Note 32 – Differences between UK and US accounting principles
The Group prepares its consolidated accounts in accordance with generally accepted accounting principles in the United Kingdom (UK GAAP), which differ in certain respects from generally accepted accounting principles in the United States (US GAAP).
The most significant difference between UK GAAP and US GAAP is that, under UK GAAP, the business combination of the then National Grid Group plc (now National Grid Transco plc) and Lattice Group plc was accounted for as a merger (pooling of interests), while under US GAAP this transaction was accounted for as an acquisition (purchase accounting) of Lattice Group plc. Consequently, under UK GAAP, the accounts represent the combined accounts of National Grid Group plc and Lattice Group plc on an historical cost basis for all periods presented. Under US GAAP, the accounts presented prior to the Merger are those of National Grid Group plc only.
Condensed income statements, statements of comprehensive income and changes in shareholders’ equity, balance sheets and segmental information in a US GAAP format are presented in note 33. The balance sheets at 31 March 2004 and 31 March 2005 include the impact of the fair value of the acquired assets and liabilities of Lattice Group plc prepared under US GAAP at the date of acquisition. The effect of the US GAAP adjustments to profit for the financial year and equity shareholders’ funds is set out below.
- Reconciliation of net income from UK to US GAAP
- Reconciliation of equity shareholders' funds from UK to US GAAP
- Other US GAAP disclosures
- Non-GAAP measures
- Other differences between UK and US GAAP
- New US Accounting Standards adopted during 2004/05
- Recent US pronouncements not yet adopted
Reconciliation of net income from UK to US GAAP
The following is a summary of the material adjustments to net income which would have been required if US GAAP had been applied instead of UK GAAP:
| |
Notes |
2005 £m |
2004 (restated)(i) £m |
2003 (restated)(i) £m |
||
|---|---|---|---|---|---|---|
| Net income under UK GAAP | 908 | 1,074 | 351 | |||
| Adjustments to conform with US GAAP | ||||||
| Elimination of Lattice pre-acquisition losses, measured under UK GAAP | (a) | – | – | 304 | ||
| Merger costs | (a) | – | – | 32 | ||
| Fixed assets - purchase of Lattice | (a) | (356) | (364) | (169) | ||
| Replacement expenditure (net of depreciation) | (a) | 459 | 383 | 166 | ||
| Pensions and other post-retirement benefits | (b) | 59 | 7 | 35 | ||
| Impairment of goodwill and other intangible assets | (c) | – | (31) | – | ||
| Financial instruments | (d) | 254 | 82 | 40 | ||
| Carrying value of EPICs liability | (e) | – | (226) | 2 | ||
| Severance and integration costs | (f) | 62 | – | (110) | ||
| Recognition of income | (g) | 13 | (9) | 2 | ||
| Goodwill amortisation | (h) | 109 | 99 | 70 | ||
| Intangibles amortisation | (i) | (8) | – | – | ||
| Restructuring - purchase of Lattice | (j) | 2 | 2 | 46 | ||
| Share of joint ventures’ and associate’s adjustments | (k) | – | – | (27) | ||
| Deferred taxation | (o) | (188) | (24) | 7 | ||
| Other | (p) | (10) | 5 | 2 | ||
| 396 | (76) | 400 | ||||
| Net income under US GAAP | 1,304 | 998 | 751 |
Reconciliation of equity shareholders’ funds from UK to US GAAP
The following is a summary of the material adjustments to equity shareholders’ funds which would have been required if US GAAP had been applied instead of UK GAAP:
| |
Notes |
2005 £m |
2004 (restated)(i) £m |
|
|---|---|---|---|---|
| Equity shareholders’ funds under UK GAAP | 1,359 | 1,221 | ||
| Adjustments to conform with US GAAP | ||||
| Fixed assets - impact of Lattice Group plc purchase accounting and replacement expenditure - gross |
(a) | 8,202 | 7,776 | |
| Fixed assets - impact of Lattice Group plc purchase accounting and replacement expenditure - accumulated depreciation |
(a) | (781) | (458) | |
| Goodwill - purchase of Lattice | (a) | 3,820 | 3,820 | |
| Pensions and other post-retirement benefits | (b) | (1,001) | (1,069) | |
| Financial instruments | (d) | 117 | (285) | |
| Severance and integration liabilities | (f) | 65 | 3 | |
| Recognition of income | (g) | (21) | (35) | |
| Goodwill - other acquisitions | (h) | 233 | 245 | |
| Intangibles - other acquisitions | (i) | 212 | – | |
| Restructuring - purchase of Lattice | (j) | (2) | (4) | |
| Ordinary dividends | (l) | 469 | 366 | |
| Tangible fixed assets - reversal of partial release of impairment provision | (m) | (29) | (32) | |
| Regulatory assets | (n) | 162 | 128 | |
| Deferred taxation | (o) | (2,224) | (1,876) | |
| Other | (p) | 10 | 21 | |
| 9,232 | 8,600 | |||
| Equity shareholders’ funds under US GAAP | 10,591 | 9,821 |
| (i) | During the year ended 31 March 2005, the Group adopted Financial Reporting Standard (FRS) 20 ‘Share-based Payment’, and as a result, prior year UK GAAP comparatives have been restated. For a reconciliation of prior year UK GAAP comparatives and the impact of changes in accounting policy, see note 1. |
|---|
The principal differences between UK and US GAAP, as applied in preparing the Group accounts under US GAAP, are set out below:
a) Business combination with Lattice Group plc
Under UK GAAP the business combination with Lattice Group plc was accounted for using merger accounting which combines the results of both companies for the entire year. Under US GAAP, the business combination was accounted for using purchase accounting. As a consequence, the results of Lattice Group plc and its group undertakings are included in the Group accounts only from the date of combination.
