusted earnings was a gain of £17m compared to a loss of £29m in 2014. Both the gain in 2015 and the loss in 2014 mainly relate to foreign exchange diﬀ erences on unhedged cash and cash equivalents and other ﬁ nancial instruments. Funding position and liquid resources The Group ﬁnances its operations by a mixture of cash ﬂows from operations, short-term borrowings from banks and commercial paper markets, and longer-term loans from banks and capital markets. Our objective is to secure continuity of funding at a reasonable cost from diverse sources and with varying maturities. The Group does not use oﬀ -balance sheet special purpose entities as a source of liquidity or for any other ﬁnancing purposes. The net debt position of the Group is set out below. All ﬁ gures in £ millions Cash and cash equivalents Marketable securities Net derivative ﬁ nancial instruments Bonds Bank loans and overdrafts Finance leases Net debt 2015 1,703 28 (55) 2014 530 16 40 (2,284) (2,173) (38) (8) (42) (10) (654) (1,639) Section 2 Our performance 35 The largest contributors to the decrease in net debt are the receipt of disposal proceeds, oﬀ set by changes in the value of gross debt due to exchange rates and a decrease in the value of our derivative portfolio. Reﬂecting the geographical and currency split of our business, a large proportion of our debt is denominated in US dollars (see note 19 for our policy). The strengthening of sterling against the US dollar during 2015 (from $1.56 to $1.47:£1) increases the sterling equivalent value of our reported net debt. At the year end, the long-term ratings were Baa1 from Moody’s and BBB+ from Standard and Poor’s, and the short-term ratings were P2 and A2 respectively. Both long-term ratings were on negative outlook at the year end. In March 2016, Standard & Poor’s changed Pearson’s long-term rating from BBB+ (Negative) to BBB (Stable). The short-term ratings from Moody’s and Standard & Poor’s remain unchanged at P2 and A2. In April 2015, the Group accessed the capital markets, raising €500m through the sale of notes maturing in May 2025 and bearing interest at 1.375%. The notes were swapped to ﬂoating rate in US dollars to conform with the policy described in note 19. The Group has a $1,750m committed revolving credit facility. During the year, the maturity of the facility was extended by one year. The facility now matures in August 2020. At 31 December 2015 this facility was undrawn. The revolving credit facility is used for short-term drawings and providing reﬁnancing capabilities, including acting as a back-up for our US commercial paper programme. This programme is primarily used to ﬁnance our US working capital requirements, in particular our US educational businesses which have a peak borrowing requirement in July. At 31 December 2015, no commercial paper was outstanding. The Group also maintains other committed and uncommitted facilities to ﬁnance short-term working capital requirements in the ordinary course of business. Further details of the Group’s approach to the management of ﬁnancial risks are set out in note 19 to the ﬁnancial statements. Taxation The eﬀ ective tax rate on adjusted earnings in 2015 was 15.5% compared to an eﬀ ective rate of 17.9% in 2014. Our overseas proﬁts, which arise mainly in the US, are largely subject to tax at higher rates than that in the UK (which had an eﬀ ective statutory rate of 20.25% in 2015 and 21.5% in 2014). These higher tax rates were largely oﬀ set by amortisation-related tax deductions and by adjustments arising from agreement of historical tax positions. Both these items were more signiﬁ cant in 2015 than they had been in 2014. The reported tax beneﬁ t on a statutory basis in 2015 was £81m (18.7%) compared to a charge of £56m (22.0%) in 2014. The statutory tax beneﬁ t in 2015 is mainly due to beneﬁ ts arising on the increase in intangible charges. Operating tax paid in 2015 was £129m compared to £163m in 2014. Discontinued operations Discontinued operations in 2015 relate to the sale of the Financial Times and the Group’s 50% interest in The Economist. The Economist sale was substantially completed on 16 October 2015 and realised a gain of £473m before tax. The sale of the Financial Times completed on 30 November 2015 and realised a gain of £711m before tax. We expect both of these transactions to qualify for substantial shareholder exemption in the UK. The gains on these transactions and the results for both 2014 and 2015 to the respective sale dates have been included in discontinued operations. The sale of Mergermarket to BC Partners, completed on 4 February 2014, resulted in a gain of £244m before tax. The gain on sale and the results for 2014 to the date of sale have been included in discontinued operations. Also included in discontinued operations in 2014 is a gain of £29m relating to adjustments to liabilities arising on the formation of the Penguin Random House group. Although this transaction completed in 2013 there were subsequent adjustments relating to the potential transfer of pension liabilities and tax. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 36 Pearson plc Annual report and accounts 2015 Other financial information continued Other comprehensive income Post-retirement beneﬁ ts Included in other comprehensive income are the net exchange diﬀ erences on translation of foreign operations. The gain on translation of £175m in 2014 compares to a loss in 2015 of £69m and is principally due to movements in the US dollar. A signiﬁ cant proportion of the Group’s operations are based in the US and the US dollar strengthened in 2015 from an opening rate of £1:$1.56 to a closing rate at the end of 2015 of £1:$1.47 However at the same time other currencies have weakened compared to sterling and this eﬀ ect was more than enough to oﬀ set gains on the US dollar. At the end of 2014 the US dollar had also strengthened in comparison to the opening rate moving from £1:$1.66 to £1:$1.56 and other currencies did not weaken to the same extent as they have done in 2015. Also included in other comprehensive income in 2015 is an actuarial gain of £118m (including a £8m gain in respect of associates) in relation to pension and other post retirement plans. This gain mainly arises from a higher discount rate used to value the liabilities. The gain compares to an actuarial gain in 2014 of £8m (including a £15m loss in respect of associates). Dividends The dividend accounted for in our 2015 ﬁ nancial statements totalling £423m represents the ﬁ nal dividend in respect of 2014 (34.0p) and the interim dividend for 2015 (18.0p). We are proposing a ﬁ nal dividend for 2015 of 34.0p, bringing the total paid and payable in respect of 2015 to 52.0p, a 2% increase on 2014. This ﬁ nal 2015 dividend which was approved by the board in February 2016, is subject to approval at the forthcoming Annual General Meeting and will be charged against 2016 proﬁ ts. For 2015, the dividend is covered 1.4 times by adjusted earnings. We plan to hold our future dividend at the 2015 level while we rebuild cover. Pearson operates a variety of pension and post- retirement plans. Our UK Group pension plan has by far the largest deﬁ ned beneﬁ t section. We have some smaller deﬁ ned beneﬁ t sections in the US and Canada but, outside the UK, most of our companies operate deﬁ ned contribution plans. In addition to pension plans we also operate post-retirement medical beneﬁ t plans (PRMBs), the most signiﬁ cant of which is in the US. In 2014 we amended the eligibility criteria for the US PRMB plan. This amendment resulted in a curtailment gain and a reduction in the ongoing service cost of the plan. The charge to proﬁ t in respect of worldwide pensions and retirement beneﬁ ts for continuing operations amounted to £81m in 2015 (2014: £70m) of which a charge of £85m (2014: £71m) was reported in adjusted operating proﬁ t and an income of £4m (2014: £1m) was reported against other net ﬁ nance costs. The increase charge in 2015 is in part due to the US PRMB curtailment gain taken in 2014 and an increase in costs relating to our deﬁ ned contribution plans. The overall surplus on the UK Group pension plan of £190m at the end of 2014 has increased to a surplus of £337m at the end of 2015. The movement has arisen principally due to continuing asset returns, deﬁ cit funding and favourable movements in the assumptions used to value the liabilities. In total, our worldwide net surplus in respect of pensions and other post- retirement beneﬁ ts increased from a net asset of £27m at the end of 2014 to a net asset of £198m at the end of 2015. Goodwill and Intangible assets Following signiﬁ cant economic and market deterioration in the Group’s operations in emerging markets and ongoing cyclical and policy related pressures in the Group’s mature market operations, management’s expectations of future returns were revised down in the course of 2015. It was determined during the goodwill impairment review that the fair value less costs of disposal of the Growth, North America and Core cash generating units (CGUs) no longer supported the carrying value of the goodwill. An impairment of £507m was booked in respect of the Group’s Growth operations, representing impairments of £269m in the Brazil CGU, £181m in the China CGU, £48m in the South Africa CGU and £9m in the Other Growth CGU, thereby bringing the carrying value of goodwill in those CGUs down to £nil. Impairments of £10m and £13m were also booked in respect of other acquired intangibles in the South Africa and Other Growth CGUs respectively, bringing their carrying value down to £nil. Impairments of £282m and £37m were also booked in respect of the North America and Core CGUs respectively, bringing the carrying value of the goodwill in those CGUs down to fair value less costs of disposal. In 2014 following deterioration in the market conditions for the Group’s online tutoring business based in India, it was determined in the course of the impairment review that the value in use of the India CGU no longer supported the carrying value of the goodwill in that CGU. An impairment of £67m was booked, thereby bringing the carrying value of goodwill in the India CGU down to £nil. An impairment of £10m was also booked in respect of other acquired intangibles in that CGU, bringing their carrying value to £nil. Further details on these impairments are included in note 11 of the ﬁ nancial statements. Acquisitions and disposals There were no signiﬁ cant acquisitions in 2015. The acquisition of Grupo Multi, Brazil’s leading adult English language training company, for £437m (plus £49m in net debt assumed) was announced in December 2013 and completed on 11 February 2014. Section 2 Our performance 37 O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e During 2015 the Group disposed of its interest in the FT Group including its 50% share of The Economist. The Financial Times sale to Nikkei was completed on 30 November 2015 for consideration of £858m and realised a gain on sale of £711m before a tax charge of £49m. The sale of our 50% share of The Economist Group to EXOR was substantially completed on 16(cid:98)October 2015. The value of the investment in The Economist on Pearson’s books was not signiﬁ cant and there was no tax on the transaction with the result that the gain on sale of £473m largely reﬂ ects the proceeds received. Also, in July 2015, the Group disposed of its interest in PowerSchool for consideration of £222m realising a pre-tax gain of £30m net of a £70m write down of related software assets. The sale of the Mergermarket group of companies in 2014, as noted above, realised a proﬁ t before tax of £244m. In addition, in 2014, our North America business disposed of its joint venture interests in Safari Books Online and CourseSmart, realising a proﬁ t before tax of £40m, and its investment in Nook Media realising a loss before tax of £38m. Return on invested capital (ROIC) Our ROIC is calculated as total adjusted operating proﬁ t less cash tax, expressed as a percentage of average gross invested capital. ROIC increased from 5.6% in 2014 to 5.8% in 2015. Reduced tax payments were the main reason for the movement. Related party transactions Transactions with related parties are shown in note 35 of the ﬁ nancial statements. Post-balance sheet events In January 2016, Pearson announced that we are embarking on a restructuring programme to simplify the business, reduce costs and position the company for growth in its major markets. The majority of the programme is expected to be complete by mid-year 2016 and will involve implementation costs in 2016 of approximately £320m. i F n a n c i a l s t a t e m e n t s 38 Pearson plc Annual report and accounts 2015 Risk management The board has carried out a robust assessment of the principal risks facing the company, including those that would threaten its business model, future performance, solvency or liquidity. Our principal risks and uncertainties are outlined below, along with a description of how they are being managed. See pages 82 to 89 in ‘Governance’ for details on the board and audit committee’s risk oversight during 2015, their ongoing monitoring of risks, including deep dives into selected principal risks and the annual eﬀ ectiveness review. The goal of our risk management approach is to support Pearson in meeting its strategic and operational objectives of growth and simpliﬁ cation as set out in the chief executive’s overview on pages 4 to 7, so that the key business risks are identiﬁ ed, assessed and mitigated. Our aim is to manage risks, understanding that many risks are external in nature and cannot therefore be fully controlled. How we manage risk We assessed our risk management maturity in 2014 and made improvements in 2015 towards our 2017 target. The diagram ‘how we manage risk’ shows our approach to embedding a Pearson-wide risk culture. This framework is being used to drive improvements in risk management across Pearson, taking a pragmatic approach that assists in eliminating ineﬃ ciencies and identifying and closing gaps. Our Enterprise Risk Management (ERM) framework has been developed to be aligned with international standards (COSO and ISO31000) and it aids our compliance with the Financial Reporting Council’s (FRC) UK Corporate Governance Code guidance. Risk identiﬁ cation and assessment were also included in the 2015 strategic planning and acquisition processes, to further embed risk management in decision making. Identifying and assessing risk The board is ultimately responsible for the oversight of risk management, assisted by the assurance the audit committee provides with regard to the procedures for the identiﬁ cation, assessment and reporting of risk. Throughout the year (twice as a minimum), the identiﬁ cation of principal risks is informed using a bottom up and top down approach through discussions with each business area, identifying new risks as well as re-assessing those already being monitored. To aid in the identiﬁ cation of risks and development of associated mitigating actions, risks are categorised into four main areas: strategy and change, operational, ﬁ nancial, and legal and compliance. How we manage risk Risk management Foundations Governance and oversight Framework, policy and procedures Roles and responsibilities Appetite and tolerance Working with third-parties Risk management Process Risk context Risk monitoring and review Reporting Risk assessment (Identiﬁ cation and analysis and evaluation) Risk treatment Risk management Culture Communication Training, education and awareness Embedding in decision-making Continuous improvement Learn more in the Governance section on pages 82 to 89 Section 2 Our performance 39 The probability of a risk materialising and the potential impact of each risk across multiple parameters is rated based on existing controls, then the adequacy of action plans to address any remaining control gaps is also assessed. Those risks which have a higher probability and signiﬁ cant impact on strategy, reputation or operations, or a ﬁ nancial impact greater than £50m are identiﬁ ed as principal risks. Pearson executives have oversight of risks relevant to their areas of responsibility, which were included in their 2015 objectives. Management is responsible for executing appropriate actions to mitigate risks where required and whenever possible. It is not possible to identify every risk that could aﬀ ect our businesses, and the actions taken to mitigate the risks described below cannot provide absolute assurance that a risk will not materialise and/or adversely aﬀ ect our business or ﬁ nancial performance. The outputs of the risk assessments described above and below are reported to the audit committee and board in detail. In addition to the company-wide risks, this includes risk maps for our main Pearson business areas and geographies. Risk appetite Risk appetite is the target level of risk the board ﬁ nds appropriate to accept in order to achieve Pearson’s strategy and goals. Further work was done in 2015 to deﬁ ne the risk appetite for each of our principal risks, working with the Pearson executive. Recommendations are made annually to the board, as part of the board’s oversight of risk management (see page 88 in ‘Governance’ for more on the board’s governance of risk management). The semi-annual risk assessment reviews take into account the current level of risk compared to appetite. A consideration of target risk appetite is now included in key business decisions, such as acquisitions and strategic planning. There are certain risk areas where we have a very low appetite, such as complying with all applicable laws, including those on anti-bribery and corruption or the safety and security of learners. This means that we take actions to try to avoid or eliminate this risk as far as possible. In other areas, such as strategy and change, we recognise the importance of managed risk-taking in order to achieve business objectives and goals. Our principal risks (as of 31 December 2015) Outlined here are our most signiﬁ cant risks that may aﬀ ect our future. We assess the probability of the risk materialising and the impact of the risk. The risks with greatest potential severity are identiﬁ ed as principal risks. ) l a n o i t a r e p O , c i g e t a r t S , l a n o i t a t u p e R T C A P M I 16 9 12 15 10 13 3 6 14 8 7 5 1 4 2 11 17 , l a i c n a n F ( i PROBABILITY E G N A H C D N A Y G E T A R T S L A N O I T A R E P O I L A C N A N I F E C N A I L P M O C D N A L A G E L S K S I R S K S I R S K S I R S K S I R 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 Business transformation and change Digital and services evolution and market forces Talent Political and regulatory risk Acquisitions, divestments and JVs Testing failure Safety and security Customer facing systems Safeguarding and protection Business continuity (new risk) Tax Treasury (new risk) Data privacy and information security Intellectual property Competition law (new risk) Anti-bribery and corruption Data quality and integrity (new risk) O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 40 Pearson plc Annual report and accounts 2015 Risk management continued Key changes to Pearson risks in 2015 The key themes arising from company-wide risk discussions in 2015 reﬂ ect those of our strategic goals – simpliﬁ cation and growth, underpinned by business transformation and change to enable these. As highlighted in the chief executive’s strategic overview on page 4, 2015 was a year of change for Pearson. The theme of change is reﬂ ected in the relatively high probability of our principal risks, as shown in the map. The level of change increases risk short term, however in the medium to longer term it will enhance our controls for many of our risks, as well as enabling Pearson to achieve its goal of becoming more eﬃ cient, simplifying the way we work for our customers and learners. More robust risk assessments in 2015 have improved our understanding of the nature and scale of risks, such as data privacy and information security (highlighted in the audit committee chair’s statement on page 83) where external threats continue to increase and we have programmes of work to close identiﬁ ed gaps. Good progress has been made in implementing mitigation plans, especially for those risks with lower target risk appetite, such as for ABC and in our direct delivery businesses, where risks such as the safety and security of both our learners and staﬀ have new roles and deﬁ ned plans underway (both highlighted in the audit committee chair’s statement on page 83). Risk assessment of prospects and viability This section should be read together with the full viability statement on page 118. Pearson’s principal risks and our ability to manage them as outlined in this section are linked to our viability as a company. These risks have therefore been taken into account when preparing the viability statement. The board assessed the prospects of the company over a three-year period, longer than the minimum 12 months of the annual going concern review. The three-year period corresponds with Pearson’s strategic planning process and represents the time over which the company can reasonably predict market dynamics and the likely impact of additions to the product portfolio. The board discusses the company’s strategic plan on an annual basis taking account of a range of factors including market conditions, the principal risks to the company, product and capital investment levels as well as available funding. Pearson’s strategy and business model are discussed in more detail on pages 2 to 9. In assessing the company’s viability for the three years to December 2018, the board overlaid a ‘severe but Key assumptions The key assumptions which underpin our three-year strategic plan to December 2018 are as follows: 1. The key cyclical and policy factors that have recently hurt Pearson (US college enrolments and UK qualiﬁ cations) should stabilise by the end of 2017 and improve modestly thereafter, helped by new product launches 2. Pearson makes modest market share gains in North(cid:98)America higher education subjects where next generation courseware is being launched 3. US state testing revenues continue to decline through 2017, as current contracts unwind, before stabilising in 2018 4. Professional certiﬁ cation and clinical assessment revenues continue to grow 5. Pearson businesses in China and Brazil beneﬁ t from the launch of new products, including the Wall Street English New Student Experience 6. Pearson’s services businesses (for example, online programme management, virtual schools, blended learning in English) continue to grow as new platforms(cid:98)and products come to market and capitalise on market growth 7. The beneﬁ ts of the company’s restructuring plan are(cid:98)delivered in full, with minimal disruption to sales, market share and operations from this major programme of change › › › › plausible’ downside scenario onto base case strategic plan for the group, focusing on the impact of the following assumptions and key risks: Further revenue shortfalls in US assessments. Further revenue shortfalls in higher education courseware assuming enrolments remain ﬂ at. Additional revenue shortfalls in growth markets (principally South Africa, Brazil and China) driven by weaker local economic conditions. Business transformation and change execution risk associated with timely delivery of the restructuring programme in 2016 causing the beneﬁ ts to be delayed or not fully realised. The board also stress tested the impact on our liquidity(cid:98)of all the principal risks listed above occurring together. Although this is not regarded as a plausible scenario the test showed that the company would still have liquid resources subject to a limited number of management actions. The board’s conﬁ rmation of Pearson’s viability for the three years to 2018 is included alongside the going concern statement on page 118. Principal risks and uncertainties Section 2 Our performance 41 Strategic and change risks Risk 2015 activities 2016 plans Business transformation and change: 1 The pace and scope of our business transformation initiatives increase the execution risk that beneﬁ ts may not be fully realised, costs of these changes may increase, or that our business as usual activities do not perform in line with our plans, or our level of customer service may not meet expectations. 2 Digital and services evolution and market forces: Failure to invest successfully in and deliver the right products and services. 2015 was a year of change for Pearson. A number of major transformational change programmes commenced in 2015, including the Enabling Programme – a programme of work to deliver a single Pearson-wide solution to integrate our data, systems and processes across HR, Finance, Procurement and Supply Chain), OneCRM and Technology Delivery Centre (TDC) and these continue into 2016. The Enabling Programme runs until 2018 and will deliver sustainable improvements in ﬁ nance, human resources and operations. In addition to usual good practices in place for project and change management, there is enhanced governance, monitoring and reporting in place for these most signiﬁ cant change initiatives. Our global education strategy will drive a faster move to digital and services, recognising that this is a signiﬁ cant opportunity for Pearson, as well as a potential risk. We are transforming our products and services for the digital environment along with managing our print inventories. The 2015 strategic planning process took a more in-depth review and challenge of areas for future investment and re-investment. As indicated in the section above on risk assessment of our prospects and viability, we take into account cyclical market factors in our strategic planning process. The Global Product Lifecycle continued to be embedded across Pearson and won an award for Best Innovation Programme at the Corporate Entrepreneur Awards. You can read more about the Product Lifecycle and its governance on page 61 in the ‘Social impact’ section. At the end of 2015 we undertook a rigorous, bottom up review of our markets, operations and ﬁ nancial plans. The chief executive’s strategic overview on pages 4 to 7 describes our plans for transforming Pearson. In 2016, we will further simplify our business, reduce our costs and position ourselves for growth in our major markets. The success of the restructuring plan is a key assumption underpinning achieving our goals by 2018, showing how critical it is that this risk is eﬀ ectively managed. Turning this risk into an opportunity – successfully investing in and delivering the right products and services – is key to our strategy for returning to growth by 2018. In the chief executive’s strategic overview on pages 4 to 7, we have laid out a strategy for returning to growth. We are combining our lines of business for courseware into a single product organisation, as well as rationalising and integrating our product development capabilities to focus on more adaptive, personalised ‘next generation’ courseware and we are increasing our assessment focus on more adaptive and personalised online services. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 42 Pearson plc Annual report and accounts 2015 Principal risks and uncertainties continued Strategic and change risks 3 Risk Talent: Failure to attract, retain and develop staﬀ , including adapting to new skill sets required to run the business. 4 Political and regulatory risk: Changes in policy and/or regulations have the potential to impact business model and/or decisions across all markets. 2015 activities 2016 plans Throughout 2015, we have been successful in promoting our best internal talent and recruiting individuals who are global leaders in their speciﬁ c ﬁ eld. Globally consistent performance assessment, and talent and succession management approaches are in place, and the annual engagement survey shows consistent scores overall from the prior year. See pages 59 to 63 in ‘Social Impact’ for more detail on key ﬁ ndings from the engagement survey, as well as information about our approach to learning and development. We are expanding our global public aﬀ airs capability with a speciﬁ c focus on coordinated international government relations across our key markets. Building deeper government relations, including working with business and industry associations, policy research organisations and other advocacy groups, we can more proactively identify and mitigate international political and regulatory risk, as well as bring greater coordination, clarity and consistency to our work globally. In the US we actively monitor changes through participation in advisory boards and representation on standard setting committees. Our customer relationship teams have detailed knowledge of each state market. We work with our industry trade associations including the Association of American Publishers and have launched a three-year campaign with America’s Promise Alliance to raise high school graduation rates to 9 0% and to support state led innovations. In the UK we maintain relationships with those government departments and agencies that are responsible for policy and funding. We work proactively with them to ensure our programmes meet existing and new government objectives at the right quality level. Across all of our other markets, there is a government relations programme to support our international markets. As we are going into a period of change and transformation, we will focus on a number of areas that are key to mitigating talent risk, including: clear employee objectives and development plans; an all-employee engagement survey, with action plans as appropriate; succession planning and talent management; an internal management and leadership development programme supporting ‘learning for all’. The employee incentive pool will also be reinstated. 2015 priorities to continue to be actively driven in 2016, with a speciﬁ c focus on leveraging our resources in the US and UK to build global political and regulatory relationships and partnerships; to elevate our international political proﬁ le; and to better understand future international political and regulatory trends, increasingly using trade associations and agencies to inform our decisions and actions. Building a strong brand and reputation in the US remains a priority. Transitional support services to the FT will end in 2016. Our continued priorities for use of cash are: – Maintaining a strong balance sheet – Organic investment – Sustaining our dividend and maintaining the commitment to our credit rating – Acquisitions in education with a strong ROIC potential. Acquisitions, divestments and JVs: 5 Failure to meet ﬁ nancial and operational targets of acquisitions. Failure to successfully manage JVs and divestments in line with plans. We perform pre-transaction due diligence and closely monitor actual performance against operational and ﬁ nancial targets. Any divergence from these plans will result in management action to improve performance and minimise the risk of any impairments. Executive management and the board receive regular reports on the status of acquisitions and mergers, with a formal review once a year. During 2015, transitional support services to Penguin ended and we completed the sales of the FT, Pearson’s stake in The Economist and Powerschool. Section 2 Our performance 43 Operational risks Risk 2015 activities 6 Testing failure: A control breakdown or service failure in our school assessment and qualiﬁ cations businesses could result in ﬁ nancial loss and reputational damage. We seek to minimise the risk of a breakdown in our student marking systems with the use of robust quality assurance procedures and controls and oversight of contract performance, combined with our investment in technology, project management and skills development of our people, including software security controls, system monitoring, pre-deployment testing, change controls and the use of root cause analysis procedures to learn from incidents and prevent recurrence. In addition to the internal business procedures and controls implemented to ensure we successfully deliver on our contractual commitments, we also seek to develop and maintain good relationships with our customers to minimise risks. 7 Safety and security: Risk to safety and security due to increasing local and global threats. The health and safety policy was updated and released in 2015. Management review processes have been established with key leadership groups and incident data is collected every six months globally. An implementation plan has been developed, with the objective of delivering a pragmatic corporate security function which supports our learners and employees within a safe and secure learning and working environment. Customer facing systems: 8 Failure to maintain and support customer facing services, systems, and platforms, including addressing quality issues and execution on time of new products and enhancements. Eﬀ ective project management disciplines are in place to ensure that enhancements and new products meet the required standards. Real-time monitoring and reporting of operational performance are used to identify any issues and direct appropriate responses. The Quality Task Force, established in 2014 to improve customers’ back-to-school experience, is now part of business as usual. In 2015, this initiative delivered signiﬁ cant improvements with fewer incidents overall, less unplanned downtime, faster resolution of issues, better protection against denial of service attacks. Safeguarding and protection: 9 We continue to take safeguarding as a fundamental obligation and high priority. Failure to adequately protect children and learners, particularly in our direct delivery businesses. There is increased understanding and reporting of safeguarding concerns in many of the countries where we deliver services. See page 61 in the ‘Social impact’ section for more on our relationships with learners and customers. 10 Business continuity (new risk): Previously reported as a component of other risks, this is now being reported as a separate risk to provide greater clarity. Failure to have plans in place or plans are not properly executed. Crisis management and technology disaster recovery plans may not be comprehensive. Pearson’s business continuity policy has been refreshed in 2015, identifying our exposure and risk as they relate to key products, sites, services and supply chain. This will be implemented in 2016. Technology incidents are dealt with reactively and proactive closure of known disaster recovery gaps is prioritised based upon the importance of products and systems. An annual disaster recovery schedule is in place for testing data centres. 2016 plans Cross-Pearson team formed to establish standards for testing risk factors, identify any gaps against standards and implement improvements. The key health and safety focus will be on executing a three-year strategy. We continue to improve risk assessment in the due diligence process with mergers and acquisitions, as well as in our existing and future operations. Ongoing engagement with Pearson leadership ensures that health and safety is integrated into business agendas. Security activity will be prioritised based upon an assessment of risk, which is constantly evaluated. 2016 will focus on the next tier of priority products and fully embedding the quality initiative in business as usual. Plans include more thorough testing, easier onboarding and greater access to self-service, plus more proactive monitoring and further upgrades to the network and security. Other longer-term initiatives are underway to further improve the customer experience. Activities will focus on continuing to address risk in the direct delivery businesses, with a focus on those in less regulated countries. The implementation of a safeguarding self assessment tool and incident reporting system will assist in developing metrics. The new business continuity policy will be implemented in 2016, including additional tools and software to support a standard global approach to business continuity planning. The new crisis management framework will be embedded through testing and scenarios. The resilience of technology platforms and systems will be further reviewed and improved. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 44 Pearson plc Annual report and accounts 2015 Principal risks and uncertainties continued Financial risks 11 12 Risk Tax: Risk that changes in tax law or perceptions on tax planning strategies lead to higher eﬀ ective tax rate or negative reputational impact. Treasury (new risk): Inability to mitigate treasury ﬁ nancial risks, including the failure to secure adequate committed funding, the failure to manage exposures to ﬁ nancial counterparties and the failure to manage exposures to market risk such as interest and foreign exchange rates. 2015 activities 2016 plans Our tax strategy reﬂ ects our business strategy and the locations and ﬁ nancing needs of our operations. In common with many companies, we seek to manage our tax aﬀ airs to protect value for our shareholders, in line with our broader ﬁ duciary duties. We are committed to complying with all statutory obligations, to undertake full disclosure to tax authorities and to follow agreed policies and procedures with regard to tax planning and strategy. Oversight of tax strategy is within the remit of the audit committee, which receives a report on this topic at least once a year. All of the audit committee members are independent non-executive directors. The chief ﬁ nancial oﬃ cer is responsible for tax strategy; the conduct of our tax aﬀ airs and the management of tax risk are delegated to a global team of tax professionals. See page 145 for details of tax accounting policy. The treasury risk is now being reported as a principal risk due to currency and ﬁ nancial market volatility, as well as the recent changes to our credit rating. Our approach to the mitigation of treasury ﬁ nancial risk, including funding risk, ﬁ nancial counterparty risk and exposures to interest and foreign exchange rates is covered in more detail in note 19, starting on page 181. There is now known legislative change in the UK on tax reporting requirements in 2016 and almost certain change on tax treatment of ﬁ nancing structures. A change to US legislation is possible. Work has been performed to prepare systems for the increased tax disclosure requirements relating to country by country reporting. In 2016, we will continue to operate in line with our treasury policy. More on this can be found in note 19, starting on page 181. Legal and compliance risks Risk 2015 activities 2016 plans The data privacy and information security improvement programmes will continue through 2016 into 2017 and will implement critical processes to drive best practices. 13 Data privacy and information security: Risk of a data privacy incident or other failure to comply with data privacy regulations and standards; and/or a weakness in information security, including a failure to prevent or detect a malicious attack on our systems, could result in a major data privacy breach causing reputational damage and ﬁ nancial loss. Data privacy: A data privacy oﬃ ce has been established and a 2015- 2016 data privacy strategy developed. The implementation of the strategy is overseen by the data privacy governance board which has operated throughout 2015. We test and re-evaluate our data security procedures and controls across all our businesses with the aim of ensuring personal data is secured, and we seek to comply with relevant legislation and contractual requirements. We regularly monitor regulation changes to assess the impact on existing processes and programmes. The data privacy oﬃ ce is working with those limited parts of the business aﬀ ected by the Safe Harbor decision to transfer them to model contract clauses. Annual training on data security and privacy was introduced in 2015 for all employees. In addition, all Pearson staﬀ who deal with US student data are required to take educational data protection training. Information security: Pearson has an established global security organisational model; and standard-based information security controls and practices. Security policies have all been updated in 2015. We have established a global security operations centre that provides ongoing monitoring of potential malicious attacks on our infrastructure and systems. Section 2 Our performance 45 Legal and compliance risks Risk 2015 activities 2016 plans 14 Intellectual property: If we do not adequately protect our intellectual property and proprietary rights our competitive position and proﬁ ts may be adversely aﬀ ected and limit our ability to grow. We seek to mitigate these risks by being generally vigilant and deploying policies and internal and external resources to manage and protect our intellectual property. We co-operate and advocate through trade associations, monitor advances in technology and law and, when appropriate, take legal or collective enforcement actions with other publishers to secure our rights. We have in place a patent programme to establish enforceable patent rights to protect our technology innovations and promote appropriate conﬁ dentiality and trade secret protocols. Our global IP legal function also helps us clear and protect our key brands and patentable innovations. 15 Competition law (new risk): Failure to comply with anti-trust and competition legislation. In October 2015, a lawyer specialising in competition law was appointed to ensure we are fully compliant with all laws and regulations. A plan has been put in place to perform a full risk assessment given the evolving complexity of legislation and regulation in this area. This evolving complexity is why this risk has now been included in the principal risks. 16 Anti-bribery and corruption (ABC): Failure to eﬀ ectively manage risks associated with compliance to global and local ABC legislation. We have a risk-based programme of training (online and face-to- face), with code of conduct certiﬁ cation including a clear statement of ABC policy. The policy was revised in 2015, with no change to Pearson’s ‘zero tolerance’ principle. In 2015, the Business Partner Code of Conduct launched, which will help to mitigate third-party ABC risk. See page 60 in the ‘Social impact’ section for more detail on what is covered by the Code of Conduct. 17 Data quality and integrity (new risk): Unavailability of timely, complete and accurate data limits informed decision-making and increased risk of non- compliance with legal, regulatory and reporting requirements. Data quality and integrity is now being reported as a principal risk due to its importance in supporting business change initiatives, such as the Enabling Programme and OneCRM (as highlighted risk 1, business transformation and change). Data is key to their success. A Pearson Data Services team has been created and a data governance target operating model agreed which deﬁ nes data ownership accountability at executive level to ensure that data initiatives align to business strategy, priorities and initiatives. We will continue to streamline our portfolios; procure and register expanded rights in our high value IP globally; monitor activities and regulations; and proactively enforce our rights, taking necessary legal action. Based upon the completed risk assessment, we will develop and implement actions, prioritising key risk areas. Training and awareness in 2016 will focus on the revised ABC policy for higher risk countries and activities. Third-party due diligence will continue to be enhanced, taking into account the beneﬁ ts from business transformation implementations, such as the Enabling Programme. The primary focus is on the Enabling Programme which will, in time, deliver signiﬁ cant improvements in data quality and facilitate better informed decision-making. The 2016 roll-outs require the migration of a signiﬁ cant number of datasets. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 46 Pearson plc Annual report and accounts 2015 Targeting growth through efficacy The road to empowering the lives of 200 million learners annually by 2025 Introduction Over the last few years, we have been progressively measuring and increasing our impact on learner outcomes. We are already helping millions of learners progress in their lives; to become more literate and numerate, move from school to college, learn a new language, or secure a new career which oﬀ ers better prospects for them and their families. To advance Pearson’s reach and impact and to position the company for sustainable growth, we have embarked on an ambitious eﬃ cacy programme which has evolved the way we manage our business, our approach to product development and our relationships with customers. In 2013, our drive to build a company centred around ‘what works’ in education led to a commitment to publicly report on the learner outcomes delivered by our products in 2018. In 2014, Pearson started embedding the eﬃ cacy framework and approach at the centre of our business model, conducting eﬃ cacy reviews and using those insights to improve our products and how we serve our customers. In preparation for 2018 we started the process of publicly reporting on eﬃ cacy, proﬁ ling the progress of ﬁ ve key products. In 2015, we expanded the focus of our work, gathering evidence for more products and services. We are seeing increased interest in our eﬃ cacy approach from our customers and it has become a bigger factor in sales decisions. We are reporting publicly on the eﬃ cacy of many more products alongside this report. Key achievements in 2015 We made great progress in 2015, achieving the following milestones: 2014 ﬁ rst wave products: Gathering evidence For all ‘ﬁ rst wave’ products (products chosen based on strategic importance, market position and revenue) we have worked with customers to reﬁ ne their learner outcomes, are now gathering evidence of their impact, and have been completing eﬃ cacy-led product improvements. 2015 second wave products: Deﬁ ned learner outcomes We have also deﬁ ned learner outcomes and metrics for all ‘second wave’ products (products representing a wider range of geographies in our portfolio), in addition to evaluating existing evidence and implementing plans to gather more evidence of impact. Going forward we will continue to build an evidence base for these products and make improvements. Competitive edge Importantly, we are increasingly seeing our Sales and Marketing teams working with our Eﬃ cacy teams to provide a competitive edge to Pearson’s proposals. Our commitment to build more eﬀ ective products has already resulted in increased customer demand for such products and, therefore, increased revenue. We look forward to seeing this trend continue into 2016 and beyond. Section 2 Our performance 47 Today we continue to reﬁ ne our eﬃ cacy practice; and, although our knowledge has matured, we remain pioneers. We continue to encourage everyone, from our customers, to learners, to policymakers, to investors, to join in and challenge us, to tell us how we can improve our approach and in turn our products and services. Eﬃ cacy leading to product improvement The eﬃ cacy review process has been designed to help teams identify areas of improvement in product, customer relationships and internal capacity to deliver. The product improvement process is speciﬁ cally designed to ensure that the product will beneﬁ t learners and customers, eventually making it more commercially successful. Examples of these improvements are illustrated below. In 2016, we continue to make progress evaluating and improving the eﬃ cacy of our products. Eﬃ cacy has become central to our growth strategy. Our knowledge and capabilities are maturing. Both our current portfolio and the way we identify future acquisitions are grounded in a commitment to demonstrating eﬀ ective learner outcomes. We are delivering on our commitment to report on these too. Our eﬃ cacy journey “Hold us accountable for our impact... If we fail, we fail as a business.” John Fallon, Chief executive oﬃ cer Building on last year’s reports, this year our public eﬃ cacy reports reﬂ ect what we’ve learnt since 2013. They include more detail on the impact each product is having, improvements made to date, future product research and improvement plans and, importantly, stories from our customers. Highlights of this work follow, but to read the full reports, please visit: eﬃ cacy.pearson.com Eﬃ cacy approach and activities 1 Deﬁ ne intended learner outcomes 2 Review products to ensure they are positioned to deliver on those outcomes, and put in place eﬃ cacy improvement programmes 3 Conduct research to measure the eﬃ cacy of products and feed insights back into product development 4 Support customers to eﬀ ectively implement the products to get the best outcomes possible Product Improvement Wall Street English New student experience Pearson Schools India Launch of algorithm identifying students at risk of dropping out, providing insights for eﬀ ective interventions. Improves learner outcomes as well as centre proﬁ tability Class-level analytics to demonstrate that students perform equally, whether they are using print or digital manuals; another change that will improve centre eﬃ ciency Optimising duration of language videos will increase learner engagement and encourage them not to break their study rhythm Augmentation of teacher numbers and quality as a direct result of the eﬃ cacy review Improved data systems, which now provide teachers with data at a concept and student level, aiming for 48-hour turnaround time Adoption of Big English, an English language learning product, to increase student English proﬁ ciency; teachers also being supported to improve their own English skills where required More teacher-to-teacher collaboration and interventions driven by eﬃ cacy. Our School Management Improvement Framework, as well as a new Professional Development programme to improve school leadership O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 48 Pearson plc Annual report and accounts 2015 Targeting growth through efficacy continued 2015 effi cacy reports: product highlights Selected examples of our eﬃ cacy reports are included below. The remainder of the reports can be found at eﬃ cacy.pearson.com Alongside this annual report, we are publishing several reports to share our eﬃ cacy progress and the outcomes achieved by some of our most powerful products and services. We will continue to develop the capability to report transparently on the eﬃ cacy of products across our portfolio. In the last decade, the number of college students majoring in STEM ﬁ elds – science, technology, engineering, and mathematics – has increased rapidly. Between 2007 and 2011, STEM majors in the US increased by 48%. Today, approximately 40% of male college graduates and 29% of female college graduates earn a degree in one of the STEM disciplines. These areas of study oﬀ er students practical and applicable skills upon entering the professional world and also create signiﬁ cant economic opportunity. MasteringChemistry is an online tutorial and problem- solving tool for students to practise and reinforce their understanding of college-level chemistry – a vital tool for any successful STEM degree. The product launched in 2004 and today reaches about 350,000 students in the United States, and 50,000 more in 60 countries around the world. MasteringChemistry uses personalised instruction to improve competency in chemistry and prepare students for success in chemistry courses. Learners beneﬁ t from self-paced tutorials featuring speciﬁ c, wrong-answer feedback and hints that emulate the tutor. New content features have been added to increase student achievement and retention. For example, there(cid:98)are additional adaptive opportunities through new Dynamic Study Modules, which are designed to(cid:98)help students study on their own more eﬀ ectively, using adaptive algorithms that adjust the content based on each student’s understanding of the(cid:98)concepts. For detail on the eﬃ cacy of this product go to eﬃ cacy.pearson.com Section 2 Our performance 49 Connections Academy schools are accredited, tuition-free, online public schools for K-12 students, providing a personalised approach to learning, supported by certiﬁ ed teachers and a custom curriculum. Since the ﬁ rst Connections Academy opened in 2002, the schools have been established in 26 US states and have served nearly 270,000 students who – for academic, personal or professional reasons – may be better suited to online rather than bricks-and-mortar education. Connections believes that all students perform better when(cid:98)they receive individual attention in a safe, nurturing environment – what Connections calls Personalised Performance Learning®. Students are able to accelerate learning in areas of strength or receive extra attention in areas of weakness. Individualised learning does not mean learning alone – students meet regularly in online LiveLesson sessions and have opportunities to share ideas and experiences, while having fun learning together. In-person events, clubs, activities, and ﬁ eld trips help students stay connected and make friends. Parents, as Learning Coaches, are closely involved in their children’s education. For detail on the eﬃ cacy of this product go to eﬃ cacy.pearson.com CTI Education Group (CTI) is an institute of higher education that serves approximately 11,000 students across 12 campuses in South Africa. The institute focuses on arming students with real-life career skills, training them to succeed as employable graduates in a competitive 21st-century economy. Because career-readiness is such a steadfast priority for the institute, CTI has developed a number of strategies designed to ensure that all of its graduates are well prepared for a highly demanding employment market. For example, a virtual employability centre will open in 2016 to serve as a resource hub for students looking to enter the job market. The virtual hub will be followed by six physical employability centres to provide personalised, face-to-face job coaching. Finally, employability competencies are ﬁ rmly embedded into the CTI curriculum, which focuses primarily on information technology, commerce and law. For detail on the eﬃ cacy of this product go to eﬃ cacy.pearson.com O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 50 Pearson plc Annual report and accounts 2015 Targeting growth through efficacy continued REVEL With 85% of young millennials in the US owning smartphones in 2014 according to Nielsen, education innovators have come to understand that hardcover textbooks are no longer in line with students’ primary consumption habits. REVEL is a digital resource that oﬀ ers students online and mobile access to humanities and social sciences course materials. The programme includes embedded assessments, interactive components and videos integrated within the narrative content to reinforce key concepts. REVEL provides instructors an assignment calendar, which allows them to indicate to(cid:98)students when work must be completed with reminders and study tips to help students stay on track(cid:98)throughout the course. REVEL was launched in 2014 to foster independent self-initiated learning outside the classroom, so that students and educators are better prepared inside the classroom. REVEL allows students to access their learning anytime, anywhere, with an engaging experience that encourages class participation and course completion. REVEL helps instructors address a particularly thorny challenge they face in the humanities and social sciences – that students don’t do their assigned reading and come to class under-prepared. REVEL provides specialised tools to allow instructors to plan for and address this challenge. For Detail on the eﬃ cacy of this product go to eﬃ cacy.pearson.com The path towards audited eﬃ cacy statements Auditing eﬃ cacy From the start of our eﬃ cacy work we planned to have our eﬃ cacy statements audited in the same way as our ﬁ nancials each year. In order for our focus on learner outcomes to transform our business, it is essential that our customers trust any eﬃ cacy statements that we make. We are pleased to announce that this work is underway. This year we began work with an external auditor, PricewaterhouseCoopers (PwC), to ensure that any eﬃ cacy statements we make stand up to audit. We have now published 13 product reports. PwC will collaborate with us during 2016 to continue to strengthen our reporting process. In 2016 PwC will work with us to: Standardise and stabilise our eﬃ cacy reporting processes Further align our evidence to support product eﬃ cacy statements Run a mock audit of a sample of eﬃ cacy statements in the 2016 annual report in preparation for 2018 Section 2 Our performance 51 Through eﬃ cacy we are capturing our impact on learner outcomes at a product level, thereby providing customers with products and services that are eﬀ ective learning tools, and, as a result, expanding our reach. We now have the opportunity to measure the collective reach and impact of all of our products, and to report on our growth in new ways. In the next ten years, we at Pearson believe that the world should be a place where far more people are making much more progress in their lives through learning – and we are making an ambitious plan to get there. Access to high quality education 58m primary-aged children are not in(cid:98)school. 250 million children worldwide are in school but are not(cid:98)learning. Literacy and numeracy skills 750m+ adults, globally, are illiterate. In developed countries, 200 million young people still have not mastered basic literacy and numeracy skills. Employability and English language skills 206m adults are unemployed. 290 million young people are out of work. Meanwhile 40% of employers are unable to ﬁ nd qualiﬁ ed candidates to(cid:98)ﬁ ll vacancies. 1. UNESCO Policy Paper, June 2014 (58m children not in school) 2. UNESCO, Education For All Monitoring Report, April 2013 (250m in school but not learning) 3. UIS Fact Sheet, Sept. 2015 (750m illiterate) 4. International Labour Organisation, Global Employment Trends, 2012 (206m adult unemployed) 5. The Economist, April 2013 (290m young people out of work) 6. The Economist, April 2013 (40% unable to ﬁ nd qualiﬁ ed candidates) Our plans for 2016 Expand the evidence of impact With eﬃ cacy processes in place for our ‘ﬁ rst wave’ and ‘second wave’ products, we will expand the breadth of evidence we are collecting across even more Pearson products, further demonstrating their impact on learner outcomes. Leverage eﬃ cacy to develop models of product improvement While all products engaged in the eﬃ cacy process undergo an improvement cycle, in 2016 we will deepen our eﬃ cacy focus on several products that span our business models (e.g. managed services, courseware) to establish a ‘gold standard’ model of how our eﬃ cacy process leads to product improvement. Further embed eﬃ cacy into our organisation and portfolio More product teams around the company will embrace the eﬃ cacy approach. Eﬃ cacy will be better embedded in internal processes such as acquisition and strategic planning. Share our eﬃ cacy story with the world Lead a global conversation across the education sector about the impact of Pearson’s eﬃ cacy work, demonstrating how eﬀ ective education products and services deliver enhanced learner outcomes and positioning Pearson at the forefront of the industry. The remaining education challenge Education matters more than ever. It is the most important factor in driving economic and social progress. Research shows that better education helps individuals, families and countries prosper, improves health outcomes and builds cohesive societies. There are huge challenges to overcome, as noted in the adjacent diagram. There is growing consensus that addressing these pressing educational and global development issues and thereby meeting the needs of learners, employers and governments will require everyone involved in education to work together and focus on solutions which can be shown to make a diﬀ erence. In 2015 we joined world leaders at the United Nations in committing to the UN World Sustainable Development Goals (SDGs) to make the world a better place by 2030. These goals represent global challenges across both the developed and developing world and all of Pearson’s major markets. Pearson will use these goals to inform our own sustainability plan. We will leverage our investment in eﬃ cacy and our growth strategy to fuel the ﬁ nancial success of Pearson, demonstrate progress in achieving our mission, and be a global leader in addressing Goal 4 of the SDGs, “to ensure inclusive and equitable quality education and promote lifelong opportunities for all.” O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 52 Pearson plc Annual report and accounts 2015 Targeting growth through efficacy continued The Plan By 2025, Pearson commits to empower the lives of 200 million learners annually, more than doubling our current reach and doing it through the delivery of more eﬀ ective products and services. Access Success Progress Our goals To meet our commitment to empower the lives of 200 million learners annually, we have set three goals. 