The Group’s key accounting policies are summarised below.
Basis of preparation and consolidation
The Group consolidated financial statements are for the 12 months ended 31 December 2007. These consolidated financial statements have been prepared in accordance with the Companies Act 1985 as applicable to companies reporting under IFRS and with those IFRS standards and IFRIC interpretations issued and effective and endorsed by the European Union as at the time of preparing these statements.
The Group consolidated financial statements incorporate the financial statements of the Company and its subsidiaries (together ‘the Group’) and the Group's share of the results and equity of its joint ventures.
Subsidiaries are entities over which, either directly or indirectly, the Company has control through the power to govern financial operating policies so as to obtain benefit from their activities. This power is generally accompanied by a shareholding of more than 50% of the voting rights. The results of subsidiaries acquired or sold during the year are included in the Group’s results from the date of acquisition or up to the date of disposal. All business combinations are accounted for by the purchase method.
Joint ventures are entities in which the Group has a long term interest and exercises joint control with its partners over their financial and operating policies. In all cases voting rights are 50% or lower. Investments in joint ventures are accounted for by the equity method. The Group's share of equity includes goodwill arising on acquisition.
In a single case the Company indirectly owns 100% of the voting share capital of an entity but is precluded from exercising either control or joint control by a contractual agreement with the United States Department of Defense. In accordance with IAS 27 this entity has been excluded from the consolidation and treated as an investment. Further details are contained in note 13.
Intra-group transactions and balances and any unrealised gains and losses arising from intra-group transactions, together with those with joint ventures, are eliminated.
The profit or loss on discontinued operations comprises the trading results up to the date of disposal or discontinuance and the profit or loss on the disposal or closure where businesses are sold or closed by the date on which the financial statements are approved. A discontinued operation is a business or businesses that have either been disposed of or closed or satisfies the criteria to be classified as held for sale and that represents either a material line of business within the Group or within one of its reported segments or a primary geographical area of operation. Where businesses fall to be treated as discontinued in the current year the comparative data is reclassified to reflect those businesses as discontinued.
Minority interests represent the portion of shareholders’ earnings and equity attributable to third party shareholders not belonging to the Group.
Presentation of the income statement
IFRS is not prescriptive as to the format of the income statement. The format used by the Group, in arriving at the results of continuing operations, in these financial statements is explained below.
Sales shown in the income statement are those of continuing subsidiary companies only.
Operating profit is the pre-finance profit of continuing subsidiary companies and, in order to achieve consistency and comparability between reporting periods, is analysed to show separately the results of normal trading performance and individually significant charges and credits. Such items arise because of their size or nature and, in 2007, comprise:
- charges relating to the Group’s strategic restructuring programme announced in 2004,
- the impact of the annual goodwill impairment review,
- asset impairment and restructuring charges which arise from events which are significant to any reportable segment,
- amortisation of the fair value of non-operating intangible assets arising on business combinations,
- profits or losses on businesses sold or closed which do not meet the definition of discontinued operations or which the Group views as capital rather than revenue in nature, and
- changes in the fair value of derivative financial instruments between the opening and closing balance sheets.
The Group’s post-tax share of joint venture profits is shown as a separate component of profit before tax.
Net finance costs are analysed to show separately interest payable, interest receivable and the net of interest payable on post-employment obligations and the expected return on pension scheme assets.
Restatement of 2006 comparatives for presentation purposes
The 2006 trading profit of the Group has been reanalysed in respect of the results of GKN Sheepbridge Stokes, the UK cylinder liner business which formed a significant component of the Other Automotive segment. The closure of this operation was announced in January 2007. Trading has ceased during the year, and its trading results are shown as a separate component of operating profit within the caption ‘Profits and losses on sale or closures of businesses’. Sales of the business in the year were £22 million (2006 – £27 million) and are included in total Group sales.
In the segmental analysis (note 2), comparative figures for the Driveline and OffHighway segments have been restated by equal and opposite amounts in respect of two businesses formerly reported in Driveline, the customer and the product base of which has become increasingly focused on off-highway applications.
Finalisation of fair value adjustments in respect of the 2006 acquisitions of Stellex Aerostructures, Rockford Powertrain and Liuzhou Steel Rim Factory (Liuzhou) were made in the year. As required under IFRS 3, amendments to provisional fair values have been shown as a prior period restatement. As a consequence, and only in respect of Liuzhou, intangible fixed assets have been restated to recognise non-operating intangible assets arising on business combinations of £1 million with an equal reduction in the value of goodwill.
