Results 2006 Annual Report Servcorp Limited ABN 97 089 222 506 “Choose a job you love, and you will never have to work a day in your life.” - Confucius Servcorp’s aim is to be the World’s Finest Serviced Office Operator. The aim includes a commitment to be the best management team in our industry, a training process second to none, the adoption of efficient business processes and the provision of leading technology services. Servcorp focuses on a diversified portfolio of high quality serviced offices in multiple locations. This year we will continue to increase critical mass in cities and countries where Servcorp operates. Servcorp is also committed to the expansion of its virtual office capabilities and to growth in the virtual office client base. Success is built on over 28 years experience, a profitable track record, a strong financial capability, an energetic team and a commitment to our clients. Servcorp annual report 2006 Contents Results highlights Locations Confucius Bruce says Chief Executive Officer Community service IT Servcorp team Corporate governance Directors’ report Financial report Auditor’s report Shareholder information Corporate information 2 4 7 8 9 10 12 14 22 31 84 86 88 “A superior man is modest in his speech, but exceeds in his actions.” - Confucius 1 “Study the past if you would define the future” - Confucius 2003 $’000 12 months ended 30 June 2004 $’000 2005 $’000 2006 $’000 Revenue & other income 113,761 107,513 124,137 145,941 Profit before tax Net profit after tax Net operating cash flows (before tax) Cash & cash equivalents Interest earning financial assets 5,251 2,455 16,132 26,125 13,048 13,650 9,443 22,522 38,396 5,921 23,497 17,190 33,019 42,966 5,731 35,207 25,376 44,430 58,213 5,035 Earnings per share $0.031 $0.118 $0.214 $0.316 Profit before tax Net operating cash flows (before tax) $35.2 $23.5 $m 40 35 30 25 20 15 10 5 0 $13.7 $5.3 $44.4 $33.0 $22.5 $16.1 $m 50 40 30 20 10 0 03 04 05 06 03 04 05 06 year year 2 Servcorp annual report 2006 Revenue Clients 12 months to June 2005 $124.1 12 months to June 2006 $145.9m 17.6% increase projected revenue growth 2007 15% Profit before tax mature location profit $38.3m immature location loss $3.1m mature location profit projected 2007 $41.0m $m 50 40 30 20 10 0 clients in residence virtual and serviced office 8,167 12 months growth in clients 21.0% Office numbers grew by 7% projected 2007 15% growth Actual - full year Forecast - 2007 $41.0 $38.3 $28.2 $14.9 $6.1 03 04 05 year 06 07 Net profit before tax - mature floors 3 Locations Openings in 2006 financial year Opened since June 2006 Sydney Levels 25 & 29, Chifley Tower 2 Chifley Square Level 57, MLC Centre Martin Place Level 17, BNP Paribas Centre 60 Castlereagh Street Level 26, 44 Market Street New Zealand Auckland Level 20, ASB Bank Centre 135 Albert Street Level 27, PWC Tower Quay Street France Paris Levels 2, 3 & 4 17 Square Edouard VII Level 5, Louis Vuitton Building 101 Avenue Des Champs Elysees Belgium Brussels Levels 20 & 21, Bastion Tower 5, Place du Champ de Mars UAE Dubai Levels 41 & 42 Emirates Towers Sheikh Zayed Road Australia Adelaide Level 24, Santos House 91 King William Street Brisbane Levels 24 & 30, AMP Place 10 Eagle Street Level 36, Riparian Plaza Eagle Street Canberra Levels 6 & 11, St George Centre 60 Marcus Clarke Street Melbourne Level 40, 140 William Street Levels 27 & 50, 101 Collins Street North Ryde Level 9, Avaya House 123 Epping Road North Sydney Levels 4, 17, 21 & 22 201 Miller Street Perth Level 28, AMP Tower 140 St Georges Terrace Level 18, Central Park 152-158 St Georges Terrace 4 Servcorp annual report 2006 Osaka Level 9, Edobori Center Building 2-1-1 Edobori Nishi-ku Level 19, Hilton Plaza West 2-2-2 Umeda, Kita-ku Asia Shanghai, China Level 23, Citigroup Tower 33 Huayuanshiqiao Road Pudong Level 29, Shanghai Kerry Centre 1515 Nanjing Road West Jingan Beijing, China Level 6, Office Tower W2 & Level 19, Office Tower E2 The Towers, Oriental Plaza No 1 East Chang An Avenue Dong Cheng District Hong Kong Levels 25 & 30 Bank of China Tower 1 Garden Road, Central Level 39, One Exchange Square 8 Connaught Place, Central Kuala Lumpur, Malaysia Level 36, Menara Citibank 165 Jalan Ampang Level 20, Menara Standard Chartered Building 30 Jalan Sultan Ismail Singapore Levels 30 & 31 Six Battery Road Penthouse Level Suntec Tower Three 8 Temasek Boulevard Level 27, Prudential Tower 30 Cecil Street Bangkok, Thailand Levels 8 & 9, Zuellig House 1 Silom Road Level 29, Central World Tower 999/9 Rama I Road Khwaeng Patumwan Khet Patumwan Level 27, Bangkok City Tower Cnr Chong Nonsi & South Sathorn Rd Japan Tokyo Level 32, Shinjuku Nomura Building 1-26-2 Nishi-Shinjuku Shinjuku-ku Levels 16 & 27, Shiroyama Trust Tower 4-3-1 Toranomon Minato-ku Levels 9 & B1, AIG Building 1-1-3 Marunouchi Chiyoda-ku Level 14, Hibiya Central Building 1-2-9 Nishi Shimbashi Minato-ku Level 11, Aoyama Palacio Tower 3-6-7 Kita-Aoyama Minato-ku Level 15, JT Building 2-2-1 Toranomon Minato-ku Level 18, Yebisu Garden Place Tower 4-20-3 Ebisu Shibuya-ku Level 7, Wakamatsu Building 3-3-6 Nihonbashi Honcho, Chuo-ku Level 28, Shinagawa Intercity Building 2-15-1 Konan Minato-ku Level 27, Tokyo Sankei Building 1-7-2 Otemachi Chiyoda-ku Tokyo Big Sight, Level 9, Tower B Ariake Frontier Building 3-1-25 Ariake , Koto-ku Level 21, Shiodome Shibarikyu Building 1-2-3 Kaigan, Minato-ku Nagoya Level 4, Nikko Shoken Building 3-2-3 Sakae Naka-ku Aichi 5 Opening in 2006 / 2007 Singapore x 2 Opening Sep && Oct 06 Beijing Paris The Middle East Tokyo x 2 Perth Sydney Nagoya Opened Sep 06 Opened Aug 06 Planned Mar 07 Opening Oct 06 & 07 Opeened Jul 06 Opened Sep 06 Planned 07 6 Servcorp annual report 2006 Confucius Bruce says 2006 was another record year for Servcorp, and our fourth consecutive year of solid growth. Revenue for the year was $145.94 million, an increase of 18% on 2005. Net profit after tax also increased - up an impressive 48% on 2005, to $25.38 million. Our mature floors contributed $38.31 million profit before tax, with all geographic sectors contributing strongly. Earnings per share increased by 48% from 21.4 cents per share to 31.6 cents per share. The Directors have declared a fully franked final dividend of 6.00 cents per share, bringing total dividends for the year to 10.50 cents or $8.44 million, a 35% increase over 2005. In the absence of any unforeseen circumstances, the Board expects to maintain the interim dividend for financial year 2007 at a fully franked 6.00 cents per share. In 2006, we focused on consolidation of our business and preparation for future expansion. Nine new floors had been opened in 2005 and management was committed to bring these to early profitability. A further five new floors were opened in 2006, yet disciplined management ensured only three floors remained immature at the end of the 2006 financial year. The Servcorp team is the backbone of our business and this year has seen the continued development of a strong senior management team, creating a depth of talent capable of successfully operating the ever expanding Servcorp world. The confidence that the directors have in this team has enabled commitment to further expansion, with seven new floors scheduled to open in the first half of fiscal 2007. 2006 was another exciting year for our technology. Our proprietary software allows management to proactively control the Group’s operations and also allows our clients to control their business in the same way. The CIO is investigating the application of these systems to external operations, in a potentially very lucrative venture. He will comment further on this activity in his IT report. I travel the world regularly on non-Servcorp business, but always look in on the Servcorp office if there is one in the city I am visiting. I am always delighted by the professional yet friendly welcome that is offered. I visited various offices this year and it is good to see how impressively they are performing. The commitment I witnessed is consistent in Servcorp teams throughout the world. On behalf of the Board I thank our CEO, Alf Moufarrige, his management team and all the Servcorp team members for their dedication and contributions during the year. Their ongoing commitment to keeping Servcorp as the leader in technology and service has ensured that our company remains superior to our competition. We will continue to strive to maintain our position as the world's finest serviced office provider. The future for Servcorp is encouraging. We look forward to increasing shareholder wealth in the current financial year and beyond. Bruce Corlett “The will to win, the desire to succeed, the urge to reach your full potential... these are the keys that will unlock the door to personal excellence” - Confucius 7 Chief Executive Officer I would like to thank Bruce Corlett and the Board for their ongoing guidance and input. The teams across the world amaze me with their belief in Servcorp and our culture has grown, even as we expand. A G Moufarrige Another record year. We are not relaxing as we know the current growth rate cannot continue indefinitely but at this moment we look set for another year of low double digit growth. All locations are continuing to perform satisfactorily but the sheer number of immature floors could put a downward pressure on the NPBT this year. I am pleased with the new locations that we have signed or are about to sign and believe that Servcorp will be well positioned to continue its growth while ever the world economies remain buoyant. Our hardworking, talented team has been put under pressure by new IT roll-outs this year but it is my belief that the long term gain will far outweigh the short term pain. The tech teams are always busy as clients continue to drive their development program and they are now working on Hottdesk Version 2 and of course integration works for Office2. In Servcorp we all have great hopes for Office2. It is on plan by the end of this year and we should have a clear vision of where it is going and whether it will add to Servcorp's bottom line. After 4 years where Servcorp has seen its NPBT on mature floors rise from $6.1 million to $38 million, it will be great if we can achieve further growth in this coming year. I believe Servcorp's IT lead, its team and its locations will stand it in good stead in what is becoming a more competitive environment. 8 Servcorp annual report 2006 Community service We are proud of the fact that, as a small Aussie company, what we put back into the community is focused on bringing real change and benefits to people, in particular young people who suffer from debilitating diseases. We will keep you updated. Servcorp continues to support the Joan Salter Fund which is managed by the Rotary Club of Sydney. Joan was the Servcorp founding General Manager whose life was cut short at the age of 46 from liver and bowel cancer. The Fund maintained a balance for the year of about $570,000 while again supporting a wide range of causes to the tune of over $150,000 during the 05/06 year. The Joan Salter Fund's focus is to assist with continuing research into the prevention and cure of cancer, as well as having a particular interest in assisting young, seriously or terminally ill members of the community. Servcorp holds charity functions and balls, runs raffles and undertakes donation drives all year round in all locations. Every dollar that is raised by our teams on the floor is matched dollar for dollar by Servcorp. This year we supported the following organisations: The Rotary Club of Sydney • • MRC Cancer Research • The Cancer Council • MS Society • Westmead Hospital St Vincent's Hospital, Sydney • The Mater Hospital • Breast Cancer Foundation • NETS - Pediatric ambulances • • MAKNA - KL Cancer Council • Womens Aid Organisation Servcorp also contributed to many other local charitable organisations around the world. In 2007 we have budgeted to donate in excess of $300,000 to various charities. In 2004 the Joan Salter Fund, Sydney Rotary and the Cancer Council of NSW, established the Sydney Rotary Research Fellowship into the causes and prevention of cancer stemming from lifestyle choices. We have committed $150,000 to this project called CLEAR over three years. 2006 will be the third year of this project and we look forward to some positive results from the study. 9 Development The 05/06 year has been an extremely successful one for the Servcorp IT Development team. The systems that we talked about developing in last year's annual report are very near completion. Servcorp's information management system called OTIIS has been deployed to 75% of the company at time of print. 1. OTIIS has been designed to reduce administration time for our managers on the floor, enabling them to focus on sales and better customer service. 2. It has streamlined the provisioning of new clients both in offices and as virtual, improving accuracy and the customer experience. 3. It has created transparency for managers, senior managers and general managers so that they may manage the facilities in a proactive fashion and increase profitability throughout the month as opposed to a reactive fashion in response to reduced income that only becomes apparent at the end of the month. 4. It has enabled Servcorp to have a global online inventory management system. Hottdesk V2 using the integrated information supplied by OTIIS changes the customer experience in a managed workspace. Hottdesk V2 enables the Servcorp client to work from anywhere and choose the services that they would like delivered to their desktop. In addition to this, it enables Servcorp clients to manage all of their telecommunication facilities online. Hottdesk V2 allows the client to completely control their workspace from provisioning on how they want their phone answered through to managing their business costs online. The combination of OTIIS and Hottdesk V2 is extremely powerful within the Servcorp business. We believe that it has commercial applications for any multi-tenant environment. We are investigating these opportunities through a Servcorp subsidiary called Office Squared. The first fully managed Office² proto-type building goes online July 1 2007. In addition to the dramatic management improvements that Servcorp has made internally we are still focusing on delivering the world's best technology solutions to our end users. We have done substantial development work to deliver IP telephony soft phones to our virtual clients and are at the proto-typing stages of providing the world's first secure multi-tenant environment wireless solution. It is easy to put hardware into a business centre. Creating the world's best managed workspace that integrates space, technology and people is ground breaking. Servcorp has achieved and delivered this. Dial *1 for IT H.E.L.P. Worksmart Screen Console Debtors O.T.I.I.S. Call Accounting Servcorp Smart Office® Servcorp Hottdesk® A Deloitte Technology Fast 50 winner, awarded for IT excellence. 10 Servcorp annual report 2006 Our IT solutions are second to none Our IT Solutions make us the best in the industry. Cisco agree: "Servcorp has uniquely enhanced the Unified Communications system we provide by developing their own highly impressive applications to enable simplified provisioning and management of multi-tenant office services. The services Servcorp delivers through the combination of world class products from Cisco Systems like CallManager and their own comprehensive tools such as the Hottdesk Suite of products will change the way we view managed workspace. Their products are unique in the market place and we look forward to the opportunities they create”. Owen Chan President of Cisco Systems, Asia Pacific “He that would perfect his work must first sharpen his tools.” - Confucius 11 Servcorp team The Board Bruce Corlett Chairman Rick Holliday-Smith Non-Executive Director Julia King Non-Executive Director Alf Moufarrige Executive Director CEO Taine Moufarrige Executive Director 12 Servcorp annual report 2006 Our Management Team Thomas Wallace BBS, ACA Chief Financial Officer Steve Lombardo BSc Chief Technology Officer Richard Baldwin Dip Ag, Dip Oen GM ITS Kureha Ogawa BA Senior Manager Japan Jannifer Koo BBus, G.Dip Mktg Mgt Senior Manager, Shanghai Liane Gorman Senior Manager Concepts Warren James Manager, International Property Portfolio Lachlan Buchanan BComm Property Project Manager Kristie Thomas BArts, BBus International Sales Manager (Offices) Megan Gale International Sales Manager (Virtual) Jennifer Stephenson BBus International Marketing Manager The Board and Senior Management thank the hardworking Servcorp Team. They make SERVCORP the best! Marcus Moufarrige BComm CIO Olga Vlietstra BA GM Japan Wilma Wu BA (Hons) GM Greater China Susie Martin BEc GM Australia & NZ Samantha McArthur BSc Senior Manager Greg Pearce BCom, CA, ACIS Company Secretary 13 Corporate Governance The Board has responsibility for the long-term health and prosperity of Servcorp. The directors are responsible to the shareholders for the performance of the Company and the Consolidated Entity and to ensure that it is properly managed. The Board is committed to the principles underpinning the ASX Corporate Governance Council’s Principles of Good Corporate Governance and Best Practice Recommendations. The Board is continually working to improve the Company’s governance policies and practices, where such practices will bring benefits or efficiencies to the Company. Details of Servcorp’s compliance are set out below, and in the ASX principles compliance statement on pages 17 to 21 of this report. Role of the Board The Board has adopted a formal statement of matters reserved for the Board. The central role of the Board is to set the Company’s strategic direction and to oversee the Company’s management and business activities. The Board's primary responsibilities are: • • the protection and enhancement of long-term shareholder value; ensuring Servcorp has appropriate corporate governance structures in place; providing strategic direction, including reviewing and determining goals for management; • monitoring management’s • The Board comprises five directors (two executive and three non-executive). The non-executive directors are all independent. There has been no change to the Board since the last annual report. The Chairman of the Board, Mr Bruce Corlett, is an independent non-executive director. The non-executive directors bring to the Board an appropriate range of skills, experience and expertise to ensure that Servcorp is run in the best interest of all stakeholders. The skills, experience and expertise of each director in office at the date of this annual report is set out on page 22 of this annual report. The Board will continue to be made up of a majority of independent non-executive directors. The performance of non-executive directors was reviewed during the year. The names of the directors of the Company in office at the date of this annual report are set out below. • appointing the Managing Director and evaluating his performance and remuneration; • monitoring business performance • • • • • • • • and results; identifying areas of significant risk and ensuring adequate controls are in place to manage those risks; establishing appropriate standards of ethical behaviour and a culture of corporate and social responsibility; approving executive remuneration policies; ratifying the appointment of the Chief Financial Officer and the Company Secretary; ensuring compliance with continuous disclosure policy in accordance with the Corporations Act 2001 and the Listing Rules of the Australian Stock Exchange; reporting to shareholders; approval of the commitment to new locations; ensuring the Board is, and remains, appropriately skilled to meet the changing needs of the Company. Responsibility for management of the Company’s business activities is delegated to the CEO and management. Composition of the Board The size and composition of the Board is determined by the Board, subject to the limits set out in Servcorp’s Constitution which requires a minimum of three directors and a maximum of twelve directors. performance within that framework; Names of directors in office at the date of this annual report Director First appointed Non- executive Independent Retiring at 2006 AGM B Corlett 19 October 1999 R Holliday-Smith 19 October 1999 J King A Moufarrige T Moufarrige 24 August 1999 24 August 1999 25 November 2004 Yes Yes Yes No No Yes Yes Yes No No No No Yes No No Seeking re-election at 2006 AGM No No Yes No No 14 Servcorp annual report 2006 corporate governance. Servcorp annual report 2006 Directors’ independence Ethical standards Continuous disclosure It is important that the Board is able to operate independently of executive management. The non-executive directors are considered by the Board to be independent of management. Independence is assessed by determining whether the director is free of any business interest or other relationship which could materially interfere with the exercise of their unfettered and independent judgement and their ability to act in the best interests of Servcorp. None of the non-executive directors have ever been employed by Servcorp. Ms J King is the sister of Mr A Moufarrige, but she has no joint financial interests in Servcorp or otherwise. Ms King is an experienced business woman who sits on several other public company boards. Ms King, and the other independent directors, believe her relationship with Mr A Moufarrige does not impair her exercising independent judgement. Election of directors The Company’s Constitution specifies that an election of directors must take place each year. One-third of the Board (excluding the Managing Director and rounded down to the nearest whole number), and any other director who has held office for three or more years since they were last elected, must retire from office at each annual general meeting. The directors are eligible for re-election. Directors may be appointed by the Board during the year. Directors appointed by the Board must retire from office at the next annual general meeting. Any changes to directorships will be dealt with by the full Board and accordingly a Nomination Committee has not been established. Independent professional advice Each director has the right to seek independent professional advice, at Servcorp's expense, to help them carry out their responsibilities. Prior approval of the Chairman is required, which will not be unreasonably withheld. A copy of advice received by the director is made available to all other members of the Board. All directors, managers and employees are expected to act with the utmost integrity and objectivity, striving at all times to enhance the reputation and performance of Servcorp. Codes of conduct, outlining the standards of personal and corporate behaviour to be observed, form part of Servcorp’s management manuals. Director and officer dealings in Company shares Servcorp policy prohibits directors, officers and senior executives from dealing in Company shares or exercising options: • • in the six weeks prior to the release of the Company's half-year and full-year results to the ASX; or whilst in possession of price sensitive information. Directors must discuss proposed purchases or sales of shares in the Company with the Chairman before proceeding. This is a new principle adopted this year. Directors must also notify the Company Secretary before they buy or sell shares in the Company. This is reported to the Board. In accordance with the provisions of the Corporations Act 2001 and the Listing Rules of the ASX, each director has entered into an agreement with the Company that requires disclosure to the Company of all information needed for it to comply with the obligation to notify the ASX of directors’ holdings and interests in its securities. Conflict of interest In accordance with the Corporations Act 2001 and the Company’s Constitution directors must keep the Board advised, on an ongoing basis, of any interest that would potentially conflict with those of Servcorp. Where the Board believes that an actual or potential significant conflict exists, the director concerned, if appropriate, will not take part in any discussions or decision making process on the matter and abstains from voting on the item being considered. Details of director related entity transactions with the Company and the Consolidated Entity are set out in Note 30 to the financial statements. Servcorp is committed to ensuring that all shareholders and investors are provided with full and timely information and that all stakeholders have equal and timely access to material information concerning the company. Procedures are in place to ensure that all price sensitive information is disclosed to the ASX in accordance with the continuous disclosure requirements of the Corporations Act 2001 and ASX Listing Rules. The Company