Interim Results

British American Tobacco PLC 27 July 2006 INTERIM REPORT TO 30 JUNE 2006 27 July 2006 SUMMARY SIX MONTHS RESULTS 2006 2005 Change Revenue - as reported £4,808m £4,399m +9% - like-for-like £4,808m £4,367m +10% Profit from operations - as reported £1,325m £1,253m +6% - like-for-like £1,389m £1,211m +15% Adjusted diluted earnings per share 49.11p 40.85p +20% Interim dividend per share 15.7p 14.0p +12% • Reported Group profit from operations was 6 per cent higher at £1,325 million. However, profit from operations would have been 15 per cent higher, or 9 per cent at comparable rates of exchange, if exceptional items and the impact arising from the change in terms of trade following the sale of Etinera are excluded, with all regions contributing to this good result. This like-for-like information provides a better understanding of the subsidiaries' trading results. • Group volumes from subsidiaries increased by 2 per cent to 336 billion on a reported basis. On a like-for-like basis, volume growth was 3 per cent and the four global drive brands achieved impressive overall growth of 20 per cent. The reported revenue rose by 9 per cent to £4,808 million. On a like-for-like basis, revenue increased by 10 per cent or 6 per cent at comparable rates of exchange. This excellent volume and revenue growth was achieved across a broad spread of markets. • Adjusted diluted earnings per share rose by 20 per cent, as the higher net finance costs and minority interests were more than offset by the improvement in profit from operations, the share of associates' post-tax results, a lower tax rate and the benefit from the share buy-back programme. Basic earnings per share were higher at 48.38p (2005: 44.14p). • The Board has declared an interim dividend of 15.7p, a 12 per cent increase on last year, to be paid on 13 September 2006. • The Chairman, Jan du Plessis, commented "The Group has again demonstrated its ability to generate good revenue growth, whilst achieving higher operating profit in all regions. The results for the first six months have, however, been flattered by significant foreign exchange gains, which are unlikely to continue, as well as by the timing of shipments in some major markets, which will inevitably reverse during the third quarter." ENQUIRIES: INVESTOR RELATIONS: PRESS OFFICE: Ralph Edmondson/ 020 7845 1180 David Betteridge/Teresa La Thangue/ 020 7845 2888 Rachael Cummins 020 7845 1519 Catherine Armstrong BRITISH AMERICAN TOBACCO p.l.c. INTERIM REPORT TO 30 JUNE 2006 INDEX PAGE Chairman's comments 2 Business review 3 Independent review report to British American Tobacco p.l.c. 7 Group income statement 8 Group statement of changes in total equity 9 Group balance sheet 10 Group cash flow statement 12 Segmental analyses of revenue and profit 13 Accounting policies and basis of preparation 15 Foreign currencies 16 Changes in the Group 16 Restructuring costs 16 Losses/gains on impairment of a business and disposal of brands and joint venture 17 Like-for-like information 17 Net finance costs 17 Associates 18 Taxation 19 Earnings per share 19 Cash flow 20 Dividends 22 Shareholders' funds 22 Contingent liabilities 23 Share buy-back programme 23 CHAIRMAN'S COMMENTS This is another good set of results for British American Tobacco. On a like-for-like basis, volumes were up 3 per cent while, at comparable rates of exchange, revenue grew by 6 per cent and profit from operations increased by 9 per cent. Adjusted diluted earnings per share improved by 20 per cent, with good progress in all the Group's regions, a strong performance from our associates and the benefit of exchange rates. The results demonstrate the continuing improvement in the quality of our business. Like-for-like revenue growth at comparable rates of exchange of 6 per cent (or 10 per cent at current rates), reflected good volume growth, in particular from our global drive brands, price increases and the favourable timing of shipments in some major markets. The Group's cigarette volumes reached 336 billion. Our global drive brands have continued their excellent performance, with growth of 20 per cent between them on a like-for-like basis. Although Lucky Strike was 4 per cent lower, despite a strong second quarter, Kent grew by 22 per cent, with significant market share growth in many of its key markets. Dunhill was 9 per cent ahead, driven by new packaging and innovative formats, such as Dunhill Essence, while Pall Mall, the Group's key mid-priced brand, was up by 45 per cent. Profit from operations on a like-for-like basis increased by 9 per cent at comparable rates of