Under UK GAAP merger costs are expensed. Under US GAAP merger costs are part of the consideration paid in connection with the acquisition. Consequently, merger costs have been excluded from net income under US GAAP.
Fixed assets - impact of Lattice Group plc purchase accounting and replacement expenditure
Under US GAAP the tangible fixed assets of Lattice Group plc and its group undertakings were recorded at their fair value at the date of the business combination, and depreciation subsequent to that date has been calculated based on that fair value.
In addition, under UK GAAP the Group charges to the profit and loss account replacement expenditure on certain components of plant and equipment, which is principally undertaken to repair and to maintain the safety of the pipeline system. Under US GAAP, such expenditure is capitalised and depreciated over the assets’ expected useful economic lives.
Goodwill – business combination with Lattice Group plc
Under UK GAAP, the business combination of National Grid Group plc and Lattice Group plc has been accounted for as a merger (pooling of interests) while under US GAAP this transaction was accounted for as an acquisition (purchase accounting) of Lattice Group plc. In accordance with US GAAP, goodwill arising on the purchase has been recognised, but is not amortised.
b) Pensions and other post-retirement benefits
Under UK GAAP, pension costs have been accounted for in accordance with UK Statement of Standard Accounting Practice (SSAP) 24 and disclosures have been provided in accordance with SSAP 24 and FRS 17.
Under US GAAP, pension costs are determined in accordance with the requirements of US Statements of Financial Accounting Standards (SFAS) 87 and 88 and pension disclosures are presented in accordance with SFAS 132(R). Differences between UK GAAP and US GAAP figures arise from the requirement to use different actuarial methods and assumptions and a different method of amortising certain surpluses and deficits. Under US GAAP, the Company has estimated the effect on net income and shareholders’ equity assuming the adoption and application of SFAS 87 ‘Employers’ Accounting for Pensions’ as of 1 April 1996, as the adoption of SFAS 87 on the actual effective date of 1 April 1989 was not feasible. The unrecognised transition asset at 1 April 1989, using the financial assumptions at 1 April 1996, amounted to £172m and has been amortised over 15 years commencing 1 April 1989.
Under UK GAAP, as explained in note 7, net interest includes a charge of £37m (2004: £56m charge; 2003: £3m credit) in respect of the notional interest element of the variation from the regular pension cost. Under US GAAP, this cost is not recognised.
The net periodic charge for pensions and other post-retirement benefits is as follows:
| Pensions | Other post-retirement benefits | |||||||
|---|---|---|---|---|---|---|---|---|
| |
2005 £m |
2004 £m |
2003 £m |
2005 £m |
2004 £m |
2003 £m |
||
| Service cost | 135 | 143 | 78 | 12 | 10 | 8 | ||
| Interest cost | 828 | 799 | 456 | 56 | 59 | 59 | ||
| Settlements | – | 14 | 19 | – | 10 | – | ||
| Expected return on assets | (860) | (814) | (490) | (40) | (36) | (32) | ||
| Amortisation of prior service cost | 6 | 5 | 5 | 3 | – | – | ||
| Amortisation of previously unrecognised losses | 45 | 39 | 4 | 20 | 21 | 2 | ||
| Amortisation of transitional asset | – | (11) | (11) | – | – | – | ||
| 154 | 175 | 61 | 51 | 64 | 37 | |||
| Release of pension provision | (2) | (2) | (2) | – | – | – | ||
| 152 | 173 | 59 | 51 | 64 | 37 | |||
The additional cost incurred in respect of severance cases computed in accordance with SFAS 88 ‘Employers’ Accounting for Settlements and Curtailments of Defined Benefit Pension Plans and for Termination Benefits’ is as follows:
| |
2005 £m |
2004 £m |
2003 £m |
|---|---|---|---|
| Cost of termination benefits and curtailments | 30 | 129 | 119 |
The principal financial assumptions used for the SFAS 87 calculations of net periodic charge, based on a measurement date of 31 March 2004 in respect of the US and UK defined benefit schemes are shown below:
| US | UK | |||||||
|---|---|---|---|---|---|---|---|---|
| |
2005 % |
2004 % |
2003 % |
2005 % |
2004 % |
2003 % |
||
| Discount rate | 5.8 | 6.3 | 7.5 | 5.5 | 5.4 | 6.0 | ||
| Return on assets | 8.3 | 8.5 | 8.5 | 6.2-6.7 | 6.3-6.9 | 6.3-7.1 | ||
| General salary increases | 3.3-5.3 | 3.3-5.3 | 3.3-4.5 | 3.9 | 3.5 | 3.8 | ||
| Pension increases | nil | nil | nil | 3.0 | 2.6 | 2.9 | ||
In respect of US schemes, the estimated rate of return for various passive asset classes is based both on analysis of historical rates of return and forward-looking analysis of risk premiums and yields. Current market conditions, such as inflation and interest rates, are evaluated in connection with the setting of our long-term assumptions. A small premium is added for active management of both equity and fixed income. The rates of return for each asset class are then weighted in accordance with our target asset allocation, and the resulting long-term return on asset rate is then applied to the market-related value of assets. The long-term target asset allocation for the US pension schemes is 60% equities, 35% bonds and 5% property and other. The long-term target asset allocation for other post-retirement benefit schemes is 65% equities and 35% bonds.