Secretary has been appointed as the person responsible for communications with the ASX. Communication with stakeholders Servcorp is committed to increasing the transparency and quality of its communication so that we are regarded as outstanding corporate citizens. At present, information is communicated to shareholders and financial markets through the distribution of the annual report, the release of the half-year and full-year results, and market announcements to the ASX when required. The Company’s annual report, result releases and market announcements are placed on its website. Servcorp encourages effective participation at general meetings. The Managing Director provides a detailed report and is available to answer questions at the Company’s annual general meeting. The Company’s auditors are invited to attend the annual general meeting and be available to answer shareholder questions about the conduct of the audit, the preparation and content of the auditor’s report, accounting policies adopted and the independence of the auditor in relation to the conduct of the audit. Auditor independence The Company’s auditors Deloitte Touche Tohmatsu (Deloitte) were appointed at the annual general meeting of the Company on 6 November 2003. The Lead Partner, Mr P G Forrester, will be due for rotation following completion of the audit for the year ending 30 June 2008. Deloitte have established policies and procedures designed to ensure their independence, and provide the Audit and Risk Committee with an annual confirmation as to their independence. Servcorp annual report 2006 15 Remuneration Committee The Board formally re-established the Remuneration Committee during the year. The Remuneration Committee members during the year were: • Ms J King (Chair) • Mr B Corlett (Non-Executive Director) • Mr T Moufarrige (Executive Director) The role of the Remuneration Committee is to assist the Board by adopting remuneration policy and practices that: • • • supports the Board’s overall stategy and objectives; attracts and retains key employees; links total remuneration to financial performance and the attainment of stategic objective. Specifically this will include: • • • • remuneration policy and its application to the Managing Director and those who report to the Managing Director; adoption of short-term and long-term incentive plans; determination of levels of reward to the Managing Director and approval of rewards to those who report to the Managing Director; ensuring the total remuneration policy and practices are designed with full consideration of all tax, accounting, legal and regulatory requirements. The Remuneration Committee is committed to the principles of accountability, transparency and to ensuring that remuneration arrangments demonstrate a clear link between reward and performance. The Remuneration Committee meets as required. The committee met twice during the year. The Managing Director may attend committee meetings by invitation to assist the committee in its deliberations. Committees The Board does not delegate major decisions to committees. Committees are responsible for considering detailed issues and making recommendations to the Board. The Board has established three committees to assist in the implementation of its corporate governance practices. Audit and Risk Committee The members of the Audit and Risk Committee during the year were: • Mr R Holliday-Smith (Chairman) • Mr B Corlett • Ms J King The members are all independent non-executive directors. The chairman of the Audit and Risk Committee is independent and is not the chairman of the Board. The role of the Audit and Risk Committee is to assist the Board to meet its oversight responsibilities in relation to the Company’s financial reporting, internal control structure, risk management procedures and the external audit function. In doing so, it is the committee’s responsibility to maintain free and open communication between the committee and the external auditors and the management of Servcorp. The external auditors, the Managing Director, the Chief Financial Officer and other senior management attend committee meetings by invitation. The Audit and Risk Committee met three times during the year. The committee meets with the external auditors without management being present before signing off its reports each half year. The committee Chairman also meets with the auditors at regular intervals during the year. The responsibilities of the Audit and Risk Committee as stated in its charter include: • • • reviewing the financial report and other financial information distributed externally; reviewing accounting policies to ensure compliance with Accounting Standards and Urgent Issues Group Interpretations; improving the quality of the accounting function; 16 Servcorp annual report 2006 • • • • reviewing external audit reports to ensure that where major deficiencies or breakdown in controls or procedures have been identified appropriate and prompt remedial action is taken by management; reviewing the Company’s policies and procedures for compliance with Australian equivalents to International Financial Reporting Standards for reporting periods beginning on 1 July 2005; reviewing the nomination, independence and performance of the auditor; liaising with the external auditors and ensuring that the statutory annual audit and half-yearly review are conducted in an effective manner; • monitoring the establishment of an appropriate internal control framework and considering enhancements; • monitoring the establishment of appropriate ethical standards; • monitoring the procedures in place to ensure compliance with the Corporations Act 2001, ASX Listing Rules and all other regulatory requirements; addressing any matters outstanding with the auditors, Australian Taxation Office, Australian Securities & Investments Commission, ASX and financial institutions; reviewing reports on any major defalcations, frauds and thefts from the Company. • • Governance Committee The Governance Committee’s charter is to monitor the ongoing compliance with the ASX Corporate Governance Council’s best practice recommendations. The Governance Committee members are two independent non-executive directors and two management representatives: • Mr B Corlett (Chairman) • Mr R Holliday-Smith (Non-Executive Director) • Mr M Moufarrige (CIO) • Mr G Pearce (Company Secretary) The Governance Committee did not meet during the year. The Board has reviewed the Company’s governance structures to ensure they comply with ASX principles. corporate governance. Servcorp annual report 2006 ASX principles compliance statement This table provides a description of the manner in which Servcorp complies with the ASX Principles of Good Corporate Governance and Best Practice Recommendations, or where applicable, an explanation of any departures from the Principles. Principle 1 Lay solid foundations for management and oversight Recognise and publish the respective roles and responsibilities of board and management Recommendation 1.1 Formalise and disclose the functions reserved to the board and those delegated to management. Servcorp Board Response The Board has adopted a charter that sets out the responsibilities reserved by the Board and those delegated to the Managing Director. Principle 2 Structure the board to add value Have a board of an effective composition, size and commitment to adequately discharge its responsibilities and duties Recommendation 2.1 A majority of the board should be independent directors. Servcorp Board Reponse The Board has a majority of independent directors. All the currently serving non-executive directors are independent. Recommendation 2.2 The chairperson should be an independent director. Servcorp Board Response The Chairman is an independent director. Recommendation 2.3 The roles of chairperson and chief executive officer should not be exercised by the same individual. Servcorp Board Response The roles of Chairman and Managing Director/CEO are separated. Recommendation 2.4 The board should establish a nomination committee. Servcorp Board Response The Board has not established a nomination committee. Given the size of the current Board, efficiencies are not forthcoming from a separate committee structure. Selection and appointment of new directors is undertaken by consideration of the full Board. Any director appointed by the Board must retire from office at the next annual general meeting and seek re-election by shareholders. Recommendation 2.5 Provide the information indicated in Guide to reporting on Principle 2. Servcorp Board Response All relevant information is included in the corporate governance section on pages 14 to 21 of the annual report. Principle 3 Recommendation 3.1 Promote ethical and responsible decision-making Actively promote ethical and responsible decision making Establish a code of conduct to guide the directors, the chief executive officer (or equivalent), the chief financial officer (or equivalent) and any other key executives as to: 3.1.1 The practices necessary to maintain confidence in the company’s integrity. 3.1.2 The responsibility and accountability of individuals for reporting and investigating reports of unethical practices. Servcorp Board Response The Company has established codes of conduct and ethical standards which all directors, executives and employees are expected to uphold and promote. Recommendation 3.2 Disclose the policy concerning trading in company securities by directors, officers and employees. Servcorp annual report 2006 17 ASX principles compliance statement (cont) Servcorp Board Response The Board has approved a policy concerning trading in company securities, the details of which are disclosed in the corporate governance section of this annual report. Recommendation 3.3 Provide the information indicated in Guide to reporting on Principle 3. Servcorp Board Response The information is made publicly available by inclusion of the main provisions in the annual report. Complete versions are not available on the Company’s website as they form part of manuals which are proprietary and confidential. Principle 4 Recommendation 4.1 Safeguard integrity in financial reporting Have a structure to independently verify and safeguard the integrity of the company’s financial reporting Require the chief executive officer (or equivalent) and the chief financial officer (or equivalent) to state in writing to the board that the company’s financial reports present a true and fair view, in all material respects, of the company’s financial condition and operational results and are in accordance with relevant accounting standards. Servcorp Board Response The Chief Executive Officer and Chief Financial Officer provide such letters of assurance to the Board for each half-year and full-year result. Recommendation 4.2 The board should establish an audit committee. Servcorp Board Response The Board has established an Audit and Risk Committee. Recommendation 4.3 Structure the audit committee so that it consists of: • • • • only non-executive directors; a majority of independent directors; an independent chairperson, who is not chairperson of the board; at least three members. Servcorp Board Response All three members of the Audit and Risk Committee are independent and the Chairman of the committee is not the Chairman of the Board. Recommendation 4.4 The audit committee should have a formal charter. Servcorp Board Response The Audit and Risk Committee has a formal charter which sets out its specific roles and responsibilities and composition requirements. Recommendation 4.5 Provide the information indicated in Guide to reporting on Principle 4: • • details of the names and qualifications of those appointed to the audit committee; the number of meetings of the audit committee and names of the attendees. Servcorp Board Response This information is provided on pages 16, 22 and 23 of this annual report. Recommendation 4.5 (cont) • Procedures for the selection and appointment of the external auditor, and for the rotation of external audit engagement partners. Servcorp Board Response The external auditor, Deloitte Touche Tohmatsu (DTT), under the scrutiny of the Audit and Risk Committee, presently conducts the statutory audits in return for reasonable fees. DTT were appointed at the annual general meeting of the Company held on 6 November 2003. The committee also has specific responsibility for recommending the appointment or dismissal of external auditors and monitoring any non-audit work carried out by the external audit firm. No director has any association, past or present, with the external auditor. DTT rotate their audit engagement partner every five years. 18 Servcorp annual report 2006 corporate governance. Servcorp annual report 2006 ASX principles compliance statement (cont) Principle 5 Recommendation 5.1 Servcorp Board Response Make timely and balanced disclosure Promote timely and balanced disclosure of all material matters concerning the company Establish written policies and procedures designed to ensure compliance with ASX Listing Rule disclosure requirements and to ensure accountability at a senior management level for that compliance. The Company has established a continuous disclosure compliance plan. The Board and management continually monitor information and events and their obligation to report any matters. Responsibility for communications to the ASX on all material matters rests with the Company Secretary following consultation with the Chairman and Managing Director. Recommendation 5.2 Provide the information indicated in Guide to reporting on Principle 5. Servcorp Board Response There is no further information to be provided. Principle 6 Respect the rights of shareholders Respect the rights of shareholders and facilitate the effective exercise of those rights Recommendation 6.1 Design and disclose a communications strategy to promote effective communication with shareholders and encourage effective participation at general meetings. Servcorp Board Response Servcorp aims to communicate clearly and transparently with shareholders and the community. Servcorp places all company announcements on its website and also displays annual and half-year reports. Shareholders are given a reasonable opportunity to ask questions at the annual general meeting. Recommendation 6.2 Request the external auditor to attend the annual general meeting and be available to answer shareholder questions about the conduct of the audit and the preparation and content of the auditor’s report. Servcorp Board Response Servcorp’s external auditor attends all annual general meetings and is available to answer shareholder questions. Principle 7 Recognise and manage risk Establish a sound system of risk oversight and management and internal control Recommendation 7.1 The board or appropriate board committee should establish policies on risk oversight and management. Servcorp Board Response The Company does not have formal written policies on risk oversight and management. The Board has established an Audit and Risk Committee that is comprised only of non-executive directors. The Committee reviews the Company’s risk management strategy, its adequacy and effectiveness and the communication of risks to the Board. Day to day responsibility is delegated to the Chief Executive Officer. The Chief Executive Officer is responsible for: Identification of risk; • • Monitoring risk; • • Communication of risk events to the Board; and Responding to risk events, with Board authority. The Board defines risk to be any event that, if it occurs, will have a material impact on the ability of the Company to achieve its objectives. Risk is considered across the financial, operational and organisational aspects of the Company’s affairs. Recommendation 7.2 The chief executive officer (or equivalent) and the chief financial officer (or equivalent) should state to the board in writing that: Servcorp annual report 2006 19 ASX principles compliance statement (cont) Recommendation 7.2 (cont) 7.2.1 The statement given in accordance with best practice recommendation 4.1 (the integrity of financial statements) is founded on a sound system of risk management and internal compliance and control which implements the policies adopted by the board. 7.2.2 The company’s risk management and internal compliance and control system is operating efficiently and effectively in all material respects. Servcorp Board Response The Chief Executive Officer and Chief Financial Officer provide such assurance. Recommendation 7.3 Provide the information indicated in Guide to reporting on Principle 7. Servcorp Board Response This information is provided above. Principle 8 Encourage enhanced performance Fairly review and actively encourage enhanced board and management effectiveness Recommendation 8.1 Disclose the process for performance evaluation of the board, its committees and individual directors, and key executives. Servcorp Board Response Principle 9 Recommendation 9.1 The Board operates under a code of conduct which recognises that strong ethical values must be at the heart of director and Board performance. The Board as a whole evaluates individual director’s performance and also the Board’s performance. As a tool to evaluation a questionnaire is completed annually by the non-executive directors with the responses assessed and discussed by the Board as a whole. Remunerate fairly and responsibly Ensure that the level and composition of remuneration is sufficient and reasonable and that its relationship to corporate and individual performance is defined Provide disclosure in relation to the company’s remuneration policies to enable investors to understand (i) the costs and benefits of those policies and (ii) the link between remuneration paid to directors and key executives and corporate performance. Servcorp Board Response Servcorp’s remuneration policies are discussed in the remuneration report on pages 25 to 27 of this annual report. Recommendation 9.2 The board should establish a remuneration committee. Servcorp Board Response The Board has established a Remuneration Committee. Recommendation 9.3 Clearly distinguish the structure of non-executive directors’ remuneration from that of executives. Servcorp Board Response This information is provided in the remuneration report on page 26 of this annual report. Recommendation 9.4 Ensure that payment of equity-based executive remuneration is made in accordance with thresholds set in plans approved by shareholders. Servcorp Board Response All equity-settled share based payments have been made in accordance with Servcorp’s Executive and Employee Share Option Schemes. Both schemes had approval granted by shareholders at the November 2000 annual general meeting. 20 Servcorp annual report 2006 corporate governance. Servcorp annual report 2006 ASX principles compliance statement (cont) Recommendation 9.5 Provide the information indicated in Guide to reporting on Principle 9. • Disclosure of the company’s remuneration policies referred to in best practice recommendation 9.1 and in Box 9.1. Servcorp Board Response Details of Servcorp’s remuneration policies for short-term employee benefits, post employment benefits and share based payments are set out in the remuneration report on pages 25 to 27 of this annual report. Recommendation 9.5 (cont) • The names of the members of the remuneration committee and their attendance at meetings of the committee. Servcorp Board Response This information is provided on pages 16 and 23 of this annual report. Recommendation 9.5 (cont) • The existence and terms of any schemes for retirement benefits, other than statutory superannuation, for non-executive directors. Servcorp Board Response There are no such schemes in existence. Principle 10 Recognise the legitimate interests of stakeholders Recognise legal and other obligations to all legitimate stakeholders Recommendation 10.1 Establish and disclose a code of conduct to guide compliance with legal and other obligations to legitimate stakeholders. Servcorp Board Response The Board operates under a code of conduct which recognises that strong ethical values must be at the heart of the director and Board performance. They guide compliance with legal requirements and ethical responsibilities, and also set a standard for employees and directors dealing with Servcorp’s obligations to external stakeholders. In regard to stakeholders, the Company: Reports its financial performance twice a year to the Australian Stock Exchange; • • Maintains a website; • Publishes all external announcements to the website and maintains these announcements for at least two years; At general meetings, shareholders are given a reasonable opportunity to ask questions; Analyst briefings are held following the release of the half-year and full-year financial results. • • Servcorp annual report 2006 21 Directors’ Report The directors present their report together with the Financial Report of Servcorp Limited ("the Company") and the consolidated Financial Report of the “Consolidated Entity”, being the Company and its controlled entities, for the financial year ended 30 June 2006. Directors The directors of the Company at any time during or since the end of the financial year are: Alf Moufarrige Managing director Chief Executive Officer Appointed August 1999 Alf is one of the global leaders in the serviced office industry, with over 25 years of experience. Alf is primarily responsible for Servcorp’s expansion, profitability, cash generation and currency management. Directorships of listed entities in the last three years: None. Bruce Corlett Chairman and independent non-executive director BA, LLB Member of Audit and Risk Committee Chairman of Governance Committee Member of Remuneration Committee Appointed October 1999 Over the past 30 years Bruce has been a director of many publicly listed companies. His current directorships include Adsteam Marine Limited (Chairman), Stockland Trust Group and Trust Company of Australia Limited (Chairman). Directorships of listed entities in the last three years: • • • • Adsteam Marine Limited since March 1997; Stockland Trust Group since October 1996; Tooth and Co. Limited since September 1999; Trust Company of Australia Limited since October 2000. 