exchange, with profit growth in all our operating regions, again demonstrating the strength we derive from our geographic diversity. The Group's associates had volumes of 116 billion and our share of their post-tax results was £243 million. Excluding exceptional items, this is an increase of £49 million, or 28 per cent, reflecting strong performances from Reynolds American and ITC. It is also worth noting the Supreme Court of Florida's recent decision in the Engle case, eliminating the US$145 billion punitive damages award against the US tobacco industry and decertifying the class. Although net finance costs and minority interests were higher, they were more than offset by the improvement in profit from operations, the share of associates' post-tax results, a lower tax rate, primarily due to a one-off tax credit in Canada, and the benefit from the share buy-back programme. As a result, adjusted diluted earnings per share increased by 20 per cent to 49.11p. The Board has declared an interim dividend of 15.7p per share, an increase of 12 per cent, which will be paid on 13 September to shareholders on the register at 4 August 2006. This is in line with our policy, announced last year, that the interim will normally represent one-third of the previous year's total dividend. In addition, some 17 million shares were repurchased in the six months to 30 June at a cost of £239 million and at an average price of 1383p per share. The programme will restart following the publication of these results. Our fifth Social Report, covering 2005, will be available on the Group's website www.bat.com from 31 July and shows how hard the Company is working to meet its commercial objectives in a responsible and sustainable manner. The Group has again demonstrated its ability to generate good revenue growth, whilst achieving higher operating profit in all regions. The results for the first six months have, however, been flattered by significant foreign exchange gains, which are unlikely to continue, as well as by the timing of shipments in some major markets, which will inevitably reverse during the third quarter. Jan du Plessis 27 July 2006 Page 2 BUSINESS REVIEW The reported Group profit from operations was 6 per cent higher at £1,325 million. However, as explained on page 17, on a like-for-like basis, profit from operations would have been 15 per cent higher or 9 per cent at comparable rates of exchange, with all regions contributing to this good result. This like-for-like information provides a better understanding of the subsidiaries' trading results. Group volumes from subsidiaries increased by 2 per cent to 336 billion on a reported basis and 3 per cent on a like-for-like basis. The reported Group revenue rose by 9 per cent to £4,808 million. On a like-for-like basis, revenue increased by 10 per cent or 6 per cent at comparable rates of exchange. This excellent volume and revenue growth was achieved across a broad spread of markets. The four global drive brands achieved impressive overall volume growth of 20 per cent on a like-for-like basis. Kent grew by 22 per cent with strong performances in its major markets of Japan, Russia, Romania, Ukraine and Chile. Dunhill rose by 9 per cent, driven by a significant increase in South Korea, supported by strong growth in Taiwan and South Africa, although it was down in Malaysia. Lucky Strike volumes were down by 4 per cent, mainly as a result of the competitive pricing activities in Spain and lower industry volumes in Germany, which more than offset the growth in Japan and France. Pall Mall continued its exceptional growth and showed an increase of 45 per cent, driven by Germany, Russia, Romania, Mexico, Chile, Japan, Taiwan and Spain. In Europe, profit at £380 million was slightly up on last year, despite the inclusion in the comparative period of a one-off benefit, resulting from the change in terms of trade following the sale of Etinera. Excluding this benefit, profit increased by £17 million, with strong growth from Russia, Italy, Romania, Hungary and France, partly offset by declines in Spain, Ukraine and Poland. Regional volumes on a like-for-like basis were 2 per cent higher at 119 billion, with significant growth by the global drive brands partly offset by the reduction of value-for-money brand volumes. Growth in Russia, Hungary, France, Spain and Romania was partly offset by declines in Italy, Germany and Ukraine. In Italy, profit grew with improved margins as a result of higher industry pricing, lower supply chain costs and overheads savings, while overall market share was slightly lower. Profit in Germany was down due