2025 targets We are building on our eﬃ cacy work to set ourselves ambitious growth targets. Enhance access to high quality education that leads to meaningful outcomes We will help 10 million primary and secondary learners annually access high quality education We will help 2 million post- secondary learners annually access high quality education Strategic alignment Our goals and targets align with our core strategic priorities. For more see strategic overview on p04 Online degree and virtual school programmes can improve learner access to quality primary and secondary education; currently those programmes are helping 1.8 million learners to annually access quality education. By 2025, we aim to help 10 million. Help more learners gain the knowledge and skills required for life and career success in the 21st century We will help increase literacy and numeracy for 50 million learners annually We will help 50 million learners annually gain the knowledge and skills required for study and employment We will help advance the English language skills of 75(cid:98)million learners annually Our products that support adult English language learning can provide learners with the skills required for success in a global workforce. Products such as MyEnglishLab and many others allow us to help advance the English language skills of 30(cid:98)million learners annually. By 2025 we aim to help 75(cid:98)million learners annually. Help more people make measurable progress in their life and career through learning We will help 25 million learners annually transition into the workforce after further or higher education We will help 20 million learners advance their career prospects annually Our workforce readiness products support learners to make measurable progress in their lives and careers. Products such as MyITLab help approximately 15 million learners to transition into the workforce annually. By 2025 we aim to help 25 million learners annually transition into the workforce after higher or further education. From 2016 to 2025 While our eﬃ cacy work continues, we will sharpen the focus of our portfolio, investments, partnerships, and campaigns to meet the goal of reaching, and positively impacting, 200 million learners with increasingly eﬀ ective products. This approach will eventually be embedded into every area of our business so that we are positioned for growth. In 2016, we will: Deﬁ ne company-wide trajectories and set product-level targets and trajectories. Tie KPIs to the targets across Pearson, measuring the performance of our business leaders and executives by their contributions to these goals. Develop and implement a system capable of tracking our progress towards these goals. Agree upon processes for determining new acquisitions and investments in our current and future portfolio based on their contribution to our goals. Section 2 Our performance 53 Timeline 2013 Public launch of our eﬃ cacy commitment 2016 Build on eﬃ cacy commitment to set targets for our impact and our reach 2018 First major public reporting on eﬃ cacy progress and progress against our impact and reach targets 2025 Meet our impact and reach targets Setting the targets Pearson’s ambitious research programme World-leading research continues to be a priority for Pearson. We work with the best minds in education to bring their diverse and independent insights to a wider audience. These include two reports published in 2015 with world-renowned educationalist Professor John Hattie, What Doesn’t Work in Education: the Politics of Distraction, and What Works Best in Education: the Politics of Collaborative Expertise. These papers have been read 70,000 times via our website and have redeﬁ ned our ambition for the global reach of Pearson’s thought leadership. They have formed the basis of engagements with government oﬃ cials, stakeholders and academia in key markets across the world. In 2016, we look forward to building on this momentum with releases on critical topics including adaptive learning, artiﬁ cial intelligence in education, and building eﬃ cacy into learning technologies. Our targets are derived from the key educational challenges facing learners, market realities and opportunities identiﬁ ed by our business leaders where Pearson has opportunity to grow. Our product portfolio was evaluated to determine the areas where Pearson can measurably have the greatest impact on global education. The targets are set based on current reach and market trends. Choosing these targets will help organise and measure our energy to grow the company. We are at a critical juncture in our history and the education sector is at a critical juncture in its evolution. With far greater data being made available on learners’ performance and more willingness to use that data to improve education, we have a singular opportunity to have greater impact with our products as well as reach more people. Our targets to increase our reach and impact will drive us towards commercial success and our mission to help people make progress in their lives through learning. The number of learners reached by Pearson 200m By 2025, Pearson aspires to empower the lives of 200 million learners annually Aspirational – 200m Current – 75m O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 54 Pearson plc Annual report and accounts 2015 Section 3 Our social impact 55 Our social impact Learning is the means by which people progress in their lives. At Pearson, our commercial success and delivering on(cid:98)our social purpose are mutually reinforcing. Our aim is(cid:98)to help people ﬂ ourish and make progress in their lives through education and learning. Our promise is progress for the millions who learn with us and eﬃ cacy (p46) is the key mechanism by which we will deliver. This means a clear focus on developing products and services that have a measurable impact on improving students’ lives through learning. This year, we have gone further by setting clear goals on(cid:98) the number of learners we will support through our products and services. Purpose reinforces success in a number of ways – it attracts and helps us retain talent, something we know to be true from the results of our engagement survey; it(cid:98)inspires our customers; builds conﬁ dence; drives performance and helps foster innovation. Our strategy is focused on extending and deepening our impact, but we also know that ‘how’ we deliver is central to our purpose. Acting responsibly helps us to deliver better outcomes and to meet the expectations of our stakeholders. Our social impact strategy Sustainability Impact We invest in our people, our communities and work to reduce our environmental footprint. We contribute to signiﬁ cant social and environmental campaigns. Innovation We actively partner and invest in new models of learning to help ﬁ nd solutions to the biggest unmet educational needs. O O u u r r b b u u s s i i n n e e s s s s O O u u r r p p e e r r f f o o r r m m a a n n c c e e O O u u r r S S o o c c i i a a l l i i m m p p a a c c t t G G o o v v e e r r n n a a n n c c e e i i F F n n a a n n c c i i a a l l s s t t a a t t e e m m e e n n t t s s 56 Pearson plc Annual report and accounts 2015 Overview 1. Sustainability Pearson has an active role to play in ﬁ nding solutions to our global sustainability challenges, which is integral to our business strategy and how we report on our most material issues. Sustainability p56-58 Our values and behaviours p59-60 Our relationships Our planet Impact campaigns Project Literacy Employee engagement p61-63 p63-64 p65-66 Social innovation p67 1 2 3 4 5 6 From June 2016 we will report in more detail in our 2015 Sustainability Report available on pearson.com/social-impact Towards a new strategy During 2015 we began a review of our sustainability practice, to ensure that our strategy, activities and reporting eﬀ orts: Reﬂ ect best practice in sustainability. Are ﬁ t for purpose in a rapidly changing business climate. Align with current business and stakeholder priorities. Match our ambition and business strategy. Reﬂ ect how our business model can link to the UN’s Sustainable Development Goals. Pearson has a broad deﬁ nition of responsible business and(cid:98)has established a set of commitments across a range of(cid:98)social, community and human rights principles to: Ensure that our products and services are inclusive, appropriate in content to the age, location and ability of(cid:98)the(cid:98)learner, and are easy and safe to use and access. Respect and protect how we use and share data entrusted(cid:98)to us by learners and our customers. Inform, support and equip colleagues to work collaboratively. Encourage and reward high performance, nurturing talent(cid:98)and creating a culture where all are able to realise their individual potential. Provide a safe and healthy workplace for our employees and the learners we serve. Extend our commitments on labour standards, human rights and environmental responsibility to include our suppliers and business partners. This includes a concern across the value chain for ensuring our activities are free from slavery, servitude, forced or compulsory labour and human traﬃ cking. Provide opportunities for Pearson people to be good citizens and to get involved in their local communities. Deliver against our targets on our response to climate change and to make more eﬃ cient use of resources. Pearson has in place policies to support recognised human(cid:98)rights principles. These include health and safety, safeguarding, non-discrimination and a right to quality education. As a founder signatory to the UN Global Compact, we have also made a series of commitments to the Universal Declaration of Human Rights, the ILO declarations on fundamental principles and rights at work, the Rio Declaration on Environment and Development and to reﬂ ect a zero tolerance approach to bribery and corruption. The approach we’ve taken for our sustainability review and(cid:98)the resulting sustainability map are opposite on p57 Section 3 Our social impact 57 Pearson sustainability review – ﬁ ve key phases: 1 Assess current state 2 Conduct materiality analysis 3 Deﬁ ne, ambitions, visions and goals 4 Create implementation roadmap 5 Devise reporting strategy We have completed a third-party review of policies and reporting, a benchmark against competitors and leaders, as well as internal interviews with Pearson executives. A new sustainability map captures our most material issues. This has been reviewed by internal experts and, to date, nearly 40 Pearson executives have been consulted. This will be ﬁ nalised in 2016 and form part of our sustainability reporting. Detailed below is our current thinking: Pearson sustainability map Mission Help people make progress in their lives through access to better learning Alignment with UN sustainable development goals 4 Quality education 8 Decent work and economic growth 10 Reduced inequalities Our framework indirectly addresses the other 14 goals Ambition 1 Be a trusted partner operate responsibly 2 Reach more learners be inclusive 3 Create the future of education lead in product innovation 1 2 3 4 5 Strategic intent Operate responsibly Maximise social impact by(cid:98)reaching new markets and expanding access to our products Lead in product innovation and excellence to create education that meets society’s future needs. Value our learners, customers(cid:98)and(cid:98)partners Respect and progress our(cid:98)employees Promote stewardship in our everyday operations Actively contribute to the communities where we work Deliver products which give learning(cid:98)outcomes we promise Reach more of the people who need a better education the most Produce products which improve the way education is delivered Make our products accessible to every type of learner Consider the aﬀ ordability of our(cid:98)products in relation to the type(cid:98)of market and its customers’ income levels Advance the skills, competencies, and qualiﬁ cations needed for life and work in the 21st century Empower learners to be global(cid:98)citizens O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 58 Pearson plc Annual report and accounts 2015 1. Sustainability continued Pearson and the UN sustainable development goals In 2015 we joined world leaders at the United Nations in committing to the UN sustainable development goals (SDGs) setting out their ambition for a more peaceful and prosperous world. These goals represent global challenges that impact education across the world. Goal 4 is particularly important for(cid:98)Pearson – “to ensure inclusive and equitable quality education and promote lifelong learning opportunities for all.” We are playing our part in contributing to this goal, through contributing educational expertise, knowledge and resources to(cid:98)help address these pressing challenges. We are also working in partnership with others to(cid:98)make a diﬀ erence: We are supporting Project Everyone – an organisation with a simple but mighty ambition –(cid:98)to(cid:98)share the global goals with all 7 billion people on(cid:98)the planet We have joined the Global Citizen movement –(cid:98)an(cid:98)organisation dedicated to creating change and(cid:98)taking action to address the world’s biggest challenges Governance Corporate responsibility cannot be separated from our business and reputation. The reputation and responsibility committee, a formal committee of the board, provides ongoing oversight, scrutiny and challenge across the entire responsible business agenda. Learn more on p90. The Pearson executive drives the implementation of business strategy, including our response to the key issues and opportunities we face. The responsible business leadership council oversees the development and implementation of our responsible business strategy on behalf of the board. It is chaired by our chief corporate aﬀ airs oﬃ cer and comprises senior executives from across the global business. Stakeholders Public and private sector customers regularly seek information on how we go about our business, while many learners and employees want to understand our approach to sustainability. Socially responsible investors and non-governmental organisations look at issues such as supply chain standards and ethics. Our approach to responsible business is informed by the priorities and views of our many stakeholders. A priority for us will be testing our new sustainability framework with stakeholders as part of a continuing focus on identifying, engaging and inspiring our priority audiences. 2. Our values and behaviours Section 3 Our social impact 59 Employee engagement Our organisational structure continues to evolve to better deliver on our business strategy and to position the company for growth. We continue to invest in our single operating model, and in particular in standardising systems and a smaller number of global platforms. At the same time, we are accelerating our shift and investment in digital products. Change can be inspiring but also brings operational risk. The link between employee engagement and business performance is well established, and our 2014 employee engagement survey had some key lessons for us: Our purpose to improve lives through learning is clear and compelling. Our focus on eﬃ cacy is improving our products and services. Values and behaviours are critical to our success, but need to be more clearly articulated. In this time of change, our leaders and managers need to communicate more often and more clearly their expectations of working together in a more joined-up way. More work is needed to clarify to employees how our new structure works and how it helps deliver outcomes for learners. Based on this, we set the following agenda for the work around our values in 2015 and beyond: Priorities in 2015 and beyond Activities in 2015 Leaders more consistently model the behaviours required for us to be successful Many of our leaders have written, spoken or tweeted about our values in 2015, and the values themselves have been integrated into business processes and communication Following consultation and research, we introduced ‘accountable’ as a fourth value, alongside our current values of brave, imaginative and decent, to provide positive tension and increase our focus on responsibility and delivery Employees see evidence of the values driving the right behaviours across the organisation We created a clear set of behavioural expectations against each of the values, and deﬁ ned high, expected and low performance for each behaviour, for all employees as well as for more senior leaders. Clear behavioural expectations provide more clarity in terms of what the values look like day-to-day People feel safe to speak out and challenge where our values are not being lived In 2015, we provided much clearer guidance on how to assess values and behaviours in a performance review The values and behaviours were used to help shape the revised Pearson Code of Conduct, with a particular focus on speaking up and challenging behaviour that is not consistent with our values Candidates are attracted to Pearson by our values, Employee Value Proposition and culture We created and launched a range of simple but powerful toolkits to help leaders, managers and teams explore and understand what the values and behaviours look like in their own context O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e Evidence that our values drive performance, engagement and(cid:98) retention of key talent Welcome to Pearson, our award-winning global onboarding tool, has been updated to ensure that all new hires are familiar with the values from day one. We continue to have high recall of the values, and strong identiﬁ cation with them, as evidenced in our 2015 engagement survey (see below) The 2015 engagement survey found that 89% of employees agree that ‘Pearson’s values are important to me’ – even higher than in 2014 (84%). The survey also indicated that behaviour consistent with our values was signiﬁ cantly more visible to employees, and that all four values are more prevalent within most parts of our company. As part of our work on culture, we found that the way Pearson’s colleagues treat one another and the values themselves are factors in the decision to join and stay at Pearson. i F n a n c i a l s t a t e m e n t s 60 Pearson plc Annual report and accounts 2015 2. Our values and behaviours continued Our values Brave Takes bold and decisive action to deliver ambitious outcomes and champions a culture of high performance Imaginative Looks beyond their immediate job both inside and outside of Pearson and introduces new ways of seeing, thinking and working Our behaviours C O L LEAGUES C U S TOMERS THE LEARNER S TAKEHO L D E S R Decent Listens, encourages and respects diﬀ erence, treats all people fairly, with honesty and transparency Accountable Drives results by owning the solution, getting the right people involved and delivering on promises Brave Imaginative Decent Accountable Shows determination and courage in the face of obstacles and setbacks Oﬀ ers ideas or opinions without fear of criticism or professional risk Sets high standards for own and others’ performance Assesses complex issues from multiple angles and addresses problems that don’t have clear solutions or outcomes Oﬀ ers creative ideas and innovative solutions to solve problems and address opportunities Takes a broad perspective to identify opportunities and solutions Is honest, transparent and straightforward when working with others Builds trusting relationships with a broad range of people inside and outside Pearson Looks for and includes diverse viewpoints and talents of others Takes ownership of own work and drives to successful completion and closure Identiﬁ es and involves others to accomplish individual and group outcomes Follows through on commitments Code of conduct Raising concerns Our values are reinforced by our code of conduct which covers, among other things, individual conduct, safeguarding of learners, employee rights and responsibilities, community involvement, the environment and our social obligations. We make sure everyone is aware of the Code and this forms part of the onboarding process. This year, we completed a material review and rewrite of the Code including detailed additional guidance and case study support. The Code was circulated early in 2015 to every Pearson employee and they were asked to conﬁ rm they had read it, understood it and to aﬃ rm that they would comply with it. Over 99% of employees have signed up to the Code. We operate a free, conﬁ dential telephone helpline and website for anyone who wants to raise a concern and we have a clear non-retaliation policy in place to encourage people to share the issues they have. In 2015, we had 119 concerns (112 in 2014) raised through the ethics reporting process. These were investigated and, where possible, the outcome shared with the whistleblower. This year, as in most years, the majority of the concerns related to HR practices. Material concerns raised are reported to the Pearson audit committee. 3. Our relationships Section 3 Our social impact 61 Learners and customers Our people Our primary responsibility to learners is to ensure that every product or service we sell can be measured by what it helps them to achieve. It is also the primary contribution we can make to society. Our section on eﬃ cacy describes the commitments and progress we have made. Highlights during the year include: Reinforcing our single global approach to performance assessment. Introduced in 2014 and reﬁ ned in 2015, this is designed to help our employees agree expectations for the year and to motivate people to act consistently with our values and business strategy. Last year, we adopted the Pearson product lifecycle framework for managing our products, services and platforms. This introduced a uniﬁ ed product strategy that brought a single global approach to shape how we invest, develop, market and deliver our products. We have identiﬁ ed a number of priority products for investment, selected for their potential to generate the most business value and deliver the greatest learner outcomes at scale. These are the focus of our commitments. Our products are increasingly digital, oﬀ ering opportunities to tailor and personalise learning around individual needs. At the same time, many people have concerns over the security and privacy of data. We have established a governance body within Pearson to oversee our global approach to these issues. Product development is part of a wider approach to better understanding product and customer experience. Last year, we introduced the Net Promoter Score (NPS) system into Pearson. This is one of the most recognised methods of measuring customer loyalty and to date over 150,000 of our customers have shared their comments. Corporately, we have also invested in a brand tracker – seeking the views of learners, parents and educators on Pearson in our largest markets. One area in which we can do more is to integrate our approach to managing customer relationships. We are now implementing a single global platform – Salesforce – for our marketing, sales and service functions. Starting with our businesses in South Africa and the Higher Education sales teams in the United States, we will be adding new markets, geographies and capabilities in 2016. A single customer view will help improve our responsiveness to customer needs. As we grow through operating and owning learning institutions, we have new responsibilities to safeguard and protect learners through providing a safe, age- appropriate learning environment, whether in a classroom or online. Our new head of safeguarding has spearheaded our work in this area through assigning local business leads, establishing common reporting frameworks, launching a new safeguarding online learning module and training strategy, as well as piloting a new approach to incident prevention. A continuing commitment to internal learning and development. Pearson has a single global platform – Milo – for learning and development. Employees completed approximately 200,000 courses relevant to employee development during 2015. Through Milo, we delivered a global employee induction module called ‘Welcome to Pearson’ and a suite of management modules on ways of working. Employees and managers use Milo to record their individual goals, monitor their progress, and assess their performance. Pearson also began the implementation of a single global recruitment process, which will allow all employees access to job openings around the world and introduces a consistent approach to internal movement. Ensuring our employees and the learners we serve are safe, resilient and productive. Our goal is to achieve zero harm for our employees, contractors and learners, working to prevent incidents before they occur. In 2013, we launched a revised Global Health & Safety Policy which included 39 minimum performance standards for implementation at all of our locations in the world. In June 2015, Pearson secured the RoSPA Bronze Award for health and safety performance for our global operations. A health and safety strategic plan is in place for 2015-17 with 11 focus areas, each with clear accountability and measures of performance. Helping employees understand how we are doing as a company, including how world and sector trends might aﬀ ect them and their business. We provide comprehensive and relevant information on our performance including presentations, small group discussions, messages and webinars. Senior leaders also use technology to reach all areas of Pearson, through initiatives such as virtual town halls. The chief executive hosts a regular call to update all employees on strategy and to share new innovations from across the company. In the UK, we have set up an employee engagement group involving members elected by staﬀ as well as trade union representatives. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 62 Pearson plc Annual report and accounts 2015 3. Our relationships continued Diversity and inclusion At Pearson, we value the power of diﬀ erence. It drives innovation, productivity and engagement, helping create a culture of opportunity, where every employee and learner is valued. That’s why we’re committed to ensuring that the core principles of diversity and inclusion are embedded across our entire business, so that we reﬂ ect our customers and learners, and where our people can be themselves and contribute fully to our mission to improve lives through learning. The three pillars of our approach are: Equality Diversity Inclusion Champion fair treatment, respect and equal opportunity for all our people. Celebrate what makes us diﬀ erent, our individual and organisational culture, work styles, values, beliefs, experiences, backgrounds, preferences and behaviours. Create a single global working environment and culture, where all our people can bring their full selves to work, are valued for their diﬀ erences and can contribute fully to our company purpose. We are committed to attracting, retaining, engaging and developing the best people. We know that creating and sustaining an inclusive work environment is critically important from the boardroom down, regardless of race, gender, gender identity or reassignment, age, disability, religion or sexual orientation. Highlights of our activities include: We have 30% female board members, ahead of the 25% by 2015 target set by Lord Davies for the UK’s 350 largest companies. We remain an enthusiastic member of the 30% Club which brings together chairs and CEOs to work together on gender balance. We participate in their cross-company mentoring programme which helps the development of talented mid-career women. Raising awareness about the impact of unconscious bias on key people management decisions. To date, over 4,000 employees have completed our interactive training on the topic. In the UK, we are members of the Stonewall Diversity Champions programme and participate in the Stonewall Workplace Equality Index, benchmarking how we perform as an LGBT-friendly employer against over 400 UK organisations. In the United States, Pearson again recorded a perfect score of 100% in the 2015 Corporate Equality Index run by LGBT advocacy organisation, the Human Rights Campaign. We have involved over 3,000 employees in global employee resources groups. Networks include Women in Learning and Leadership (WILL) which currently has 15 chapters, Pearson Spectrum for LGBT colleagues and allies, Pearson Parents, Pearson Able for colleagues with disabilities and accessibility advocates, Pearson Veterans for military families and veterans, and the Pearson Latino Network, dedicated to addressing the needs of Hispanic and Latino employees and learners. Disability is an important part of our wider commitment to diversity and inclusion. We work to ensure that appropriate procedures, training and support are in place for people with disabilities to ensure fair access to career and progression opportunities. Our Able network of employees will help us improve practice. Women in Pearson (%) Board of directors Senior leadership* All employees 33% 2015 30% as at 1.1.16 30% 2014 22% 2013 34% 2015 35% 2014 31% 2013 59% 2015 58% 2014 57% 2013 * Two reporting lines from chief executive All employees (number) Board of directors Senior leadership* All employees** 7 as at 1.1.16 6 men 3 women 68 men 35 women 16,781 men 24,260 women * Two reporting lines from chief executive ** Derived from HR systems and includes the FT Supply chain and partners Pearson purchases goods and services valued at around £1.5bn each year. This total includes our investment in research and development of new digital products and services. Speciﬁ c clauses relating to our commitments made under the UN Global Compact are an integral part of our contracts for key suppliers. These standards include the rejection of forced and compulsory labour, a respect for diversity, a minimum age to work on Pearson projects and compliance with employment laws and regulations. This year, we reviewed our approach to franchise partners and introduced a common contract template governing our responsibilities on health and safety, labour standards, combatting corruption, safeguarding and the environment. Communities In 2015, our community investment was £10.7m, or 1.5% of pre-tax proﬁ ts. In 2014, Pearson adopted a new strategy which established increasing literacy rates worldwide as our anchor social impact campaign issue, along with a focus on employee engagement in communities. Read more on pages 65-66. We are committed to playing an active role in helping shape and inform the global debate around education and learning policy. A major milestone this year was the launch of the UN Sustainable Development Goals and, with others, we successfully advocated for the inclusion of education as a core goal. We also contributed to the debate during the UN General Assembly in September as well as to Project Everyone to spread the word on the goals. We are a board member representing the private sector on the Global Partnership for Education, having been one of the ﬁ rst companies to join the initiative. GPE brings together over 50 developing countries, donor governments, international organisations, the private sector, teachers, and civil society/NGO groups to support developing countries with their education sector plans through ﬁ nancial assistance and technical expertise: www.globalpartnership.org We also believe that the wider private sector has an important contribution to make in developing education and learning policy. We helped establish, and continue to support, the Global Business Coalition for Education, helping focus the wider business community on the challenges faced by developing countries to promote learning: http://gbc-education.org/about-us Section 3 Our social impact 63 4. Our planet We believe that we have a responsibility to play our part in protecting the natural resources on which we all depend. Climate change Pearson maintained our climate neutral status for our directly controlled operations – a commitment we ﬁ rst achieved in 2009. We do this through carbon reduction, purchase of renewable energy, renewable energy generation at our sites and the purchase of carbon oﬀ sets. Highlights of our activities include: Pearson retains global certiﬁ cation against the Carbon Trust Standard. We were the second ever organisation to secure the standard which recognises leadership in measuring, managing and reducing year-on-year carbon emissions. Pearson completed our work to build a carbon footprint analysis tool for our book publishing in the US and UK. This will help us target the most eﬀ ective reductions. We maintained our record of purchasing 100% of the electricity we use from green power representing over 141,000 MWh of electricity in 2015. During COP21 in Paris, Pearson announced that we had signed up to RE100, joining over 50 companies helping build the market for renewable electricity. We continue to generate renewable electricity at ﬁ ve sites and have 2.6 MW of wind and solar assets installed. Pearson is certiﬁ ed against ISO14001, the environmental management standard in the UK and Australia. During 2015, Pearson completed the work to become certiﬁ ed against ISO 50001, the energy management standard. Our River Street oﬃ ces in Hoboken, New Jersey, became the latest to secure LEED certiﬁ cation, an internationally recognised mark of environmental excellence in facilities management. Pearson occupies 840,000 square feet in LEED certiﬁ ed buildings including our oﬃ ces at 330 Hudson Street in New York. Our approach to managing other materially important emissions – such as embedded carbon dioxide in purchased raw materials as well as business travel by air – are detailed in our 2015 Environment report. This will be published in June 2016. Targets 25% 100% reduction in operational emissions by the end of 2015, based on a 2009 base year. We achieved 30% To maintain our record of purchasing 100% of the electricity we use from green power. Achieved O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 64 Pearson plc Annual report and accounts 2015 4. Our planet continued Global Greenhouse Gas (GHG) emissions data (Metric tonnes of CO2e) Emissions from: Combustion of fuel and operation of facilities (GHG Protocol scope 1) Electricity, heat, steam and cooling purchased for own use (GHG Protocol scope 2) Total Calendar year 2014 Calendar year 2015 Intensity ratios: Calendar year 2014 Calendar year 2015 Scopes 1 and 2 (tonnes CO2e)/ sales revenue £ (millions) Scopes 1 and 2 (tonnes CO2e)/FTE 26.6 3.17 24.8 2.70 25,027 22,343 104,715 88,381 129,742 110,724 Carbon emissions The scope 1 and scope 2 carbon emissions are calculated according to The Greenhouse Gas Protocol: Corporate Accounting and Reporting Standard (Revised Edition) together with the latest emission factors from recognised sources including, but not limited to DEFRA, the International Energy Agency, and the US Environmental Protection Agency. No material scope 1 or scope 2 emissions have been excluded from the reported GHG emissions. Material use: Forests When purchasing paper for our books, security and sustainability of supply are very important to us. Paper use remains a priority environmental issue and we continue to focus on sustainability sourcing and being more eﬃ cient in how we use paper. We: First adopted and publicly disclosed our environmental sourcing policy for paper in 2003. Collect and map data on the forest of origin, certiﬁ cation systems applicable and recycled content for the papers we purchase. Talk about our guidelines with our key paper suppliers when we meet and as part of our contract negotiations. Discuss our approach to paper purchasing with customers, environmental groups, investor analysts and other interested stakeholders. Signed up to the WWF Save Forests campaign and added our voice for the inclusion of printed material within the scope of the EU Timber Regulation. Hold Forest Stewardship Council (FSC) chain of custody certiﬁ cation, allowing books to carry the FSC label for our businesses in North America and in the UK. Are members of industry bodies dedicated to responsible forest management. We have been members of the WWF forest and trade network for over a decade and are a founder member of PREPS – the publishers database for responsible environmental paper sourcing – which we use across our global business. Invest in forest-based carbon oﬀ sets for any part of our climate footprint we cannot reduce or avoid through other means. Since 2009, this programme has seen over 1,300 hectares of forest protected in Canada, Colombia, Costa Rica, the US and the UK. Visit pearson.com/environment to learn more. Our performance: Our social impact rankings One way we assess how we are doing as a responsible business is to maintain our position in key indices and(cid:98)benchmarks of social responsibility. Index/year Dow Jones Sustainability Indices* BITC Corporate Responsibility Index 2011 Global Sector Leader Platinum 2012 Gold Class 2013 Silver Class Platinum (retained) Platinum Inclusion in FTSE4Good Yes Yes Yes Corporate Knights index of the Global 100 most sustainable corporations 2014 2015 Bronze Class Platinum (retained) Yes Yes Bronze Class 95%** Yes Yes * For the last decade, we have been included in the DJSI World index which includes only the top 10% of companies in each industry assessed for sustainability performance. ** BITC introduced a new rating system in 2015. We welcome feedback on this aspect of the company as we do on any other. Please e-mail amanda.gardiner@pearson.com with any questions or ideas you may have. 5. Impact campaigns Pearson has changed its approach to community investment. We believe that we can make more of a(cid:98)diﬀ erence to people’s lives through focusing on a(cid:98)small(cid:98)number of campaigns and issues, where working(cid:98)together with others can accelerate the impact(cid:98)of learning. As the world’s learning company, Pearson has a lot to oﬀ er beyond traditional cash donations – we can also bring the expertise and enthusiasm of our people, as well as a wealth of relevant products and services. This approach also delivers value for the company. By(cid:98)getting involved in social campaigns, our employees can develop new skills, insight and energy and apply this(cid:98)to their work at Pearson. Our social impact campaigns also raise Pearson’s proﬁ le, diﬀ erentiate us, and increase awareness of issues that inhibit access to(cid:98)better learning outcomes. In 2015, our primary focus has been on developing our ﬂ agship campaign, Project Literacy. Alongside this, we have also oﬀ ered employees a range of new ways to get involved in worthy causes and their local communities. Project Literacy Illiteracy remains a huge challenge. One in ten people worldwide, or over 750 million adults, are illiterate, two- thirds of whom are women. This is a staggering number of people. We also know that being literate is fundamental to(cid:98)building a world in which everyone has the chance to(cid:98)learn. Literacy is an issue where we believe that Pearson can make a substantial contribution, but is far from suﬃ cient on its own. This is why we launched Project Literacy – a(cid:98)movement with a shared vision to put literacy within everyone’s reach, unlocking the potential of people, communities and whole economies. To date, 40(cid:98)organisations have joined the campaign. Project Literacy – headlines Section 3 Our social impact 65 To shape our campaign strategy and focus, we researched the views of the public, the private sector and literacy charities to understand both the current landscape and to benchmark awareness of illiteracy as an urgent issue. We found that: a) Illiteracy is not viewed as a major global or national(cid:98)issue. However, when illiteracy is connected to social and economic challenges such as poverty, interest rises b) The vast majority of funding is for child literacy leaving(cid:98)adult, and in particular women’s, literacy under-funded c) More investment is needed to support families to help(cid:98)their children develop literacy skills before starting school Based on these insights, Project Literacy reﬁ ned its focus and strategy as a ﬁ ve-year campaign dedicated to building a movement and partnerships that will act together to close the global literacy gap. Building partnerships Partnerships are critical to the success of Project Literacy. Our partnership selection process is based on a theory of change developed in collaboration with the Pearson Eﬃ cacy team and Results for Development (R4D), a US non-proﬁ t that specialises in monitoring and evaluation for international development programmes. Engaging employees in social impact Our people are our best ambassadors and advocates. One way we support them is to provide opportunities to give time and money to invest in their communities. We use Project Literacy as a lever, but we also support our employees to make an impact on causes they care about through opportunities to volunteer, donate and to share their social impact stories. Over the course of 2015, 30% of employees participated in social impact activities at Pearson. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e 969m people reached through media, social reach and events 11,460 people have sought volunteering opportunities with our Project Literacy partners 449,477 views of Project Literacy articles published by GOOD Magazine, a social purpose media company Celebrities and inﬂ uencers supporting the campaign: Richard Branson, Chelsea Clinton and Piers Morgan Events marked by Project Literacy: World Book Day, Mandela Day, International Youth Day, International Literacy Day, UNGA week, International Human Rights Day, and Giving Tuesday i F n a n c i a l s t a t e m e n t s 66 Pearson plc Annual report and accounts 2015 5. Impact campaigns continued The three pillars of our theory of change that guide our partnership investment decisions are: 1 Advancing best practice 2 Innovating new solutions We partner with organisations implementing proven literacy interventions to help them grow. Why? Because there are some things that we already know work to improve literacy, and we need more of them. We partner with organisations to design, build and rigorously test new approaches to tackling illiteracy. Why? Because new solutions will be needed to reach the most marginalised and achieve scale. 3 Raising awareness and mobilising action We are building a network to advocate collectively for greater investment in and attention to literacy. Why? Because the extent of the problem and its potential impact is huge; we’ll need everyone united to close the literacy gap. National Literacy Trust (NLT) Worldreader Unsigned petition Project Literacy and NLT are partnering together to replicate Early Words Together, a targeted literacy peer education programme for families with children aged 2 to 5, in 30 schools across the London metropolitan area. As an integral component of the programme, Pearson and community volunteers are recruited and trained to help parents improve their home learning environment and adopt behaviours that support literacy using evidence- based approaches and materials. Project Literacy and Worldreader are partnering together on a mobile technology pilot project in India – Mobile Reading to Children – to empower parents to talk more and read more to their children, speciﬁ cally through the use of mobile devices. With the Worldreader mobile app, which is available on feature phones and smartphones, we will be providing a rich bank of locally relevant content at low cost for 200,000 low-income parents in Delhi who have children aged 6 and younger. Additional partners include Results for Development, Center for Knowledge Societies, Society for All Round Development, Katha, and Health and Family Planning Organization. In September 2015, 16 Project Literacy partners joined forces to sign an open letter to world leaders meeting at the United Nations General Assembly (UNGA), calling on them to make literacy a key part of the sustainable development agenda. The letter was published in The New York Times and The Guardian. This letter, combined with the launch of our global ‘Unsigned Petition’, reached 410 million people through social media. The petition is(cid:98)our major call to action for 2015 and 2016, serving as a striking and visual reminder of the global scale of(cid:98)illiteracy and the 750 million people worldwide who cannot sign for themselves. Volunteering Giving We now have formal volunteering programmes in place in the US and the UK with Project Literacy partners including Reading Partners, Jumpstart and the National Literacy Trust. In 2015, our employees volunteered over 10,000 hours with 40% of those linked to literacy. For one programme – Read for the Record run by Jumpstart – our employees contributed approximately 1,000 volunteering hours and helped 7,000 children. Sharing Pearson employees helped inspire others by contributing more than 1,400 stories about literacy volunteering or donating, either on social media or on our internal community engagement hub. Pearson has teamed up with Kiva, the world’s largest micro-lending platform, to provide micro-loans to people around the world who are locked out of traditional banking systems. To date, employees have made more than $600,000 of loans to Kiva entrepreneurs, making Pearson third globally for total amount loaned by a business on Kiva. In September, we launched a matching gifts campaign to mark the launch of the Global Goals and Project Literacy presence at UNGA. Throughout the entire month, employees across Pearson who gave to charities received a 4:1 match from Pearson. The campaign raised over $430,000. Over the course of the year, employees supported more than 1,100 charities. 6. Social innovation Section 3 Our social impact 67 Lack of access to quality education for low-income and marginalised families is a global challenge that impacts both developing and developed economies. Central to our approach is a belief that commercial solutions can accelerate access to quality, aﬀ ordable education, while presenting new business opportunities for Pearson. Uncovering, developing and scaling solutions, especially in places where education standards fall well behind the best in the world, can require us to challenge the way we think about our business. We invest in new technology as well as test innovative partnerships for our products to reach these(cid:98)markets. One example is Every Child Learning – our partnership with Save the Children. Our shared vision is to work together to ﬁ nd sustainable ways for the education system in Jordan to cope with the inﬂ ux of displaced Syrian refugee children. We have donated £500,000 to(cid:98)fund the establishment of two Save the Children education centres in Amman, which are supporting Syrian refugees and host community children (5 to 13 years old) to get a quality education. We have made a(cid:98)further £1m commitment to work jointly with Save the Children to scope, research, design and develop new education solutions. That means going beyond traditional philanthropy to leverage the full potential of Pearson’s global operations, networks and people. Social innovation in practice – the Pearson Aﬀ ordable Learning Fund The Fund launched in 2012 and has a maximum commitment level of $65m in capital. Its ambition is to reach millions of students from low income families by 2020, allowing access to high quality aﬀ ordable education. Integral to its approach is to set improvements in learning outcomes and market- based returns as conditions of continued investment. The Fund has invested in innovative education start-ups in South Africa, Nigeria, Ghana, India and the Philippines. The Fund goes far beyond ﬁ nancial backing in that it contributes to good governance, and operational support to education entrepreneurs. The(cid:98)Fund(cid:98)enables innovation from which both Pearson and(cid:98)governments can learn; the cost per student in the schools in the fund portfolio is on par or lower than the per(cid:98)pupil cost in the public sector. Every Child Learning Providing education for children in conﬂ ict and emergency settings presents many unique challenges. As the conﬂ ict in Syria enters its sixth year, over two million Syrian children are no longer in school and even more are vulnerable to the risks of child labour, early marriage and recruitment into militia groups. To address this critical issue we have joined forces with the international organisation Save the Children to launch Every Child Learning. The three-year partnership worth £1.5m will increase educational opportunities for Syrian refugees and(cid:98)host communities, and innovate new solutions to help(cid:98)improve the delivery of education in emergency and(cid:98)conﬂ ict-aﬀ ected settings. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 68 Pearson plc Annual report and accounts 2015 Section 4 Governance 69 Governance report Remuneration 94 Remuneration committee introduction 97 Summary of remuneration policy 101 Annual remuneration report 116 Information on changes to remuneration for 2016 Additional disclosures 118 Report of the directors 121 Additional shareholder information Governance overview 70 Senior independent director’s letter Leadership & eﬀ ectiveness 72 Board of directors 74 Board governance and activities 79 Chairman’s succession 80 Nomination committee report Accountability 82 Audit committee report 88 Risk governance and control Engagement 90 Reputation & responsibility committee report 92 Shareholder engagement 93 Wider engagement O O u u r r b b u u s s i i n n e e s s s s O O u u r r p p e e r r f f o o r r m m a a n n c c e e O O u u r r S S o o c c i i a a l l i i m m p p a a c c t t G G o o v v e e r r n n a a n n c c e e i i F F n n a a n n c c i i a a l l s s t t a a t t e e m m e e n n t t s s Note: This section constitutes our directors’ report as required by UK legislation. 70 Pearson plc Annual report and accounts 2015 Governance overview From Vivienne Cox, Senior independent director Vivienne Cox Senior independent director During times of change, good governance is paramount. As a board we organise our work around four major themes where we believe we can add value: governance, strategy, performance and people. In this Governance section Leadership & eﬀ ectiveness Accountability Engagement Remuneration Additional disclosures p72-81 p82-89 p90-93 p94-117 p118-123 Dear shareholders The past year has seen some notable changes at Pearson, in terms of both personnel and portfolio, and as senior independent director, the board felt it was appropriate for me to set out these changes for you in greater detail. After ten years at Pearson, during which our business and the wider economy in which we operate have transformed markedly, Glen Moreno stepped down as chairman at the end of 2015. Whilst the last few months of 2015 were challenging for Pearson, Glen’s legacy to the company can be seen in the well balanced and forward- thinking board of directors he has assembled which is working hard to steer Pearson back to growth. Having worked alongside Glen for the past four years on the board, and on behalf of Pearson as a whole, I would like to thank him for his deep commitment to Pearson and its mission and wish him the very best for the future. Glen’s successor as Pearson chairman, Sidney Taurel, oﬃ cially took up his post in January 2016 and we are conﬁ dent that his experience and dedication will help guide Pearson towards successful delivery of its key priorities. Read more about Chairman succession on p79 Governance principles During times of change, good governance is paramount. The board was closely involved with the strategic decisions to sell Pearson’s interests in the Financial Times, The Economist and PowerSchool, providing input and challenge as matters progressed. We will continue to do so throughout the current phase of change. Our role and activities As a board we organise our work around four major themes where we believe we can add value: governance, strategy, performance and people. Our board calendar and agenda provide ample time to focus on these themes and we have set out some examples of the business considered by the board, as well as the governance practices to which we adhere, on the pages that follow. Learn more about Board meetings and activities on p75 UK Corporate Governance Code This year, for the ﬁ rst time, we are reporting against the 2014 edition of the UK Corporate Governance Code (the Code). The board believes that during 2015 the company was in full compliance with all relevant provisions of the Code. A detailed account of the provisions of the Code can be found on the FRC’s website at www.frc.org.uk and we encourage readers to view our compliance schedule on the company website at www.pearson.com/governance Section 4 Governance/Leadership & eﬀ ectiveness 71 Board and management Engagement See full section on p90-93 The Pearson board consists of senior executive management alongside a strong team of non-executive directors drawn from successful international businesses and education institutions with experience of corporate strategy, education, emerging markets, technology and consumer marketing. Board changes As is best practice, we continually assess and refresh the board to ensure we maintain an appropriate balance and diversity of skills and experience. In April 2015 we also bid farewell to David Arculus and Ken Hydon, who each served on the board for nine years, as remuneration and audit committee chairmen respectively. In addition to our new chairman, we have also welcomed two other directors to our board since our last report to shareholders. Coram Williams – a long-time Pearson and Penguin Random House colleague – joined the board on 1 August 2015, assuming the role of chief ﬁ nancial oﬃ cer following Robin Freestone’s departure, and in January 2016, Lincoln Wallen joined the board as a non-executive director bringing with him a wealth of digital and technology experience. We welcome Coram and Lincoln to the board, where they are already making valuable contributions to our governance and deliberations. Learn more about our Board of directors on p72-73 Board and executive structure and balance Our board consists primarily of non-executive directors, who bring a strong independent viewpoint, complementing the executive perspectives of John Fallon and Coram Williams. In addition, we invite members of the Pearson executive to attend a number of the board’s sessions to bring insights and thoughts from across the business, such as at the board’s overseas strategy sessions in Palo Alto, California and New Delhi, India. Learn more about the Overseas strategy sessions on p93 Accountability See full section on p82-89 A key element of the board and audit committee’s work each year is consideration of Pearson’s risk appetite and the review of our principal risks. The 2014 edition of the Code introduced a requirement for the board to assess the company’s prospects taking into account the current position and principal risks, and to make a viability statement on this basis. The audit committee supported the board in this process by examining the analysis and assumptions underlying the viability statement, considering the required inputs and evaluating the proposed disclosures resulting from the process. Learn more about Risk management on p38-40 and read the Viability statement on p118 Engagement with shareholders and society as a whole is key to Pearson’s mission to help people make progress in their lives through access to better learning. We have announced important partnerships during the past year, such as Project Literacy and our partnership with Save the Children, and the launch of the UN’s Sustainable Development Goals has presented an opportunity for Pearson to become engaged with a wide section of stakeholders. As a result, our reputation & responsibility committee continues to expand its areas of focus, with increased sight of Pearson’s social impact initiatives, social and traditional media engagement activity, and employee engagement matters. We also welcomed a number of shareholders to our Annual General Meeting (AGM) which, as always, was a valuable opportunity for our board and senior management to respond to shareholders’ views and questions. Remuneration See full section on p94-117 This year’s directors’ remuneration report refers to further incremental changes we have made in line with policy in 2015 to better align executive director compensation with the interests of our shareholders and how this policy was operated in 2015. To put our report into context, we have included a summary of the approved directors’ remuneration policy report from 2013 which is not subject to a vote. Our remuneration policy was reviewed in 2013 to align with the company’s strategy and organisation and was approved by shareholders at the 2014 AGM. We continue to operate executive remuneration in line with the approved policy and at present do not anticipate seeking shareholder approval for our policy again until required to do so at the 2017 AGM. Conclusion I hope this report clearly sets out how your company is run, and how we align governance and our board agenda with the strategic direction of Pearson. We always welcome questions or comments from shareholders, either via our website (www.pearson.com) or in person at our Annual General Meeting. Vivienne Cox Senior independent director O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 72 Pearson plc Annual report and accounts 2015 Board of directors Chairman Executive directors N R Sidney Taurel Chairman aged 67, appointed 1 January 2016 John Fallon Chief executive aged 53, appointed 3 October 2012 Coram Williams Chief ﬁ nancial oﬃ cer aged 42, appointed 1 August 2015 Sidney has over 40 years of experience in business and ﬁ nance, and is currently a board director and chairman of the Compensation Committee at IBM Corporation. He is also a director at McGraw Hill Financial, Inc., a role from which he will step down during 2016. Sidney is senior advisor at global investment bank Moelis & Co and an advisory board member at pharmaceutical ﬁ rms Takeda Pharmaceutical and Almirall. He was chief executive oﬃ cer of global pharmaceutical ﬁ rm Eli Lilly and Company from 1998 until 2008, chairman of the business from 1999 until 2008, and has been chairman emeritus since 2009. Sidney has received three US presidential appointments: to the Homeland Security Advisory Council, the President’s Export Council and the Advisory Committee for Trade Policy and Negotiations, and is an oﬃ cer of the French Legion of Honour. John became Pearson’s chief executive on 1 January 2013. Since 2008 he had been responsible for the company’s education businesses outside North America, and a member of the Pearson management committee. He joined Pearson in 1997 as director of communications and was appointed president of Pearson Inc., in 2000. In 2003, he was appointed CEO of Pearson’s educational publishing businesses for Europe, Middle East and Africa. Prior to joining Pearson, John was director of corporate aﬀ airs at Powergen plc, and was also a member of the company’s executive committee. Earlier in his career, John held senior public policy and communications roles in UK local government. He is an advisory board member of the Global Business Coalition for Education and a member of the Council of the University of Hull. Coram joined Pearson in 2003 and has held a number of senior positions including ﬁ nance and operations director for Pearson’s English Language Teaching business in Europe, Middle East & Africa, interim president of Pearson Education Italia and head of ﬁ nancial planning and analysis for Pearson. In 2008 Coram became CFO of The Penguin Group and was latterly appointed CFO of Penguin Random House in 2013. Coram was trained at Arthur Andersen, and subsequently worked in both the auditing and consulting practices of the ﬁ rm. Key to committees A Audit Committee Committee Chair N R Nomination Committee Remuneration Committee RR Reputation & Responsibility Non-executive directors A N RR N RR Linda Lorimer Non-executive director aged 63, appointed 1 July 2013 Harish Manwani Non-executive director aged 62, appointed 1 October 2013 Linda has a deep background in education strategy, administration and public aﬀ airs. She is senior counsellor to the president and provost of Yale University and until recently served as vice president for Global & Strategic Initiatives at Yale, where her duties included oversight of Yale’s Oﬃ ce of International Aﬀ airs and Oﬃ ce of Digital Dissemination. Over a 30-year career in higher education, she has been responsible for many of Yale’s administrative services including the university’s public communications, alumni relations and Oﬃ ce of Sustainability. Previously, Linda served as president of Randolph-Macon Woman’s College in Virginia and was chair of the board of the Association of American Colleges and Universities. She also served on the boards of several public companies, including as presiding director of the McGraw-Hill Companies. Harish has an extensive background in emerging markets and senior experience in a successful global organisation. He was previously chief operating oﬃ cer of consumer products company Unilever, having joined the company in 1976 as a marketing management trainee in India, and held senior management roles around the world, including North America, Latin America, Europe, Africa and Asia. He is non-executive chairman of Hindustan Unilever Limited in India, and serves on the boards of Whirlpool Corporation, Qualcomm Inc. and Nielsen Holdings. He is also on the board of the Indian School of Business and the Economic Development Board (EDB) of Singapore, and is global executive advisor at Blackstone Private Equity. Section 4 Governance/Leadership & eﬀ ectiveness 73 Non-executive directors R N RR A N R N R RR Elizabeth Corley, CBE Non-executive director aged 59, appointed 1 May 2014 Vivienne Cox, CBE Senior independent director aged 56, appointed 1 January 2012 Vivienne has wide experience in energy, natural resources and business innovation. She worked for BP plc for 28 years, in Britain and Continental Europe, in posts including executive vice president and chief executive of BP’s gas, power and renewables business and its alternative energy unit. She is non- executive director of Stena International and chairman of the supervisory board of Vallourec, which supplies tubular systems for the energy industry. She is also lead independent director at the UK Department for International Development. Vivienne was appointed Commander of the Order of the British Empire (CBE) in the 2016 New Year Honours for services to the UK Economy and Sustainability. Elizabeth is non-executive vice chair of Allianz Global Investors, where she was chief executive oﬃ cer from 2005 to 2016. She was previously at Merrill Lynch Investment Managers (formerly Mercury Asset Management) and Coopers & Lybrand. Elizabeth is acting-chair of the FICC Markets Standards Board, a member of the ESMA stakeholder group and an advisory council member of TheCityUK. She is a non- executive director of BAE Systems plc and the Financial Reporting Council. In addition, she is a member of FEAM’s management committee, the CFA Future of Finance Council, the Supervisory Board of Euler SA, a council member of the City of London IRSG and a member of the Committee of 200. She is a fellow of the CFA and the Royal Society of Arts and is also a crime ﬁ ction author. Non-executive directors A N R A N Tim Score Non-executive director aged 55, appointed 1 January 2015 Lincoln Wallen Non-executive director aged 55, appointed 1 January 2016 Tim has extensive experience of the technology sector in both developed and emerging markets, having served as chief ﬁ nancial oﬃ cer of ARM Holdings plc, the world’s leading semiconductor IP company, a position he held for 13 years. He is an experienced non-executive director and currently sits on the boards of The British Land Company plc and HM Treasury. He served on the board of National Express Group plc from 2005 to 2014, including time as interim chairman and six years as the senior independent director. Earlier in his career Tim held senior ﬁ nance roles with Rebus Group, William Baird, BTR plc and others. Lincoln is chief technology oﬃ cer for DreamWorks Animation, the global family entertainment company, a position he has held since 2012, having joined the company as head of research and development in 2008. Prior to this, Lincoln served as chief technology oﬃ cer for the mobile business of Electronic Arts, Inc., a leading interactive entertainment software company. He has held senior positions at Criterion Software, MathEngine plc and is a non-executive director of the Smith Institute for Industrial Mathematics & System Engineering. Lincoln is also an advisory board member of Hewlett Packard Enterprise and a member of the STEM Advisory Committee of the National Academy foundation. Lincoln was formerly a lecturer and reader in computation at the University of Oxford. Josh Lewis Non-executive director aged 53, appointed 1 March 2011 Josh’s experience spans ﬁ nance, education and the development of digital enterprises. He is the founder of Salmon River Capital LLC, a New York-based private equity/ venture capital ﬁ rm focused on technology- enabled businesses in education, ﬁ nancial services and other sectors. Over a 25-year career in active, principal investing, he has been involved in a broad range of successful companies, including several pioneering enterprises in the education sector. In addition, he has long been active in the non- proﬁ t education sector, with associations including New Leaders, New Classrooms, and the Bill & Melinda Gates Foundation. He is also a non-executive director of several enterprises in the ﬁ n-tech/data, education, and other sectors. Pearson board members bring a wide range of experience, skills and backgrounds which complement our strategy. Experience of chairman and non-executive directors Digital/technology experience 63% Emerging market experience 38% Education/learning sector experience 63% O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 74 Pearson plc Annual report and accounts 2015 Board governance and activities Board of directors Composition of the board The board currently consists of the chairman, Sidney Taurel, two executive directors including the chief executive, John Fallon, and seven independent non-executive directors. Chairman and chief executive There is a deﬁ ned split of responsibilities between the chairman and the chief executive. The roles and responsibilities of the chairman and chief executive are clearly deﬁ ned, set out in writing and reviewed and agreed by the board annually. Chairman’s signiﬁ cant commitments There were no changes to the chairman’s signiﬁ cant commitments between his appointment to the Pearson board on 1(cid:98)January 2016 and the date of this report. Mr Taurel has announced that he will step down from the board of McGraw Hill Financial, Inc. at its 2016 annual shareholders’ meeting. Independence of chairman Sidney Taurel was considered to be independent upon his appointment as chairman on 1 January 2016. Independence of directors All of the non-executive directors who served during 2015 were considered by the board to be independent for the purposes of the Code. Lincoln Wallen was considered to be independent upon his appointment to the board on 1 January 2016. The board reviews the independence of each of the non-executive directors annually. This includes reviewing their external appointments and any potential conﬂ icts of interest as well as assessing their individual circumstances in order to ensure that there are no relationships or matters likely to aﬀ ect their character or judgement. In addition to this review, each of the non-executive directors is asked annually to complete an independence questionnaire to satisfy requirements arising from Pearson’s US listing. Key roles Role Name Responsibility Chairman Sidney Taurel Chief executive John Fallon The chairman is primarily responsible for the leadership of the board and ensuring its eﬀ ectiveness. The chairman sets the board’s agenda and promotes open, constructive debate of all agenda items and eﬀ ective decision-making. He also ensures that the views of shareholders are communicated to the board. The chief executive is responsible for the operational management of the business and for the development and implementation of the company’s strategy as agreed by the board and management. He is responsible for developing operational proposals and policies for approval by the board, and promotes Pearson’s culture and standards. Senior independent director Committee chairmen Vivienne Cox The senior independent director’s role includes meeting regularly with the chairman and chief executive to discuss speciﬁ c issues, as well as being available to shareholders generally should they have concerns that have not been addressed through the normal channels. Tim Score, Elizabeth Corley, Vivienne Cox and Sidney Taurel The committee chairmen are responsible for leading the board committees and ensuring their eﬀ ectiveness. They set the committees’ agendas, in consultation with the company’s management, and report to the board on committee proceedings. Company secretary Stephen Jones The company secretary acts as secretary to the board and its committees, ensuring compliance with board procedures and advising on governance matters. He is responsible, under the direction of the chairman, for ensuring the board receives accurate, timely and clear information. The company secretary organises new director inductions and ongoing director training. Gender split of board Length of tenure of non-executive directors Men Women 7 3 Under 3 years 3 to 6 years 5 2 Figures as at 4 March 2016 Figures as at 4 March 2016 Section 4 Governance/Leadership & eﬀ ectiveness 75 Conﬂ icts of interest Under the Companies Act 2006 (the Act), directors have a statutory duty to avoid conﬂ icts of interest with the company. The company’s articles of association (Articles) allow the directors to authorise conﬂ icts of interest. The company has established a procedure to identify actual and potential conﬂ icts of interest, including all directorships or other appointments to, or relationships with, companies which are not part of the Pearson group and which could give rise to actual or potential conﬂ icts of interest. Once notiﬁ ed to the chairman or company secretary, such potential conﬂ icts are considered for authorisation by the board at its next scheduled meeting. The relevant director cannot vote on an authorisation resolution, or be counted in the quorum, in relation to the resolution relating to his/her conﬂ ict or potential conﬂ ict. The board reviews any authorisations granted on an annual basis. Board meetings The board held six scheduled meetings in 2015, with discussions and debates focused on the key strategic issues facing the company. Major items covered by the board in 2015 are shown in the table below. In addition to the six formal meetings, the board met by telephone in January 2015 to consider the January trading update to be issued to the market, and by telephone in October 2015 to consider the market’s reaction to Pearson’s October trading update and to begin to plan the proposed strategic course of action. The role and business of the board The board is deeply engaged in developing and measuring the company’s long-term strategy, performance and value. We believe that it adds a valuable and diverse set of external perspectives and that robust, open debate about signiﬁ cant business issues brings an additional discipline to major decisions. Board meeting focus during the year 2015 Topic Activity Governance Annual review of authorised conﬂ icts of(cid:98)interest Review of division of responsibilities between chairman and chief(cid:98)executive Focus on forthcoming AGM and review of shareholder issues Shareholder activism and defence plan Appointment of company secretary Treasury policy approval Update on Pearson System of Courses (PSoC) including hands-on demonstration of courseware South African Black Economic Empowerment (BEE) overview Supply chain outsourcing arrangements Strategy Operating and strategic plan updates Brand strategy Read more on(cid:98)p7 Regular product demonstrations Consideration of proposed corporate transactions including sales of PowerSchool, the Financial Times and The Economist Performance 2014 preliminary results and annual report and accounts Review of investor relations strategy and share price performance Interim results and trading updates Balance sheet strategy Risk appetite Approval of committee terms of reference Enterprise risk management review Read more on(cid:98)p38 Approval of schedule of authority limits Oﬀ site strategy meeting in California focusing on digital disruption in education Oﬀ site strategy meeting in New Delhi focusing on Brazil, China, India and South Africa Read more on(cid:98)p93 Triennial pension valuation Final and interim dividend proposals Monthly management reports Draft 2016 operating plan and three-year ﬁ nancials People Overview of ‘The Summit’ – Pearson’s senior leadership conference India key talent and leadership team dinner at New Delhi strategy meeting Rising Stars breakfast at overseas strategy meetings O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 76 Pearson plc Annual report and accounts 2015 Board governance and activities continued A schedule of formal matters reserved for the board’s decision and approval is available on our website, at www.pearson.com/governance The board receives timely, regular and necessary ﬁ nancial, management and other information to fulﬁ l its duties. Comprehensive board papers are circulated to the board and committee members at least one week in advance of each meeting and the board receives regular reports from the chief executive. In addition to meeting papers, a library of current and historic corporate information is made available to directors electronically to support the board’s decision-making process. Directors can obtain independent professional advice, at the company’s expense, in the performance of their duties as directors. All directors have access to the advice and services of the company secretary. Non-executive directors meet with local senior management every time board meetings are held at the locations of operating companies, such as during the board’s 2015 visits to Palo Alto, California and New Delhi, India. This(cid:98)allows the non-executive directors to share their experience and expertise with senior managers as well as(cid:98)allowing them to better understand the abilities and motivations of senior management, which in turn will help them assess the company’s prospects and plans for(cid:98)succession. Standing committee A standing committee of the board was established to approve certain ordinary course of business items such as banking matters, guarantees, intra-group transactions and to make routine approvals relating to employee share plans. The committee has written terms of reference, reviewed and approved each year, which clearly set out its authority and duties. These can be found on the company website at www.pearson.com/governance Culture and values of the board As evidenced during its externally facilitated evaluation in 2014, as(cid:98)a whole and at an individual level, the board feels wholly committed to Pearson’s values and mission. The reputation & responsibility committee’s remit includes oversight of Pearson’s values and culture, and it has continued to monitor work in