22 Servcorp annual report 2006 Rick Holliday-Smith Independent non-executive director BA (Hons), CA, FAICD Chairman of Audit and Risk Committee Member of Governance Committee Appointed October 1999 Rick spent over 11 years in Chicago in the roles of Divisional President of global trading and sales for NationsBank, N.A. and, prior to that, Chief Executive Officer of Chicago Research and Trading Group Limited. Rick also spent over 4 years in London as Managing Director of HongKongBank Limited, a wholly owned merchant banking subsidiary of HSBC Bank. Rick is currently a director of ASX Limited, Cochlear Limited and DCA Group Limited. He is also Chairman of Snowy Hydro Limited. Rick has a Bachelor of Arts (Hons) from Macquarie University, is a Chartered Accountant and is a Fellow of the Australian Institute of Company Directors. Directorships of listed entities in the last three years: • • • • ASX Limited since July 2006; Cochlear Limited since February 2005; DCA Group Limited since October 2004; Exco Resources NL from June 1998 to November 2005; • MIA Group Limited from May 2000 to • September 2004; SFE Corporation Limited from April 2002 to July 2006 (Chairman). Julia King Independent non-executive director Member of Audit and Risk Committee Chair of Remuneration Committee Appointed August 1999 Julia has had more than 30 years experience in strategic marketing and advertising. She was Chief Executive of the LVMH fashion group in Oceania and developed the business in this area. Prior to joining LVMH Julia was Managing Director of Lintas, a multinational advertising agency. Julia is currently a non-executive director of John Fairfax Holdings Limited, Retail Cube Limited, Opera Australia and Carla Zampatti. She has been on the Australian Government’s Task Force for the restructure of the wool industry and a member of the Council of the National Library. Directorships of listed entities in the last three years: • • John Fairfax Holdings Limited since July 1995; Retail Cube Limited since January 2006. Taine Moufarrige Executive director BA, LLB Member of Remuneration Committee Appointed November 2004 Prior to joining Servcorp, Taine practiced as a solicitor. Taine joined Servcorp in 1996 as a Trainee Manager following which he became a Manager, then General Manager for Australia, NZ and the Middle East. Taine is now responsible for operations in Australia, NZ, the Middle East and Asia and for the strategic growth of the Company in these regions. Taine played a key role in establishing Servcorp locations in Paris, Dubai, Auckland and throughout Australia. Taine holds a Bachelor of Laws from Bond University and a Bachelor of Arts from Macquarie University. Directorships of listed entities in the last three years: None. Directors’ meetings The number of directors’ meetings held (including meetings of committees of directors) and number of meetings attended by each of the directors of the Company during the financial year is set out in the table opposite. Company Secretary Greg Pearce B Com, CA, ACIS Appointed August 1999 Greg joined Servcorp in 1996 as Financial Controller and was appointed to his current role of Company Secretary during the Company’s IPO in 1999. Prior to joining Servcorp Greg spent ten years working in the information technology business and the 11 years prior to that working in audit and business services. Greg is a Chartered Accountant and is an Associate of Chartered Secretaries Australia. directors’ report. Servcorp annual report 2006 Directors’ attendances at meetings Director Number of meetings held: Number of meetings attended: B Corlett R Holliday-Smith J King A G Moufarrige T Moufarrige Board meetings Audit & Risk committee Remuneration committee 9 9 8 9 9 8 3 3 3 3 2 2 2 2 The details of the function and membership of the committees are presented in the corporate governance statement on page 16. Principal activities Consolidated results Dividends The principal activities of the Consolidated Entity during the course of the financial year were the provision of executive serviced and virtual offices and IT, communications and secretarial services. There were no significant changes in the nature of the activities of the Consolidated Entity during the year. Net profit after tax for the financial year was $25.38 million (2005: $17.19 million). Operating revenue was $141.20 million (2005: $120.68 million). Basic and diluted earnings per share was 31.6 cents (2005: 21.4 cents). The net profit after tax included a non- recurring provision write-back of $1.30 million related to the reversal of a floor closure provision for Brussels. The net profit after tax for 2005 included significant expenses totalling $1.60 million directly related to the closure and relocation of floors. Dividends totalling $8.44 million have been paid or declared by the Company in relation to the financial year ended 30 June 2006 (2005: $6.23 million). The following table includes information relating to dividends in respect of the prior and current financial year, including dividends paid or declared by the Company since the end of the previous year. Dividends paid and declared Type Cents per share In respect of the previous financial year: 2005 Interim - ordinary shares Final - ordinary shares 3.75 4.00 In respect of the current financial year: 2006 Interim - ordinary shares Final - ordinary shares 4.50 6.00 Total amount $'000 Date of payment Franked % Tax rate for franking credit 3,015 3,216 3,618 4,826 1 April 2005 4 October 2005 4 April 2006 4 October 2006 100% 100% 100% 100% 30% 30% 30% 30% Servcorp annual report 2006 23 Review of operations Australia & New Zealand Europe & Middle East At the end of the financial year, Servcorp operated 57 floors, in 43 locations, spanning 18 cities in 11 countries. The Consolidated Entity operates in Australia, New Zealand, Japan, South-East Asia, Greater China, France, United Arab Emirates and Belgium. During the year 4 new locations (5 floors) have been established and 2 floors closed, giving rise to a net increase of 7% in capacity. The number of office suites operated by the Consolidated Entity increased to 2,348 with an average mature floor occupancy of 85%. Expansion plans underway at present include new locations in Sydney, Paris, Singapore, Beijing and Tokyo. Further opportunities are being evaluated in Tokyo, Bahrain, Osaka and Nagoya. Currently the Consolidated Entity has cash and cash equivalent assets in excess of $58 million and is well placed to take advantage of expansion opportunities when the timing is considered favourable. Australia and New Zealand performed strongly during the year. Revenue from ordinary activities increased by 8% to $39.39 million. Net profit before tax increased by 20% to $8.51 million. During the year a new floor opened in Brisbane, and a floor was closed in Melbourne with clients relocated to a new floor. A business was also purchased from a competitor in Perth during July 2006. Japan & Asia Japan and Asia continued to perform strongly, recording an increase in revenue of 22% to $86.82 million. Net profit before tax increased by 47% to $20.51 million. Japan continued to grow with one new floor opening during the year. Asia also continued to grow strongly. Servcorp purchased a floor from a competitor in Hong Kong in July 2005. In Shanghai one floor closed with clients relocated to a new location. The performance of the Europe and Middle East segment has improved significantly. Revenue increased by 22% to $17.71 million. A decision was made not to close the Brussels operation, which resulted in a write-back of a closure provision of $1.30 million during the year. Excluding the provision write-back, the segment recorded a net profit before tax of $4.19 million compared to $1.10 million for the year ended 30 June 2005. The Dubai location continued to perform above expectations. Although mindful of current political events, management continue to look for new opportunities in the region. The performance of the Paris and Brussels locations continue to improve. New locations City Hong Kong Brisbane Shanghai Tokyo Melbourne Location Level 39, One Exchange Square Level 36, Riparian Plaza Level 23, Citigroup Tower Level 9, Tokyo Big Sight Level 27, 101 Collins Street The directors are not aware of any matter or circumstance, other than that referred to above or in the financial statements or notes thereto, that has arisen since the end of the year that has significantly affected, or may significantly affect, the operations of the Consolidated Entity, the results of those operations, or the state of affairs of the Consolidated Entity, in future financial years. Events subsequent to balance date On 15 July 2006 a company in the Consolidated Entity acquired a business in Perth. The consideration paid for the business, assets and customer licence agreements purchased was $1,365,232. On 22 August 2006 the directors declared a fully franked final dividend of 6.00 cents per share, payable on 4 October 2006. The financial effect of the above transactions have not been brought to account in the financial statements for the year ended 30 June 2006. 24 Servcorp annual report 2006 Offices 47 49 65 19 65 Opened July 2005 December 2005 January 2006 February 2006 March 2006 Likely developments The Consolidated Entity will continue to pursue its policy of seeking to increase the profitability and market share of its major business sectors during the next financial year. Further information about likely developments in the operations of the Consolidated Entity and the expected results of those operations in future financial years has not been included in this report because disclosure of the information would be likely to result in unreasonable prejudice to the Consolidated Entity. directors’ report. Servcorp annual report 2006 Shares issued on the exercise of options Date options granted 21 May 2004 Number of shares 30,000 Amount paid $2.00 Options Options on issue At the date of this report there are no unissued ordinary shares of the Company under option. Options granted During the year or since the end of the financial year, the Company has not granted any options over unissued ordinary shares of the Company. Shares issued on the exercise of options Directors' interests No shares were issued by the Company during the year ended 30 June 2006 as a result of the exercise of options over unissued shares. Since the end of the financial year the Company has issued 30,000 ordinary shares as a result of the exercise of options over unissued shares, as detailed in the above table. No amounts are unpaid on any of the shares. The relevant interest of each director in the share capital of the companies within the Consolidated Entity, as notified by the directors to the Australian Stock Exchange in accordance with s205G(1) of the Corporations Act 2001, at the date of this report is as follows: Servcorp Limited Director B Corlett R Holliday-Smith J King A Moufarrige T Moufarrige Remuneration report Principles used to determine the nature and amount of remuneration The Board recognises that the Company’s performance is dependent on the quality of its people. To achieve its financial and operating objectives, Servcorp must be able to attract, retain and motivate highly-skilled executives. The objective of the Company’s executive reward framework is to ensure reward for performance is competitive and appropriate for the results delivered. The framework aligns executive reward with achievement of strategic objectives and the creation of value for shareholders. Direct 233,895 250,000 72,500 540,890 59,992 Ordinary shares Indirect 106,502 - 15,000 47,681,633 - Options over ordinary shares - - - - - Servcorp’s executive remuneration policy and principles are designed to ensure that the Company: The framework may provide a mix of fixed and variable pay, and a blend of short and long term incentives. • • • • Provides competitive rewards that attract, retain and motivate executives of the highest calibre; Structures remuneration at a level that reflects the executives duties and accountabilities and is competitive within Australia and, for certain roles, internationally; Aligns executive incentive rewards with the creation of value for shareholders; Complies with applicable legal requirements and appropriate standards of governance. The methodology used to calculate performance rewards is not formally structured. The continued steady increase in the Company's earnings has resulted in reward for those executives who have been essential to achieving this success. Accordingly, bonuses paid in the financial year ended June 2006 have increased compared to prior years. Bonuses are not set as a fixed percentage of profit, but are generally an amount agreed with the Managing Director, often in consultation with the Board, and based on individual performance levels. Servcorp annual report 2006 25 Remuneration report (cont) Principles used to determine the nature and amount of remuneration (cont) This year the Company has formally re-established the Remuneration Committee. The Committee's charter includes the formulation and more formal structuring of the Company's remuneration policy. A policy will be put in place to provide senior executives with a more structured scheme for long term and short term incentives, based on earnings, earnings growth and individual performance criteria. The success of the Company's current executives is evident in the Company's results. In the current financial year and over the previous four financial years net profit after tax has increased from a loss of $3.41 million in 2002 to a profit of $25.38 million in 2006. Shareholder wealth has similarly increased. Dividends paid in each of those financial years have increased from 7.5 cents per share in 2002 to 7.75 cents per share in 2005 and 10.5 cents per share in this financial year. The Company's share price has steadily increased from a low of 97 cents in March 2003 to $5.69 at the date of this report. Non-executive directors Fees and payments to non-executive directors reflect the demands which are made on, and the responsibilities of, the directors. Non-executive directors’ fees and payments are reviewed by the Board. The Board ensures non-executive directors’ fees and payments are appropriate and in line Directors’ remuneration with the market. Non-executive directors are not employed under a contract and do not receive share options or other equity based remuneration. Executive remuneration The executive remuneration and reward framework has three components: Directors’ fees Non-executive directors’ fees are determined within an aggregate directors’ fee limit. The pool limit currently stands at $350,000 as approved at the time of Servcorp’s IPO in December 1999. This is inclusive of payments for superannuation. Non-executive directors’ fees were initially set in December 1999. That level of fees did not vary until the current base remuneration was reviewed with effect from 1 January 2005. Fees for each non-executive director were increased by $10,000 per annum at that time. Additional fees are not paid for membership or chairmanship of board committees. Retirement allowances for directors Non-executive directors are not entitled to retirement allowances other than amounts previously contributed to complying superannuation funds. Details of remuneration Details of the nature and amount of each element of the remuneration of each director of Servcorp Limited for the year ended 30 June 2006 is set out in the following table. • • • Base remuneration and benefits; Short term performance incentives; Long term incentives through participation in the Servcorp Executive Share Option Scheme. Not all executives currently participate in this scheme. The combination of these comprises the executive’s total remuneration. Base remuneration The base component of executive remuneration comprises base salary, superannuation contribution and other components such as motor vehicles. It is determined by the scope of each executive’s role, their level of knowledge, skill and experience and individual performance. It is structured as a total employment cost package. Executives are offered a competitive base remuneration that comprises the fixed component of pay and rewards. Base remuneration is set to reflect the market for a comparable role. Base remuneration is reviewed annually to ensure the executive’s remuneration is competitive with the market. Remuneration is also reviewed on promotion. There are no guaranteed base remuneration increases for any senior executives. Name Short-term employee benefits Post employment Salary and fees $ 202,829 183,224 90,000 55,000 55,000 A Moufarrige T Moufarrige B Corlett R Holliday-Smith J King Bonus $ 200,000 90,000 - - - Non- monetary $ 120,951 7,061 - - - 586,053 290,000 128,012 Super $ 36,018 27,450 8,100 4,950 4,950 81,468 Prescribed benefits $ - - - - - - Share based payment Equity options $ - - - - - - Total $ 559,798 307,735 98,100 59,950 59,950 1,085,533 26 Servcorp annual report 2006 directors’ report. Servcorp annual report 2006 Cash incentives (bonuses) are generally payable following finalisation of half-year and full-year results. Using a profit target ensures variable reward is only available when value has been created for shareholders and when profit is consistent with the business plan. For the financial year ended 30 June 2006, short term incentive plans were based on the following components: • Where the executive had responsibility for a region or business unit, attaining performance targets for operating profit; • Where the executive did not have direct responsibility for a business unit, meeting specific business objectives for which the executive was responsible. The short term incentive target is reviewed annually. Servcorp Executive Share Option Scheme The Board may grant options to eligible executives in accordance with the Servcorp Executive Share Option Scheme to provide long term incentives. Options do not form a fixed percentage of any executive’s remuneration. No options were granted during or since the end of the 2006 financial year. Details of remuneration Details of the nature and amount of each element of the remuneration of each of the five named officers of the Company and the Consolidated Entity receiving the highest remuneration for the financial year ended 30 June 2006 is set out in the following table. Remuneration report (cont) Retirement benefits Retirement benefits for Australian executives are delivered under the Servcorp Superannuation Fund. This fund provides accumulation benefits based on contributions and fund earnings. Executives may nominate for contributions to be made to another fund of their choice. Short-term incentives The short-term incentive component of executive remuneration may comprise an annual cash incentive which is linked to the performance of both Servcorp and the individual executive. Executives do not have a fixed proportion of their total remuneration that is performance related. Performance targets are agreed with executives at the start of each year to ensure they meet specific business objectives for which the individual is responsible. Executives’ remuneration Name Short-term employee benefits Post employment Salary and fees $ Bonus $ Non- monetary $ M Moufarrige (i) GM Asia and CIO O Vlietstra (i) GM Japan R Baldwin (i) GM ITS T Wallace (i), (ii) CFO S Lombardo (i) Chief Tech Officer 183,136 163,462 172,091 153,374 144,142 85,000 93,492 62,500 43,000 10,000 20,061 12,088 - - - 816,205 293,992 32,149 Super $ 23,850 - 21,815 19,630 13,800 79,095 Prescribed benefits $ - - - - - - Share based payments Equity options $ - - - Total $ 312,047 269,042 256,406 9,127 225,131 - 167,942 9,127 1,230,568 Notes: (i) The primary bonus has been 100% paid to, or vested in, the person in the 2006 financial year. No percentage of the bonus was forfeited or will be payable in financial years after the financial year to which this report relates. (ii) The options included in the remuneration of T Wallace were granted in May 2004. The options were valued using the Black Scholes option pricing model. These options were not considered a percentage of the value of T Wallace's remuneration for the current financial year. Servcorp annual report 2006 27 Indemnification and insurance of directors and officers The constitution of the Company provides that the Company must indemnify, on a full indemnity basis and to the full extent permitted by law, each current and former director, alternate director or executive officer against all losses or liabilities incurred in that capacity in defending any proceedings, whether civil or criminal, in which judgement is given in their favour or in which they are acquitted or in connection with any application in relation to any such proceedings in which relief is granted under the Corporations Act 2001. The Company has also agreed to indemnify the following current and former directors of the Company, Mr A Moufarrige, Mr B Corlett, Mr R Holliday-Smith, Ms J King, Mr B Pashby and Mr T Moufarrige against any loss or liability that may arise from their position as directors of the Company and its controlled entities, except where the liability arises out of conduct involving a wilful breach of duty. The agreement stipulates that the Company will meet the full amount of any such liabilities to the extent permitted by law, including reasonable costs and expenses. The Company has not, during or since the financial year, indemnified or agreed to indemnify an auditor of the Company. During the financial year the Company has paid insurance premiums in respect of directors' and officers' liability and legal expenses insurance contracts, for current and former directors, secretaries and officers of the Company and its controlled entities. The insurance policies prohibit disclosure of the nature of the liability insured against and the amount of the premiums. State of affairs Non-audit services There were no significant changes in the state of affairs of the Consolidated Entity during the financial year. Directors’ benefits Since the end of the previous financial year, no director of the Consolidated Entity has received or become entitled to receive a benefit (other than a benefit included in the aggregate amount of emoluments received or due and receivable by directors shown in the consolidated financial report, or the fixed salary of a full-time employee of the Consolidated Entity or of a related entity) by reason of a contract made by the Consolidated Entity or a related entity with the director or with a firm of which a director is a member, or with an entity in which a director has a substantial financial interest. Corporate governance A statement of the Board’s governance practices is set out on pages 14 to 21 of this report. Environmental management The Consolidated Entity's operations are not subject to any particular and significant environmental regulations under either Commonwealth or State legislation. Rounding off During the year Deloitte Touche Tohmatsu, the Company’s auditor, has performed certain “non-audit services” in addition to their statutory duties. The Board of directors has considered the non-audit services provided during the year by the auditor and in accordance with written advice provided by resolution of the Audit and Risk Committee, is satisfied that the provision of those non-audit services during the year by the auditor is compatible with, and did not compromise, the auditor independence requirements of the Corporations Act 2001 for the following reasons: • • Non-audit services were subject to the corporate governance procedures adopted by the Company and have been reviewed by the Audit and Risk Committee; and The non-audit services provided do not undermine the general principles relating to auditor independence as set out in Professional Statement F1 Professional Independence, as they did not involve reviewing or auditing the auditor’s own work, acting in a management or decision making capacity for the Company or jointly sharing risks and rewards. A copy of the auditor’s independence declaration as required under Section 307C of the Corporations Act 2001 is set out on page 29 and forms part of this report. The Company is of a kind referred to in ASIC Class Order 98/0100 dated 10 July 1998 and, in accordance with that Class Order, amounts in the financial report and the directors' report have been rounded off to the nearest thousand dollars, unless otherwise stated. Details of the amounts paid or payable to the auditor of the Company, Deloitte Touche Tohmatsu and its related practices for audit and non-audit services provided during the year are set out in note 4 to the financial statements. Signed in accordance with a resolution of the directors pursuant to section 298(2) of the Corporations Act 2001. A G Moufarrige Managing Director Dated at Sydney this 15th day of September 2006. 28 Servcorp annual report 2006 Deloitte Touche Tohmatsu ABN 74 490 121 060 The Barrington Level 10 10 Smith Street Parramatta NSW 2150 PO Box 38 Parramatta NSW 2124 Australia DX 28485 Tel: +61 (0) 2 9840 7000 Fax: +61 (0) 2 9840 7001 www.deloitte.com.au The Board of Directors Servcorp Limited Level 17, BNP Paribas Centre 60 Castlereagh Street SYDNEY NSW 2000 11 September 2006 Dear Board Members Servcorp Limited In accordance with section 307C of the Corporations Act 2001, I am pleased to provide the following declaration of independence to the directors of Servcorp Limited. As lead audit partner for the audit of the financial statements of Servcorp Limited for the financial year ended 30 June 2006, I declare that to the best of my knowledge and belief, there have been no contraventions of: (i) the auditor independence requirements of the Corporations Act 2001 in relation to the audit; and (ii) any applicable code of professional conduct in relation to the audit. Yours sincerely DELOITTE TOUCHE TOHMATSU P G Forrester Partner Chartered Accountants Liability limited by a scheme approved under Professional Standards Legislation. Servcorp annual report 2006 29 30 Servcorp annual report 2006 2006 Financial Report CONTENTS Income statement Balance sheet Statement of recognised income and expense Cash flow statement Notes to the financial statements Directors' declaration Auditor’s report 32 33 34 35 36 83 84 Income statement Servcorp Limited and its controlled entities for the financial year ended 30 June 2006 Revenue Other income Consolidated The Company Note 2006 $'000 2005 $'000 2 2 141,203 4,738 120,684 3,453 145,941 124,137 2006 $'000 - 19,918 19,918 - - (16) (1,215) (148) - 4,746 - 3,367 23,285 (5,227) 2005 $'000 - 16,425 16,425 - - - (626) (142) (4,746) - - (5,514) 10,911 (3,796) Service expenses Marketing expenses Occupancy expenses Administrative expenses 2 Borrowing expenses Impairment in value of equity loans receivable 3 Reversal of impairment loss in value of equity loans receivable 3 Other expenses Total expenses Profit before income tax expense Income tax expense Profit attributable to members of the parent entity Earnings per share Basic earnings per share Diluted earnings per share 5 21 8 8 (39,503) (6,438) (52,829) (11,483) (54) - - (427) (35,638) (6,140) (48,691) (9,358) (158) - - (655) (110,734) (100,640) 35,207 (9,831) 23,497 (6,307) 25,376 17,190 18,058 7,115 $0.316 $0.316 $0.214 $0.214 - - - - The Income statement is to be read in conjunction with the notes to the financial statements. 