Summary of the Impact that Adopting International Financial Reporting Standards would have on the BBC’s Group Financial Statements Introduction The BBC currently prepares its financial statements in accordance with UK accounting standards. The BBC’s Annual Report and Accounts 2005/2006, prepared on this basis, was published on 7 July 2006. For a number of years the BBC has voluntarily prepared its financial statements in accordance with the accounting and disclosure requirements of the Companies Act 1985, applicable UK accounting standards and the Financial Services Authority Listing Rules to ensure that its financial statements are prepared on a basis consistent with that of UK public limited companies. Recent changes in European and UK legislation now require UK listed companies to adopt International Financial Reporting standards (IFRS) in their group financial statements for years beginning on or after 1 January 2005. For the BBC the first relevant year would have been the year ended 31 March 2006 (in addition, for consistency, the comparatives for the year ended 31 March 2005 would have been restated). The BBC follows the highest standards in financial reporting, but it has decided not to adopt IFRS in its annual accounts for 2005/06 for the following reasons: • The BBC is a public body and from this year must report financial information to Her Majesty’s Treasury (HMT) for inclusion in the Whole of Government Accounts (a consolidation of financial information covering the whole public sector) using consistent accounting standards, which are not presently based on IFRS because the approach of HMT in the Whole of Government Accounts is to follow UK accounting standards. The BBC has chosen to continue presenting its accounts under UK accounting standards until full convergence as it does not consider it value for money to produce two sets of financial statements. • The UK Accounting Standards Board has a strategy for converging UK accounting standards with IFRS which involves, over time, issuing new UK standards that are based on IFRS to replace existing UK accounting standards. A number of UK accounting standards have already been converged with IFRS, for example FRSs 21, 23, 25 and 26 which the BBC has implemented during the current year. The other standards that have been converged have not been applicable to the financial statements of the BBC to date. However, the BBC has continued to review the impact that adoption of IFRS would have on the group accounts and has presented a summary of the impact adopting IFRS for the year ended 31 March 2006 would have on the financial statements. The adoption of IFRS would have resulted in some changes in accounting policies affecting the recognition and measurement of certain items, and also changes in presentation, but would not have changed the underlying cash flows of the BBC. This summary of the impact that adopting IFRS would have is based on a reconciliation exercise to estimate what the results and financial position would have been if the BBC had adopted IFRS for this financial year in its consolidated financial statements. These reconciliations present summarised versions of the statement of income and expenditure for the year ended 31 March 2006 and the balance sheet as at that date, showing the value of the identified differences between the financial statements that were prepared in accordance with UK accounting standards and what would have been presented under IFRS. Group Finance Director’s Review As noted in the Introduction the BBC has decided not to adopt IFRS in the preparation of its group financial statements, but instead is providing a summary of what the impact of adopting IFRS might have been. There are many similarities between the accounting requirements of UK accounting standards and IFRS, but there are also differences that can lead to certain transactions being accounted for in a different way depending on whether an entity is reporting in accordance with UK accounting standards or IFRS, despite the fact that the underlying transaction has not changed. For the BBC the biggest difference that has been identified between what has been reported in the Annual Report and Accounts 2005/2006 and what would have been reported if IFRS had been adopted relates to leases (see also Note A). A lease is a contract for the hire of an asset, but in accounting terms they must be classified as operating or finance leases. An operating lease represents the hire of an asset, but a finance lease is one where the entity leasing the asset is deemed, in substance, to own the asset and must therefore reflect the value of the asset in the balance sheet, rather than accounting for the rental payments as an expense when they occur. IFRS have different criteria to UK accounting standards for determining whether a lease is an operating lease or a