The impact of the presentational changes noted above on the previously reported 2006 figures is set out below:
|
|
As previously reported |
Restated |
| Trading profit (£m) |
242 |
251 |
| Operating profit (£m) |
203 |
203 |
| Profit after taxation for the year (£m) |
177 |
177 |
| Basic earnings per share (p) |
25.0 |
25.0 |
| Adjusted earnings per share (p) |
28.8 |
30.1 |
| Net assets (£m) |
909 |
908 |
| Retained earnings (£m) |
589 |
589 |
Foreign currencies
Subsidiaries, joint ventures and associates account in the currency of their primary economic environment of operation, determined having regard to the currency which mainly influences sales revenue and input costs. Transactions of subsidiaries are translated at exchange rates approximating to the rate ruling on the date of the transaction except in the case of material transactions where actual spot rate may be used if it more accurately reflects the underlying substance of the transaction.Where practicable, transactions involving foreign currencies are protected by forward contracts. Assets and liabilities in foreign currencies are translated at the exchange rates ruling at the balance sheet date.
The Group's presentational currency is sterling. On consolidation, results and cash flows of foreign subsidiaries and joint ventures are translated to sterling at average exchange rates. Their assets and liabilities are translated at the exchange rates ruling at the balance sheet date.
Profits and losses on the realisation of currency net investments include the accumulated net exchange differences that have arisen on the retranslation of the currency net investments since 1 January 2004 up to the date of realisation.
Derivative financial instruments
The Group does not trade in derivative financial instruments. Derivative financial instruments including forward foreign exchange contracts are used by the Group to manage its exposure to (i) changes in the fair value of recognised assets and liabilities, (ii) risk associated with the variability in cash flows in relation to both recognised assets or liabilities or forecast transactions and (iii) changes in the value of the Group’s net investment in overseas operations. All derivative financial instruments are measured at the balance sheet date at their fair value.
Where derivative financial instruments are not designated as or not determined to be effective hedges, any gain or loss on the remeasurement of the fair value of the instrument at the balance sheet date is taken to the income statement.
Where derivative financial instruments are held as and are effective as cash flow hedges against the fair value changes in recognised assets and liabilities, remeasurement gains and losses on the instrument are matched against the remeasurement gain or loss on the recognised asset and liability in the income statement.
Remeasurement gains and losses on derivative financial instruments held as net investment hedges are recognised in equity via the statement of recognised income and expense until the instrument and the underlying hedged investment are sold, when the profit or loss arising is recognised in the income statement.
Any derivative financial instruments no longer designated as effective hedges are restated at market value and any gains or losses are taken directly to the income statement.
Derivatives embedded in non-derivative host contracts are recognised at their fair value when the nature, characteristics and risks of the derivative are not closely related to the host contract. Gains and losses arising on the remeasurement of these embedded derivatives at each balance sheet date are taken to the income statement.
Other financial instruments
Borrowings are measured at their amortised cost unless they are matched by an associated effective hedging financial instrument in which case they are stated at their fair value.
Cash and cash equivalents comprise cash on hand and demand deposits and overdrafts together with highly liquid investments of less than three months maturity. Unless an enforceable right of set-off exists and there is an intention to net settle, the components of cash and cash equivalents are reflected on a gross basis in the balance sheet.
The carrying value of other financial assets and liabilities, including short term receivables and payables, are stated at amortised cost less any impairment provision unless the impact of the time value of money is considered to be material.
Sales and revenue recognition
Revenue from the sales of goods and services is measured at the fair value of the consideration receivable which generally equates to the invoiced amount, excluding sales taxes and net of allowances for returns, early settlement discounts and rebates.
Invoices for goods are raised when the risks and rewards of ownership have passed which, dependent upon contractual terms, may be at the point of dispatch, acceptance by the customer or, in Aerospace, certification by the customer. Invoices for services are raised on the basis of hours worked or the achievement of contractual deliverables which have been agreed by the customer.
Revenue is recognised in the income statement when it can be reliably measured and its collectability is reasonably assured.
Royalty and licence income is recognised on an accruals basis in accordance with relevant agreements and included within sales.
Intangible assets
All intangible assets, excluding goodwill arising on a business combination, are stated at cost (fair value on initial recognition) and subsequently carried at their amortised cost or fair value less any provision for impairment.
Research and development costs
Research expenditure is written off as incurred.
Where development expenditure results in new or substantially improved products or processes and it is probable that recovery will take place, it is capitalised and amortised on a straight line basis over the product’s life up to a maximum of 7 years in Automotive and 15 years in Aerospace starting from the date on which serial production commences. Costs are capitalised as intangible assets unless physical assets, such as tooling, exist when they are classified as property, plant and equipment.