these areas throughout the year. Board attendance The following table sets out the attendance of the company’s directors at scheduled board meetings during(cid:98)2015: Chairman Glen Moreno Executive directors John Fallon Robin Freestone (note 1) Coram Williams (note 2) Non-executive directors David Arculus (note 3) Elizabeth Corley Vivienne Cox Ken Hydon (note 4) Josh Lewis Linda Lorimer Harish Manwani Tim Score Board meetings attended 6/6 6/6 4/4 2/2 2/2 6/6 6/6 1/2 6/6 6/6 6/6 6/6 Note 1: Stood down on 1 August 2015 Note 2: Appointed on 1 August 2015 Note 3: Stood down on 24 April 2015 Note 4: Stood down on 24 April 2015. Unable to attend one meeting due to personal reasons Succession planning The board considers oversight of succession planning – not only at board and executive management level but for all key positions throughout the business – as one of its prime responsibilities. At board level, the primary focus during the year was to identify suitable candidates for the role of chairman. The company has formal contingency plans in place for temporary absence of the chief executive for health or other reasons. The matter of chief executive succession is a standing item for discussion and review by the chairman and chief executive annually. Succession planning for the board and chair is considered annually, and as part of the recent restructuring programme, there has been a review of key positions at executive management level. Section 4 Governance/Leadership & eﬀ ectiveness 77 Board evaluation As reported last year, towards the end of 2014, an externally facilitated board eﬀ ectiveness review was conducted by external evaluator, JCA Group. In addition to facilitating this review, JCA Group used the information and insight they had gleaned from the individual members of the board to help them form a brief and an overview of the characteristics that Pearson would be looking for in a new chairman. JCA then used this insight to inform the chairman search which took place during 2015, and resulted in the eventual appointment of Sidney Taurel as Pearson chairman. See p79 for a full review of chairman succession at Pearson. The board evaluation for 2015 was conducted on an internal basis. With the forthcoming departure of Glen Moreno, the arrival of a new chairman, together with the appointment of a new CFO and the imminent appointment of a new company secretary, it was agreed that the 2015 review should focus mainly on the support and information that the board and committees receive in order to ensure that the existing processes are suﬃ cient and ﬁ t for purpose. To that end, Stephen Jones, Pearson’s company secretary, interviewed each of the non-executive directors to understand their thinking on a number of board and committee-related support activities. Process and recommendations The review focused on the scheduling, arrangements and logistics for all board and committee meetings; the quality and usefulness of the regular information ﬂ ow to the board and committees, including the use of electronic board papers, regular CEO and CFO updates and other information; board induction and training; the payment of non-executives’ fees and expenses and any other items or suggestions for improvements. The exercise proved very useful as an opportunity to take stock of current practice, to test whether the board views that as appropriate, and to think about those areas where improvements could be made. As a result of these discussions, we are re-thinking the schedule of board and committee meetings during the course of the year, including the topics to be considered at those meetings and their venues. In addition, we are reﬁ ning some of the information that the board receives in order that the non-executives be able to be more eﬀ ective. We heard that more could be done by management to ‘curate’ some of the information that is sent to non-executives and to make clear to them what is key information and what is useful to know. We are also reﬁ ning the regular CEO and CFO updates to the board, in order to ensure they provide exactly the information that the board requires to help it track progress against a number of key milestones. This is an ongoing process, and we will continue to monitor the eﬀ ectiveness of our internal processes and to compare what we do against others. Personal objectives In addition to the evaluation of the board as a whole, executives are also evaluated each year on their performance against personal objectives under the company’s annual incentive plan. The non-executive directors, led by the senior independent director, also conduct a review of the chairman’s performance. Committee evaluation In addition to the review of the board, committees and individual directors described above, the audit and remuneration committees each undertook a further evaluation process to review their performance and eﬀ ectiveness, as they do each year. The process involves distribution of questionnaires to audit and remuneration committee members, as well as key stakeholders in each committee, seeking views on matters including committee roles and responsibilities, quality and timeliness of meeting materials, opportunity for discussion and debate, dialogue with management and access to independent advice. Responses are then evaluated and presented to the respective committee at a scheduled meeting, with key themes being drawn out for discussion. Directors’ training and induction Directors receive a signiﬁ cant bespoke induction programme and a range of information about Pearson when they join the board. This includes background information on Pearson and details of board procedures, directors’ responsibilities and various governance- related issues, including procedures for dealing in Pearson shares and their legal obligations as directors. The induction also typically includes a series of meetings with members of the board, the Pearson executive and senior management, presentations regarding the business from senior executives and a brieﬁ ng on Pearson’s investor relations programme. The induction programme for Lincoln Wallen is ongoing, tailored to his speciﬁ c areas of focus, such as time with Pearson’s technology leaders, and relevant to the board committees he has joined. Read about the induction programme for Pearson’s new chairman, Sidney Taurel on p79 O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 78 Pearson plc Annual report and accounts 2015 Board governance and activities continued All directors receive training in the form of presentations about the company’s operations, through board meetings held at operational locations and by encouraging the directors to visit local facilities and management as and when their schedule allows, including if they are travelling to a country or region on non-Pearson business. The company secretary and general counsel, in conjunction with Pearson’s advisers, monitor legal and governance developments and update the board on such matters as agreed with the chairman. Directors can also make use of external courses. Directors’ indemnities A qualifying third party indemnity (QTPI), as permitted by the Articles and sections 232 and 234 of the Act, has been granted by the company to each of its directors. Under the provisions of the QTPI the company undertakes to indemnify each director against liability to third parties (excluding criminal and regulatory penalties) and to pay directors’ costs as incurred, provided that they are reimbursed to the company if the director is found guilty, the court refuses to grant the relief sought or, in an action brought by the company, judgment is given against the director. The indemnity has been in force for the ﬁ nancial year ended 31 December 2015 and is currently in force. The company has purchased and maintains directors’ and oﬃ cers’ insurance cover against certain legal liabilities and costs for claims in connection with any act or omission by such directors and oﬃ cers in the execution of their duties. Board committees The board has established four formal committees: audit, nomination, remuneration, and reputation & responsibility. The chairmen and members of these committees are appointed by the board on the recommendation (where(cid:98)appropriate) of the nomination committee and in(cid:98)consultation with each relevant committee chairman. In(cid:98)addition to these formal board committees, the standing committee also operates with board level input. More committee information: Audit committee Nomination committee Remuneration committee Reputation & responsibility committee Standing committee p82 p80 p94 p90 p76 The committees focus on their own areas of expertise, enabling the board meetings to focus on governance, strategy, performance and people, thereby making the best use of the board’s time together as a whole. The committee chairmen report to the full board at each meeting immediately following their sessions, ensuring a good communication ﬂ ow whilst retaining the ability to escalate items to the full board’s agenda if appropriate. Board committee attendance The following table shows attendance by directors at committee meetings throughout 2015: Audit Remuneration Nomination Reputation & responsibility Glen Moreno – David Arculus (note 1) 2/2 Elizabeth Corley – Vivienne Cox 4/4 Ken Hydon (note 2) Josh Lewis 2/2 – Linda Lorimer 4/4 Harish Manwani – Tim Score (note 3) 4/4 4/4 2/2 4/4 4/4 1/2 4/4 – – 1/1 6/6 2/2 6/6 6/6 1/2 6/6 6/6 6/6 6/6 – – – 3/3 – – 3/3 3/3 – Note 1: Stood down on 24 April 2015 Note 2: Stood down on 24 April 2015. Unable to attend one remuneration committee and one nomination committee meeting due to personal reasons Note 3: Joined remuneration committee on 2 October 2015 Chairman’s succession Commencing the search Following Glen Moreno’s announcement at the 2015 AGM that he was planning to step down as chairman by the end of the year, Pearson commenced its search for a suitable successor. The selection process was led by Vivienne Cox, our senior independent director, and an external search ﬁ rm, JCA Group, was engaged to assist and advise Pearson on the search and appointment process. Taking the ﬁ ndings from the 2014 board eﬀ ectiveness review as a starting point, and in consultation with the nomination committee and the chief executive, JCA designed a speciﬁ cation for the desired candidate which included the following key attributes: Highly experienced leader of large global businesses, ideally with a proven track record as a chairman Truly global player in outlook, approach and understanding with deep knowledge of and experience in Pearson’s key geographic markets Genuine interest in embracing digital technology to beneﬁ t the customer and the company In agreeing the speciﬁ cation, the board emphasised the importance of ﬁ nding someone who was excited by and demonstrated empathy with Pearson’s mission, values, goals and people. Choosing a successor Candidate proﬁ les were prepared by JCA for consideration by Ms Cox, who then consulted the nomination committee and chief executive to agree a shortlist of strong candidates. She held initial meetings with the shortlisted candidates, and recommended a number of them to progress through to the next stage, where they met with the chief executive, following which a search sub-committee was formed, comprising Linda Lorimer and Tim Score, who each met with the strongest candidates. Ms Cox reported regularly to the nomination committee throughout the search and interview stages, and following consideration of interview feedback it became clear to the board and the nomination committee that Sidney Taurel was the most suitable candidate to succeed Glen Moreno as chairman. Agreement having been reached, the nomination committee recommended that the ﬁ nal decision be delegated to a standing committee of the board to formalise Mr Taurel’s appointment once the necessary checks had been satisfactorily completed. Section 4 Governance/Leadership & eﬀ ectiveness 79 Chairman’s selection process JCA Group was engaged with a clear set of criteria: to ﬁ nd a highly experienced global business leader, with proven ability to lead an industry through a period of change, of which technology is a key part, and in dealing with a complex regulatory environment. 1. Identify Using the agreed brief, JCA and the senior independent director considered and reﬁ ned a list of potential candidates, seeking input from the nomination committee on which candidates should be approached. 2. Interview The senior independent director led a series of interviews with the shortlisted candidates. Preferred candidates then met with the chief executive and with the two members of the search committee, following which the nomination committee met to discuss feedback. 3. Select After further meetings, including with Glen Moreno, Sidney Taurel was recommended for appointment. He was selected having successfully led a global multinational company, operating in some of the most challenging political and regulatory environments, and having lived and worked all over the world, including the US, UK and Brazil – three of Pearson’s(cid:98)most(cid:98)important(cid:98)markets. 4. Appoint Sidney’s appointment as chairman was approved and announced in October 2015 to take eﬀ ect on 1 January 2016, the date of his formal appointment to(cid:98) the Pearson board. Appointment and induction Pearson approved and announced the appointment of Sidney Taurel on 26 October 2015, and he joined the board on 1 January 2016, assuming the role of chairman immediately upon appointment. Mr Taurel met the independence requirements set out in the Code on appointment and has conﬁ rmed he is able to dedicate the requisite time to the role. A comprehensive induction programme was put in place for Sidney during the three months following the announcement of his appointment. A series of one to one meetings was held with members of the Pearson executive to enable Sidney to understand all aspects of Pearson’s global business, the challenges facing the enabling functions such as technology, HR and corporate aﬀ airs, and the wider trends in education. Sidney also met with Pearson’s brokers, corporate advisers and lawyers to understand broader regulatory matters and obligations. During his US-based induction, Sidney attended Pearson’s national sales conference focusing on issues and hot topics in the US business, and spent time in Washington, DC with the corporate aﬀ airs and government relations team. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 80 Pearson plc Annual report and accounts 2015 Nomination committee report Nomination committee role and composition The committee primarily monitors the composition and balance of the board and its committees, and identiﬁ es and recommends to the board the appointment of new directors and/or committee members. The chairman of the board also chairs the nomination committee, and all non-executive directors serve as members of the committee. The chief executive attends committee meetings by invitation. Chairman role Although the chairman of the board chairs the nomination committee, he is not permitted to chair meetings when the appointment of his successor is being considered or during a discussion regarding his performance. At such times, the senior independent director will chair the meetings, such as during the search process for Glen Moreno’s replacement during 2015 when Vivienne Cox chaired the committee’s meetings. Learn(cid:98)more about Chairman succession on p79 Committee meetings and appointments The nomination committee meets at least once a year and at other times as and when required. During 2015, the committee met six times with its primary focus being to discuss the search criteria, prepare role descriptions and consider suitable candidates for the role of chairman of the board and for an additional non-executive director with particular experience in digital technology to complement our strategy. The non-executive search culminated in the successful appointment of Lincoln Wallen to the board with eﬀ ect from 1 January 2016. ommittee Chairman of nomination committee Sidney Taurel Members Elizabeth Corley, Vivienne Cox, Josh Lewis, Linda Lorimer, Harish(cid:98)Manwani, wani, Tim Score, Sidney Taurel and Lincoln Wallen “As chairman of the nomination committee, one of Glen Moreno’s outstanding legacies to Pearson was his ability to attract ﬁ rst-rate non-executives to the Pearson board. I look forward to chairing this committee as we work to continually refresh the board, its committees and to think about succession planning at senior levels.” Committee responsibilities include: 1. Appointments Identifying and nominating candidates for board vacancies. 2. Balance Ensuring that the board and its committees have the(cid:98)appropriate balance of skills, experience, independence, diversity and knowledge to operate eﬀ ectively. 3. Succession planning Reviewing the company’s leadership needs with a view to ensuring the continued ability of the organisation to compete eﬀ ectively in the marketplace. Key activities in 2015 Objectives Actions Succession process and appointment of new chairman of the board Appointment of Sidney Taurel as chairman Identify and appoint additional non-executive director with digital technology experience Appointment of Lincoln Wallen as non-executive director with experience in digital technology Complete search process for new chief ﬁ nancial oﬃ cer Appointment of Coram Williams as chief ﬁ nancial oﬃ cer For nomination committee attendance see overview table on p78 Terms of reference The committee has written terms of reference which clearly set out its authority and duties. These are reviewed annually and can be found on the company website at www.pearson.com/governance Section 4 Governance/Leadership & eﬀ ectiveness 81 Pearson uses a number of leading ﬁ rms in its board and executive search activities. JCA Group was engaged to assist with the recruitment of Sidney Taurel. In addition to board search activity, JCA Group facilitated Pearson’s board evaluation in 2014. JCA Group has no other connection to Pearson apart from in relation to search activity and the external facilitation of the 2014 board evaluation. An external search consultancy, Spencer Stuart, was used during the recruitment process for Lincoln Wallen. Spencer Stuart does not have any other connection to Pearson apart from as a search consultancy. Learn(cid:98)more about the Board of directors on p72-73 Diversity The board embraces the Code’s underlying principles with regard to board balance and diversity, including gender diversity. The nomination committee ensures that the directors of Pearson demonstrate a broad balance of skills, experience and nationalities, to support Pearson’s strategic development and reﬂ ect the global nature of our business. The nomination committee and the board always take account of diversity in its broadest sense when considering board appointments whilst ensuring that appointments are made based on merit and relevant experience. We believe the global backgrounds of our board members contribute to diversity of experience and thought. In 2011, Lord Davies set FTSE 100 companies a target of having 25% female representation on their boards by 2015. Pearson is proud of the gender diversity of its board, having exceeded Lord Davies’ target with 30% female representation on the board, and notes Lord Davies’ recommended next steps for continued improvement in diversity on boards, including the extension of good diversity practices to the layers of executive management below the board. Immediately below board level, the Pearson executive, not including the chief executive and chief ﬁ nancial oﬃ cer who are main board directors, has two female members out of a total of nine (representing 22%). Our senior leadership team, up to and including two reporting levels from the chief executive, shows a strong pipeline of female talent with women representing 34% of our senior leaders. Pearson considers diversity as an important issue across the company, not just at board level. One of the key aims of(cid:98)Pearson’s diversity policy is to increase the number of leaders coming from a diverse background, such as through our range of networks and advancement programmes for employees. Learn(cid:98)more about Diversity and inclusion throughout Pearson on p62 Sidney Taurel Chairman of nomination committee O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 82 Pearson plc Annual report and accounts 2015 Audit committee report mittee Chairman of audit committee Tim Score Members Vivienne Cox, Linda Lorimer, Tim Score e and Lincoln Wallen “During 2015, the committee conducted a number of deep dives into selected principal risks, and as chairman of the committee, I work closely with Coram Williams to ensure Pearson’s ﬁ nance function is well-placed to support the global business eff ectively.” Committee responsibilities include oversight of: 1. Reporting The quality and integrity of ﬁ nancial reporting and statements and related disclosure. 2. Policy Group policies, including accounting policies and practices. 3. External audit External audit, including the appointment, qualiﬁ cation, independence and the performance of(cid:98)the external auditor. 4. Risk and internal control Risk management systems and internal control environment including the performance of the internal audit function. 5. Compliance Compliance with legal and regulatory requirements in relation to ﬁ nancial reporting and accounting matters. For audit committee meeting attendance see overview table on p78 Terms of reference The committee has written terms of reference which clearly set out its authority and duties. These are reviewed annually and can be found on the company website at www.pearson.com/governance Audit committee role The committee has been established by the board primarily for the purpose of overseeing the accounting, ﬁ nancial reporting, internal control and risk management processes of the company and the audit of(cid:98)the ﬁ nancial statements of the company. As a committee, we are responsible for assisting the board’s oversight of the quality and integrity of the company’s external ﬁ nancial reporting and statements and the company’s accounting policies and practices. Pearson’s internal auditor has a dual reporting line to the chief ﬁ nancial oﬃ cer and to me, and external auditors have direct access to the committee to raise any matters of concern and to report on the results of work directed by the committee. As audit committee chairman, I report to the full board at every board meeting immediately following a committee meeting. As a committee, we also review the independence of the external auditors, including the provision of non-audit services (further details of which can be found on page 119 and note 4 to the ﬁ nancial statements), ensure that there is an appropriate audit relationship and that auditor objectivity and independence are upheld. Audit committee changes 2015 saw the retirement from Pearson of Ken Hydon, who had been chairman of the committee for nine years, and David Arculus, also a long-serving member of the committee. I took over from Ken as committee chairman in April, and have since worked with Coram Williams looking closely at Pearson’s ﬁ nance function to ensure it is well-placed to support the global business eﬀ ectively. In March 2016 Lincoln Wallen joined the committee, bringing extensive technology experience, and together we have a good balance of skills and knowledge on the committee with experience covering all aspects of the sector in which Pearson operates. Fair, balanced and understandable reporting We are mindful of the Code’s provision C.1.1 relating to fair, balanced and understandable reporting and we build suﬃ cient time into our annual report timetable to ensure that the full board receives suﬃ cient opportunity to review, consider and comment on the report as it progresses. Learn more about Fair, balanced and understandable reporting on p119 Risk assessment, assurance and integrity A key role of the committee is to provide oversight and reassurance to the board with regard to the integrity of the company’s ﬁ nancial reporting, internal control policies, and procedures for the identiﬁ cation, assessment and reporting of risk. During 2015 we Section 4 Governance/Accountability 83 The committee reviewed the overall H&S landscape at Pearson, in particular evaluating the progress made since the launch of the global H&S policy in December 2013. It noted that continued improvements are being implemented in standards, facilitated by the support of H&S coordinators, and was satisﬁ ed with the developments in relation to safeguarding and the progress that the safeguarding oﬃ cer has made since appointment in August 2014. The committee reviewed the ongoing implementation of ABC policies, where progress to date has been good, and noted that a more comprehensive and risk-based ABC training programme would continue to be rolled out in 2016. We also considered how the compliance and legal functions were working together to ensure appropriate stances in each jurisdiction, while maintaining Pearson’s zero tolerance approach to ABC. Audit committee meetings and activities The committee met four times during the year with the following in attendance: the chief ﬁ nancial oﬃ cer; general counsel; SVP internal audit and compliance; members of the senior management team; and the external auditors. Additionally, the chief executive and chairman periodically attended committee meetings. One of the internal audit directors and the VP compliance and risk assurance also attend meetings, giving the committee direct contact with key leadership in those areas. The committee also met regularly in private with the external auditors and the SVP internal audit and compliance. At every meeting, the committee considered reports on the activities of the internal audit and compliance functions, including the results of internal audits, risk reviews, project assurance reviews and fraud and whistleblowing reports. The committee also monitored the company’s ﬁ nancial reporting, internal controls and risk management procedures, reviewed the non-audit services provided by(cid:98)PwC and considered any signiﬁ cant legal claims and regulatory issues in the context of their impact on ﬁ nancial(cid:98)reporting. Learn(cid:98)more about the Key activities of the audit committee on p84 Tim Score Chairman of audit committee conducted a number of deep dives into selected principal risks. Learn more about Principal risks and uncertainties on p41-45 Data security and data privacy Recognising particular sensitivities around the schools and assessment data held on our systems, the committee undertook deep dives in each of these risk areas, and updates from the chief information security oﬃ cer and newly-appointed chief privacy oﬃ cer feature as regular items on the committee’s agenda. To ensure adequate visibility of data security and privacy protocols throughout the company, new policies and procedures were developed during the year, including the introduction of mandatory data security and privacy training for employees. Focusing on data security, the committee considered progress made to date and reviewed the roadmap for(cid:98)the next two years, including the aim of continuing to(cid:98)increase Pearson’s data security risk maturity. Key(cid:98)to(cid:98)developing this maturity has been the shift of(cid:98)data(cid:98)security from a purely technical risk to a business(cid:98)critical one. The risk management framework around data privacy needs to take Pearson’s global footprint into account. Challenges exist in North America due to the large number of federal and state laws on data privacy, which(cid:98)are coupled with a changing picture globally as(cid:98)jurisdictions update their laws in a fast moving environment. Data privacy has been identiﬁ ed as a(cid:98)global strategic risk for Pearson, leading to the appointment of a chief privacy oﬃ cer at the start of 2015. Meaningful progress has been made since that appointment, including the development of a new governance framework to address data privacy risks. Business transformation Ongoing business transformation, the next wave of which was announced in January 2016, is another of Pearson’s key risks and opportunities. The committee receives regular updates on the transformation as a whole and during the year carried out a deep dive into The Enabling Program. As an important operational simpliﬁ cation project, The Enabling Program will feature as a standing item on the committee’s agenda in 2016 as work progresses. Learn(cid:98)more about The Enabling Program on p6 and 41 Update on previous areas of focus Last year, we highlighted health and safety (H&S) and anti-bribery and corruption (ABC) as areas to which the committee had paid particular attention. During 2015, the committee continued to monitor those areas, reviewing progress made and audit results. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 84 Pearson plc Annual report and accounts 2015 Audit committee report continued Audit committee meeting focus during 2015 Reporting Accounting and technical updates Impact of legal claims and regulatory issues on ﬁ nancial reporting The 2014 annual report and accounts: preliminary announcement, ﬁ nancial statements and income statement Form 20-F and related disclosures including the annual Sarbanes- Oxley Act section 404 attestation of ﬁ nancial reporting internal controls Review of interim results and trading updates Policy Accounting matters and Group(cid:98)accounting policies Analysis supporting viability statement Read more on(cid:98)p40 Annual review of treasury policy and strategy Annual review and approval of external auditor policy External audit Provision of non-audit services by PwC Receipt of the external auditors’ report on the Form 20-F and on the year end audit Remuneration and engagement letter of the external auditors Review opinion on interim results Reappointment of the external(cid:98)auditors Conﬁ rmation of auditor independence 2015 external audit plan Review of the eﬀ ectiveness of the external auditors Risk and internal control Internal audit activity reports and review of key ﬁ ndings Enterprise risk management Read more on(cid:98)p38 2016 internal audit plan Assessment of the eﬀ ectiveness of the internal control environment and risk management systems Review of internal audit terms of reference Risk deep dives: data security; data privacy; health & safety; legal risks and legal function; anti-bribery and corruption; tax Data security incidents reporting Treasury risk review Compliance and governance Fraud, whistleblowing reports and Code of Conduct matters Compliance with the UK Corporate Governance Code Review of the committee’s terms of reference Review of The Enabling Program as it proceeded Compliance with SEC and NYSE requirements including Sarbanes-Oxley Act Review of the eﬀ ectiveness of the committee and the group internal audit function Members Audit committee meetings during 2015 During the year, the matters considered by the committee included those shown in the table above. In February 2016, the committee also considered the 2015 annual report and accounts, including the preliminary announcement, ﬁ nancial statements, strategic report, directors’ report and corporate governance compliance statement. All of the audit committee members are independent non-executive directors and have ﬁ nancial and/or related business experience due to the senior positions they hold or have held in other listed or publicly traded companies and/or similar public organisations. Tim Score, who assumed the chairmanship of the committee in April 2015, is the company’s designated ﬁ nancial expert, having recent and relevant ﬁ nancial experience, and is an Associate Chartered Accountant. He also serves as audit committee chairman for The British Land Company plc and until 2014 was audit committee chairman at National Express Group plc. The qualiﬁ cations and relevant experience of the other committee members are detailed on p72-73 Section 4 Governance/Accountability 85 External audit The committee reviews and approves the appointment of the external auditors, taking account of the views of management. The committee reviewed the eﬀ ectiveness and independence of the external auditors during 2015, as it does every year, and remains satisﬁ ed that the auditors provide eﬀ ective independent challenge to management. In 2015, the external auditor review was conducted by distributing a questionnaire to key audit stakeholders including members of the audit committee, the chief executive, chief ﬁ nancial oﬃ cer, company secretary, SVP internal audit and compliance, SVP ﬁ nance for each Geography and Line of Business and other heads of corporate functions. Overall, responses to the questionnaire were very positive, indicating an eﬀ ective external audit process. As part of the follow-up to the review, the lead audit partner explained to the committee how PwC were monitoring and evaluating each area highlighted in the review and conﬁ rmed that they would consider how to adapt their approach in light of speciﬁ c comments received. In addition, in accordance with Pearson’s external auditor policy, internal audit performs an annual assessment of audit fees, services and independence which forms the basis of a recommendation by the committee to the board in respect of the appointment and compensation of the external auditors. The committee will continue to review the performance of the external auditors on an annual basis and will consider their independence and objectivity, taking account of all appropriate guidelines. There are no contractual obligations restricting the committee’s choice of external auditors. In any event, the external auditors are required to rotate the audit partner responsible for the Pearson audit every ﬁ ve years. The current lead audit partner rotated onto Pearson’s audit in 2013. Pearson’s last audit tender was in respect of the 1996 year end, and resulted in the appointment of Price Waterhouse as auditors. Developments at an EU level regarding mandatory audit rotation for listed companies have changed the UK landscape on audit tendering and rotation. The committee has reviewed the timetable for tendering and has taken into account all relevant regulation and guidance. New EU regulations and the ruling by the Competition and Markets Authority (CMA) has imposed mandatory tendering and rotation requirements from 2016. In considering the appropriate audit tender timetable for Pearson in light of these requirements, the committee has also taken account of the signiﬁ cant business change being experienced by the Group and is monitoring the extent to which the Group is drawing upon the services of other accounting ﬁ rms. The Group has commenced a series of programmes to implement major eﬃ ciency improvements across all our enabling functions – technology, ﬁ nance, HR – to bring the general and administrative costs of running Pearson more in line with global best practice; these include a major ﬁ nance transformation programme, including the implementation of new ﬁ nancial systems and changes to our transaction processing and control activities, that we expect to continue through 2016, 2017 and into 2018. The Group is supported in these changes, and more broadly, by external advisers including accounting ﬁ rms. It is the committee’s intention to appropriately manage auditor independence and rotation, ﬁ rstly, to ensure that a tender has the right level of suitably qualiﬁ ed and independent ﬁ rms competing, including allowing for a planned transition and, secondly, to undertake this in a way that does not unnecessarily disrupt the business changes underway and provides consistency of independent oversight from external auditors through those changes. Notwithstanding that the above EU mandatory rotation rules require a new auditor to be appointed no later than for the 2024 year end, it is the current expectation of the committee that an audit tender process will be conducted in 2018 in order for the auditor selected as a result of the tender to be appointed for the ﬁ nancial year ending 31 December 2018. For the reasons outlined above, the committee considers this timing to be in the best interests of the Group’s members and will continue to monitor this annually in light of the eﬀ ectiveness and independence of the current auditors. Once the next audit tender occurs, the Group will adopt a policy of putting the audit contract out to tender at least every ten years. Compliance with the CMA Order Pearson conﬁ rms that it was in compliance with the provisions of The Statutory Audit Services for Large Companies Market Investigation (Mandatory Use of Competitive Tender Processes and Audit Committee Responsibilities) Order 2014 during the ﬁ nancial year ended 31 December 2015. Learn more about Auditors’ independence and non-audit services on p119 O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 86 Pearson plc Annual report and accounts 2015 Audit committee report continued Signiﬁ cant issues Area of focus Issue Action taken by audit committee Outcome Impairment reviews Read more in note 11 on p164 Revenue recognition Pearson carries signiﬁ cant goodwill intangible asset balances. There is judgement exercised in the identiﬁ cation of CGUs and the process of allocating goodwill to CGUs and aggregate CGUs and in the assumptions underlying the impairment review. In 2015 Pearson made signiﬁ cant impairments to goodwill and intangible assets in certain CGUs. Pearson has a number of revenue streams where revenue recognition practices are complex and management assumptions and estimates are necessary. Tax There are a number of issues in diﬀ erent countries where management judgements and assumptions are made as to the correct tax treatment. The committee considered the results of the Group’s annual goodwill impairment review and the key assumptions which are considered to be the cash ﬂ ows derived from strategic and operating plans, long-term growth rates and the weighted average cost of capital. The committee considered the sensitivities to changes in assumptions and the related disclosures required by IAS 36 ‘Impairment of Assets’. The committee noted that signiﬁ cant impairments had arisen primarily as a result of deterioration in expected cash ﬂ ow over the strategic plan period, and considered sensitivity to assumptions in relation to other businesses. The committee regularly reviews revenue recognition practice and the underlying assumptions and estimates. In addition, the committee has visibility of internal audit ﬁ ndings relating to revenue recognition controls and processes and routinely monitors the views of external auditors on revenue recognition issues. During the year the committee reviewed revenue recognition in respect of services provided to charter schools through Pearson’s Connections business, and onerous contracts. The committee also continued to monitor the impact of the new revenue recognition standard, IFRS 15 ‘Revenue from Contracts with Customers’ and noted that although the standard would not be adopted by Pearson until 2018 the committee would need to understand the implications of the change well before that date. The committee considered Pearson’s approach to tax provisioning. Pearson operates in a large number of countries and, accordingly, its earnings are subject to tax in many jurisdictions. The judgement in relation to tax provisioning is a combination of the committee’s assessment of the speciﬁ c open tax issues and also a review of the time periods in which Pearson’s tax aﬀ airs are open to enquiry by local tax inspectors in jurisdictions where it has a larger taxable presence. The committee addressed this matter through the presentation of a management report on Pearson’s tax aﬀ airs by the head of group tax and through a presentation of the external auditors’ assessment of the company’s tax provisioning. Annual impairment review ﬁ nalised with conﬁ rmation of an impairment in China, Brazil, North America and other Growth and Core territories, and suﬃ cient headroom in other CGUs. Assumptions underlying revenue recognition were reviewed and challenged and considered to be appropriate. The committee was satisﬁ ed with Pearson’s approach to tax provisioning taking account of the views of management and the assessment of the external auditors. Disposal accounting Pearson disposed of its interest in The Financial Times, The Economist and PowerSchool. The committee reviewed the disposal accounting and disclosure and considered the main judgements relating to tax treatments, and impairment of related assets on the PowerSchool disposal. Accounting treatments and valuations conﬁ rmed as appropriate. Signiﬁ cant issues continued During the year, the committee discussed the planning, conduct and conclusions of the external audit as it proceeded. At the July 2015 audit committee meeting, the committee discussed and approved the external audit plan and reviewed the key risks of misstatement of Pearson’s ﬁ nancial statements, which were updated at the December 2015 committee meeting. The table opposite sets out the signiﬁ cant issues considered by the audit committee together with details of how these items have been addressed. The committee discussed these issues with the auditors at the time of their review of the half-year interim ﬁ nancial statements in July 2015 and again at the conclusion of their audit of the ﬁ nancial statements for the full year in February 2016. All the signiﬁ cant issues were areas of focus for the auditors. Learn more in the Independent auditors’ report on p126 In December 2015, the committee discussed with the auditors the status of their work, focusing in particular on internal controls and Sarbanes-Oxley testing, and covering the signiﬁ cant issues outlined above. Section 4 Governance/Accountability 87 As the auditors concluded their audit, they explained to the committee: The work they had conducted over revenue, working alongside management to assess several complex revenue contracts The work they had done to understand Pearson’s tax strategy and identify business and legislative risks, to evaluate key underlying assumptions and assess the recoverability of deferred tax assets Their evaluation of the recoverability of digital platforms and pre-publication assets Their focus on segments, CGUs and goodwill impairment and the impact of Pearson’s transformation on those The results of their controls testing for Sarbanes-Oxley Act section 404 reporting purposes and in support of their ﬁ nancial statements audit The results of the company’s ‘going concern’ and viability statement reports The auditors also reported to the committee the misstatements that they had found in the course of their work, which were insigniﬁ cant, and the committee conﬁ rmed that there were no material items remaining unadjusted in these ﬁ nancial statements. Audit committee training The committee receives regular technical updates as well as speciﬁ c or personal training as appropriate. Committee members also meet with local management on an ongoing basis, such as when travelling for overseas board meetings, in order to gain a better understanding of how Pearson’s policies are embedded in operations. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 88 Pearson plc Annual report and accounts 2015 Risk governance and control Control environment The board of directors has overall responsibility for Pearson’s systems of internal control and risk management, which are designed to manage, and where possible mitigate, the risks facing Pearson, safeguard assets and provide reasonable, but not absolute, assurance against material ﬁ nancial misstatement or loss. The directors conﬁ rm they have conducted a review of the eﬀ ectiveness of Pearson’s systems of risk management and internal control in accordance with provision C.2.3 of the Code and the FRC’s Code Guidance. These systems have been operating throughout the year and to the date of this report. Responsibility for monitoring the eﬀ ectiveness of the company’s risk management and internal control systems has been delegated to the audit committee by the board. At each meeting, the audit committee considers reports from management, internal audit and the external auditors, with the aim of reviewing the eﬀ ectiveness of the internal ﬁ nancial and operating control environment. Each business area, including the corporate centre, maintains internal controls and procedures appropriate to its structure, business environment and risk assessment, while complying with company-wide policies, standards and guidelines. Internal control and risk management Our internal controls and risk oversight have been reviewed as a result of the FRC Guidance and changes made to ensure compliance. These changes include more robust executive ownership and assessment of controls and PLC risks as well as the preparation of a viability statement. The board, assisted by the assurance the audit committee provides, oversees the enterprise risk management (ERM) framework, risk appetite validation and viability statement veriﬁ cation processes outlined in the Principal Risks and Uncertainties section on p41. Day-to-day enterprise risk management is undertaken by a dedicated team, accountable to the board and audit committee. The board validates the risk appetite for each principal risk (as recommended by executive management) early in the year. The identiﬁ cation and mitigation of signiﬁ cant business risks is the responsibility of senior management and leadership teams for each business area. The results of risk assessments and reviews are reported to the Pearson executive, the board and the audit committee. For example, in 2015, all identiﬁ ed Pearson- wide top risks were reviewed by executive management, then by the board and audit committee on a semi-annual basis. In addition, throughout the year, the audit committee considered the oversight of speciﬁ c selected principal risks, through a series of risk deep dives. The internal audit plan is also aligned to our greatest areas of risk and the audit committee considers issues and risks arising from internal audits. The risk assessment and reporting criteria are designed to provide the board with a consistent, Pearson-wide perspective of the key risks. The reports to the board, which are submitted twice per year, include an assessment of the probability and impact of risks materialising, as well as risk mitigation initiatives and their eﬀ ectiveness. Learn more about our risk management process, the principal risks and mitigating factors on p38-45 Financial management and reporting There is a comprehensive strategic planning, budgeting and forecasting system with an annual operating plan approved by the board of directors. Monthly ﬁ nancial information, including trading results, balance sheets, cash ﬂ ow statements, capital expenditures and indebtedness, is reported against the corresponding ﬁ gures for the plan and prior years, with corrective action outlined by the appropriate senior executive. Pearson’s senior management meet periodically with business area management to review their business and ﬁ nancial performance against plan and forecast. Major risks relevant to each business area as well as performance against the stated ﬁ nancial and strategic objectives are reviewed in these meetings. We have an ongoing process to monitor the risks and eﬀ ectiveness of controls in relation to the ﬁ nancial reporting and consolidation process including the related information systems. This includes up-to-date Pearson ﬁ nancial policies, formal requirements for ﬁ nance functions, consolidation reviews and analysis of material variances, ﬁ nance technical reviews, and review and sign-oﬀ by senior ﬁ nance managers. The PLC ﬁ nance function also monitors and assesses these processes, through a ﬁ nance compliance function. Section 4 Governance/Accountability 89 These controls include those over external ﬁ nancial reporting which are documented and tested in accordance with the requirements of section 404 of the Sarbanes-Oxley Act, which is relevant to our US listing. One key control in this area is the disclosure committee, which submits reports to the audit committee. This committee is chaired by the SVP internal audit and compliance, and members include the chief ﬁ nancial oﬃ cer, general counsel, SVP investor relations, company secretary as well as senior members of ﬁ nancial management. The primary responsibility of this committee is to review Pearson’s public reporting and disclosures to ensure that information provided to shareholders is complete, accurate and compliant with all applicable legislation and listing regulations. The eﬀ ectiveness of key ﬁ nancial controls is subject to management review and self-certiﬁ cation and independent evaluation by the external auditors. Internal audit The internal audit function is responsible for providing independent assurance to management and the audit committee on the design and eﬀ ectiveness of internal controls to mitigate strategic, ﬁ nancial, operational and compliance risks. The risk-based annual internal audit plan is approved by the audit committee. Management action plans to improve internal controls and to mitigate risks, or both, are agreed with each business area after each audit. Formal management self-assessments allow internal audit to monitor business areas’ progress in implementing management action plans agreed as part of internal audits to resolve any control deﬁ ciencies. Progress of management action plans is reported to the audit committee at each meeting. Internal audit has a formal collaboration process in place with the external auditors to ensure eﬃ cient coverage of internal controls. Regular reports on the work of internal audit are provided to executive management and, via the audit committee, to the board. The SVP internal audit and compliance oversees compliance with our Code of Conduct and works with senior legal and human resources personnel to investigate any reported incidents including ethical, corruption and fraud allegations. The audit committee is provided with an update of all signiﬁ cant matters received through our whistleblowing reporting system, together with an annual review of the eﬀ ectiveness of this system. The Pearson anti-bribery and corruption programme provides the framework to support our compliance with various anti-bribery and corruption regulations such as the UK Bribery Act 2010 and the US Foreign Corrupt Practices Act. Treasury management The treasury department operates within policies approved by the board and its transactions and procedures are subject to regular internal audit. Major transactions are authorised outside the department at the requisite level, and there is an appropriate segregation of duties. Frequent reports are made to the chief ﬁ nancial oﬃ cer and regular reports are prepared for the audit committee and the board. The treasury policy is described in more detail in note 19 to the ﬁ nancial statements. Insurance Pearson reviews its risk ﬁ nancing options regularly to determine how the company’s insurable risk exposures are managed and protected. Pearson purchases comprehensive insurance cover and annually reviews coverage, insurers and premium spend, ensuring the programme is ﬁ t for purpose and cost-eﬀ ective. Pearson’s insurance subsidiary, Spear Insurance Company Limited, is used to leverage Pearson’s risk retention capability and to achieve a balance between retaining insurance risk and transferring it to external insurers. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 90 Pearson plc Annual report and accounts 2015 Reputation & responsibility committee report Chairman Vivienne Cox Members Vivienne Cox, Josh Lewis, Linda Lorimer, Harish Manwani “Throughout the year, the committee provided oversight and input as Pearson continued to develop its sustainability practices, including the launch of Project Literacy and progress towards effi cacy reporting. Our priority is to ensure Pearson’s activities and policies align with our business strategy and stakeholder priorities.” Reputation & responsibility committee role Having been formalised in 2014, the remit of the reputation & responsibility committee expanded during 2015, reﬂ ecting Pearson’s continuing commitment and ambition around its corporate reputation, our belief in the importance of fulﬁ lling our obligations to the communities in which we work, and maximising Pearson’s positive impact on society. The committee’s work is closely aligned with the company’s sustainable business initiatives and our meetings are now preceded by meetings of Pearson’s responsible business leadership council – an internal governance group – ensuring that we are able to provide the necessary scrutiny and challenge to the council as our sustainability strategy is developed and integrated into the business. Read more about Social impact on p55-67. Terms of reference The committee has written terms of reference which clearly set out its authority and duties. These are reviewed annually and can be found on the company website at www.pearson.com/governance Progress against 2015 targets At the start of 2015, we set out to achieve a number of ambitious goals during our ﬁ rst full year as a formal board committee. You can read more about our progress below. Areas of focus Progress Oversee delivery of our strategy for managing our reputation and maximising our contribution to society within the organisation Monitor integration of social impact into Pearson’s business following the closure of the Pearson Charitable Foundation Review progress towards 2018 eﬃ cacy commitments This was a regular feature of our meetings throughout the year as Pearson builds its reputation management capabilities through an increasingly proactive approach. In particular we have explored in depth the work being done in our US market to proactively manage Pearson’s reputation. We also developed and adopted a new process for managing global reputation risk, which takes into account our expanded activity and exposure in growth markets, as well as our presence in certain high- risk countries. The committee provided input into a number of social impact projects established and accelerated in 2015, particularly high-proﬁ le initiatives such as Project Literacy and our Every Child Learning partnership with Save the Children. Through focused sessions at two committee meetings, we reviewed progress toward meeting our eﬃ cacy commitment, and made recommendations for improving the eﬃ cacy measurement, reporting and auditing processes. Learn more about Eﬃ cacy on p46-53 Section 4 Governance/Engagement 91 Key activities in 2015 Committee aims for 2016 In 2016 the committee will continue to maintain a clear focus on reputational management in the US – our largest, and most reputationally high-proﬁ le market. We will oversee Pearson’s continuous progress in embedding social impact into our strategy and business model, continue to monitor our corporate culture, ensuring employee engagement and values remain strong to help ensure Pearson is in good shape for the future, and we will undertake a review of the ethical business priorities identiﬁ ed in 2015. Vivienne Cox Chairman of reputation & responsibility(cid:98)committee Key areas of focus for the committee were the launch of Project Literacy, our progress towards external eﬃ cacy reporting, plans to link the UN’s sustainable development goals to our business model, and the ongoing work around Pearson’s brand and culture. In all of these areas, our priority is to ensure Pearson’s activities and policies align with our business strategy and stakeholder priorities, while reﬂ ecting best practice. In addition, Pearson has formalised a process for its reputational risk management, involving business leaders and corporate aﬀ airs representatives, and the committee now receives a reputational risk report at every meeting. The committee also conducts deep dives into areas of particular reputational impact, such as through a focused session in 2015 on Pearson’s US reputational strategy. More detail about the committee’s responsibilities, and the activities it undertook in each area of its remit, is given below. For reputation & responsibility committee meeting attendance see overview table on p78 Committee responsibilities Topic Responsibility Activity Strategy Communications strategies, policies and plans related to reputational issues and the people, processes and policies that are in place to manage them Reputation Risk Social Brand and culture Ethics Pearson’s reputation among major stakeholders, including governments, investors, employees, customers, learners and the education community Oversight of Pearson’s approach to reputational risk, including ensuring that clear roles have been assigned for management Social impact initiatives, including Pearson’s non-ﬁ nancial public commitments and progress towards them Management of the Pearson brand to ensure that its value and reputation are maintained and enhanced. Pearson’s approach to monitoring and supporting the values and desired behaviours that form our corporate culture Ethical business standards, including Pearson’s approach to issues relevant to its reputation as a responsible corporate citizen Updates on reputational ‘hot topics’ at each meeting Review of US reputational strategy Working with the audit committee to ensure that health & safety issues are properly considered from a reputation and responsibility perspective Overview of reputational risk approach in growth and US markets, through in-country personnel and central corporate aﬀ airs team Regular consideration of reputational risk dashboards Progress on eﬃ cacy, including launch of ‘On the Road’ publication and draft reporting framework Introduction to new reach and impact strategy Commitment to UN sustainable development goals and integration into business model Launch of Save the Children partnership Brand tracker update Review of progress on employee values and engagement Employee participation in social impact activities Consideration of ethical issues in the wider context of reputational risk identiﬁ cation O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s Consultations During the year we also consulted with our major shareholders and with shareholder representative bodies on our directors’ remuneration report, and the signiﬁ cant minority vote against the 2013 annual remuneration report at the 2014 AGM. Read about Remuneration on p94 Private investors Private investors represent over 80% of the shareholders on our register and we make a concerted eﬀ ort to engage with them regularly. Shareholders who cannot attend the AGM are invited to e-mail questions to the chairman in advance at chairman-agm@pearson.com We encourage our private shareholders to become more informed investors and have provided a wealth of information on our website about managing Pearson shareholdings, see www.pearson.com/investors/ shareholder-information.html for further information, or turn to p227 of this report. We also encourage all shareholders, who have not already done so, to register their e-mail addresses through our website and with our registrar. This enables them to receive e-mail alerts when trading updates and other important announcements are added to our website. See additional Shareholder information on p227 92 Pearson plc Annual report and accounts 2015 Shareholder engagement Engaging with shareholders Pearson has an extensive programme of communication with all of its shareholders – large and small, institutional and private. Shareholder outreach In 2015, we continued with our shareholder outreach programme, seeing approximately 790 institutional and private investors at more than 450 diﬀ erent institutions in Australia, Canada, Dubai, Greater China, Continental Europe, India, Japan, Singapore, South Korea, Taiwan, the UK and the US. Trading updates There are ﬁ ve trading updates each year and the chief executive and chief ﬁ nancial oﬃ cer present our preliminary and interim results updates. They also attend regular meetings throughout the year with investors in the UK and around the world, tailored to investor requirements, to discuss the performance of the company, the company’s strategy, our change programme, structural changes in our markets, and risks and opportunities for the future. Chairman meetings The chairman meets regularly with signiﬁ cant shareholders to understand any issues and concerns they may have. This is in accordance with both the Code and the UK Stewardship Code. The non- executive directors meet informally with shareholders both before and after the AGM and respond to shareholder queries and requests as necessary. The chairman ensures that the board is kept informed of principal investors’ and advisers’ views on strategy, and corporate governance. Visit pearson.com Investor relations information Company announcements and shareholder presentations, webcasts and(cid:98)conference calls Past announcements and presentations Historical ﬁ nancial performance Share price data Calendar of events Information about our businesses and(cid:98)their(cid:98)websites Corporate responsibility policies and(cid:98)activities Wider engagement Share dealing Due to its continued popularity we again provided shareholders with smaller holdings the opportunity to use our registrar’s low-cost share dealing service, giving them the chance to add to or reduce their stake in Pearson at signiﬁ cantly reduced dealing rates, or to donate shares to charity with ease. This service proved very popular with shareholders, and consequently we intend to oﬀ er it again at a future date. We believe it is important that our employees have a shared interest in the direction and achievements of Pearson and are pleased to say that a large number of our employees are shareholders in the company. Annual General Meeting Our AGM, on 29 April 2016, is an opportunity for all shareholders to meet the board and to hear presentations about Pearson’s businesses and results. Engaging with all stakeholders We post all company announcements on our website, www.pearson.com, as soon as they are released, and key shareholder presentations are made accessible via webcast or conference call. Our website contains a dedicated investor relations section with an extensive archive of past announcements and presentations, historical ﬁ nancial performance, share price data and a calendar of events. It also includes information about all of our businesses, links to their websites and details of our corporate responsibility policies and activities. Learn more about our approach to corporate responsibility in the Social impact section on p55 Section 4 Governance/Engagement 93 Board visit to India In October 2015, the board visited New(cid:98)Delhi, India, for a three-day meeting focused on our four most important Growth markets – Brazil, China, India and(cid:98)South Africa. In each of these countries, Pearson’s presence has grown markedly in the last few years and in each of them, to varying degrees, Pearson is operating in a challenging economic climate, whilst continuing to chart a path to the next phase of sustainable growth. These are important markets to Pearson’s long-term future, where the fundamental demand for good quality education and training, leading to a job and a better life, remain strong. Overview of growth markets: Providing context for the meeting, Pearson’s President, Growth and SVP ﬁ nance, Growth led an overview of performance and strategy across the four main Growth markets, following which the business leaders of each of Brazil, China and South Africa gave a more in-depth review of the opportunities and challenges in those countries, considering the macro-economic conditions and demographics particular to each territory. Focus on India: Non-executive director Harish Manwani set the scene for the focus on India, and the board then took a closer look at Pearson’s operations through a session with the head of our India business, learning about the huge potential in India and the demand for better, more job-relevant education. The board also spent time with Pearson’s India leadership team and key talent and heard from a range of partners, policymakers and key inﬂ uencers. Learning in action: The board visited Jaypee public school, which provided an opportunity to see ﬁ rst-hand the impact of Pearson’s school management improvement framework, to view the MyPedia integrated learning tool in action and learn about our health & safety and safeguarding initiatives. The board also spent time at a Pearson learning centre, learning about Pearson’s work to translate education and training into employment, and engaged with representatives of Avanti Learning Centres and Zaya, two initiatives funded by the Pearson Aﬀ ordable Learning Fund. Learn more about our Growth markets on p29-32 O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 94 Pearson plc Annual report and accounts 2015 Report on directors’ remuneration Part 1: Letter from the chairman of the remuneration committee Chairman of the remuneration committee Elizabeth Corley Current Members Tim Score, Vivienne Cox, Elizabeth Corley, Josh Lewis and Sidney Taurel “It has been a tough year for Pearson and our remuneration outcomes have reﬂ ected this. 2015 brought challenging market conditions and signiﬁ cant changes. As we continue into 2016 we will be considering our remuneration policy proposals for 2017 in this new environment and context for the business.” In this remuneration section: Part 1: Letter from the chairman Part 2: Summary of remuneration policy Part 3: Annual remuneration report p94 p97 p101 Terms of reference The committee’s full charter and terms of reference are available on the Governance page of the company’s website at www.pearson.com/governance Dear shareholder On behalf of the board, I am pleased to present the report on directors’ remuneration for 2015. This is my ﬁ rst report as chairman of Pearson’s remuneration committee, having succeeded Sir David Arculus at the Annual General Meeting (AGM) in April 2015. The opportunity to learn about and study the history, policies and procedures of remuneration at Pearson, with the support of fellow committee members, has been invaluable, as has the feedback and engagement with key shareholders. My board colleagues and I are aware of the importance and sensitivity among investors and the public more generally, of remuneration topics and we feel our responsibilities keenly. As outlined in our strategic report, 2015 was a year of change and challenge for Pearson with continued market headwinds and the in-year disposals of PowerSchool, the Financial Times Group and our stake in The Economist. While we have been performing well competitively and gained market share across many areas of our business, year end results were lower than projected at the start of the year. This was largely driven by the persisting cyclical and policy-related turbulence in our major education markets. While this is expected to abate over the next two years, we saw a reduction in our annual operating proﬁ t for 2015 of approximately £230m from its peak. Despite the challenges encountered, we remain focused on executing the business strategy, transforming Pearson to be the standout company in education globally and developing our long-term growth opportunities. The 2015 divestments were an important part of these aims. We are conﬁ dent that education remains an attractive investment opportunity with Key performance indicators (cid:40)(cid:91)(cid:72)(cid:70)(cid:88)(cid:87)(cid:76)(cid:89)(cid:72)(cid:3)(cid:71)(cid:76)(cid:85)(cid:72)(cid:70)(cid:87)(cid:82)(cid:85)(cid:86)(cid:519)(cid:3)(cid:21)(cid:19)(cid:20)(cid:24)(cid:3)(cid:86)(cid:76)(cid:81)(cid:74)(cid:79)(cid:72)(cid:3)(cid:564)(cid:74)(cid:88)(cid:85)(cid:72)(cid:3)(cid:69)(cid:85)(cid:72)(cid:68)(cid:78)(cid:71)(cid:82)(cid:90)(cid:81) 300 250 200 150 100 50 2008 2009 2010 2011 2012 2013 2014 2015 Pearson TSR FTSE All-share TSR Pearson EPS Pearson ROIC (cid:45)(cid:82)(cid:75)(cid:81)(cid:3)(cid:41)(cid:68)(cid:79)(cid:79)(cid:82)(cid:81) 96% 4% (cid:101)(cid:20)(cid:17)(cid:21)(cid:25)(cid:22)(cid:80) (cid:38)(cid:82)(cid:85)(cid:68)(cid:80)(cid:3)(cid:58)(cid:76)(cid:79)(cid:79)(cid:76)(cid:68)(cid:80)(cid:86) (cid:20)(cid:19)(cid:19)(cid:8) (cid:101)(cid:19)(cid:17)(cid:21)(cid:26)(cid:25)(cid:80) (cid:53)(cid:82)(cid:69)(cid:76)(cid:81)(cid:3)(cid:41)(cid:85)(cid:72)(cid:72)(cid:86)(cid:87)(cid:82)(cid:81)(cid:72) 93% 7% (cid:101)(cid:19)(cid:17)(cid:24)(cid:28)(cid:26)(cid:80) (cid:37)(cid:68)(cid:86)(cid:72)(cid:3)(cid:86)(cid:68)(cid:79)(cid:68)(cid:85)(cid:92)(cid:15)(cid:3)(cid:68)(cid:79)(cid:79)(cid:82)(cid:90)(cid:68)(cid:81)(cid:70)(cid:72)(cid:86)(cid:15)(cid:3)(cid:69)(cid:72)(cid:81)(cid:72)(cid:564)(cid:87)(cid:86)(cid:3)(cid:68)(cid:81)(cid:71)(cid:3)(cid:83)(cid:72)(cid:81)(cid:86)(cid:76)(cid:82)(cid:81) (cid:47)(cid:82)(cid:81)(cid:74)(cid:16)(cid:87)(cid:72)(cid:85)(cid:80)(cid:3)(cid:76)(cid:81)(cid:70)(cid:72)(cid:81)(cid:87)(cid:76)(cid:89)(cid:72)(cid:86) Initial value of KPIs have been rebased to 100 for same timeframe as chart on p114. (cid:38)(cid:82)(cid:85)(cid:68)(cid:80)(cid:3)(cid:58)(cid:76)(cid:79)(cid:79)(cid:76)(cid:68)(cid:80)(cid:86)(cid:3)(cid:68)(cid:81)(cid:71)(cid:3)(cid:53)(cid:82)(cid:69)(cid:76)(cid:81)(cid:3)(cid:41)(cid:85)(cid:72)(cid:72)(cid:86)(cid:87)(cid:82)(cid:81)(cid:72)(cid:519)(cid:86)(cid:3)(cid:85)(cid:72)(cid:80)(cid:88)(cid:81)(cid:72)(cid:85)(cid:68)(cid:87)(cid:76)(cid:82)(cid:81)(cid:3)(cid:85)(cid:72)(cid:79)(cid:68)(cid:87)(cid:72)(cid:86)(cid:3)(cid:87)(cid:82)(cid:3)(cid:87)(cid:75)(cid:72)(cid:76)(cid:85)(cid:3) (cid:73)(cid:88)(cid:79)(cid:79)(cid:3)(cid:83)(cid:72)(cid:85)(cid:76)(cid:82)(cid:71)(cid:3)(cid:82)(cid:73)(cid:3)(cid:72)(cid:80)(cid:83)(cid:79)(cid:82)(cid:92)(cid:80)(cid:72)(cid:81)(cid:87)(cid:3)(cid:76)(cid:81)(cid:3)(cid:21)(cid:19)(cid:20)(cid:24)(cid:17) See p114 for alignment of pay with Total Shareholder Return Section 4 Governance/Report on directors’ remuneration 95 the growth potential to enable us both to serve more students around the world, and to deliver good, sustainable returns to our shareholders. We do not intend to make any remuneration policy revisions ahead of the 2017 AGM. However, we keep the eﬀ ectiveness of our current remuneration programmes under review and, partly in light of recent trading conditions and the speciﬁ c strategic goals for 2016, we have concluded that some changes are warranted. These are detailed in this report and, for those yet to be ﬁ nalised, we are engaging with our key investors. What happened in 2015 Remuneration for executive directors is closely tied to business performance with a high proportion of total remuneration delivered through variable pay designed to reward achievement of short and long-term strategic objectives. As a result of the performance challenges noted in this report, the outcomes under these schemes were as follows: Annual incentives paid to executives for 2015 were zero, reﬂ ecting below-threshold performance in a tough trading environment. Long-term incentives vesting in 2015 did not pay out. This is the third consecutive year of nil pay-out, reﬂ ecting below-threshold performance against the company’s three-year targets for earnings per share growth, return on invested capital and relative total shareholder return. Given the environment within which the leadership team is expected to guide Pearson through a very signiﬁ cant period of change, without receiving any bonus or long- term incentive payments, the committee agreed for 2016 incentive and retention arrangements for selected key employees, which will vest, or not, in 2017. No executive directors participate in these incentives. Future measures of performance against pay We expect our business to stabilise in 2017 and return to growth in 2018. Our business plan until then focuses on operational execution, tight cost management and a sharper, more focused strategy. The focus of restructuring is not only to reduce costs but also to make the company faster, leaner and more agile. We are creating a single global product organisation, integrating our school, clinical and professional assessment operations in North America and are scaling back our exposure to large, direct delivery operations. We are also making productivity improvements across all our enabling functions such as Technology, HR and Finance and we plan to rationalise our property portfolio and consolidate major agreements to drive greater cost eﬃ ciency. Committee responsibilities: 1. Determine and review policy Determine and regularly review the remuneration policy for the executive directors, the(cid:98)presidents and other members of the Pearson executive who(cid:98)report directly to the CEO (executive management). This(cid:98)policy includes base salary, annual and long-term incentives, pension arrangements, any other beneﬁ ts and(cid:98)termination of employment. 