32 Servcorp annual report 2006 Balance sheet Servcorp Limited and its controlled entities as at 30 June 2006 Current assets Cash and cash equivalents Trade and other receivables Other financial assets Current tax assets Other Total current assets Non-current assets Trade and other receivables Other financial assets Property, plant and equipment Deferred tax assets Goodwill Total non-current assets Total assets Current liabilities Trade and other payables Other financial liabilities Current tax liabilities Provisions Total current liabilities Non-current liabilities Trade and other payables Other financial liabilities Provisions Total non-current liabilities Total liabilities Net assets Equity Issued capital Reserves Retained earnings Total equity Note 9 10 12 5 11 10 12 13 5 14 15 16 5 18 15 16 18 19 20 21 Consolidated The Company 2006 $'000 58,213 14,551 6,771 732 5,244 85,511 - 19,414 29,267 6,688 15,440 70,809 2005 $'000 42,966 12,538 7,188 319 6,099 69,110 227 17,910 24,952 7,043 15,440 65,572 2006 $'000 19 78,695 - - 33 78,747 - 40,160 - 25 - 40,185 2005 $'000 174 76,945 - - 24 77,143 227 35,414 - 48 - 35,689 156,320 134,682 118,932 112,832 18,658 16,532 6,855 2,331 44,376 4,145 - 538 4,683 49,059 107,261 80,694 (8,301) 34,868 107,261 20,944 9,980 6,125 3,181 40,230 2,281 2,717 564 5,562 45,792 88,890 80,694 (7,953) 16,149 88,890 14,910 - 5,806 - 20,716 543 582 - 1,125 21,841 97,091 80,694 16 16,381 97,091 19,081 - 5,354 - 24,435 543 1,996 - 2,539 26,974 85,858 80,694 7 5,157 85,858 The Balance sheet is to be read in conjunction with the notes to the financial statements. Servcorp annual report 2006 33 Statement of recognised income and expense Servcorp Limited and its controlled entities for the financial year ended 30 June 2006 Translation of foreign operations: Exchange differences taken to equity Net expense recognised directly in equity Profit for the financial year Total recognised income and expense for the financial year Note 20 21 Consolidated The Company 2006 $'000 2005 $'000 2006 $'000 2005 $'000 (357) (357) 25,376 (3,151) (3,151) 17,190 - - - - 18,058 7,115 25,019 14,039 18,058 7,115 The Statement of recognised income and expense is to be read in conjunction with the notes to the financial statements. 34 Servcorp annual report 2006 Cash flow statement Servcorp Limited and its controlled entities for the financial year ended 30 June 2006 Cash flows from operating activities Receipts from customers Payments to suppliers and employees Dividends and royalties received Interest and other items of similar nature received Interest and other costs of finance paid Income tax paid Consolidated The Company Note 2006 $'000 2005 $'000 157,421 (114,569) - 1,679 (101) (9,085) 126,339 (94,648) - 1,408 (80) (5,165) Net operating cash flows 27(c) 35,345 27,854 Cash flows from investing activities Payments for property, plant and equipment Payments for financial assets Payments for aquisition of business Payments for lease deposits Proceeds from sale of investments Proceeds from sale of property, plant and equipment Proceeds from refund of lease deposits Amounts advanced to related parties Repayment of related party loans Proceeds from repayment of related party loans (12,348) (200) (1,645) (2,828) 927 199 1,149 - - - (12,034) (3,000) - (3,382) 3,000 135 - - - - Net investing cash flows (14,746) (15,281) Cash flows from financing activities Proceeds from issue of equity securities Proceeds from borrowings Payment for share buy back Repayment of borrowings Dividends paid Net financing cash flows Net increase/(decrease) in cash and cash equivalents Cash and cash equivalents at the beginning of the financial year Effect of exchange rate changes on the balance of cash and cash equivalents held in foreign currencies Cash and cash equivalents at the end of the financial year - 560 - (589) (6,834) (6,863) 13,736 41,778 851 1,539 - (2,254) (1,314) (6,037) (8,066) 4,507 38,049 (778) 27(a) 56,365 41,778 The Cash flow statement is to be read in conjunction with the notes to the financial statements. 2006 $'000 - (116) 17,276 2,642 (148) (7,429) 12,225 - - - - - - - (66) (5,480) - (5,546) - - - - (6,834) (6,834) (155) 174 - 19 2005 $'000 - (836) 14,359 2,066 (142) (3,582) 11,865 - - - - - - - (21,642) - 16,705 (4,937) 1,539 - (2,254) - (6,037) (6,752) 176 (2) - 174 Servcorp annual report 2006 35 Notes to the financial statements for the financial year ended 30 June 2006 1 Summary of accounting policies Statement of compliance The financial report is a general purpose financial report which has been prepared in accordance with the Corporations Act 2001, Accounting Standards and Urgent Issues Group Interpretations, and complies with other requirements of the law. Accounting Standards include Australian equivalents to International Financial Reporting Standards ('A-IFRS'). Compliance with A-IFRS ensures that the consolidated financial statements and notes of the Consolidated Entity comply with International Financial Reporting Standards ('IFRS'). The parent entity financial statements and notes also comply with IFRS except for the disclosure requirements in IAS 32 'Financial Instruments: Disclosure and Presentation', as the Australian equivalent Accounting Standard, AASB 132 'Financial Instruments: Disclosure and Presentation' does not require such disclosures to be presented by the parent entity where its separate financial statements are presented together with the consolidated financial statements of the Consolidated Entity. The financial statements were authorised for issue by the directors on 15 September, 2006. Basis of preparation The financial report has been prepared on the basis of historical cost, except for the revaluation of certain non-current assets and financial instruments. Cost is based on the fair values of the consideration given in exchange for assets. In the application of A-IFRS management is required to make judgements, estimates and assumptions about the carrying value of assets and liabilities that are not readily apparent from other sources. The estimates and associated assumptions are based on historical experience and various other factors that are believed to be reasonable under the circumstances, the results of which form the basis of making judgements. Actual results may differ from these estimates. The estimates and underlying assumptions are reviewed on an ongoing basis. Revisions to accounting estimates are recognised in the period in which the estimate is revised if the revision affects only that period, or in the period of revision and future periods if the revision affects both current and future periods. Judgements made by management in the application of A-IFRS, that have a significant effect on the financial statements and estimates where there is a significant risk of material adjustment in future periods are disclosed, where applicable, in the relevant notes to the financial statements. Accounting policies are selected and applied in a manner which ensures that the financial information satisfies the concepts of relevance and reliability, thereby ensuring that the substance of the underlying transactions or other events is reported. The Consolidated Entity changed its accounting policies on 1 July 2005 to comply with A-IFRS. The transition to A-IFRS is accounted for in accordance with Accounting Standard AASB 1 'First-time Adoption of Australian Equivalents to International Financial Reporting Standards'. The date of transition was 1 July 2004. An explanation of how the transition from superseded policies to A-IFRS has affected the Company's and the Consolidated Entity's financial statements is outlined in Note 32. This general purpose financial report is the Consolidated Entity's first full year financial report prepared in accordance with A-IFRS. The accounting policies set out below have been applied in preparing the financial statements for the year ended 30 June 2006, the comparative information presented in the financial statements for the year ended 30 June 2005 and in the preparation of the opening A-IFRS Balance sheet at 1 July 2004 (as disclosed in Note 32), the Consolidated Entity's date of transition, except for the accounting policies in respect of financial instruments. The Consolidated Entity has not restated comparative information for financial instruments including derivatives as permitted under the first-time adoption transitional provisions. The accounting policies for financial instruments applicable to the comparative information and the impact of changes in these accounting policies on 1 July 2005, the date of transition for financial instruments, is discussed further in Note 1(v). The Company is a company of the kind referred to in ASIC Class Order 98/0100, dated 10 July 1998, and in accordance with that Class Order amounts in the financial report are rounded off to the nearest thousand dollars, unless otherwise indicated. 36 Servcorp annual report 2006 the world’s finest serviced offices 1 Summary of accounting policies (continued) The following significant accounting policies have been adopted in the preparation and presentation of the financial report: (a) Principles of consolidation The consolidated financial statements are prepared by combining the financial statements of all the entities that comprise the Consolidated Entity, being the Company (the parent entity) and its subsdiaries, as defined in Accounting Standard AASB 127 ‘Consolidated and Separate Financial Statements’. A list of subsidiaries appears in Note 25 to the financial statements. Consistent accounting policies are employed in the preparation and presentation of the consolidated financial statements. (b) (c) On acquisition, the assets, liabilities and contingent liabilities of a subsidiary are measured at their fair values at the date of acquisition. Any excess in the cost of acquisition over the fair values of the identifiable net assets acquired is recognised as goodwill. If after reassessment, the fair values of the identifiable net assets acquired exceeds the cost of acquisition the difference is credited to the Income statement in the period of acquisition. The consolidated financial statements include the information and results of each subsidiary from the date on which the Company obtains control, and until such time as the Company ceases to control an entity. In preparing the consolidated financial statements, all intercompany balances and transactions, and unrealised profits arising within the Consolidated Entity are eliminated in full. Goodwill Goodwill, representing the excess of the cost of acquisition over the fair value of the identifiable assets, liabilities and contingent liabilities acquired, is recognised as an asset. Goodwill is not amortised, but is tested for impairment at each reporting date and whenever there is an indication that goodwill may be impaired. Any impairment of goodwill is recognised immediately in the Income statement and is not subsequently reversed. Impairment of assets At each reporting date, the Consolidated Entity reviews the carrying values of its tangible and intangible assets to determine whether there is any indication that those assets have suffered an impairment loss. If any such indication exists, the recoverable amount of the asset is estimated in order to determine the extent of the impairment loss (if any). Where the asset does not generate cash flows that are independent from other assets, the Consolidated Entity estimates the recoverable amount of the cash generating unit to which the asset belongs. Goodwill and intangible assets with indefinite useful lives and intangible assets not yet available for use are tested for impairment at each reporting date and whenever there is an indication that the asset may be impaired. An impairment of goodwill is not subsequently reversed. The recoverable amount is the higher of fair value, less costs to sell and value in use. In assessing the value in use, the estimated future cash flows are discounted to their present value by using a pre-tax discount rate, that reflects the time value of money and the risks specific to the asset for which the estimates of future cash flows have not been adjusted. If the recoverable amount of an asset (or cash generating unit) is estimated to be less than its carrying amount, the carrying amount of the asset (or cash generating unit) is reduced to its recoverable amount. An impairment loss is recognised in the Income statement immediately, unless the relevant assets are carried at fair value, in which case the impairment loss is treated as a revaluation decrease. Where an impairment loss subsequently reverses, the carrying amount of the asset (or cash generating unit) is increased to the revised estimate of its recoverable amount, but only to the extent that the increased carrying amount does not exceed the carrying amount that would have been determined had no impairment loss been recognised for the asset (or cash generating unit) in prior years. A reversal of the impairment loss is recognised in the Income statement immediately, unless the relevant asset is carried at fair value, in which case the reversal of the impairment loss is treated as a revaluation increase. (d) Revenue recognition Sales revenue Sales revenue comprises revenue earned net of the amount of consumption tax from the provision of services to entities outside the Consolidated Entity. Rental revenue is typically invoiced in advance and is recognised in the period in which the service is provided. Servcorp annual report 2006 37 Notes to the financial statements for the financial year ended 30 June 2006 1 (e) (f) (g) (h) Summary of accounting policies (continued) Other income / expense Interest income Interest income is recognised as it accrues. Disposal of assets The profit and loss on disposal of assets is brought to account when the significant risks and rewards of ownership passes to a party external to the Consolidated Entity. Foreign currency Transactions Foreign currency transactions are translated to Australian currency at the rates of exchange ruling at the dates of the transactions. Amounts receivable and payable in foreign currencies at balance date are translated at the rates of exchange ruling on that date. Foreign currency monetary items at reporting date are translated at the exchange rates existing at reporting date. Non-monetary assets and liabilities carried at fair value that are denominated in foreign currencies are translated at the rates prevailing at the date when the fair value was determined. Exchange differences are recognised in the Income statement in the period in which they arise except exchange differences on monetary items receivable from or payable to a foreign operation for which settlement is neither planned or likely to occur, which form part of the net investment in a foreign operation. Such exchange differences are recognised in the foreign currency translation reserve and in the Income statement on disposal of the net investment. Translation of controlled foreign entities The assets and liabilities of overseas operations are translated at the rates of exchange ruling at the Balance sheet date. Income and expense items are translated at the average exchange rate for the period unless exchange rates fluctuate significantly. Exchange differences arising on translation are taken directly to the foreign currency translation reserve. The balance of the foreign currency translation reserve relating to an overseas operation that is disposed of is recognised in the Income statement in the period of disposal. Goodwill and fair value adjustments arising on the acquisition of a foreign entity on or after the date of transition to A-IFRS are treated as assets and liabilities of the foreign entity and translated at exchange rates prevailing at the reporting date. Goodwill arising on acquisitions before the date of transition to A-IFRS is treated as an Australian dollar denominated asset. Borrowing costs Borrowing costs include interest, amortisation of discounts or premiums relating to borrowings, amortisation of ancillary costs incurred in connection with the arrangement of borrowings and lease finance charges. Borrowing costs are expensed to the Income statement as incurred. Taxation Current tax Current tax is calculated by reference to the amount of income tax payable or recoverable in respect of the taxable profit or loss for the period. Income tax is calculated using tax rates and tax laws that have been enacted or substantively enacted by the reporting date. Current tax for current and prior periods is recognised as a liability or asset to the extent that it is unpaid or refundable. Deferred tax Deferred tax is accounted for using the comprehensive Balance sheet liability method in respect of temporary differences arising from differences between the carrying amount of assets and liabilities in the financial statements and the corresponding tax base of those items. In principle, deferred tax liabilities are recognised for all taxable temporary differences. Deferred tax assets are recognised to the extent that it is probable that sufficient taxable amounts will be available against which deductible temporary differences or unused tax losses and tax offsets can be utilised. However, deferred tax assets and liabilities are not recognised if the temporary differences giving rise to them arises from the initial recognition of assets and liabilities, other than as a result of a business combination, which affects neither taxable income nor accounting profit. Furthermore, a deferred tax liability is not recognised in relation to taxable temporary differences arising from goodwill. 38 Servcorp annual report 2006 the world’s finest serviced offices 1 (h) Summary of accounting policies (continued) Taxation (continued) Deferred tax (continued) Deferred tax liabilities are recognised for taxable temporary differences arising on investments in subsidiaries, branches and associates except where the Consolidated Entity is able to control the reversal of the temporary differences and it is probable that the temporary differences will not reverse in the foreseeable future. Deferred tax assets arising from deductible temporary differences associated with these investments are only recognised to the extent that it is probable that there will be sufficient taxable profits against which to utilise benefits of the temporary differences and they are expected to reverse in the foreseeable future. Deferred tax assets and liabilities are measured at the tax rates that are expected to apply in the period when the assets and liabilities giving rise to them are realised or settled, based on tax rates and tax laws that have been enacted or substantially enacted by the reporting date. The measurement of deferred tax liabilities and assets reflects the tax consequences that would follow from the manner in which the Consolidated Entity expects, at the reporting date, to recover or settle the carrying amount of its assets and liabilities. Deferred tax assets and liabilities are offset when they relate to income taxes levied by the same taxation authority and the Consolidated Entity intends to settle its current tax assets and liabilities on a net basis. Current and deferred tax for the period Current and deferred tax is recognised as an expense or income in the Income statement, except when it relates to items credited or debited directly to equity, in which case the deferred tax is also recognised in equity. Tax consolidation The Company and all its wholly-owned Australian resident entities are part of a tax consolidated group under Australian taxation law. Servcorp Limited is the head entity in the tax consolidated group. Tax expense/ income, deferred tax liabilities and deferred tax assets arising from temporary differences of the members of the tax consolidated group are recognised in the separate financial statements of the members of the tax consolidated group using the 'separate tax payer within group' approach. Current tax liabilities and assets and deferred tax assets arising from unused tax losses and tax credits of the members of the tax consolidated group are recognised by the Company. Under this method, each entity is subject to tax as part of the tax consolidated group. Due to the existence of a tax funding arrangement between entities in the tax consolidated group, amounts are recognised as payable to or receivable by the Company, and each member of the tax consolidated group in relation to the tax contribution amounts paid or payable between the parent entity, and the other members of the tax consolidated group in accordance with the arrangement. Further information about the tax funding arrangement is detailed in Note 5 to the financial statements. Where the tax contribution amount recognised by each member of the tax consolidated group for a particular period is different to the aggregate of the current tax liability or asset and any deferred tax asset arising from unused tax losses and tax credits in respect of that period, the difference is recognised as a contribution from (distribution to) equity participants. Due to the adoption of the transitional provisions, the impact on the financial statements of the Consolidated Entity and the Company, arising from adoption of the tax consolidation regime, was not material. The tax consolidation regime has been applied with effect from 1 July 2004. Goods and services tax Revenues, expenses and assets are recognised net of the amount of goods and services tax (GST), except where the amount of GST incurred is not recoverable from the Australian Tax Office (ATO). In these circumstances the GST is recognised as part of the cost of acquisition of the asset or as part of an item of expense. Receivables and payables are stated inclusive of GST. The net amount of GST recoverable from or payable to the ATO is included as a current asset or liability in the Balance sheet. Cash flows are included in the Cash flow statement on a gross basis. The GST components of cash flows arising from investing and financing activities which are recoverable from or payable to the ATO are classified as operating cash flows. (i) Receivables Trade debtors to be settled within 30 days are carried at amounts due. The collectibility of debts is assessed at balance date and a specific allowance is made for any doubtful amounts. Servcorp annual report 2006 39 Notes to the financial statements for the financial year ended 30 June 2006 1 (j) (k) Summary of accounting policies (continued) Derivative financial instruments The Consolidated Entity enters into derivative financial instruments to manage its exposure to fluctuations in foreign exchange rates. Derivatives are initially recognised at fair value on the date a derivative contract is entered into and are subsequently remeasured to their fair value at each reporting date. The resulting gain or loss is recognised immediately in the Income statement. Share based payments Equity settled share based payments granted after 7 November 2002 that had not vested as at 1 July 2005 are measured at fair value at grant date. Fair value is calculated using the Black Scholes option pricing model. The expected life used in the model has been adjusted, based on management's best estimate, for the effects of non-transferability, exercise restrictions and behavioural considerations. The fair value determined at the grant date of the equity settled share based payments is expensed on a straight line basis over the vesting period, based on management's estimate of options that will eventually vest. (l) Financial assets Subsequent to initial recognition, investments in subsidiaries are measured at cost. The classification of financial assets depends on the nature and purpose of the financial assets and is determined at the time of initial recognition. Other financial assets are classified into the following specified categories: Financial assets at fair value through profit or loss Investments in fixed rate bonds and reset preference securities held for trading are classified as financial assets and are carried at fair value with any resultant gain or loss recognised through the Income statement. Loans and receivables Trade receivables, loans and other receivables including lease deposits are recorded at amortised cost, less impairment. (m) Property, plant and equipment Acquisition Items of property, plant and equipment acquired are capitalised when it is probable that the future economic benefits associated with the item will flow to the entity and the cost can be measured reliably. Where these costs represent separate components of a complex asset, they are accounted for as separate assets and are separately depreciated over their useful lives. Costs incurred on property, plant and equipment, which do not meet the criteria for capitalisation, are expensed as incurred. Property, plant and equipment, leasehold improvements and equipment under finance