In respect of UK schemes, the expected long-term rate of return on assets has been set reflecting the price inflation expectation, the expected real return on each major asset class and the long-term asset allocation strategy adopted for each plan. The expected real returns on specific asset classes reflect historical returns, investment yields on the measurement date and general future return expectations, and have been set after taking advice from the schemes’ actuaries. The long-term target asset allocation for the Lattice Group Pension Scheme is 40% equities, 52% bonds and 8% property and other. The long-term asset allocation for the Group’s section of the Electricity Supply Pension Scheme is 63% equities, 30% bonds and 7% property and other.
The assumptions used for other post-retirement costs relate solely to US schemes. These assumptions were that the discount rate used would be 5.75% (2004: 5.75%; 2003: 6.25%) and that medical costs would increase by 10%
A reconciliation of the funded status of the Group pension and other post-retirement schemes to the net accrued benefit liability that was included in the Group’s balance sheet prepared under US GAAP is as follows:
| Pensions | Other post-retirement benefits | |||||
|---|---|---|---|---|---|---|
| |
2005 £m |
2004 £m |
2005 £m |
2004 £m |
||
| Projected benefit obligation | (15,758) | (15,394) | (1,068) | (1,002) | ||
| Fair value of plan assets | 14,086 | 13,432 | 488 | 496 | ||
| Excess of projected benefit obligation over plan assets | (1,672) | (1,962) | (580) | (506) | ||
| Unrecognised net loss | 1,180 | 1,493 | 316 | 328 | ||
| Unrecognised prior service cost/(credit) | 60 | 48 | 70 | (5) | ||
| Net accrued benefit liability - before minimum liability adjustment | (432) | (421) | (194) | (183) | ||
| Additional minimum liability adjustment | (811) | (840) | – | – | ||
| Net accrued benefit liability | (1,243) | (1,261) | (194) | (183) | ||
At 31 March 2005, as required under SFAS 87, an intangible asset of £60m (2004: £48m) was recognised in relation to the additional minimum liability, being equal to the unrecognised prior service cost. A regulatory asset of £133m
The net accrued benefit liability above is shown net of a prepaid cost of £181m in respect of one Group scheme.
The principal financial assumptions used for the SFAS 87 calculations of the projected benefit obligation, based on a measurement date of 31 March 2005, in respect of the US and UK defined benefit schemes are shown below:
| US | UK | |||||||
|---|---|---|---|---|---|---|---|---|
| |
2005 % |
2004 % |
2003 % |
2005 % |
2004 % |
2003 % |
||
| Discount rate | 5.8 | 5.8 | 6.3 | 5.4 | 5.5 | 5.4 | ||
| General salary increases | 3.9-4.3 | 3.3-5.3 | 3.3-5.3 | 3.9 | 3.9 | 3.5 | ||
| Pension increases | nil | nil | nil | 3.0 | 3.0 | 2.6 | ||
All pension schemes had an additional minimum liability adjustment except the Lattice Group Pension Scheme and the Crown Castle Pension Scheme. The accumulated benefit obligation for pensions was £14,825m at 31 March 2005
| Pensions | Other post-retirement benefits | |||||
|---|---|---|---|---|---|---|
| |
2005 £m |
2004 £m |
2005 £m |
2004 £m |
||
| Projected benefit obligation at start of year | 15,394 | 15,030 | 1,002 | 1,004 | ||
| Service cost | 135 | 143 | 12 | 10 | ||
| Interest cost | 828 | 799 | 56 | 59 | ||
| Plan participants’ contributions | 17 | 18 | – | – | ||
| Plan amendment - prior service cost | 17 | – | 79 | (5) | ||
| Terminations | 30 | 129 | – | 5 | ||
| Curtailments | – | (2) | – | 10 | ||
| Settlements | (1) | (80) | – | – | ||
| Actuarial loss | 136 | 322 | 5 | 119 | ||
| Benefits paid | (783) | (736) | (52) | (51) | ||
| Acquisition of Group undertakings | 31 | – | – | – | ||
| Transfers | 1 | – | – | – | ||
| Exchange adjustments | (47) | (229) | (34) | (149) | ||
| Projected benefit obligation at end of year | 15,758 | 15,394 | 1,068 | 1,002 | ||
| Fair value of plan assets at start of year | 13,432 | 12,115 | 496 | 373 | ||
| Actual return on assets | 1,248 | 2,023 | 26 | 92 | ||
| Employer contributions | 184 | 244 | 32 | 123 | ||
| Plan participants’ contributions | 17 | 18 | – | – | ||
| Benefits paid | (783) | (736) | (52) | (24) | ||
| Acquisition of Group undertakings | 21 | – | – | – | ||
| Settlements | (1) | (80) | – | – | ||
| Exchange adjustments | (32) | (152) | (14) | (68) | ||
| Fair value of plan assets at end of year | 14,086 | 13,432 | 488 | 496 | ||
It is estimated that a 1% change in the assumed healthcare cost trends would have increased or decreased the accumulated post-retirement benefit obligation at 31 March 2005 by £104m (2004: £106m; 2003: £106m) and £90m (2004: £96m; 2003: £96m) respectively. The net periodic cost for the year ended 31 March 2005 would have increased or decreased by £7m and £6m respectively (2004: £7m and £8m respectively).