finance lease and after assessing the BBC’s leases against the IFRS criteria a number of property leases that are classified as operating leases under UK accounting standards would be classified as finance leases under IFRS. The terms of these leases have not changed, but the required accounting for them is different. This would result in bringing assets of £663m onto the balance sheet, along with a liability to make the rental payments of £694m, as at 31 March 2006 (the difference between the value of the assets and the liability is largely due to depreciation reducing the value of the asset more quickly than the liability is repaid in the early years of the lease). On page 6 the impact of the increase in the number of leases classified as finance leases on the BBC’s borrowings has been set out. The current DCMS borrowing ceiling of £200m is set in relation to UK accounting standards and the preparation of this illustrative IFRS financial information does not alter the fact that the BBC has remained within its borrowing ceiling for the past financial year. A number of other adjustments to the statement of income and expenditure and balance sheet are shown in the reconciliations, with the more significant ones explained in Notes B-E. Zarin Patel Group Finance Director 7 July 2006 Responsibilities of the BBC Governors and Executive Board The BBC Governors and Executive Board acknowledge their responsibility, in preparing the summary of the impact that adopting IFRS for the year ended 31 March 2006 would have on the financial statements, for: · Selecting suitable IFRS accounting policies and then applying them consistently; · Making judgements and estimates that are reasonable. Report of KPMG LLP to the Governors of the BBC in respect of the BBC’s IFRS restatement for the year ended 31 March 2006 In accordance with the terms of our engagement letter we have reviewed the Summarised Consolidated Statement of Income and Expenditure, the Summarised Consolidated Balance Sheet, the basis of preparation note and IFRS accounting polices, and their accompanying narrative information, as published on the BBC’s website, for the year ended 31 March 2006 (‘the IFRS restatement’), which has been prepared by, and is the sole responsibility of, the BBC Governors and Executive Board. This report is made solely to the BBC Governors, as a body, in accordance with the terms of our engagement. Our review has been undertaken so that we might state to the BBC Governors those matters which we are engaged to state in this report and for no other purpose. Our report should not therefore be regarded as suitable to be used or relied on by any party wishing to acquire rights against us other than the BBC Governors for any purpose or in any context. Any party other than the BBC Governors who chooses to rely on our report (or any part of it) will do so at its own risk. To the fullest extent permitted by law, we do not accept or assume responsibility to anyone other than the BBC Governors for our review work, for this report, or for the conclusions we have reached. Governors and Executive Board’s Responsibilities The IFRS restatement is the responsibility of and has been approved by the BBC Governors and Executive Board. The BBC Governors and Executive Board have accepted responsibility for preparing the IFRS restatement in accordance with the basis of preparation note and IFRS accounting policies as detailed in the IFRS restatement. The basis of preparation and accounting policies applied in preparing the IFRS restatement are consistent with those applied in preparing the BBC’s UK GAAP accounts for the year ended 31 March 2006, except to the extent of the differences listed in the IFRS accounting policies in the IFRS restatement. These differences have been identified and applied by the BBC Governors and Executive Board in preparing the IFRS restatement. Our responsibility, under the terms of our engagement letter, is to form an opinion, on the basis of the work performed, and report our opinion to the BBC Governors. Review work performed We conducted our review in accordance with the procedures detailed in our engagement letter. A review consists principally of making enquiries of BBC management and applying analytical procedures to the financial information and underlying financial data and, based thereon, assessing whether the IFRS accounting policies and basis of preparation have been consistently applied unless otherwise disclosed. We were not required to, nor have we, considered whether the differences between UK GAAP and IFRS accounting principles identified by the BBC Governors are complete and disclosed in the IFRS accounting policies. A review is substantially less in scope than an audit conducted in accordance with International Standards on Auditing (UK and Ireland) and therefore provides a lower level of