2. Review and approve implementation Regularly review the(cid:98)implementation and operation of the remuneration policy(cid:98)for executive management and approve the individual remuneration and beneﬁ ts packages of the executive directors. 3. Approve performance related plans Approve the design of, and determine targets for, any performance-related pay plans operated by the company and approve the total payments to be made under such plans. 4. Review long-term plans Review the design of the company’s long-term incentive and other share plans for approval by the board and shareholders. 5. Set termination arrangements Advise and decide on general and speciﬁ c arrangements in connection with the termination of employment of executive directors. 6. Review targets Review and approve corporate goals and objectives relevant to CEO remuneration and evaluate the CEO’s performance in light of those goals and objectives. 7. Determine chairman’s remuneration Delegated responsibility for determining the remuneration and beneﬁ ts package of the chairman of the board. 8. Shareholder engagement Ensure the company maintains an appropriate level of engagement with its shareholders and shareholder representative bodies in relation to the remuneration policy and its implementation. 9. Appoint remuneration consultants Appoint and set(cid:98)the(cid:98)terms of engagement for any remuneration consultants who advise the committee and monitor the(cid:98)cost of such advice. In these circumstances, we intend to design our incentive plans for 2016 to ensure that our executive and other employees are motivated and incentivised to achieve our important aims over the short term, while sustaining a strategic focus on longer-term goals. The plan targets are still to be ﬁ nalised but the current thinking suggests: For the Annual Incentive Plan (AIP): The 2016 sales and cash metrics and weightings remain unchanged from 2015. However, to align the AIP with the speciﬁ c restructuring achievements required in 2016, as noted in the income statement measure in our guidance to investors, Operating Proﬁ t after the cost of restructuring will be added to the metrics with a 30% weighting. To accommodate this change, the weighting for earnings per share (EPS) would also be 30% (down from 60% weight for 2015). O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 96 Pearson plc Annual report and accounts 2015 Part 1: Letter from the chairman of the remuneration committee continued For 2016, the range of normal rewarded performance would be wider than in previous years – and, in consequence, both the threshold performance and the on-target funding are set to be lower than in 2015. For the Long-Term Incentive Plan (LTIP): Targets for the 2016 LTIP awards are planned to be set following the April remuneration committee meeting, having allowed key shareholders the opportunity to consider our plans on how to account for the revised growth expectations explained in our January 2016 trading update, and in line with policy. The targets will be fully disclosed in the 2016 report on directors’ remuneration. The targets and weightings will continue to be based on EPS (one-half), ROIC (one-third) and TSR (one-sixth) with on-target levels planned to be in line with the delivery of the market guidance operating proﬁ t of £800 million in 2018. Looking forward to 2016 The committee has reviewed the base salary levels for executive directors in light of 2015 business performance and concluded that it would not be appropriate to award a salary increase for 2016. In preparation for the policy vote in 2017, we expect to conduct a thorough review of our remuneration policy Principles of remuneration policy in 2016 to test and ensure its eﬀ ectiveness and appropriateness for the company, which ﬁ nds itself in a new operating environment and context to that prevailing in 2014. We are committed to engagement with our shareholders during this review and will welcome comments and feedback. The operation of the current LTIP will be considered as part of the policy review, in parallel with a periodic review of the remuneration committee’s terms of reference. Our new policy – changed or not – and any new or renewed plans will be put to shareholders for approval at the 2017 AGM. For information on our anticipated changes to remuneration for 2016 see page 116. My meetings with shareholders in 2015 have been helpful in understanding perspectives and I look forward to continuing the dialogue in 2016 and beyond. We are conﬁ dent that our response to the changes and challenges described here will make Pearson a simpler, focused and stronger company and that we will position the company to achieve a sustained period of growth. Elizabeth Corley Chairman of remuneration committee 4 March 2016 The purpose of the remuneration policy is to support the company’s strategy to deliver sustained performance and create long-term value in the interests of all stakeholders. Our remuneration policy principles are highlighted in the panel below and a summary of our directors’ remuneration policy report, approved by shareholders at the 2014 AGM, is provided on pages 97 and 98. We continue to operate executive remuneration in line with the approved policy and do not anticipate seeking shareholder approval for our policy again until required to do so at the 2017 AGM. See table on page 98. Sustainability and affordability Pay for performance Alignment Base salary › Robust and transparent › Link to pay conditions across the Group Annual incentives › Strong rationale for increases › Funded through results › Strong link to performance › Malus and clawback › Strong link to performance › Malus and clawback Annual incentives Long-term incentives Long-term incentives › Pay mix focuses on variable pay › Funded through results › Aligned fully with KPIs: EPS, operating proﬁ t, sales and operating cash ﬂ ow › Malus and clawback › Pay mix focuses on variable pay › Funded through results › Aligned with strategy through KPIs: EPS, ROIC and TSR › Malus and clawback Annual incentives › Designed to reﬂ ect shareholder value creation Long-term incentives Shareholding guidelines › Designed to reﬂ ect shareholder value creation › 2-year holding post-vesting › CEO: 300% CFO: 200% › Pearson executive: 100% Report on directors’ remuneration continued Part 2: Summary of remuneration policy Section 4 Governance/Report on directors’ remuneration 97 Introduction to summary of remuneration policy The company’s policy on directors’ remuneration was approved by shareholders at the Annual General Meeting on 25 April 2014. We issued an RNS statement of further information on the remuneration policy on 9 April 2014, to clarify the use of the committee’s discretion over certain elements of remuneration in exceptional circumstances. To help shareholders understand the context of remuneration practice reported in the annual remuneration report that follows, and speciﬁ cally the limits applied to directors’ remuneration, we have included below some key points and a summary of pertinent sections of the remuneration policy for information only. For further detail, please refer to the full remuneration policy and the clariﬁ cation statement on the Governance page of the company’s website at www.pearson.com/governance Scope of policy The policy applies to executive directors, the chairman and non-executive directors. Reference is also made to the remuneration policy for other members of the Pearson executive (currently nine in number) who are not directors but who fall within the committee’s remit. Duration of policy The policy took eﬀ ect on 25 April 2014 and is expected to remain in force until the next binding vote on our remuneration policy, which is planned for the 2017 AGM. Use of discretion The committee has avoided, where possible, including general discretions in the policy table. However, exceptional or genuinely unforeseen circumstances may arise in the future and in those circumstances it may be in shareholders’ interests for Pearson to put in place remuneration arrangements that are outside the terms of the policy. If this happens, the committee will be permitted to implement remuneration arrangements that it considers appropriate in the circumstances. In these circumstances, Pearson would consult in advance with major shareholders before it does so and would explain the exercise of this discretion in the following year’s directors’ remuneration report. As clariﬁ ed in the RNS statement of further information on the remuneration policy on 9 April 2014, this discretion would only be used in the very narrow circumstances articulated in the policy – that is, in exceptional or genuinely unforeseen circumstances. The committee considers that these circumstances would arise highly infrequently, if at all, in the lifetime of the policy. The committee would regard reliance on this discretion as a matter of utmost seriousness and, in relation to our stated obligation to consult in advance with major shareholders, would not proceed unless there was clear consensus in favour among those consulted. Further, the committee would ensure that the value of the remuneration arrangement put in place in reliance on this discretion would fall within the normal limit (as stated in the policy) for the element of remuneration to which the arrangement relates. As part of the approved policy, the committee also has discretion to award base salary increases, allowances and beneﬁ ts, and long-term incentive plan awards in excess of the normal maximum limits to current or new directors. As clariﬁ ed in the RNS statement, this discretion will only be exercised in exceptional circumstances other than in the case of increases in the cost of beneﬁ ts that are outside Pearson’s control and changes in beneﬁ t providers. Again, Pearson would consult with major shareholders before exercising any such discretion and such exercise would be limited by reference to the safeguards described above, including only proceeding where there was clear consensus in favour among those consulted. In these circumstances, the committee would ensure that the maximum value of the remuneration arrangement put in place in reliance on this discretion did not exceed a margin of 25% over the normal maximum limit for the element in question (as stated in the policy). Legacy arrangements Given the long-term nature of some of Pearson’s remuneration structures – including obligations under service contracts, incentive plans and pension arrangements – a number of pre-existing obligations remained in place at the time that the new policy became eﬀ ective, including obligations that are ‘grandfathered’ by virtue of being in force at 27 June 2012. Pearson’s policy is to honour pre-existing obligations, commitments or other entitlements that were entered into before the eﬀ ective date of this policy. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 98 Pearson plc Annual report and accounts 2015 Part 2: Summary of remuneration policy continued Summary of remuneration policy For more information please refer to the full remuneration policy on the Governance page of the company’s website at www.pearson.com/governance Element of remuneration Purpose and link to strategy Performance conditions Normal limit Base salary Helps to recruit, reward and retain. Reﬂ ects competitive market level, role, skills, experience and individual contribution. Performance of both the company and the individual are taken into account when determining an appropriate level of base salary increase each year, if any. Allowances and beneﬁ ts Help to recruit and retain. Reﬂ ect the local competitive market. None. Base salary increases are not ordinarily more than 10% per annum. Total value not ordinarily in excess of 15% of base salary in any year. Exceptional limit as clariﬁ ed in RNS statement of 9 April 2014 Up to 25% over normal limit in speciﬁ c individual situations including internal promotions and material changes to the business or the role. Up to 25% over normal limit in speciﬁ c individual situations including changes in individual circumstances such as health status and changes in the role such as relocation. In excess of 25% over normal limit in the case of increases in the cost of beneﬁ ts that are outside of Pearson’s control and changes in beneﬁ t providers. Retirement beneﬁ ts Help to recruit and retain. Recognise long- term commitment. None. As set out in approved remuneration policy. None. Annual incentives Motivate achievement of annual strategic goals. Focus on key ﬁ nancial metrics. Reward individual contribution. Long-term incentives Help to recruit, reward and retain. Drive long- term earnings, share price growth and value creation, and align interests of executives and shareholders. Encourage long- term shareholding and commitment to company. Link management’s long-term reward and wealth to corporate performance in a ﬂ exible way. The committee has the discretion to select the performance measures, targets and relative weightings from year to year. Funded by Pearson global annual ﬁ nancial results, normally related to the performance against targets for Pearson’s adjusted earnings per share (or(cid:98)operating proﬁ t), sales, and operating cash ﬂ ow. Individual annual incentive pay-outs also take into account individual performance against personal objectives. The committee will determine the performance measures, weightings and targets governing an award of restricted shares prior to grant to ensure continuing alignment with strategy and that the targets are suﬃ ciently stretching. Awards vest subject to the following performance conditions: one-half on earnings per share growth; one-third on return on invested capital (ROIC); one-sixth on relative total shareholder return (TSR). Performance tested over three years. See Total single ﬁ gure remuneration chart on page 105 None. Overall limit 200% of base salary. 2015 maximum opportunity is 180% for the chief executive and no more than 170% for other executive directors and members of the Pearson executive. Maximum face value of 400% of base salary. Other than in exceptional circumstances on recruitment, it is the company’s normal policy not to award restricted shares to executive directors and other members of the Pearson executive without performance conditions. Up to 25% over normal limit in exceptional circumstances, for example, for retention purposes or to reﬂ ect particular business situations. The discretion to award restricted shares without performance conditions to executive directors will not be used other than where it is appropriate to compensate a new director on a ‘like-for-like’ basis for incentives foregone at a previous employer. Section 4 Governance/Report on directors’ remuneration 99 Non-executive directors and chairman Pay and performance scenario analysis Non-executive director remuneration has been designed to attract and retain high calibre individuals, with appropriate experience or industry relevant skills, by oﬀ ering market competitive fee levels. The structure of non-executive directors’ fees with(cid:98)eﬀ ect(cid:98)from 1 May 2014 is as follows: Director Non-executive director Chairmanship of audit committee Chairmanship of remuneration committee Chairmanship of reputation & responsibility committee Membership of audit committee Membership of remuneration committee Membership of reputation & responsibility committee Senior independent director Fee £70,000 £27,500 £22,000 £10,000 £15,000 £10,000 £5,000 £22,000 The total fees payable to the non-executive directors (excluding the Chairman) are subject to the limit set out in the articles of association of the company (currently £750,000) and are increased by ordinary resolution from time to time. The chairman’s fees remain unchanged at £500,000 per year. For more information on non-executive directors’ remuneration, please refer to the full remuneration policy on the Governance page of the company’s website at www.pearson.com/governance The remuneration policy approved by shareholders in 2014 required a scenario chart in the format set out below for 2014 remuneration. Although not required, the company has updated the scenario charts below so as to apply to 2016 remuneration. Consistent with its policy, the committee places considerable emphasis on the performance-linked elements, i.e. annual and long-term incentives. The chart overleaf shows what each director could expect to receive in 2016 under diﬀ erent performance scenarios, based on the following deﬁ nitions of performance: Performance scenario Elements of remuneration and assumptions Maximum Target Minimum 2016 base salary; allowances, beneﬁ ts, and retirement beneﬁ ts at the same percentage of base salary as in 2015; maximum individual annual incentive as per policy; maximum value of 2015 long-term incentive award 2016 base salary; allowances, beneﬁ ts, and retirement beneﬁ ts at the same percentage of base salary as in 2015; target individual annual incentive as per policy; target value of 2015 long-term incentive award (Willis Towers Watson’s independent assessment of the expected value of the award, i.e. the net present value taking into account all the conditions) 2016 base salary; allowances, beneﬁ ts, and retirement beneﬁ ts at the same percentage of base salary as in 2015; no annual or long- term incentives Note The value of long-term incentives does not take into account dividend awards that are payable on the release of restricted shares nor any changes in share price. On this basis, the relative weighting of ﬁ xed and performance-related remuneration and the absolute size of the remuneration packages for the chief executive and the chief ﬁ nancial oﬃ cer (as represented by the current incumbent) are set out on the next page. We will continue to review the mix of ﬁ xed and performance-linked remuneration on an annual basis, consistent with our overall policy. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 100 Pearson plc Annual report and accounts 2015 Part 2: Summary of Remuneration policy continued (cid:38)(cid:75)(cid:76)(cid:72)(cid:73)(cid:3)(cid:72)(cid:91)(cid:72)(cid:70)(cid:88)(cid:87)(cid:76)(cid:89)(cid:72)(cid:3)(cid:82)(cid:605)(cid:70)(cid:72)(cid:85)(cid:3)(cid:11)(cid:45)(cid:82)(cid:75)(cid:81)(cid:3)(cid:41)(cid:68)(cid:79)(cid:79)(cid:82)(cid:81)(cid:12)(cid:3)£000 (cid:38)(cid:75)(cid:76)(cid:72)(cid:73)(cid:3)(cid:564)(cid:81)(cid:68)(cid:81)(cid:70)(cid:76)(cid:68)(cid:79)(cid:3)(cid:82)(cid:605)(cid:70)(cid:72)(cid:85)(cid:3)(cid:11)(cid:38)(cid:82)(cid:85)(cid:68)(cid:80)(cid:3)(cid:58)(cid:76)(cid:79)(cid:79)(cid:76)(cid:68)(cid:80)(cid:86)(cid:12)(cid:3)£000 (cid:48)(cid:68)(cid:91)(cid:76)(cid:80)(cid:88)(cid:80) 20% 25% 55% £5,695 (cid:48)(cid:68)(cid:91)(cid:76)(cid:80)(cid:88)(cid:80) 18% 29% 53% (cid:55)(cid:68)(cid:85)(cid:74)(cid:72)(cid:87) 32% 21% (cid:23)(cid:26)(cid:8) (cid:101)(cid:22)(cid:15)(cid:26)(cid:27)(cid:22) (cid:55)(cid:68)(cid:85)(cid:74)(cid:72)(cid:87) 29% 23% 48% (cid:48)(cid:76)(cid:81)(cid:76)(cid:80)(cid:88)(cid:80) 100% £1,216 (cid:48)(cid:76)(cid:81)(cid:76)(cid:80)(cid:88)(cid:80) 100% (cid:37)(cid:68)(cid:86)(cid:72)(cid:3)(cid:86)(cid:68)(cid:79)(cid:68)(cid:85)(cid:92)(cid:15)(cid:3)(cid:68)(cid:79)(cid:79)(cid:82)(cid:90)(cid:68)(cid:81)(cid:70)(cid:72)(cid:86)(cid:15)(cid:3)(cid:69)(cid:72)(cid:81)(cid:72)(cid:564)(cid:87)(cid:86)(cid:3)(cid:68)(cid:81)(cid:71)(cid:3)(cid:83)(cid:72)(cid:81)(cid:86)(cid:76)(cid:82)(cid:81) (cid:36)(cid:81)(cid:81)(cid:88)(cid:68)(cid:79)(cid:3)(cid:76)(cid:81)(cid:70)(cid:72)(cid:81)(cid:87)(cid:76)(cid:89)(cid:72) (cid:47)(cid:82)(cid:81)(cid:74)(cid:16)(cid:87)(cid:72)(cid:85)(cid:80)(cid:3)(cid:76)(cid:81)(cid:70)(cid:72)(cid:81)(cid:87)(cid:76)(cid:89)(cid:72)(cid:86)(cid:3)(cid:11)(cid:47)(cid:55)(cid:918)(cid:51)(cid:12) (cid:37)(cid:68)(cid:86)(cid:72)(cid:3)(cid:86)(cid:68)(cid:79)(cid:68)(cid:85)(cid:92)(cid:3)(cid:68)(cid:79)(cid:79)(cid:82)(cid:90)(cid:68)(cid:81)(cid:70)(cid:72)(cid:86)(cid:15)(cid:3)(cid:69)(cid:72)(cid:81)(cid:72)(cid:564)(cid:87)(cid:86)(cid:3)(cid:68)(cid:81)(cid:71)(cid:3)(cid:83)(cid:72)(cid:81)(cid:86)(cid:76)(cid:82)(cid:81) (cid:36)(cid:81)(cid:81)(cid:88)(cid:68)(cid:79)(cid:3)(cid:76)(cid:81)(cid:70)(cid:72)(cid:81)(cid:87)(cid:76)(cid:89)(cid:72) (cid:47)(cid:82)(cid:81)(cid:74)(cid:16)(cid:87)(cid:72)(cid:85)(cid:80)(cid:3)(cid:76)(cid:81)(cid:70)(cid:72)(cid:81)(cid:87)(cid:76)(cid:89)(cid:72)s (LTIP) (cid:38)(cid:40)(cid:50)(cid:3)(cid:564)(cid:91)(cid:72)(cid:71)(cid:3)(cid:89)(cid:86)(cid:3)(cid:89)(cid:68)(cid:85)(cid:76)(cid:68)(cid:69)(cid:79)(cid:72)(cid:3)(cid:68)(cid:87)(cid:3)(cid:87)(cid:68)(cid:85)(cid:74)(cid:72)(cid:87) (cid:38)(cid:41)(cid:50)(cid:3)(cid:564)(cid:91)(cid:72)(cid:71)(cid:3)(cid:89)(cid:86)(cid:3)(cid:89)(cid:68)(cid:85)(cid:76)(cid:68)(cid:69)(cid:79)(cid:72)(cid:3)(cid:68)(cid:87)(cid:3)(cid:87)(cid:68)(cid:85)(cid:74)(cid:72)(cid:87) £2,978 £1,890 £551 Fixed Base salary 21% (cid:3) (cid:51)(cid:72)(cid:81)(cid:86)(cid:76)(cid:82)(cid:81)(cid:3)(cid:68)(cid:81)(cid:71)(cid:3)(cid:69)(cid:72)(cid:81)(cid:72)(cid:564)(cid:87)(cid:86)(cid:3)(cid:20)(cid:20)(cid:8) Fixed Variable (cid:3) (cid:36)(cid:81)(cid:81)(cid:88)(cid:68)(cid:79)(cid:3)(cid:76)(cid:81)(cid:70)(cid:72)(cid:81)(cid:87)(cid:76)(cid:89)(cid:72)(cid:3)(cid:21)(cid:20)(cid:8) (cid:3) (cid:47)(cid:82)(cid:81)(cid:74)(cid:16)(cid:87)(cid:72)(cid:85)(cid:80)(cid:3)(cid:76)(cid:81)(cid:70)(cid:72)(cid:81)(cid:87)(cid:76)(cid:89)(cid:72)(cid:86)(cid:3)(cid:23)(cid:26)(cid:8) (cid:41)(cid:76)(cid:91)(cid:72)(cid:71) Base salary 27% (cid:3) (cid:51)(cid:72)(cid:81)(cid:86)(cid:76)(cid:82)(cid:81)(cid:3)(cid:68)(cid:81)(cid:71)(cid:3)(cid:69)(cid:72)(cid:81)(cid:72)(cid:564)(cid:87)(cid:86)(cid:3)(cid:21)(cid:8) (cid:41)(cid:76)(cid:91)(cid:72)(cid:71) (cid:57)(cid:68)(cid:85)(cid:76)(cid:68)(cid:69)(cid:79)(cid:72) (cid:3) (cid:36)(cid:81)(cid:81)(cid:88)(cid:68)(cid:79)(cid:3)(cid:76)(cid:81)(cid:70)(cid:72)(cid:81)(cid:87)(cid:76)(cid:89)(cid:72)(cid:3)(cid:21)(cid:22)(cid:8) (cid:3) (cid:47)(cid:82)(cid:81)(cid:74)(cid:16)(cid:87)(cid:72)(cid:85)(cid:80)(cid:3)(cid:76)(cid:81)(cid:70)(cid:72)(cid:81)(cid:87)(cid:76)(cid:89)(cid:72)(cid:86)(cid:3)(cid:23)(cid:27)(cid:8) Variable (cid:57)(cid:68)(cid:85)(cid:76)(cid:68)(cid:69)(cid:79)(cid:72) Further information on remuneration policy For further information on the following aspects of the remuneration policy, please refer to the full remuneration policy and the RNS statement of further information on the remuneration policy of 9 April 2014 on the Governance page of the company’s website at www.pearson.com/governance Selection of performance measures and target setting Legacy arrangements under the annual bonus share matching plan Remuneration policy for other employees Service contracts and termination provisions Recruitment policy Employment conditions elsewhere in the company Executive directors’ non-executive directorships Shareholder views In 2016, we intend to conduct a review of our remuneration policy to put to shareholders for(cid:98)our(cid:98)next(cid:98)policy vote in 2017. Report on directors’ remuneration continued Part 3: Annual remuneration report Section 4 Governance/Report on directors’ remuneration 101 This report comprises a number of sections: The remuneration committee and its activities p102-103 Movements in directors’ interests in share options* Voting outcome at 2015 Annual General Meeting Single ﬁ gure of total remuneration and prior year comparison* Annual incentive* Long-term incentives* Retirement beneﬁ ts* Remuneration paid to the chairman and non-executive directors* Movements in directors’ interests in share awards* p104 p105 p106 p107 p108 p108 p110 Where required under current regulations, the tables marked * have been subject to audit. Payments to former directors* Interests of directors and value of shareholdings* Executive directors’ non-executive directorships Historical performance and remuneration Comparative information Information on changes to remuneration for 2016 p111 p111 p112 p113 p114 p115 p116-117 Annual remuneration report Remuneration compliance The remuneration committee presents the annual remuneration report, which will be put to shareholders, along with the annual statement, as an advisory (non- binding) vote at the Annual General Meeting to be held on 29 April 2016. This report was compiled in accordance with Schedule 8 of the Large and Medium-sized Companies and Groups (Accounts and Reports) (Amendment) Regulations 2013 and was approved by the board of directors on 4 March 2016. The committee believes that the company has complied with the provisions regarding remuneration matters contained within the UK Corporate Governance Code. Strategic alignment of pay Financial objectives Drive revenue growth KPI Sales Deliver sustainable returns Total adjusted earnings Return on invested capital Total shareholder return Manage our cash position eff ectively Operating cash ﬂ ow Incentive scheme AIP AIP / LTIP LTIP LTIP AIP Non-ﬁ nancial objectives Reduce our carbon footprint KPI GHG emissions Incentive scheme AIP (as part of a scorecard used to determine the individual discretionary element of the payout) KPI Incentive scheme Revenue share AIP Revenue share AIP Strategic objectives Transform to digital and services Grow presence in emerging markets O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 102 Pearson plc Annual report and accounts 2015 Part 3: Annual remuneration report continued The remuneration committee in 2015 Role Name Title Chairman Elizabeth Corley (from 24 April 2015) David Arculus (to 24 April 2015) Members Vivienne Cox Independent non-executive directors Internal advisers Josh Lewis Tim Score (from 2 October 2015) Ken Hydon (to 24 April 2015) Elizabeth Corley (to 24 April 2015) Glen Moreno John Fallon Coram Williams (from 1 August 2015) Robin Freestone (to 1 August 2015) Melinda Wolfe Stuart Nolan Stephen Jones Chairman of the board Chief executive Chief ﬁ nancial oﬃ cer Chief ﬁ nancial oﬃ cer Chief human resources oﬃ cer SVP, reward Company secretary External advisers Willis Towers Watson See remuneration committee activities in 2015 on p103 Sidney Taurel joined the committee as a member on his appointment as Chairman of the Board on 1 January 2016. Internal advisers provided material assistance to the committee during the year. They attended meetings of the committee, although none of them were involved in any decisions relating to his or her own remuneration. To ensure that the committee receives independent advice, Willis Towers Watson supplies survey data and advises on market trends, long-term incentives and other general remuneration matters. Willis Towers Watson was selected and appointed by the committee through a formal tendering process. Willis Towers Watson also advised the company on health and welfare beneﬁ ts in the US and provided consulting advice directly to certain Pearson operating companies. Willis Towers Watson is a member of the Remuneration Consultants’ Group, the body that oversees the Code of Conduct in relation to executive remuneration consulting in the UK. During the year, Willis Towers Watson was paid fees for advice to the committee, which were charged on a time spent basis, of £151,254. As part of its annual review of its performance and eﬀ ectiveness, the committee remains satisﬁ ed that Willis Towers Watson’s advice was objective and independent and that Willis Towers Watson’s provision of other services in no way compromises its independence. Committee performance Annually, the committee reviews its own performance, constitution, and charter and terms of reference to ensure it is operating at maximum eﬀ ectiveness and recommends any changes it considers necessary to the board for approval. The committee participated in a survey to review its performance and eﬀ ectiveness in July 2015, looking at areas such as the clarity of roles and responsibilities, the composition of the committee, the use of time, the quality and timeliness of meeting materials, the opportunity for discussion and debate, dialogue with management and shareholders and access to independent advice. The committee concluded that it is operating eﬀ ectively. Section 4 Governance/Report on directors’ remuneration 103 Meetings, activities and decisions in 2015 The remuneration committee met four times during 2015. The key topics were as follows: Market Performance Implementation Governance Policy Noted Willis Towers Watson’s overview of the current remuneration environment and 2014/15 market data Noted management’s overview of prior year and year to date performance and(cid:98)business plans Reviewed and approved the 2014 annual incentive pay-out and 2015 remuneration package for John Fallon Reviewed and approved 2014 annual incentive plan pay-outs Approved nil pay-out of 2012 annual bonus share matching awards and release of shares Noted the activity of the standing committee of the board in relation to the operation of the company’s equity-based reward programmes Noted update to remuneration aspects of(cid:98)the UK Corporate Governance Code and principles of remuneration of the Investment Association Noted and reviewed the status of the outstanding long-term incentive awards based on the current view of likely Pearson ﬁ nancial performance Approved nil pay-out under 2012 long-term incentive plan Reviewed and approved 2015 long-term incentive awards for the Pearson executive Considered timeline and principles for determining the basis of Robin Freestone’s exit arrangements Noted 2015 long-term incentive awards for senior leaders and managers below Pearson executive Noted remuneration package for a new appointment to the Pearson executive Considered matter of former CEO’s double taxation in the US and UK (cid:98)and related issues Noted company’s use of(cid:98)equity for employee share plans Reviewed the committee’s performance Reviewed the committee’s(cid:98)charter and(cid:98)terms of(cid:98)reference Reviewed and approved 2014 directors’ remuneration report Reviewed and approved increases in base salaries for 2015 for the Pearson executive Reviewed and approved 2015 Pearson annual incentive plan targets Reviewed and approved 2015 individual annual incentive opportunities for the Pearson executive Reviewed 2015 long-term incentive performance conditions for the Pearson executive Noted guidance notes on treatment of leavers and exercise of discretion Considered approach to 2015 long-term incentive awards for senior leaders and managers below the Pearson executive Disclosure and engagement Noted shareholder feedback on 2014 directors’ remuneration report Reviewed 2015 Annual General Meeting season, shareholder voting and engagement strategy Noted template and outline of 2015 report on directors’ remuneration and considered shareholder engagement(cid:98) strategy Noted feedback from Committee Chairman’s meetings with key shareholders O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 104 Pearson plc Annual report and accounts 2015 Part 3: Annual remuneration report continued Voting at 2015 Annual General Meeting Voting on remuneration policy at 2014 AGM The following table summarises the details of votes cast in respect of the resolutions on the report on directors’ remuneration at the 2015 Annual General Meeting. Annual remuneration report votes Directors’ remuneration policy votes Votes for 536,330,506 (92.92% of votes cast) Votes against 40,883,235 (7.08% of votes cast) Votes for 517,308,446 (95.76% of votes cast) Votes against 22,905,879 (4.24% of votes cast) 577,213,741 Total votes cast 8,980,804 Votes withheld (abstentions) 540,214,325 Total votes cast 6,004,239 Votes withheld (abstentions) (70.96% of issued share capital) (66.00% of issued share capital) As in previous years and as required by law, details of the voting on all resolutions at the 2016 Annual General Meeting will be announced via the RNS and posted on the Pearson website following the Annual General Meeting. Section 4 Governance/Report on directors’ remuneration 105 Single total ﬁ gure of remuneration and prior year comparison Total aggregate emoluments for executive and non-executive directors were £3.299m in 2015. These emoluments are included within the total employee beneﬁ t expense in note 5 to the ﬁ nancial statements (page 155). Executive directors The remuneration received by executive directors in respect of the ﬁ nancial years ended 31 December 2015 and 31 December 2014 is set out below. Figures for Coram Williams and Robin Freestone are based on their period of employment – see note on page 106. Executive director remuneration John Fallon Coram Williams Robin Freestone Total £000s Base salary 2015 776 2014 761 2015 258 Allowances and beneﬁ ts Travel Healthcare Risk Annual incentives Percentage of maximum Percentage of target Percentage of salary Long-term incentives Long-term incentive plan Annual bonus share-matching plan Dividend equivalents Worldwide Save For Shares Retirement beneﬁ ts Deﬁ ned contribution plan Deﬁ ned beneﬁ t accrual Allowances in lieu of beneﬁ ts 62 28 2 32 0 0% 0% 0% 54 0 0 46 8 371 0 169 202 83 50 2 31 692 51% 91% 91% 74 0 0 74 0 285 0 87 198 0 0 0 0 0 0% 0% 0% – – – – – 18 0 18 0 Total remuneration 1,263 1,895 276 See summary of remuneration policy on page 98 2014 – – – – – – – – – – – – – – – – – – – 2015 417 2014 553 2015 2014 1,451 1,314 13 11 2 0 0 0% 0% 0% 41 0 0 38 3 126 18 – 108 15 12 2 1 365 39% 78% 66% 63 0 0 63 0 166 23 0 143 75 39 4 32 0 – – – 95 0 0 84 11 515 18 187 310 98 62 4 32 1,057 – – – 137 0 0 137 0 451 23 87 341 597 1,162 2,136 3,057 O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 106 Pearson plc Annual report and accounts 2015 Part 3: Annual remuneration report continued Notes to single ﬁ gure table Single total ﬁ gure of remuneration In accordance with the regulations, we show a single total ﬁ gure of remuneration, which includes retirement beneﬁ ts and long-term incentives in addition to the other elements of remuneration that have been shown in previous reports. Coram Williams and Robin Freestone Figures relate to full period of employment; for Coram commencing 1 July 2015, and for Robin ending 30 September 2015. Note that Coram became an executive director and Robin stepped down as an executive director on 1 August 2015. Base salary In accordance with policy, the committee considered a report from the chief executive and chief human resources oﬃ cer on general pay trends in the market and the level of pay increases across the company as a whole. For 2015, the company had reiterated its starting principles that base compensation provides the appropriate rate of remuneration for the job, taking into account relevant recruitment markets, business sectors and geographic regions and that total remuneration should reward both short and long-term results, delivering competitive rewards for target performance, but higher rewards for exceptional company performance. For the US and UK, the budget guideline issued for adjustments to base pay for 2015 was 2%. Local inﬂ ation rates and market conditions were taken into account in particular markets. Allowances and beneﬁ ts Travel beneﬁ ts comprise company car, car allowance and private use of a driver. Health beneﬁ ts comprise healthcare, health assessment and gym subsidy. Risk beneﬁ ts comprise additional life cover and long-term disability insurance. In addition to the above beneﬁ ts and allowances, executive directors may also participate in company beneﬁ t or policy arrangements that have no taxable value. Annual incentive For more detail, see table below. Annual incentives for the directors are funded by Pearson global annual ﬁ nancial results and pay-outs take into account individual performance against personal objectives. Executive directors’ annual incentive payments in 2015 For 2015, annual incentives were funded by Pearson global annual ﬁ nancial results based on the performance measures set out below. Individual pay-outs take into account performance against personal objectives. Actual performance against the ﬁ nancial targets for 2015, and the respective AIP pool funding level, were as follows: Measures Group EPS (p) Group sales (£m) Operating cash ﬂ ow (£m) Total Weighting Threshold for 2015 Target for 2015 Maximum for 2015 Actual performance in 2015 Funding in 2015 (% of target) Weighting ratio 60% 20% 20% 100% 70.4 79.0 87.7 5,046 5,312 5,578 680 765 850 69.8 5,083 435 0% 0% 0% 0% 20% Measures John Fallon Coram Williams Robin Freestone Total Group funding Pro-rating factor Target AIP as % of salary Actual % of target in 2015 Final pay-out in 2015 (000s) 20% 60% 0% 0% 0% 1.0 0.5 0.75 100% 85% 85% 0% 0% 0% £0 £0 £0 £0 Group EPS (p) Group sales (£m) Operating cashﬂ ow (£m) Note 1 Although the threshold for the Group sales element was reached in 2015, the committee has exercised its discretion to reduce the bonus to nil due to poor overall underlying performance Note 2 Actual performance provided like-for-like with targets, based on plan exchange rates for 2015 and constant portfolio, consistent with prior years Note 3 Pro-rated due to part year employed (relates to full period employed rather than period as a director) Section 4 Governance/Report on directors’ remuneration 107 Worldwide Save For Shares All share options that become exercisable during a year are included in the single ﬁ gure of total remuneration for that year. The value included in the single ﬁ gure of total remuneration is the number of options multiplied by the diﬀ erence between the discounted option price and the market value on the earliest exercise date. Share options which became exercisable in 2015 are included in the single ﬁ gure of total remuneration for 2015 based on the share price on August 1, 2015 of 1,203.0p. See page 111 for details of share options vesting in the year. Long-term incentives The single ﬁ gure of remuneration for 2015 includes all long-term incentive awards that were subject to a performance condition where the performance period ended, or was substantially (but not fully) completed, at 31 December 2015, and awards where the performance condition has been satisﬁ ed but where the release of shares is subject to a further holding period. The same methodology has been applied for the single ﬁ gure of remuneration for 2014. In 2015, the performance conditions for the 2013 Long-Term Incentive Plan (LTIP) and 2013 Annual Bonus Share-Matching Plan (ABSMP) were not met. The executive directors both held vested shares under the 2010 LTIP that were released on 5 March 2015 at the end of the two-year holding period and these shares were part of the single ﬁ gure of remuneration for 2013 as reported in the 2012 report on directors’ remuneration. However, the dividend equivalent shares that were awarded in respect of these shares and released on 5(cid:98)March 2015 have been included in the single ﬁ gure of remuneration for 2015, as below: Long-term incentive plan vesting Director John Fallon Robin Freestone Total Date of award Date of release Number of shares Value £000 Share price on release Notes – 5 Mar 15 3,191 46 1,444.0p Dividend shares relating to ﬁ nal portion of 2010 award vesting 3 Mar 10 5 Mar 15 13,752 199 1,444.0p 25% of 2010 award pay-out subject to continued employment released 16,943 245 – 5 Mar 15 2,659 38 1,444.0p Dividend shares relating to ﬁ nal portion of 2010 award vesting 3 Mar 10 5 Mar 15 11,460 165 1,444.0p 25% of 2010 award pay-out subject to continued employment released 14,119 31,062 203 448 Notes Dividend equivalent shares only included in single ﬁ gure table. The underlying 25% of the 2010 Award having been disclosed in the 2012 single ﬁ gure table. Shares vested on 3 March 2015 but were released on 5 March together with related dividend shares per RNS announcement. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 108 Pearson plc Annual report and accounts 2015 Part 3: Annual remuneration report continued Executive directors’ retirement beneﬁ ts and entitlements Details of the directors’ pension entitlements and pension related beneﬁ ts during the year are as follows: Director John Fallon Coram Williams Robin Freestone Value of deﬁ ned beneﬁ t over the period £000 Other pension costs to the company over the period £000 169 18 – – – 18 Other allowances in lieu of pension £000 202 – 108 Total annual value in 2015 £000 Normal retirement age 371 18 126 62 62 62 Accrued pension at 31 Dec 15 £000 90.5 25.7 – Plans John Fallon – Pearson Group Pension Plan Accrual rate of 1/30th of pensionable salary per annum. In addition, he received a taxable and non-pensionable cash supplement. Coram Williams – Pearson Group Pension Plan Accrual rate of 1/60th of pensionable salary per annum with continuous service with a service gap, in accordance with earlier commitments given to him about the arrangements that would apply should he rejoin Pearson in the UK having moved from Pearson to Penguin US and subsequently Penguin Random House. Robin Freestone – Money Purchase 2003 section of the Pearson Group Pension Plan In addition, he received a taxable and non-pensionable cash supplement. John, Coram and Robin’s pension beneﬁ ts are subject to the notional earnings cap. Note 1 The accrued pension at 31 December 2015 is the deferred pension to which the member would be entitled on ceasing pensionable service on 31 December 2015. For John Fallon and Coram Williams, it relates to the pension payable from the UK Plan. Robin Freestone did not accrue deﬁ ned beneﬁ ts. Note 2 Value of deﬁ ned beneﬁ t over the period comprises the DB input value, less inﬂ ation, less individual contribution. Note 3 Other pension costs to the company over the period comprises contributions to deﬁ ned contribution arrangements for UK beneﬁ ts. Note 4 Other allowances in lieu of pension represents the cash allowances paid in lieu of the previous FURBS arrangements. Note 5 Total annual value is the sum of the previous three columns. Chairman and non-executive director remuneration The remuneration paid to the chairman and non-executive directors in respect of the ﬁ nancial years ended 31 December 2015 and 31 December 2014 is as follows: 2015 2014 Director £000s Glen Moreno David Arculus Elizabeth Corley Vivienne Cox Ken Hydon Josh Lewis Linda Lorimer Harish Manwani Tim Score Total Salary/ basic fee 500 22 70 70 22 70 70 70 70 964 Committee chairmanship Committee membership SID Taxable beneﬁ ts Salary/ basic fee 500 68 47 68 68 68 68 68 – Total 500 35 89 132 41 92 97 80 97 Committee chairmanship Committee membership SID Taxable beneﬁ ts – 21 – 7 27 – – – – – – 14 4 – 22 21 8 8 17 4 – – – – – – – 2 1 6 8 9 8 7 – Total 500 105 52 124 111 85 93 79 – – 5 3 – – – 25 22 3 10 20 5 7 – – – – – – 1 1 5 7 12 7 5 1 78 22 39 1,163 955 55 77 21 41 1,149 – 7 15 10 9 – – – 19 60 Note Taxable beneﬁ ts refer to travel, accommodation and subsistence expenses incurred while attending board meetings during 2015 that were paid or reimbursed by the company which are deemed by HMRC to be taxable in the UK. The amounts in the table above include the grossed-up cost of UK tax to be paid by the company on behalf of the directors. Section 4 Governance/Report on directors’ remuneration 109 Long-term incentives The status of outstanding awards under the long-term incentive plan (LTIP) and the legacy annual bonus share matching plan (ABSMP) and performance against the performance conditions as at 31 December 2015 are described in the table below. For each executive director, details of awards under the LTIP and ABSMP that were awarded, vested, released, lapsed or held during 2015 are summarised in the adjacent table. Notes to this table and the following table are provided overleaf. Status of outstanding awards under the long-term incentive plan and annual bonus share matching plan in 2015 Long-term incentive plan (LTIP) Share price on date of award 1,337.0p Date of award 1 May 2015 Vesting date 1 May 2018 Performance measures Weighting Performance period Pay-out at threshold Pay-out at maximum Actual performance Relative TSR 1/6 1 Jan 2015 to(cid:98)31 Dec 2017 25% at median 100% at upper quartile ROIC 1/3 2017 25% for ROIC of(cid:98)6.5% 100% for ROIC of(cid:98)7.5% EPS growth 1/2 2017 compared to(cid:98)2014 25% for EPS growth of 6.0% 100% for EPS growth(cid:98)of 12.0% 1 May 2014 1,102.0p 1 May 2017 Relative TSR 1/6 2014 to(cid:98)2017 30% at median 100% at upper quartile ROIC 1/3 2016 EPS growth 1/2 2016 compared to(cid:98)2013 30% for ROIC of(cid:98)6.5% 100% for ROIC of(cid:98)7.5% 30% for EPS growth of 6.0% 100% for EPS growth(cid:98)of 12.0% % of award vested Status – Outstanding subject to performance – Outstanding subject to performance – – 1 May 2013 1,183.0p 1 May 2016 Relative TSR 1/3 2013 to(cid:98)2016 30% at median 100% at upper quartile 17th percentile Nil Estimated to lapse in 2016 ROIC 1/3 2015 EPS growth 1/3 2015 compared to(cid:98)2012 0% for ROIC of(cid:98)8.5% 100% for ROIC of(cid:98)10.5% 30% for EPS growth of 6.0% 100% for EPS growth(cid:98)of 12.0% 5.8% -5.2% Nil Will lapse in 2016 Nil Will lapse in 2016 Annual Bonus Share Matching Plan (ABSMP) Date of award Share price on date of award Vesting date 15 May 2013 1,206.0p 15 May 2016 Performance measures Weighting Performance period Pay-out at threshold Pay-out at maximum Actual performance Real compound annual EPS growth 2012 to 2015 50% of matching award for EPS growth of 3.0% 100% of matching award for EPS growth of 5.0% -6.9% % of award vested Status Nil Performance condition not met. Will lapse in 2016 O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 110 Pearson plc Annual report and accounts 2015 Part 3: Annual remuneration report continued Movements in directors’ interests in share awards during 2015 Plan John Fallon LTIP ABSMP Total Coram Williams LTIP Total Robin Freestone LTIP Date of award Vesting date Number of shares as at 1 Jan 2015 Awarded Released Dividends awarded and released Number of shares as at 31 Dec 2015 Lapsed 0 230,000 – – – – – – 250,000 – – 230,000 274,000 1 May 2015 1 May 2014 1 May 2013 3 Mar 2010 1 May 2018 1 May 2017 1 May 2016 3 Mar 2013 274,000 250,000 13,752 15 May 2013 15 May 2016 6,083 – – – – 13,752 3,191 – – – 6,083 543,835 230,000 13,752 3,191 256,083 504,000 1 Aug 2015 1 Aug 2018 0 0 129,000 129,000 1 May 2014 1 May 2017 162,000 1 May 2013 3 Mar 2010 1 May 2016 3 Mar 2013 150,000 11,460 – – – – 0 – – – 150,000 11,460 2,659 – – 0 – – 0 – 129,000 129,000 162,000 Status Outstanding subject to performance Outstanding subject to performance Expected to lapse in 2016 Released 5 Mar 2015 (balancing 75% of vested shares released in 2013) Will lapse in 2016 Outstanding subject to performance Outstanding subject to performance (also see page 112) Expected to lapse in 2016 (also see page 112) Released 5 Mar 2015 (balancing 75% of vested shares released in 2013) 0 0 0 0 0 Total 323,460 0 11,460 2,659 150,000 162,000 Note 1 For all awards, Pearson’s reported ﬁ nancial results for the relevant period were used to measure performance and no discretion has been exercised. Note 2 Vested means where awards are no longer subject to performance conditions. Released means where shares have been transferred to participants. Held means where awards have vested but shares are held pending release on the relevant anniversary of the award date. Outstanding means awards that have been granted but are still subject to the achievement of performance conditions. Dividends refers to dividend equivalent shares that have been added without performance conditions to vested shares under the LTIP and released immediately on award. Note 3 No variations to terms and conditions of plan interests were made during the year. Note 4 TSR is measured relative to the constituents of the FTSE World Media Index over a three-year period. Note 5 In relation to the LTIP award made on 1 May 2014, potential vesting is 50% of maximum(cid:98)for attainment of ROIC of 7%. Note 6 For the LTIP award made on 1 May 2013 and due to vest on 1 May 2016, we have(cid:98)estimated the out-turn of the relative TSR performance condition based on performance as at 26 February 2016 at nil. If actual relative TSR performance is diﬀ erent on the date of vesting, we will set this out in the annual remuneration report for 2016. Note 7 The single ﬁ gure of remuneration for 2015 includes all awards that were subject to a performance condition where the performance period ended, or was substantially (but not fully) completed, at 31 December 2015 and awards where the performance condition has been satisﬁ ed but where the release of shares is subject to a further holding period. The same methodology has been applied for earlier periods and the single ﬁ gure for earlier reporting periods has been restated where necessary. Note 8 The value of shares included in the single ﬁ gure of remuneration is the number of shares multiplied by the share price on release. Note 9 Coram’s 2015 award was made on his appointment to the board on 1 August 2015 and will vest three years from this date on 1 August 2018, subject to the same performance conditions and holding periods as for other executives. Note 10 The value of the LTIP awards in 2015 for the executive directors is shown(cid:98) below, based on the relevant share price on the date of award also shown: Date of award Vesting date Number of shares Face value Face value (% of base salary) Value for threshold performance (% of 2014 salary) Coram Williams 1 Aug 2015 1 Aug 2018 129,000 £1,551,870 1 May 2015 1 May 2018 230,000 £3,075,100 394% 301% 99% 75% Director John Fallon Share price at date of award 1,337.0p 1,203.0p Section 4 Governance/Report on directors’ remuneration 111 Movements in directors’ interests in share options during 2015 John Fallon and Robin Freestone also hold options under the Worldwide Save For Shares plan as follows: Director John Fallon Robin Freestone Number of shares under option held as at 31 Dec 2015 – 1,109 – 1,109 Date of grant 7 May 2010 30 Apr 2014 4 May 2012 30 Apr 2014 Option price 805.6p 811.2p 909.0p 811.2p Normal earliest exercise date 1 Aug 15 1 Aug 17 1 Aug 15 1 Aug 17 Expiry date Value in 2015 single ﬁ gure £ 1 Feb 16 1 Feb 18 1 Feb 16 1 Feb 18 7,670 0 2,911 0 Note 1 The share option awards made in 2010 to John Fallon in respect of 1,930 shares and 2012 to Robin Freestone in respect of 990 shares vested and became exercisable in the year and were exercised on 3 August 2015. Note 2 No variations to terms and conditions of share options were made during the year. Note 3 Acquisition of shares under the Worldwide Save For Shares plan is not subject to a performance condition. Note 4 All share options that become exercisable during a year are included in the single ﬁ gure of total remuneration for that year. The value included in the single ﬁ gure of total remuneration is the number of options multiplied by the diﬀ erence between the discounted option price and the market value on the earliest exercise date. Share options which became exercisable in 2015 are included in the single ﬁ gure of total remuneration for 2015 based on the share price on 1 August,2015 of 1,203.0p. Note 5 The market price on 31 December 2015 was 736.0p per share and the range during the year was 695.0p to 1,508.0p. Payments to former directors It is the committee’s intention to disclose any payments to past directors, including any release of share-based awards post-departure. The number of shares retained from the number of shares originally awarded takes into account lapses due to performance, releases prior to ceasing to be a director and pro-rating for service in the performance period (where applied). Former directors Will Ethridge and John Makinson, who retained the balancing 25% of their 2010 LTIP awards (which vested in 2013) when they stepped down from the board in 2013, received a release of shares under these awards, together with associated dividend shares, during 2015. Details of the vested awards released in 2015 were reported in the 2012 and 2013 reports on directors’ remuneration; details of the dividend shares released in 2015 are Will Ethridge (3,191 shares) and John Makinson (2,659 shares). 2013 long-term incentive awards Will Ethridge retained a long-term incentive plan award made on 1 May 2013, subject to performance. As disclosed elsewhere in this report, this award is expected to lapse in 2016. Robin Freestone Robin Freestone received no payment for loss of oﬃ ce when he stepped down from the board with eﬀ ect from 1 August 2015 and left employment on 30 September 2015. Robin held LTIP awards granted in 2013 and 2014 and, in February 2016, the remuneration committee set out a clear process and engaged with key shareholders to consider whether those awards should be preserved. The remuneration committee considered the circumstances of Robin’s service and the facts surrounding his departure, taking account of the following factors that we normally consider whenever a decision to treat any person within the LTIP as a good leaver: the diﬀ erent types of leaver; the circumstances at the time the award was originally made; the individual’s performance; and the circumstances in which the individual left employment. After careful consideration of these factors and consultation with key shareholders, the remuneration committee noted that: Robin is leaving to take up several non-executive director appointments and so is ceasing full-time employment; normal conditions applied at date of grant for any award under the LTIP and no award was made in 2015 (similarly, he did not receive a base salary increase in 2015); Robin carried out all duties expected of him during his period of notice and in the preceding years prior to his leaving. He gave good service to the Pearson Board for nine years; and Robin did not leave to take up employment in an executive capacity but rather as a non-executive board member. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 112 Pearson plc Annual report and accounts 2015 Part 3: Annual remuneration report continued The remuneration committee also took into account the eﬀ ective and smooth handover of his role to Coram(cid:98)Williams. The remuneration committee determined that Robin would be treated as a good leaver, so that outstanding LTIP awards would be preserved on a time pro-rated basis, would receive no special treatment and remain subject to all of the applicable performance tests. Robin will therefore remain eligible to receive up to 116,667 (78%) of the shares awarded on 1 May 2013 and 72,000 (44%) of the shares awarded on 1 May 2014, both of which will vest, subject to performance, in 2016 and 2017 respectively. The 2013 award is expected to lapse in(cid:98)2016 due to not meeting the performance targets. Robin will be treated as a retiree in respect of his outstanding WWSFS options granted in 2014. Marjorie Scardino In the 2014 report, we made shareholders aware of a payroll processing error during the years 2007 to 2010, as a result of which taxes deducted from Marjorie Scardino’s compensation were incorrectly allocated by Pearson among tax authorities in the UK and the US. This(cid:98)resulted in her being subject to temporary double taxation. The committee has concluded that Pearson would reimburse (on an after-tax basis) certain costs incurred by Marjorie Scardino in relation to this double taxation error. As a result, a payment of £27,842 has been made to her to conclude this matter. Payments for loss of oﬃ ce There were no payments for loss of oﬃ ce made to(cid:98)or(cid:98)agreed for executive directors in 2015. Directors’ interests in shares and value of shareholdings Directors’ interests The share interests of the directors and their connected persons are as follows: Ordinary shares at 31 Dec 15 Conditional shares at 31 Dec 15 Total number of ordinary and conditional shares at 31 Dec 15 Current shareholding Current value (% salary) Guideline (% salary) Guideline met 210,000 see Note 8 293,056 10 1,267 2,938 7,740 2,675 2,571 849 see Note 8 – – 0 0 – – – – – – – – – see Note 8 50,000 – – – – 293,056 293,056 10 5,010 327% 8% 300% 200% – – – – – – – 1,267 2,938 7,740 2,675 2,571 849 – – – – – – – – – – – – – – – – – Yes n/a – – – – – – – Director Chairman Glen Moreno Sidney Taurel Executive directors John Fallon Coram Williams Non-executive directors Elizabeth Corley Vivienne Cox Josh Lewis Linda Lorimer Harish Manwani Tim Score Lincoln Wallen Note 1 Conditional shares means shares which have vested but remain held subject to continuing employment for a pre-deﬁ ned holding period. Note 2 The current value of the executive directors’ current shareholdings is based on the closing market value of Pearson shares of 870.50p on 1 March 2016 against base salaries at 31 December 2015. The shareholding guidelines do not apply to the chairman and non-executive directors. Note 3 Ordinary shares include both ordinary shares listed on the London Stock Exchange and American Depositary Receipts (ADRs) listed on the New York Stock Exchange. The ﬁ gures include both shares and ADRs acquired by individuals investing part of their own after-tax annual bonus in Pearson shares under the annual bonus share matching plan. Note 4 The market price on 31 December 2015 was 736.0p per share and the range during the year was 695.0p to 1,508.0p. Note 5 On 29 February 2016, Coram Williams purchased 5,000 shares which are included under current shareholding in the table above and shown in the chart overleaf. On 2 March 2016, Sidney Taurel purchased 50,000 shares which are also shown in the table above. Note 6 Ordinary shares do not include any shares vested but held pending release under a restricted share plan. Note 7 As a new appointee, the guidelines are not yet applicable in full for Coram Williams. Note 8 Sidney Taurel and Lincoln Wallen were appointed as directors on 1 January 2016. Glen Moreno left Pearson on 31 December 2015 and as such we have not shown a current shareholding ﬁ gure in the table above. Section 4 Governance/Report on directors’ remuneration 113 Interests of directors and value of shareholdings £ John Fallon Coram Williams 0 100,000 200,000 300,000 400,000 Ordinary shares Conditional shares Shareholding guideline Ordinary shares purchased post year end Shareholding guidelines Executive directors are expected to build up a substantial shareholding in the company in line with the policy of encouraging widespread employee ownership and to align further the interests of executives and shareholders. With eﬀ ect from 2014, target holding is 300% of salary for the chief executive and 200% of salary for the other executive directors. Shares that count towards these guidelines include any shares held unencumbered by the executive, their spouse and/or dependent children plus any shares vested but held pending release under a restricted share plan. Executive directors have ﬁ ve years from the date of appointment to reach the guideline. With eﬀ ect from 2014, these guidelines were extended to include all members of the Pearson executive at 100% of salary. The shareholding guidelines do not apply to the chairman and non-executive directors. However, a minimum of 25% of the basic non-executive directors’ fee is paid in Pearson shares that the non-executive directors have committed to retain for the period of their directorships. Dilution and use of equity We can use existing shares bought in the market, treasury shares or newly-issued shares to satisfy awards under the company’s various share plans. For restricted stock awards under the long-term incentive plan and matching share awards under the annual bonus share matching plan, we would normally expect to use existing shares. There are limits on the amount of new-issue equity we can use. In any rolling ten-year period, no more than 10% of Pearson equity will be issued, or be capable of being issued, under all Pearson’s share plans, and no more than 5% of Pearson equity will be issued, or be capable of being issued, under executive or discretionary plans. At 31 December 2015, stock awards to be satisﬁ ed by new-issue equity granted in the last ten years under all Pearson share plans amounted to 1.6% of the company’s issued share capital. No stock awards granted in the last ten years under executive or discretionary share plans will be satisﬁ ed by new-issue equity. In addition, for existing shares, no more than 5% of Pearson equity may be held in trust at any time. Against this limit, shares held in trust at 31 December 2015 amounted to 0.8% of the company’s issued share capital. The headroom available for all Pearson plans, executive or discretionary plans and shares held in trust is as follows: Headroom 2015 2014 2013 All Pearson plans 8.4% 8.3% 8.4% Executive or discretionary plans 5.0% 5.0% 5.0% Shares held in trust 4.2% 4.1% 3.9% Executive directors’ non-executive directorships Although the policy permits executive directors to serve as non-executive directors elsewhere with the board’s agreement, none of the executive directors held an external directorship during 2015. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 114 Pearson plc Annual report and accounts 2015 Part 3: Annual remuneration report continued Historical performance and remuneration Total shareholder return performance We set out below Pearson’s total shareholder return (TSR) performance relative to the FTSE All-Share index on an annual basis over the seven-year period 2008 to 2015. This comparison has been chosen because the FTSE All-Share represents the broad market index within which Pearson Shares are traded. TSR is the measure of the returns that a company has provided for its shareholders, reﬂ ecting share price movements and assuming reinvestment of dividends. (source: DataStream) In accordance with the reporting regulations, this section also presents Pearson’s TSR performance alongside the single ﬁ gure of total remuneration for the CEO over the last seven years and a summary of the variable pay outcomes relative to the prevailing maximum at the time. The table below summarises the total remuneration for the CEO over the last seven years, and the outcomes of annual and long-term incentive plans as a proportion of maximum. Total shareholder return £ Pearson TSR FTSE All-share TSR 300 250 200 150 100 50 2008 2009 2010 2011 2012 2013 2014 2015 CEO remuneration Total remuneration (single ﬁ gure, £000s) Annual incentive − incumbent (% of maximum) Long-term incentive − incumbent (% of maximum) Marjorie Scardino John Fallon 6,370 8,466 8,340 5,330 1,727 1,895 1,263 91.3% 92.1% 75.7% 24.2% 34.3% 50.5% 80.0% 97.5% 68.3% 36.7% Nil Nil Nil Nil Annual incentive is the actual annual incentive received by the incumbent as a percentage of maximum opportunity. Long-term incentive is the pay-out of performance related restricted shares under the long-term incentive plan where the year shown is the ﬁ nal year of the performance period for the purposes of calculating the single total ﬁ gure of remuneration. Total remuneration - John Fallon John Fallon’s total remuneration opportunity is lower than that of the previous incumbent. Variable pay-outs under the annual and long-term incentive plans reﬂ ect performance for the relevant periods. Section 4 Governance/Report on directors’ remuneration 115 Comparative information The following information is intended to provide additional context regarding the total remuneration for executive directors. Relative percentage change in remuneration for CEO The following table sets out the change between 2014 and 2015 in three elements of remuneration for the CEO, in comparison to the average for all employees. While the committee considers the increase in base pay for the CEO relative to the broader employee population, beneﬁ ts are driven by local practices and eligibility is determined by level and individual circumstances which do not lend themselves to comparison. Relative importance of pay spend The committee considers directors’ remuneration in the context of the company’s allocation and disbursement of resources to diﬀ erent stakeholders. In particular, we chose operating proﬁ t because this is a measure of our ability to reinvest in the company. We include dividends because these constitute an important element of our return to shareholders. All ﬁ gures in £ millions Operating proﬁ t Dividends Total wages and salaries 2015 723 423 2014 722 397 Change £m 1 26 % 0% 7% 1,507 1,607 -100 -6% Change in CEO remuneration 2014/15 Note 1 Operating proﬁ t is as set out in the ﬁ nancial statements. Base salary Allowances and beneﬁ ts +2% -25% Note 2 Wages and salaries include continuing operations only and include directors. 