Estimated contributions for all pensions and other post-retirement plans for the year ending 31 March 2006 are £214m.
As at 31 March 2005 the following benefit payments, which reflect future service as appropriate, are expected to be paid:
| Year ended 31 March |
Pensions £m |
Other post- retirement benefits £m |
|---|---|---|
| 2006 | 747 | 53 |
| 2007 | 755 | 56 |
| 2008 | 759 | 57 |
| 2009 | 767 | 58 |
| 2010 | 784 | 59 |
| 2011-2015 | 4,300 | 295 |
In the UK, the trustees for each plan are responsible for setting the long-term strategy after consultation with the Group and professional advisers. The trustees’ objectives are to invest in assets of appropriate liquidity, which together with future contributions from employers and members, would expect to generate income and capital growth to meet the cost of benefits from the plans; and to limit the risk and minimise the long-term cost. In the US, the Group manages its pension plan investments to minimise the long-term cost of operating the plan, with a reasonable level of risk.
Risk tolerance is determined as a result of periodic asset/liability studies which analyse plan liabilities and funded status and results in the determination of the allocation of assets.
Equity investments, fixed income and index-linked portfolios are broadly diversified. Investments are also held in property, private equity and timber with the objective of enhancing long-term returns whilst improving diversification. Investment risk and return are reviewed by investment committees on a quarterly basis.
c) Impairment of goodwill and other intangible assets
The Group reviews all long-lived assets for potential impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Under UK GAAP, recognition and measurement of impairment is determined on the basis of discounted cash flows attributable to income generating units. Under US GAAP, impairments on long-lived assets are determined in accordance with SFAS 144 ‘Accounting for the Impairment or Disposal of Long-Lived Assets’ and are recognised on the basis of undiscounted future cash flows and measured on the basis of discounted future cash flows.
An impairment assessment was carried out during 2004 which resulted in an impairment of goodwill being recorded in respect of Advantica, which was acquired by the Group as part of the Lattice Group plc acquisition.
d) Financial instruments
Under UK GAAP, derivative financial instruments that qualify for hedge accounting are recorded at their historical cost, if any, and are not re-measured. Any related monetary assets or liabilities, including foreign currency borrowings, are translated at the hedged rate. In addition, under UK GAAP, it is permissible to hedge account for the net assets of overseas operations with hedging instruments denominated in currencies other than the functional currencies of the overseas operations.
Under US GAAP, as required by SFAS 133 ‘Accounting for Derivative Instruments and Hedging Activities’, all derivative financial instruments, including derivatives embedded within other contracts, are required to be recognised in the balance sheet as either assets or liabilities and measured at fair value. SFAS 133 only permits hedge accounting in specific circumstances, where the hedge is identified as one of three types: fair value; cash flow; or foreign currency exposures of net investments in foreign operations. Provided that it can be demonstrated that the hedge is highly effective and the relevant hedging criteria have been met, then in respect of fair value hedges, both the change in fair value of the derivative and hedged item are reflected in net income in the period of the change. For cash flow hedges and hedges of foreign currency exposures of net investments in foreign operations, changes in fair value are reflected through other comprehensive income. In the event that the conditions for hedge accounting are not met, changes in the fair value of derivatives are reflected in net income.
The Group has elected not to adopt hedge accounting for the purposes of SFAS 133 except for certain hedges of net investments in foreign operations. Excluding the certain hedges of net investments that have been designated and qualify as hedges under SFAS 133, the reconciliation to net income fully reflects the changes in fair value of derivative financial instruments. There is no reconciling adjustment for the hedges of net investments for which the Group has adopted hedge accounting under SFAS 133, as realised and unrealised gains and losses are taken to reserves under both US GAAP and UK GAAP.