assurance than an audit. Accordingly we do not express an audit opinion on the IFRS restatement. This engagement is separate from the audit of the financial statements of the BBC and this report relates only to the matters specified and does not extend to the BBC’s annual financial statements taken as a whole. As set out in our audit report on those financial statements, that audit report is made solely to the BBC’s Governors, as a body, in accordance with the Royal Charter for the continuance of the BBC which came into force on 1 May 1996. The audit work has been undertaken so that we might state to the BBC’s Governors those matters we are required to state to them in an auditor’s report and for no other purpose. To the fullest extent permitted by law, we do not accept or assume responsibility to anyone other than the BBC and the BBC’s Governors as a body for that audit work, for the audit report, or for the opinions we have formed in respect of that audit. Review conclusion On the basis of our review, nothing has come to our attention to suggest that the IFRS restatement has not been prepared in accordance with the basis of preparation note and IFRS accounting policies described therein. KPMG LLP 7 July 2006 Chartered Accountants Summarised Consolidated Statement of Income and Expenditure for the year ended 31 March 2006 Reported in the Annual IAS 17 IAS 38 IAS 19 IAS 12 Other Restated Report and Accounts Leases (Note A) Goodwill (Note B) Employee Benefits Taxation (Note D) (Note E) under IFRS1 £m (Note C) £m £m £m £m £m £m Group income Total group operating expenditure 4,005.0 (4,213.2) (10.8) 1.4 0.1 0.2 4,005.0 (4,222.3) Group operating deficit (208.2) (10.8) 1.4 0.1 0.2 (217.3) Share of results of associates and joint ventures Interest payable and similar items Other line items not subject to adjustment under IFRS2 31.2 (12.0) 220.4 (35.8) 1.7 (8.4) 24.5 (47.8) 220.4 Surplus/(deficit) before taxation and minority interest Taxation Minority Interest 31.4 (27.7) (0.1) (46.6) 3.1 0.1 0.2 (8.2) 8.9 (20.2) (18.6) (0.1) Surplus/(deficit) for the financial year 3.6 (46.6) 3.1 0.1 0.2 0.7 (38.9) Summarised Consolidated Balance Sheet at 31 March 2006 Reported in the Annual IAS 17 IAS 38 IAS 19 IAS 12 Other Restated Report and Leases Goodwill Employee Taxation (Note E) under Accounts (Note A) (Note B) Benefits (Note D) IFRS1 £m (Note C) £m £m £m £m £m £m Fixed assets3 869.3 663.4 3.1 1,535.8 Pension asset 170.2 (2.7) 167.5 Assets held for sale (Note E) -3.0 3.0 Current assets 1,395.6 (1.6) 1,394.0 Liabilities – current (ie amounts falling (919.8) (4.1) (12.6) 0.8 (935.7) due within one year) Net current assets 475.8 (4.1) (12.6) (0.8) 458.3 Total assets less current liabilities 1,515.3 659.3 3.1 (15.3) 2.2 2,164.6 Liabilities held for sale (Note E) -(1.0) (1.0) Liabilities – non-current (ie amounts (116.8) (792.1) (908.9) falling due after more than one year) Provisions (196.2) (1.0) (197.2) Pension liability (5.3) (5.3) Net assets 1,197.0 (132.8)4 3.1 (15.3) (1.0) 1.2 1,052.2 1 In accordance with the BBC’s IFRS accounting policies. 2 The other line items not subject to adjustment under IFRS are the profit on sale and termination of operations, the profit on disposal of fixed assets, interest receivable and similar items and other net finance income (from defined benefit pension scheme). 3 Fixed assets include property, plant and equipment, intangible assets and other investments. 4 For a finance lease, at inception, the value of the leased asset and the corresponding liability to pay for it are equal. However, at other times the two are unlikely to be equal because the rate of depreciation of the asset will differ from the amount of principal repaid in any one year. In addition, the liability has been increased due to the reversal of the proceeds of the sale of long-leaseholds, which under IFRS are recognised over the lease period rather than upfront, as a sale. More details on the adjustments for property leases can be found in Note A. Reconciliation of Public Services net funds/(debt) to the Department for Culture, Media and Sport (DCMS) borrowing ceiling as at 31 March 2006 The Public Service Borrowing limit of £200m is set within the BBC Charter and is based on UK accounting standards not IFRS. Borrowings under IFRS would have been £676m, compared with net funds of £18m under UK accounting standards. As accounting standards converge to IFRS, the Charter definition of borrowings would have to change. Net funds £m Reported in the Annual Report and Accounts (Note 22) 18.1 Finance lease reclassification (694.0) Restated under IFRS (675.9) DCMS Borrowing ceiling (200.0) Net funds/(debt) comprises cash in hand or at bank, bank overdrafts, loans and finance lease liabilities. The definition of borrowing for the DCMS borrowing ceiling also takes into account licence savings stamps deposits and direct