to excise driven volume declines in the overall market and aggressive pricing related to the end of Stix production. In a difficult environment, the impact on profit was partly offset by continued cost reductions, together with the good volume and share growth of Pall Mall. Cigarette market share was up although volumes were lower. Profit in France grew strongly, benefiting from higher margins. Overheads and distribution costs were lower, while the product mix improved as shipments of global drive brands increased. Profit in Switzerland was slightly down due to price competition, despite higher volumes. Overall market share declined although Parisienne increased share. In the Netherlands, profit was stable, with the benefit of higher volumes and cost savings offset by competitive pricing. Overall market share was down although Lucky Strike and Pall Mall are performing well. Profit in Belgium and Luxembourg was slightly lower as consumer down-trading continued, although Pall Mall performed well. An excise increase in Spain in the first quarter resulted in a price repositioning by a number of tobacco companies, reducing profitability significantly, although volumes and market share were up strongly, mainly driven by Pall Mall. Page 3 Business review cont... In Russia, market share continued to strengthen. Pall Mall, Kent, Dunhill and Vogue volumes were all significantly up, driven by continued product innovation and sustained investment in the premium and global drive brands. Profit increased impressively with higher volumes, improved product mix and a focus on productivity. Romania continued to grow volumes, market share and profit, further consolidating its leadership position. Volume performance was driven by Kent which is now the largest selling brand, while profit benefited from favourable pricing, higher volumes and an improved mix. In Ukraine, profitability was reduced by increased marketing investment in the global drive brands and lower volumes due to the decline of local brands. Profit in Hungary was significantly higher despite price competition and an excise increase. This growth resulted from increased volumes, mainly from Viceroy and Pall Mall, an improved product mix and benefits from efficiency programmes. In Poland, slightly lower volumes and increased excise rates, together with price reductions of a number of international mid-price brands, negatively impacted profitability and market share. In Asia-Pacific, regional profit rose by £46 million to £305 million, mainly attributable to strong performances in Australasia, Malaysia and South Korea, assisted by generally stronger currencies in the region. Volumes at 71 billion were 5 per cent higher as strong increases in South Korea, Pakistan and Bangladesh were partially offset by declines in Malaysia and Indonesia. Profit grew strongly in Australia as a result of increased volumes, higher margins and cost savings following productivity initiatives. Market share continued to grow with good performances from Winfield and Holiday in a reduced total market. In New Zealand, profit increased strongly as margins were higher and volumes rose. In Malaysia, both premium and the value-for-money segment shares were up, led by Dunhill and Pall Mall. However, total volume declined due to the growth of illicit trade following the significant excise increases in the past two years. Profit increased as higher margins, the favourable product mix and a reduction in expenses, as well as the impact of a stronger local currency, more than covered the impact of lower volumes. In Vietnam, volume remained stable but profit was lower due to increased marketing investment behind global drive brands. South Korea's industry volumes were significantly higher, reflecting volume distortions last year as a result of the excise increase at the end of 2004. Against this background, profit grew strongly, reflecting the volume growth, cost savings and local currency appreciation, while market share was also up on the back of strong performances by Dunhill and Vogue. In Pakistan, profit and market share rose strongly with excellent volume growth by Gold Flake and Capstan. Volumes were higher in Bangladesh but profit fell due to higher costs as a result of currency devaluation and some additional marketing investment. In Sri Lanka, profit was up and market share increased with a strong performance by John Player Gold Leaf. Profit in Latin America increased by £64 million to £303 million due to good performances in many markets and strong local currencies. Volumes grew in almost all markets which led to an overall 4 per