2014 is restated on the same basis. Average employee numbers for continuing operations for 2015 were 37,265 (2014: 38,654 ). Further details are set out in note 5 to the ﬁ nancial statements on page 155. Annual incentives Total -100% -33% Change in employee remuneration 2014/15 Base salary Allowances and beneﬁ ts +3% +12% Annual incentives Total -38% No change Note 1 The ﬁ gures for all employees reﬂ ect average salaries and average employee numbers each year. Annual incentives include all plans, including sales incentives. Note 2 The increase in allowances and annual incentives for John Fallon is attributable respectively to (a) the ﬁ rst full-year of reporting of his private use of a driver based on the beneﬁ t-in-kind charge for the 2014/2015 tax year and (b) the year-on-year increase in his pay-out under the Pearson annual incentive plan. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 116 Pearson plc Annual report and accounts 2015 Part 3: Annual remuneration report continued Information on changes to remuneration for 2016 Executive directors’ base salaries We have undertaken a regular periodic review of base salaries for 2016, taking into account general economic and market conditions, the level of increases made across the company as a whole, the remuneration of executives in similar positions in comparable companies and individual performance. As a result of this review, the 2016 base salaries for the CEO and CFO are unchanged as follows: £000s Base salary at 31 December 2015 Change John Fallon Coram Williams £780.3 £515.0 – 0% – 0% Base salary at 1 April 2016 £780.3 £515.0 Annual incentive The key design principles underlying the company’s approach to annual incentives for 2016 are the same as(cid:98)for 2015, namely: Full alignment of annual incentives with the global business and education strategy to reinforce a ‘one Pearson’ focus - the size of the overall annual incentive pay-out will continue to be linked to overall Pearson performance A clear, transparent, coherent, consistent, organisation- wide approach to incentives and performance management with a common incentive framework for(cid:98)all(cid:98)business units and enabling functions It is anticipated that the 2016 sales and cash metrics and(cid:98)weightings remain unchanged from 2015. However,(cid:98)to align the AIP with the speciﬁ c restructuring achievements required in 2016, as noted in the income statement measure in our guidance to investors, operating proﬁ t after the cost of restructuring would(cid:98)be(cid:98)added to the metrics with a 30% weighting. To(cid:98)accommodate this change, the weighting for EPS would also be 30% (down from 60% weight for 2015). The Pearson ﬁ nancial targets are set each year as part of(cid:98)the normal operating plan process. The CEO and CFO(cid:98)have recommended the overall Pearson incentive funding metrics (including performance measures, targets and weightings) to the committee for approval in the normal way. For 2016, the range of normal rewarded performance is expected to be wider than in previous years – and, in consequence, both the threshold performance and the on-target funding are set to be(cid:98)lower than in 2015. The board considers the performance targets for 2016(cid:98)to(cid:98)be commercially sensitive. Details of all performance(cid:98)measures, weightings and targets will be(cid:98)disclosed in the(cid:98)annual remuneration report for 2016(cid:98)unless the committee determines that they remain(cid:98)commercially sensitive. There has been no change in individual annual incentive opportunities for the executive directors and the Pearson executive. Annual incentive pay-outs are determined according to(cid:98)a(cid:98)combination of Pearson-wide performance and individual goals. The sum of the CEO’s and the Pearson executives’ ‘on-target’ annual incentive constitutes the incentive pool for this group which ﬂ exes up or down based on overall Pearson performance. Individual performance is assessed against goals set at the start of(cid:98)the year. Individual pay-outs up to individual maximum opportunities and within the total pool are recommended by the CEO (or by the chairman in the case of the CEO himself) for review and, in the case of the(cid:98)executive directors, for approval by the committee. Special incentive and retention arrangements The committee agreed for 2016 incentive and retention arrangements for selected key employees, which will vest, or not, in 2017. No executive directors participate in(cid:98)these incentives. Long-term incentives The committee will continue to operate the long-term incentive plan for the executive directors and other members of the Pearson executive in line with the arrangements outlined in the 2013 report on directors’ remuneration: The weighting of the performance metrics will remain half on earnings per share, one-third on return on invested capital and one-sixth on relative total shareholder return. However, the EPS target is planned to be absolute rather than a growth target, and aligned with our external guidance to the market in January 2016 Performance will be tested over three years and 75% of the vested shares will be released at that point. However, there is a mandatory restriction on participants’ ability to dispose of the 75% of the vested shares (other than to meet personal tax liabilities) for a further two years. Furthermore, participants’ rights to the release of the remaining 25% of the vested shares are subject to continued employment over the same period At the time of writing, the committee has yet to approve the 2016 long-term incentive awards and the associated performance targets for the executive directors and other members of the Pearson executive. These are expected to be determined at the April meeting prior to the anticipated May grant. We expect to set targets for the 2016 awards that are consistent with the company’s market guidance over the period to 2018. We will set the level of individual awards consistent with those seen in recent years and within the policy maximum taking into account: The face value of individual awards at the time of grant, assuming that performance targets are met in full Individual roles and responsibilities Company and individual performance Market practice for comparable companies and market assessments of total remuneration from our independent advisers Full details of individual awards for the executive directors and the performance targets for 2016 will be set out in the annual remuneration report for 2016. Section 4 Governance/Report on directors’ remuneration 117 Appointment of chairman Our new chairman, Mr Sidney Taurel, has agreed to lead our board for the same package that the outgoing chairman received, that is a ﬂ at fee of £500,000 per year. He will not participate in any form of Pearson incentive arrangement. He became the chairman eﬀ ective 1 January 2016. Chairman and non-executive directors The fee for the chairman and fees for the non-executive directors remain unchanged for 2016. Full details will be set out in the annual remuneration report and included in the single ﬁ gure of total remuneration for 2016. However, we intend to review these fees in line with our remuneration policy in late 2016 in time for our 2017 policy vote. The directors’ remuneration report has been approved(cid:98)by the board on 4 March 2016 and signed on(cid:98)its behalf by: Elizabeth Corley Chairman of the remuneration committee. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 118 Pearson plc Annual report and accounts 2015 Additional disclosures Report of the directors Pages 70 to 123 of this document comprise the directors’ report for the year ended 31 December 2015. Other information that is required by the Companies Act 2006 (the Act) to be included in the directors’ report, and which is incorporated by reference, can be located as follows: Summary disclosures index Dividend recommendation Financial instruments and ﬁ nancial risk management Important events since year end Future development of the business Research and development activities Employment of disabled persons Employee involvement Greenhouse gas emissions See more p11 note 19 p37 p06-07 p53 p62 p59 p64 With the exception of the dividend waiver described on page 122, there is no information to be disclosed in accordance with Listing Rule 9.8.4. Going concern The directors have made an assessment of the company’s ability to continue as a going concern and consider it appropriate to adopt the going concern basis of accounting. Share capital Details of share issues are given in note 27 to the accounts on page 200. The company has a single class of shares which is divided into ordinary shares of 25p each. The ordinary shares are in registered form. As at 31(cid:98)December 2015, 821,068,560 ordinary shares were in issue. At the AGM held on 24 April 2015, the company was authorised, subject to certain conditions, to acquire up to 82,027,776 ordinary shares by market purchase. Shareholders will be asked to renew this authority at the AGM on 29 April 2016. Information provided to the company pursuant to the Financial Conduct Authority’s Disclosure and Transparency Rules (DTR) is published on a Regulatory Information Service and on the company’s website. As at 31 December 2015, the company had been notiﬁ ed under DTR 5 of the following holders of signiﬁ cant voting rights in its shares. BlackRock, Inc. Schroders plc Number of voting rights Percentage as at date of notiﬁ cation 42,201,515 42,151,560 5.13% 5.13% Between 31 December 2015 and 2 March 2016, being the latest practicable date before the publication of this report, the company did not receive any further notiﬁ cations under DTR 5. Viability statement Annual General Meeting As set out on page 40 the board has also reviewed the prospects of Pearson over the three year period to December 2018 taking account of the company’s strategic plans, a ‘severe but plausible’ downside case and further stress testing based on the principal risks set out on pages 41-45. Based on the results of these procedures, and considering the company’s strong balance sheet following the sale of the FT group, the directors have a reasonable expectation that Pearson will be able to continue in operation and meet its liabilities as they fall due over the three year period ending December 2018. This assumes a reasonable level of ongoing access to capital either via issuing commercial paper or drawing on our revolving credit facility (see note 18 on p178). The notice convening the AGM, to be held at 12 noon on Friday, 29 April 2016 at IET London, 2 Savoy Place, London WC2R 0BL, is contained in a circular to shareholders to be dated 23 March 2016. Registered auditors In accordance with section 489 of the Act, a resolution proposing the reappointment of PricewaterhouseCoopers LLP (PwC) as auditors to the company will be proposed at the AGM, at a level of remuneration to be agreed by the directors. Section 4 Governance 119 Auditors’ independence In line with best practice, our relationship with PwC is governed by our external auditors policy, which is reviewed and approved annually by the audit committee. The policy establishes procedures to ensure the auditors’ independence is not compromised, as well as deﬁ ning those non-audit services that PwC may or may not provide to Pearson. These allowable services are in accordance with relevant UK and US legislation. The audit committee approves all audit and non-audit services provided by PwC. Certain categories of allowable non-audit services have been pre-approved by the audit committee subject to the authorities below: Pre-approved non-audit services can be authorised by the chief ﬁ nancial oﬃ cer up to £100,000 per project, subject to a cumulative limit of £500,000 per annum Acquisition or disposal transactions and due diligence up to £100,000 per project may be performed by our external auditors, in light of the need for conﬁ dentiality. Any project/transaction generating fees in excess of £100,000 must be speciﬁ cally approved by the audit committee Tax compliance and related activities up to the greater of £1,000,000 per annum or 50% of the external audit fee For forward-looking tax advisory services we use the most appropriate adviser, usually after a tender process. Where we decide to use our independent auditors, authority, up to £100,000 per project subject to a cumulative limit of £500,000 per annum, has been delegated by the audit committee to management. Services provided by PwC above these limits and all other allowable non-audit services, irrespective of value, must be approved by the audit committee. Where appropriate, services will be tendered prior to a decision being made as to whether to award work to the auditors. The audit committee receives regular reports summarising the amount of fees paid to the auditors. During 2015, Pearson spent considerably more on non-audit fees with PwC compared to 2014, due to costs relating to carve-out audits for businesses disposed. For 2015, non-audit fees represented 56% of external audit fees (37% in 2014). For all non-audit work in 2015, PwC were selected only after consideration that they were best able to provide the services we required at a reasonable fee and within the terms of our external auditors policy. To assist in ensuring that independence and objectivity is maintained, for forward-looking tax advisory and due diligence work PwC assign a diﬀ erent partner from the one leading the external audit. Signiﬁ cant non-audit work performed by PwC during 2015 included: Audit-related work in relation to potential and actual corporate ﬁ nance transactions Tax compliance services related to a routine audit by the US Internal Revenue Service Tax advisory work on a number of UK, US and international tax matters Assurance services on a corporate bond issued in May 2015 Consulting services related to the establishment of an auditable eﬃ cacy framework Audit of IT general controls mandated by contractual commitments. A full statement of the fees for audit and non-audit services is provided in note 4 to the accounts on page 154. Fair, balanced and understandable reporting As required by the Code, we have established arrangements to ensure that all information we report to investors and regulators is fair, balanced and understandable. A process and timetable for the production and approval of this year’s report was agreed by the board at its meeting in December 2015. The full board then had opportunity to review and comment on the report as it progressed. Representatives from ﬁ nancial reporting, corporate aﬀ airs, company secretarial, legal and internal audit and compliance are involved in the preparation and review of the annual report to ensure a cohesive and balanced approach and, as with all of our ﬁ nancial reporting, our disclosure committee conducts a thorough veriﬁ cation of narrative and ﬁ nancial statements. The audit committee is also available to advise the board on certain aspects of the report, to enable the directors to fulﬁ l their responsibility in this regard. The directors consider that the annual report and accounts, taken as a whole, is fair, balanced and understandable and provides the information necessary for shareholders to assess the company’s position and performance, business model and strategy. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 120 Pearson plc Annual report and accounts 2015 Report of the Directors continued The directors also conﬁ rm that, for each director in oﬃ ce at the date of this report: In preparing these ﬁ nancial statements, the directors are required to: So far as the director is aware, there is no relevant audit information of which the company’s auditors are unaware They 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 company’s auditors are aware of that information. Directors in oﬃ ce The following directors were in oﬃ ce during the year and up until signing of the ﬁ nancial statements: G R Moreno (stepped down 31 December 2015) J J Fallon R A D Freestone (stepped down 1 August 2015) T D G Arculus (stepped down 24 April 2015) E P L Corley V Cox K J Hydon (stepped down 24 April 2015) S J Lewis L K Lorimer H Manwani T Score S Taurel (appointed 1 January 2016) L Wallen (appointed 1 January 2016) C Williams (appointed 1 August 2015) The directors’ report has been approved by the board on 4 March 2016 and signed on its behalf by Stephen Jones Company secretary Statement of directors’ responsibilities The directors are responsible for preparing the annual report in accordance with applicable law and regulations. Company law requires the directors to prepare ﬁ nancial statements for each ﬁ nancial year. Under that law the directors have prepared the Group and parent company ﬁ nancial statements in accordance with International Financial Reporting Standards (IFRSs) as adopted by the European Union. Under company law the directors must not approve the ﬁ nancial statements unless they are satisﬁ ed that they give a true and fair view of the state of aﬀ airs of the company and the Group and of the proﬁ t or loss of the Group for that period. Select suitable accounting policies and then apply them consistently Make judgements and accounting estimates that are reasonable and prudent State whether applicable IFRSs as adopted by the European Union have been followed, subject to any material departures disclosed and explained in the ﬁ nancial statements Prepare the ﬁ nancial statements on a 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 suﬃ cient to show and explain the company’s transactions and disclose with reasonable accuracy at any time the ﬁ nancial position of the company and the Group and enable them to ensure that the ﬁ nancial statements and the report on directors’ remuneration comply with the Act and, as regards the Group ﬁ nancial statements, Article 4 of the IAS Regulation. They are also responsible for safeguarding the assets of the company and the Group and hence for taking reasonable steps for the prevention and detection of fraud and other irregularities. The directors are responsible for the maintenance and integrity of the company’s website. Legislation in the UK governing the preparation and dissemination of ﬁ nancial statements may diﬀ er from legislation in other jurisdictions. Each of the directors, whose names and functions are listed on p72-73 conﬁ rms that, to the best of their knowledge: The Group ﬁ nancial statements, which have been prepared in accordance with IFRSs as adopted by the European Union, give a true and fair view of the assets, liabilities, ﬁ nancial position and proﬁ t of the Group The strategic report contained in the annual report includes a fair review of the development and performance of the business and the position of the Group, together with a description of the principal risks and uncertainties that it faces. This responsibility statement has been approved by the board on 4 March 2016 and signed on its behalf by Coram Williams Chief ﬁ nancial oﬃ cer Additional shareholder information Section 4 Governance 121 The board may, if authorised by an ordinary resolution of the shareholders, oﬀ er any shareholder the right to elect to receive new ordinary shares, which will be credited as fully paid, instead of their cash dividend. Any dividend which has not been claimed for 12 years after it became due for payment will be forfeited and will then belong to the company, unless the directors decide otherwise. If the company is wound up, the liquidator can, with the sanction of a special resolution passed by the shareholders, divide among the shareholders all or any part of the assets of the company and he/she can value assets and determine how the division shall be carried out as between the shareholders or diﬀ erent classes of shareholders. The liquidator can also, with the same sanction, transfer the whole or any part of the assets to trustees upon such trusts for the beneﬁ t of the shareholders. Voting at general meetings Any form of proxy sent by the shareholders to the company in relation to any general meeting must be delivered to the company (via its registrars), whether in written or electronic form, not less than 48 hours before the time appointed for holding the meeting or adjourned meeting at which the person named in the appointment proposes to vote. The board may decide that a shareholder is not entitled to attend or vote either personally or by proxy at a general meeting or to exercise any other right conferred by being a shareholder if he/she or any person with an interest in shares has been sent a notice under section 793 of the Act (which confers upon public companies the power to require information with respect to interests in their voting shares) and he/she or any interested person failed to supply the company with the information requested within 14 days after delivery of that notice. The board may also decide, where the relevant shareholding comprises at least 0.25% of the nominal value of the issued shares of that class, that no dividend is payable in respect of those default shares and that no transfer of any default shares shall be registered. Additional information for shareholders Set out below is other statutory and regulatory information that Pearson is required to disclose in its directors’ report in compliance with DTR 7.2.6. Amendment to articles of association Any amendments to the articles of association of the company (the Articles) may be made in accordance with the provisions of the Act by way of a special resolution. Rights attaching to shares The rights attaching to the ordinary shares are deﬁ ned in the Articles. A shareholder whose name appears on the company’s register of members can choose whether his/her shares are evidenced by share certiﬁ cates (i.e. in certiﬁ cated form) or held electronically (i.e. uncertiﬁ cated form) in CREST (the electronic settlement system in the UK). Subject to any restrictions below, shareholders may attend any general meeting of the company and, on a show of hands, every shareholder (or his/her representative) who is present at a general meeting has one vote on each resolution, and on a poll, every shareholder (whether an individual or a corporation) present in person or by proxy shall have one vote for every 25 pence of nominal share capital held. A resolution put to the vote at a general meeting is decided on a show of hands unless before, or on the declaration of the result of, a vote on a show of hands, a poll is demanded. A poll can be demanded by the chairman of the meeting, or by at least three shareholders (or their representatives) present in person and having the right to vote, or by any shareholders (or their representatives) present in person having at least 10% of the total voting rights of all shareholders, or by any shareholders (or their representatives) present in person holding ordinary shares on which an aggregate sum has been paid up of at least 10% of the total sum paid up on all ordinary shares. At this year’s AGM voting will again be conducted on a poll, consistent with best practice. Shareholders can declare a ﬁ nal dividend by passing an ordinary resolution but the amount of the dividend cannot exceed the amount recommended by the board. The board can pay interim dividends on any class of shares of the amounts and on the dates and for the periods they decide. In all cases the distributable proﬁ ts of the company must be suﬃ cient to justify the payment of the relevant dividend. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 122 Pearson plc Annual report and accounts 2015 Additional shareholder information continued Pearson operates an employee beneﬁ t trust to hold shares, pending employees becoming entitled to them under the company’s employee share plans. There were 6,704,505 shares held as at 31 December 2015. The trust has an independent trustee which has full discretion in relation to the voting of such shares. A(cid:98)dividend waiver operates on the shares held in the(cid:98)trust. Pearson also operates two nominee shareholding arrangements which hold shares on behalf of employees. There were 2,871,174 shares held in the Sharestore account and 309,841 shares held in the Global Nominee account as at 31 December 2015. The beneﬁ cial owners of shares held in Sharestore are invited to submit voting instructions online at www.shareview.co.uk and Global Nominee participants are invited to submit voting instructions by e-mail to nominee@equiniti.com. If no instructions are given by the beneﬁ cial owner by the date speciﬁ ed, the trustees holding these shares will not exercise the voting rights. Transfer of shares The board may refuse to register a transfer of a certiﬁ cated share which is not fully paid, provided that the refusal does not prevent dealings in shares in the company from taking place on an open and proper basis. The board may also refuse to register a transfer of a certiﬁ cated share unless (i) the instrument of transfer is lodged, duly stamped (if stampable), at the registered oﬃ ce of the company or any other place decided by the board, and is accompanied by the certiﬁ cate for the share to which it relates and such other evidence as the board may reasonably require to show the right of the transferor to make the transfer; (ii) it is in respect of only one class of shares; and (iii) it is in favour of not more than four transferees. Transfers of uncertiﬁ cated shares must be carried out using CREST and the board can refuse to register a transfer of an uncertiﬁ cated share in accordance with the regulations governing the operation of CREST. Variation of rights If at any time the capital of the company is divided into diﬀ erent classes of shares, the special rights attaching to any class may be varied or revoked either: (i) with the written consent of the holders of at least 75% in nominal value of the issued shares of the relevant class or (ii) with the sanction of a special resolution passed at a separate general meeting of the holders of the shares of the relevant class. Without prejudice to any special rights previously conferred on the holders of any existing shares or class of shares, any share may be issued with such preferred, deferred, or other special rights, or such restrictions, whether in regard to dividend, voting, return of capital or otherwise as the company may from time to time by ordinary resolution determine. Appointment and replacement of directors The Articles contain the following provisions in relation to directors: Directors shall be no less than two in number. Directors may be appointed by the company by ordinary resolution or by the board. A director appointed by the board shall hold oﬃ ce only until the next AGM and shall then be eligible for reappointment, but shall not be taken into account in determining the directors or the number of directors who are to retire by rotation at that meeting. The board may from time to time appoint one or more directors to hold executive oﬃ ce with the company for such period (subject to the provisions of the Act) and upon such terms as the board may decide and may revoke or terminate any appointment so made. The Articles provide that, at every AGM of the company, at least one-third of the directors shall retire by rotation (or, if their number is not a multiple of three, the number nearest to one-third). The ﬁ rst directors to retire by rotation shall be those who wish to retire and not oﬀ er themselves for re-election. Any further directors so to retire shall be those of the other directors subject to retirement by rotation who have been longest in oﬃ ce since they were last re-elected but, as between persons who became or were last re-elected on the same day, those to retire shall (unless they otherwise agree among themselves) be determined by lot. In addition, any director who would not otherwise be required to retire shall retire by rotation at the third AGM after they were last re-elected. Notwithstanding the provisions of the Articles, the board has resolved that all directors should oﬀ er themselves for re-election annually, in accordance with the Code. The company may by ordinary resolution remove any director before the expiration of his/her term of oﬃ ce. In(cid:98)addition, the board may terminate an agreement or arrangement with any director for the provision of his/ her services to the company. Powers of the directors Subject to the company’s Articles, the Act and any directions given by special resolution, the business of the company will be managed by the board who may exercise all the powers of the company, including powers relating to the issue and/or buying back of shares by the company (subject to any statutory restrictions or restrictions imposed by shareholders in general meeting). Section 4 Governance 123 Signiﬁ cant agreements The following signiﬁ cant agreements contain provisions entitling the counterparties to exercise termination or other rights in the event of a change of control of the company: Under the $1,750,000,000 revolving credit facility agreement dated August 2014 which matures in August 2020 between, amongst others, the company, Barclays Bank plc (Agent) and the banks and ﬁ nancial institutions named therein as lenders (the Facility), any such bank may, upon a change of control of the company, require its outstanding advances, together with accrued interest and any other amounts payable in respect of such Facility, and its commitments, to be cancelled, each within 60 days of notiﬁ cation to the banks by the Agent. For these purposes, a ‘change of control’ occurs if the company becomes a subsidiary of any other company or(cid:98)one or more persons acting either individually or in concert, obtains control (as deﬁ ned in section 1124 of the Corporation Tax Act 2010) of the company. Shares acquired through the company’s employee share plans rank pari passu with shares in issue and have no special rights. For legal and practical reasons, the rules of(cid:98)these plans set out the consequences of a change of control of the company. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 124 Pearson plc Annual report and accounts 2015 Financial statements Consolidated ﬁ nancial statements Independent auditors’ report to the members of Pearson plc Consolidated income statement Consolidated statement of comprehensive income Consolidated balance sheet Consolidated statement of changes in equity Consolidated cash ﬂ ow statement Notes to the consolidated ﬁ nancial statements 1 Accounting policies 2 Segment information 3 Discontinued operations 4 Operating expenses 5 Employee information 6 Net ﬁ nance costs 7 Income tax 8 Earnings per share 9 Dividends 10 Property, plant and equipment 11 Intangible assets 12 Investments in joint ventures and associates 13 Deferred income tax 14 Classiﬁ cation of ﬁ nancial instruments 15 Other ﬁ nancial assets 16 Derivative ﬁ nancial instruments 17 Cash and cash equivalents (excluding overdrafts) 18 Financial liabilities – borrowings 19 Financial risk management 20 Intangible assets – pre-publication 21 Inventories 22 Trade and other receivables 23 Provisions for other liabilities and charges 24 Trade and other liabilities 25 Retirement beneﬁ t and other post- retirement obligations 126 134 135 136 138 139 140 147 153 153 155 156 157 159 161 162 164 168 171 173 175 175 177 178 181 187 187 188 189 190 190 Section 5 Financial statements 125 Notes to the consolidated ﬁ nancial statements continued 26 Share-based payments 27 Share capital and share premium 28 Treasury shares 29 Other comprehensive income 30 Business combinations 31 Disposals including business closures 32 Cash generated from operations 33 Contingencies 34 Commitments 35 Related party transactions 36 Events after the balance sheet date 37 Accounts and audit exemptions Company ﬁ nancial statements Company balance sheet Company statement of changes in equity Company cash ﬂ ow statement Notes to the company ﬁ nancial statements Five-year summary Corporate and operating measures Shareholder information 197 200 200 201 202 203 204 205 205 206 206 207 208 209 210 211 222 224 227 O O u u r r b b u u s s i i n n e e s s s s O O u u r r p p e e r r f f o o r r m m a a n n c c e e O O u u r r S S o o c c i i a a l l i i m m p p a a c c t t G G o o v v e e r r n n a a n n c c e e i i F F n n a a n n c c i i a a l l s s t t a a t t e e m m e e n n t t s s 126 Pearson plc Annual report and accounts 2015 Independent auditors’ report to the members of Pearson plc Report on the ﬁ nancial statements Our opinion In our opinion: Pearson plc’s consolidated ﬁ nancial statements and company ﬁ nancial statements (the ‘ﬁ nancial statements’) give a true and fair view of the state of the Group’s and of the company’s aﬀ airs as at 31 December 2015 and of the Group’s proﬁ t and the Group’s and the company’s cash ﬂ ows for the year then ended; The consolidated ﬁ nancial statements have been properly prepared in accordance with International Financial Reporting Standards (IFRSs) as adopted by the European Union; The company ﬁ nancial statements have been properly prepared in accordance with IFRSs as adopted by the European Union and as applied in accordance with the provisions of the Companies Act 2006; and The ﬁ nancial statements have been prepared in accordance with the requirements of the Companies Act 2006 and, as regards the consolidated ﬁ nancial statements, Article 4 of the IAS Regulation. Separate opinion in relation to IFRSs as issued by the IASB As explained in note 1 to the ﬁ nancial statements, the Group, in addition to applying IFRSs as adopted by the European Union, has also applied IFRSs as issued by the International Accounting Standards Board (IASB). Our audit approach Overview Materiality Audit scope Areas of focus In our opinion, the consolidated ﬁ nancial statements comply with IFRSs as issued by the IASB. What we have audited The ﬁ nancial statements, included within the annual report and accounts (the ‘annual report’), comprise: The consolidated and company balance sheets as at 31 December 2015; The consolidated income statement and consolidated statement of comprehensive income for the year then ended; The consolidated and company cash ﬂ ow statements and statements of changes in equity for the year then ended; and The notes to the ﬁ nancial statements, which include a summary of signiﬁ cant accounting policies and other explanatory information. Certain required disclosures have been presented elsewhere in the annual report, rather than in the notes to the ﬁ nancial statements. These are cross- referenced from the ﬁ nancial statements and are identiﬁ ed as audited. The ﬁ nancial reporting framework that has been applied in the preparation of the ﬁ nancial statements is applicable law and IFRSs as adopted by the European Union and, as regards the company ﬁ nancial statements, as applied in accordance with the provisions of the Companies Act 2006. Overall Group materiality: £27m, which represents 4% of adjusted proﬁ t before tax as disclosed in note 8 to the ﬁ nancial statements. Refer to page 130 for further details. We conducted work in ﬁ ve key territories: US, UK, Brazil, China and South Africa. In addition we obtained an audit opinion on the ﬁ nancial information reported by the associate Penguin Random House (PRH). The territories where we conducted audit procedures, together with work performed at corporate functions, shared service centres and consolidated Group level, accounted for approximately: 68% of the Group’s revenue; 104% of the Group’s loss proﬁ t before tax; and 76% of the Group’s adjusted proﬁ t before tax. We focused on: – Revenue recognition including risk of fraud – Carrying value of goodwill and intangible assets – Major transactions – Provision for uncertain tax liabilities – Returns provisions – Recoverability of pre-publication assets Section 5 Financial statements 127 The scope of our audit and our areas of focus We conducted our audit in accordance with International Standards on Auditing (UK and Ireland) (ISAs (UK & Ireland)). We designed our audit by determining materiality and assessing the risks of material misstatement in the consolidated and company ﬁ nancial statements. In particular, we looked at where management made subjective judgements, for example in respect of signiﬁ cant accounting estimates that involved making assumptions and considering future events that are inherently uncertain. As in all of our audits we also addressed the risk of management override of internal controls, including evaluating whether there was evidence of bias by management that represented a risk of material misstatement due to fraud. The risks of material misstatement that had the greatest eﬀ ect on our audit, including the allocation of our resources and eﬀ ort, are identiﬁ ed as areas of focus in the table below. We have also set out how we tailored our audit to address these speciﬁ c areas in order to provide an opinion on the consolidated and company ﬁ nancial statements as a whole. Any comments we make on the results of our procedures should be read in this context. For each area of focus below, to the extent relevant, we evaluated the design and tested the operating eﬀ ectiveness of key internal controls over ﬁ nancial reporting set in place by management, including testing the operation of IT systems from which ﬁ nancial information is generated. Each of the areas of focus below are also referred to in the audit committee report on pages 86 and 87 and in the accounting policies on pages 140 and 147. This is not a complete list of all risks identiﬁ ed by our audit. Area of focus How our audit addressed the area of focus Revenue recognition including risk of fraud Refer to note 1 to the consolidated ﬁ nancial statements There are two types of complex contracts that require signiﬁ cant judgements and estimates, which could be subject to either accidental errors or deliberate fraud: › Multiple element arrangements, such as the sale of physical textbooks accompanied by digital content or supplementary workbooks, where revenue is recognised for each element as if it were an individual contractual arrangement requiring the estimation of its relative fair value; and › Certain long-term contracts that span year end, where revenue is recognised using estimated percentage of completion based on costs. These include contracts to design, develop and deliver testing and accreditation and contracts to secure students and support the online delivery of their teaching. These complex contracts generate material deferred revenue and accrued income balances and are areas where misstatements in the underlying assumptions or estimation calculations could have a material eﬀ ect on the ﬁ nancial statements. In addition there are material shipments towards the period end from major distribution locations giving rise to the potential risk of a cut-oﬀ error. Where books are sold together with workbooks delivered later or companion digital materials available online we assessed the basis for allocation of the purchase price between each element and then tested the detailed calculations supporting these revenue deferrals. We found the revenue deferrals to be based on reasonable estimates of the relative fair value of each element and the methods used to calculate the deferrals properly calculated and consistently applied. For a selection of the larger, more judgemental and more recent long-term contracts, covering both testing activities and online delivery of teaching, we read the contracts and assessed the accounting methodologies being applied to calculate the proportion of revenue being recognised. We also tested costs incurred to date and management’s estimates of forecast costs and revenues by reference to historical experience and current contract status, including examining correspondence where contracts are experiencing disputes. Our testing showed that revenue recognition practices are in accordance with Group policies and related accounting standards with appropriate methods for calculating the revenue recognised. See our work performed over the returns provisions which includes our work over the risk of cut-oﬀ . O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 128 Pearson plc Annual report and accounts 2015 Independent auditors’ report to the members of Pearson plc continued Area of focus How our audit addressed the area of focus Carrying values of goodwill and intangible assets Refer to note 11 to the consolidated ﬁ nancial statements The Group has £4,134m of goodwill and £1,030m of other intangible assets including software, acquired customer lists, contracts and relationships, acquired trademarks and brands and acquired publishing rights at 31 December 2015. During the year, the Group recognised an £826m goodwill impairment charge across six aggregated cash generating units (CGUs): North America (£282m); Brazil (£269m); China (£181m); South Africa (£48m); Other Growth (£9m); and Core (£37m). In addition, performance in speciﬁ c businesses also resulted in a £23m intangibles impairment charge. The total impairment charge from these items is £849m. The carrying values of goodwill and intangible assets are dependent on future cash ﬂ ows of the underlying CGUs and there is risk that if these cash ﬂ ows do not meet management’s expectations the assets will be impaired. This risk increases in periods when the Group’s trading performance and projections do not meet prior expectations, such as in 2015. The impairment reviews performed by management contain a number of signiﬁ cant judgements and estimates including CGU identiﬁ cation, operating proﬁ t forecasts, cash conversion, perpetuity growth rates and discount rates. Changes in these assumptions can result in materially diﬀ erent impairment charges or available headroom. We obtained management’s goodwill impairment model and tested and agreed the reasonableness of key assumptions, including CGU identiﬁ cation, operating proﬁ t forecasts, perpetuity growth rates and discount rates. We tested the mathematical integrity of the forecasts and carrying values in management’s impairment model and conﬁ rmed that management’s estimate of each CGU’s recoverable amount is appropriately based on the higher of fair value less cost of disposal and value-in-use. We agreed the forecast cash ﬂ ows to board-approved budgets and market communications, assessed how these budgets are compiled and understood key judgements and estimates within them, including short-term growth rates, cost allocations and the inclusion of restructuring costs and beneﬁ ts in a fair value less cost of disposal model. We compared short and long-term growth rates, including cash conversation, to historical trends and expectations. We also considered the accuracy of prior period forecasts. We used valuations specialists to assess the perpetuity growth rate and discount rate for each CGU by comparison to third party information, past performance, the Group’s cost of capital and relevant risk factors. We performed our own sensitivity analyses to understand the impact of reasonable changes in the key assumptions. We agree with management’s decision to provide additional disclosures in note 11 of the ﬁ nancial statements given that reasonably possible changes in the assumptions could materially impact the impairment charges or available headroom. We checked for additional impairment triggers by reading board minutes, holding regular discussions with Group and local management, and examining the performance of recently acquired businesses to identify underperforming operations. We did not identify any further impairments. As a result of our work, we determined that the impairment charge recognised in 2015 was reasonably calculated and recorded at materially appropriate exchange rates. For those CGUs where management determined that no impairment charge was required and that no additional sensitivity disclosures should be given, we consider these judgements to be well supported by reasonable assumptions that would require signiﬁ cant downside changes before an impairment charge was necessary. Major transactions Refer to note 31 to the consolidated ﬁ nancial statements In July 2015 Pearson completed the sale of PowerSchool to Vista Equity Partners for cash consideration of £222m, resulting in a net pre-tax impact of £30m within continuing operations (after related write downs of £70m). In October 2015 Pearson completed the ﬁ rst tranche of the sale of its 50% stake in The Economist Group to Exor S.p.A. and to The Economist Group itself for cash consideration of £377m and remeasurement of the retained 11% investment of £92m, resulting in a pre-tax gain on disposal of £473m presented in discontinued operations. The Group’s remaining 11% investment does not constitute signiﬁ cant inﬂ uence so is being held as an available for sale investment at fair value until the second tranche completes We obtained the sales documents and related contracts and agreed the elements of the gain calculations to them. We agreed the cash consideration to bank statements, any retained investment or assets to the contracts and veriﬁ ed the underlying carrying value before disposal to ﬁ nancial records. We agreed the remeasurement of the retained investment of the Economist to fair value implied by the contract. We reperformed the calculations for mathematical accuracy, considered the appropriateness of the disposal costs and related write downs and vouched them to supporting evidence. We assessed the presentation of each disposed business (as continuing or discontinued) by reference to its size and nature. We also considered the related tax judgements and recoverability of linked pre-publication assets. In November 2015 Pearson completed the sale of the Financial Times Group (FT) to Nikkei Inc. for cash consideration of £858m, resulting in a pre-tax gain on disposal of £711m presented in discontinued operations. No material misstatements were identiﬁ ed by our testing. We were satisﬁ ed that the presentation of each gain, and the related write downs, was supportable and we found that appropriate disclosures were included in the annual report. These amounts are highly material and include judgements(cid:98)in areas such as the write downs related to PowerSchool and the retained investment in The Economist Group. Area of focus Provision for uncertain tax liabilities Refer to notes 7 and 13 to the consolidated ﬁ nancial statements The Group is subject to several tax regimes due to the geographical diversity of its businesses. Management is required to exercise signiﬁ cant judgement in determining the appropriate amount to provide in respect of potential tax exposures and uncertain tax provisions. The most signiﬁ cant of these relate to US tax. Changes in assumptions about the views that might be taken by tax authorities can materially impact the level of provisions recorded in the ﬁ nancial statements and there are signiﬁ cant judgements in estimating the amount of any provision required. Returns provisions Refer to note 22 to the consolidated ﬁ nancial statements There are material, judgemental provisions for anticipated book returns on the balance sheet as at 31 December 2015, particularly in US Higher Education. As the Group transitions from print to digital the returns proﬁ le will change with a corresponding impact on returns provisions. Recoverability of pre-publication assets Refer to note 20 to the consolidated ﬁ nancial statements The Group has £841m of pre-publication assets at 31 December 2015. Pre-publication assets represent direct costs incurred in the development of education platforms, programmes and titles prior to their public release. The PowerSchool disposal caused management to assess the carrying value of a series of pre-publication and platform investments and consequently record a write down of £70m. Judgement is required to assess the recoverability of the carrying value of these assets; this is further complicated by the transition to digital as the Group invests in new, less proven, inter-linked digital content and platforms. Section 5 Financial statements 129 How our audit addressed the area of focus We engaged with our tax experts and obtained an understanding of the Group’s tax strategy to identify tax risks relating to business and legislative developments. To assess the adequacy of the Group’s tax provisions we ﬁ rst recalculated the valuation of tax provisions and determined whether the treatments adopted were in line with the Group’s tax policies and had been applied consistently. We then evaluated the key underlying assumptions, particularly in the US and in territories with new cross-border tax structures. In doing this we considered the status of recent and current tax authority audits and enquiries, the outturn of previous claims, judgemental positions taken in tax returns and current year estimates including those arising from signiﬁ cant disposals, and developments in the tax environment. We also evaluated the consistency of management’s approach to establishing or changing provision estimates. We were satisﬁ ed that management’s provision estimates for uncertain tax positions were consistent with our own assessment of the related risks and correspondence with the relevant tax authorities. We performed testing over returns provisions in a number of locations, including US Higher Education. We tested the calculation of the provisions, assessing judgements for reasonableness against historical experience and the impact on returns of the ongoing business transition from print to digital. We also performed detailed testing of shipment and returns provisioning. This included checking cut-oﬀ at year end and evaluating whether any changes in shipping volumes around year end might increase the risk of returns. No misstatements were identiﬁ ed. We evaluated changes in estimates to check they were not indicators of management bias. We found the estimates used by management in the determination of the returns provisions to appropriately reﬂ ect both past experience and changes in the business. We ﬁ rst assessed the appropriateness of capitalisation policies and then selected a sample of costs deferred to the balance sheet as pre-publication assets to test their magnitude and appropriateness for capitalisation. We then assessed the amortisation proﬁ les of pre-publication assets against cash ﬂ ows to test that the existing amortisation proﬁ les remained appropriate in light of the transition towards digital products. We challenged the carrying value of certain pre-publication assets where products are yet to be launched, are less proven, or where sales are lower than originally anticipated. We assessed forecast cash ﬂ ows against historical experience and obtained supporting evidence for management’s explanations. We compared short and long-term growth rates to historical trends and expectations. We challenged the life of the assets compared to similar Pearson products and found the Group’s policies to be appropriate and consistently applied. While the carrying value of some assets depends on considerable future sales growth, overall we considered the year end carrying values to be reasonable. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 130 Pearson plc Annual report and accounts 2015 Independent auditors’ report to the members of Pearson plc continued How we tailored our audit scope We tailored our audit scope to ensure that we performed enough work to be able to give an opinion on the ﬁ nancial statements as a whole, taking into account the geographic structure of the Group, the accounting processes and controls, and the industry in which the Group operates. The Group is organised into three reportable segments, being North America, Core and Growth, plus the associate investment in associate Penguin Random House. Each segment comprises a number of reporting units. The consolidated ﬁ nancial statements comprise these reporting units plus the Group’s centralised functions. In establishing the overall approach to the Group audit, we determined the type of work that needed to be performed at the reporting units by us, as the Group engagement team, or component auditors within PwC UK and from other PwC network ﬁ rms operating under our instruction. Where the work was performed by component auditors, we determined the level of involvement we needed to have in the audit work at those reporting units to be able to conclude whether suﬃ cient appropriate audit evidence had been obtained as a basis for our opinion on the consolidated ﬁ nancial statements as a whole. During the year members of the Group engagement team visited each of the US, Brazilian, Chinese and South African component audit teams; held a planning meeting attended by partners from the Group engagement team and our UK and US component teams; and had regular dialogue with component teams throughout the year. We identiﬁ ed two reporting units in the US and UK that required an audit of their complete ﬁ nancial information due to their ﬁ nancial signiﬁ cance, plus a further 13 reporting units in the US, UK, Brazil, China and South Africa that required either an audit or speciﬁ ed procedures on certain transactions and balances. We also obtained an audit opinion from PwC Germany on the ﬁ nancial information of the associate Penguin Random House. The Group consolidation, ﬁ nancial statement disclosures and corporate functions were audited by the Group engagement team. This included our work over derivative ﬁ nancial instruments, hedge accounting, goodwill and intangible assets impairment reviews, litigation, pensions and share- based payments. The reporting units where we performed audit work, together with work performed at corporate functions, shared service centres and consolidated Group level, accounted for approximately 68% of the Group’s revenue, 104% of the Group’s loss before tax and 76% of the Group’s adjusted proﬁ t before tax. This provided the evidence we needed for our opinion on the consolidated ﬁ nancial statements taken as a whole. Materiality The scope of our audit was inﬂ uenced by our application of materiality. We set certain quantitative thresholds for materiality. These, together with qualitative considerations, helped us to determine the scope of our audit and the nature, timing and extent of our audit procedures on the individual ﬁ nancial statement line items and disclosures and in evaluating the eﬀ ect of misstatements, both individually and on the ﬁ nancial statements as a whole. Based on our professional judgement, we determined materiality for the ﬁ nancial statements as a whole as follows: Overall Group materiality How we determined(cid:98)it Rationale for benchmark applied Component materiality £27m (2014: 26m). 4% of adjusted proﬁ t before tax of £677m. Note 8 of the ﬁ nancial statements explains that the Group’s principal measure of performance is adjusted operating proﬁ t (£723m), which excludes one-oﬀ gains and losses and acquired intangible asset amortisation, in order to present results from operating activities on a consistent basis. From adjusted operating proﬁ t we deducted net ﬁ nance costs of £46m (see note 8) because these mainly reﬂ ect recurring ﬁ nance charges. To the resulting adjusted proﬁ t before tax we then applied 4% (rather(cid:98)than the usual 5%) as our materiality calculation was based on an adjusted measure. For each component in our audit scope, we allocated a materiality that is less than our overall Group materiality. The(cid:98)range of materiality allocated across components was between £3m(cid:98)and £24m. Section 5 Financial statements 131 As noted in the directors’ statement, the directors have concluded that it is appropriate to adopt the going concern basis in preparing the ﬁ nancial statements. The going concern basis presumes that the Group and company have adequate resources to remain in operation, and that the directors intend them to do so, for at least one year from the date the ﬁ nancial statements were signed. As part of our audit we have concluded that the directors’ use of the going concern basis is appropriate. However, because not all future events or conditions can be predicted, these statements are not a guarantee as to the Group’s and company’s ability to continue as a going concern. We agreed with the audit committee that we would report to them misstatements identiﬁ ed during our audit above £2m (2014: £2m) as well as misstatements below that amount that, in our view, warranted reporting for qualitative reasons. Going concern Under the Listing Rules we are required to review the directors’ statement, set out on page 118, in relation to going concern. We have nothing to report having performed our review. Under ISAs (UK & Ireland) we are required to report to you if we have anything material to add or to draw attention to in relation to the directors’ statement about whether they considered it appropriate to adopt the going concern basis in preparing the ﬁ nancial statements. We have nothing material to add or to draw attention to. Other required reporting Consistency of other information Companies Act 2006 opinions In our opinion: The information given in the strategic report and the report of the directors for the ﬁ nancial year for which the ﬁ nancial statements are prepared is consistent with the ﬁ nancial statements; and The information given in the Governance Report set out on pages 69 to 93 with respect to internal control and risk management systems and about share capital structures is consistent with the ﬁ nancial statements. ISAs (UK & Ireland) reporting Under ISAs (UK & 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 ﬁ nancial statements; – apparently materially incorrect based on, or materially inconsistent with, our knowledge of the Group and company acquired in the course of performing our audit; or We have no exceptions to report. – otherwise misleading. The explanation given by the directors on page 119, in accordance with provision C.1.1 of(cid:98)the UK Corporate Governance Code (the ‘Code’), as to why the annual report does not include a statement that they consider the annual report taken as a whole to be fair, balanced and understandable and provides the information necessary for members to assess the Group’s and company’s position and performance, business model and strategy is materially inconsistent with our knowledge of the Group and company acquired in the course of performing our audit. We have no exceptions to report. The section of the annual report on pages 82 to 87, as required by provision C.3.8 of the Code, describing the work of the audit committee does not appropriately address matters communicated by us to the audit committee. We have no exceptions to report. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 132 Pearson plc Annual report and accounts 2015 Independent auditors’ report to the members of Pearson plc continued The directors’ assessment of the prospects of the Group and of the principal risks that would threaten the(cid:98)solvency or liquidity of the Group Under ISAs (UK & Ireland) we are required to report to you if we have anything material to add or to draw attention to(cid:98)in relation to: The directors’ conﬁ rmation on pages 40 and 118 of the annual report, in accordance with provision C.2.1 of the Code, 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. We have nothing material to add or to draw attention to. The disclosures in the annual report that describe those risks and explain how they are being managed or mitigated. The directors’ explanation on pages 40 and 118 of the annual report, in accordance with provision C.2.2 of the Code, 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 qualiﬁ cations or assumptions. We have nothing material to add or to draw attention to. We have nothing material to add or to draw attention to. Directors’ remuneration Directors’ remuneration report - Companies Act 2006 opinion In our opinion, the part of the directors’ remuneration report to be audited has been properly prepared in accordance with the Companies Act 2006. Other Companies Act 2006 reporting Under the Companies Act 2006 we are required to report to you if, in our opinion, certain disclosures of directors’ remuneration speciﬁ ed by law are not made. We have no exceptions to report arising from this responsibility. Corporate governance statement Under the Companies Act 2006 we are required to report to you if, in our opinion, a corporate governance statement has not been prepared by the company. We have no exceptions to report arising from this responsibility. Under the Listing Rules we are required to review the part of the Corporate Governance Statement relating to ten further provisions of the Code. We have nothing to report having performed our review. Under the Listing Rules we are required to review the directors’ statement that they have carried out a robust assessment of the principal risks facing the Group and the directors’ statement in relation to the longer-term viability of the Group. Our review was substantially less in scope than an audit and only consisted of making inquiries and considering the directors’ process supporting their statements; checking that the statements are in alignment with the relevant provisions of the Code; and considering whether the statements are consistent with the knowledge acquired by us in the course of performing our audit. We have nothing to report having performed our review. Adequacy of accounting records and information and(cid:98)explanations received Under the Companies Act 2006 we are required to report to you if, in our opinion: We have not received all the information and explanations we require for our audit; or Adequate accounting records have not been kept by the company, or returns adequate for our audit have not been received from branches not visited by us; or The company ﬁ nancial statements and the part of the directors’ remuneration report to be audited are not in agreement with the accounting records and returns. We have no exceptions to report arising from this responsibility. Section 5 Financial statements 133 We test and examine information, using sampling and other auditing techniques, to the extent we consider necessary to provide a reasonable basis for us to draw conclusions. We obtain audit evidence through testing the eﬀ ectiveness of controls, substantive procedures or a combination of both. In addition, we read all the ﬁ nancial and non-ﬁ nancial information in the Annual report to identify material inconsistencies with the audited ﬁ nancial statements and to identify any information that is apparently materially incorrect based on, or materially inconsistent with, the knowledge acquired by us in the course of performing the audit. If we become aware of any apparent material misstatements or inconsistencies we consider the implications for our report. Stuart Newman (Senior Statutory Auditor) for and on behalf of PricewaterhouseCoopers LLP Chartered Accountants and Statutory Auditors London 4 March 2016 O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e Responsibilities for the ﬁ nancial statements and the audit Our responsibilities and those of the directors As explained more fully in the statement of directors’ responsibilities set out on page 120, the directors are responsible for the preparation of the ﬁ nancial statements and for being satisﬁ ed that they give a true and fair view. Our responsibility is to audit and express an opinion on the ﬁ nancial statements in accordance with applicable law and ISAs (UK & Ireland). Those standards require us to comply with the Auditing Practices Board’s Ethical Standards for Auditors. This report, including the opinions, has been prepared for and only for the company’s members as a body in accordance with Chapter 3 of Part 16 of the Companies Act 2006 and for no other purpose. We do not, in giving these opinions, accept or assume responsibility for any other purpose or to any other person to whom this report is shown or into whose hands it may come save where expressly agreed by our prior consent in writing. What an audit of ﬁ nancial statements involves An audit involves obtaining evidence about the amounts and disclosures in the ﬁ nancial statements suﬃ cient to give reasonable assurance that the ﬁ nancial statements are free from material misstatement, whether caused by fraud or error. This includes an assessment of: Whether the accounting policies are appropriate to the Group’s and the company’s circumstances and have been consistently applied and adequately disclosed; The reasonableness of signiﬁ cant accounting estimates made by the directors; and The overall presentation of the ﬁ nancial statements. We primarily focus our work in these areas by assessing the directors’ judgements against available evidence, forming our own judgements, and evaluating the disclosures in the ﬁ nancial statements. i F n a n c i a l s t a t e m e n t s 134 Pearson plc Annual report and accounts 2015 Consolidated income statement Year ended 31 December 2015 All ﬁ gures in £ millions Sales Cost of goods sold Gross proﬁ t Operating expenses Impairment of intangible assets Share of results of joint ventures and associates Operating (loss)/proﬁ t Finance costs Finance income (Loss)/proﬁ t before tax Income tax (Loss)/proﬁ t for the year from continuing operations Proﬁ t for the year from discontinued operations Proﬁ t for the year Attributable to: Equity holders of the company Non-controlling interest Earnings per share for proﬁ t from continuing and discontinued operations attributable to equity holders of the company during the year (expressed in pence per share) – basic – diluted (Loss)/earnings per share for (loss)/proﬁ t from continuing operations attributable to equity holders of the company during the year (expressed in pence per share) – basic – diluted Notes 2015 2014 restated 2 4 4 11 12 2 6 6 7 3 8 8 8 8 4,468 4,540 (1,981) (2,021) 2,487 2,519 (2,094) (2,125) (849) 52 (404) (100) 71 (433) 81 (352) 1,175 823 823 – (77) 31 348 (140) 47 255 (56) 199 271 470 471 (1) 101.2p 101.2p 58.1p 58.0p (43.3)p (43.3)p 24.7p 24.6p Consolidated statement of comprehensive income Year ended 31 December 2015 Section 5 Financial statements 135 All ﬁ gures in £ millions Proﬁ t for the year Items that may be reclassiﬁ ed to the income statement Net exchange diﬀ erences on translation of foreign operations – Group Net exchange diﬀ erences on translation of foreign operations – associates Currency translation adjustment disposed – Group Attributable tax Items that are not reclassiﬁ ed to the income statement Remeasurement of retirement beneﬁ t obligations – Group Remeasurement of retirement beneﬁ t obligations – associates Attributable tax Other comprehensive income for the year Total comprehensive income for the year Attributable to: Equity holders of the company Non-controlling interest Notes 7 25 7 2015 823 (85) 16 (10) 5 110 8 (24) 20 843 845 (2) 2014 470 150 25 (2) (6) 23 (15) (1) 174 644 645 (1) O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 136 Pearson plc Annual report and accounts 2015 Consolidated balance sheet As at 31 December 2015 All ﬁ gures in £ millions Assets Non-current assets Property, plant and equipment Intangible assets Investments in joint ventures and associates Deferred income tax assets Financial assets – derivative ﬁ nancial instruments Retirement beneﬁ t assets Other ﬁ nancial assets Trade and other receivables Current assets Intangible assets – pre-publication Inventories Trade and other receivables Financial assets – derivative ﬁ nancial instruments Financial assets – marketable securities Cash and cash equivalents (excluding overdrafts) Total assets Liabilities Non-current liabilities Financial liabilities – borrowings Financial liabilities – derivative ﬁ nancial instruments Deferred income tax liabilities Retirement beneﬁ t obligations Provisions for other liabilities and charges Other liabilities Notes 2015 2014 10 11 12 13 16 25 15 22 20 21 22 16 14 17 18 16 13 25 23 24 320 5,164 1,103 276 78 337 143 115 334 6,310 1,118 295 90 190 54 82 7,536 8,473 841 211 820 224 1,284 1,310 32 28 1,703 4,099 24 16 530 2,924 11,635 11,397 (2,048) (1,883) (136) (560) (139) (71) (356) (73) (714) (163) (82) (310) (3,310) (3,225) Consolidated balance sheet continued As at 31 December 2015 Section 5 Financial statements 137 All ﬁ gures in £ millions Current liabilities Trade and other liabilities Financial liabilities – borrowings Financial liabilities – derivative ﬁ nancial instruments Current income tax liabilities Provisions for other liabilities and charges Total liabilities Net assets Equity Share capital Share premium Treasury shares Translation reserve Retained earnings Total equity attributable to equity holders of the company Non-controlling interest Total equity Notes 2015 2014 24 18 16 23 27 27 28 (1,390) (1,601) (282) (29) (164) (42) (342) (1) (190) (53) (1,907) (2,187) (5,217) (5,412) 6,418 5,985 205 2,590 (72) (7) 3,698 6,414 4 205 2,579 (75) 70 3,200 5,979 6 6,418 5,985 These ﬁ nancial statements have been approved for issue by the board of directors on 4 March 2016 and signed on its behalf by Coram Williams Chief ﬁ nancial oﬃ cer O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 138 Pearson plc Annual report and accounts 2015 Consolidated statement of changes in equity Year ended 31 December 2015 Equity attributable to equity holders of the company Share capital Share premium Treasury shares Translation reserve Retained earnings Total Non- controlling interest All ﬁ gures in £ millions At 1 January 2015 Proﬁ t for the year Other comprehensive income Total comprehensive income Equity-settled transactions Tax on equity-settled transactions Issue of ordinary shares under share option(cid:98)schemes Purchase of treasury shares Release of treasury shares Changes in non-controlling interest Dividends 205 2,579 (75) – – – – – – – – – – – – – – – 11 – – – – – – – – – – (23) 26 – – 70 – (77) (77) – – – – – – – 3,200 5,979 823 99 922 26 (1) – – (26) – 823 22 845 26 (1) 11 (23) – – (423) (423) At 31 December 2015 205 2,590 (72) (7) 3,698 6,414 All ﬁ gures in £ millions At 1 January 2014 Proﬁ t for the year Other comprehensive income Total comprehensive income Equity-settled transactions Tax on equity-settled transactions Issue of ordinary shares under share option(cid:98)schemes Purchase of treasury shares Release of treasury shares Changes in non-controlling interest Dividends Equity attributable to equity holders of the company Share capital Share premium Treasury shares Translation reserve Retained earnings Total 205 2,568 (98) (103) 3,128 5,700 – – – – – – – – – – – – – – – 11 – – – – – – – – – – (9) 32 – – – 173 173 – – – – – – – 471 1 472 32 (3) – – (32) – 471 174 645 32 (3) 11 (9) – – (397) (397) At 31 December 2014 205 2,579 (75) 70 3,200 5,979 Total equity 5,985 823 20 843 26 (1) 11 (23) – – (423) 6,418 Total equity 5,706 470 174 644 32 (3) 11 (9) – 2 6 – (2) (2) – – – – – – – 4 Non- controlling interest 6 (1) – (1) – – – – – 2 (1) 6 (398) 5,985 The translation reserve includes exchange diﬀ erences arising from the translation of the net investment in foreign operations and of borrowings and other currency instruments designated as hedges of such investments. Changes in non-controlling interest in 2014 relate to the disposal of a non-controlling interest in a Chinese business. Consolidated cash ﬂ ow statement Year ended 31 December 2015 Section 5 Financial statements 139 All ﬁ gures in £ millions Cash ﬂ ows from operating activities Net cash generated from operations Interest paid Tax paid Net cash generated from operating activities Cash ﬂ ows from investing activities Acquisition of subsidiaries, net of cash acquired Acquisition of joint ventures and associates Purchase of investments Purchase of property, plant and equipment Purchase of intangible assets Notes 2015 2014 32 30 518 (75) (232) 211 (9) (11) (7) (86) 704 (86) (163) 455 (448) (12) (3) (75) (161) (107) Disposal of subsidiaries, net of cash disposed 31 1,030 Proceeds from sale of associates Proceeds from sale of investments Proceeds from sale of property, plant and equipment 32 Proceeds from sale of intangible assets Proceeds from sale of liquid resources Loans repaid by/(advanced to) related parties Loans advanced Investment in liquid resources Interest received Dividends received from joint ventures and associates Net cash received from/(used in) investing activities Cash ﬂ ows from ﬁ nancing activities Proceeds from issue of ordinary shares Purchase of treasury shares Proceeds from borrowings Repayment of borrowings Finance lease principal payments Dividends paid to company’s shareholders Dividends paid to non-controlling interest Net cash used in ﬁ nancing activities Eﬀ ects of exchange rate changes on cash and cash equivalents Net increase/(decrease) in cash and cash equivalents Cash and cash equivalents at beginning of year Cash and cash equivalents at end of year The consolidated cash ﬂ ow statement includes discontinued operations (see note 3). 