lease are stated at cost less accumulated depreciation, less impairment losses. Cost includes expenditure that is directly attributable to the acquisition of the item. Depreciation Items of property, plant and equipment, including buildings and leasehold property but excluding freehold land, are depreciated using the straight line method over their estimated useful lives. Leasehold improvements are depreciated over the period of the lease or remaining lease term or estimated useful life, whichever is the shorter, using the straight line method. The estimated useful lives used for each class of asset are as follows: Buildings Leasehold improvements Office furniture and fittings Office equipment Motor vehicles 40 years Shorter of the useful life of the asset or the remaining lease term 7.7 years 3-4 years 6.7 years Depreciation rates and methods are reviewed annually and, where changed, are accounted for as a change in accounting estimate. Where depreciation rates or methods are changed, the net written down value of the asset is depreciated from the date of the change in accordance with the new depreciation rate or method. Assets are depreciated from the date of acquisition or, in respect of internally constructed assets, from the time an asset is completed and held ready for use. 40 Servcorp annual report 2006 the world’s finest serviced offices 1 (n) (o) (p) (q) Summary of accounting policies (continued) Leased assets Finance leases Leased plant and equipment Leases of plant and equipment under which the Company or its controlled entities assume substantially all the risks and benefits of ownership are classified as finance leases. Other leases are classified as operating leases. Finance leases are capitalised. A lease asset and a lease liability equal to the fair value of the asset, or if lower the present value of the minimum lease payments, is recorded at the inception of the lease. Contingent rentals are written off as an expense in the accounting period in which they are incurred. Capitalised leased assets are amortised on a straight line basis over the term of the relevant lease, or where it is likely the Consolidated Entity will obtain ownership of the assets, the life of the asset. Lease liabilities are reduced by repayments of principal. The interest components of the lease payments are charged to the Income statement. Operating leases Operating lease payments are recognised as an expense on a straight line basis over the lease term, except where another systematic basis is more representative of the time pattern in which economic benefits from the leased asset are consumed. Lease incentives Floor rental is expensed in the accounting period in which it is due and payable in accordance with lease agreements entered into with landlords. Where a rent free period or other lease incentives exist under the terms of a lease agreement, the aggregate rent payable over the lease term is calculated and a charge is made to the Income statement on a straight line basis over the term of the lease. In the event that lease incentives are received to enter into operating leases, such incentives are recognised as a liability. Payables Liabilities are recognised for amounts payable in the future for goods or services received, whether or not billed to the Consolidated Entity or the Company. Trade accounts payable are normally settled within 60 days. Borrowings Borrowings are recorded initially at fair value, net of transaction costs. Any difference between the initial recognised amount and the redemption value is recognised in the Income statement over the life of the borrowings using the effective interest rate method. Provisions Provisions are recognised when the Consolidated Entity has a present obligation, the future sacrifice of economic benefits is probable, and the amount of the provision can be measured reliably. When some or all of the economic benefits required to settle a provision are expected to be recovered from a third party, the receivable is recognised as an asset if it is virtually certain that recovery will be received and the amount of the receivable can be measured reliably. The amount recognised as a provision is the best estimate of the consideration required to settle the present obligation at the reporting date, taking into account the risks and uncertainties surrounding the obligation. Where a provision is measured using the cash flows estimated to settle the present obligation, its carrying amount is the present value of those cash flows. Make good costs A provision is made for make good costs on leases that are expected to terminate within eighteen months of the Balance sheet date, where those make good costs can be reliably measured, and can be reasonably expected to occur. Onerous contracts An onerous contract is considered to exist where the Consolidated Entity has a contract under which the unavoidable cost of meeting the contractual obligations exceed the economic benefits estimated to be received. Present obligations arising under onerous contracts are recognised as a provision to the extent that the present obligation exceeds the economic benefits estimated to be received. Servcorp annual report 2006 41 Notes to the financial statements for the financial year ended 30 June 2006 1 (r) Summary of accounting policies (continued) Employee benefits Wages, salaries and annual leave The provisions for employee benefits in respect of wages, salaries and annual leave represents the amount which the Consolidated Entity has a present obligation to pay resulting from employees' services provided up to the reporting date. Provisions made in respect of employee benefits expected to be settled within twelve months, are measured at their nominal values using the remuneration rate expected to apply at the time of settlement. Long service leave The provision for employee benefits in respect of long service leave represents the present value of the estimated future cash outflows to be made by the Consolidated Entity resulting from employees' services provided up to the reporting date. Provisions for employee benefits which are not expected to be settled within twelve months are discounted using the rates attaching to national government securities at the balance sheet date, which most closely match the terms of maturity of the related liabilities. In determining the provision for employee benefits, consideration has been given to future increases in wage and salary rates, and the Consolidated Entity's experience with staff departures. Related on-costs have also been included in the liability. Executive and employee share option schemes Servcorp Limited has granted options to certain executives and employees under Executive and Employee Share Option Schemes. Further information is set out in Notes 23 and 29 to the financial statements. Defined contribution superannuation fund The Company and other controlled entities contribute to a defined contribution superannuation plan. Contributions are charged to the Income statement as they are made. Further information is set out in Note 23. Contributions to defined contribution superannuation plans are expensed as incurred. (s) Earnings per share (EPS) Basic earnings per share Basic EPS is calculated by dividing the net profit attributable to members of the Consolidated Entity for the reporting period, by the weighted average number of ordinary shares of the Company. Diluted earnings per share Diluted EPS is calculated by adjusting the basic EPS earnings by the effect of conversion to ordinary shares of the associated dilutive potential ordinary shares. The notional earnings on the funds that would have been received by the entity had the potential ordinary shares been converted are not included. The diluted EPS weighted average number of shares includes the number of shares assumed to be issued for no consideration in relation to dilutive potential ordinary shares, rather than the total number of dilutive potential ordinary shares. The identification of dilutive potential ordinary shares is based on net profit or loss from continuing ordinary operations and is applied on a cumulative basis, taking into account the incremental earnings and incremental number of shares for each series of potential ordinary share. (t) (u) Debt and equity instruments Debt and equity instruments are classified as either liabilities or as equity in accordance with the substance of the contractual arrangement. Cash and cash equivalents Cash and cash equivalents comprise cash on hand, cash in banks and investments in money market instruments, net of outstanding bank overdrafts. Bank overdrafts are shown within borrowings in current liabilities in the Balance sheet. 42 Servcorp annual report 2006 the world’s finest serviced offices 1 (v) Summary of accounting policies (continued) Comparative information - financial instruments The Consolidated Entity has elected not to restate comparative information for financial instruments within the scope of Accounting Standards AASB 132 'Financial Instruments: Disclosure and Presentation' and AASB 139 'Financial Instruments: Recognition and Measurement', as permitted on the first time adoption of A-IFRS. The accounting policies applied to accounting for financial instruments in the current financial year are detailed in Notes 1(j), (l) and (p). Effect of changing the accounting policies for financial instruments Had the A-IFRS accounting policies for financial instruments been applied for the comparative year, the effect at 30 June 2005 would be to increase financial assets and consequently retained earnings by $177,000 in relation to the aggregate amount of unrealised gains under forward foreign exchange contracts for anticipated future transactions. The following accounting policies were applied to financial instruments in the comparative financial year: Other financial assets Controlled entities Investments in controlled entities were carried in the Company's financial statements at the lower of cost and recoverable amount. Dividends and distributions were brought to account in the Income statement when they were declared by the Controlled Entities. Other companies Investments in other listed and unlisted companies were carried at the lower of cost and recoverable amount. Dividends were brought to account in the Income statement as they accrued. Interest bearing financial instruments Current Investments in interest bearing financial instruments held for sale were measured at fair market value. Income from these instruments were brought to account in the Income statement as earned. Non-current Investments in non-current interest bearing instruments not held for sale were carried at cost on the basis that they will be held until maturity. Income from these instruments were brought to account in the Income statement as they accrued. Forward foreign currency exchange contracts The Company actively manages foreign currency exposure of revenue transactions generated offshore. Forward foreign currency exchange contracts taken out to manage foreign exchange exposure were designated to underlying transactions at the inception of the forward foreign currency exchange contract. Foreign exchange risk is managed within the acceptable risk limits, agreed procedures and in compliance with policy guidelines as approved from time to time by the Board. Gains and losses that arose on a hedged instrument were deferred and included in the measurement of the anticipated hedged revenue. The unhedged portion of offshore revenue transactions were translated at the average rate for the month. In the event of early termination of forward foreign currency exchange contracts of an anticipated transaction, the deferred gains and losses that arose on the forward foreign currency exchange contract prior to its termination were: - deferred and included in the measurement of the transaction when it took place, where the anticipated transaction was expected to occur; or - recognised in the Income statement at the date of termination, if the anticipated transaction was no longer expected to occur. Servcorp annual report 2006 43 Notes to the financial statements for the financial year ended 30 June 2006 1 (w) Summary of accounting policies (continued) AASB accounting standards not yet effective The Australian Accounting Standards Board (AASB) and Urgent Issues Group (UIG) issued additional standards and interpretations which are effective for periods commencing after the date of these financial statements. The following standards and interpretations have not yet been adopted by the Consolidated Entity: - AASB 7 Financial Instruments: Disclosures. The application date is the first financial period beginning on or after 1 January 2007. - AASB 2004-3 Amendments to Australian Accounting Standards (December 2004) amending AASB 1 First-time Adoption of Australian Equivalents to International Financial Reporting Standards (July 2004), AASB 101 Presentation of Financial Statements, AASB 124 Related Party Disclosures - the application date is the first financial reporting period beginning on or after 1 January 2006. - AASB 2005-1 Amendments to Australian Accounting Standards (May 2005) amending AASB 139 Financial Instruments: Recognition and Measurement - the application date is the first financial reporting period beginning on or after 1 January 2006. - AASB 2005-4 Amendments to Australian Accounting Standards (June 2005) amending AASB 139 Financial Instruments: Recognition and Measurement, AASB 132 Financial Instruments: Disclosure and Presentation, AASB 1 First-time Adoption of Australian Equivalents to International Financial Reporting Standards (July 2004). The application date is the first financial period beginning on or after 1 January 2006. - AASB 2005-5 Amendments to Australian Accounting Standards (June 2005) amending AASB 1 First-time Adoption of Australian Equivalents to International Financial Reporting Standards (July 2004) and AASB 139 Financial Instruments: Recognition and Measurement - the application date is the first financial reporting period beginning on or after 1 January 2006. - AASB 2005-9 Amendments to Australian Accounting Standards (September 2005) amending AASB 139 Financial Instruments: Recognition and Measurement - the application date is the first financial reporting period beginning on or after 1 January 2006. - UIG 4 Determining whether an arrangement contains a lease - the application date is the first financial reporting period beginning on or after 1 January 2006. The Consolidated Entity does not anticipate that the adoption of these standards and interpretations will have a material impact on its financial statements on initial adoption. Upon adoption of AASB 7 'Financial Instruments: Disclosures', the Consolidated Entity will be required to disclose additional information about financial instruments, including greater detail as to its risk disclosure. There will be no effect on reported earnings or net assets. 44 Servcorp annual report 2006 2 (a) (b) (c) Profit from operations Revenue Revenue from continuing operations consisted of the following: Revenue from the rendering of services Other income Interest income: Related parties Other Royalties: Related parties Franchise fees: Other Dividends received from: Related parties Net foreign exchange gains Other Total other income Profit before income tax Profit before income tax was arrived at after charging/(crediting) the following from/(to) continuing operations: Net foreign exchange losses Borrowing expenses: Interest Finance charges on capitalised leases Depreciation of leasehold improvements Depreciation of property, plant and equipment Loss on disposal of property, plant and equipment Change in fair value of financial assets classified as fair value through the Income statement Net bad and doubtful debts arising from: Third parties Operating lease rental expense: Minimum lease payments Employee benefit expense: Equity-settled share based payments the world’s finest serviced offices Consolidated The Company 2006 $’000 2005 $’000 2006 $’000 2005 $’000 141,203 120,684 - - - 2,174 - 226 - 985 1,353 4,738 - 29 25 54 4,674 3,634 231 14 701 - 1,862 - 211 - - 1,380 3,453 98 67 91 158 4,212 3,385 181 (153) 450 45,822 42,725 9 6 2,343 14 2,052 14 17,276 12,359 - - 285 - - 2,000 - - 19,918 16,425 - 148 - 148 - - - - - - 9 - 142 - 142 - - - - - - 6 Servcorp annual report 2006 45 Notes to the financial statements for the financial year ended 30 June 2006 3 Significant transactions Individually significant transactions included in profit from ordinary activities before income tax expense: Consolidated The Company 2006 $’000 2005 $’000 2006 $’000 2005 $’000 Floor closure provision (i) Reversal of Brussels closure provision Impairment in value of equity loans receivable Reversal of impairment loss in value of equity loans receivable - (1,298) - - 1,597 - - - - - - (4,746) - - 4,746 - Notes: (i) In 2005 $1,298,000 related to the Brussels floor closure provision. 4 (a) Remuneration of auditors Auditor of the parent entity (Deloitte Touche Tohmatsu Australia (DTT)) Audit and review of financial reports Other services - tax Other services - A-IFRS consulting Other services - statutory accounts review (b) Other auditors (DTT International Associates) Audit and review of financial reports Other services - tax Other services - statutory accounts review (c) Other auditors (KPMG International Associates) Audit and review of financial reports (i) Consolidated The Company 2006 $ 2005 $ 2006 $ 2005 $ 286,201 95,500 24,571 8,000 217,750 96,706 35,797 - 185,761 91,150 24,571 - 126,830 84,000 - - 414,272 350,253 301,482 210,830 339,342 188,943 47,205 231,459 163,808 15,828 575,490 411,095 - - 14,378 14,378 - - - - - - - - - - - - 989,762 775,726 301,482 210,830 The auditor of Servcorp Limited is Deloitte Touche Tohmatsu. Notes: (i) KPMG resigned as auditors of Servcorp Paris SARL on 30 December 2004. 46 Servcorp annual report 2006 the world’s finest serviced offices Consolidated The Company 2006 $’000 2005 $’000 2006 $’000 2005 $’000 9,771 (352) (386) 798 9,831 35,207 10,562 (344) (106) 327 (76) (738) 206 9,831 8,166 238 2 (2,099) 6,307 23,497 7,049 (381) (802) 676 (935) 240 460 6,307 5,546 (342) 8 15 5,227 23,285 6,986 - - (1,425) - (334) - 3,563 166 62 5 3,796 10,911 3,273 - - 295 - 228 - 5,227 3,796 732 319 - - 5,806 1,049 6,855 5,354 771 6,125 5,806 - 5,806 5,354 - 5,354 5 (a) Income taxes Income tax recognised in the Income statement Tax expense comprises: Current tax expense (Over)/under provision in prior years - current tax (Over)/under provision in prior years - deferred tax Deferred tax expense/(income) relating to the origination and reversal of temporary differences Income tax expense The prima facie income tax expense on pre-tax accounting profit from operations reconciles to the income tax expense in the financial statements as follows: Profit before income tax expense Income tax expense calculated at 30% Deductible local taxes Effect of different tax rates on overseas income Other deductible/(non-assessable) items Tax losses of controlled entities recovered Income tax (over)/under provision in prior years Unused tax losses and tax offsets not recognised as deferred tax assets Income tax expense The tax rate used in the above reconciliation is the Australian corporate tax rate of 30% (2005: 30%). (b) Current tax assets and liabilities Current tax assets: Tax refunds receivable Current tax payables: Income tax attributable to Parent entity Subsidiaries Servcorp annual report 2006 47 Notes to the financial statements for the financial year ended 30 June 2006 5 (c) Income taxes (continued) Deferred tax balances Deferred tax assets comprise: Tax losses - revenue Temporary differences Deferred tax liabilities comprise: Temporary differences Net deferred tax assets The gross movement of the deferred tax accounts are as follows: Balance at the beginning of the financial year Movements in foreign exchange rates Income statement (charge)/credit Balance at the end of the financial year Deferred tax assets Movements in temporary differences: Accruals not currently deductible Doubtful debts Depreciable and amortisable assets Tax losses Foreign exchange Other Deferred tax assets Balance at the beginning of the financial year Movements in foreign exchange rates Income statement (charge)/credit Balance at the end of the financial year Deferred tax liabilities Movements in temporary differences: Depreciable and amortisable assets Other Deferred tax liabilities Balance at the beginning of the financial year Movements in foreign exchange Income statement credit Balance at the end of the financial year 48 Servcorp annual report 2006 Consolidated The Company 2006 $’000 2005 $’000 2006 $’000 2005 $’000 1,472 5,677 7,149 461 6,688 7,043 57 (412) 6,688 (243) (160) 358 (521) 153 (23) (436) 7,517 68 (436) 7,149 (95) 71 (24) 474 11 (24) 461 1,993 5,524 7,517 474 7,043 5,366 (420) 2,097 7,043 464 (136) 116 1,227 406 (158) 1,919 6,041 (443) 1,919 7,517 (136) (42) (178) 675 (23) (178) 474 - 25 25 - 25 48 - (23) 25 (23) - - - - - (23) 48 - (23) 25 - - - - - - - - 48 48 - 48 115 - (67) 48 (62) - - - (5) - (67) 115 - (67) 48 - - - - - - - the world’s finest serviced offices Consolidated The Company 2006 $’000 2005 $’000 2006 $’000 2005 $’000 5 (d) Income taxes (continued) Unrecognised deferred tax balances The following deferred tax assets have not been brought to account as assets: Temporary differences Tax losses - revenue 526 2,687 3,213 528 3,314 3,842 - - - - - - Tax losses carried forward Deferred income tax assets are recognised for tax losses carried forward to the extent that the realisation of the related tax benefit through future taxable profits is probable. The Consolidated Entity recognised deferred income tax assets of $1,472,051 (2005: $1,992,706) in respect to losses that can be carried forward against future taxable income. Tax consolidation The Company and its wholly-owned Australian resident entities have formed a tax consolidated group and are therefore taxed as a single entity. The head entity within the tax consolidated group is Servcorp Limited. Entities within the tax consolidated group have entered into a tax sharing agreement and a tax funding agreement with the head entity. Under the terms of this agreement, Servcorp Limited and each of the entities in the tax consolidated group will agree to pay a tax equivalent payment to or from the head entity, based on the current tax liability or current tax asset of the entity. Such amounts are reflected in amounts receivable from or payable to other entities in the tax consolidated group. The tax sharing agreement entered into between members of the tax consolidated group provides for the determination of the allocation of income tax liabilities between the entities should the head entity default on its tax payment obligations. No amounts have been recognised in the financial statements in respect of this agreement as payment of any amounts under the tax sharing agreement is considered remote. Due to the adoption of the transitional provisions, the impact on the financial statements of the Consolidated Entity, arising from adoption of the tax consolidation regime, was not material. The tax consolidation regime has been applied with effect from 1 July 2004. Servcorp annual report 2006 49 Notes to the financial statements for the financial year ended 30 June 2006 6 Segment information Inter-segment pricing is determined on an arm’s length basis. Segment revenue, results, assets and liabilities include items directly attributable to a segment as well as those that can be allocated on a reasonable basis. Unallocated items mainly comprise income earning assets and revenue, interest bearing loans, borrowings and expenses, and corporate assets and expenses. Segment capital expenditure is the total cost incurred during the period to acquire segment assets that are expected to be used for more than one period. Geographical segments In presenting information on the basis of geographical segments, segment revenue is based on the geographical location of customers. Segment assets are based on the geographical location of the assets. The directors consider this geographical segment to be the primary segment for the basis of reporting. Business segments The Consolidated Entity comprises only one business segment which is the provision of executive serviced and virtual offices and associated communications and secretarial services. The directors consider this business segment to be the secondary segment. Geographical segments Australia & New Zealand $'000 Japan & Asia $'000 Europe & Middle East $'000 Eliminated Consolidated $'000 $’000 2006 Revenue Segment revenue Other unallocated revenue and other income Total revenue and other income Result Segment result Unallocated corporate profit Profit before income tax expense Income tax expense Net profit Depreciation Non-cash items other than depreciation Individually significant items (i) Assets Segment assets Unallocated corporate assets Consolidated total assets Acquisitions of non-current assets Liabilities Segment liabilities Unallocated corporate liabilities Consolidated total liabilities 39,393 86,820 17,710 8,513 20,506 5,492 2,659 432 - 4,722 165 - 998 (411) (1,298) 41,744 92,389 16,490 5,104 5,520 25,223 42,957 1,724 6,888 - - (71) (70) - - - - 143,923 2,018 145,941 34,511 696 35,207 (9,831) 25,376 8,308 116 (1,298) 150,623 5,697 156,320 12,348 75,068 (26,009) 49,059 Notes: (i) Individually significant items were in relation to the reversal of the Brussels closure provision. Refer to Note 3. 