cent increase to 76 billion. In Brazil, volumes increased, reflecting favourable economic conditions. This, coupled with marketing initiatives and continuing anti-illicit trade operations by the government, resulted in higher market share. The higher volumes, a better product mix and local currency appreciation led to profit growth. However, the currency appreciation had an adverse impact on export leaf margins where shipments were in line with last year. Page 4 Business review cont... The strong profit growth in Mexico was driven by higher margins, an improved local currency and benefits from efficiency programmes. Volumes were up as the decline of non-filter and local low-price brands was more than offset by significant growth in international brands, notably Pall Mall. In Argentina, strong volume growth was achieved through an excellent performance by Viceroy, but profit was lower due to the price competition and the changed product mix. Good profit growth in Chile was achieved by higher margins and volumes, together with the benefits of a stronger currency. Product mix improved with the global drive brands growing volume and share. In Venezuela, higher prices and increased volumes, led by Belmont, resulted in an excellent increase in profit and a higher market share. The Central America and Caribbean area showed a significant profit increase as a result of higher margins, an improved product mix and greater volumes. Profit in the Africa and Middle East region grew by £36 million to £236 million, mainly driven by South Africa, Nigeria and Iran, as well as reduced losses in Turkey. These were partly offset by the continued investments in new markets and lower duty-free sales. Volumes declined by 4 per cent to 48 billion, as a result of Turkey and supply chain problems in West Africa and the Caucasus. In South Africa, good profit growth was achieved as a result of the stronger average rand exchange rate and speculative loading by the trade which is expected to unwind in the third quarter, as well as higher margins. There was an improved product mix, as both Dunhill and Rothmans grew strongly, although market share was slightly down. In Nigeria, the continued success of the authorities in tackling illicit competition has yielded strong growth in volumes. Volume increases, combined with mix improvements, productivity gains and the commencement of regional exports helped to deliver a good improvement in profit. In Iran, volumes continued to grow, with an increased overall market share, resulting in an increase in profits. However, profit in the Arabian Gulf markets was lower after volumes declined. In Turkey, higher margins, following industry price increases and lower costs, ensured a continued and significant reduction of losses. However, the value-for-money segment has been under increased competitive pressure from new launches and the price repositioning of brands, impacting Viceroy, which led to a decrease in volumes. The profit from the America-Pacific region increased by £19 million to £225 million, while volumes were up 7 per cent to 23 billion. The increase in profit and volumes from Japan were partly offset by the lower profit contribution and decline in volumes in Canada. The profit contribution from Canada was down £14 million to £136 million, largely due to lower volumes following the growth of contraband and a lower market share, as well as costs incurred in the move to direct distribution, partially offset by the impact of higher margins and the stronger Canadian dollar. Profit was also adversely affected by the continuing shift to low-price products, with the premium segment now representing 54 per cent of the total market compared with 59 per cent last year. Imperial Tobacco Canada's total cigarette market share decreased by 1 share point to 54 per cent. The announced transfer of production from Canada to Mexico is progressing ahead of schedule. In Japan, the strong growth of Kool and Kent continued and, with Lucky Strike also up, this generated increased volumes in a declining total market, leading to a new high in market share. Trade loading in anticipation of the July excise increase further assisted the growth in volumes. Profit was significantly higher as a result of the increased volumes and improved product mix. Page 5 Business review cont... Unallocated costs, which are net corporate costs not directly attributable to individual segments, were £4 million higher at £60 million, mainly as a result of increased pension costs. The above regional profits were achieved before accounting for restructuring costs, a loss on impairment