debit instalments repayable on demand. The only adjustment to these amounts resulting from the application of IFRS relates to the reclassification of certain leases, accounted for as operating leases in accordance with UK accounting standards, as finance leases. IAS 17 Leases The balance sheet above shows a total increase in liabilities relating to lease reclassification in accordance with IFRS of £796.2m. This includes the increase in finance leases relating to property, but also a number of other items: Current Non-current Total £m £m £m Finance lease reclassification 14.9 679.1 694.0 Grant of long leasehold -reversal of sale proceeds, to be accounted for over the period of the lease under IFRS 0.6 113.0 113.6 Operating lease rentals adjustment (11.4) -(11.4) Total 4.1 792.1 796.2 More discussion relating to the adjustments for property leases is provided in note A below. Basis of preparation These reconciliations have been prepared on the basis of the BBC’s IFRS accounting policies, detailed below. These are derived from IFRS, Standing Interpretations Committee (SIC) and International Financial Reporting Interpretations Committee (IFRIC) interpretations in issue and effective for the year ended 31 March 2006, including the early application of the Amendment to IAS 19 Employee Benefits – Actuarial Gains and Losses, Group Plans and Disclosures, which permits the recognition of actuarial gains and losses outside the income and expenditure account provided all such gains and losses are recognised in the period in which they occur (similarly to their recognition in accordance with FRS 17 ‘Retirement Benefits’). In identifying the changes in accounting policies that would be necessary in order to reconcile the BBC’s results and financial position prepared under UK accounting standards to that which would have resulted under IFRS a number of assumptions and decisions have been made: • The date of transition to IFRS has been assumed to be 1 April 2005. • In the Annual Report and Accounts 2005/2006 FRS 21 (IAS 10) ‘Events After the Balance Sheet Date’, FRS 23 (IAS 21) ‘The Effects of Changes in Foreign Exchange Rates’, FRS 25 (IAS 32) ‘Financial Instruments: Presentation and Disclosure’ and FRS 26 (IAS 39) ‘Financial Instruments: Measurement’ have been adopted, which are UK accounting standards that have been converged with IFRS, and therefore no additional issues arise in relation to areas covered by these standards. • IFRS 1 First-time Adoption of International Financial Reporting Standards5 permits certain optional exemptions from full retrospective application of IFRS and the following options have been taken: o The provisions of IFRS 3 Business Combinations have been applied prospectively from 1 April 2005. o Property, plant and equipment has not been remeasured to fair value at the date of transition, and for certain items of property, plant and equipment where a remeasured amount had been retained as deemed cost on the introduction of FRS 15 ‘Tangible Fixed Assets’ that relevant amount will continue to be deemed cost. IFRS accounting policies The BBC’s IFRS accounting policies, used for the preparation of these reconciliations, are consistent with those applicable to the financial statements prepared in accordance with UK accounting standards and disclosed in the Annual Report and Accounts 2005/2006, except for the following: • Purchased goodwill arising on acquisitions of subsidiaries, associates and joint ventures after the date of transition is capitalised at cost. All purchased goodwill, including that arising before the date of transition, is tested for impairment on transition and thereafter annually. The carrying value of purchased goodwill is measured based on its cost less any accumulated impairment losses. On disposal, any goodwill that was previously written off against reserves will not be transferred to the statement of income and expenditure. • Deferred tax assets and liabilities are calculated using the liability method as the amounts of tax payable or receivable in future years in respect of taxable temporary differences and are not discounted. • IAS 38 Intangible Assets requires development expenditure meeting certain criteria to be capitalised as an intangible asset. This is inconsistent with the BBC’s UK accounting policy, where such expenditure would be written off as incurred. However, the BBC has not identified any expenditure meeting the capitalisation criteria and therefore no reconciling item is shown. In addition, although the following policies have not changed, the detailed requirements of IFRS result in adjustments to the amounts that would be recognised if IFRS were adopted: • Finance and operating leases – the detailed requirements of IFRS mean that it is possible that certain leases that are accounted for as operating leases in accordance with UK accounting standards, might meet the definition of a finance lease under IFRS. As a result although there is no change in the accounting policy for finance or operating leases, some adjustments might be made to the results or financial position on an IFRS basis. 