Contracts that qualify as normal purchases and normal sales are excluded from the requirements of SFAS 133. The realised gains and losses on these contracts are reflected in the income statement at the contract settlement date.
e) Equity Plus Income Convertible Securities (EPICs)
Under UK GAAP, EPICs were carried in the balance sheet at the gross proceeds of the issue. This resulted in a gain being recognised on disposal during 2004. The related issue costs were written off in the year of issue. Under US GAAP, the issue costs were deferred and written off over the period to the date of redemption of the EPICs on 6 May 2003.
US GAAP required that the carrying value of the EPICs be adjusted to the settlement amount of the debt, which was linked to the Energis plc share price and therefore no gain was recorded on the disposal.
f) Severance and integration costs
Under UK GAAP, severance costs are provided for in the accounts if it is determined that a constructive or legal obligation has arisen from a restructuring programme where it is probable that it will result in the outflow of economic benefits and the costs involved can be estimated with reasonable accuracy. Under US GAAP, severance costs in respect of the Group’s voluntary severance arrangements are recognised when the employees accept the severance offer. In addition, where the number of employees leaving results in a significant reduction in the accrual of pension benefits for employees’ future service (a curtailment under US GAAP), the effects are reflected as part of the cost of such termination benefits. Accordingly, timing differences between UK and US GAAP arise on the recognition of such costs.
Similarly, under UK GAAP future costs related to property leases have been accrued for in connection with vacating certain premises. Under US GAAP a liability would not be recognised until the ‘cease use’ date is reached, which is expected some time in the near future. This represents a timing difference between UK and US GAAP on the recognition of such costs.
g) Recognition of income
Under US GAAP, income is recognised in the period that the service is provided up to the maximum revenue allowed under the terms of the relevant regulatory regime. Under UK GAAP, any income received or receivable in excess of the maximum revenue allowed for the period, under the terms of the relevant regulatory regime, is recognised as income, even where prices will be reduced in a future period.
h) Goodwill - other
Under US GAAP, the fair value of net assets acquired is calculated in accordance with US GAAP principles which differ in certain respects from UK GAAP principles. As a result, the US GAAP fair value of net assets of Group undertakings acquired differs from the fair value of net assets as determined under UK GAAP principles.
Under UK GAAP, goodwill is amortised over its expected useful economic life, principally 20 years. Under US GAAP, goodwill is not amortised but is reviewed periodically for impairment.
i) Intangible assets
Under US GAAP, in a business combination, intangible assets that meet certain criteria are recognised as assets, separate from goodwill, at fair value. The criteria for separate recognition are met if the intangible asset arises from contractual or legal rights or if it is separable; that is, capable of being separated and sold, transferred or exchanged.
In the acquisition of the UK operations of Crown Castle International Corp., £220m of intangible assets relating to customer contracts and relationships were recognised and are being amortised on a straight-line basis over periods ranging from 10 to 25 years, being the expected life of these intangible assets.
j) Restructuring - purchase of Lattice Group plc
Under US GAAP, certain reorganisation costs relating to an acquired entity are included in liabilities in determining the fair value of net assets acquired. Under UK GAAP, such costs are not recognised as liabilities of the acquired entity at the date of acquisition and are treated as post-acquisition costs.
k) Share of joint ventures’ and associate’s adjustments
The Group’s share of the associated undertaking’s results and net assets, which also impact on the exceptional profit on disposal of investments and assets held for exchange, have been adjusted to conform with US GAAP.
On 16 July 2002, Energis plc (‘Energis’) went into administration. As a direct result of this event, Energis ceased to be an associate of the Group from that date. The results for 2002/03 have not been affected by this change in status, because the Group investment in Energis had been fully written down during 2001/02 and Energis had not publicly declared any results since reporting its results for the six months ended 30 September 2001.
The Group ceased equity accounting for Intelig, its Brazilian telecoms joint venture, with effect from 30 September 2002. This arose as a result of the Group’s share of net assets falling to zero and the Group declaring its intention not to fund this business any further while pursuing a withdrawal strategy.
The Group’s interest in Manquehue net and Silica Networks were disposed of in October 2002 and September 2002 respectively. The Group ceased equity accounting for Manquehue net and Silica Networks from the date of disposal. In the case of Energis Polska, the interest reduced to a level where the Group had no significant influence on the activities of this business as of November 2002. As a result, these entities are no longer equity accounted for, and any losses arising from the disposal or reduction in interest have previously been reflected in the income statement.
l) Ordinary dividends
Under UK GAAP, final ordinary dividends are provided for in the year in respect of which they are proposed by the Board of Directors for approval by the shareholders. Under US GAAP, dividends are not provided until declared.
m) Tangible fixed assets - reversal of partial release of impairment provision
During the financial year ended 31 March 1990, an impairment provision was recorded in respect of certain tangible fixed assets. As required under UK GAAP, part of this impairment provision was subsequently released and shareholders’ equity credited. Under US GAAP, this partial release is not permitted.
n) Regulatory assets
SFAS 71 ‘Accounting for Certain Types of Regulation’ establishes US GAAP for utilities whose regulators have the power to approve and/or regulate rates that may be charged to customers. Provided that through the regulatory process the utility is substantially assured of recovering its allowable costs by the collection of revenue from its customers, such costs not yet recovered are deferred as regulatory assets. Due to the different regulatory environment, no equivalent accounting standard applies in the UK.