of a business and a gain on disposal of brands, as explained on pages 16 and 17. Results of associates The Group's share of the post-tax results of associates increased by £47 million to £243 million. Excluding the exceptional items explained on page 18, the Group's share of the post-tax results of associates increased by £49 million to £226 million. The contribution from Reynolds American, excluding the benefit from the favourable resolution of tax matters in 2006 and restructuring costs in 2005, was £36 million higher mainly due to improved pricing and productivity, timing of shipments and the impact of the stronger US dollar. The Group's associate in India, ITC, continued its strong volume growth, and, excluding the one-off items in 2005, this led to an increased profit. Cash flow The IFRS cash flow on page 12 includes all transactions affecting cash and cash equivalents, including financing. The alternative cash flow on page 20 is presented to illustrate the cash flows before transactions relating to borrowings. This shows Group free cash flow of £393 million, £156 million lower than 2005, with the growth in underlying operating profit more than offset by working capital movements, reflecting timing differences in 2005 and 2006, as well as higher outflows for restructuring costs, net interest, net capital expenditure and dividends paid to minorities. Cigarette volumes The segmental analysis of the volumes of subsidiaries is as follows: 3 months to 6 months to Year to 30.6.06 30.6.05 30.6.06 30.6.05 31.12.05 bns bns bns bns bns 63.7 61.6 Europe 119.1 118.3 244.0 36.6 36.1 Asia-Pacific 71.4 67.8 137.1 37.4 36.4 Latin America 75.5 72.7 149.3 24.4 24.6 Africa and Middle East 47.5 49.6 102.6 13.2 11.4 America-Pacific 22.5 21.0 45.0 ------- ------- ------- ------- ------- 175.3 170.1 336.0 329.4 678.0 ======= ======= ======= ======= ======= In addition, associates' volumes for the six months were 116.3 billion (2005: 113.1 billion) and, with the inclusion of these, the Group volumes would be 452.3 billion (2005: 442.5 billion). Page 6 INDEPENDENT REVIEW REPORT TO BRITISH AMERICAN TOBACCO p.l.c. Introduction We have been instructed by the company to review the financial information for the six months ended 30 June 2006, which comprises the Group income statement, the Group statement of changes in total equity, the Group balance sheet, the Group cash flow statement, the segmental analyses of revenue and profit, the accounting policies and basis of preparation and the related notes. We have read the other information contained in the Interim Report and considered whether it contains any apparent misstatements or material inconsistencies with the financial information. Directors' responsibilities The Interim Report, including the financial information contained therein, is the responsibility of, and has been approved by the Directors. The Listing Rules of the Financial Services Authority require that the accounting policies and presentation applied to the interim figures should be consistent with those applied in preparing the preceding annual accounts except where any changes, and the reasons for them, are disclosed. The Interim Report has been prepared in accordance with the basis set out in the Accounting Policies and Basis of Preparation in the Interim Report for the six months to 30 June 2006. Review work performed We conducted our review in accordance with guidance contained in Bulletin 1999/4 issued by the Auditing Practices Board for use in the United Kingdom. A review consists principally of making enquiries of Group management and applying analytical procedures to the financial information and underlying financial data and, based thereon, assessing whether the disclosed accounting policies have been applied. A review excludes audit procedures such as tests of controls and verification of assets, liabilities and transactions. It is substantially less in scope than an audit and therefore provides a lower level of assurance. Accordingly we do not express an audit opinion on the financial information. This report, including the conclusion, has been prepared for and only for the company for the purpose of the Listing Rules of the Financial Services Authority and for no other purpose. We do not, in producing this report, accept or assume responsibility for any other purpose or to any other person to whom this report is shown or into whose hands it may come save where expressly agreed by our prior consent in writing. Review conclusion On the basis of our review we are not aware of any material modifications that should be made to the financial