5 IFRS 1 is applicable to entities preparing their first set of financial statements under IFRS rather than local accounting standards. For the purposes of illustration it has been applied in the preparation of these reconciliations. • Holiday pay – the detailed requirements of IFRS are such that holiday accrued by employees, but not taken at the balance sheet date must be provided for, whereas under UK accounting standards holiday is normally accounted for as it is taken. If at some future date the BBC adopted IFRS for its Annual Report and Accounts it would determine its IFRS accounting policies (and approach to the exemptions and options in IFRS 1) only at the time that the first IFRS financial statements were finalised, which would be based on IFRS in issue and effective at that time. Presentation These reconciliations are presented in an aggregated format for the purpose of highlighting what the key financial impacts of reporting under IFRS would be. As a result, in addition to not presenting the detailed note disclosures required by IFRS, the reconciliations do not necessarily contain all the components of a complete set of financial statements that would have been required if IAS 1 Presentation of Financial Statements had been adopted in full. The level of aggregation also results in some of the information that IAS 1 would require to be presented on the face of the balance sheet and income statement (the IFRS term for the statement of income and expenditure) not being presented in the reconciliations. IFRS balance sheet presentation usually adopts a current/non-current distinction. As a result, provisions would be split between those amounts that are current (ie falling due within one year) and those amounts that are non- current (ie falling due after more than one year). In addition, deferred tax liabilities would not be presented as part of provisions, but separately disclosed. However, since these reconciliations are in an aggregated format, in order to aid comparisons to the Annual Report and Accounts these presentation adjustments are not reflected above. Explanation of key financial impacts The key differences between the results and financial position of the BBC’s group accounts as presented in the Annual Report and Accounts, prepared on the basis of UK accounting standards, and what would have been presented under IFRS are discussed below. A Property leases The BBC in its Annual Report and Accounts, prepared on the basis of UK accounting standards, currently classifies its leases as either finance leases or operating leases in accordance with SSAP 21 ‘Leases and Hire Purchase Contracts’. IAS 17 Leases includes similar definitions for finance and operating leases, however it sets out different requirements for determining whether an individual lease has the characteristics of a finance lease. In particular, it normally requires property leases to be separated into components comprising a lease of the land and a lease of the building; this is not required by SSAP 21, nor is it usual practice for reporting under UK accounting standards. As a result the buildings elements of certain property leases (in particular Broadcasting House, White City and Pacific Quay), which are classified as operating leases under SSAP 21, have been reclassified as finance leases under IFRS. For these leases the building has been recognised as a property asset (which is depreciated over the life of the lease) and a corresponding liability for the lease payments has been recorded, excluding finance charges that will be recognised over the period of the lease. In addition, the relevant portion of the operating lease rental previously accounted for as an expense has been eliminated. The land elements of these leases continue to be classified and accounted for as operating leases. These property transactions involved the BBC, which owns the freehold to the sites, first granting a long leasehold to a third party and then leasing the property back on a short leasehold, thereby continuing to occupy the property. In accordance with UK accounting standards the granting of a long leasehold is typically accounted for as a sale of the property with any profit on the sale being recognised in the income and expenditure account at the time of the sale. Under IFRS, again the land and buildings elements of these leases must be considered separately and the land element treated as an operating lease. This has resulted in the proceeds from the granting of the long leaseholds being treated as deferred income to be released to the income and expenditure account over the