Computer software costs
Where computer software is not integral to an item of property, plant or equipment its costs are capitalised and categorised as intangible assets. Amortisation is provided on a straight line basis over its economic useful life which is in the range of 3–5 years.
Acquired non-operating intangible assets—business combinations
Non-operating intangible assets that are acquired as a result of a business combination including but not limited to customer contracts and relationships, order backlog, patents and know-how, proprietary technology, brand names and trademarks, other intellectual property rights, and agreements not to compete that can be separately measured at fair value on a reliable basis, are separately recognised on acquisition at their fair value. Amortisation is charged on a straight line basis to the income statement over their expected useful lives which are:
|
|
Years |
| Brands/trademarks |
30-50 |
| Intellectual property rights |
5-10 |
| Customer contracts and relationships |
2-15 |
| Proprietary technology and know-how |
7-10 |
| Agreements not to compete |
3 |
Goodwill—business combinations
Goodwill arising on consolidation consists of the excess of the fair value of the consideration over the fair value of the identifiable intangible and tangible assets net of the fair value of the liabilities including contingencies of businesses acquired at the date of acquisition. Goodwill in respect of business combinations of subsidiaries is recognised as an intangible asset. Goodwill arising on the acquisition of a joint venture or associated undertaking is included in the carrying value of the investment.
Where negative goodwill arises, following reassessment of fair values, it is credited to the income statement in the period in which the acquisition is made.
Goodwill is carried at cost less any recognised impairment losses that arise from the annual assessment of its carrying value. To the extent that the carrying value exceeds the value in use, determined from estimated discounted future net cash flows or recoverable amount, goodwill is written down to the value in use and an impairment charge is recognised in the income statement.
Impairment of non-current assets
All non-current assets are tested for impairment when events occur or circumstances indicate that their carrying values might be impaired. Goodwill, capitalised development costs and acquired non-operating intangibles are subject to annual impairment reviews and assessments. Impairments arising are charged to the income statement.
Property, plant and equipment
Cost
Property, plant and equipment are stated at cost or deemed cost less accumulated depreciation and impairment charges. Cost comprises the purchase price plus costs directly incurred in bringing the asset into use but excludes interest.
Where freehold and long leasehold properties were carried at a valuation at 23 March 2000, these values have been retained as book values and therefore deemed cost at the date of the IFRS transition.
Where assets are in the course of construction at the balance sheet date they are classified as capital work in progress. Transfers are made to other asset categories when they are available for use.
Depreciation
Depreciation is not provided on freehold land or capital work in progress. In the case of all other categories of asset, depreciation is provided on a straight line basis over the course of the financial year.
Depreciation is applied to specific classes of asset so as to reduce them to their residual values over their estimated useful lives, which are reviewed annually.
The range of main rates of depreciation used are:
|
|
Years |
| Freehold buildings |
Up to 50 |
| Steel powder production plant |
18 |
| General plant, machinery, fixtures and fittings |
6-15 |
| Computers |
3-5 |
| Commercial vehicles and cars |
4-5 |
Leasehold properties are amortised by equal annual instalments over the period of the lease or 50 years, whichever is the shorter.
Leased assets
Where fixed assets are financed by leasing arrangements which give rights approximating to ownership, the assets are treated as if they had been purchased and the capital element of the leasing commitment is shown as obligations under finance leases. The rentals payable are apportioned between interest, which is charged to the income statement, and capital which reduces the outstanding obligation. Operating lease rentals are charged to the income statement as incurred over the lease term.
Inventories
Inventories are valued on a FIFO or weighted average cost basis at the lower of cost and estimated net realisable value, due allowance being made for obsolete or slow moving items. Cost includes raw materials, direct labour, other direct costs and the relevant proportion of works overheads assuming normal levels of activity.
Taxation
Current and deferred tax are recognised in the income statement unless they relate to items recognised directly in equity when the related tax is also recognised in equity.
Full provision is made for deferred tax on all temporary timing differences resulting from the difference between the carrying value of an asset or liability in the consolidated financial statements and its tax base. The amount of deferred tax reflects the expected manner of realisation or settlement of the carrying amount of the assets and liabilities using tax rates enacted or substantively enacted at the balance sheet date.
Deferred tax assets are reviewed at each balance sheet date and are only recognised to the extent that it is probable that they will be recovered against future taxable profits.
Deferred tax is recognised on the unremitted profits of joint ventures. No deferred tax is recognised on the unremitted profits of overseas branches and subsidiaries except to the extent that it is probable that such earnings will be remitted to the parent in the foreseeable future.