50 Servcorp annual report 2006 the world’s finest serviced offices 6 Segment information (continued) Geographical segments Australia & New Zealand $'000 Japan & Asia $'000 Europe & Middle East $'000 Eliminated Consolidated $'000 $’000 2005 Revenue Segment revenue Other unallocated revenue and other income Total revenue and other income Result Segment result Unallocated corporate profit Profit before income tax expense Income tax expense Net profit Depreciation Non-cash items other than depreciation Individually significant items (i) Assets Segment assets Unallocated corporate assets Consolidated total assets Acquisitions of non-current assets Liabilities Segment liabilities Unallocated corporate liabilities Consolidated total liabilities 36,363 71,360 14,502 7,072 13,949 414 2,446 227 234 3,783 54 675 1,022 (293) 688 31,564 84,276 15,933 1,295 10,217 23,215 40,398 522 7,565 Notes: (i) Individually significant items were in relation to floor closure costs. Refer to Note 3. - - 346 986 - - - - 122,225 1,912 124,137 21,435 2,062 23,497 (6,307) 17,190 7,597 974 1,597 131,773 2,909 134,682 12,034 71,178 (25,386) 45,792 Servcorp annual report 2006 51 Notes to the financial statements for the financial year ended 30 June 2006 7 Dividends Dividends proposed (unrecognised) or paid (recognised) by the Company are: Cents per share Total amount $'000 Date of payment Tax rate for franking credit Percentage franked Recognised amounts 2005 Interim - fully paid ordinary shares Final - fully paid ordinary shares 2006 Interim - fully paid ordinary shares 3.75 4.00 4.50 3,015 3,216 1 April 2005 4 October 2005 3,618 4 April 2006 30% 30% 30% 100% 100% 100% Unrecognised amounts Since the end of the financial year, the directors have declared the following dividend: Final - fully paid ordinary shares 6.00 4,826 4 October 2006 30% 100% In determining the level of future dividends, the directors will seek to balance growth objectives and rewarding shareholders with income. This policy is subject to the cash flow requirements of the Company and its investment in new opportunities aimed at growing earnings. The directors cannot give any assurances concerning the extent of future dividends, or the franking of such dividends, as they are dependent on future profits, the financial and taxation position of the Company and the impact of taxation legislation. Dividend franking account 30% franking credits available Impact on franking account balance of dividends not recognised The Company 2006 $'000 11,353 2,068 2005 $'000 7,299 1,378 The balance of the franking account has been adjusted for franking credits that will arise from the payment of income tax provided for in the financial statements, and for franking debits that will arise from the payment of dividends recognised as a liability at reporting date. 8 Earnings per share Earnings reconciliation: Net profit Earnings used in the calculation of basic and diluted EPS Weighted average number of ordinary shares used in the calculation of basic EPS Shares deemed to be issued for no consideration in respect of: Employee options Weighted average number of ordinary shares used in calculation of diluted EPS Basic earnings per share Diluted earnings per share Consolidated 2006 $’000 2005 $’000 25,376 25,376 17,190 17,190 Number 80,398,310 Number 80,446,478 30,000 80,428,310 30,000 80,476,478 $0.316 $0.316 $0.214 $0.214 Classification of securities as potential ordinary shares Options As at 30 June 2006, the Company had on issue 30,000 (2005: 30,000) options over unissued capital. The inclusion of these potential ordinary shares leads to a diluted earnings per share that is not materially different from the basic earnings per share. 52 Servcorp annual report 2006 the world’s finest serviced offices Note 9 Cash and cash equivalents Cash Bank short term deposits Consolidated The Company 2006 $'000 2005 $'000 2006 $'000 2005 $'000 19,448 38,765 58,213 8,202 34,764 42,966 19 - 19 174 - 174 Bank short term deposits mature within an average of 146 days. These deposits and the interest earning portion of the cash balance earn interest at a weighted average rate of 5.29% (2005: 5.27%). 10 Trade and other receivables Current At amortised cost (2005: cost) Trade receivables Less: allowance for doubtful debts Other debtors Amounts receivable from controlled entities (i) 30 Non-current At amortised cost (2005: cost) Other debtors 13,368 (346) 1,529 - 14,551 12,103 (245) 680 - 12,538 - - 108 78,587 78,695 - - 1,078 75,867 76,945 - 227 - 227 Notes: (i) The weighted average interest rate for the year ended 30 June 2006 on outstanding loan balances was 4.71% for secured loans and 11.18% for unsecured loans (2005: 3.78% for secured loans and 10.90% for unsecured loans). 11 Other assets Current Prepayments Other 12 Other financial assets Current At fair value (2005: net fair value) Investment in fixed rate bonds (i) Investment in reset preference securities (i) Forward foreign currency exchange contracts (i) At amortised cost (2005: cost) Lease deposits 22 22 3,638 1,606 5,244 2,835 2,200 101 5,136 1,635 6,771 3,958 2,141 6,099 2,872 2,859 - 5,731 1,457 7,188 33 - 33 - - - - - - 24 - 24 - - - - - - Servcorp annual report 2006 53 Notes to the financial statements for the financial year ended 30 June 2006 12 Other financial assets (continued) Non-current At cost Shares in controlled entities Investment - equity loans to controlled entities At amortised cost (2005: cost) Lease deposits Other Note 22 22 Consolidated The Company 2006 $'000 2005 $'000 2006 $'000 2005 $'000 - - 19,354 60 19,414 - - 19,076 21,084 19,076 16,338 17,856 54 17,910 - - - - 40,160 35,414 Notes: (i) Designated as a financial asset at fair value through the Income statement from 1 July 2005. 13 Property, plant and equipment Land and buildings - at cost Accumulated depreciation Leasehold improvements - owned at cost Accumulated depreciation Leasehold improvements - leased at cost Accumulated depreciation Office furniture and fittings - owned at cost Accumulated depreciation Office furniture and fittings - leased at cost Accumulated depreciation Office equipment - owned at cost Accumulated depreciation Office equipment - leased Accumulated depreciation Motor vehicles - owned at cost Accumulated depreciation Capital works in progress - at cost 1,626 (67) 1,559 743 (51) 692 37,635 (20,615) 29,926 (17,032) 17,020 6,267 (5,603) 664 8,423 (3,836) 4,587 1,271 (1,176) 95 14,783 (9,602) 5,181 - - - 226 (65) 161 - 12,894 6,293 (4,914) 1,379 8,082 (3,196) 4,886 1,283 (1,054) 229 13,011 (8,247) 4,764 1,001 (1,001) - 146 (38) 108 - 54 Servcorp annual report 2006 29,267 24,952 - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - the world’s finest serviced offices Consolidated The Company 2006 $’000 2005 $’000 2006 $’000 2005 $’000 13 Property, plant and equipment (continued) Reconciliations Reconciliation of the carrying amounts for each class of property, plant and equipment are set out below: Land and buildings Balance at the beginning of the financial year Additions Disposals Depreciation Net foreign currency differences on translation of self sustaining operations Balance at the end of the financial year Leasehold improvements - owned Balance at the beginning of the financial year Additions Disposals Depreciation Transfers (to)/ from other class of asset Net foreign currency differences on translation of self sustaining operations Balance at the end of the financial year Leasehold improvements - leased Balance at the beginning of the financial year Additions Disposals Depreciation Transfers (to)/ from other class of asset Net foreign currency differences on translation of self sustaining operations Balance at the end of the financial year Office furniture and fittings - owned Balance at the beginning of the financial year Additions Disposals Depreciation Transfers (to)/ from other class of asset Net foreign currency differences on translation of self sustaining operations Balance at the end of the financial year Office furniture and fittings - leased Balance at the beginning of the financial year Additions Disposals Depreciation Transfers (to)/ from other class of asset Net foreign currency differences on translation of self sustaining operations Balance at the end of the financial year 692 892 - (16) (9) 1,559 12,894 7,166 (53) (3,967) 503 477 17,020 1,379 - - (707) - (8) 664 4,886 1,373 (81) (1,150) (500) 59 4,587 229 - - (133) - (1) 95 785 - - (12) (81) 692 10,524 6,732 (267) (3,379) 66 (782) 12,894 2,340 - - (833) - (128) 1,379 3,918 2,235 (25) (1,006) 2 (238) 4,886 393 - - (152) - (12) 229 - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - Servcorp annual report 2006 55 Notes to the financial statements for the financial year ended 30 June 2006 13 Property, plant and equipment (continued) Reconciliations (continued) Reconciliation of the carrying amounts for each class of property, plant and equipment are set out below: Office equipment - owned Balance at the beginning of the financial year Additions Disposals Depreciation Transfers (to)/ from other class of asset Net foreign currency differences on translation of self sustaining operations Balance at the end of the financial year Office equipment - leased Balance at the beginning of the financial year Additions Disposals Depreciation Transfers (to)/ from other class of asset Net foreign currency differences on translation of self sustaining operations Balance at the end of the financial year Motor vehicles Balance at the beginning of the financial year Additions Disposals Depreciation Transfers (to)/ from other class of asset Net foreign currency differences on translation of self sustaining operations Balance at the end of the financial year Capital works in progress Balance at the beginning of the financial year Additions Disposals Depreciation Transfers (to)/ from other class of asset Net foreign currency differences on translation of self sustaining operations Balance at the end of the financial year Consolidated The Company 2006 $’000 2005 $’000 2006 $’000 2005 $’000 4,764 2,674 - (2,306) (3) 52 5,181 - - - - - - - 108 243 (141) (29) - (20) 161 - - - - - - - 3,647 2,978 (57) (2,155) 446 (95) 4,764 43 - - (41) - (2) - 42 89 - (19) - (4) 108 804 - - - (514) (290) - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - - Aggregate depreciation incurred during the year was recognised as an expense and is disclosed in Note 2 to the financial statements. 56 Servcorp annual report 2006 the world’s finest serviced offices Consolidated The Company 2006 $'000 2005 $'000 2006 $'000 2005 $'000 14 Goodwill Gross carrying amount and net book value Balance at the beginning of the financial year Balance at the end of the financial year 15,440 15,440 15,440 15,440 - - - - At each reporting date, the Consolidated Entity assessed the recoverable amount of goodwill, and determined that goodwill was not impaired. Allocation of goodwill to cash generating units There are eleven geographical groups of cash generating units as follows: Japan, Australia, New Zealand, China, Hong Kong, Malaysia, Singapore, Thailand, Belgium, United Arab Emirates and France. Goodwill was allocated to the regions in which goodwill arose. The carrying amount of goodwill relating to cash generating units as at 30 June 2006 were as follows: Consolidated 2006 $’000 2005 $’000 Japan France Australia New Zealand Singapore Thailand China 9,161 2,187 2,114 785 706 326 161 9,161 2,187 2,114 785 706 326 161 15,440 15,440 The recoverable amount of goodwill relating to each cash generating unit was determined based on value-in-use calculations, which uses cash flow projections based on financial forecasts approved by management, covering a five year period. The discount rate applied was 11.50% p.a. (2005: 11.50% p.a.). Management have applied assumptions to the future forecast cash flows based on historic performance and historic growth. The assumptions did not include any acquisitions or capital expansions. Servcorp annual report 2006 57 Notes to the financial statements for the financial year ended 30 June 2006 15 Trade and other payables Current At amortised cost (2005: cost) Trade creditors Deferred income Deferred lease incentive Other creditors and accruals Amounts payable to controlled entities Non-current At amortised cost (2005: cost) Deferred lease incentive Loans from controlled entities - unsecured (i) Note 30 30 Consolidated The Company 2006 $'000 2005 $'000 2006 $'000 2005 $'000 3,297 10,101 534 4,726 - 18,658 4,145 - 4,145 7,468 8,259 851 4,366 - 20,944 2,281 - 2,281 - - - 366 14,544 14,910 - 543 543 - - - 471 18,610 19,081 - 543 543 Notes: (i) The unsecured loans from controlled entities bear interest at a floating rate. The weighted average rate for the year ended 30 June 2006 on outstanding unsecured loan balances was 11.18% (2005: 10.90%). 16 Other financial liabilities Current At amortised cost (2005: cost) Bank overdraft (i) Bank loans - secured (ii) Finance lease liabilities (iv) Security deposits Non-current At amortised cost (2005: cost) Finance lease liabilities (iv) Loans from controlled entities - unsecured (iii) Security deposits 22 22 24 22 24 30 1,848 521 15 14,148 16,532 - - - - 1,188 92 592 8,108 9,980 15 - 2,702 2,717 - - - - - - 582 - 582 - - - - - - 1,996 - 1,996 Notes: (i) In the consolidated financial report, the bank overdrafts are denominated in Yen and Renminbi, and are unsecured. Interest at a rate of 1.86% (2005: 1.90%) is applicable to the Yen outstanding balance. Interest at a rate of 5.31% (2005: Nil) is applicable to the Renminbi outstanding balance. (ii) (iii) The bank loan is denominated in Yen and is secured by a mortgage over property, the current market value of which exceeds the value of the bank loan. The interest rate on the loan is 1.48% (2005: 1.45%). The unsecured loans from controlled entities bear interest at a floating rate. The weighted average interest rate for the year ended 30 June 2006 on outstanding unsecured loan balances was 11.18% (2005: 10.90%). (iv) Secured by the assets leased. 58 Servcorp annual report 2006 the world’s finest serviced offices Consolidated The Company 2006 $'000 2005 $'000 2006 $'000 2005 $'000 10,274 9,832 43 2,274 22,423 8,632 2,389 30 11,051 1,642 7,443 13 2,274 11,372 9,141 4,735 1,274 2,168 17,318 7,129 1,188 607 8,924 2,012 3,547 667 2,168 8,394 10,274 1,015 43 2,274 13,606 8,632 15 30 8,677 1,642 1,000 13 2,274 4,929 9,141 1,250 986 2,168 13,545 7,129 - 319 7,448 2,012 1,250 667 2,168 6,097 17 Financing arrangements The Consolidated Entity and the Company have access to the following lines of credit: Total facilities available: Bank guarantees (i) Bank overdrafts (iv) Lease facilities (ii) Bill acceptance / payroll / other facilities (iii) Facilities utilised at balance sheet date: Bank guarantees (i) Bank overdrafts (iv) Lease facilities (ii) Facilities not utilised at balance sheet date: Bank guarantees (i) Bank overdrafts (iv) Lease facilities (ii) Bill acceptance / payroll / other facilities (iii) Notes: (i) Bank guarantees have been issued to secure rental bonds over premises. The guarantees are secured by a cross guarantee and indemnity between Servcorp Limited and its Australian and New Zealand controlled entities. A guarantee has also been established to secure an overdraft limit in the form of a term deposit. (ii) Lease facilities have been established to finance the fitout of new locations. The facilities are secured by the assets under lease, the current market value of which exceeds the value of the lease liability. Facilities established are both fixed and revolving in nature. (iii) Bill acceptance, payroll and other facilities have been established to facilitate the encashment of cheques, to accommodate direct entry payroll and direct entry supplier payments. (iv) Bank overdraft limits have been established to fund working capital as required. All bank overdraft facilities are unsecured. Servcorp annual report 2006 59 Notes to the financial statements for the financial year ended 30 June 2006 Note Consolidated The Company 2006 $'000 2005 $'000 2006 $'000 2005 $'000 18 Provisions Current Employee benefits Provision for make good costs (i) Provision for litigation costs (ii) Provision for floor closure costs (iii) Other Non-current Employee benefits 22 22 Balance at the beginning of the financial year Reductions arising from payments Reductions resulting from the re-measurement of the estimated future sacrifice or the settlement of the provision without cost to the entity Additional provisions recognised Balance at the end of the financial year 2,001 68 - - 262 2,331 538 538 Make good costs $’000 653 (373) (212) - 68 1,190 653 40 1,298 - 3,181 564 564 - - - - - - - - Consolidated Litigation costs $’000 40 (40) - - - Floor closure costs $’000 1,298 - (1,298) - - - - - - - - - - Other $’000 - - - 262 262 Notes: (i) An amount of $68,000 (2005: $653,000) has been provided for the make good of one floor that is due to close within eighteen months of the balance sheet date. (ii) An amount of Nil (2005: $40,000) has been provided for legal costs. (iii) The decision to close the Brussels location was reviewed and consequently the closure provision of $1,298,000 was reversed in December 2005. 60 Servcorp annual report 2006 the world’s finest serviced offices Consolidated The Company 2006 $'000 2005 $'000 2006 $'000 2005 $'000 80,694 80,694 80,694 80,694 80,694 81,182 80,694 81,182 - - 80,694 1,767 (2,255) 80,694 - - 80,694 1,767 (2,255) 80,694 19 Issued capital Fully paid ordinary shares 80,398,310 (2005: 80,398,310) Movements in issued capital Balance at the beginning of the financial year Shares issued Nil (2005: 1,178,000) from the exercise of options under the Share Option Schemes Shares bought back Nil (2005: 926,044) shares Balance at the end of the financial year Share buy-back On 4 May 2005, the Company completed a buy-back of 926,044 ordinary shares, representing approximately 1.1% of ordinary shares on issue at that date. The cost of the share buy-back included consideration of $2,223,000 and transaction costs of $32,000. The consideration was allocated in the following proportions: Share capital Retained earnings Nil $2,255,000 Options Ordinary shares were issued pursuant to exercise of options as follows: Nil shares were issued in the current year (2005: 1,178,000 were issued at $1.50 per share). Further details of the Executive and Employee Share Option Schemes are detailed in Note 23 to the financial statements. Terms and conditions Holders of ordinary shares are entitled to receive dividends as declared from time to time and are entitled to vote at members' meetings. Fully paid ordinary shares carry one vote per share. In the event of winding up of the Company, holders of ordinary shares are entitled to any excess after payment of all debts and liabilities of the Company and costs of winding up. Servcorp annual report 2006 61 Notes to the financial statements for the financial year ended 30 June 2006 20 Reserves Employee equity-settled benefits reserve Foreign currency translation reserve Movements during the financial year Foreign currency translation reserve Balance at the beginning of the financial year Deferred exchange differences arising from monetary items considered part of the investment in self-sustaining foreign operations Translation of foreign operations Balance at the end of the financial year The foreign currency translation reserve records the foreign currency movements arising from the translation of foreign operations and the translation of monetary items forming part of the net investment in foreign operations. Employee equity-settled benefits reserve Balance at the beginning of the financial year Share based payment Balance at the end of the financial year The employee equity-settled benefits reserve arises on the grant of share options to the Chief Financial Officer T Wallace as detailed in Note 29. 21 Retained earnings Consolidated The Company 2006 $'000 2005 $'000 2006 $'000 2005 $’000 Note 16 (8,317) (8,301) 7 (7,960) (7,953) (7,960) (4,809) 546 (903) (8,317) (2,264) (887) (7,960) 7 9 16 1 6 7 16 - 16 - - - - 7 9 16 7 - 7 - - - - 1 6 7 Retained earnings at the beginning of the financial year Adjustments on adoption of accounting policies specified by AASB 132 and AASB 139 (refer Note 1(v)) Restated balance at the beginning of the financial year Net profit for the period Dividends paid 7 Retained earnings at the end of the financial year 16,149 4,996 5,157 4,079 177 16,326 25,376 41,702 (6,834) 34,868 - 4,996 17,190 22,186 (6,037) 16,149 - 5,157 18,058 23,215 (6,834) 16,381 - 4,079 7,115 11,194 (6,037) 5,157 62 Servcorp annual report 2006 the world’s finest serviced offices 22 (a) Additional financial instruments disclosure Interest rate risk Interest rate risk exposures The Consolidated Entity's exposure to interest rate risk and the effective weighted average interest rates for the different classes of financial assets and financial liabilities are set out below: Floating interest rate Fixed interest maturing in 1 to 5 years 1 year or less More than 5 years $’000 Note Weighted average interest rate % 2006 Financial assets Cash and cash equivalents Receivables Lease deposits Investments Other Financial liabilities Bank overdrafts and loans Payables Lease liabilities Security deposits Employee benefits 2005 Financial assets Cash and cash equivalents Receivables Lease deposits Investments Other Financial liabilities Bank overdrafts and loans Payables Lease liabilities Security deposits Employee benefits 9 10 12 12 12 16 15 24 16 18 9 10 12 12 12 16 15 24 16 18 5.29% - - 5.57% - 2.74% - 8.34% - - 5.27% - - 6.06% - 1.87% - 7.16% - - $’000 $’000 $’000 2,782 - - - - 2,782 1,848 - - - - 1,848 38,765 - - 5,035 - 43,800 - - 15 - - 15 - - - - - - 521 - - - - 521 934 43,785 (521) 2,702 - - - - 2,702 1,188 - - - - 1,188 1,514 34,764 - - 5,731 - 40,495 92 - 592 - - 684 - - - - - - - - 15 - - 15 39,811 (15) Non- interest bearing Total $’000 $’000 16,666 14,551 20,989 101 60 52,367 - 22,803 - 14,148 2,539 39,490 58,213 14,551 20,989 5,136 60 98,949 2,369 22,803 15 14,148 2,539 41,874 12,877 57,075 5,500 12,765 19,313 - 54 37,632 - 23,225 - 10,810 1,754 35,789 42,966 12,765 19,313 5,731 54 80,829 1,280 23,225 607 10,810 1,754 37,676 1,843 43,153 - - - - - - - - - - - - - - - - - - - - - - - - - - Servcorp annual report 2006 63 Notes to the financial statements for the financial year ended 30 June 2006 22 (b) Additional financial instruments disclosure (continued) Foreign exchange risk The Consolidated Entity actively manages foreign exchange risk. The policy involves entering into forward foreign currency exchange contracts to hedge anticipated transactions so as to manage foreign exchange risk. The following table sets out the details of forward foreign currency exchange contracts in place as at 30 June 2006. Average exchange rate 2005 2006 Foreign currency 2006 ¥ million 2005 ¥ million Contract value 2006 $’000 2005 $’000 Fair value 2005 $’000 2006 $’000 Outstanding contracts Sell Japanese yen Not later than one year 81.86 76.47 600 150 7,329 1,962 101 177 (c) Credit risk exposures Credit risk represents the loss that would be recognised if counterparties failed to perform as contracted. On-balance sheet financial instruments The credit risk on financial assets, excluding investments, of the Consolidated Entity which have been recognised on the Balance sheet, is the carrying amount, net of any allowances for losses. The Consolidated Entity minimises concentrations of credit risk by undertaking transactions with a large number of customers and counterparties in various countries. The Consolidated Entity is not materially exposed to any individual customer. (d) Fair value of financial instruments The directors consider that the carrying amount of financial assets and financial liabilities recorded in the financial statements approximate their fair values. The fair values and net fair values of financial assets and financial liabilities are determined as follows: - - - the fair value of financial assets and financial liabilities traded on active liquid markets with standard terms and conditions are determined with reference to quoted market prices; and the fair value of other financial assets and financial liabilities are determined in accordance with generally accepted pricing models based on discounted cash flow analysis; and the fair value of derivative instruments, included in hedged assets and liabilities, are calculated using quoted prices. Where such prices are not available, use is made of discounted cash flow analysis using the applicable yield curve for the duration of the instruments. Transaction costs are included in the determination of net fair value. Financial risk management objectives The Consolidated Entity's corporate treasury function provides services to the business, co-ordinates access to domestic and international financial markets, and manages the financial risks relating to the operations of the Consolidated Entity. The Consolidated Entity does not enter into or trade financial instruments, for speculative purposes. The use of financial derivatives is governed by the Consolidated Entity's policies approved by the Board of Directors. 