Under UK GAAP, regulatory assets established in accordance with the principles of SFAS 71 are recognised where they comprise rights or other access to future economic benefits which arise as a result of past transactions or events which have created an obligation to transfer economic benefit to a third party. Measurement of the past transaction or event and hence of the regulatory asset is determined in accordance with UK GAAP. Where the application of UK GAAP results in the non or partial recognition of an obligation compared with US GAAP, any related regulatory asset is either not or partially recognised. Under UK GAAP, in certain circumstances, regulatory assets may be reported net of related regulatory liabilities. Such amounts are shown gross in the US GAAP balance sheet.
o) Deferred taxation
Under UK GAAP, deferred taxation is provided in full on all material timing differences with certain exceptions, as outlined in Accounting Policies – Deferred taxation and investment tax credits. Under US GAAP, deferred taxation is provided in full, using the liability method, and requires the recognition of deferred taxation on all timing differences except for non-tax deductible goodwill.
The deferred taxation adjustment principally reflects the tax effect of the other measurement and recognition differences between UK and US GAAP.
The corporate tax charge on continuing operations under US GAAP is analysed between current taxes and deferred taxes as follows:
| |
2005 £m |
2004 £m |
2003 £m |
|---|---|---|---|
| Current taxes | 118 | 177 | 44 |
| Deferred taxes | 313 | 105 | 214 |
| Tax charge | 431 | 282 | 258 |
The net deferred tax liability under US GAAP is analysed as follows:
| |
2005 £m |
2004 £m |
|---|---|---|
| Deferred taxation liabilities: | ||
| Excess of book value over taxation value of fixed assets | 5,029 | 4,943 |
| Other temporary differences | 1,162 | 1,169 |
| 6,191 | 6,112 | |
| Deferred taxation assets: | ||
| Other temporary differences (i) | (900) | (1,245) |
| 5,291 | 4,867 | |
| Analysed as follows: | ||
| Current | (184) | 63 |
| Non-current | 5,475 | 4,804 |
| 5,291 | 4,867 |
| (i) | Deferred taxation assets at 31 March 2005 were stated net of a £91m valuation allowance adjustment associated with certain capital losses (31 March 2004: £210m). |
|---|
p) Other
Other differences between UK GAAP and US GAAP are not individually material and relate to non-discounting of environmental provisions under US GAAP (discounted under UK GAAP), differences arising from the recognition of amortisation expense on certain assets and other interest income.
Other US GAAP disclosures
Group cash flow statement
The Group accounts include a cash flow statement prepared in accordance with UK Financial Reporting Standard 1 (Revised 1996) ‘Cash Flow Statements’ (FRS 1 (revised)), the objectives and principles of which are substantially the same as US Statement of Financial Accounting Standard 95 ‘Statement of Cash Flows’ (SFAS 95) under US GAAP. The principal differences between FRS 1 (revised) and SFAS 95 relate to the classification of items within the cash flow statement and the definition of cash and cash equivalents. Under UK GAAP, cash flows are classified under nine standard headings whereas US GAAP only requires presentation of cash flows from three activities, being operating activities, investing activities and financing activities.
Under US GAAP, in contrast to UK GAAP, cash and cash equivalents do not include bank overdrafts but do include investments with original maturities of three months or less.