Pensions and post-employment benefits
The Group’s pension arrangements comprise various defined benefit and defined contribution schemes throughout the world. In the UK and in certain overseas companies pension arrangements are made through externally funded defined benefit schemes, the contributions to which are based on the advice of independent actuaries or in accordance with the rules of the schemes. In other overseas companies funds are retained within the business to provide for retirement obligations.
The Group also operates a number of defined contribution and defined benefit arrangements which provide certain employees with defined post-employment healthcare benefits.
The Group accounts for all post-employment defined benefit schemes through full recognition of the schemes’ surpluses or deficits on the balance sheet at the end of each year. Actuarial gains and losses are included in the statement of recognised income and expense. Current and past service costs, curtailments and settlements are recognised within operating profit. Returns on scheme assets and interest on obligations are recognised as a component of other net financing charges.
For defined contribution arrangements the cost charged to the income statement represents the Group’s contributions to the relevant schemes in the period in which they fall due.
Share-based payments
Share-based incentive arrangements are provided to employees under the Group’s share option, incentive and other share award schemes. Share options granted to employees and share-based arrangements put in place since 7 November 2002 are valued at the date of grant or award using an appropriate option pricing model and are charged to operating profit over the performance or vesting period of the scheme. The annual charge is modified to take account of shares forfeited by employees who leave during the performance or vesting period and, in the case of non-market related performance conditions, where it becomes unlikely the option will vest.
Government grants
Grants receivable from governments or similar bodies are credited to the balance sheet in the period in which the conditions relating to the grant are met. Where they relate to specific assets they are amortised on a straight line basis over the same period as the asset is depreciated. Where they relate to revenue expenditure and/or non-asset criteria they are taken to the income statement to match the period in which the expenditure is incurred and criteria met.
Treasury shares
GKN shares which have been purchased and not cancelled are held as treasury shares and deducted from shareholders’ equity.
Dividends
The annual final dividend is not provided for until approved at the Annual General Meeting whilst interim dividends are charged in the period they are paid.
Standards, amendments to standards and interpretations issued and applied
During the year ended 31 December 2007 the Group adopted the following standards, amendments to standards and interpretations.
IFRS 7 'Financial Instruments: Disclosures' and the amendment to IAS 1 ‘Presentation of Financial Statements’ regarding capital disclosures. IFRS 7 introduces new and revised disclosures for financial instruments and for risks associated with financial instruments. As a disclosure based standard there have been no changes in either accounting policies or the primary financial statements.
The following standards and interpretations had no material impact on the Group's results, assets or liabilities or were not relevant:
IFRS 4 ‘Insurance contracts’.
IFRIC 7 ‘Applying the restatement approach under IAS 29, Financial reporting in hyperinflationary economies’.
IFRIC 8 ‘Scope of IFRS 2’.
IFRIC 9 ‘Reassessment of Embedded Derivatives’.
Standards, amendments to standards and interpretations issued but not yet applied
IFRS 8 ‘Operating Segments’ was issued in November 2006 and is required to be implemented from 1 January 2009. It requires operating segments to be identified on the basis of internal reports about components of the Group that are regularly reviewed by the Chief Executive to allocate resources to the segments and to assess their performance, and supersedes IAS 14 ‘Segment Reporting’. The effect of this standard on Group disclosures has not been determined at this stage.
The following amendments to standards and interpretations are unlikely to have a material impact on the Group’s results, assets or liabilities or are not relevant:
IAS 23 (Amendment) ‘Borrowing Costs’.
IFRIC 11 ‘IFRS 2—Group and treasury share transactions’.
IFRIC 12 ‘Service concession arrangements’.
IFRIC 13 ‘Customer loyalty programmes’.
IFRIC 14 ‘IAS 19—the limit on a defined benefit asset, minimum funding requirements and their interaction’.
Significant judgements, key assumptions and estimates
The Group’s significant accounting policies are set out above. The preparation of financial statements, in conformity with IFRS, requires the use of estimates, subjective judgement and assumptions that may affect the amounts of assets and liabilities at the balance sheet date and reported profit and earnings for the year. The Directors base these estimates, judgements and assumptions on a combination of past experience, professional expert advice and other evidence that is relevant to the particular circumstance.
The accounting policies where the Directors consider the more complex estimates, judgements and assumptions have to be made are those in respect of acquired non-operating intangible assets—business combinations (note 25), post-employment obligations (note 27), derivative financial instruments (notes 3e and 20), taxation (notes 5 and 22) and impairment of non-current assets (notes 10 and 11). The details of the principal estimates, judgements and assumptions made are set out in the related notes as identified.