period of the lease (up to 150 years) and any profit originally recognised under UK accounting standards being reversed. Non-property-related leases have not been affected. B Purchased goodwill In accordance with FRS 10 ‘Goodwill and Intangible Assets’ the BBC in its Annual Report and Accounts amortises capitalised purchased goodwill over its estimated expected useful life, which was determined to be 20 years. Under IFRS purchased goodwill is not amortised and instead is subject to an annual impairment test. As a result the goodwill amortisation for the year has been reversed in these reconciliations, and no impairment has been identified on transition, or subsequently. In accordance with the first-time adoption exemption, goodwill that had been amortised, or written off against reserves, prior to the date of transition has not been reinstated. C Employee benefits Post-employment benefits -defined benefit pension scheme Both FRS 17 ‘Retirement Benefits’ and IAS 19 Retirement Benefits, in determining the value of the pension asset or liability that is to be recognised, require pension scheme assets to be measured at fair value at the balance sheet date. However, IFRS takes the view that the fair value of the scheme assets should be based on the amount obtainable from the sale of the assets, ie the bid price, whereas FRS 17 specifies that for quoted securities fair value is the mid-market price. As a result an adjustment, to decrease the value of the pension scheme assets on an IFRS basis, has been made. Other employee benefits – holiday pay In its Annual Report and Accounts the BBC does not currently make a provision for holiday pay, ie holiday earned but not taken prior to the year end. In contrast, IAS 19 requires the cost of short-term compensated absences (eg holidays) to be recognised when employees render the service that increases their entitlement. As a result an additional accrual has been made to reflect this. Once the accrual has been recognised at the date of transition, the effect of the movement in the provision on the results for the year is not significant. D Deferred tax IAS 12 Income Taxes requires a deferred tax liability to be recognised for all taxable temporary differences, subject to certain limited exceptions. In some circumstances this approach results in different amounts being recognised for deferred tax when compared to the timing difference approach of FRS 19 ‘Deferred Tax’. In particular IAS 12 requires a deferred tax effect to be recognised for fixed assets carried at revalued amounts whereas FRS 19 prohibits the recognition of such deferred taxes unless the reporting entity has entered into a binding agreement to sell the revalued assets and any recognised revaluation gains or losses are expected to be realised on the sale. As a result an additional deferred tax liability has been recognised based on the value of the revaluation reserve. E Other Included within the other adjustments are the following two adjustments, that are mainly re-presentations. One relates to disposal groups of assets and liabilities (together forming business units) that, in accordance with IFRS 5 Non-current Assets Held for Sale and Discontinued Operations, would be classified as held for sale at 31 March 2006. Under IFRS 5, from the date a disposal group meets the definition of held for sale, any assets within the disposal group must no longer be depreciated (or amortised) and the disposal group is valued at the lower of its carrying amount or its fair value less costs to sell with the assets and liabilities presented separately in the balance sheet. Amortisation since the date the disposal group met the held for sale criteria has been reversed, but no further measurement adjustment has been necessary, and the assets and liabilities in the disposal group have been re-presented as held for sale. Although both UK accounting standards and IFRS require, or permit, associates and joint ventures to be accounted for using versions of the equity method, there are some differences in the practical application of the methods. In particular IAS 28 Investments in Associates (which describes the equity method whether applied to investments in associates or joint ventures) and IAS 1 require that where the equity method is adopted, the share of the operating surplus of associates (and joint ventures) to be included in the income statement be based on the investors’ share of profit after tax and minority interests. In contrast FRS 9 ‘Associates and Joint Ventures’ requires an investor to include its share of operating results and then add its share of any subsequent items (eg taxation) to the relevant line. As a result the Group’s share of taxation payable by associates and joint ventures has been re-presented with the operating results of the associates and joint ventures and deducted from taxation.