Set out below is a summary of the Group cash flow statement under US GAAP:
| |
2005 £m |
2004 £m |
2003 £m |
||
|---|---|---|---|---|---|
| Net cash provided by operating activities (i) | 2,483 | 2,500 | 2,000 | ||
| Investing activities | |||||
| Payments to acquire tangible fixed assets | (1,828) | (1,788) | (1,170) | ||
| Acquisition of Group undertakings (net of cash acquired) | (1,122) | – | 338 | ||
| Payments to acquire investments | (16) | – | (163) | ||
| Receipts from disposal of tangible fixed assets | 89 | 146 | 53 | ||
| Receipts from disposal of investments | 11 | 7 | 328 | ||
| Net movement in investments with an original maturity date of more than three months | (59) | (65) | – | ||
| Other | – | – | (22) | ||
| Net cash used in investing activities (ii) | (2,925) | (1,700) | (636) | ||
| Net cash provided by/(used in) financing activities (iii) | 440 | (828) | (962) | ||
| Net (decrease)/increase in cash and cash equivalents | (2) | (28) | 402 | ||
| Cash and cash equivalents at beginning of year | 528 | 570 | 178 | ||
| Exchange adjustments | (1) | (14) | (10) | ||
| Cash and cash equivalents at end of year | 525 | 528 | 570 |
Set out below is an explanation of the reconciliation from US GAAP to UK GAAP cash flow headings:
| (i) | Net cash provided by operating activities comprised net cash inflow from operating activities (excluding payments in respect of replacement expenditure), dividends from joint ventures, returns on investments and servicing of finance, excluding costs relating to the issue of debt and taxation. |
|---|---|
| (ii) | Net cash used in investing activities comprised capital expenditure, payments in respect of replacement expenditure (included in operating activities under UK GAAP), acquisitions and disposals and the component of the management of liquid resources which comprised deposits with an original maturity of more than three months. |
| (iii) | Net cash provided by/(used in) financing activities comprised equity dividends paid, financing, including costs relating to the issue of debt and movements in bank overdrafts. |
Businesses to be disposed
On 31 August 2004, the Group announced that it had reached agreement on the sales of four of its regional gas distribution networks. The sales are subject to certain conditions to prepare the assets for sale and regulatory consents and approvals. The Group determined that it had substantially met the required conditions on 1 May 2005. The sales are expected to complete, subject to final regulatory approval, on or around 1 June 2005.
With effect from 1 May 2005, the Group has classified the assets, liabilities, and results of operations for the four gas networks as discontinued operations under US GAAP. The following table reflects the US GAAP carrying values of the primary components of the networks to be disposed as at 31 March 2005.
| |
2005 £m |
|---|---|
| Property, plant and equipment | 5,752 |
| Other assets | 96 |
| Total assets | 5,848 |
| Accounts payable | (765) |
| Other liabilities | (50) |
| Net assets | 5,033 |
Certain other assets and liabilities may be part of the disposed group dependent upon continued trading and operations up until the date of completion of the sales. The above table does not include any deferred taxation.
Non-GAAP measures
In preparing the accounts in accordance with the Companies Act 1985 and UK GAAP, certain information is presented that would be viewed as ‘non-GAAP’ under regulations issued by the SEC. The Group has described such items and provided disclosure of the effects and reasons for presentation along with a condensed US GAAP income statement using the format prescribed by the SEC. The disclosure of each of the exceptional items would be prohibited within the Form 20-F if such exceptional items were not expressly permitted by FRS 3.
Management uses ‘adjusted’ profit measures in considering the performance of the Group’s operating segments and businesses. References to ‘adjusted operating profit’, ‘adjusted profit before taxation’, ‘adjusted earnings’ or ‘adjusted earnings per share’ are stated before exceptional items and goodwill amortisation.
The Directors believe that the use of these adjusted measures better indicates the underlying business performance of the Group than the unadjusted measures because the exclusion of these items provides a clearer comparison of results from year to year for each of the years presented. This is because this method of presentation removes the distorting impact of exceptional items and removes the impact of goodwill amortisation in order to enhance comparability with the reporting practices of other UK companies.
Exceptional items, which are adjusted for in the adjusted measures referred to above, are defined as material items that derive from events that fall within the ordinary activities of the Group, but that require separate disclosure on the grounds of size or incidence for the accounts to give a true and fair view. Such exceptional items include, for example, material restructuring costs and impairments. Note 4 contains a discussion of the nature of these exceptional items for each year.
Other differences between UK and US GAAP
UK GAAP requires the investors’ share of operating profit or loss, interest and taxation relating to associates and joint ventures to be accounted for and disclosed separately from those of Group undertakings. Under US GAAP, the investors’ share of the after tax profits and losses of joint ventures and associates is included within the income statement as a single line item. UK GAAP requires the investors’ share of gross assets and gross liabilities of joint ventures to be shown on the face of the balance sheet. Under US GAAP, the net investment in joint ventures is shown as a single line item.
Under UK GAAP, the impact of discontinued operations on turnover, operating costs and operating profit is required to be accounted for and disclosed separately from continuing operations. Under US GAAP, the net income/(loss) arising from discontinued operations of Group undertakings is required to be separately accounted for and disclosed as a single line item.
Under UK GAAP, assets in the balance sheet are presented in ascending order of liquidity and the balance sheet is analysed between net assets and shareholders’ funds. Under US GAAP, assets are presented in descending order of liquidity and the balance sheet is analysed between total assets and liabilities and shareholders’ funds as used in the presentation in note 33.
New US Accounting Standards adopted during 2004/05
FIN 46(R)
FIN 46(R) requires the primary beneficiary of a variable interest entity for which control is achieved through means other than through voting rights to consolidate the variable interest entity concerned. The Group adopted FIN 46(R) for the financial year beginning 1 April 2004 and has considered the impact of this standard. Following this assessment, the Group has determined that the adoption of FIN 46(R) did not have a material impact on the Group’s accounts.