27 28 9 17 379 13 2 1 17 7 – (29) 24 162 1,332 11 (23) 372 (300) (1) (423) – (364) (19) 1,160 511 1,671 327 39 9 9 2 12 (10) (2) (22) 13 120 (148) 11 (9) 404 (538) (4) (397) (1) (534) (2) (229) 740 511 O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 140 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements General information Pearson plc (the company), its subsidiaries and associates (together the Group) are international businesses covering educational courseware, assessments and services, and consumer publishing through its associate interest in Penguin Random House. The company is a public limited company incorporated and domiciled in England. The address of its registered oﬃ ce is 80 Strand, London WC2R 0RL. The company has its primary listing on the London Stock(cid:98)Exchange and is also listed on the New York Stock(cid:98)Exchange. These consolidated ﬁ nancial statements were approved for issue by the board of directors on 4(cid:98)March 2016. 1. Accounting policies The principal accounting policies applied in the preparation of these consolidated ﬁ nancial statements are set out below. a. Basis of preparation These consolidated ﬁ nancial statements have been prepared on the going concern basis and in accordance with International Financial Reporting Standards (IFRS) and IFRS Interpretations Committee interpretations as adopted by the European Union (EU) and with those parts of the Companies Act 2006 applicable to companies reporting under IFRS. In respect of the accounting standards applicable to the Group there is no diﬀ erence between EU-adopted and IASB- adopted IFRS. These consolidated ﬁ nancial statements have been prepared under the historical cost convention as modiﬁ ed by the revaluation of ﬁ nancial assets and liabilities (including derivative ﬁ nancial instruments) to fair value through proﬁ t or loss. The prior year ﬁ nancial statements have been restated to reﬂ ect the classiﬁ cation of FT Group as a discontinued operation. 1. Interpretations and amendments to published standards eﬀ ective 2015 The following amendments and interpretations were adopted in 2015: Amendments to IAS 19 ‘Employee Beneﬁ ts: Deﬁ ned Beneﬁ t Plans - Employee Contributions’ Amendments to IFRS 2 ‘Share based Payment: Deﬁ nition of vesting conditions’ Amendments to IFRS 3 ‘Business Combinations: Accounting for contingent consideration in a business combination and scope exemptions for joint ventures’ Amendments to IFRS 8 ‘Operating Segments: Aggregation of operating segments and reconciliation of segment assets to entity’s assets’ Amendments to IAS 24 ‘Related Party Disclosures: Key management personnel’ Amendments to IFRS 13 ‘ Fair Value Measurement: Short term receivables and payables’ The adoption of these new pronouncements from 1(cid:98)January 2015 does not have a material impact on the consolidated ﬁ nancial statements. 2. Standards, interpretations and amendments to(cid:98)published standards that are not yet eﬀ ective The Group has not early adopted the following new pronouncements that are not yet eﬀ ective: IFRS 9 ‘Financial Instruments’, eﬀ ective for annual reporting periods beginning on or after 1 January 2018. The new standard details the requirements for the classiﬁ cation, measurement and recognition of ﬁ nancial assets and liabilities. The Group is yet to assess the full impact of IFRS 9. IFRS 15 ‘Revenue from Contracts with Customers’, eﬀ ective for annual reporting periods beginning on or after 1 January 2018. The new standard speciﬁ es how and when an entity will recognise revenue, and requires more detailed disclosure. Adoption of the new standard is likely to have an impact on the Group and management is currently assessing the impact. IFRS 16 ‘Leases’, eﬀ ective for annual reporting periods beginning on or after 1 January 2019. The new standard details the requirements for the classiﬁ cation, measurement and recognition of lease arrangements. Adoption of the new standard is likely to have an impact on the Group and management is currently assessing the impact. In June 2015 the IASB issued an exposure draft ED/2015/5 ‘Remeasurement on a Plan Amendment, Curtailment or Settlement/Availability of a Refund from a Deﬁ ned Beneﬁ t Plan (Proposed Amendments to IAS 19 and IFRIC 14).’ Management are currently evaluating these proposals and although the proposals have not yet been ﬁ nalised, it should be noted that the current draft, if adopted, may restrict the Group’s ability to recognise a pension asset in respect of pension surpluses in its UK deﬁ ned beneﬁ t pension plan. Section 5 Financial statements 141 1. Accounting policies continued a. Basis of preparation continued In addition, the current draft may require certain elements of committed minimum funding contributions to be recognised as a liability on the balance sheet. 3. Critical accounting assumptions and judgements The preparation of ﬁ nancial statements in conformity with IFRS requires the use of certain critical accounting assumptions. It also requires management to exercise its judgement in the process of applying the Group’s accounting policies. The areas requiring a higher degree of judgement or complexity, or areas where assumptions and estimates are signiﬁ cant to the consolidated ﬁ nancial statements, are discussed in the relevant accounting policies under the following headings and in the notes to the accounts where appropriate: Consolidation: Business combinations – classiﬁ cation of investments Consolidation: Business combinations – determination of fair values Intangible assets: Goodwill Intangible assets: Pre-publication assets Taxation Revenue recognition Employee beneﬁ ts: Pensions b. Consolidation 1. Business combinations The acquisition method of accounting is used to account for business combinations. The consideration transferred for the acquisition of a subsidiary is the fair value of the assets transferred, the liabilities incurred and the equity interest issued by the Group. The consideration transferred includes the fair value of any asset or liability resulting from a contingent consideration arrangement. Acquisition related costs are expensed as incurred in the operating expenses line of the income statement. Identiﬁ able assets and contingent assets acquired and identiﬁ able liabilities and contingent liabilities assumed in a business combination are measured initially at their fair values at the acquisition date. The determination of fair values often requires signiﬁ cant judgements and the use of estimates, and, for material acquisitions, the fair value of the acquired intangible assets is determined by an independent valuer. The excess of the consideration transferred, the amount of any non- controlling interest in the acquiree and the acquisition date fair value of any previous equity interest in the acquiree over the fair value of the identiﬁ able net assets acquired is recorded as goodwill. See note 1e(1) for the accounting policy on goodwill. If(cid:98)this is less than the fair value of the net assets of the subsidiary acquired, in the case of a bargain purchase, the diﬀ erence is recognised directly in the income statement. On an acquisition-by-acquisition basis, the Group recognises any non-controlling interest in the acquiree either at fair value or at the non-controlling interest’s proportionate share of the acquiree’s net assets. Management exercises judgement in determining the classiﬁ cation of its investments in its businesses, in line with the following: 2. Subsidiaries Subsidiaries are entities over which the Group has control. The Group controls an entity when the Group is exposed to, or has rights to, variable returns from its involvement with the entity and has the ability to aﬀ ect those returns through its power over the entity. Subsidiaries are fully consolidated from the date on which control is transferred to the Group. They are deconsolidated from the date that control ceases. 3. Transactions with non-controlling interests Transactions with non-controlling interests that do not result in loss of control are accounted for as equity transactions, that is, as transactions with the owners in their capacity as owners. Any surplus or deﬁ cit arising from disposals to a non-controlling interest is recorded in equity. For purchases from a non-controlling interest, the diﬀ erence between consideration paid and the relevant share acquired of the carrying value of the subsidiary is recorded in equity. 4. Joint ventures and associates Joint ventures are entities in which the Group holds an interest on a long- term basis and has rights to the net assets through contractually agreed sharing of control. Associates are entities over which the Group has signiﬁ cant inﬂ uence but not the power to control the ﬁ nancial and operating policies, generally accompanying a shareholding of between 20% and 50% of the voting rights. Investments in joint ventures and associates are accounted for by the equity method and are initially recognised at the fair value of consideration transferred. The Group’s share of its joint ventures’ and associates’ post-acquisition proﬁ ts or losses is recognised in the income statement and its share of post-acquisition movements in reserves is recognised in reserves. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 142 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 1. Accounting policies continued b. Consolidation continued The Group’s share of its joint ventures’ and associates’ results is recognised as a component of operating proﬁ t as these operations form part of the core publishing business of the Group and are an integral part of existing wholly-owned businesses. The cumulative post-acquisition movements are adjusted against the carrying amount of the investment. When the Group’s share of losses in a joint venture or associate equals or exceeds its interest in the joint venture or associate, the Group does not recognise further losses unless the Group has incurred obligations or made payments on behalf of the joint venture or associate. 5. Contribution of a subsidiary to an associate or joint venture The gain or loss resulting from the contribution or sale of a subsidiary to an associate or a joint venture is recognised in full. Where such transactions do not involve cash consideration, signiﬁ cant judgements and estimates are used in determining the fair values of the consideration received. c. Foreign currency translation 1. Functional and presentation currency Items included in the ﬁ nancial statements of each of the Group’s entities are measured using the currency of the primary economic environment in which the entity operates (the ‘functional currency’). The consolidated ﬁ nancial statements are presented in sterling, which is the company’s functional and presentation currency. 2. Transactions and balances Foreign currency transactions are translated into the functional currency using the exchange rates prevailing at the dates of the transactions. Foreign exchange gains and losses resulting from the settlement of such transactions and from the translation at year end exchange rates of monetary assets and liabilities denominated in foreign currencies are recognised in the income statement, except when deferred in equity as qualifying net investment hedges. 3. Group companies The results and ﬁ nancial position of all Group companies that have a functional currency diﬀ erent from the presentation currency are translated into the presentation currency as follows: i) Assets and liabilities are translated at the closing rate at the date of the balance sheet ii) Income and expenses are translated at average exchange rates iii) All resulting exchange diﬀ erences are recognised as a separate component of equity. On consolidation, exchange diﬀ erences arising from the translation of the net investment in foreign entities, and of borrowings and other currency instruments designated as hedges of such investments, are taken to shareholders’ equity. The Group treats speciﬁ c inter- company loan balances, which are not intended to be repaid in the foreseeable future, as part of its net investment. When a foreign operation is sold, such exchange diﬀ erences are recognised in the income statement as part of the gain or loss on sale. The principal overseas currency for the Group is the US(cid:98)dollar. The average rate for the year against sterling was $1.53 (2014: $1.65) and the year end rate was $1.47 (2014: $1.56). d. Property, plant and equipment Property, plant and equipment are stated at historical cost less depreciation. Cost includes the original purchase price of the asset and the costs attributable to bringing the asset to its working condition for intended use. Land is not depreciated. Depreciation on other assets is calculated using the straight-line method to allocate their cost less their residual values over their estimated useful lives as follows: Buildings (freehold): 20–50 years Buildings (leasehold): over the period of the lease Plant(cid:98)and equipment: 3–10 years The assets’ residual values and useful lives are reviewed, and adjusted if appropriate, at each balance sheet date. The carrying value of an asset is written down to its recoverable amount if the carrying value of the asset is greater than its estimated recoverable amount. e. Intangible assets 1. Goodwill For the acquisition of subsidiaries made on or after 1 January 2010, goodwill represents the excess of the consideration transferred, the amount of any non-controlling interest in the acquiree and the acquisition date fair value of any previous equity interest in the acquiree over the fair value of the identiﬁ able net assets acquired. For the acquisition of subsidiaries made from the date of transition to IFRS to 31 December 2009, goodwill represents the excess of the cost of an acquisition over the fair value of the Group’s share of the net identiﬁ able assets acquired. Goodwill on acquisitions of subsidiaries is included in intangible assets. Goodwill on acquisition of associates and joint ventures represents the excess of the cost of an acquisition over the fair value of the Group’s share Section 5 Financial statements 143 1. Accounting policies continued e. Intangible assets continued of(cid:98)the net identiﬁ able assets acquired. Goodwill on acquisitions of associates and joint ventures is included in(cid:98)investments in associates and joint ventures. Goodwill is tested at least annually for impairment and carried at cost less accumulated impairment losses. An impairment loss is recognised to the extent that the carrying value of(cid:98)goodwill exceeds the recoverable amount. The recoverable amount is the higher of fair value less costs of disposal and value in use. These calculations require the use of(cid:98)estimates and signiﬁ cant management judgement. A(cid:98)description of the key assumptions and sensitivities is included in note 11. Goodwill is allocated to aggregated cash-generating units for the purpose of impairment testing. The allocation is made to those aggregated cash-generating units that are expected to beneﬁ t from the business combination in which the goodwill arose. Gains and losses on the disposal of an entity include the carrying amount of goodwill relating to the entity sold. IFRS 3 ‘Business Combinations’ has not been applied retrospectively to business combinations before the date of transition to IFRS. 2. Acquired software Software separately acquired for internal use is capitalised at cost. Software acquired in material business combinations is capitalised at its fair value as determined by an independent valuer. Acquired software is amortised on a straight-line basis over its estimated useful life of between three and eight years. 3. Internally developed software Internal and external costs incurred during the preliminary stage of developing computer software for internal use are expensed as incurred. Internal and external costs incurred to develop computer software for internal use during the application development stage are capitalised if the Group expects economic beneﬁ ts from the development. Capitalisation in the application development stage begins once the Group can reliably measure the expenditure attributable to the software development and has demonstrated its intention to complete and use the software. Internally developed software is amortised on a straight-line basis over its estimated useful life of between three and eight(cid:98)years. 4. Acquired intangible assets Acquired intangible assets include customer lists, contracts and relationships, trademarks and brands, publishing rights, content, technology and software rights. These assets are capitalised on acquisition at cost and included in intangible assets. Intangible assets acquired in material business combinations are capitalised at their fair value as determined by an independent valuer. Intangible assets are amortised over their estimated useful lives of between two and 20 years, using an amortisation method that reﬂ ects the pattern of their consumption. 5. Pre-publication assets Pre-publication assets represent direct costs incurred in the development of educational programmes and titles prior to their publication. These costs are recognised as current intangible assets where the title will generate probable future economic beneﬁ ts and costs can be measured reliably. Pre-publication assets are amortised upon publication of the title over estimated economic lives of ﬁ ve years or less, being an estimate of the expected operating life cycle of the title, with a higher proportion of the amortisation taken in the earlier years. The investment in pre-publication assets has been disclosed as part of cash generated from operations in the cash ﬂ ow statement (see note 32). The assessment of the recoverability of pre-publication assets and the determination of the amortisation proﬁ le involve a signiﬁ cant degree of judgement based on historical trends and management estimation of future potential sales. An incorrect amortisation proﬁ le could result in excess amounts being carried forward as intangible assets that would otherwise have been written oﬀ to the income statement in an earlier period. Reviews are performed regularly to estimate recoverability of pre-publication assets. The carrying amount of pre-publication assets is set out in note 20. f. Other ﬁ nancial assets Other ﬁ nancial assets, designated as available for sale investments, are non-derivative ﬁ nancial assets measured at estimated fair value. Changes in the fair value are recorded in equity in the fair value reserve. On the subsequent disposal of the asset, the net fair value gains or losses are taken to the income statement. g. Inventories Inventories are stated at the lower of cost and net realisable value. Cost is determined using the ﬁ rst in ﬁ rst out (FIFO) method. The cost of ﬁ nished goods and work in progress comprises raw materials, direct labour, other direct costs and related production overheads. Net realisable value is the estimated selling price in the ordinary course of business, less estimated costs necessary to make the sale. Provisions are made for slow moving and obsolete stock. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 144 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 1. Accounting policies continued h. Royalty advances Advances of royalties to authors are included within trade and other receivables when the advance is paid less any provision required to adjust the advance to its net realisable value. The realisable value of royalty advances relies on a degree of management judgement in determining the proﬁ tability of individual author contracts. If the estimated realisable value of author contracts is overstated, this will have an adverse eﬀ ect on(cid:98)operating proﬁ ts as these excess amounts will be written(cid:98)oﬀ . The recoverability of royalty advances is based upon an annual detailed management review of the age of the advance, the future sales projections for new authors and prior sales history of repeat authors. The royalty advance is expensed at the contracted or eﬀ ective royalty rate as the related revenues are earned. Royalty advances which will be consumed within one year are held in current assets. Royalty advances which will be consumed after one year are held in non-current assets. i. Cash and cash equivalents Cash and cash equivalents in the cash ﬂ ow statement include cash in hand, deposits held on call with banks, other short-term highly liquid investments with original maturities of three months or less, and bank overdrafts. Bank overdrafts are included in borrowings in current liabilities in the balance sheet. Short-term deposits and marketable securities with maturities of greater than three months do not qualify as cash and cash equivalents. Movements on these ﬁ nancial instruments are classiﬁ ed as cash ﬂ ows from ﬁ nancing activities in the cash ﬂ ow statement where these amounts are used to oﬀ set the borrowings of the Group or as cash ﬂ ows from investing activities where these amounts are held to generate an investment return. j. Share capital Ordinary shares are classiﬁ ed as equity. Incremental costs directly attributable to the issue of new shares or options are shown in equity as a deduction, net of tax, from the proceeds. Where any Group company purchases the company’s equity share capital (treasury shares) the consideration paid, including any directly attributable incremental costs, net of income taxes, is deducted from equity attributable to the company’s equity holders until the shares are cancelled, reissued or disposed of. Where such shares are subsequently sold or reissued, any consideration received, net of any directly attributable transaction costs and the related income tax eﬀ ects, is included in equity attributable to the company’s equity holders. k. Borrowings Borrowings are recognised initially at fair value, which is proceeds received net of transaction costs incurred. Borrowings are subsequently stated at amortised cost with any diﬀ erence between the proceeds (net of transaction costs) and the redemption value being recognised in the income statement over the period of the borrowings using the eﬀ ective interest method. Accrued interest is included as part of borrowings. Where a debt instrument is in a fair value hedging relationship, an adjustment is made to its carrying value in the income statement to reﬂ ect the hedged risk. Interest on borrowings is expensed in the income statement as(cid:98)incurred. l. Derivative ﬁ nancial instruments Derivatives are recognised at fair value and remeasured at each balance sheet date. The fair value of derivatives is determined by using market data and the use of established estimation techniques such as discounted cash ﬂ ow and option valuation models. The Group designates certain of the derivative instruments within its portfolio to be hedges of the fair value of its bonds (fair value hedges) or hedges of net investments in foreign operations (net investment hedges). Changes in the fair value of derivatives that are designated and qualify as fair value hedges are recorded in the income statement, together with any changes in the fair value of the hedged asset or liability that are attributable to the hedged risk. The eﬀ ective portion of changes in the fair value of derivatives that are designated and qualify as net investment hedges are recognised in other comprehensive income. Gains and losses accumulated in equity are included in the income statement when the corresponding foreign operation is disposed of. Gains or losses relating to the ineﬀ ective portion are recognised immediately in ﬁ nance income or ﬁ nance costs in the income statement. Certain derivatives do not qualify or are not designated as hedging instruments. Such derivatives are classiﬁ ed at fair value and any movement in their fair value is recognised immediately in ﬁ nance income or ﬁ nance costs in the income statement. Section 5 Financial statements 145 n. Employee beneﬁ ts 1. Pensions The retirement beneﬁ t asset and obligation recognised in the balance sheet represents the net of the present value of the deﬁ ned beneﬁ t obligation and the fair value of plan assets at the balance sheet date. The deﬁ ned beneﬁ t obligation is calculated annually by independent actuaries using the projected unit credit method. The present value of the deﬁ ned beneﬁ t obligation is determined by discounting estimated future cash ﬂ ows using yields on high quality corporate bonds which have terms to maturity approximating the terms of the related liability. When the calculation results in a potential asset, the recognition of that asset is limited to the asset ceiling – that is the present value of any economic beneﬁ ts available in the form of refunds from the plan or a reduction in future contributions. Management uses judgement to determine the level of refunds available from the plan in recognising an asset. The determination of the pension cost and deﬁ ned beneﬁ t obligation of the Group’s deﬁ ned beneﬁ t pension schemes depends on the selection of certain assumptions, which include the discount rate, inﬂ ation rate, salary growth and longevity. Actuarial gains and losses arising from experience adjustments and changes in actuarial assumptions are charged or credited to equity in other comprehensive income in the period in which they arise. The service cost, representing beneﬁ ts accruing over the year, is included in the income statement as an operating cost. Net interest is calculated by applying the discount rate to the net deﬁ ned beneﬁ t obligation and is presented as ﬁ nance costs or ﬁ nance income. Obligations for contributions to deﬁ ned contribution pension plans are recognised as an operating expense in the income statement as incurred. 2. Other post-retirement obligations The expected costs of post-retirement medical and life assurance beneﬁ ts are accrued over the period of employment, using a similar accounting methodology as for deﬁ ned beneﬁ t pension obligations. The liabilities and costs relating to signiﬁ cant other post-retirement obligations are assessed annually by independent qualiﬁ ed actuaries. 1. Accounting policies continued m. Taxation Current tax is recognised on the amounts expected to be paid or recovered under the tax rates and laws that have been enacted or substantively enacted at the balance sheet date. Deferred income tax is provided, using the liability method, on temporary diﬀ erences arising between the tax bases of assets and liabilities and their carrying amounts. Deferred income tax is determined using tax rates and laws that have been enacted or substantively enacted by the balance sheet date and are expected to apply when the related deferred tax asset is realised or the deferred income tax liability is settled. Deferred tax assets are recognised to the extent that it is probable that future taxable proﬁ t will be available against which the temporary diﬀ erences can be utilised. Deferred income tax is provided in respect of the undistributed earnings of subsidiaries other than where it is intended that those undistributed earnings will not be remitted in the foreseeable future. Current and deferred tax are recognised in the income statement, except when the tax relates to items charged or credited directly to equity or other comprehensive income, in which case the tax is also recognised in equity or other comprehensive income. The Group is subject to income taxes in numerous jurisdictions. Signiﬁ cant judgement is required in determining the estimates in relation to the worldwide provision for income taxes. There are many transactions and calculations for which the ultimate tax determination is uncertain during the ordinary course of business. The Group recognises liabilities for anticipated tax audit issues based on estimates of whether additional taxes will be due. Where the ﬁ nal tax outcome of these matters is diﬀ erent from the amounts that were initially recorded, such diﬀ erences will impact the income tax and deferred tax provisions in the period in which such determination is made. Deferred tax assets and liabilities require management judgement in determining the amounts to be recognised. In particular, signiﬁ cant judgement is used when assessing the extent to which deferred tax assets should be recognised with consideration given to the timing and level of future taxable income together with any future tax planning strategies. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 146 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 1. Accounting policies continued n. Employee beneﬁ ts continued 3. Share-based payments The fair value of options or shares granted under the Group’s share and option plans is recognised as an employee expense after taking into account the Group’s best estimate of the number of awards expected to vest. Fair value is measured at the date of grant and is spread over the vesting period of the option or share. The fair value of the options granted is measured using an option model that is most appropriate to the award. The fair value of shares awarded is measured using the share price at the date of grant unless another method is more appropriate. Any proceeds received are credited to share capital and share premium when the options are exercised. o. Provisions Provisions are recognised if the Group has a present legal or constructive obligation as a result of past events, it is more likely than not that an outﬂ ow of resources will be required to settle the obligation and the amount can be reliably estimated. Provisions are discounted to present value where the eﬀ ect is material. The Group recognises a provision for deferred consideration at fair value. Where this is contingent on future performance or a future event, judgement is exercised in establishing the fair value. The Group recognises a provision for onerous lease contracts when the expected beneﬁ ts to be derived from a contract are less than the unavoidable costs of meeting the obligations under the contract. The provision is based on the present value of future payments for surplus leased properties under non- cancellable operating leases, net of estimated sub- leasing income. p. Revenue recognition The Group’s revenue streams are courseware, assessments and services. Courseware includes curriculum materials provided in book form and/or via access to digital content. Assessments includes test development, processing and scoring services provided to governments, educational institutions, corporations and professional bodies. Services includes the operation of schools, colleges and universities, including sistemas in Brazil and English language teaching centres around the world as well as the provision of online learning services in partnership with universities and other academic institutions. Revenue comprises the fair value of the consideration received or receivable for the sale of goods and services net of sales taxes, rebates and discounts, and after eliminating sales within the Group. Revenue from the sale of books is recognised when title passes. A provision for anticipated returns is made based primarily on historical return rates. If these estimates do not reﬂ ect actual returns in future periods then revenues could be understated or overstated for a particular period. Revenue from the sale of oﬀ -the-shelf software is recognised on delivery or on installation of the software where that is a condition of the contract. In certain circumstances, where installation is complex, revenue is recognised when the customer has completed their acceptance procedures. Where software is provided under a term licence, revenue is recognised on a straight-line basis over the period of the license. Revenue from the provision of services to academic institutions, such as programme development, student acquisition, education technology and student support services, is recognised as performance occurs. Revenue from multi-year contractual arrangements, such as contracts to process qualifying tests for individual professions and government departments, is recognised as performance occurs. The assumptions, risks, and uncertainties inherent to long-term contract accounting can aﬀ ect the amounts and timing of revenue and related expenses reported. Certain of these arrangements, either as a result of a single service spanning more than one reporting period or where the contract requires the provision of a number of services that together constitute a single project, are treated as long-term contracts with revenue recognised on a percentage of completion basis. Percentage of completion is calculated on a cost basis using the proportion of the total estimated costs incurred to date. Losses on contracts are recognised in the period in which the loss ﬁ rst becomes foreseeable. Contract losses are determined to be the amount by which estimated total costs of the contract exceed the estimated total revenues that will be generated. Where a contractual arrangement consists of two or more separate elements that can be provided to customers either on a stand-alone basis or as an optional extra, such as the provision of supplementary materials or online access with textbooks and multiple deliverables within testing or service contracts, revenue is recognised for each element as if it were an individual contractual arrangement. Section 5 Financial statements 147 1. Accounting policies continued p. Revenue recognition continued On certain contracts, where the Group acts as agent, only commissions and fees receivable for services rendered are recognised as revenue. Any third-party costs incurred on behalf of the principal that are rechargeable under the contractual arrangement are not included in revenue. Income from recharges of freight and other activities which are incidental to the normal revenue generating activities is included in other income. Circulation and advertising revenue is recognised when the newspaper or other publication is published. Subscription revenue is recognised on a straight-line basis over the life of the subscription. q. Leases Leases of property, plant and equipment where the Group has substantially all the risks and rewards of ownership are classiﬁ ed as ﬁ nance leases. Finance leases are capitalised at the commencement of the lease at the lower of the fair value of the leased property and the present value of the minimum lease payments. Each lease payment is allocated between the liability and ﬁ nance charges to achieve a constant rate on the ﬁ nance balance outstanding. The corresponding rental obligations, net of ﬁ nance charges, are included in ﬁ nancial liabilities – borrowings. The interest element of the ﬁ nance cost is charged to the income statement over the lease period to produce a constant periodic rate of interest on the remaining balance of the liability for each period. The property, plant and equipment acquired under ﬁ nance leases are depreciated over the shorter of the useful life of the asset or the lease term. Leases where a signiﬁ cant portion of the risks and rewards of ownership are retained by the lessor are classiﬁ ed as operating leases by the lessee. Payments made under operating leases (net of any incentives received from the lessor) are charged to the income statement on a straight-line basis over the period of the(cid:98)lease. r. Dividends Dividends are recorded in the Group’s ﬁ nancial statements in the period in which they are approved by the company’s shareholders. s. Discontinued operations A discontinued operation is a component of the Group’s business that represents a separate major line of business or geographical area of operations that has been disposed of or meets the criteria to be classiﬁ ed as held for sale. Discontinued operations are presented in the income statement as a separate line and are shown net of tax. t. Assets and liabilities held for sale Assets and liabilities are classiﬁ ed as held for sale and stated at the lower of carrying amount and fair value less costs to sell if it is highly probable that the carrying amount will be recovered principally through a sale transaction rather than through continuing use. No depreciation is charged in respect of non-current assets classiﬁ ed as held for sale. Amounts relating to non- current assets and liabilities held for sale are classiﬁ ed as discontinued operations in the income statement where appropriate. u. Trade receivables Trade receivables are stated at fair value after provision for bad and doubtful debts and anticipated future sales returns (see also note 1p). 2. Segment information The primary segments for management and reporting are geographies as outlined below. In addition, the Group separately discloses the results from the Penguin Random House (PRH) associate. The chief operating decision-maker is the Pearson Executive. Continuing operations: North America School, Higher Education and Professional businesses in US and Canada. Growth School, Higher Education and Professional businesses in emerging markets which are investment priorities, including Brazil, China, India and South Africa. Core School, Higher Education and Professional businesses in more mature markets including UK, Australia and Italy. The results of the FT Group segment (to 30 November 2015) and Mergermarket (to 4 February 2014) are shown as discontinued in the relevant periods. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 148 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 2. Segment information continued For more detail on the services and products included in each business segment refer to the strategic report. All ﬁ gures in £ millions Continuing operations Sales Adjusted operating proﬁ t/(loss) Intangible charges Other net gains and losses Operating (loss)/proﬁ t Finance costs Finance income Loss before tax Income tax Loss for the year from continuing operations Segment assets Joint ventures Associates Total assets Other segment items Share of results of joint ventures and associates Capital expenditure Pre-publication investment Depreciation Amortisation Impairment Notes North America Core Growth PRH Corporate Discontinued operations 2,940 480 (386) 19 113 836 114 692 (12) (79) (583) (5) 30 – (595) – 90 (41) (1) 48 – – – – – 6,399 1,573 719 1 – – 6 3 – – – 1,093 1,841 – – 6,400 1,579 722 1,093 1,841 6 6 7 12 12 12 10, 11 20 10 11, 20 11 (9) 85 218 42 338 282 – 33 63 9 95 37 (3) 110 66 18 109 530 64 – – – – – – – – – – – – – – – – – – – – 16 15 – 6 15 – 2015 Group 4,468 672 (1,089) 13 (404) (100) 71 (433) 81 (352) 10,532 4 1,099 11,635 68 243 347 75 557 849 Section 5 Financial statements 149 Notes North America Core Growth PRH Corporate Discontinued operations Group 2014 restated 2,906 444 (108) (2) 2 910 122 724 32 – 69 (21) (132) (54) (1) – (3) – – – 15 336 100 (103) 6 6 7 – – – – – – – – – – – – 4,540 667 (315) (6) 2 348 (140) 47 255 (56) 199 6,580 1,426 1,394 12 12 1 1 – 8 3 – – – 1,095 660 219 10,279 – – 9 1 13 1,105 6,582 1,434 1,397 1,095 660 229 11,397 12 10, 11 20 10 11, 20 11 – 97 209 41 306 – (1) 32 77 10 99 – (3) 49 72 16 121 77 35 – – – – – – – – – – – 20 16 – 7 16 – 51 194 358 74 542 77 2. Segment information continued All ﬁ gures in £ millions Continuing operations Sales Adjusted operating proﬁ t Intangible charges Acquisition costs Other net gains and losses Operating proﬁ t/(loss) Finance costs Finance income Proﬁ t before tax Income tax Proﬁ t for the year from continuing operations Segment assets Joint ventures Associates Total assets Other segment items Share of results of joint ventures and associates Capital expenditure Pre-publication investment Depreciation Amortisation Impairment For further information on adjusted measures above, see note 8. There were no material inter-segment sales in either 2014 or 2015. Included in other net gains and losses within continuing operations in 2015 in the North America segment is the proﬁ t on disposal of PowerSchool of £30m, net of small losses on other investments. In the Core segment the loss on disposal relates to adjustments to prior year disposals. Included in other net gains and losses in continuing operations in 2014 are gains on the sale of joint venture interests in Safari Books Online and CourseSmart (£40m) and a loss on disposal of an investment in Nook Media (£38m). Both operating proﬁ t and adjusted operating proﬁ t in 2015 are stated after the following restructuring charges: North America £24m (2014: £37m); Core £nil (2014: £21m); Growth £11m, (2014: £6m); Penguin Random House £12m (2014: £19m). O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 150 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 2. Segment information continued Corporate costs are allocated to business segments including discontinued operations on an appropriate basis depending on the nature of the cost; therefore the segment result is equal to the Group operating proﬁ t. Segment assets consist of property, plant and equipment, intangible assets, inventories, receivables, deferred taxation and other ﬁ nancial assets and exclude cash and cash equivalents and derivative assets. Corporate assets comprise cash and cash equivalents, marketable securities and derivative ﬁ nancial instruments. Capital expenditure comprises additions to property, plant and equipment and software (see notes 10 and 11). Property, plant and equipment and intangible assets acquired through business combination were £1m (2014: £263m) (see note 30). The following tables analyse the Group’s revenue streams. Courseware includes curriculum materials provided in book form and/or via access to digital content. Assessments includes test development, processing and scoring services provided to governments, educational institutions, corporations and professional bodies. Services includes the operation of schools, colleges and universities, including sistemas in Brazil and English language teaching centres around the world as well as the provision of online learning services in partnership with universities and other academic institutions. School Systems includes PowerSchool and Family Education Network, both of which were disposed during 2015. All ﬁ gures in £ millions Courseware School Courseware Higher Education Courseware English Courseware Assessments School and Higher Education Assessments Clinical Assessments Professional Certiﬁ cation Services School Services Higher Education Services English Services School Systems North America 406 1,207 22 1,635 420 126 269 815 209 223 18 40 490 2015 Core Growth Group 186 96 84 366 301 32 82 415 1 26 28 – 55 104 55 79 696 1,358 185 238 2,239 15 – 36 51 47 70 286 – 403 736 158 387 1,281 257 319 332 40 948 Total 2,940 836 692 4,468 2. Segment information continued All ﬁ gures in £ millions Courseware School Courseware Higher Education Courseware English Courseware Assessments School and Higher Education Assessments Clinical Assessments Professional Certiﬁ cation Services School Services Higher Education Services English Services School Systems Section 5 Financial statements 151 2014 restated Core Growth Group 214 114 92 420 312 34 93 439 – 22 29 – 51 120 66 75 261 14 – 19 33 56 90 284 – 430 723 1,359 189 2,271 742 149 340 1,231 309 327 333 69 1,038 North America 389 1,179 22 1,590 416 115 228 759 253 215 20 69 557 Total 2,906 910 724 4,540 O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 152 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 2. Segment information continued The Group operates in the following main geographic areas: All ﬁ gures in £ millions Continuing operations UK Other European countries US Canada Asia Paciﬁ c Other countries Total continuing Discontinued operations UK Other European countries US Canada Asia Paciﬁ c Other countries Total discontinued Total Sales Non-current assets 2014 restated 2015 2014 2015 421 246 444 281 991 121 2,800 2,762 5,000 107 590 304 109 565 379 235 211 144 1,056 180 5,243 288 416 661 4,468 4,540 6,702 7,844 134 170 64 72 2 35 5 66 68 1 34 4 312 343 – – – – – – – – – – – – – – 4,780 4,883 6,702 7,844 Sales are allocated based on the country in which the customer is located. This does not diﬀ er materially from the location where the order is received. The geographical split of non-current assets is based on the subsidiary’s country of domicile. This is not materially diﬀ erent to the location of the assets. Non-current assets comprise property, plant and equipment, intangible assets, investments in joint ventures and associates and trade and other receivables. Section 5 Financial statements 153 3. Discontinued operations Discontinued operations relate to FT Group, Penguin and Mergermarket. An analysis of the results and cash ﬂ ows of discontinued operations is as follows: Penguin Mergermarket FT Group FT Group 312 48 – 48 (8) 40 – 473 711 (49) – – 2015 Total 312 48 – 48 (8) 40 – 473 711 (49) – – – – – – – – 29 – – – – – 9 2 – 2 (1) 1 – – – – 244 (46) 1,175 1,175 29 199 31 3 – 34 31 3 – 34 – – – – 2 – – 2 All ﬁ gures in £ millions Sales Operating proﬁ t Finance income Proﬁ t before tax Income tax Proﬁ t after tax Proﬁ t on disposal of Penguin Proﬁ t on disposal of The Economist Proﬁ t on disposal of Financial Times Attributable tax expense Proﬁ t on disposal of Mergermarket Attributable tax expense Proﬁ t for the year from discontinued operations Operating cash ﬂ ows Investing cash ﬂ ows Financing cash ﬂ ows Total cash ﬂ ows 4. Operating expenses All ﬁ gures in £ millions By function: Cost of goods sold Operating expenses Distribution costs Selling, marketing and product development costs Administrative and other expenses Restructuring costs Other net gains and losses Other income Total net operating expenses Impairment of intangible assets Total O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 2014 restated Total 343 52 – 52 (8) 44 29 – – – 244 (46) 271 26 (5) – 21 334 50 – 50 (7) 43 – – – – – – 43 24 (5) – 19 2015 2014 restated 1,981 2,021 80 895 84 931 1,195 1,168 35 (13) (98) 2,094 849 4,924 64 (2) (120) 2,125 77 4,223 Included in other income is service fee income from Penguin Random House of £16m (2014: £41m). Included in administrative and other expenses are research and eﬃ cacy costs of £33m (2014: £22m). In addition to the restructuring costs shown above there were restructuring costs in Penguin Random House of £12m (2014: £19m) and in discontinued operations of £nil (2014: £1m). 154 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 4. Operating expenses continued All ﬁ gures in £ millions By nature: Royalties expensed Other product costs Employee beneﬁ t expense Contract labour Employee related expense Promotional costs Depreciation of property, plant and equipment Amortisation of intangible assets – pre-publication Amortisation of intangible assets – software Amortisation of intangible assets – other Impairment of intangible assets Property and facilities Technology and communications Professional and outsourced services Other general and administrative costs Capitalised costs Acquisition costs Other net gains and losses Other income Total Notes 2015 2014 restated 249 566 242 620 5 1,742 1,832 10 20 11 11 11 182 127 163 69 281 61 199 849 219 153 262 132 183 136 149 67 292 51 184 77 204 123 253 121 (219) (195) – (13) (98) 6 (2) (120) 4,924 4,223 During the year the Group obtained the following services from the Group’s auditors: All ﬁ gures in £ millions 2015 2014 The audit of parent company and consolidated ﬁ nancial statements The audit of the company’s subsidiaries Total audit fees Other assurance services Other non-audit services Total other services Tax compliance services Tax advisory services Total tax services Total non-audit services Total 4 2 6 2 1 3 1 – 1 4 10 5 2 7 1 – 1 1 – 1 2 9 Section 5 Financial statements 155 4. Operating expenses continued Reconciliation between audit and non-audit service fees is shown below: All ﬁ gures in £ millions Group audit fees including fees for attestation under section 404 of the Sarbanes-Oxley Act Non-audit fees Total 2015 2014 6 4 10 7 2 9 Fees for attestation under section 404 of the Sarbanes-Oxley Act are allocated between fees payable for the audits of(cid:98)consolidated and subsidiary accounts. Included in non-audit fees are amounts related to carve out audits for disposals of £1m. 5. Employee information All ﬁ gures in £ millions Employee beneﬁ t expense Wages and salaries (including termination beneﬁ ts and restructuring costs) Social security costs Share-based payment costs Retirement beneﬁ ts – deﬁ ned contribution plans Retirement beneﬁ ts – deﬁ ned beneﬁ t plans Other post-retirement beneﬁ ts Total Notes 2015 2014 restated 1,507 124 1,607 122 26 66 19 – 32 61 21 (11) 1,742 1,832 26 25 25 25 The details of the emoluments of the directors of Pearson plc are shown in the report on directors’ remuneration. Average number employed Employee numbers North America Core Growth Other Continuing operations 2015 2014 restated 19,951 20,927 5,936 6,139 11,114 11,406 264 182 37,265 38,654 The employee beneﬁ t expense relating to discontinued operations was £132m (2014: £151m) and the average number employed was 2,282 (2014: 2,295). O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 156 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 6. Net ﬁ nance costs All ﬁ gures in £ millions Interest payable Net foreign exchange losses Derivatives not in hedging relationships Finance costs Interest receivable Notes 2015 2014 restated (61) (36) (3) (81) (53) (6) (100) (140) 15 4 43 9 71 17 1 17 12 47 (29) (93) (46) 17 (29) (64) (29) (93) Net ﬁ nance income in respect of retirement beneﬁ ts 25 Net foreign exchange gains Derivatives not in hedging relationships Finance income Net ﬁ nance costs Analysed as: Net interest payable reﬂ ected in adjusted earnings Other net ﬁ nance income/(costs) Total net ﬁ nance costs Included in interest receivable is £1m (2014: £1m) of interest receivable from related parties. There was a net movement of £nil on fair value hedges in 2015 (2014: £nil), comprising a gain of £22m (2014: loss of £27m) on the underlying bonds, oﬀ set by a loss of £22m (2014: gain of £27m) on the related derivative ﬁ nancial instruments. For further information on adjusted measures above, see note 8. Section 5 Financial statements 157 7. Income tax All ﬁ gures in £ millions Current tax Charge in respect of current year Adjustments in respect of prior years Total current tax charge Deferred tax In respect of temporary diﬀ erences Other adjustments in respect of prior years Total deferred tax credit Total tax credit/(charge) Notes 2015 2014 restated (155) 42 (113) 185 9 194 81 (96) 30 (66) 8 2 10 (56) 13 The adjustments in respect of prior years in both 2015 and 2014 mainly relate to changes in estimates arising from uncertain tax positions following agreement of historical tax positions. The tax on the Group’s (loss)/proﬁ t before tax diﬀ ers from the theoretical amount that would arise using the UK tax rate as(cid:98)follows: All ﬁ gures in £ millions (Loss)/proﬁ t before tax Tax calculated at UK rate (2015: 20.25%, 2014: 21.5%) Eﬀ ect of overseas tax rates Joint venture and associate income reported net of tax Net expense not subject to tax Gains and losses on sale of businesses not subject to tax Unutilised tax losses Adjustments in respect of prior years Total tax credit/(charge) UK Overseas Total tax credit/(charge) Tax rate reﬂ ected in earnings 2015 (433) 88 52 10 (66) (32) (22) 51 81 (25) 106 81 2014 restated 255 (55) (10) 7 (11) – (19) 32 (56) – (56) (56) 18.7% 22.0% O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 158 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 7. Income tax continued The tax rate reﬂ ected in adjusted earnings is calculated as follows: All ﬁ gures in £ millions (Loss)/proﬁ t before tax Adjustments: Other net gains and losses Acquisition costs Intangible charges Other net ﬁ nance (income)/costs Adjusted proﬁ t before tax – continuing operations Adjusted proﬁ t before tax – discontinued operations Total adjusted proﬁ t before tax Total tax credit/(charge) Adjustments: Tax charge on other net gains and losses Tax beneﬁ t on acquisition costs Tax beneﬁ t on intangible charges Tax charge/(beneﬁ t) on other net ﬁ nance costs Tax amortisation beneﬁ t on goodwill and intangibles Adjusted income tax charge – continuing operations Adjusted income tax charge – discontinued operations Total adjusted income tax charge Tax rate reﬂ ected in adjusted earnings For further information on adjusted measures above, see note 8. The tax (charge)/beneﬁ t recognised in other comprehensive income is as follows: All ﬁ gures in £ millions Net exchange diﬀ erences on translation of foreign operations Remeasurement of retirement beneﬁ t obligations 2015 (433) (13) – 1,089 (17) 626 51 677 81 40 – (257) 7 33 (96) (9) (105) 2014 restated 255 (2) 6 315 29 603 55 658 (56) 1 (1) (72) (5) 24 (109) (9) (118) 15.5% 17.9% 2015 2014 5 (24) (19) (6) (1) (7) A tax charge of £1m (2014: tax charge £3m) relating to share-based payments has been recognised directly in equity. Section 5 Financial statements 159 8. Earnings per share Basic Basic earnings per share is calculated by dividing the proﬁ t attributable to equity shareholders of the company by the weighted average number of ordinary shares in issue during the year, excluding ordinary shares purchased by the company and held as treasury shares. Diluted Diluted earnings per share is calculated by adjusting the weighted average number of ordinary shares to take account of all dilutive potential ordinary shares and adjusting the proﬁ t attributable, if applicable, to account for any tax consequences that might arise from conversion of those shares. All ﬁ gures in £ millions (Loss)/proﬁ t for the year from continuing operations Non-controlling interest Earnings from continuing operations Proﬁ t for the year from discontinued operations Earnings Weighted average number of shares (millions) Eﬀ ect of dilutive share options (millions) Weighted average number of shares (millions) for diluted earnings Earnings per share from continuing and discontinued operations Basic Diluted (Loss)/earnings per share from continuing operations Basic Diluted Earnings per share from discontinued operations Basic Diluted Notes 3 2015 (352) – (352) 1,175 823 813.3 – 813.3 101.2p 101.2p (43.3)p (43.3)p 144.5p 144.5p 2014 restated 199 1 200 271 471 810.9 1.0 811.9 58.1p 58.0p 24.7p 24.6p 33.4p 33.4p Adjusted In order to show results from operating activities on a consistent basis, an adjusted earnings per share is presented. The company’s deﬁ nition of adjusted earnings per share may not be comparable to other similarly titled measures reported by other companies. Adjusted earnings includes the results from continuing and discontinued operations. The following items are excluded from adjusted earnings: Other net gains and losses represent proﬁ ts and losses on the acquisition and disposal of subsidiaries, joint ventures, associates and other ﬁ nancial assets that are included within continuing or discontinued operations but which distort the performance of the Group. Amortisation and impairment of acquired intangibles, acquisition costs and movements in contingent acquisition consideration are also excluded from adjusted earnings as these items are not considered to be fully reﬂ ective of the underlying performance(cid:98)of the Group. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 160 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 8. Earnings per share continued Other net ﬁ nance income/costs include ﬁ nance costs in respect of retirement beneﬁ ts, ﬁ nance costs of deferred consideration and foreign exchange and other gains and losses. Finance costs relating to retirement beneﬁ ts are excluded as the consolidated income statement presentation under IAS 19 does not reﬂ ect the economic substance of the underlying assets and liabilities. Finance costs of put options and deferred consideration are excluded as they relate to future earn outs and similar payments on acquisitions and do not reﬂ ect cash expended. Foreign exchange and other gains and losses are excluded as they represent short-term ﬂ uctuations in market value and are subject to signiﬁ cant volatility. Other gains and losses may not be realised in due course as it is normally the intention to hold the related instruments to maturity. Other net ﬁ nance costs of Group companies are included in ﬁ nance costs or ﬁ nance income as appropriate. Other net ﬁ nance costs of joint ventures and associates are included within the share of results of joint ventures and associates within operating proﬁ t. Tax on the above items is excluded from adjusted earnings. Where relevant the Group also excludes the beneﬁ t from recognising previously unrecognised pre-acquisition and capital losses. The tax beneﬁ t from tax deductible goodwill and intangibles is added to the adjusted income tax charge as this beneﬁ t more accurately aligns the adjusted tax charge with the expected rate of cash tax payments. Non-controlling interest for the above items is excluded from adjusted earnings. The following tables reconcile statutory earnings to adjusted earnings. Statutory income statement Discontinued operations Other net gains and losses Acquisition costs Intangible charges 2015 Other net ﬁ nance income/ costs Tax amortisation beneﬁ t Adjusted income statement All ﬁ gures in £ millions Operating (loss)/proﬁ t Net ﬁ nance costs (Loss)/proﬁ t before tax Income tax (404) (29) (433) 81 51 – 51 (9) (13) – (13) 40 (Loss)/proﬁ t for the year from continuing operations (352) 42 27 (42) (1,135) – – – (1,108) – (1,108) Proﬁ t for the year from discontinued operations Proﬁ t for the year Non-controlling interest Earnings Weighted average number of(cid:98)shares (millions) Weighted average number of(cid:98)shares (millions) for diluted earnings Earnings per share (basic) Earnings per share (diluted) 1,175 823 – 823 813.3 813.3 101.2p 101.2p – – – – – – – – – 1,089 – 1,089 (257) – (17) (17) 7 832 (10) 2 834 – 834 – (10) – (10) – – – 33 33 – 33 – 33 723 (46) 677 (105) 572 – 572 – 572 813.3 813.3 70.3p 70.3p 8. Earnings per share continued All ﬁ gures in £ millions Operating proﬁ t Net ﬁ nance costs Proﬁ t before tax Income tax Proﬁ t for the year from continuing operations Proﬁ t for the year from discontinued operations Proﬁ t for the year Non-controlling interest Earnings Weighted average number of(cid:98)shares (millions) Weighted average number of(cid:98)shares (millions) for diluted earnings Earnings per share (basic) Earnings per share (diluted) 9. Dividends All ﬁ gures in £ millions Section 5 Financial statements 161 Statutory income statement Discontinued operations Other net gains and losses Acquisition costs Intangible charges Other net ﬁ nance income/ costs Tax amortisation beneﬁ t Adjusted income statement 2014 restated 55 – 55 (9) 46 (46) – – – (2) – (2) 1 (1) (227) (228) – (228) 6 – 6 (1) 5 – 5 – 5 315 – 315 (72) 243 2 245 – 245 – 29 29 (5) 24 – 24 – 24 – – – 24 24 – 24 – 24 348 (93) 255 (56) 199 271 470 1 471 810.9 811.9 58.1p 58.0p 722 (64) 658 (118) 540 – 540 1 541 810.9 811.9 66.7p 66.6p 2014 259 138 397 2015 277 146 423 Final paid in respect of prior year 34.0p (2014: 32.0p) Interim paid in respect of current year 18.0p (2014: 17.0p) The directors are proposing a ﬁ nal dividend in respect of the ﬁ nancial year ended 31 December 2015 of 34.0p per share which will absorb an estimated £277m of shareholders’ funds. It will be paid on 6 May 2016 to shareholders who are on the register of members on 8 April 2016. These ﬁ nancial statements do not reﬂ ect this dividend. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 162 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 10. Property, plant and equipment All ﬁ gures in £ millions Cost At 1 January 2014 Exchange diﬀ erences Additions Disposals Acquisition through business combination Disposal through business disposal Reclassiﬁ cations Transfer to software At 31 December 2014 Exchange diﬀ erences Additions Disposals Acquisition through business combination Disposal through business disposal Reclassiﬁ cations At 31 December 2015 Land and buildings Plant and equipment Assets in course of construction 375 11 10 (9) – – 1 – 388 8 15 (20) – (48) 16 359 568 17 58 (46) 2 (1) 3 – 601 10 42 (86) – (76) 17 508 32 – 19 (2) – – (4) (16) 29 1 25 – – – (33) 22 Total 975 28 87 (57) 2 (1) – (16) 1,018 19 82 (106) – (124) – 889 Section 5 Financial statements 163 10. Property, plant and equipment continued All ﬁ gures in £ millions Depreciation At 1 January 2014 Exchange diﬀ erences Charge for the year Disposals At 31 December 2014 Exchange diﬀ erences Charge for the year Disposals Disposal through business disposal At 31 December 2015 Carrying amounts At 1 January 2014 At 31 December 2014 At 31 December 2015 Land and buildings Plant and equipment Assets in course of construction (210) (423) (7) (23) 9 (15) (51) 36 (231) (453) (5) (22) 18 48 (12) (53) 82 59 (192) (377) 165 157 167 145 148 131 – – – – – – – – – – 32 29 22 Total (633) (22) (74) 45 (684) (17) (75) 100 107 (569) 342 334 320 Depreciation expense of £19m (2014: £16m) has been included in the income statement in cost of goods sold and £50m (2014: £51m) in operating expenses. In 2015 £6m (2014: £7m) relates to discontinued operations. The Group leases certain equipment under a number of ﬁ nance lease agreements. The net carrying amount of leased plant and equipment included within property, plant and equipment was £8m (2014: £13m). O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 164 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 11. Intangible assets All ﬁ gures in £ millions Goodwill Software Acquired customer lists, contracts and relationships Acquired trademarks and brands Acquired publishing rights Other intangibles acquired Cost At 1 January 2014 Exchange diﬀ erences Impairment Additions – internal development Additions – purchased Disposals Acquisition through business combination Disposal through business disposal Transfer from PPE At 31 December 2014 Exchange diﬀ erences Impairment Additions – internal development Additions – purchased Disposals Acquisition through business combination Disposal through business disposal At 31 December 2015 4,666 469 198 (67) – – – 238 (5) – 5,030 105 (826) – – – – (175) 4,134 17 – 54 53 (7) – (5) 16 597 17 – 125 36 (18) – (138) 619 855 34 – – – – 5 – – 894 25 – – – – – (59) 860 237 198 – – – – – – (1) – 197 (7) – – – 5 – – – – 69 (3) – 308 (17) – – – (4) – (6) Total 6,823 268 (67) 54 53 (7) 498 (14) 16 7,624 83 (826) 125 36 (61) 398 14 – – – – 186 – – 598 (40) – – – (10) (29) – – 1 1 (21) (399) 281 180 509 6,583 Section 5 Financial statements 165 11. Intangible assets continued All ﬁ gures in £ millions Amortisation At 1 January 2014 Exchange diﬀ erences Impairment Charge for the year Disposals Disposal through business disposal At 31 December 2014 Exchange diﬀ erences Impairment Charge for the year Disposals Disposal through business disposal At 31 December 2015 Carrying amounts At 1 January 2014 At 31 December 2014 At 31 December 2015 Goodwill Software Acquired customer lists, contracts and relationships Acquired trademarks and brands Acquired publishing rights Other intangibles acquired Total – – – – – – – – – – – – (316) (249) (93) (148) (216) (1,022) (13) – (63) 5 1 (386) (14) – (74) 18 99 (11) (6) (83) – – (3) (2) (25) – 1 – – (12) – – (12) (2) (67) – – (39) (10) (250) 5 2 (349) (122) (160) (297) (1,314) (8) (13) (99) – 39 1 (1) (40) 4 3 6 (9) (10) 10 – (6) – (21) (23) (53) (276) 29 13 61 154 (357) (430) (155) (163) (314) (1,419) 4,666 5,030 4,134 153 211 262 606 545 430 144 186 126 50 37 17 182 301 195 5,801 6,310 5,164 Goodwill The goodwill carrying value of £4,134m relates to acquisitions completed after 1 January 1998. Prior to 1 January 1998 all goodwill was written oﬀ to reserves on the date of acquisition. For acquisitions completed between 1(cid:98)January 1998 and 31 December 2002 no value was ascribed to intangibles other than goodwill and the goodwill on each acquisition was amortised over a period of up to 20 years. On adoption of IFRS on 1 January 2003, the Group chose not to restate the goodwill balance and at that date the balance was frozen (i.e. amortisation ceased). If goodwill had been restated then a signiﬁ cant value would have been ascribed to other intangible assets, which would be subject to amortisation, and the carrying value of goodwill would be signiﬁ cantly lower. For acquisitions completed after 1 January 2003 value has been ascribed to other intangible assets which are amortised. Other intangible assets Other intangibles acquired include content, technology and software rights. Intangible assets are valued separately for each acquisition and the primary method of valuation used is the discounted cash ﬂ ow method. The majority of acquired intangibles are amortised using an amortisation proﬁ le based on the projected cash ﬂ ows underlying the acquisition date valuation of the intangible asset, which generally results in a larger proportion of amortisation being recognised in the early years of the asset’s life. The Group keeps the expected pattern of consumption under review. Amortisation of £13m (2014: £12m) is included in the income statement in cost of goods sold and £247m (2014: £223m) in operating expenses. In 2015, £16m (2014: £15m) of amortisation relates to discontinued operations. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 166 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 11. Intangible assets continued The range of useful economic lives for each major class of intangible asset (excluding goodwill and software) is(cid:98)shown(cid:98)below: Class of intangible asset Acquired customer lists, contracts and relationships Acquired trademarks and brands Acquired publishing rights Other intangibles acquired The expected amortisation proﬁ le of acquired intangible assets is shown below: 2015 Useful economic life 3–20 years 2–20 years 5–20 years 2–20 years All ﬁ gures in £ millions Class of intangible asset Acquired customer lists, contracts and relationships Acquired trademarks and brands Acquired publishing rights Other intangibles acquired One to ﬁ ve years Six to ten years More than ten years 268 56 15 146 122 47 2 43 40 23 – 6 2015 Total 430 126 17 195 Impairment tests for cash-generating units (CGUs) containing goodwill Impairment tests have been carried out where appropriate as described below. Following a reorganisation of the business eﬀ ective 1 January 2014 goodwill was allocated to CGUs, or an aggregation of CGUs, where goodwill could not be reasonably allocated to individual business units. Impairment reviews were conducted on these CGUs. The carrying value of the goodwill in each of the CGUs, after the impact of impairments, is summarised below: All ﬁ gures in £ millions North America Core Growth (includes Brazil, China, India and South Africa) Pearson VUE Financial Times Group Total 2015 3,155 635 – 344 – 2014 3,422 618 612 327 51 4,134 5,030 The recoverable amount of each aggregated cash generating unit (CGU) is based on fair value less costs of disposal or value in use calculations as appropriate. Goodwill is tested at least annually for impairment. Other than goodwill there are no intangible assets with indeﬁ nite lives. The goodwill is generally denominated in the currency of the relevant cash ﬂ ows and therefore the impairment review is not materially sensitive to exchange rate ﬂ uctuations. Section 5 Financial statements 167 11. Intangible assets continued Impairment tests for cash-generating units containing goodwill continued Following signiﬁ cant economic and market deterioration in the Group’s operations in emerging markets and ongoing cyclical and policy-related pressures in the Group’s mature market operations, management’s expectations of future returns were revised down in the course of 2015. It was determined during the impairment review that the fair value less costs of disposal of the Growth, North America and Core CGUs no longer supported the carrying value of the goodwill. An impairment of £507m was booked in respect of the Group’s Growth operations, representing impairments of £269m in the Brazil CGU, £181m in the China CGU, £48m in the South Africa CGU and £9m in the Other Growth CGU, thereby bringing the carrying value of goodwill in those CGUs down to £nil. Impairments of £10m and £13m were also booked in respect of other acquired intangibles in the South Africa and Other Growth CGUs respectively, bringing their carrying value down to £nil. Impairments of £282m and £37m were also booked in respect of the North America and Core CGUs respectively, bringing the carrying value of the goodwill in those CGUs down to fair value less costs of disposal. Fair value less costs of disposal was determined using post-tax discount rates of 17.4% for Brazil, 11.0% for China, 13.6% for South Africa, 12.8% for Other Growth, 8.6% for North America and 8.7% for Core. Following the above impairments, the recoverable amounts of the Growth, North America and Core CGUs are £350m, £4,750m and £926m respectively. Key assumptions For the purpose of estimating the fair value less costs of disposal of the CGUs, management has used an income approach based on present value techniques. The calculations use cash ﬂ ow projections based on ﬁ nancial budgets approved by management covering a ﬁ ve-year period, management’s best estimate about future developments and market assumptions. The fair value less costs of disposal measurement is categorised as Level 3 on the fair value hierarchy. The key assumptions used by management in the fair value less costs of disposal calculations were: Discount rates The discount rate is based on the risk-free rate for government bonds, adjusted for a risk premium to reﬂ ect the increased risk in investing in equities. The risk premium adjustment is assessed for each speciﬁ c CGU. The average post-tax discount rates range from 7.2% to 17.4%. Discount rates are lower for those businesses which operate in more mature markets with low inﬂ ation and higher for those operating in emerging markets with higher inﬂ ation. Perpetuity growth rates A perpetuity growth rate of 2.0% (2014: 2.0%) was used for cash ﬂ ows subsequent to the approved budget period for CGUs operating in mature markets. This perpetuity growth rate is a conservative rate and is considered to be lower than the long-term historical growth rates of the underlying territories in which the CGU operates and the long-term growth rate prospects of the sectors in which the CGU operates. CGU growth rates between 5.0% and 8.5% were used for cash ﬂ ows subsequent to the approved budget period for CGUs operating in emerging markets with high inﬂ ation. These growth rates are also below the long-term historical growth rates in these markets. The key assumptions used by management in setting the ﬁ nancial budgets for the initial ﬁ ve-year period were as follows: Forecast sales growth rates Forecast sales growth rates are based on past experience adjusted for the strategic direction and near-term investment priorities within each CGU. Key factors include USA and UK college enrolment rates, assessment growth rates, the success of new product launches, growth rates and economic conditions in emerging markets and the rate of growth in new services businesses. The ﬁ ve-year sales forecasts use average nominal growth rates between 1.1% and 1.6% for mature markets and between 0.1% and 5.6% for emerging markets with high inﬂ ation. Operating proﬁ ts Operating proﬁ ts are forecast based on historical experience of operating margins, adjusted for the impact of changes to product costs and cost saving initiatives, including the impact of the global restructuring programme planned in 2016. Cash conversion Cash conversion is the ratio of operating cash ﬂ ow to operating proﬁ t. Management forecasts cash conversion rates based on historical experience, adjusted for the impact of product investment priorities and the shift to digital and service based business. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 168 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 11. Intangible assets continued Sensitivities The Group’s impairment review is sensitive to a change in assumptions used, most notably the discount rates and the perpetuity growth rates. As the carrying value of goodwill in the Growth market CGUs has been written down to £nil, the value of other intangible assets in Brazil and China is sensitive to any increase in discount rates or reduction in perpetuity growth rates. In the North America and Core CGUs goodwill has been written down to fair value less costs of disposal and any further increase in discount rates or reduction in perpetuity growth rates would give rise to further impairment. A 0.1% increase in discount rates would cause the fair value less costs of disposal of the Brazil, China, North America and Core CGUs to reduce by £3m, £5m, £120m and £25m respectively. A 0.1% reduction in perpetuity growth rates would cause the fair value less costs of disposal of the Brazil, China, North America and Core CGUs to reduce by £2m, £5m, £100m and £21m respectively. All CGUs which have been written down to fair value less costs of disposal are highly sensitive to any reductions in short-term cash ﬂ ows, whether driven by lower sales growth, lower operating proﬁ ts or lower cash conversion. A 5% reduction in total annual operating proﬁ ts, spread evenly across all CGUs, would give rise to an impairment of £29m in the Growth CGUs, £241m in the North America CGU and £62m in the Core CGU. 2014 impairment tests In 2014 following deterioration in the market conditions for the Group’s online tutoring business based in India, it was determined in the course of the impairment review that the value in use of the India CGU no longer supported the carrying value of the goodwill in that CGU. An impairment of £67m was booked, thereby bringing the carrying value of goodwill in the India CGU down to £nil. An impairment of £10m was also booked in respect of other acquired intangibles in that CGU, bringing their carrying value to £nil. The India CGU incorporates all the Group’s trading operations in India. A pre-tax discount rate of 13.6% was used to determine the value in use of the India CGU. No previous assessment had been made of the value in use of that CGU as the Group’s India operations, prior to the 1 January 2014 reorganisation, were previously part of a larger Emerging Markets aggregated CGU. 12. Investments in joint ventures and associates The amounts recognised in the balance sheet are as follows: All ﬁ gures in £ millions Associates Joint ventures Total The amounts recognised in the income statement are as follows: All ﬁ gures in £ millions Associates Joint ventures Total 2015 1,099 4 1,103 2014 1,105 13 1,118 2015 2014 72 (4) 68 54 (3) 51 Included within the 2015 results are discontinued operations consisting of £17m proﬁ t from associates (2014: £21m proﬁ t) and £1m loss from joint ventures (2014: £1m loss). For further information on discontinued operations and the proﬁ t on sale of associates and joint ventures, see notes 3 and 31. Section 5 Financial statements 169 12. Investments in joint ventures and associates continued Investment in associates On 16 October 2015, the Group sold 39% of its 50% stake in The Economist (see note 31 for further information). As at 31 December 2015, the Group holds an 11% stake in The Economist which has been classiﬁ ed as an ‘Other ﬁ nancial asset’ (see note 15). The Group has the following material associates: Penguin Random House Ltd Penguin Random House LLC Principal place of business Ownership interest Nature of relationship Measurement method UK/Global 47% See below US 47% See below Equity Equity On 1 July 2013 Penguin Random House was formed, upon the completion of an agreement between Pearson and Bertelsmann to merge their respective trade publishing companies, Penguin and Random House, with the parent companies owning 47% and 53% of the combined business respectively. The shareholder agreement includes protection rights for Pearson as the minority shareholder, including rights to dividends. Management considers ownership percentage, board composition and the additional protective rights, and exercises judgement to determine that Pearson has signiﬁ cant inﬂ uence over Penguin Random House and Bertelsmann has the power to direct the relevant activities and therefore control. Penguin Random House does not have a quoted market price. The summarised ﬁ nancial information of the material associates is detailed below: All ﬁ gures in £ millions Assets Current assets Non-current assets Liabilities Current liabilities Non-current liabilities Net assets 2015 2014 Penguin Random House The Economist Penguin Random House The Economist 1,354 1,244 (1,034) (358) 1,206 – – – – – 1,355 1,429 (1,113) (424) 1,247 110 166 (190) (86) – Sales 2,453 276 2,416 320 Proﬁ t from continuing operations Proﬁ t from discontinued operations Other comprehensive income/(expense) Total comprehensive income Dividends received from associate 136 – 51 187 142 – 34 – 34 20 74 – 42 116 95 – 42 (20) 22 21 The information above reﬂ ects the amounts presented in the ﬁ nancial statements of the associates, adjusted for fair value and similar adjustments. Amounts presented for The Economist cover the period up until the date of the partial disposal. The tax on Penguin Random House LLC is settled by the partners. For the purposes of clear and consistent presentation, the tax has been shown in the associate line items in the consolidated income statement and consolidated balance sheet, recording the Group’s share of proﬁ t after tax consistently for the Penguin Random House associates. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 170 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 12. Investments in joint ventures and associates continued Investment in associates continued A reconciliation of the summarised ﬁ nancial information to the carrying value of the material associates is shown below: All ﬁ gures in £ millions Opening net assets Exchange diﬀ erences Proﬁ t for the period Other comprehensive income/(expense) Dividends, net of tax paid Additions Distribution from associate in excess of carrying value Reversal of distribution from associate in excess of carrying value Disposal Closing net assets Share of net assets Goodwill Carrying value of associate 2015 2014 Penguin Random House 1,247 (1) 136 51 (229) 2 – – – 1,206 567 526 1,093 The Economist – – 34 – Penguin Random House 1,232 (1) 74 42 (40) (100) – – (3) 9 – – – – – – – – 1,247 586 509 1,095 The Economist 16 – 42 (20) (42) – 4 – – – – – – Information on other individually immaterial associates is detailed below: All ﬁ gures in £ millions Loss from continuing operations Other comprehensive income Total comprehensive expense 2015 2014 (9) – (9) (2) – (2) Transactions with material associates The Group has loans to Penguin Random House which are unsecured and interest is calculated based on market rates. The amount outstanding at 31 December 2015 was £47m (2014: £54m). The loans are provided under a working capital facility and ﬂ uctuate during the year. The loan outstanding at 31 December 2015 was repaid in its entirety in January 2016. The Group also has a current asset receivable of £27m (2014: £41m) from Penguin Random House arising from the provision of services. Included in other income (note 4) is £16m (2014: £41m) of service fees. Section 5 Financial statements 171 12. Investments in joint ventures and associates continued Investment in joint ventures Information on joint ventures, all of which are individually immaterial, is detailed below: All ﬁ gures in £ millions Loss from continuing operations Loss from discontinued operations Other comprehensive income Total comprehensive expense 13. Deferred income tax All ﬁ gures in £ millions Deferred income tax assets Deferred income tax liabilities Net deferred income tax 2015 2014 (3) (1) – (4) 2015 276 (560) (284) (3) – – (3) 2014 295 (714) (419) Substantially all of the deferred income tax assets are expected to be recovered after more than one year. Deferred income tax assets and liabilities may be oﬀ set when there is a legally enforceable right to oﬀ set current income tax assets against current income tax liabilities and when the deferred income taxes relate to the same ﬁ scal authority. At 31 December 2015 the Group has unrecognised deferred income tax assets of £nil (2014: £4m) in respect of UK losses, £11m (2014: £14m) in respect of US losses and approximately £70m (2014: £44m) in respect of losses in other territories. The US losses relate to state taxes and therefore have expiry periods of between ﬁ ve and 20 years. The recognition of the deferred income tax assets is supported by management’s forecasts of the future proﬁ tability of(cid:98)the relevant business units. The movement on the net deferred income tax account is as follows: All ﬁ gures in £ millions At beginning of year Exchange diﬀ erences Income statement beneﬁ t Disposal through business disposal Tax charge to other comprehensive income or equity Transfer to current tax At end of year Notes 7 2015 (419) (26) 196 1 (36) – 2014 (362) (22) 10 (1) (18) (26) (284) (419) Included in the income statement above for 2015 is a £2m beneﬁ t (2014: £nil) relating to discontinued operations. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 172 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 13. Deferred income tax continued The movement in deferred income tax assets and liabilities during the year is as follows: All ﬁ gures in £ millions Deferred income tax assets At 1 January 2014 Exchange diﬀ erences Acquisition through business combination Income statement beneﬁ t Tax beneﬁ t/(charge) to other comprehensive income or equity Transfer to current tax Disposal through business disposal At 31 December 2014 Exchange diﬀ erences Income statement charge Tax charge to other comprehensive income or equity At 31 December 2015 Trading losses Returns provisions Retirement beneﬁ t obligations 15 1 2 10 – – – 28 5 (14) – 19 39 2 – 3 – – – 44 3 (4) – 43 42 4 – 7 10 – (1) 62 4 (3) (4) 59 Other Total 154 250 5 – 35 (7) (26) – 161 9 (15) – 155 12 2 55 3 (26) (1) 295 21 (36) (4) 276 Other deferred income tax assets include temporary diﬀ erences on goodwill, deferred income, share-based payments, inventory and other provisions. All ﬁ gures in £ millions Deferred income tax liabilities At 1 January 2014 Exchange diﬀ erences Acquisition through business combination Income statement beneﬁ t/(charge) Tax charge to other comprehensive income or equity At 31 December 2014 Exchange diﬀ erences Income statement beneﬁ t Disposal through business disposal Tax charge to other comprehensive income or equity At 31 December 2015 Goodwill and intangibles Other Total (584) (30) (2) 18 – (598) (41) 180 1 – (458) (28) (4) – (63) (21) (116) (6) 52 – (32) (102) (612) (34) (2) (45) (21) (714) (47) 232 1 (32) (560) Other deferred income tax liabilities include temporary diﬀ erences in respect of depreciation and royalty advances. Section 5 Financial statements 173 14. Classiﬁ cation of ﬁ nancial instruments The accounting classiﬁ cation of each class of the Group’s ﬁ nancial assets and ﬁ nancial liabilities, together with their carrying values and market(cid:98)values, is as follows: Fair value Amortised cost Notes Available for sale Derivatives deemed held for trading Derivatives in hedging relationships Other liabilities Loans and receivables Other liabilities All ﬁ gures in £ millions Investments in listed securities Investments in unlisted securities Cash and cash equivalents Marketable securities Derivative ﬁ nancial instruments Trade receivables Total ﬁ nancial assets Derivative ﬁ nancial instruments Trade payables Bank loans and overdrafts Borrowings due within one year Borrowings due after more than one year Total ﬁ nancial liabilities 15 15 17 16 22 16 24 18 18 18 – 143 – 28 – – 171 – – – – – – – – – – 29 – 29 – – – – 81 – 81 (36) (129) – – – – – – – – (36) (129) – – – – – – – – – – – – – – – 1,703 – – 963 2,666 – – – – – – 2015 Total carrying value Total market value – – 143 143 1,703 1,703 28 110 963 28 110 963 – – – – – – – 2,947 2,947 – (165) (165) (319) (319) (319) (38) (38) (38) (244) (244) (244) (2,048) (2,048) (2,009) (2,649) (2,814) (2,775) O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 174 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 14. Classiﬁ cation of ﬁ nancial instruments continued Fair value Amortised cost Notes Available for sale Derivatives deemed held for trading Derivatives in hedging relationships Other liabilities Loans and receivables Other liabilities All ﬁ gures in £ millions Investments in listed securities Investments in unlisted securities Cash and cash equivalents Marketable securities Derivative ﬁ nancial instruments Trade receivables Total ﬁ nancial assets Derivative ﬁ nancial instruments Trade payables Bank loans and overdrafts Borrowings due within one year Borrowings due after more than one year Total ﬁ nancial liabilities 15 15 17 16 22 16 24 18 18 18 9 45 – 16 – – 70 – – – – – – – – – – 6 – 6 (33) – – – – – – – – 108 – 108 (41) – – – – (33) (41) – – – – – – – – – – – – – – – 530 – – 989 1,519 – – – – – – 2014 Total carrying value Total market value 9 9 45 45 530 530 16 114 989 16 114 989 1,703 1,703 (74) (74) – – – – – – – – (329) (329) (329) (42) (42) (42) (305) (305) (319) (1,878) (1,878) (1,888) (2,554) (2,628) (2,652) Certain of the Group’s derivative ﬁ nancial instruments are classiﬁ ed as held for trading either as they do not meet the hedge accounting criteria speciﬁ ed in IAS 39 ‘Financial Instruments: Recognition and Measurement’ or as the Group has chosen not to seek hedge accounting for these instruments. None of these derivatives are held for speculative trading purposes. Transactions in derivative ﬁ nancial instruments are only undertaken to manage risks arising from underlying business activity, in accordance with the Group’s treasury policy as described in note 19. The Group designates certain qualifying derivative ﬁ nancial instruments as hedges of the fair value of its bonds (fair(cid:98)value hedges). Changes in the fair value of these derivative ﬁ nancial instruments are recorded in the income statement, together with any change in the fair value of the hedged liability attributable to the hedged risk. The Group also designates certain of its borrowings and derivative ﬁ nancial instruments as hedges of its investments in(cid:98)foreign operations (net investment hedges). Movements in the fair value of these ﬁ nancial instruments (to the extent they are eﬀ ective) are recognised in other comprehensive income. None of the Group’s ﬁ nancial assets or liabilities are designated at fair value through the income statement upon initial(cid:98)recognition. More detail on the Group’s accounting for ﬁ nancial instruments is included in the Group’s accounting policies. The(cid:98)Group’s approach to managing risks in relation to ﬁ nancial instruments is described in note 19. Section 5 Financial statements 175 15. Other ﬁ nancial assets All ﬁ gures in £ millions At beginning of year Exchange diﬀ erences Acquisition of investments Disposal of investments At end of year 2015 2014 54 3 101 (15) 143 94 6 12 (58) 54 Other ﬁ nancial assets comprise listed securities of £nil (2014: £9m) and unlisted securities of £143m (2014: £45m). Acquisition of investments includes the remaining 11% stake in The Economist, see note 31 for further information. 16. Derivative ﬁ nancial instruments The Group’s approach to the management of ﬁ nancial risks is set out in note 19. The Group’s outstanding derivative ﬁ nancial instruments are as follows: All ﬁ gures in £ millions Interest rate derivatives – in a fair value hedge relationship Interest rate derivatives – not in a hedge relationship Cross-currency rate derivatives – in a hedge relationship Cross-currency rate derivatives – not in a hedge relationship Total Analysed as expiring: In less than one year Later than one year and not later than ﬁ ve years Later than ﬁ ve years Total 2015 2014 Gross notional amounts Assets Liabilities Gross notional amounts Assets Liabilities 1,952 848 1,879 120 4,799 324 1,255 3,220 4,799 70 – 10 30 110 32 44 34 110 (10) 1,607 (6) (119) (30) (165) 673 889 451 3,620 (29) 200 (4) (132) (165) 1,386 2,034 3,620 84 – 24 6 114 24 67 23 114 (5) (7) (36) (26) (74) (1) (8) (65) (74) O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 176 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 16. Derivative ﬁ nancial instruments continued The carrying value of the above derivative ﬁ nancial instruments equals their fair value. Fair values are determined by using market data and the use of established estimation techniques such as discounted cash ﬂ ow and option valuation models. At the end of 2015, the currency split of the mark-to-market values of rate derivatives, including the exchange of principal on cross-currency rate derivatives, was US dollar £(917)m, sterling £102m, euro £759m and Brazilian real £nil (2014: US dollar £(607)m, sterling £214m, euro £430m and Brazilian real £4m). The ﬁ xed interest rates on outstanding rate derivative contracts at the end of 2015 range from 1.10% to 14.48% (2014: 1.10% to 14.48%) and the ﬂ oating rates are based on LIBOR in US dollar, euro and sterling. The Group’s portfolio of rate derivatives is diversiﬁ ed by maturity, counterparty and type. Natural oﬀ sets between transactions within the portfolio and the designation of certain derivatives as hedges signiﬁ cantly reduce the risk of income statement volatility. The sensitivity of the portfolio to changes in market rates is set out in note 19. Derivative ﬁ nancial assets and liabilities subject to oﬀ setting arrangements are as follows: All ﬁ gures in £ millions Counterparties in an asset position Counterparties in a liability position Total as presented in the balance sheet Gross derivative assets Gross derivative liabilities 50 60 110 (22) (143) (165) 2015 Net derivative assets/ liabilities 28 (83) (55) Gross derivative assets Gross derivative liabilities 94 20 114 (28) (46) (74) 2014 Net derivative assets/ liabilities 66 (26) 40 All of the Group’s derivative ﬁ nancial instruments are subject to enforceable netting arrangements with individual counterparties, allowing net settlement in the event of default of either party. Oﬀ set arrangements in respect of cash balances are shown in note 17. Counterparty exposure from all derivatives is managed, together with that from deposits and bank account balances, within credit limits that reﬂ ect published credit ratings and by reference to other market measures (e.g. market prices for credit default swaps) to ensure that there is no signiﬁ cant risk to any one counterparty. No single derivative transaction had a market value (positive or negative) at the balance sheet date that exceeded 3% of the Group’s consolidated total equity. In accordance with IAS 39 ‘Financial Instruments: Recognition and Measurement’ the Group has reviewed all of its material contracts for embedded derivatives that are required to be separately accounted for if they do not meet certain requirements, and has concluded that there are no material embedded derivatives. Section 5 Financial statements 177 17. Cash and cash equivalents (excluding overdrafts) All ﬁ gures in £ millions Cash at bank and in hand Short-term bank deposits 2015 627 1,076 1,703 2014 483 47 530 Short-term bank deposits are invested with banks and earn interest at the prevailing short-term deposit rates. At the end of 2015 the currency split of cash and cash equivalents was US dollar 23% (2014: 18%), sterling 57% (2014: 13%), euro 2% (2014: 3%), renminbi 8% (2014: 28%) and other 10% (2014: 38%). Cash and cash equivalents have fair values that approximate to their carrying value due to their short-term nature. Cash and cash equivalents include the following for the purpose of the cash ﬂ ow statement: All ﬁ gures in £ millions Cash and cash equivalents – continuing operations Bank overdrafts – continuing operations 2015 1,703 (32) 1,671 The Group has the following cash pooling arrangements in US dollars, sterling, euro and canadian dollars where both the company and the bank have a legal right of oﬀ set. 2015 2014 530 (19) 511 2014 All ﬁ gures in £ millions US dollars Sterling Euro Canadian dollars Total for continuing operations as presented(cid:98)in the balance sheet Oﬀ set asset Oﬀ set liability Net oﬀ set asset Oﬀ set asset Oﬀ set liability Net oﬀ set asset 446 290 5 36 (442) (289) (3) (10) 4 1 2 26 33 267 430 9 10 (266) (427) (8) – 1 3 1 10 15 Oﬀ set arrangements in respect of derivatives are shown in note 16. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 178 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 18. Financial liabilities – borrowings The Group’s current and non-current borrowings are as follows: All ﬁ gures in £ millions Non-current 4.0% US dollar notes 2016 (nominal amount $350m) 6.25% Global dollar bonds 2018 (nominal amount $550m) 4.625% US dollar notes 2018 (nominal amount $300m) 1.875% Euro notes 2021 (nominal amount €500m) 3.75% US dollar notes 2022 (nominal amount $500m) 3.25% US dollar notes 2023 (nominal amount $500m) 1.375% Euro notes 2025 (nominal amount €500m) Bank loans and overdrafts Finance lease liabilities Current Due within one year or on-demand: 6.0% Sterling bonds 2015 (nominal amount £300m) 4.0% US dollar notes 2016 (nominal amount $350m) Bank loans and overdrafts Finance lease liabilities Total borrowings 2015 2014 – 403 218 386 342 336 359 – 4 231 390 210 408 319 315 – 5 5 2,048 1,883 – 240 38 4 282 300 – 37 5 342 2,330 2,225 Included in the non-current borrowings above is £15m of accrued interest (2014: £13m). Included in the current borrowings above is £1m of accrued interest (2014: £1m). The maturity of the Group’s non-current borrowing is as follows: All ﬁ gures in £ millions Between one and two years Between two and ﬁ ve years Over ﬁ ve years 2015 3 622 1,423 2,048 2014 239 602 1,042 1,883 Section 5 Financial statements 179 18. Financial liabilities – borrowings continued The carrying amounts and market values of borrowings are as follows: All ﬁ gures in £ millions Bank loans and overdrafts 6.0% Sterling bonds 2015 4.0% US dollar notes 2016 6.25% Global dollar bonds 2018 4.625% US dollar notes 2018 1.875% Euro notes 2021 3.75% US dollar notes 2022 3.25% US dollar notes 2023 1.375% Euro notes 2025 Finance lease liabilities Eﬀ ective interest rate Carrying value Market value Eﬀ ective interest rate Carrying value 2015 n/a – 4.26% 6.46% 4.69% 2.04% 3.94% 3.36% 1.44% n/a 38 – 240 403 218 386 342 336 359 8 38 – 240 405 213 380 335 322 350 8 n/a 6.27% 4.26% 6.46% 4.69% 2.04% 3.94% 3.36% n/a n/a 42 300 231 390 210 408 319 315 – 10 2014 Market value 42 314 233 397 205 407 327 314 – 10 2,330 2,291 2,225 2,249 The market values stated above are based on clean market prices at the year end or, where these are not available, on(cid:98)the quoted market prices of comparable debt issued by other companies. The eﬀ ective interest rates above relate to the underlying debt instruments. The carrying amounts of the Group’s borrowings are denominated in the following currencies: All ﬁ gures in £ millions US dollar Sterling Euro Other 2015 1,563 1 759 7 2014 1,491 303 408 23 2,330 2,225 O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 180 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 18. Financial liabilities – borrowings continued The Group has the following undrawn capacity on its committed borrowing facilities as at 31 December: All ﬁ gures in £ millions Floating rate – expiring within one year – expiring beyond one year 2015 2014 – 1,187 1,187 – 1,122 1,122 In addition to the above facilities, there are a number of short-term facilities that are utilised in the normal course of(cid:98)business. All of the Group’s borrowings are unsecured. In respect of ﬁ nance lease obligations, the rights to the leased asset revert to the lessor in the event of default. The maturity of the Group’s ﬁ nance lease obligations is as follows: All ﬁ gures in £ millions 2015 2014 Finance lease liabilities – minimum lease payments Not later than one year Later than one year and not later than two years Later than two years and not later than three years Later than three years and not later than four years Later than four years and not later than ﬁ ve years Later than ﬁ ve years Future ﬁ nance charges on ﬁ nance leases Present value of ﬁ nance lease liabilities The present value of ﬁ nance lease liabilities is as follows: All ﬁ gures in £ millions Not later than one year Later than one year and not later than ﬁ ve years Later than ﬁ ve years The carrying amounts of the Group’s lease obligations approximate their fair value. 4 3 1 – – – – 8 5 3 1 1 – – – 10 2015 2014 4 4 – 8 5 5 – 10 Section 5 Financial statements 181 19. Financial risk management The Group’s approach to the management of ﬁ nancial risks together with sensitivity analyses of its ﬁ nancial instruments is set out below. Treasury policy The Group holds ﬁ nancial instruments for two principal purposes: to ﬁ nance its operations and to manage the interest rate and currency risks arising from its operations and its sources of ﬁ nance. The Group ﬁ nances its operations by a mixture of cash ﬂ ows from operations, short-term borrowings from banks and commercial paper markets, and longer-term loans from banks and capital markets. The Group borrows principally in US dollars, euros and sterling, at both ﬂ oating and ﬁ xed rates of interest, using derivative ﬁ nancial instruments (‘derivatives’), where appropriate, to generate the desired currency proﬁ le and interest rate basis. The derivatives used for this purpose are principally rate swaps, rate caps and collars, currency rate swaps and forward foreign exchange contracts. The main risks arising from the Group’s ﬁ nancial instruments are interest rate risk, liquidity and reﬁ nancing risk, counterparty risk and foreign currency risk. These risks are managed by the chief ﬁ nancial oﬃ cer under policies approved by the board, which are summarised in this note. All the key treasury policies remained unchanged throughout the year, except for revisions to the Group’s bank counterparty risk limits and clariﬁ cations in respect of the Group’s approach to compliance with laws and regulations. The audit committee receives regular reports on the Group’s treasury activities, policies and procedures. The treasury department is not a proﬁ t centre and its activities are subject to regular internal audit. Liquidity and reﬁ nancing risk management The Group’s objective is to secure continuity of funding at a reasonable cost. To do this it seeks to arrange committed funding for a variety of maturities from a diversity of sources. The Group’s policy objective is to maintain the weighted average maturity of its core gross borrowings (treating short-term advances as having the ﬁ nal maturity of the facilities available to reﬁ nance them) to be between three and ten years. At the end of 2015 the average maturity of gross borrowings was 5.1 years (2014: 4.7 years) of which bonds represented 98% (2014: 97%) of these borrowings. The Group believes that ready access to diﬀ erent funding markets also helps to reduce its liquidity risk, and that published credit ratings and published ﬁ nancial policies improve such access. At the year end, the long-term ratings were Baa1 from Moody’s and BBB+ from Standard & Poor’s, and the short-term ratings were P2 and A2 respectively. All of the Group’s credit ratings remained unchanged during the year, although in October 2015, Standard & Poor’s changed the outlook on their long-term rating from ‘Stable’ to ‘Negative’. In February 2016, Moody’s changed Pearson’s long-term rating from Baa1 (negative) to Baa2 (stable). In March 2016, Standard & Poor’s changed Pearson’s long-term rating from BBB+ (Negative) to BBB (Stable). The short-term ratings from Moody’s and Standard & Poor’s remain unchanged at P2 and A2. The Group’s policy is to strive to maintain a rating of Baa1/BBB+ over the long term. The Group also uses a range of ratios to monitor and manage its ﬁ nances internally. These include interest cover, net debt to operating proﬁ t and cash ﬂ ow to debt measures. The Group also maintains undrawn committed borrowing facilities. At the end of 2015 the committed facilities amounted to $1,750m (£1,187m) and their weighted average maturity was 4.6 years. Interest rate risk management The Group’s exposure to interest rate ﬂ uctuations on its borrowings is managed by borrowing on a ﬁ xed rate basis and by entering into rate swaps, rate caps and forward rate agreements. The Group also aims to avoid undue exposure to a single interest rate setting. Reﬂ ecting this objective, the Group has predominantly swapped its ﬁ xed rate bond issues to ﬂ oating rate at their launch. This creates a group of derivatives, under which the Group is a receiver of ﬁ xed rates and a payer of ﬂ oating rates. The Group’s policy objective has continued to be to set a target proportion of its forecast borrowings (taken at the year end, with cash netted against ﬂ oating rate debt and before certain adjustments for IAS 39) to be hedged (i.e. ﬁ xed or capped at the year end) over the next four years, subject to a maximum of 65% and a minimum that starts at 40% and falls by 10% at each year end. At the end of 2015 the ﬁ xed to ﬂ oating hedging ratio, on the above basis, was approximately 90%:10%. The higher than policy ratio is a result of higher cash balances due to divestments in 2015. Our policy is to not close out contracts where we anticipate reverting to compliance with the policy over the longer term. A simultaneous 1% change on 1 January 2016 in the Group’s variable interest rates in US dollar and sterling, taking into account forecast seasonal debt, would have a £6m eﬀ ect on proﬁ t before tax. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 182 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 19. Financial risk management continued Interest rate risk management continued The policy described above creates a further group of derivatives, under which the Group is a payer of ﬁ xed rates and a receiver of ﬂ oating rates. The Group’s accounting objective in relation to its use of interest rate derivatives is to minimise the impact on the income statement of changes in the mark-to-market value of its derivative portfolio as a whole. It uses duration calculations to estimate the sensitivity of the derivatives to movements in market rates. The Group also identiﬁ es which derivatives are eligible for fair value hedge accounting (which reduces the income statement impact of changes in the market value of a derivative). The Group then balances the total portfolio between hedge-accounted and pooled segments, so that the expected movement on the pooled segment is minimal. Financial counterparty risk management Counterparty credit limits, which take published credit rating and other factors into account, are set to cover the Group’s total aggregate exposure to a single ﬁ nancial institution. The limits applicable to published credit ratings bands are approved by the chief ﬁ nancial oﬃ cer within guidelines approved by the board. Exposures and limits applicable to each ﬁ nancial institution are reviewed on a regular basis. Foreign currency risk management Although the Group is based in the UK, it has its most signiﬁ cant investment in overseas operations. The most signiﬁ cant currency for the Group is the US dollar. The Group’s policy on routine transactional conversions between currencies (for example, the collection of receivables, and the settlement of payables or interest) remains that these should be transacted at the relevant spot exchange rate. The majority of the Group’s operations are domestic within their country of operation. No unremitted proﬁ ts are hedged with foreign exchange contracts, as the company judges it inappropriate to hedge non cash ﬂ ow translational exposure with cash ﬂ ow instruments. However, the Group does seek to create a natural hedge of this exposure through its policy of aligning approximately the currency composition of its core net borrowings (after the impact of cross-currency rate derivatives) with its forecast operating proﬁ t before depreciation and amortisation. This policy aims to soften the impact of changes in foreign exchange rates on consolidated interest cover and earnings. The policy above applies only to currencies that account for more than 15% of Group operating proﬁ t before depreciation and amortisation, which currently is only the US dollar. The Group still borrows small amounts in other currencies, typically for seasonal working capital needs. The Group policy does not require existing currency debt to be terminated to match declines in that currency’s share of Group operating proﬁ t before depreciation and amortisation. In addition, currencies that account for less than 15% of Group operating proﬁ t before depreciation and amortisation can be included in the above hedging process at the request of the chief ﬁ nancial oﬃ cer. Included within year end net debt, the net borrowings/(cash) in the hedging currencies above (taking into account the eﬀ ect of cross-currency swaps) were: US dollar £1,345m and sterling £(385)m. Use of currency debt and currency derivatives The Group uses both currency denominated debt and derivative instruments to implement the above policy. Its intention is that gains/losses on the derivatives and debt oﬀ set the losses/gains on the foreign currency assets and income. Each quarter the value of hedging instruments is monitored against the assets in the relevant currency and, where practical, a decision is made whether to treat the debt or derivative as a net investment hedge (permitting foreign exchange movements on it to be taken to reserves) for the purposes of IAS 39. Section 5 Financial statements 183 19. Financial risk management continued Analysis of Group debt, including the impact of derivatives The following tables analyse the Group’s sources of funding and the impact of derivatives on the Group’s debt instruments. The Group’s net debt position is set out below: All ﬁ gures in £ millions Cash and cash equivalents Marketable securities Derivative ﬁ nancial instruments Bank loans, overdrafts and loan notes Bonds Finance lease liabilities Net debt 2015 1,703 28 (55) (38) 2014 530 16 40 (42) (2,284) (2,173) (8) (10) (654) (1,639) The split of net debt between ﬁ xed and ﬂ oating rate, stated after the impact of rate derivatives, is as follows: All ﬁ gures in £ millions Fixed rate Floating rate Total 2015 577 77 654 Gross borrowings, after the impact of cross-currency rate derivatives, analysed by currency are as follows: 2014 597 1,042 1,639 2014 2,099 104 22 2015 2,308 1 21 2,330 2,225 All ﬁ gures in £ millions US dollar Sterling Other Total As at 31 December 2015 the exposure of the borrowings of the Group to interest rate changes when the borrowings re-price is as follows: All ﬁ gures in £ millions Re-pricing proﬁ le of borrowings Eﬀ ect of rate derivatives Total Less than one year One to ﬁ ve years More than ﬁ ve years Total 282 1,449 1,731 625 (33) 592 1,423 2,330 (1,416) – 7 2,330 O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 184 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 19. Financial risk management continued The maturity of contracted cash ﬂ ows associated with the Group’s ﬁ nancial liabilities is as follows: All ﬁ gures in £ millions Not later than one year Later than one year and not later than ﬁ ve years Later than ﬁ ve years Total Analysed as: Bonds Rate derivatives – inﬂ ows Rate derivatives – outﬂ ows Trade payables Total All ﬁ gures in £ millions Not later than one year Later than one year and not later than ﬁ ve years Later than ﬁ ve years Total Analysed as: Bonds Rate derivatives – inﬂ ows Rate derivatives – outﬂ ows Trade payables Total USD 470 705 1,578 2,753 1,745 (335) 1,155 188 2,753 USD 398 877 1,126 2,401 1,711 (379) 893 176 2,401 GBP 58 – – 58 – (858) 858 58 58 GBP 160 – – 160 318 (656) 444 54 160 Other 73 – – 73 829 (919) 90 73 73 Other 99 – – 99 439 (537) 98 99 99 2015 Total 601 705 1,578 2,884 2,574 (2,112) 2,103 319 2,884 2014 Total 657 877 1,126 2,660 2,468 (1,572) 1,435 329 2,660 All cash ﬂ ow projections shown above are on an undiscounted basis. Any cash ﬂ ows based on a ﬂ oating rate are calculated using interest rates as set at the date of the last rate reset. Where this is not possible, ﬂ oating rates are based on interest rates prevailing at 31 December in the relevant year. All derivative amounts are shown gross, although the Group net settles these amounts wherever possible. Any amounts drawn under revolving credit facilities and commercial paper are assumed to mature at the maturity date of the relevant facility, with interest calculated as payable in each calendar year up to and including the date of maturity of the facility. Section 5 Financial statements 185 19. Financial risk management continued Financial instruments – fair value measurement The following table provides an analysis of those ﬁ nancial instruments that are measured subsequently to initial recognition at fair value, grouped into levels 1 to 3, based on the degree to which the fair value is observable: Level 1 fair value measurements are those derived from unadjusted quoted prices in active markets for identical assets or liabilities; Level 2 fair value measurements are those derived from inputs, other than quoted prices included within level 1, that(cid:98)are observable for the asset or liability, either directly (as prices) or indirectly (derived from prices); and Level 3 fair value measurements are those derived from valuation techniques that include inputs for the asset or liability that are not based on observable market data (unobservable inputs). All ﬁ gures in £ millions Level 1 Level 2 Level 3 Total Level 1 Level 2 Level 3 2015 Financial assets at fair value Derivative ﬁ nancial assets Marketable securities Available for sale ﬁ nancial assets Investments in listed securities Investments in unlisted securities Financial liabilities at fair value Derivative ﬁ nancial liabilities Total – – – – – – 110 28 – – – – – 110 28 – 143 143 (165) – (165) (27) 143 116 – – – – – – 114 16 9 – (74) 65 – – – 45 – 45 2014 Total 114 16 9 45 (74) 110 The following table analyses the movements in level 3 fair value measurements: All ﬁ gures in £ millions At beginning of year Exchange diﬀ erences Additions Fair value movements Disposals At end of year 2015 2014 Investments in unlisted securities Investments in unlisted securities 45 3 101 – (6) 143 94 6 3 – (58) 45 The fair value of the 11% stake in The Economist is valued by reference to the disposal transaction terms. The fair value of the remaining investments in unlisted securities is determined by reference to the ﬁ nancial performance of the underlying asset and amounts realised on the sale of similar assets. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 186 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 19. Financial risk management continued Financial instruments – sensitivity analysis As at 31 December 2015 the sensitivity of the carrying value of the Group’s ﬁ nancial instruments to ﬂ uctuations in(cid:98)interest rates and exchange rates is as follows: All ﬁ gures in £ millions Investments in listed securities Investments in unlisted securities Cash and cash equivalents Marketable securities Derivative ﬁ nancial instruments Bonds Other borrowings Other net ﬁ nancial assets Total ﬁ nancial instruments Carrying value Impact of 1% increase in interest rates Impact of 1% decrease in interest rates Impact of 10% strengthening in sterling Impact of 10% weakening in sterling – 143 1,703 28 (55) (2,284) (46) 644 133 – – – – (93) 97 – – 4 – – – – 99 (103) – – (4) – (4) (67) – 14 208 5 (57) 99 – 5 82 – (18) (254) (6) 68 (123) The table shows the sensitivities of the fair values of each class of ﬁ nancial instruments to an isolated change in either(cid:98)interest rates or foreign exchange rates. The class ‘Other net ﬁ nancial assets’ comprises trade receivables less trade(cid:98)payables. The sensitivities of derivative instruments are calculated using established estimation techniques such as discounted cash ﬂ ow and option valuation models. Where modelling an interest rate decrease of 1% led to negative interest rates, these points on the yield curve were adjusted to 0%. A large proportion of the movements shown above would impact equity rather than the income statement, due to the location and functional currency of the entities in which they arise and the availability of net investment hedge treatment. The changes in valuations are estimates of the impact of changes in market variables and are not a prediction of future events or anticipated gains or losses. Section 5 Financial statements 187 2015 2014 2,138 1,933 66 347 (90) (260) – 80 358 – (234) 1 2,201 2,138 (1,318) (1,216) (47) (281) 26 260 – (60) (292) – 234 16 (1,360) (1,318) 841 820 20. Intangible assets – Pre-publication All ﬁ gures in £ millions Cost At beginning of year Exchange diﬀ erences Additions Disposal through business disposal Disposals Acquisition through business combination At end of year Amortisation At beginning of year Exchange diﬀ erences Charge for the year Disposal through business disposal Disposals Transfer to receivables At end of year Carrying amounts At end of year Included in the above are pre-publication assets amounting to £580m (2014: £546m) which will be realised in more than one year. Amortisation is included in the income statement in cost of goods sold. There was no amortisation within discontinued operations in either year. Disposal through business disposal amounts relate to the disposal of PowerSchool, see note 31 for further information. 21. Inventories All ﬁ gures in £ millions Raw materials Work in progress Finished goods 2015 2014 8 8 195 211 9 10 205 224 The cost of inventories relating to continuing operations recognised as an expense and included in the income statement in cost of goods sold amounted to £331m (2014: £379m). In 2015, £33m (2014: £38m) of inventory provisions was charged in the income statement. None of the inventory is pledged as security. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 188 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 22. Trade and other receivables All ﬁ gures in £ millions Current Trade receivables Royalty advances Prepayments and accrued income Other receivables Non-current Trade receivables Royalty advances Prepayments and accrued income Other receivables 2015 2014 938 20 118 208 963 18 107 222 1,284 1,310 25 13 43 34 115 26 8 30 18 82 Trade receivables are stated at fair value, net of provisions for bad and doubtful debts and anticipated future sales returns. The movements on the provision for bad and doubtful debts are as follows: All ﬁ gures in £ millions At beginning of year Exchange diﬀ erences Income statement movements Utilised Acquisition through business combination Disposal through business disposal At end of year 2015 (73) 3 (31) 32 – 5 (64) Concentrations of credit risk with respect to trade receivables are limited due to the Group’s large number of customers, who are internationally dispersed. The ageing of the Group’s trade receivables is as follows: 2014 (58) – (21) 17 (11) – (73) 2014 869 203 40 15 15 11 2015 754 253 58 19 13 16 1,113 1,153 (150) 963 (164) 989 All ﬁ gures in £ millions Within due date Up to three months past due date Three to six months past due date Six to nine months past due date Nine to 12 months past due date More than 12 months past due date Total trade receivables Less: provision for sales returns Net trade receivables The Group reviews its bad debt provision at least twice a year following a detailed review of receivable balances and historical payment proﬁ les. Management believes all the remaining receivable balances are fully recoverable. Section 5 Financial statements 189 23. Provisions for other liabilities and charges All ﬁ gures in £ millions At 1 January 2015 Exchange diﬀ erences Charged to income statement Released to income statement Disposal through business disposal Utilised At 31 December 2015 Analysis of provisions: All ﬁ gures in £ millions Current Non-current Current Non-current Deferred consideration Property Disposals and closures Legal and other 57 3 – (1) – (6) 53 7 – – – (1) – 6 20 – – – – – 20 51 (4) 12 (4) (1) (20) 34 Deferred consideration Property Disposals and closures Legal and other 5 48 53 7 50 57 3 3 6 4 3 7 15 5 20 20 – 20 19 15 34 22 29 51 Total 135 (1) 12 (5) (2) (26) 113 2015 Total 42 71 113 2014 53 82 135 Deferred consideration primarily relates to the formation of a venture in a North America business in 2011. Disposals and closures include liabilities related to the disposal of Penguin. Legal and other includes legal claims, contract disputes and potential contract losses. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 190 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 24. Trade and other liabilities All ﬁ gures in £ millions Trade payables Social security and other taxes Accruals Deferred income Interest payable Other liabilities Less: non-current portion Accruals Deferred income Interest payable Other liabilities Current portion 2015 319 22 371 766 19 249 2014 329 21 501 801 28 231 1,746 1,911 20 262 – 74 356 1,390 22 201 19 68 310 1,601 The carrying value of the Group’s trade and other liabilities approximates its fair value. The deferred income balance comprises principally multi-year obligations to deliver workbooks to adoption customers in school businesses; advance payments in assessment, testing and training businesses; subscription income in school and college businesses; and obligations to deliver digital content in future periods. 25. Retirement beneﬁ t and other post-retirement obligations Background The Group operates a number of deﬁ ned beneﬁ t and deﬁ ned contribution retirement plans throughout the world. The largest plan is the Pearson Group Pension Plan (UK Group plan) in the UK, which is sectionalised to provide both deﬁ ned beneﬁ t and deﬁ ned contribution pension beneﬁ ts. The deﬁ ned beneﬁ t section was closed to new members from 1 November 2006. The deﬁ ned contribution section, opened in 2003, is open to new and existing employees. Finally, there is a separate section within the UK Group plan set up for auto-enrolment. The deﬁ ned beneﬁ t section of the UK Group plan is a ﬁ nal salary pension plan which provides beneﬁ ts to members in the form of a guaranteed level of pension payable for life. The level of beneﬁ ts depends on the length of service and ﬁ nal pensionable pay. The UK Group plan is funded with beneﬁ t payments from trustee administered funds. The UK Group plan is administered in(cid:98)accordance with the Trust Deed and Rules in the interests of its beneﬁ ciaries by Pearson Group Pension Trustee(cid:98)Limited. At 31 December 2015 the UK Group plan has approximately 25,000 members, analysed in the following table: All ﬁ gures in % Deﬁ ned beneﬁ t Deﬁ ned contribution Total Active Deferred Pensioners Total 1 14 15 27 24 51 34 – 34 62 38 100 Section 5 Financial statements 191 25. Retirement beneﬁ t and other post-retirement obligations continued Background continued The other major deﬁ ned beneﬁ t plans are based in the US. These are also ﬁ nal salary pension plans which provide beneﬁ ts to members in the form of a guaranteed pension payable for life, with the level of beneﬁ ts dependent on length of service and ﬁ nal pensionable pay. The majority of the US plans are funded. The Group also has several post-retirement medical beneﬁ t plans (PRMBs), principally in the US. PRMBs are unfunded but are accounted for and valued similarly to deﬁ ned beneﬁ t pension plans. The deﬁ ned beneﬁ t schemes expose the Group to actuarial risks, such as life expectancy, inﬂ ation risks, and investment risk including asset volatility and changes in bond yields. The Group is not exposed to any unusual, entity speciﬁ c or plan speciﬁ c risks. Assumptions The principal assumptions used for the UK Group plan and the US PRMB are shown below. Weighted average assumptions have been shown for the other plans, which primarily relate to US pension plans. UK Group plan Other plans UK Group plan Other plans All ﬁ gures in % Inﬂ ation Rate used to discount plan liabilities Expected rate of increase in salaries 3.1 3.7 3.6 Expected rate of increase for pensions in payment and deferred pensions 1.9 to 5.10 Initial rate of increase in healthcare rate Ultimate rate of increase in healthcare rate – – 2.5 4.0 3.0 – – – 2015 PRMB 2.5 4.0 3.0 3.0 3.6 3.5 – 1.9 to 5.05 7.0 5.0 – – 2014 PRMB 2.5 3.7 4.0 – 7.0 5.0 2.5 3.7 3.9 – – – The UK discount rate is based on corporate bond yields adjusted to reﬂ ect the duration of liabilities. The US discount rate is set by reference to a US bond portfolio matching model. The inﬂ ation rate for the UK Group plan of 3.1% reﬂ ects the RPI rate. In line with changes to legislation in 2010, certain beneﬁ ts have been calculated with reference to CPI as the inﬂ ationary measure and in these instances a rate of 2.1% has been used. The expected rate of increase in salaries has been set at 3.6% for 2015 with a short-term assumption of 2.0% for three years. For the UK plan, the mortality base table assumptions have been derived from the SAPS ‘all pensioners’ tables for males and the SAPS ‘normal health pensioners’ tables for females, adjusted to reﬂ ect the observed experience of the plan, with CMI model improvement factors. A 1.5% long-term rate improvement on the CMI model is applied for both males and females. For the US plans, the mortality table (RP – 2014) and 2014 Improvement scale (MP – 2014) with no adjustments have been adopted from 2014, reﬂ ecting the mortality assumption most prevalent in the US. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 192 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 25. Retirement beneﬁ t and other post-retirement obligations continued Assumptions continued Using the above tables, the remaining average life expectancy in years of a pensioner retiring at age 65 on the balance sheet date for the UK Group plan and US plans is as follows: All ﬁ gures in years Male Female 2015 23.5 25.6 UK 2014 24.4 24.5 2015 21.2 23.2 US 2014 21.6 23.8 The remaining average life expectancy in years of a pensioner retiring at age 65, 20 years after the balance sheet date, for the UK and US Group plans is as follows: All ﬁ gures in years Male Female 2015 25.5 27.8 UK 2014 26.6 26.4 2015 22.9 24.9 US 2014 23.3 25.5 Although the Group anticipates that plan surpluses will be utilised during the life of the plan to address member beneﬁ ts, the Group recognises its pension surplus in full in respect of the UK Group plan on the basis that it is management’s judgement that there are no substantive restrictions on the return of residual plan assets in the event of a winding up of the plan after all member obligations have been met. Financial statement information The amounts recognised in the income statement are as follows: All ﬁ gures in £ millions Current service cost Curtailments Administration expenses Total operating expense Interest on plan assets Interest on plan liabilities Net ﬁ nance (income)/expense Net income statement charge UK Group plan Deﬁ ned beneﬁ t other Sub-total Deﬁ ned contribution PRMB Total 2015 20 (3) 5 22 (98) 90 (8) 14 2 – – 2 22 (3) 5 24 (5) (103) 7 2 4 97 (6) 18 74 – – 74 – – – 74 – – – – – 2 2 2 96 (3) 5 98 (103) 99 (4) 94 Section 5 Financial statements 193 25. Retirement beneﬁ t and other post-retirement obligations continued Financial statement information continued UK Group plan Deﬁ ned beneﬁ t other Sub-total Deﬁ ned contribution PRMB Total 2014 All ﬁ gures in £ millions Current service cost Curtailments Administration expenses Total operating expense Interest on plan assets Interest on plan liabilities Net ﬁ nance (income)/expense Net income statement charge/(income) 20 (5) 4 19 (103) 98 (5) 14 2 – – 2 (7) 8 1 3 22 (5) 4 21 (110) 106 (4) 17 69 – – 69 – – – 69 2 (13) – (11) – 3 3 (8) Included within the 2015 results are discontinued operations consisting of a £5m charge (2014: £nil) relating to deﬁ ned beneﬁ t schemes and a £8m charge (2014: £8m charge) relating to deﬁ ned contribution schemes. The amounts recognised in the balance sheet are as follows: All ﬁ gures in £ millions Fair value of plan assets Present value of deﬁ ned beneﬁ t obligation 2015 UK Group plan Other funded plans Other unfunded plans Total UK Group plan Other funded plans Other unfunded plans 2,803 135 – 2,938 2,714 164 – 2,878 (2,466) (157) (18) (2,641) (2,524) (196) (23) (2,743) Net pension asset/(liability) 337 (22) (18) 297 190 (32) (23) 135 Other post-retirement medical beneﬁ t obligation Other pension accruals Net retirement beneﬁ t asset Analysed as: Retirement beneﬁ t assets Retirement beneﬁ t obligations (76) (23) 198 337 (139) (81) (27) 27 190 (163) 93 (18) 4 79 (110) 109 (1) 78 2014 Total O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 194 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 25. Retirement beneﬁ t and other post-retirement obligations continued Financial statement information continued The following gains/(losses) have been recognised in other comprehensive income: All ﬁ gures in £ millions Amounts recognised for deﬁ ned beneﬁ t plans Amounts recognised for post-retirement medical beneﬁ t plans Total recognised in year The fair value of plan assets comprises the following: 2015 104 6 110 All ﬁ gures in % Equities Bonds Property Qualifying investment fund Other UK Group plan Other funded plans 12 8 9 50 17 2 2 – – – 2015 Total 14 10 9 50 17 UK Group plan Other funded plans 26 42 9 – 17 2 3 – – 1 2014 36 (13) 23 2014 Total 28 45 9 – 18 The plan assets do not include any of the Group’s own ﬁ nancial instruments, or any property occupied by the Group. The table below further disaggregates the UK Group plan assets into additional categories and those assets which have a quoted market price in an active market and those that do not: All ﬁ gures in % UK equities Non-UK equities Fixed-interest securities Index-linked securities Property Qualifying investment fund Other Total The liquidity proﬁ le of the UK Group plan assets is as follows: All ﬁ gures in % Liquid – call <1 month Less liquid – call 1–3 months Liquid – call >3 months 2015 2014 Quoted market price No quoted market price Quoted market price No quoted market price – 11 6 4 – 50 – 71 1 2 – – 9 – 17 29 5 20 19 26 – – – 70 1 2 – – 9 – 18 30 2015 2014 73 2 25 72 2 26 Section 5 Financial statements 195 25. Retirement beneﬁ t and other post-retirement obligations continued Financial statement information continued Changes in the values of plan assets and liabilities of the retirement beneﬁ t plans are as follows: All ﬁ gures in £ millions Fair value of plan assets UK Group plan Other plans 2015 Total UK Group plan Other plans 2014 Total Opening fair value of plan assets 2,714 164 2,878 2,353 156 2,509 Exchange diﬀ erences Interest on plan assets Return on plans assets excluding interest Contributions by employer Contributions by employee Beneﬁ ts paid Transfer – 98 (8) 72 2 (95) 20 Closing fair value of plan assets 2,803 Present value of deﬁ ned beneﬁ t obligation 2 5 (4) 5 – (17) (20) 135 2 103 (12) 77 2 (112) – – 103 286 62 2 (92) – 2,938 2,714 4 7 9 4 – (16) – 164 4 110 295 66 2 (108) – 2,878 Opening deﬁ ned beneﬁ t obligation (2,524) (219) (2,743) (2,267) (191) (2,458) Exchange diﬀ erences Current service cost Administration expenses Curtailments Interest cost Actuarial gains/(losses) – experience Actuarial gains/(losses) – demographic Actuarial gains/(losses) – ﬁ nancial Contributions by employee Transfer Beneﬁ ts paid – (20) (5) 3 (90) 107 (33) 33 (2) (30) 95 (3) (2) – – (7) 2 1 6 – 30 17 (3) (22) (5) 3 (97) 109 (32) 39 (2) – 112 – (20) (4) 5 (98) 11 – (5) (2) – – (8) (1) (8) (5) (22) (4) 5 (106) 10 (8) (241) (20) (261) (2) – 92 – – 16 (2) – 108 Closing deﬁ ned beneﬁ t obligation (2,466) (175) (2,641) (2,524) (219) (2,743) The weighted average duration of the deﬁ ned beneﬁ t obligation is 17.1 years for the UK and 8.7 years for the US. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 196 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 25. Retirement beneﬁ t and other post-retirement obligations continued Financial statement information continued Changes in the value of the US PRMB are as follows: All ﬁ gures in £ millions Opening deﬁ ned beneﬁ t obligation Exchange diﬀ erences Current service cost Curtailments Interest cost Actuarial gains/(losses) – experience Actuarial gains/(losses) – demographic Actuarial gains/(losses) – ﬁ nancial Beneﬁ ts paid Closing deﬁ ned beneﬁ t obligation 2015 (81) (3) – – (2) 2 2 2 4 2014 (77) (4) (2) 13 (3) – (7) (6) 5 (76) (81) Funding The UK Group plan is self-administered with the plan’s assets being held independently of the Group in trust. The trustee of the plan is required to act in the best interest of the plan’s beneﬁ ciaries. The most recent triennial actuarial valuation for funding purposes was completed as at 1 January 2015 and this valuation revealed a technical provisions funding shortfall of £27m which was eliminated by contributions paid during 2015. As a consequence of the disposal of the FT Group, an agreement has been made between Pearson and the Plan Trustee to accelerate the funding of the plan so that it becomes fully funded on a ‘self-suﬃ ciency’ basis in the near future. This is a much higher level of funding than technical provisions. As a result the plan expects to be able to provide beneﬁ ts (in accordance with the plan rules) with a very low level of reliance on future funding from Pearson. A commitment has also been made to maintain that level of funding in future years. In addition to a substantial company contribution following the Penguin Random House merger (to be paid before July 2017), an upfront contribution will be made to the plan following the disposal of the FT Group. This is expected to be approximately £90m and there will be further annual contributions to eliminate any remaining shortfall in the self-suﬃ ciency funding. At 31 December 2015, assets of the plan are divided into two elements: matching assets, which are assets that produce cash ﬂ ows that can be expected to match the cash ﬂ ows for a proportion of the membership, and include a Liability Driven investment mandate (UK Bonds, interest rate/inﬂ ation swaps and other derivative instruments), inﬂ ation-linked property and infrastructure; and return seeking assets, which are assets invested with a longer-term horizon to generate the returns needed to provide the remaining expected cash ﬂ ows for the beneﬁ ciaries, and include equities, property and alternative asset classes. During the fourth quarter of 2015 the plan’s long-term investment strategy was updated to an allocation of 84.2% Matching Assets and 15.8% Return Seeking Assets as at 31 December 2015. Regular contributions to the plan in respect of the deﬁ ned beneﬁ t sections are estimated to be £8m for 2016. The Group expects to contribute $10m in 2016 and $10m in 2017 to its US deﬁ ned beneﬁ t pension plans. Section 5 Financial statements 197 25. Retirement beneﬁ t and other post-retirement obligations continued Sensitivities The eﬀ ect of a one percentage point increase and decrease in the discount rate on the deﬁ ned beneﬁ t obligation and the total pension expense is as follows: All ﬁ gures in £ millions Eﬀ ect: 2015 1% increase 1% decrease (Decrease)/increase in deﬁ ned beneﬁ t obligation – UK Group plan (Decrease)/increase in deﬁ ned beneﬁ t obligation – US plan (372) (16) The eﬀ ect of members living one year more or one year less on the deﬁ ned beneﬁ t obligation is as follows: 495 19 2015 All ﬁ gures in £ millions Eﬀ ect: Increase/(decrease) in deﬁ ned beneﬁ t obligation – UK Group plan Increase/(decrease) in deﬁ ned beneﬁ t obligation – US plan The eﬀ ect of a half percentage point increase and decrease in the inﬂ ation rate is as follows: All ﬁ gures in £ millions Eﬀ ect: Increase/(decrease) in deﬁ ned beneﬁ t obligation – UK Group plan Increase/(decrease) in deﬁ ned beneﬁ t obligation – US plan 1 year increase 1 year decrease 100 7 (96) (7) 2015 0.5% increase 0.5% decrease 113 – (103) – The above sensitivity analyses are based on a change in an assumption while holding all other assumptions constant, although in practice this is unlikely to occur and changes in some assumptions may be correlated. When calculating these sensitivities the same method has been applied to calculate the deﬁ ned beneﬁ t obligation as has been applied when calculating the liability recognised in the balance sheet. This methodology is the same as prior periods. 