64 Servcorp annual report 2006 the world’s finest serviced offices 22 (e) Additional financial instruments disclosures (continued) Liquidity risk management The Consolidated Entity manages liquidity risk by maintaining adequate reserves, banking facilities and borrowing facilities. The Consolidated Entity continuously monitors forecast and actual cash flows and matches maturity profiles of financial assets and liabilities. (f) Interest rate risk management The Consolidated Entity is exposed to interest rate risk as it borrows funds at both fixed and floating interest rates. Risk is managed by maintaining an appropriate mix between fixed and floating rate for secured and unsecured debt. The carrying amounts and net fair values of financial assets and liabilities as at 30 June 2006 were as follows: Consolidated Note Carrying amount 2005 2006 $'000 $'000 Net fair value 2006 $'000 2005 $'000 Financial assets Cash Receivables Lease deposits Investments: Fixed rate bonds Reset preference securities Forward foreign currency exchange contracts Other Financial liabilities Bank overdrafts and loans Payables Finance lease liabilities Employee benefits Security deposits 9 10 12 12 12 12 12 16 15 16 18 16 58,213 14,551 20,989 2,835 2,200 101 60 42,966 12,765 19,313 2,872 2,859 - 54 58,213 14,551 20,989 2,835 2,200 101 60 42,966 12,765 19,313 2,872 2,859 - 54 98,949 80,829 98,949 80,829 2,369 22,803 15 2,539 14,148 41,874 1,280 23,225 607 1,754 10,810 37,676 2,369 22,803 15 2,539 14,148 41,874 1,280 23,225 607 1,754 10,810 37,676 Servcorp annual report 2006 65 Notes to the financial statements for the financial year ended 30 June 2006 23 Employee benefits Defined contribution fund Controlled entities in the Consolidated Entity contribute to a superannuation fund established for the benefit of employees. The Servcorp Superannuation Fund provides benefits which reflect accumulated contributions and plan earnings. Contributions by the Company's controlled entities are based on a percentage of salaries. The Company's controlled entities are legally obliged to contribute to the fund, unless an employee nominates a fund of their choice, or until the employee ceases to be employed by the Consolidated Entity. The directors, based on the advice of the trustees of the fund, are not aware of any changes in circumstances since the date of the most recent financial statements of the fund which would have a material impact on the overall financial position of the fund. Details of contributions to funds during the year and contributions payable as at 30 June 2006 are as follows: Employer contributions to the fund Employer contributions to other funds Employer contributions payable to the fund Consolidated The Company 2006 $'000 937 100 - 2005 $'000 794 48 - 2006 $'000 - - - 2005 $'000 - - - Options granted to employees Executive and Employee Share Option Schemes An initial issue of options under these two schemes was granted on 29 November 1999. These options had an expiry date of 29 November 2004. The options were exercisable any time after the expiration of two years from the issue of the options and prior to the expiry of the options, at a price of $1.50 per share. The options expired on the earlier of five years from the date of issue or the date which the option holder ceased to be a director or employee of the Company or any of its controlled entities. The Company 2006 Number 2005 Number Share option schemes Balance at the beginning of the financial year Exercised during the financial year Balance at the end of the financial year Granted during the financial year No options were granted during the financial year ended 30 June 2006. 30,000 - 30,000 1,208,000 (1,178,000) 30,000 30,000 options were issued under the Executive Share Option Scheme on 21 May 2004 with an exercise price of $2.00 and an expiry date of 21 May 2009. No amount was payable by the recipient on receipt of the options. Options issued under Executive and Employee Share Option Schemes carry no rights to dividends and have no voting rights. 66 Servcorp annual report 2006 the world’s finest serviced offices 23 Employee benefits (continued) Options granted to employees (continued) Exercised during the financial year No. of options exercised 2006 - - 2005 200,000 150,000 62,000 20,000 45,000 50,000 32,000 10,000 11,000 150,000 5,000 10,000 150,000 130,000 90,000 63,000 1,178,000 Grant date Exercise date Expiry date Exercise price No. of shares issued Fair value at grant date Fair value at exercise date - - - - 16/12/99 29/11/99 16/12/99 16/12/99 16/12/99 16/12/99 16/12/99 16/12/99 16/12/99 29/11/99 16/12/99 16/12/99 29/11/99 16/12/99 16/12/99 16/12/99 3/9/04 3/9/04 3/9/04 7/9/04 23/9/04 30/9/04 8/10/04 12/11/04 19/11/04 19/11/04 26/11/04 30/11/04 30/11/04 7/12/04 10/12/04 13/12/04 16/12/04 29/11/04 16/12/04 16/12/04 16/12/04 16/12/04 16/12/04 16/12/04 16/12/04 29/11/04 16/12/04 16/12/04 29/11/04 16/12/04 16/12/04 16/12/04 $1.50 $1.50 $1.50 $1.50 $1.50 $1.50 $1.50 $1.50 $1.50 $1.50 $1.50 $1.50 $1.50 $1.50 $1.50 $1.50 - - 200,000 150,000 62,000 20,000 45,000 50,000 32,000 10,000 11,000 150,000 5,000 10,000 150,000 130,000 90,000 63,000 - - $300,000 $225,000 $93,000 $30,000 $67,500 $75,000 $48,000 $15,000 $16,500 $225,000 $7,500 $15,000 $225,000 $195,000 $135,000 $94,500 - - $490,000 $367,500 $151,900 $49,200 $112,500 $125,000 $75,520 $26,400 $27,720 $378,000 $12,250 $26,800 $402,000 $354,900 $243,000 $170,100 1,178,000 $1,767,000 $3,012,790 The fair value of the consideration received is measured as the nominal value of cash receipts on conversion. Lapsed during the financial year Nil (2005: Nil) options expired under the Executive and Employee Share Option Scheme during the financial year ended 30 June 2006. Balance at the end of the financial year Grant date Expiry date Vested Exercise price Number of options outstanding 2004 2005 2006 29 November 1999 16 December 1999 21 May 2004 29 November 2004 16 December 2004 21 May 2009 Yes Yes Yes $1.50 $1.50 $2.00 - - 30,000 - - 30,000 450,000 728,000 30,000 30,000 30,000 1,208,000 The fair value of the services received is measured by the fair value of the equity instruments granted. Servcorp annual report 2006 67 Notes to the financial statements for the financial year ended 30 June 2006 24 Commitments for expenditure Capital expenditure commitments - property, plant and equipment Contracted but not provided for and payable: Not later than one year Later than one year but not later than five years Later than five years Non-cancellable operating lease commitments Future operating lease rentals not provided for in the financial statements and payable: Not later than one year Later than one year but not later than five years Later than five years Consolidated The Company 2006 $'000 2005 $'000 2006 $'000 2005 $'000 4,619 - - 4,619 880 - - 880 54,156 108,015 31,064 37,935 75,162 9,200 193,235 122,297 - - - - - - - - - - - - - - - - The Consolidated Entity leases property and equipment under operating leases expiring from one to eleven years. Operating leases Leasing arrangements Operating leases have been entered into to operate serviced office floors. The average lease term is 7 years, exclusive of option periods. The Consolidated Entity does not have an option to purchase the leased asset at the expiry of the lease period. Finance lease liabilities Minimum future lease payments Consolidated 2006 $’000 2005 $’000 The Company 2006 $’000 2005 $’000 Not later than 1 year Later than 1 year and not later than 5 years Later than 5 years Minimum lease payments (i) Less future finance charges Present value of minimum lease payments 15 - - 15 - 15 647 19 - 666 (59) 607 Included in the financial statements as (Note 16): Current borrowings Non-current borrowings - - - - - - - - - - - - Present value of minimum future lease payments Consolidated 2006 $’000 2005 $’000 The Company 2005 $’000 2006 $’000 15 - - 15 - 15 15 - 15 588 19 - 607 - 607 592 15 607 - - - - - - - - - - - - - - - - - - Notes: (i) Minimum future lease payments includes the aggregate of all lease payments and any guaranteed residual. 68 Servcorp annual report 2006 the world’s finest serviced offices 25 Subsidiaries Name of entity Country of incorporation Ownership interest 2005 2006 % % Parent entity Servcorp Limited (iii) Controlled entities Servcorp Australian Holdings Pty Ltd Servcorp Offshore Holdings Pty Ltd (ii) Servcorp Exchange Square Pty Ltd Servcorp (Miller Street) Pty Ltd Servcorp (North Ryde) Pty Ltd Servcorp Smart Office Pty Ltd Servcorp Smart Homes Pty Ltd Servcorp Business Service (Beijing) Pty Ltd Servcorp Virtual Pty Ltd Servcorp Holdings Pty Ltd (ii) Servcorp Administration Pty Ltd Servcorp Adelaide Pty Ltd Servcorp Bridge Street Pty Ltd Servcorp Brisbane Pty Ltd Servcorp Castlereagh Street Pty Ltd Servcorp Chifley 25 Pty Ltd Servcorp Chifley 29 Pty Ltd Servcorp Communications Pty Ltd Servcorp IT Pty Ltd Servcorp Melbourne Virtual Pty Ltd Servcorp MLC Centre Pty Ltd Servcorp Melbourne 27 Pty Ltd (formerly Servcorp Optus Centre Pty Ltd) Servcorp Sydney Virtual Pty Ltd Servcorp William Street Pty Ltd Servcorp Melbourne 50 Pty Ltd Servcorp Perth Pty Ltd Servcorp Brisbane Riverside Pty Ltd Servcorp Market Street Pty Ltd Office Squared Pty Ltd Servcorp WA Pty Ltd Beechreef (New Zealand) Limited Servcorp New Zealand Limited Company Headquarters Limited Servcorp Wellington Limited Servcorp Serviced Offices Pte Ltd Servcorp Battery Road Pte Ltd Servcorp Marina Pte Ltd Servcorp Franchising Pte Ltd Servcorp Singapore Holdings Pte Ltd Servcorp Hong Kong Limited Servcorp Communications Limited Servcorp Business Services (Shanghai) Co. Ltd Servcorp Business Service (Beijing) Co. Ltd Amalthea Nominees (Malaysia) Sdn Bhd Servcorp Thai Holdings Limited Servcorp Company Limited Headquarters Co. Limited Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia Australia New Zealand New Zealand New Zealand New Zealand Singapore Singapore Singapore Singapore Singapore Hong Kong Hong Kong China China Malaysia Thailand Thailand Thailand 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 - - - 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 Servcorp annual report 2006 69 Notes to the financial statements for the financial year ended 30 June 2006 25 Subsidiaries (continued) Name of entity Controlled entities (continued) Servcorp Japan KK Servcorp Tokyo KK Servcorp Nippon International KK Management International KK Servcorp Ginza KK Servcorp Shinagawa KK Servcorp Nagoya KK Servcorp Japan Holdings KK Servcorp Otemachi KK Servcorp Umeda KK Servcorp Paris SARL Servcorp Brussels SPRL Servcorp LLC (i) Servcorp UK Limited Servcorp Communications Limited Servcorp Consultancy Limited Servcorp Hammersmith Limited Servcorp Lombard Street Limited Servcorp Management Limited Servcorp Serviced Offices Limited Servcorp Virtual Limited Servcorp Wyvols Limited Servcorp Minories Limited Country of incorporation Japan Japan Japan Japan Japan Japan Japan Japan Japan Japan France Belgium UAE United Kingdom United Kingdom United Kingdom United Kingdom United Kingdom United Kingdom United Kingdom United Kingdom United Kingdom United Kingdom Ownership interest 2005 2006 % % 100 100 100 100 100 100 100 - - - 100 100 49 100 - - - - - - - - - 100 100 100 100 100 100 100 100 100 100 100 100 49 100 100 100 100 100 100 100 100 100 100 Notes: (i) A Company in the Consolidated Entity exercises control over Servcorp LLC despite owning 49% of the issued capital. Arrangements are in place that entitle the Company or its controlled entities to all the benefits and risks of ownership notwithstanding that the majority shareholding may be vested in another party. (ii) Servcorp Holdings Pty Ltd and Servcorp Offshore Holdings Pty Ltd have each entered into a deed of guarantee and indemnity with Servcorp Limited in relation to loans owing from their respective subsidiaries. Servcorp Holdings Pty Ltd and Servcorp Offshore Holdings Pty Ltd have each entered into a deed of cross guarantee. (iii) Servcorp Limited is the head entity within the tax consolidated group. 70 Servcorp annual report 2006 the world’s finest serviced offices 26 Acquisition / disposal of controlled entities The following controlled entities were acquired or disposed of during the financial year. The operating results of each entity have been included in the consolidated operating profit from the date of the acquisition and up to the date of disposal: Consideration $'000 The Consolidated Entity's interest % Acquisitions 2006 Servcorp Market Street Pty Ltd The entity was formed on 14 March 2006 Office Squared Pty Ltd The entity was formed on 4 April 2006 Servcorp WA Pty Ltd The entity was formed on 9 May 2006 Acquisitions 2005 Servcorp Brisbane Riverside Pty Ltd The entity was formed on 21 September 2004 Servcorp Wellington Limited The entity was formed on 8 June 2005 Servcorp Nagoya KK The entity was formed on 1 July 2004 Servcorp Japan Holdings KK The entity was formed on 5 August 2004 Servcorp Otemachi KK The entity was formed on 6 October 2004 Servcorp Umeda KK The entity was formed on 6 October 2004 Disposals (i) 2006 Servcorp Communications Limited Servcorp Consultancy Limited Servcorp Hammersmith Limited Servcorp Lombard Street Limited Servcorp Management Limited Servcorp Serviced Offices Limited Servcorp Virtual Limited Servcorp Wyvols Limited Servcorp Minories Limited Servcorp Otemachi KK Servcorp Umeda KK Servcorp Japan Holdings KK Disposals 2005 Nil - - - - - - - - - Country of incorporation United Kingdom United Kingdom United Kingdom United Kingdom United Kingdom United Kingdom United Kingdom United Kingdom United Kingdom Japan Japan Japan 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 100 Notes: (i) As at 30 June 2006 these companies were liquidated. Servcorp annual report 2006 71 Notes to the financial statements for the financial year ended 30 June 2006 27 (a) (b) (c) Notes to the cash flow statement Reconciliation of cash and cash equivalents For the purpose of the cash flow statement, cash and cash equivalents includes cash on hand and at bank, short-term deposits at call, net of outstanding bank overdrafts. Cash and cash equivalents at the end of the financial year as shown in the Cash flow statement are reconciled to the related items in the Balance sheet as follows: Cash Short term deposits Bank overdraft Net cash outflow on acquisition of business Cash and cash equivalents consideration Less cash and cash equivalents balances acquired Reconciliation of profit for the period to net cash flows from operating activities Profit after income tax Add/(less) non-cash items: Movements in provisions Depreciation of non-current assets Loss on disposal of non-current assets Increase in current tax liability Decrease/(increase) in deferred tax balances Unrealised foreign exchange loss Impairment in value of equity loans receivable Reversal of impairment loss in value of equity loans receivable Effect of tax consolidation on tax balances Equity-settled share based payment Other Change in assets and liabilities adjusted for the effect of the acquisition of a business during the financial period: (Increase)/decrease in prepayments (Increase)/decrease in trade debtors (Increase)/decrease in current assets Increase in deferred income Increase in client security deposits Increase/(decrease) in accounts payable Net cash provided from operating activities (d) Financing facilities Refer to Note 17. 72 Servcorp annual report 2006 Consolidated The Company 2006 $'000 2005 $'000 2006 $'000 2005 $'000 19,448 38,765 (1,848) 56,365 1,645 - 1,645 25,376 (1,182) 8,308 231 335 453 65 - - - 9 (44) 320 (135) 426 1,775 3,036 (3,628) 35,345 8,202 34,764 (1,188) 41,778 - - - 17,190 974 7,597 181 3,239 (2,225) 79 - - - - - (3,103) (2,367) (4) 1,262 310 4,721 27,854 19 - - 19 - - - 18,058 - - - 452 23 - - (4,746) (2,654) 9 - (9) - 1,197 - - (105) 174 - - 174 - - - 7,115 - - - 3,317 1,181 - 4,746 - (4,278) - - 3 - - - - (219) 12,225 11,865 the world’s finest serviced offices 28 Key management personnel remuneration The remuneration committee reviews the remuneration packages of all key management personnel (specified directors and specified executives) on an annual basis and makes recommendations to the Board. The following tables outline the nature and amount of the elements of the remuneration of the key management personnel of Servcorp Limited and controlled entities for the year ended 30 June 2006. Remuneration packages are reviewed and determined with due regard to current market rates and are benchmarked against comparable industry salaries. During the financial year ended 30 June 2006 no service contracts were in place for the key management personnel of Servcorp Limited. The specified directors of Servcorp Limited during the year were: A Moufarrige T Moufarrige B Corlett R Holliday-Smith J King Managing Director Executive Director Chairman Non-Executive Director Non-Executive Director Short-term employee benefits Post employment Salary and fees $ Bonus $ Non- monetary $ Super $ Prescribed benefits $ Share based payment Equity options $ Total $ Directors A Moufarrige (iii) 2006 2005 T Moufarrige (iii) 2006 2005 B Corlett (iii) 2006 2005 90,000 85,000 R Holliday-Smith (iii) 2006 2005 55,000 50,000 J King (iii) 2006 2005 55,000 50,000 Aggregate 2006 586,053 Disclosed 2005 (ii) 544,548 202,829 197,154 200,000 - 120,951 113,302 183,224 162,394 90,000 45,000 7,061 6,697 - - - - - - - - - - - - 36,018 28,007 27,450 15,277 8,100 7,650 4,950 4,500 4,950 4,500 - - - - - - - - - - - - - - - - - - - - - - - - 559,798 338,463 307,735 229,368 98,100 92,650 59,950 54,500 59,950 54,500 1,085,533 769,481 290,000 45,000 128,012 119,999 81,468 59,934 Notes: (i) Directors' and officers' indemnity insurance has not been included in the above figures since it is impractical to determine an appropriate allocation basis. (ii) "Aggregate disclosed 2005" are the totals which were disclosed in the 2005 annual report. (iii) Key management personnel of the Company. Servcorp annual report 2006 73 Notes to the financial statements for the financial year ended 30 June 2006 28 Key management personnel remuneration (continued) The specified executives of the Consolidated Entity during the year were: M Moufarrige R Baldwin O Vlietstra T Wallace S Lombardo General Manager Asia and CIO General Manager ITS General Manager Japan Chief Financial Officer Chief Technology Officer Short-term employee benefits Post employment Salary and fees $ Bonus $ Non- monetary $ Super $ Prescribed benefits $ Share based payment Equity options $ Total $ Specified executives M Moufarrige (i) 2006 2005 183,136 162,883 R Baldwin (i) 2006 2005 O Vlietstra (i) 2006 2005 T Wallace (i), (iii) 2006 2005 S Lombardo (i) 2006 2005 172,091 140,759 163,462 101,977 153,374 139,614 144,142 127,819 85,000 45,000 62,500 35,000 93,492 72,311 43,000 23,500 10,000 21,209 20,061 6,972 - - 12,088 11,766 - - - - Aggregate 2006 816,205 Disclosed 2005 (ii) 673,052 293,992 197,020 32,149 18,738 23,850 18,428 21,815 14,750 - - 19,630 7,199 13,800 13,391 79,095 53,768 - - - - - - - - - - - - - - - - - - 312,047 233,283 256,406 190,509 269,042 186,054 9,127 6,389 225,131 176,702 - - 167,942 162,419 9,127 6,389 1,230,568 948,967 Notes: (i) The short term incentive component of executive remuneration may comprise an annual cash bonus. Bonuses are performance based and are linked to the performance of the individual and to the net profit before tax of the Consolidated Entity. Cash bonuses are usually paid following the finalisation of the results of the Consolidated Entity. Linking bonus payments to the net profit before tax of the Consolidated Entity ensures that a variable reward is only paid when value is created for the shareholders. The short term incentive plan is reviewed annually. Executive remuneration does not include a fixed bonus related portion. Performance targets are agreed with executives at the start of each year and are aligned to specific business objectives for which the individual is responsible. (ii) "Aggregate disclosed 2005" are the totals which were disclosed in the 2005 annual report. (iii) Equity option details for T Wallace are disclosed in Note 23. 74 Servcorp annual report 2006 the world’s finest serviced offices Consolidated The Company 2006 $ 2005 $ 2006 $ 2005 $ 28 Key management personnel remuneration (continued) The aggregate compensation of the key management personnel of the Consolidated Entity and the Company, are as follows: Short-term employee benefits: Salary and fees, bonus and non-monetary benefits Post employment benefits - superannuation Share based payment - equity options 29 Executive Share Option Scheme 2,146,411 160,563 9,127 1,598,357 113,702 6,389 200,000 18,000 - 185,000 16,650 - 2,316,101 1,718,448 218,000 201,650 The Consolidated Entity has an ownership based remuneration scheme for key management personnel (including executive directors) of the Company. Each key management personnel share option converts into one ordinary share of Servcorp Limited when exercised. No amounts are paid or payable by the recipient on receipt of the option. The options carry neither rights to dividends or voting rights. Options may be exercised at any time from the date of vesting to the date of expiry. Executive share options issued by Servcorp Limited Balance at 1/7/05 No. Granted Exercised No. No. Balance at 30/6/06 No. Vested and exercisable No. Net vested No. T Wallace 30,000 30,000 - - - - 30,000 30,000 30,000 30,000 30,000 30,000 Further details of options granted to employees under the Executive and Employee Share Option Schemes are disclosed in Note 23. During the financial year Nil (2005: 500,000) options were exercised by key management personnel into Nil (2005: 500,000) ordinary shares in Servcorp Limited. No amounts remain unpaid on options exercised during the financial year as at 30 June 2006. No options were issued to key management personnel during the year. The fair value of the share options granted during the financial year was Nil (2005: $0.55). Options were valued using the Black Scholes option pricing model. Where relevant, the expected life used in the model has been adjusted based on management's best estimate for the effects of non-transferability, exercise restrictions and behavioural considerations. Expected volatility is based on the historical share volatility over the past 5 years. Inputs into the model Grant date Exercise price Expected volatility Option life Dividend yield Risk free interest rate Dividend effect 21 May 2004 $2.00 44.76% 3 years 5.23% 5.43% 0.963 Servcorp annual report 2006 75 Notes to the financial statements for the financial year ended 30 June 2006 30 Related party disclosures Other than the details disclosed in this note, no key management personnel have entered into any other material contracts with the Consolidated Entity or the Company during the financial year, and no material contracts involving directors' interests or specified executives existed at balance sheet date. Details of key management personnel remuneration are disclosed in Note 28 to the financial statements. Key management personnel holdings of shares Fully paid ordinary shares of Servcorp Limited Specified directors B Corlett R Holliday-Smith J King A Moufarrige T Moufarrige Specified executives R Baldwin S Lombardo M Moufarrige O Vlietstra T Wallace Balance at 1/7/05 No. 326,502 250,000 87,500 48,223,023 150,000 45,000 - 172,500 10,000 - 49,264,525 Received on exercise of options No. - - - - - - - - - - - Net change No. 13,895 - - (500) (90,008) - - (43,658) - - Balance at 30/6/06 No. 340,397 250,000 87,500 48,222,523 59,992 45,000 - 128,842 10,000 - (120,271) 49,144,254 Equity interests in subsidiaries Details of the percentage of ordinary shares held in subsidiaries are disclosed in Note 25 to the financial statements. Other transactions with the Company or its controlled entities The Consolidated Entity has a lease with Tekfon Pty Ltd for the use of Tekfon's premises for storage. A director of the Company, Mr A Moufarrige, has an interest in and is a director of Tekfon Pty Ltd. Enideb Pty Ltd operates the Servcorp franchise in Canberra. A relative of a director of the Company, Mr A Moufarrige, has an interest in Enideb Pty Ltd. Mr A Moufarrige has no interest in the affairs of Enideb Pty Ltd. Rumble Australia Pty Ltd provided consulting services for the development of proprietary software to a company in the Consolidated Entity. Consulting fees of $14,419 (2005: $17,631) were paid on arms length terms. A director of the Company, Mr A Moufarrige, has an interest in and is a director of Rumble Australia Pty Ltd. During the previous financial year, the Consolidated Entity returned unclaimed security deposits held in relation to clients that terminated prior to Servcorp's Initial Public Offering to Renlana Pty Ltd, on behalf of the various entities that had operated the Servcorp business at that time. A director of the Company, Mr A Moufarrige, has an interest in and is a director of Renlana Pty Ltd. A director of the Company, Mr A Moufarrige, has an interest in and is a director of Sovori Pty Ltd. Mr T Moufarrige, a director of the Company is also a director of Sovori Pty Ltd. A director of the Company, Mr A Moufarrige, has an interest in and is a director of MRC Biotech Pty Ltd. The terms and conditions of the transactions with directors and their director related entities were no more favourable than those available, or which might reasonably be expected to be available, on similar transactions to non-director related entities on an arm's length basis. 