FSP 106-2
In May 2004, the Financial Accounting Standards Board (FASB) issued the FASB Staff Position No. FAS 106-2 ‘Accounting and Disclosure Requirements Related to the Medicare Prescription Drug, Improvement and Modernization Act of 2003’ (FSP 106-2), which supersedes FSP 106-1 of the same title issued in January 2004. The Medicare Prescription Drug, Improvement and Modernization Act of 2003 (the Medicare Act) introduces a federal subsidy to sponsors of retiree healthcare benefit plans that provide a benefit that is at least actuarially equivalent to Medicare Part D. The Group has concluded that, if provisions are finalised in their current form, benefits provided under the Group’s plan meet the ‘actuarially equivalent’ standard set forth in the Medicare Act. As permitted, the Group prospectively adopted FSP 106-2 in the year ended 31 March 2005, thereby reducing accumulated benefit obligation by £43m and realising a related £4m tax benefit. Any decrease in future net periodic post-retirement benefit expense that results from the Act will be deferred and will be credited to customers.
EITF 03-1
In March 2004, the EITF reached a consensus on EITF Issue 03-1 ‘The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments’. EITF 03-1 provides new guidance on assessing impairment loss, prescribing a three-step impairment model. In September 2004, the FASB issued FASB Staff Position EITF 03-1-1 ‘Effective Date of Paragraphs 10-20 of EITF Issue 03-1’ which delays the effective date for the measurement and recognition guidance in paragraphs 10-20 of EITF 03-1. The disclosure requirements of EITF 03-1 remained effective. The impact of adopting the disclosure requirements of EITF 03-1 did not impact on the Group’s consolidated financial statements.
Recent US pronouncements not yet adopted
SFAS 123(R)
In December 2004, the FASB issued FASB Statement No. 123 (revised 2004) ‘Share-Based Payment’ (SFAS 123(R)), which is a revision of FASB Statement No. 123 ‘Accounting for Stock-Based Compensation’ (SFAS 123). SFAS 123(R) supersedes APB Opinion No. 25 ‘Accounting for Stock Issued to Employees’, and amends FASB Statement No. 95 ‘Statement of Cash Flows’. Generally, the approach in SFAS 123(R) is similar to the approach described in SFAS 123. However, SFAS 123(R) requires all share-based payments to employees, including grants of employee stock options, to be recognised in the income statement based on their fair values. Pro forma disclosure is no longer an alternative. The Group expects to adopt SFAS 123(R) as of 1 April 2006.
SFAS 123(R) permits adoption of the requirements using one of two methods: a ‘modified prospective’ method where the requirements are applied to all share-based payments granted after the effective date of the pronouncement; or a ‘modified retrospective’ method which allows entities to restate prior periods based on the amounts previously recognised under SFAS 123 for the purposes of pro forma disclosures. The Group plans to adopt SFAS 123(R) using the modified prospective method.
The Group adopted the fair-value based method of accounting for share-based payments using the ‘retroactive restatement method’ described in FASB Statement No. 148 ‘Accounting for Stock-Based Compensation – Transition and Disclosure’. Currently, the Group uses the Black-Scholes European option pricing model to estimate the value of stock options granted to employees and expects to continue to use this acceptable option valuation model upon the required adoption of SFAS 123(R) on 1 April 2006. The Group does not anticipate that adoption of SFAS 123(R) will have a material impact on its results of operations or its financial position. However, SFAS 123(R) also requires that the benefits of tax deductions in excess of recognised compensation cost be reported as a financing cash flow, rather than as an operating cash flow as currently required. This requirement will reduce net operating cash flows and increase net financing cash flows in periods after the effective date.
SFAS 153
In December 2004, as part of the FASB’s short-term convergence project with the International Accounting Standards Board, the FASB issued FASB Statement No. 153 ‘Exchanges of Non-Monetary Assets’ (SFAS 153), which is an amendment to APB Opinion No. 29 ‘Accounting for Non-Monetary Transactions’ (APB 29). APB 29 provided an exemption to its general principle of measuring such transactions at fair value where the exchange related to similar productive assets. The exemption permitted the exchange to be valued at the recorded amount of the assets relinquished. SFAS 153 removes this exemption so that all non-monetary transactions (apart from those without commercial substance) are recorded at fair value. The Group expects to adopt SFAS 153 prospectively for all transactions taking place after 1 April 2006. The impact of the adoption of SFAS 153 cannot be predicted at this time because it will depend on whether applicable non-monetary transactions take place after the effective date.
FIN 47
FASB Interpretation No. 47 ‘Accounting for Conditional Asset Retirement Obligations’ (FIN47) clarifies that the term ‘conditional asset retirement obligation’, as used in SFAS No. 143 ‘Accounting for Asset Retirement Obligation’ (SFAS 143), refers to a legal obligation to perform an asset retirement activity in which the timing and/or method of settlement are conditional on a future event that may or may not be within the control of the Group. FIN47 is effective for financial years ending after 15 December 2005. The Group does not believe the adoption of FIN 47 will have a material impact on its accounts.