26. Share-based payments The Group recognised the following charges in the income statement in respect of its equity-settled share-based payment plans: All ﬁ gures in £ millions Pearson plans 2015 26 2014 32 Share-based payment charges included in discontinued operations amounted to £3m (2014: £3m). The Group operates the following equity-settled employee option and share plans: Worldwide Save for Shares Plan Since 1994, the Group has operated a Save-As-You-Earn plan for UK employees. In 1998, the Group introduced a Worldwide Save for Shares Plan. Under these plans, employees can save a portion of their monthly salary over periods of three or ﬁ ve years. At the end of this period, the employee has the option to purchase ordinary shares with the accumulated funds at a purchase price equal to 80% of the market price prevailing at the time of the commencement of the employee’s participation in the plan. Options that are not exercised within six months of the end of the savings period lapse unconditionally. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 198 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 26. Share-based payments continued Employee Stock Purchase Plan In 2000, the Group established an Employee Stock Purchase Plan which allows all employees in the US to save a portion of their monthly salary over six-month periods. At the end of the period, the employee has the option to purchase ADRs with their accumulated funds at a purchase price equal to 85% of the lower of the market price prevailing at the beginning or end of the period. Long-Term Incentive Plan This plan was ﬁ rst introduced in 2001, renewed in 2006 and again in 2011. The plan consists of(cid:98)restricted shares. The vesting of restricted shares is normally dependent on continuing service over a three to ﬁ ve-year period, and in the case of senior management upon the satisfaction of corporate performance targets over a three-year period. These targets may be based on market and/or non-market performance criteria. Restricted shares awarded to senior management in May 2014 and May 2015 vest dependent on relative total shareholder return, return on invested capital and earnings per share growth. Restricted shares awarded to senior management in November 2014 vest dependent on earnings per share growth. Other restricted shares awarded in 2014 and 2015 vest depending on continuing service over a three-year period. The number and weighted average exercise prices of share options granted under the Group’s plans are as follows: Outstanding at beginning of year Granted during the year Exercised during the year Forfeited during the year Expired during the year Outstanding at end of year Options exercisable at end of year 2015 Weighted average exercise price £ 8.48 11.49 8.78 9.12 8.85 9.24 8.89 Number of share options 000s 2,792 1,985 (727) (538) (5) 3,507 43 2014 Weighted average exercise price £ 8.73 8.11 8.24 8.76 7.43 8.48 8.24 Number of share options 000s 3,507 1,024 (578) (696) (7) 3,250 138 Options were exercised regularly throughout the year. The weighted average share price during the year was £11.86 (2014: £11.41). Early exercises arising from redundancy, retirement or death are treated as an acceleration of vesting and the Group therefore recognises in the income statement the amount that otherwise would have been recognised for services received over the remainder of the original vesting period. The options outstanding at the end of the year have weighted average remaining contractual lives and exercise prices as follows: Range of exercise prices £ 0–5 5–10 >10 2015 Weighted average contractual life Years – 2.08 3.26 2.40 Number of share options 000s – 3,507 – 3,507 2014 Weighted average contractual life Years – 2.68 – 2.68 Number of share options 000s – 2,361 889 3,250 In 2015 and 2014 options were granted under the Worldwide Save for Shares Plan. The weighted average estimated fair value for the options granted was calculated using a Black-Scholes option pricing model. Section 5 Financial statements 199 26. Share-based payments continued The weighted average estimated fair values and the inputs into the Black-Scholes model are as follows: Fair value Weighted average share price Weighted average exercise price Expected volatility Expected life Risk-free rate Expected dividend yield Forfeiture rate 2015 Weighted average 2014 Weighted average £1.99 £13.37 £11.49 £2.41 £11.09 £8.11 23.00% 21.27% 3.7 years 3.9 years 0.90% 4.44% 3.2% 1.3% 4.33% 3.4% The expected volatility is based on the historical volatility of the company’s share price over the previous three to seven years depending on the vesting term of the options. The following shares were granted under restricted share arrangements: Long-Term Incentive Plan 2015 Weighted average fair value £ Number of shares 000s 2014 Weighted average fair value £ Number of shares 000s 1,942 12.27 5,875 11.44 The fair value of shares granted under the Long-Term Incentive Plan that vest unconditionally is determined using the share price at the date of grant. The number of shares expected to vest is adjusted, based on historical experience, to(cid:98)account for potential forfeitures. Restricted shares granted under the Annual Bonus Share Matching Plan are valued using the share price at the date of grant. Participants under both plans are entitled to dividends during the vesting period and therefore the share price is not discounted. Restricted shares with a market performance condition were valued by an independent actuary using a Monte Carlo model. Restricted shares with a non-market performance condition were fair valued based on the share price at the date of grant. Non-market performance conditions are taken into consideration by adjusting the number of shares expected to vest based on the most likely outcome of the relevant performance criteria. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 200 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 27. Share capital and share premium At 1 January 2014 Issue of ordinary shares – share option schemes At 31 December 2014 Issue of ordinary shares – share option schemes At 31 December 2015 Number of shares 000s Ordinary shares £m Share premium £m 818,580 1,303 819,883 1,185 821,068 205 – 205 – 205 2,568 11 2,579 11 2,590 The ordinary shares have a par value of 25p per share (2014: 25p per share). All issued shares are fully paid. All shares have the same rights. The Group manages its capital to ensure that entities in the Group will be able to continue as a going concern while maximising the return to shareholders through the optimisation of the debt and equity balance. The capital structure of the Group consists of debt (see note 18), cash and cash equivalents (see note 17) and equity attributable to equity holders of the parent, comprising issued capital, reserves and retained earnings. The Group reviews its capital structure on a regular basis and will balance its overall capital structure through payments of dividends, new share issues as well as the issue of new debt or the redemption of existing debt in line with the ﬁ nancial risk policies outlined in note 19. 28. Treasury shares At 1 January 2014 Purchase of treasury shares Release of treasury shares At 31 December 2014 Purchase of treasury shares Release of treasury shares At 31 December 2015 Number of shares 000s 9,282 907 (2,997) 7,192 1,987 (2,474) 6,705 Pearson plc £m 98 9 (32) 75 23 (26) 72 The Group holds Pearson plc shares in trust to satisfy its obligations under its restricted share plans (see note 26). These shares, representing 0.8% (2014: 0.9%) of called-up share capital, are treated as treasury shares for accounting purposes and have a par value of 25p per share. The nominal value of Pearson plc treasury shares amounts to £1.7m (2014: £1.8m). At 31 December 2015 the market value of Pearson plc treasury shares was £49.3m (2014: £85.6m). Section 5 Financial statements 201 Attributable to equity holders of the company Translation reserve Retained earnings Total Non- controlling interest 2015 Total (83) (2) (85) – – – 5 110 8 (24) 99 16 (10) 5 110 8 (24) 22 – – – – – – (2) 29. Other comprehensive income All ﬁ gures in £ millions Items that may be reclassiﬁ ed to the income statement Net exchange diﬀ erences on translation of foreign operations – Group Net exchange diﬀ erences on translation of foreign operations – associate Currency translation adjustment disposed – subsidiaries Attributable tax Items that are not reclassiﬁ ed to the income statement Remeasurement of retirement beneﬁ t obligations – Group Remeasurement of retirement beneﬁ t obligations – associate Attributable tax Other comprehensive expense for the year (77) Attributable to equity holders of the company Translation reserve Retained earnings Total Non- controlling interest All ﬁ gures in £ millions Items that may be reclassiﬁ ed to the income statement Net exchange diﬀ erences on translation of foreign operations – Group Net exchange diﬀ erences on translation of foreign operations – associate Currency translation adjustment disposed – subsidiaries Attributable tax Items that are not reclassiﬁ ed to the income statement Remeasurement of retirement beneﬁ t obligations – Group Remeasurement of retirement beneﬁ t obligations – associate Attributable tax Other comprehensive expense for the year 173 – – – (6) 23 (15) (1) 1 150 25 (2) (6) 23 (15) (1) 174 – – – – – – – – (83) 16 (10) – – – – 150 25 (2) – – – – O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 16 (10) 5 110 8 (24) 20 2014 Total 150 25 (2) (6) 23 (15) (1) 174 202 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 30. Business combinations There were no signiﬁ cant acquisitions in 2015. On 11 February 2014, the Group acquired 100% of Grupo Multi, the leading adult English language training company in Brazil. Fair values for the assets and liabilities arising from the Grupo Multi acquisition and other smaller acquisitions completed in the year are set out below. Fair values for the assets and liabilities arising from acquisitions completed in the year are as follows: All ﬁ gures in £ millions Property, plant and equipment Intangible assets Intangible assets – pre-publication Inventories Trade and other receivables Cash and cash equivalents (excluding overdrafts) Financial liabilities – borrowings Provisions for other liabilities and charges Trade and other liabilities Current income tax liabilities Net assets acquired at fair value Goodwill Total Satisﬁ ed by: Cash Total consideration 2015 2014 Notes Total fair value Total fair value 10 11 20 23 11 – 1 – – – – – – – – 1 – 1 2 260 1 4 36 3 (49) (14) (24) (20) 199 238 437 (1) (1) (437) (437) The goodwill arising on these acquisitions results from cost and revenue synergies and from assets and beneﬁ ts that cannot be separately recognised. There is no goodwill arising on 2015 acquisitions. Goodwill of £240m arising on 2014 acquisitions is expected to be deductible for tax purposes. Intangible assets acquired in 2014 have the following useful economic lives: customer lists, contracts and relationships four years; trademarks and brands 20 years, and other acquired intangibles 12 years. All ﬁ gures in £ millions Cash ﬂ ow on acquisitions Cash – current year acquisitions Deferred payments for prior year acquisitions and other items Cash and cash equivalents acquired Acquisition costs and other acquisition liabilities paid Net cash outﬂ ow 2015 2014 (1) (6) – (2) (9) (437) (5) 3 (9) (448) Section 5 Financial statements 203 31. Disposals including business closures All ﬁ gures in £ millions FT Group PowerSchool Other Total Mergermarket Penguin Other Total 2015 2014 Disposal of subsidiaries Property, plant and equipment Intangible assets Investments in joint ventures and associates Intangible assets – pre-publication Inventories (15) (46) (8) – (1) (2) (19) – (64) – – (5) – – – Trade and other receivables (72) (16) (3) (17) (70) (8) (64) (1) (91) (29) (2) 7 2 109 1 – (50) 4 (100) 858 – (47) 711 – – – – 35 – – (4) (33) 3 – – 6 – – 1 7 2 150 1 – (119) (6) (175) 6 (179) 222 – (13) 30 10 (9) (288) 9 1,089 – (9) (9) – (69) 732 Cash and cash equivalents (excluding overdrafts) Net deferred income tax (assets)/liabilities Retirement beneﬁ t obligations Provisions for other liabilities and charges Trade and other liabilities Current income tax liabilities Non-controlling interest Attributable goodwill Cumulative translation adjustment Net assets disposed Cash received Deferred proceeds Costs Gain/(loss) on disposal All ﬁ gures in £ millions Cash ﬂ ow from disposals Cash – current year disposals Cash and cash equivalents disposed Costs and other disposal liabilities paid Net cash inﬂ ow (2) (12) – – – (23) (19) 1 – 4 69 6 – (156) 2 (130) 375 – (1) 244 – – – – – – – – – – – – – – – – – – 29 29 (1) – – – – (3) (12) – – – (2) (25) (11) (30) – – – 12 – (2) (1) 1 – 4 81 6 (2) (157) 2 (5) (135) – 6 (2) (1) 375 6 26 272 2015 2014 1,089 (33) (26) 1,030 375 (30) (18) 327 Included in the gain on sale of PowerSchool is the write down of related software assets of £70m. The write down of the software assets reﬂ ects the reduced market opportunity for software which was to be integrated with PowerSchool and the recognition that adoption of such software in US schools is now unlikely to occur at the rate originally envisaged. Disposal of associates On 16 October 2015, the Group sold 39% of its 50% stake in The Economist resulting in a gain on disposal of £473m. The gain comprises proceeds of £377m, gain on revaluation of remaining 11% investment to fair value of £92m and liabilities disposed of £4m. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 204 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 32. Cash generated from operations All ﬁ gures in £ millions Proﬁ t Adjustments for: Income tax Depreciation Amortisation and impairment of acquired intangibles and goodwill Amortisation of software Net ﬁ nance costs Share of results of joint ventures and associates Proﬁ t on disposal of subsidiaries, associates, investments and ﬁ xed assets Acquisition costs Net foreign exchange adjustment from transactions Share-based payment costs Pre-publication Inventories Trade and other receivables Trade and other liabilities Retirement beneﬁ t obligations Provisions for other liabilities and charges Net cash generated from operations Dividends from joint ventures and associates Purchase of property, plant and equipment Purchase of intangible assets Proceeds from sale of property, plant and equipment Proceeds from sale of intangible assets Finance lease principal payments Operating cash ﬂ ow Operating tax paid Net operating ﬁ nance costs paid Operating free cash ﬂ ow Non operating tax paid Free cash ﬂ ow Dividends paid (including to non-controlling interests) Net movement of funds from operations Acquisitions and disposals Loans repaid/(advanced) (including to related parties) Purchase of treasury shares New equity Other movements on ﬁ nancial instruments Net movement of funds Exchange movements on net debt Total movement in net debt Notes 10 11 11 12 26 28 2015 823 (24) 75 1,051 74 29 (68) (1,194) – 22 26 (57) 10 (99) (80) (57) (13) 518 162 (86) (161) 2 1 (1) 435 (129) (51) 255 (103) 152 (423) (271) 1,395 7 (23) 11 (1) 1,118 (133) 985 2014 470 110 74 264 63 93 (51) (272) 6 27 32 (52) 6 (69) 72 (58) (11) 704 120 (75) (107) 9 2 (4) 649 (163) (73) 413 – 413 (398) 15 (137) (12) (9) 11 15 (117) (143) (260) Section 5 Financial statements 205 32. Cash generated from operations continued Net cash generated from operations is translated at an exchange rate approximating the rate at the date of cash ﬂ ow. The diﬀ erence between this rate and the average rate used to translate proﬁ t gives rise to a currency adjustment in the reconciliation between net proﬁ t and net cash generated from operations. This adjustment reﬂ ects the timing diﬀ erence between recognition of proﬁ t and the related cash receipts or payments. Operating cash ﬂ ow, operating free cash ﬂ ow and total free cash ﬂ ow are non-GAAP measures and have been disclosed as they are part of Pearson’s corporate and operating measures. In the cash ﬂ ow statement, proceeds from sale of property, plant and equipment comprise: All ﬁ gures in £ millions Net book amount Loss on sale of property, plant and equipment Proceeds from sale of property, plant and equipment 33. Contingencies 2015 2014 6 (4) 2 12 (3) 9 There are contingent Group liabilities that arise in the normal course of business in respect of indemnities, warranties and guarantees in relation to former subsidiaries and in respect of guarantees in relation to subsidiaries, joint ventures and associates. In addition there are contingent liabilities of the Group in respect of legal claims, contract disputes, royalties, copyright fees, permissions and other rights. None of these claims are expected to result in a material gain or(cid:98)loss to the Group. 34. Commitments At the balance sheet date there were no commitments for capital expenditure contracted for but not yet incurred. The Group leases various oﬃ ces and warehouses under non-cancellable operating lease agreements. The leases have varying terms and renewal rights. The Group also leases various plant and equipment under operating lease agreements, also with varying terms. Lease expenditure charged to the income statement was £156m (2014: £157m). The future aggregate minimum lease payments in respect of operating leases are as follows: All ﬁ gures in £ millions Not later than one year Later than one year and not later than two years Later than two years and not later than three years Later than three years and not later than four years Later than four years and not later than ﬁ ve years Later than ﬁ ve years 2015 164 146 143 130 123 685 2014 161 150 126 122 115 701 1,391 1,375 O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 206 Pearson plc Annual report and accounts 2015 Notes to the consolidated ﬁ nancial statements continued 35. Related party transactions Joint ventures and associates Amounts advanced to joint ventures and associates during the year and at the balance sheet date are set out in note 12. Apart from transactions with the Group’s joint ventures and associates, there were no other material related party transactions. Key management personnel Key management personnel are deemed to be the members of the Pearson Executive (see page 7). It is this committee which had responsibility for planning, directing and controlling the activities of the Group in 2015. Key management personnel compensation is disclosed below: All ﬁ gures in £millions Short-term employee beneﬁ ts Retirement beneﬁ ts Share-based payment costs Total 2015 7 1 1 9 2014 10 1 2 13 There were no other material related party transactions. No guarantees have been provided to related parties. 36. Events after the balance sheet date In January 2016, Pearson announced that it was embarking on a restructuring programme to simplify the business, reduce costs and position the company for growth in its major markets. The majority of the programme is expected to be complete by mid-year 2016 and will involve implementation costs in 2016 of approximately £320m. Section 5 Financial statements 207 37. Accounts and audit exemptions The Pearson plc subsidiary companies listed below are exempt from the requirements of the Companies Act 2006 relating to the audit of individual accounts by virtue of section 479A. Company number Company number 00872828 07970304 02911143 07210654 03099304 07679091 06337129 03755464 Aldwych Finance Limited 04720439 Pearson Education Limited ASET Limited ASET Group Limited 04231636 Pearson Funding Four plc 03964551 Pearson Funding One plc ASET Management Limited 03139404 Pearson Funding Two plc Blue Wharf Limited 04344573 Pearson Heinemann Limited Burmedia Investments Limited 03060487 Pearson in Practice ATA Limited Edexcel Limited 04496750 Pearson in Practice Holdings Limited Education Development International plc 03914767 Embankment Finance Limited EQL Assessment Limited Green Wharf Limited Icodeon Limited 04460625 05224778 07009228 05068195 Pearson in Practice Skills Based Learning Limited Pearson in Practice Technology Limited 03786989 Pearson International Finance Limited 02496206 Pearson Loan Finance No. 2 Unlimited 05632021 Longman Group (Overseas Holdings) Limited Pearson Loan Finance No. 3 Limited 00690236 Pearson Loan Finance No. 4 Limited Midlands Educational Technology Limited 01448842 Pearson Loan Finance Unlimited 05052661 02635107 05144467 Pearson Aﬀ ordable Learning Fund Limited 08038068 Pearson Management Services Limited 00096263 Pearson Amsterdam Finance Limited 03041245 Pearson Overseas Holdings Limited Pearson Australia Finance Unlimited 05578463 Pearson PRH Holdings Limited Pearson Books Limited 02512075 Pearson Services Limited Pearson Brazil Finance Ltd 08848874 Pearson Shared Services Limited Pearson Canada Finance Unlimited 05578491 Testchange Limited Pearson Dollar Finance plc 05111013 The Coaching Space Limited Pearson Dollar Finance Two plc 06507766 TQ Catalis Limited Pearson Education Holdings Limited 00210859 TQ Clapham Limited Pearson Education Investments Limited 08444933 TQ Global Limited 00145205 08561316 01341060 04623186 02496240 05333023 07307943 07307925 07802458 O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 208 Pearson plc Annual report and accounts 2015 Company balance sheet As at 31 December 2015 All ﬁ gures in £ millions Assets Non-current assets Investments in subsidiaries Amounts due from subsidiaries Financial assets – derivative ﬁ nancial instruments Other ﬁ nancial assets Current assets Amounts due from subsidiaries Amounts due from related parties Current income tax assets Financial assets – derivative ﬁ nancial instruments Cash and cash equivalents (excluding overdrafts) Other assets Total assets Liabilities Non-current liabilities Amounts due to subsidiaries Financial liabilities – borrowings Financial liabilities – derivative ﬁ nancial instruments Current liabilities Amounts due to subsidiaries Current income tax liabilities Financial liabilities – borrowings Financial liabilities – derivative ﬁ nancial instruments Other liabilities Total liabilities Net assets Equity Share capital Share premium Treasury shares Special reserve Retained earnings Total equity attributable to equity holders of the company Notes 2015 2014 2 6 7 6 4 5 6 5 6 8 8 9 7,744 3,953 78 92 8,740 27 84 – 11,867 8,851 446 47 – 3 1,168 – 1,664 13,531 5,220 54 28 24 13 2 5,341 14,192 (3,760) (2,346) (218) (136) (210) (73) (4,114) (2,629) (1,431) (4,414) (108) (580) (29) (12) (2,160) (6,274) 7,257 205 2,590 (27) 447 4,042 7,257 – (629) (1) (2) (5,046) (7,675) 6,517 205 2,579 1 447 3,285 6,517 These ﬁ nancial statements have been approved for issue by the board of directors on 4 March 2016 and signed on its behalf by Coram Williams Chief ﬁ nancial oﬃ cer Company statement of changes in equity Year ended 31 December 2015 Section 5 Financial statements 209 All ﬁ gures in £ millions At 1 January 2015 Proﬁ t for the year Issue of ordinary shares under share option schemes* Purchase of treasury shares Contribution refund to subsidiaries Release of treasury shares Dividends At 31 December 2015 All ﬁ gures in £ millions At 1 January 2014 Proﬁ t for the year Issue of ordinary shares under share option schemes* Purchase of treasury shares Release of treasury shares Dividends At 31 December 2014 Equity attributable to equity holders of the company Share capital Share premium Treasury shares Special reserve Retained earnings 205 2,579 – – – – – – – 11 – – – – 205 2,590 1 – – (23) (31) 26 – (27) 447 – – – – – – 3,285 1,206 – – – (26) (423) 447 4,042 Total 6,517 1,206 11 (23) (31) – (423) 7,257 Equity attributable to equity holders of the company Share capital Share premium Treasury shares Special reserve Retained earnings 205 2,568 (22) 447 – – – – – – 11 – – – 205 2,579 – – (9) 32 – 1 2,447 1,267 – – (32) (397) – – – – – 447 3,285 Total 5,645 1,267 11 (9) – (397) 6,517 The special reserve represents the cumulative eﬀ ect of cancellation of the company’s share premium account. Included within retained earnings is an amount of £162m (2014: £131m) relating to proﬁ t on intra-Group disposals that is(cid:98)not distributable. * Full details of the share-based payment plans are disclosed in note 26 to the consolidated ﬁ nancial statements. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 210 Pearson plc Annual report and accounts 2015 Company cash ﬂ ow statement Year ended 31 December 2015 All ﬁ gures in £ millions Cash ﬂ ows from operating activities Net proﬁ t Adjustments for: Income tax Net ﬁ nance costs Impairment charges Proﬁ t on disposals Amounts due to subsidiaries Net cash generated from operations Interest paid Tax received Net cash generated from operating activities Cash ﬂ ows from investing activities Disposal of subsidiaries, net of cash disposed Loans repaid by/(advanced to) related parties Interest received Net cash received from investing activities Cash ﬂ ows from ﬁ nancing activities Proceeds from issue of ordinary shares Net purchase of treasury shares Proceeds from/(repayment of) borrowings Dividends paid to company’s shareholders Net cash used in ﬁ nancing activities Eﬀ ects of exchange rate changes on cash and cash equivalents Net increase/(decrease) in cash and cash equivalents Cash and cash equivalents at beginning of year Cash and cash equivalents at end of year Notes 2015 2014 1,206 1,267 (154) 68 736 (279) (909) 668 (56) 289 901 747 7 11 765 11 (53) 17 (423) (448) (14) 1,204 (616) 588 (9) 24 – – (1,058) 224 (73) 6 157 – (10) 15 5 11 (9) (250) (397) (645) (15) (498) (118) (616) 8 4 Notes to the company ﬁ nancial statements Section 5 Financial statements 211 1. Accounting policies The ﬁ nancial statements on pages 208 to 221 comprise the separate ﬁ nancial statements of Pearson plc. As permitted by section 408 of the Companies Act 2006, only the consolidated income statement and statement of(cid:98)comprehensive income have been presented. The company has no employees. The accounting policies applied in the preparation of these company ﬁ nancial statements are the same as those set out in note 1 to the consolidated ﬁ nancial statements with the addition of the following: Investments Investments in subsidiaries are stated at cost less provision for impairment, with the exception of certain hedged investments that are held in a foreign currency and revalued at each balance sheet date. 2. Investments in subsidiaries All ﬁ gures in £ millions At beginning of year Subscription for share capital in subsidiaries Disposals/liquidations Impairments Currency revaluations At end of year 2015 8,740 120 (444) (736) 64 2014 8,537 138 – – 65 7,744 8,740 Impairments relate to the carrying value of intermediate holding company investments following impairment reviews, and subsequent impairment of assets, in emerging markets. 3. Financial risk management The company’s ﬁ nancial instruments comprise amounts due to/from subsidiary undertakings, cash and cash equivalents, derivative ﬁ nancial instruments and current and non-current borrowings. Derivative ﬁ nancial instruments are held at fair value, with all other ﬁ nancial instruments held at amortised cost. The company’s approach to the management of ﬁ nancial risks is consistent with the Group’s treasury policy, as discussed in note 19 to the consolidated ﬁ nancial statements. The company believes the value of its ﬁ nancial assets to be fully recoverable. The company designates certain qualifying derivative ﬁ nancial instruments as hedges of the fair value of its bonds (fair value hedges). Changes in the fair value of these derivative ﬁ nancial instruments are recorded in the income statement, together with any change in the fair value of the hedged liability attributable to the hedged risk. The carrying value of the company’s ﬁ nancial instruments is exposed to movements in interest rates and foreign currency exchange rates (primarily US dollars). The company estimates that a 1% increase in interest rates would result in a £93m decrease in the carrying value of its ﬁ nancial instruments, with a 1% decrease in interest rates resulting in a £99m increase in their carrying value. The company also estimates that a 10% strengthening in sterling would decrease the carrying value of its ﬁ nancial instruments by £182m, while a 10% weakening in the value of sterling would increase the carrying value by £100m. These increases and decreases in carrying value would be recorded through the income statement. Sensitivities are calculated using estimation techniques such as discounted cash ﬂ ow and option valuation models. Where modelling an interest rate decrease of 1% led to negative interest rates, these points on the yield curve were adjusted to 0%. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 212 Pearson plc Annual report and accounts 2015 Notes to the company ﬁ nancial statements continued 3. Financial risk management continued The maturity of contracted cash ﬂ ows on the company’s borrowings and all of its derivative ﬁ nancial instruments are as(cid:98)follows: All ﬁ gures in £ millions Not later than one year Later than one year and not later than ﬁ ve years Later than ﬁ ve years Total Analysed as: Bonds Rate derivatives – inﬂ ows Rate derivatives – outﬂ ows Total All ﬁ gures in £ millions Not later than one year Later than one year and not later than ﬁ ve years Later than ﬁ ve years Total Analysed as: Bonds Rate derivatives – inﬂ ows Rate derivatives – outﬂ ows Total USD 70 202 853 1,125 227 (257) 1,155 1,125 USD 172 224 418 814 224 (303) 893 814 – – – – – (858) 858 – GBP (212) – – (212) – (656) 444 (212) GBP Other (60) (48) (769) (877) 2015 Total 10 154 84 248 – 227 (919) (2,034) 42 (877) 2,055 248 Other (16) (97) (403) (516) 2014 Total (56) 127 15 86 – 224 (537) (1,496) 21 (516) 1,358 86 All cash ﬂ ow projections shown above are on an undiscounted basis. Any cash ﬂ ows based on a ﬂ oating rate are calculated using interest rates as set at the date of the last rate reset. Where this is not possible, ﬂ oating rates are based on interest rates prevailing at 31 December in the relevant year. All derivative amounts are shown gross, although the company net settles these amounts wherever possible. Any amounts drawn under revolving credit facilities and commercial paper are assumed to mature at the maturity date of the relevant facility, with interest calculated as payable in each calendar year up to and including the date of maturity of the facility. Section 5 Financial statements 213 4. Cash and cash equivalents (excluding overdrafts) All ﬁ gures in £ millions Cash at bank and in hand Short-term bank deposits 2015 98 1,070 1,168 2014 2 11 13 Short-term bank deposits are invested with banks and earn interest at the prevailing short-term deposit rates. At the end of 2015 the currency split of cash and cash equivalents was US dollar 10% (2014: 33%), sterling 90% (2014: 54%) and other 0% (2014: 13%). Cash and cash equivalents have fair values that approximate their carrying amounts due to their short-term nature. Cash and cash equivalents include the following for the purpose of the cash ﬂ ow statement: All ﬁ gures in £ millions Cash and cash equivalents Bank overdrafts 5. Financial liabilities – borrowings All ﬁ gures in £ millions Non-current 4.625% US dollar notes 2018 (nominal amount $300m) Current Due within one year or on-demand: Bank loans and overdrafts Total borrowings 2015 1,168 (580) 588 2014 13 (629) (616) 2015 2014 218 218 580 580 798 210 210 629 629 839 O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 214 Pearson plc Annual report and accounts 2015 Notes to the company ﬁ nancial statements continued 5. Financial liabilities – borrowings continued The maturity of the company’s non-current borrowings is as follows: All ﬁ gures in £ millions Between one and two years Between two and ﬁ ve years Over ﬁ ve years 2015 – 218 – 218 2014 – 210 – 210 As at 31 December 2015 the exposure to interest rate changes of the borrowings and amounts due to subsidiaries when the borrowings re-price is as follows: All ﬁ gures in £ millions Re-pricing proﬁ le of borrowings Amounts due to subsidiaries Eﬀ ect of rate derivatives The carrying amounts and market values of borrowings are as follows: Less than one year One to ﬁ ve years More than ﬁ ve years 218 1,868 Total 798 – 1,892 5,191 (33) (1,416) – 2,053 476 5,989 580 1,431 1,449 3,460 2015 All ﬁ gures in £ millions Bank loans and overdrafts 4.625% US dollar notes 2018 Eﬀ ective interest rate Carrying amount Market value Eﬀ ective interest rate Carrying amount n/a 4.69% 580 218 798 580 213 793 n/a 4.69% 629 210 839 2014 Market value 629 205 834 The market values are based on clean market prices at the year end or, where these are not available, on the quoted market prices of comparable debt issued by other companies. The eﬀ ective interest rates above relate to the underlying debt instruments. The carrying amounts of the company’s borrowings are denominated in the following currencies: All ﬁ gures in £ millions US dollar Sterling Euro 2015 660 136 2 798 2014 477 354 8 839 Section 5 Financial statements 215 6. Derivative ﬁ nancial instruments The company’s outstanding derivative ﬁ nancial instruments are as follows: All ﬁ gures in £ millions Interest rate derivatives – in a fair value hedge relationship Interest rate derivatives – not in a hedge relationship Cross-currency derivatives Total Analysed as expiring: In less than one year Later than one year and not later than ﬁ ve years Later than ﬁ ve years Total 2015 2014 Gross notional amounts Assets Liabilities Gross notional amounts Assets Liabilities 203 2,597 1,924 4,724 249 1,255 3,220 4,724 70 – 11 81 3 44 34 81 (10) 192 (6) (149) (165) 2,404 952 3,548 (29) 200 (4) (132) (165) 1,314 2,034 3,548 18 67 23 108 24 61 23 108 – (31) (43) (74) (1) (8) (65) (74) The carrying value of the above derivative ﬁ nancial instruments equals their fair value. Fair values are determined by(cid:98)using market data and the use of established estimation techniques such as discounted cash ﬂ ow and option valuation models. 7. Other ﬁ nancial assets Other ﬁ nancial assets comprise unlisted securities of £92m (2014: £nil). 8. Share capital and share premium At 1 January 2014 Issue of ordinary shares – share option schemes At 31 December 2014 Issue of ordinary shares – share option schemes At 31 December 2015 Number of shares 000s Ordinary shares £m Share premium £m 818,580 1,303 819,883 1,185 821,068 205 – 205 – 205 2,568 11 2,579 11 2,590 The ordinary shares have a par value of 25p per share (2014: 25p per share). All issued shares are fully paid. All shares have the same rights. O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 216 Pearson plc Annual report and accounts 2015 Notes to the company ﬁ nancial statements continued 9. Treasury shares At 1 January 2014 Purchase of treasury shares Release of treasury shares At 31 December 2014 Purchase of treasury shares Refund of contribution to subsidiaries Release of treasury shares At 31 December 2015 Number of shares 000s 9,282 907 (2,997) 7,192 1,987 – (2,474) 6,705 £m 22 9 (32) (1) 23 31 (26) 27 The company holds its own shares in trust to satisfy its obligations under its restricted share plans. These shares are treated as treasury shares for accounting purposes and have a par value of 25p per share. The nominal value of the company’s treasury shares amounts to £1.7m (2014: £1.8m). At 31 December 2015 the market value of the company’s treasury shares was £49.3m (2014: £85.6m). The gross book value of the shares at 31 December 2015 amounts to £72m. This value has been netted oﬀ with contributions received from operating companies of £45m, resulting in a net debit value of £27m. 10. Contingencies There are contingent liabilities that arise in the normal course of business in respect of indemnities, warranties and guarantees in relation to former subsidiaries and in respect of guarantees in relation to subsidiaries. In addition there are contingent liabilities in respect of legal claims. None of these claims are expected to result in a material gain or loss(cid:98)to the company. 11. Audit fees Statutory audit fees relating to the company were £35,000 (2014: £35,000). 12. Related party transactions Subsidiaries The company transacts and has outstanding balances with its subsidiaries. Amounts due from subsidiaries and amounts due to subsidiaries are disclosed on the face of the company balance sheet. These loans are generally unsecured and interest is calculated based on market rates. The company has interest payable to subsidiaries for the year of £150m (2014: £143m) and interest receivable from subsidiaries for the year of £82m (2014: £73m). Management fees payable to subsidiaries in respect of centrally provided services amounted to £80m (2014: £19m). Management fees receivable from subsidiaries in respect of centrally provided services amounted to £70m (2014: £nil). Dividends received from subsidiaries were £1,555m (2014: £1,300m). Associates Amounts due from related parties, disclosed on the face of the company balance sheet, relate to loans to Penguin Random House, an associate of the Group. These loans are unsecured and interest is calculated based on market(cid:98)rates. The amount outstanding at 31 December 2015 was £47m (2014: £54m). The loans are provided under a working capital facility and ﬂ uctuate during the year. The loan outstanding at 31 December 2015 was repaid in its entirety in January 2016. Key management personnel Key management personnel are deemed to be the members of the Pearson Executive. It is this committee which had responsibility for planning, directing and controlling the activities of the company in 2015. Key(cid:98)management personnel compensation is disclosed in note 35 to the consolidated ﬁ nancial statements. There were no other material related party transactions. No guarantees have been provided to related parties. Section 5 Financial statements 217 13. Group companies In accordance with section 409 of the Companies Act 2006 a full list of subsidiaries, partnerships, associates, joint ventures and joint arrangements, the country of incorporation and the eﬀ ective percentage of equity owned, as at 31 December 2015 is disclosed below. Unless otherwise stated the shares are indirectly held by Pearson plc. All wholly-owned subsidiaries are included in the consolidation and all associated undertakings are included in the Group’s ﬁ nancial statements using the equity method of accounting. Principal group companies are identiﬁ ed in bold. Wholly-owned subsidiaries Company name Country of Inc. Company name Country of Inc. US US US US US US US US US US US US US US US US US US US US US US US US US US US US US A Plus Education Solutions Private Limited India Connections Academy of Indiana, LLC Addison Wesley Longman Australia Pty Limited1 Australia Connections Academy of Iowa, LLC Addison Wesley Longman, Inc. Addison-Wesley Educational Publishers Inc. US US Connections Academy of Kansas, LLC Connections Academy of Kentucky, LLC AEL (S) PTE Limited Aldwych Finance Limited America’s Choice, Inc. ASET Group Limited ASET Limited ASET Management Limited ASET Solutions Limited4 ATI Professional Development LLC Atkey Finance Limited Aulis Verwaltungs GmbH Axis Finance Inc. Singapore Connections Academy of Louisiana, LLC UK US UK UK UK UK US Ireland Germany US Connections Academy of Maine, LLC Connections Academy of Maryland, LLC Connections Academy of Massachusetts, LLC Connections Academy of Minnesota, LLC Connections Academy of Missouri, LLC Connections Academy of Nevada, LLC Connections Academy of New Jersey, LLC Connections Academy of New Mexico, LLC Connections Academy of New York, LLC Connections Academy of North Carolina, LLC Beijing Global Education & Technology Co., Ltd. China Connections Academy of Ohio, LLC Beijing Wall Street English Training Centre Company Limited Berrisford Finance Limited Blue Wharf Limited Burmedia Investments Limited2 CA of Michigan, LLC Camsaw College Publishing Company, Inc. Camsaw, Inc. CAMSAWUSA, Inc. Casapsi Livraria e Editora Ltda Centro Cultural Americano Franquias e Comércio Ltda. Century Consultants, Ltd. Certiport China Holding, LLC Certiport, Inc. Cogmed Systems AB Connections Academy of Alaska, LLC Connections Academy of Arizona, LLC Connections Academy of Arkansas, LLC Connections Academy of California, LLC Connections Academy of Colorado, LLC Connections Academy of DC, LLC Connections Academy of Florida, LLC Connections Academy of Georgia, LLC Connections Academy of Idaho, LLC China Ireland UK UK US US US US Brazil Brazil US US US Sweden US US US US US US US US US Connections Academy of Oklahoma, LLC Connections Academy of Oregon, LLC Connections Academy of Pennsylvania LLC Connections Academy of South Carolina, LLC Connections Academy of Tennessee, LLC Connections Academy of Texas, LLC Connections Academy of Utah, LLC Connections Academy of Virginia LLC Connections Academy of Washington LLC Connections Academy of Wisconsin LLC Connections Academy of Wyoming, LLC Connections Education, LLC Connections Education, Inc. CTI Education Group (Pty) Limited South Africa Dale Seymour Publications, Inc. Dominie Press Inc Dorian Finance Limited Dorling Kindersley Australasia Pty Limited E Q L Assessment Limited EBNT Canada Holdings ULC EBNT Holdings Limited EBNT USA Holdings Inc. eCollege.com Edexcel Limited2 US US Ireland Australia UK Canada Canada US US UK O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 218 Pearson plc Annual report and accounts 2015 Notes to the company ﬁ nancial statements continued 13. Group companies continued Wholly-owned subsidiaries continued Company name Country of Inc. Company name Edexcel South Africa Pty Ltd South Africa Joint Examining Board Limited1 Éditions Du Renouveau Pédagogique Inc. Canada Kagiso Education Pty Ltd Country of Inc. UK South Africa Education by Association (Pty) Ltd South Africa Knowledge Analysis Technologies, LLC US Education Development International Plc2 UK Education Resources (Cyprus) Limited Educational Management Group Inc Educational Resources (HK) Limited Educational Resources Pte Ltd Educomp Higher Initiatives Pte Ltd Embanet ULC Embanet-Compass Knowledge Group, Inc. Embankment Finance Limited English Language Learning and Instruction System, Inc. eNVQ Limited1 Escape Studios Limited Falstaﬀ Holdco Inc. Falstaﬀ Inc. FastExpress Centro de Idiomas Ltda FBH, Inc. Florida Connections Academy, L.L.C. Franchise Support & Services, SL Cyprus US Hong Kong Singapore Singapore Canada US UK US UK UK US US Brazil US US Spain LCCI International Qualiﬁ cations (Malaysia) Sdn. Bhd. LCCIEB Training Consultancy., Ltd LessonLab, Inc. Lignum Oil Company Linx Brasil Distribuidora Ltda. Longman (Malawi) Limited Longman Australasia Pty Ltd Longman Group (Overseas Holdings) Limited Longman Indochina Acquisition, L.L.C. Longman Kenya Limited Longman Mocambique Ltda Longman Swaziland (Pty) Limited Longman Tanzania Limited Malaysia China US US Brazil Malawi Australia UK US Kenya Mozambique Swaziland Tanzania Longman Zambia Educational Publishers Pty Ltd Zambia Longman Zambia Limited Longman Zimbabwe (Private) Ltd Longmaned Ecuador S.A. Zambia Zimbabwe Ecuador Maskew Miller Longman (Pty) Limited South Africa Gamma Master China, Limited Hong Kong MeasureUp, LLC Global Education & Technology (HK) Limited Hong Kong Midlands Educational Technology Limited US UK Global Education & Technology Group Limited Cayman Is Midrand Graduate Institute Pty Ltd South Africa Global Elite Education & Technology (Shanghai) Co. Limited GlobalEnglish Asia, Inc. GlobalEnglish Brasil Ltda. GlobalEnglish France SARL China US Brazil France GlobalEnglish Germany GmbH Germany Modern Curriculum Inc. Multi Treinamento e Editora Ltda. Multilingua Limited1 National Computer Systems Japan Co. Ltd NCS Information Services Technology (Beijing) Co Ltd GlobalEnglish Hong Kong Limited Hong Kong NCS Pearson Pty Ltd GlobalEnglish India Private Limited Global English-Mexico S. de R.L. Globe Fearon Inc. GOAL Limited1 Green Wharf Limited India Mexico US UK UK Guangzhou Crescent Software Co., Ltd China Heinemann Educational Botswana (Publishers) (Pty) Limited Heinemann Lesotho(Pty) Ltd Heinemann Publishers (Pty) Ltd Icodeon Limited IndiaCan Education Private Limited Integral 7, Inc. Intellipro, Inc. Botswana Lesotho South Africa UK India US US JM Soluções Exportação e Importação Ltda. Brazil NCS Pearson Puerto Rico, Inc. NCS Pearson, Inc. Ordinate Corporation P.Ed. Aust Pty Ltd Pearson (Beijing) Management Consulting Co., Ltd. Pearson (Guizhou) Education Technology Co., Ltd. Pearson (Singapore) Pte. Ltd. Singapore Pearson Aﬀ ordable Learning Fund Limited Pearson America LLC Pearson Amsterdam B.V. UK US Netherlands Pearson Amsterdam Finance Limited2 UK Pearson Assessment & Information B.V. Netherlands Pearson Assessment and Information GmbH Germany US Brazil UK Japan China Australia Puerto Rico US US Australia China China Section 5 Financial statements 219 13. Group companies continued Wholly-owned subsidiaries continued Company name Country of Inc. Company name Pearson Education South Africa (Pty) Ltd Pearson Education South Asia Pte. Ltd. Pearson Education, Inc. Country of Inc. South Africa Singapore US Pearson Educational Measurement Canada, Inc. Canada Netherlands Pearson Educational Publishers, LLC US Pearson Egitim Cozumleri Tikaret Limited Sirketi Turkey Pearson Business (Asia Paciﬁ c) Pte. Ltd Singapore Pearson Australia Finance Unlimited Pearson Australia Group Pty Ltd Pearson Australia Holdings Pty Ltd Pearson Australia Pty Ltd Pearson Benelux B.V. Pearson Books Limited2 Pearson Brazil Finance Limited Pearson Business Services Inc. Pearson Canada Assessment Inc Pearson Canada Finance Unlimited Pearson Canada Holdings Inc Pearson Canada Inc. Pearson Central Europe sp. z o.o. Pearson Charitable Foundation Pearson College Limited Pearson DBC Holdings Inc. Pearson Desarrollo y Capacitación Profesional Chile Limitada UK Australia Australia Australia UK UK US Canada UK Canada Canada Poland US UK US Pearson English (Shanghai) Software Technology Co., Ltd. Pearson English Corporation Pearson English KK Pearson Falstaﬀ (Holdings) Inc. Pearson France SAS Pearson Funding Five plc2 Pearson Funding Four plc2 Pearson Funding One plc2 Pearson Funding Two plc2 Pearson Group FURBS Trustee Limited2 Pearson Group Pension Trustee Limited Pearson Deutschland GmbH Germany Pearson Holdings Inc. Chile Pearson Heinemann Limited Pearson Digital Learning Puerto Rico, Inc. Puerto Rico Pearson Holdings Southern Africa (Pty) Limited South Africa Pearson Dollar Finance plc2 Pearson Dollar Finance Two plc Pearson Educacion de Chile Limitada UK UK Chile Pearson in Practice ATA Limited Pearson in Practice Holdings Limited UK UK Pearson in Practice Skills Based Learning Limited UK Pearson Educacion de Colombia S A S Colombia Pearson in Practice Technology Limited Pearson Educacion de Mexico, S.A. de C.V. Pearson Educacion de Panama S.A. Pearson Educacion de Peru S.A. Mexico Panama Peru Pearson Inc. Pearson India Education Services Private Limited India Pearson International Finance Limited2 Pearson Educacion de Venezuela C.A. Venezuela Pearson Investment Holdings, Inc. Pearson Educacion S.A. Spain Pearson Ioki sp. z o.o. Pearson Education (Singapore) Pte Ltd Singapore Pearson Italia S.p.A Pearson Education Africa (Pty) Ltd South Africa Pearson Japan KK Pearson Education and Assessment, Inc. US Pearson Lanka (Private) Limited Pearson Education Asia Limited Hong Kong Pearson Learning China (HK) Limited Pearson Education Botswana (Pty) Limited Botswana Pearson Lesotho (Pty) Ltd Pearson Education do Brasil S.A Pearson Education Hellas S.A. Pearson Education Holdings Inc. Pearson Education Holdings Limited2 Brazil Greece US UK Pearson Loan Finance No. 3 Limited Pearson Loan Finance No. 4 Limited Pearson Loan Finance No.2 Unlimited Pearson Loan Finance Unlimited Pearson Education Indochina Limited Thailand Pearson Longman LLC Pearson Education Investments Limited UK Pearson Longman Uganda Limited Pearson Education Korea Limited South Korea Pearson Luxembourg No. 2. Sarl Pearson Education Limited Pearson Education Namibia (Pty) Limited Pearson Education Publishing Limited Pearson Education S.A. Pearson Education S.A. UK Namibia Nigeria Uruguay Pearson Netherlands B.V. Argentina Pearson Netherlands Holdings B.V. Pearson Malaysia Sdn. Bhd. Pearson Management Services Limited2 UK Pearson Management Services Philippines Inc. Philippines O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s China US Japan US France UK UK UK UK UK UK UK US UK US UK US Poland Italy Japan Sri Lanka Hong Kong Lesotho UK UK UK UK US Uganda Luxembourg Malaysia Netherlands Netherlands 220 Pearson plc Annual report and accounts 2015 Notes to the company ﬁ nancial statements continued 13. Group companies continued Wholly-owned subsidiaries continued Company name Country of Inc. Company name Pearson New Zealand Limited1 New Zealand Sound Holdings Inc. Pearson Nominees Limited2 Pearson Online Tutoring LLC Pearson Overseas Holdings Limited2 UK US UK Spear Insurance Company Limited2 Stark Holding GmbH Stark Verlagsgesellschaft mbH & Co. KG Pearson PEM P.R., Inc. Puerto Rico Stark Verwaltungsgesellschaft mbH Country of Inc. US Bermuda Germany Germany Germany Pearson Pension Property Fund Limited Pearson PRH Holdings Limited Pearson Professional Assessments Limited Pearson Publications Inc. Pearson Real Estate Holdings Inc. Pearson Real Estate Holdings Limited Pearson Schweiz AG Pearson Services Limited2 Pearson Shared Services Limited2 UK UK UK US US UK Sunnykey International Holdings Limited (BVI) BVI Tecquipment Services Limited Testchange Limited2 Texas Connections Academy at Houston, LLC The Assessment Company Limited The Coaching Space Limited UK UK US UK UK Switzerland The Learning Edge International pty Ltd Australia UK UK The SIOP Institute, LLC The Waite Group Inc Pearson Sweden AB Sweden TQ Catalis Limited Pearson VUE Philippines, Inc. Philippines TQ Clapham Limited Peisheng Yucai (Beijing) Technology Development Limited Penguin Capital, LLC Peter Honey Publications Ltd1 Phumelela Publishers (Pty) Ltd PN Holdings Inc. China US UK South Africa US Prentice-Hall Hispanoamericana S.A. de C.V. Mexico TQ Education and Training Limited TQ Global Limited TQ Group Limited TQ Holdings Limited TQ Training Limited1 TQ Training Services Limited1 TQ Trustees Limited1 Prentice-Hall Holdings B.V. ProctorCam, Inc. PT Eﬃ cient English Services Reading Property Holdings LLC Rebus Planning Associates Inc Regents Publishing Co., Inc. Reston Publishing Co., Inc Rycade Capital Corporation Sector Training Limited1 Servicios Administrativos Pearson Educacion S.A. de C.V. Shanghai AWL Education Software Ltd Silver Burdett Ginn Inc. Skylight Training and Publishing Inc Smarthinking, Inc. Netherlands US Indonesia US US US US US UK Mexico China US US US Training for Advancement Holdings Limited1 Training for Advancement Limited1 Vue Testing Services Israel Ltd Wall Street English Training Centre (Shanghai) Co., Ltd. Wall Street Institute Kft Wall Street Institute Master Italia Srl WP Group Pension Trustees Limited WSE Education Brazil Licenciamentos e Cursos de Idiomas Ltda. WSE Training Centre (Guangdong) Co., Ltd. WSI Education GmbH WSI International, Inc. WSI Korea, Inc. US US UK UK UK UK UK UK UK UK UK UK UK Israel China Hungary Italy UK Brazil China Germany US South Korea Section 5 Financial statements 221 O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 13. Group companies continued Subsidiaries where the eﬀ ective interest is less than 100% Company name Country of Inc. Certiport China Co. Ltd. CG Manipal Schools Private Limited (in Deregistration) China Nepal Chongqing WSE Training Centre Co Ltd China Educational Publishers LLP GED Domains LLC GED Testing Service LLC UK US US Heilongjiang WSE Training Centre Co Ltd China Learn Capital Venture Partners II, L.P. LRTE VOXY, LLC LRTE Voxy, L.P. US US US % Pearson- Owned 50.69% 51.00% 95.00% 85.00% 70.00% 70.00% 95.00% 81.00% 50.00% 83.33% Pearson Education Achievement Solutions (RF) (Pty) Ltd South Africa 90.00% Pearson Education Taiwan Ltd Taiwan 99.80% Pearson South Africa (Pty) Ltd (formerly Pearson Marang (Pty) Ltd) South Africa 90.00% Revolution Pearson Special Revolution Learning Capital Partners, L.P. US US 99.50% 99.00% TQ Education and Training Limited Saudi Arabia 90.00% Associated undertakings Company name ACT Aspire LLC Country of Inc. US % Pearson- Owned 50.00% Aﬀ ordable Private Education Centre Inc Philippines 40.00% Avanti Learning Centres Private Limited India 20.90% eAdvance Pty Limited Gazelle Transform Limited South Africa 40.00% UK 33.66% Institute for Private Education & Training KSCC4 Intellus Learning, Inc.3 Karadi Path Education Company Private Limited Omega Schools Franchise Limited Peking University Pearson (Beijing) Cultural Development Co., Ltd. Penguin Random House Limited Penguin Random House LLC Scala(cid:98)Higher Education , S.C.(cid:98) Scala(cid:98)Latin America S.A.P.I. de C.V.(cid:98) Scala(cid:98)Student, S.A. de C.V.(cid:98) The Egyptian International Publishing Company-Longman Zaya Learning Labs Private Limited Kuwait US India Ghana China UK US Mexico Mexico Mexico Egypt India 49.00% 14.14% 26.25% 49.50% 45.00% 47.00% 47.00% 45.00% 45.00% 45.00% 49.00% 20.00% In liquidation Notes 1 2 Directly owned by Pearson plc 3 Signiﬁ cant inﬂ uence is based on mangement’s assessment 4 In liquidation 222 Pearson plc Annual report and accounts 2015 Five-year summary All ﬁ gures in £ millions Sales: By geography* North America Core Growth Continuing Discontinued Total sales Sales: By line of business* School Higher Education Professional Continuing Discontinued Total sales Adjusted operating proﬁ t: By geography* North America Core Growth Penguin Random House Continuing Discontinued Total adjusted operating proﬁ t Adjusted operating proﬁ t: By line of business* School Higher Education Professional Penguin Random House Continuing Discontinued Total adjusted operating proﬁ t 2011 2012 2013 2014 2015 3,008 1,008 712 2,906 2,940 910 724 836 692 4,728 4,540 4,468 962 343 312 5,690 4,883 4,780 2,303 1,664 761 4,728 962 5,690 2,027 1,695 818 1,880 1,736 852 4,540 4,468 343 4,883 312 4,780 464 103 35 50 652 84 736 268 295 39 50 652 84 736 444 122 32 69 667 55 722 236 309 53 69 667 55 722 480 114 (12) 90 672 51 723 183 354 45 90 672 51 723 4,390 1,472 5,862 4,615 1,497 6,112 4,390 1,472 5,862 4,615 1,497 6,112 751 187 938 – 751 187 938 785 147 932 – 785 147 932 * Periods prior to 2013 have not been restated to reﬂ ect the new organisation structure as there is no appropriate basis for restatement of those periods. 2011 onwards reﬂ ect the adoption of IAS 19 revised and have been restated, as appropriate. Prior periods have not been restated. Section 5 Financial statements 223 All ﬁ gures in £ millions Operating margin – continuing 2011 17.1% 2012 2013 2014 2015 17.0% 13.8% 14.7% 15.0% Adjusted earnings Total adjusted operating proﬁ t Net ﬁ nance costs Income tax Non-controlling interest Adjusted earnings 938 (55) (196) 1 688 932 (65) (200) (3) 664 Weighted average number of shares (millions) Adjusted earnings per share 800.2 86.0p 804.3 82.6p 736 (72) (97) (1) 566 807.8 70.1p 722 (64) (118) 1 541 723 (46) (105) – 572 810.9 66.7p 813.3 70.3p All ﬁ gures in £ millions Cash ﬂ ow Operating cash ﬂ ow Operating cash conversion Operating free cash ﬂ ow Operating free cash ﬂ ow per share Total free cash ﬂ ow Total free cash ﬂ ow per share Net assets Net debt Return on invested capital (gross basis) Total adjusted operating proﬁ t Cash tax paid Return Average invested capital Return on invested capital 2011 2012 2013 2014 2015 983 105% 772 96.5p 772 96.5p 788 85% 657 81.7p 657 81.7p 588 80% 324 40.1p 269 33.3p 649 90% 413 50.9p 413 50.9p 435 60% 255 31.4p 152 18.7p 5,962 5,710 5,706 5,985 6,418 499 918 1,379 1,639 654 938 (151) 787 8,731 9.0% 932 (65) 867 9,578 9.1% 736 (191) 545 10,130 5.4% 722 (163) 559 9,900 5.6% 723 (129) 594 10,317 5.8% Dividend per share 42.0p 45.0p 48.0p 51.0p 52.0p O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 224 Pearson plc Annual report and accounts 2015 Corporate and operating measures Sales – underlying and constant exchange rate movement Underlying sales movements exclude the impact of acquisitions/disposals, movements in exchange(cid:98)rates and changes in revenue recognition policies. All ﬁ gures in £ millions Underlying decrease Portfolio changes Exchange diﬀ erences Total sales decrease Underlying decrease Constant exchange rate decrease Adjusted income statement 2015 (80) (129) 137 (72) (2)% (5)% Reconciliation of the consolidated income statement to the adjusted numbers presented as non-GAAP measures in(cid:98)the ﬁ nancial statements. Statutory income statement Discontinued operations Other net gains and losses Acquisition costs Intangible charges 2015 Other net ﬁ nance income/ costs Tax amortisation beneﬁ t Adjusted income statement All ﬁ gures in £ millions Operating (loss)/proﬁ t Net ﬁ nance costs (Loss)/proﬁ t before tax Income tax (404) (29) (433) 81 51 – 51 (9) (13) – (13) 40 (Loss)/proﬁ t for the year from continuing operations (352) 42 27 Proﬁ t for the year from discontinued operations Proﬁ t for the year Non-controlling interest Earnings 1,175 823 – 823 (42) (1,135) – – – (1,108) – (1,108) – – – – – – – – – 1,089 – 1,089 (257) – (17) (17) 7 832 (10) 2 834 – 834 – (10) – (10) – – – 33 33 – 33 – 33 723 (46) 677 (105) 572 – 572 – 572 Section 5 Financial statements 225 Adjusted income statement continued Statutory income statement Discontinued operations Other net gains and losses Acquisition costs Intangible charges 2014 Other net ﬁ nance income/ costs Tax amortisation beneﬁ t Adjusted income statement All ﬁ gures in £ millions Operating proﬁ t Net ﬁ nance costs Proﬁ t before tax Income tax Proﬁ t for the year from continuing operations Proﬁ t for the year from discontinued operations Proﬁ t for the year Non-controlling interest Earnings 398 (93) 305 (63) 242 228 470 1 471 2 – 2 (1) 1 (1) – – – (2) – (2) 1 (1) (227) (228) – (228) 6 – 6 (1) 5 – 5 – 5 318 – 318 (73) 245 – 245 – 245 – 29 29 (5) 24 – 24 – 24 – – – 24 24 – 24 – 24 Adjusted operating proﬁ t – underlying and constant exchange rate movement Operating proﬁ t movement excluding the impact of acquisitions, disposals and movements in exchange rates. All ﬁ gures in £ millions Underlying decrease Portfolio changes Exchange diﬀ erences Total adjusted operating proﬁ t increase Underlying decrease Constant exchange rate decrease 722 (64) 658 (118) 540 – 540 1 541 2015 (12) (9) 22 1 (2)% (3)% O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 226 Pearson plc Annual report and accounts 2015 Corporate and operating measures continued Free cash ﬂ ow per share Operating cash ﬂ ow for continuing and discontinued operations before tax and ﬁ nance charges, divided by the weighted average number of shares in issue. All ﬁ gures in £ millions Adjusted operating proﬁ t Cash conversion Operating cash ﬂ ow Operating tax paid Net operating ﬁ nance costs paid Total operating free cash ﬂ ow Non operating tax paid Total free cash ﬂ ow Weighted average number of shares in issue (millions) Operating free cash ﬂ ow per share Total free cash ﬂ ow per share Return on invested capital All ﬁ gures in £ millions Total adjusted operating proﬁ t Operating tax paid Return Average goodwill and other intangibles Average net operating assets Average invested capital Return on invested capital 2015 723 60% 435 (129) (51) 255 (103) 152 813.3 31.4p 18.7p 2014 722 90% 649 (163) (73) 413 – 413 810.9 50.9p 50.9p Invested capital 2015 723 (129) 594 8,715 1,602 10,317 5.8% 2014 722 (163) 559 8,557 1,343 9,900 5.6% Return on invested capital is calculated as total adjusted operating proﬁ t less operating cash tax paid expressed as a percentage of average invested capital. Invested capital includes the original unamortised goodwill and intangibles. Shareholder information Pearson ordinary shares are listed on the London Stock Exchange and on the New York Stock Exchange in the form of American Depositary Receipts. Corporate website The investors’ section of our corporate website www.pearson.com/investors provides a wealth of information for shareholders. It is also possible to sign up to receive e-mail alerts for reports and press releases relating to Pearson at www.pearson.com/news/newsletter-subscribe.html Shareholder information online Shareholder information can be found on our website www.pearson.com/investors/ investor-information.html Our registrar, Equiniti, also provides a range of shareholder information online. You can check your holding and ﬁ nd practical help on transferring shares or updating your details at www.shareview.co.uk. For more information, please contact our registrar, Equiniti, Aspect House, Spencer Road, Lancing, West Sussex BN99 6DA. Telephone 0371 384 2233* or, for those shareholders with hearing diﬃ culties, textphone number 0371 384 2255*. Information about the Pearson share price The company’s share price can be found on our website at www.pearson.com. It also appears in the ﬁ nancial columns of the national press. 2015 dividends Payment date Amount per share Interim 11 September 2015 18 pence Final 6 May 2016 34 pence Payment of dividends to mandated accounts Should you elect to have your dividends paid through BACS, this can be done directly into a bank or building society account, with the tax voucher sent to the shareholder’s registered address. Equiniti can be contacted for information on 0371 384 2043*. Dividend reinvestment plan (DRIP) The DRIP gives shareholders the right to buy the company’s shares on the London stock market with their cash dividend. For further information, please contact Equiniti on 0371 384 2268*. Section 5 Financial statements 227 Individual Savings Accounts (ISAs) Equiniti oﬀ ers ISAs in Pearson shares. For more information, please go to www.shareview.co.uk/dealing or call customer services on 0345 300 0430*. Share dealing facilities Equiniti oﬀ ers telephone and internet services for dealing in Pearson shares. For further information, please contact their telephone dealing helpline on 03456 037 037* or, for online dealing, log on to www.shareview.co.uk/dealing. You will need your shareholder reference number as shown on your share certiﬁ cate. A postal dealing service is also available through Equiniti. Please telephone 0371 384 2248* for details or log on to www.shareview.co.uk to download a form. ShareGift Shareholders with small holdings of shares, whose value makes them uneconomic to sell, may wish to donate them to ShareGift, the share donation charity (registered charity number 1052686). Further information about ShareGift and the charities it has supported may be obtained from their website, www.ShareGift.org or by contacting them at ShareGift, PO Box 72253, London, SW1P 9LQ. American Depositary Receipts (ADRs) Pearson’s ADRs are listed on the New York Stock Exchange and traded under the symbol PSO. Each ADR represents one ordinary share. For enquiries regarding registered ADR holder accounts and dividends, please contact Bank of New York Mellon, Shareholder Correspondence (ADR), PO Box 30170, College Station, TX 77842-3170, telephone 1 (866) 259 2289 (toll free within the US) or 001 201 680 6825 (outside the US). Alternatively, you may e-mail shrrelations@cpushareownerservices.com Voting rights for registered ADR holders can be exercised through Bank of New York Mellon, and for beneﬁ cial ADR(cid:98)holders (and/or nominee accounts) through your US(cid:98)brokerage institution. Pearson will ﬁ le with the Securities and Exchange Commission a Form 20-F. * Lines open 8.30am to 5.30pm Monday to Friday (excluding UK public holidays). O u r b u s i n e s s O u r p e r f o r m a n c e O u r S o c i a l i m p a c t G o v e r n a n c e i F n a n c i a l s t a t e m e n t s 228 Pearson plc Annual report and accounts 2015 Shareholder information continued Share register fraud: protecting your investment 2016 ﬁ nancial calendar Pearson does not contact its shareholders directly to(cid:98)provide recommendation advice and neither does it(cid:98)appoint third parties to do so. As required by law, our(cid:98)shareholder register is available for public inspection but we cannot control the use of information obtained by(cid:98)persons inspecting the register. Please treat any approaches purporting to originate from Pearson with(cid:98)caution. For more information, please log on to our website at www.pearson.com/investors/ investor-information.html Ex-dividend date Record date 7 April 8 April Last date for dividend reinvestment(cid:98)election 14 April Annual General Meeting 29 April Payment date for dividend and share purchase date for dividend reinvestment Interim results Payment date for interim dividend * to be announced during 2016. 6 May tbc* tbc* Tips on protecting your shares Keep any documentation that contains your shareholder reference number in a safe place and shred any unwanted documentation. Inform our registrar, Equiniti, promptly when you change(cid:98)address. Be aware of dividend payment dates and contact the registrar if you do not receive your dividend cheque or better still, make arrangements to have the dividend paid directly into your bank account. Consider holding your shares electronically in a CREST account via a nominee. › › › › Reliance on this document The intention of this document is to provide information to shareholders and is not designed to be relied upon by any other party or for any other purpose. Forward-looking statements Except for the historical information contained herein, the matters discussed in this document include forward-looking statements. In particular, all statements that express forecasts, expectations and projections with respect to future matters, including trends in results of operations, margins, growth rates, overall market trends, the impact of interest or exchange rates, the availability of ﬁ nancing, anticipated costs savings and synergies and the execution of Pearson’s strategy, are forward- looking statements. By their nature, forward-looking statements involve risks and uncertainties because they relate to events and depend on circumstances that will occur in future. They are based on numerous assumptions regarding Pearson’s present and future business strategies and the environment in which it will operate in the future. There are a number of factors which could cause actual results and developments to diﬀ er materially from those expressed or implied by these forward-looking statements, including a number of factors outside Pearson’s control. These include international, national and local conditions, as well as competition. They also include other risks detailed from time to time in Pearson’s publicly-ﬁ led documents and you are advised to read, in particular, the risk factors set out in this document. Any forward- looking statements speak only as of the date they are made, and Pearson gives no undertaking to update forward-looking statements to reﬂ ect any changes in its(cid:98)expectations with regard thereto or any changes to events, conditions or circumstances on which any such statement is based. No reliance should be placed on forward-looking statements. Designed and Produced by Friend. www.friendstudio.com Print: Pureprint Group Illustrations Lauren Rolwing, p17 laurenrolwing.com Kanae Sato, p55 kanaes.com Lucy Vigrass, p69 lucyvigrass.co.uk Tang Yau Hoong, p125 tangyauhoong.com Pearson has supported the planting of 137 square metres of new native woodland with the Woodland Trust, helping to remove 5.48 metric tonnes of carbon dioxide generated by the production of this report and associated documents. This report has been printed on Edixion Challenger Oﬀ set which is FSC® certiﬁ ed and made from 100% Elemental Chlorine Free (ECF) pulp. The mill and the printer are both certiﬁ ed to ISO 14001 environmental management system and registered to EMAS the eco management Audit Scheme. The report was printed using vegetable based inks by a CarbonNeutral® printer. www.pearson.com blog.pearson.com @pearson Principal offi ces 80 Strand, London WC2R 0RL, UK T +44 (0)20 7010 2000 F +44 (0)20 7010 6060 330 Hudson Street, New York City, NY 10013, USA T +1 212 390 7100 ﬁ rstname.lastname@pearson.com Pearson plc Registered number 53723 (England)

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