76 Servcorp annual report 2006 the world’s finest serviced offices 30 Related party disclosures (continued) The value of the transactions during the year with directors and their director-related entities were as follows: Director A Moufarrige A Moufarrige A Moufarrige A Moufarrige A Moufarrige, T Moufarrige A Moufarrige Director-related entity Tekfon Pty Ltd Enideb Pty Ltd Rumble Australia Pty Limited Renlana Pty Ltd Sovori Pty Ltd Transaction Premises rental Franchisee Consulting Security deposit return Reimbursements MRC Biotech Pty Ltd Reimbursements Consolidated The Company 2006 $’000 2005 $’000 2006 $’000 2005 $’000 49 417 14 - 23 13 44 422 18 253 6 - - - - - - - - - - - - - Amounts receivable from and payable to directors and their director-related entities at balance sheet date arising from these transactions were as follows: Current receivable Enideb Pty Ltd 41 34 - - Other transactions with the Company and its controlled entities From time to time directors of the Company and its controlled entities, or their director related entities, may purchase goods from or provide services to the Consolidated Entity. These purchases or sales are on the same terms and conditions as those entered into by other employees, suppliers or customers of the Consolidated Entity and are trivial or domestic in nature. Wholly-owned group Details of interests in wholly-owned controlled entities are set out in Note 25. Details of dealings with these entities are set out below. Loans Loans between entities in the wholly-owned group are repayable at call. Interest is charged monthly on outstanding balances. The weighted average interest rate for the year ended 30 June 2006 on outstanding loan balances was 4.71% for secured loans and 11.18% for unsecured loans (2005: 3.78% for secured loans and 10.90% for unsecured loans). Interest revenue brought to account by the Company in relation to these loans during the year: Interest revenue 2,343 2,052 Balances with entities within the wholly-owned group The aggregate amounts receivable from, and payable to, wholly-owned controlled entities by the Company at balance sheet date and the significant transactions comprising the movement in the balance are: Current receivables Amounts receivable from controlled entities Current receivables comprise of day to day funding of expenses During the financial year, under the tax sharing agreement, Servcorp Limited recognised a net receivable of $2,570,400 (2005: $2,055,895) from its wholly-owned subsidiaries within the tax consolidated group for the year ended 30 June 2006 78,587 75,867 Servcorp annual report 2006 77 Notes to the financial statements for the financial year ended 30 June 2006 30 Related party disclosures (continued) Current payables Amounts payable to controlled entities Current payables comprise of day to day funding of expenses Non-current payables Loans from controlled entities - unsecured Non-current other financial liabilities Loans from controlled entities - unsecured Non-current payables and other financial liabilities comprise of the transfer of funds for investment purposes and interest Dividends Dividends received or due and receivable by the Company from wholly-owned controlled entities Royalties Royalties received or due and receivable by the Company from wholly-owned controlled entities 31 Acquisition of Businesses The Company 2006 $'000 2005 $'000 14,544 18,610 543 582 543 1,996 - 2,000 17,276 12,359 The financial statements for the year ended 30 June 2006 include changes in the composition of the Consolidated Entity as follows: Business combinations Servcorp Hong Kong Limited Servcorp Hong Kong Limited acquired a serviced office business trading as Level 39 One Exchange Square, Central, Hong Kong from Level One Limited, on 15 July 2005. The cash consideration paid for the business, assets, liabilities and customer licence agreements was $1,645,367. The components of the consideration were: Property, plant and equipment Prepaid rent Security deposits Fair value at acquisition $’000 Pre-acquisition net book value $’000 754 1,173 (282) 1,645 589 - (282) 307 The amount of the loss since the acquisition date included in the Consolidated Entity's results for the year ended 30 June 2006 was $632,322. The impact on the Consolidated Entity's revenue and net profit from the acquired business if it operated from the beginning of the financial period commencing 1 July 2005 to the date of acquisition is considered to be immaterial. 78 Servcorp annual report 2006 the world’s finest serviced offices 32 Impacts of the adoption of Australian equivalents to International Financial Reporting Standards The Consolidated Entity changed its accounting policies on 1 July 2005 to comply with the Australian equivalents to International Financial Reporting Standards (A-IFRS). The transition to A-IFRS is accounted for in accordance with Accounting Standards AASB 1 First-time Adoption of Australian Equivalents to International Financial Reporting Standards, with 1 July 2004 as the date of transition, except for financial instruments, including derivatives, where the date of transition was 1 July 2005. An explanation of how the transition from superseded accounting policies to A-IFRS has affected the Consolidated Entity and the Company's Balance sheet and Income statement are set out in the following tables and the notes that accompany the tables. For the years ended 30 June 2004 and 30 June 2005, there were no material differences between the Cash flow statement presented under A-IFRS and the cash flow presented under the superseded policies. To explain how Servcorp Limited's reported Income statement and Balance sheet are affected by this change, information previously published under Australian GAAP (A-GAAP) is restated under A-IFRS in the tables below. These restatements include: - Table A - Summary reconciliation of Retained profits and Balance sheet of the Consolidated Entity and the Company presented under A-GAAP to that under A-IFRS as at 1 July 2004; and - Table B - Summary reconciliation of Profit after tax and Balance sheet of the Consolidated Entity and the Company presented under A-GAAP to that under A-IFRS for the financial year ended 30 June 2005. Summary of impact of A-IFRS As at 30 June 2005 the impact on total equity is an overall increase of $1,974,000. Where A-IFRS adjustments have a significant or material impact on equity, a description is included in Note 32 (i) to (v). Table A - Summary reconciliation of Retained profits and Balance sheet of the Consolidated Entity and the Company presented under A-GAAP to that under A-IFRS as at 1 July 2004; Consolidated 1 July 2004 $'000 The Company 1 July 2004 $'000 Reconciliation of total assets and total liabilities Total assets (A-GAAP) Increase/(decrease) in: Property, plant and equipment (ii) Intangibles (iv) Deferred tax assets (iii) Total assets (A-IFRS) Total liabilities (A-GAAP) Total liabilities (A-IFRS) Reconciliation of equity Total equity (A-GAAP) Increase/(decrease) in: Opening retained profits (i), (ii), (iii), (iv) Reserves (i) Total equity (A-IFRS) 120,386 (334) 176 267 120,495 39,120 39,120 81,266 108 1 81,375 96,238 - - - 96,238 10,976 10,976 85,262 (1) 1 85,262 Servcorp annual report 2006 79 Notes to the financial statements for the financial year ended 30 June 2006 32 Impacts of the adoption of Australian equivalents to International Financial Reporting Standards (continued) Table B - Summary reconciliation of Profit after tax and Balance sheet of the Consolidated Entity and the Company presented under A-GAAP to that under A-IFRS for the financial year ended 30 June 2005; Consolidated 30 June 2005 $'000 The Company 30 June 2005 $'000 Reconciliation of profit after tax Profit from ordinary activities after income tax expense (A-GAAP) Employee benefits (i) Amortisation expense (iv) Other - intangible capitalised project costs (ii) Income tax expense (iii), (v) Profit from ordinary activities after income tax expense (A-IFRS) Reconciliation of total assets and total liabilities Total assets (A-GAAP) Increase/(decrease) in: Receivables (i), (iii) Goodwill (iv) Current tax assets (iii) Deferred tax assets (iii) Total assets (A-IFRS) Total liabilities (A-GAAP) Increase/(decrease) in: Payables (iii) Current tax liabilities (iii) Deferred tax liabilities (iii) Total liabilities (A-IFRS) Reconciliation of equity Total equity (A-GAAP) Increase/(decrease) in: Opening retained profits (i), (ii), (iii) Current year profits (i), (iii), (iv), (v) Reserves (i), (v) Total equity (A-IFRS) (i) Share based payments 15,293 (6) 910 334 659 17,190 132,862 - 1,086 319 415 134,682 45,946 - 319 (473) 45,792 86,916 108 1,897 (31) 88,890 6,372 (6) - - 749 7,115 108,503 5,678 - - (1,349) 112,832 23,394 3,621 - (41) 26,974 85,109 (1) 743 7 85,858 From 1 July 2005, AASB 2 Share Based Payments requires the Consolidated Entity's and the Company's Executive and Employee Share Option Schemes to be treated as share based compensation. Under this approach equity-settled share based payments are recognised at the fair value of the share options at grant date and recognised over the expected vesting period of the options. In accordance with AASB 2 Share Based Payments, we have calculated an increase in contributed equity of $1,000 that requires recognition at the date of transition, 1 July 2004. For the financial year ended 30 June 2005, share based payments of $6,000 (included in the employee benefits expense) which were not recognised under the superseded policies were recognised under A-IFRS, with a corresponding increase in the employee equity-settled benefits reserve. These adjustments had no material tax or deferred tax consequences. 80 Servcorp annual report 2006 the world’s finest serviced offices 32 Impacts of the adoption of Australian equivalents to International Financial Reporting Standards (continued) (ii) Intangible capitalised project costs Capitalised in-house project costs of $334,000 that existed at 30 June 2004 were written off under A-GAAP during the financial year ended 30 June 2005. The full amount of this balance related to capitalised in-house wages and salaries. Under A-IFRS, this amount is required to be written off as incurred and as such has been adjusted through retained earnings at the date of transition, 1 July 2004. This adjustment had no material tax or deferred tax consequences. (iii) Income tax Under superseded policies, the Consolidated Entity and the Company adopted tax effect accounting principles whereby income tax expense was calculated on pre-tax accounting profits after adjustment for permanent differences. Under A-IFRS, deferred tax is determined using the balance sheet liability method in respect of temporary differences between the carrying amount of assets and liabilities in the financial statements and their corresponding tax bases. Accordingly, for the date of transition, 1 July 2004, we have calculated an increase in the retained profits of $267,000 for deferred tax assets recognised in respect of tax losses on the basis that their recoupment is probable. For the financial year ended 30 June 2005, deferred tax assets relating to the recognition of tax losses of $888,000 were recognised inclusive of foreign exchange translation impacts. The deferred tax liability of $473,000 was netted off to deferred tax assets. Current tax assets of $319,000 relating to tax refunds were reclassified from current tax liabilities. For the financial year ended 30 June 2005, the Company applied UIG 1052 'Tax Consolidation Accounting'. Under this method, the members of the tax consolidated group use a 'separate tax payer within group' approach to recognise their own tax balances. Deferred tax balances of wholly-owned subsidiaries in a tax consolidated group are not recognised by the head entity. These balances were recognised under the superseded policies. The adjustment to derecognise the deferred tax balances of wholly- owned subsidiaries in the Company's separate financial statements is made by decreasing the tax expense, and consequently retained earnings by $749,000. (iv) Goodwill The Consolidated Entity has elected not to restate business combinations that occurred prior to the date of transition to A-IFRS, and accordingly, the carrying amount of goodwill at the date of transition has not changed. However, goodwill, which was amortised under superseded policies is not amortised under A-IFRS from the date of transition. The effect of the change is an increase in the carrying amount of goodwill by $910,000 and an increase in net profit before tax of $910,000 for the financial year ended 30 June 2005. The impact on goodwill at transition date 30 June 2004 also includes a write-back of $176,000 relating to a discount on acquisition held in the Balance sheet that can no longer be recognised under A-IFRS. There was no tax effect as deferred taxes are not recognised for temporary differences arising from goodwill amortisation. Servcorp annual report 2006 81 Notes to the financial statements for the financial year ended 30 June 2006 32 Impacts of the adoption of Australian equivalents to International Financial Reporting Standards (continued) (v) Cumulative exchange differences At the date of transition, the Consolidated Entity has elected not to apply the exemption in AASB 1 First-time Adoption of Australian Equivalents to International Financial Reporting Standards under which the cumulative translation for all foreign operations represented in the foreign currency translation reserve (FCTR) is transferred to retained earnings at 1 July 2004. As required by AASB 121 The Effects of Changes in Foreign Exchange Rates, the Consolidated Entity has determined that the presentation currency of the Consolidated Entity continues to be the Australian dollar. Accordingly, assets and liabilities of subsidiaries with a foreign currency as their functional currency are translated into Australian dollars at each period's closing rate and any exchange movements are recorded through the FCTR. The cumulative monetary effect of exchange differences for the financial year ended 30 June 2005 as a result of the transition to A-IFRS was $38,000. 33 Subsequent Events On 20 July 2006 a company in the Consolidated Entity acquired a serviced office business trading as Level 18, Central Park, Perth, Australia. The consideration paid for the business, assets, liabilities and customer licences purchased was $1,365,232. 82 Servcorp annual report 2006 the world’s finest serviced offices Directors' declaration In the opinion of the directors of Servcorp Limited: (a) the financial statements and notes, set out on pages 32 to 82, are in accordance with the Corporations Act 2001, including: (i) giving a true and fair view of the financial position of the Company and Consolidated Entity as at 30 June 2006 and of their performance, as represented by the results of their operations and their cash flows, for the financial year ended on that date; and (ii) complying with Accounting Standards in Australia; and (b) there are reasonable grounds to believe that the Company will be able to pay its debts as and when they become due and payable. The directors have been given the declarations required by section 295A of the Corporations Act 2001. Signed in accordance with a resolution of directors made pursuant to section 295 (5) of the Corporations Act 2001. On behalf of the directors A G Moufarrige Managing Director Dated at Sydney this 15th day of September 2006. Servcorp annual report 2006 83 Deloitte Touche Tohmatsu ABN 74 490 121 060 The Barrington Level 10 10 Smith Street Parramatta NSW 2150 PO Box 38 Parramatta NSW 2124 Australia DX 28485 Tel: +61 (0) 2 9840 7000 Fax: +61 (0) 2 9840 7001 www.deloitte.com.au Independent audit report to the members of Servcorp Limited Scope The financial report and directors' responsibility The financial report comprises the balance sheet, income statement, cash flow statement, statement of recognised income and expense, a summary of significant accounting policies and other explanatory notes and the directors' declaration for both Servcorp Limited (the company) and the consolidated entity, for the financial year ended 30 June 2006 as set out on pages 32 to 83. The consolidated entity comprises the company and the entities it controlled at the year's end or from time to time during the financial year. The directors of the company are responsible for the preparation and true and fair presentation of the financial report in accordance with Accounting Standards in Australia and the Corporations Act 2001. This includes responsibility for the maintenance of adequate financial records and internal controls that are designed to prevent and detect fraud and error, and for the accounting policies and accounting estimates inherent in the financial report. Audit approach We have conducted an independent audit of the financial report in order to express an opinion on it to the members of the company. Our audit has been conducted in accordance with Australian Auditing Standards to provide reasonable assurance whether the financial report is free of material misstatement. The nature of an audit is influenced by factors such as the use of professional judgement, selective testing, the inherent limitations of internal controls, and the availability of persuasive rather than conclusive evidence. Therefore, an audit cannot guarantee that all material misstatements have been detected. We performed procedures to form an opinion whether, in all material respects, the financial report is presented fairly in accordance with Accounting Standards in Australia and the Corporations Act 2001 so as to present a view which is consistent with our understanding of the company's and the consolidated entity's financial position, and performance as represented by the results of their operations, their changes in equity and their cash flows. Our procedures included examination, on a test basis, of evidence supporting the amounts and other disclosures in the financial report, and the evaluation of accounting policies and significant accounting estimates made by the directors. While we considered the effectiveness of management's internal controls over financial reporting when determining the nature and extent of our procedures, our audit was not designed to provide assurance on internal controls. The audit opinion expressed in this report has been formed on the above basis. Liability limited by a scheme approved under the Professional Standards Legislation. 84 Servcorp annual report 2006 Auditor's Independence Declaration The independence declaration provided to the directors of Servcorp Limited on 11 September 2006 would be in the same terms if it was given to the directors on the date this audit report is made out. Audit Opinion In our opinion, the financial report of Servcorp Limited is in accordance with the Corporations Act 2001, including: (a) (b) giving a true and fair view of the company's and consolidated entity's financial position as at 30 June 2006 and of their performance for the year ended on that date; and complying with Accounting Standards in Australia and the Corporations Regulations 2001. DELOITTE TOUCHE TOHMATSU P G Forrester Partner Chartered Accountants Parramatta, 15 September 2006 Servcorp annual report 2006 85 Shareholder information As at 1 September 2006 The shareholder information set out below is provided in accordance with the Listing Rules and was applicable as at 1 September 2006. On-market buy-back Class of shares and voting rights Ordinary shares There were 710 holders of the ordinary shares of the Company. Options There were no holders of options over unissued ordinary shares of the company. There is no current on-market buy-back. At a general meeting: • On a show of hands, every member present has one vote; • On a poll, every member present has one vote for each fully paid share held. Distribution of shareholders and optionholders Size of holding 1 - 1,000 1,001 - 5,000 5,001 - 10,000 10,001 - 100,000 100,001 and over Totals Number of holders Ordinary shares Number of shares 172 331 97 82 28 710 106,866 939,217 768,742 2,845,656 75,767,829 80,428,310 % of shares 0.13% 1.17% 0.96% 3.54% 94.20% 100% Number of holders Options Number of options % of options - - - - - - - - - - - - - - - - - - There were 10 holders of ordinary shares holding less than a marketable parcel, based on the closing market price at the specified date. Substantial shareholders The following organisations have disclosed a substantial shareholder notice to Servcorp: Name Sovori Pty Ltd Commonwealth Bank of Australia Deutsche Bank Group Number of shares 48,379,753 14,701,141 6,095,488 % of voting power advised 60.51% 18.29% 7.58% 86 Servcorp annual report 2006 Shareholder information (continued) Twenty largest shareholders Name Brispot Nominees Pty Ltd (House Head Nominees No 1 Account) Citicorp Nominees Pty Limited (CFS Developing Companies Account) Citicorp Nominees Pty Limited (CFS WSLE Imputation Fund Account) Citicorp Nominees Pty Limited (CFS Imputation Fund Account) Citicorp Nominees Pty Limited (CFSIL CFS WS Small Companies Account) Citicorp Nominees Pty Limited Citicorp Nominees Pty Limited (CFS WSLE Australian Share Fund Account) Citicorp Nominees Pty Limited (CFS WSLE Industrial Share Account) Cogent Nominees Pty Limited Cogent Nominees Pty Limited (SMP Account) Equity Trustees Limited (SGH Pi Smaller Co’s Fund) Holliday-Smith R JP Morgan Nominees Australia Limited Moufarrige A G National Nominees Limited Sovori Pty Limited Transport Accident Commission UBS Wealth Management Australia Nominees Pty Limited Victorian Workcover Authority Westpac Custodian Nominees Limited Totals for Top 20 Options Category Executive and employee the world’s finest serviced offices Number of ordinary shares held Percentage of capital held 310,790 3,001,301 3,951,793 2,714,411 1,173,025 373,236 1,625,644 1,303,905 870,307 788,500 1,251,565 250,000 3,962,705 540,890 1,250,497 47,681,633 297,045 715,467 519,136 2,244,882 74,826,732 Number on issue - 0.39% 3.73% 4.91% 3.37% 1.46% 0.46% 2.02% 1.62% 1.08% 0.98% 1.56% 0.31% 4.93% 0.68% 1.55% 59.28% 0.37% 0.89% 0.65% 2.79% 93.04% Number of holders - Servcorp annual report 2006 87 Corporate information Directors Alf Moufarrige Bruce Corlett Rick Holliday-Smith Julia King Taine Moufarrige Company Secretary Greg Pearce Registered office and principal office Level 17, BNP Paribas Centre 60 Castlereagh Street Sydney NSW 2000 Telephone: Facsimile: (02) 9231 7500 (02) 9231 7665 Share registry Registries Limited Level 2 28 Margaret Street Sydney NSW 2000 PO Box R67 Royal Exchange Sydney NSW 1223 Telephone: Facsimile: Auditors (02) 9290 9600 (02) 9279 0664 Deloitte Touche Tohmatsu Grosvenor Place 225 George Street Sydney NSW 2000 Stock exchange Servcorp Limited shares are quoted on the Australian Stock Exchange under the code SRV. The Home Exchange is Sydney. Annual general meeting The annual general meeting of Servcorp Limited will be held at Level 29, The Chifley Tower, 2 Chifley Square, Sydney at 5pm on Thursday 9 November 2006. 88 Servcorp annual report 2006 Acknowledgements: Illustrations by Steve Panozzo, Noz Productions, http://www.noz.com.au Fook Luk Sau
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