information as presented for the six months ended 30 June 2006. PricewaterhouseCoopers LLP Chartered Accountants London 27 July 2006 Page 7 GROUP INCOME STATEMENT - unaudited 3 months to 6 months to Year to 30.6.06 30.6.05 30.6.06 30.6.05 31.12.05 restated restated restated £m £m £m £m £m Gross turnover (including duty, excise and other taxes of £7,641 million (30.6.05: £6,846 million - 31.12.05: 6,413 5,881 £14,659 million)) 12,449 11,245 23,984 ======== ======== ======== ======== ======== 2,511 2,292 Revenue 4,808 4,399 9,325 (799) (640) Raw materials and consumables used (1,475) (1,253) (2,760) Changes in inventories of finished 8 41 goods and work in progress 39 12 (2) (398) (342) Employee benefit costs (759) (647) (1,557) (85) (115) Depreciation and amortisation costs (191) (189) (383) 24 87 Other operating income 48 111 179 (552) (652) Other operating expenses (1,145) (1,180) (2,382) -------- -------- -------- -------- -------- 709 671 Profit from operations 1,325 1,253 2,420 after (charging)/crediting: ------------------------ ------------------------------------------ (27) (42) - restructuring costs (48) (42) (271) - (losses)/gains on impairment of a business and disposal of brands (1) 68 and joint venture (16) 68 72 ------------------------ ------------------------------------------ ------------------------ ------------------------------------------ 20 21 Finance income 58 41 118 (76) (78) Finance costs (182) (144) (346) ------------------------ ------------------------------------------ (56) (57) Net finance costs (124) (103) (228) Share of post-tax results of 123 108 associates and joint ventures 243 196 392 after (charging)/crediting: ------------------------ ------------------------------------------ (7) - restructuring costs (7) (13) - US Federal tobacco buy-out (12) - brand impairments (29) - exceptional tax credits and other 1 26 impairments 17 26 57 ------------------------ ------------------------------------------ -------- -------- -------- -------- -------- 776 722 Profit before taxation 1,444 1,346 2,584 (188) (187) Taxation (366) (353) (690) -------- -------- -------- -------- -------- 588 535 Profit for the period 1,078 993 1,894 ======== ======== ======== ======== ======== Attributable to: 549 503 Shareholders' equity 1,001 931 1,767 ======== ======== ======== ======== ======== 39 32 Minority interests 77 62 127 ======== ======== ======== ======== ======== Earnings per share 26.57p 23.88p Basic 48.38p 44.14p 84.34p ======== ======== ======== ======== ======== 26.39p 23.71p Diluted 48.01p 43.81p 83.66p ======== ======== ======== ======== ======== See notes on pages 15 to 23. Page 8 GROUP STATEMENT OF CHANGES IN TOTAL EQUITY - unaudited 6 months to Year to 30.6.06 30.6.05 31.12.05 restated restated £m £m £m Differences on exchange (377) 84 425 Cash flow hedges - net fair value gains 11 28 17 - reclassified and reported in net profit (11) 8 38 - reclassified as basis adjustments 2 3 Available-for-sale investments - net fair value losses (3) (1) - reclassified and reported in net profit 1 1 Net investment hedges - net fair value gains/(losses) 63 (13) (52) Tax on items recognised directly in equity 3 (21) (41) -------- -------- -------- Net (losses)/gains recognised directly in equity (313) 88 390 Profit for the period page 8 1,078 993 1,894 -------- -------- -------- Total recognised income for the period 765 1,081 2,284 ---------------------------------------- - shareholders' equity 694 996 2,128 - minority interests 71 85 156 ---------------------------------------- Employee share options - value of employee services 21 19 42 - proceeds from shares issued 20 23 30 Dividends - ordinary shares (685) (617) (910) - to minority interests (85) (60) (112) Purchase of own shares - held in Employee Share Ownership Trusts (77) (47) (48) - share buy-back programme (239) (264) (501) Other movements 9 11 17 -------- -------- -------- (271) 146 802 Balance at 1 January 6,877 6,117 6,117 Change in accounting policy page 15 (42) (42) -------- -------- -------- Balance at period end 6,606 6,221 6,877 ======== ======== ======== See notes on pages 15 to 23. Page 9 GROUP BALANCE SHEET - unaudited 30.6.06 30.6.05 31.12.05 restated £m £m £m Assets Non-current assets Intangible assets 7,704 7,612 7,987 Property, plant and equipment 2,195 2,167 2,327 Investments in associates and joint ventures 2,198 1,965 2,193 Retirement benefit assets 37 26 35 Deferred tax assets 258 233 290 Trade and other receivables 125 157 197 Available-for-sale investments 26 28 27 Derivative financial instruments 63 112 87 -------- -------- -------- Total non-current assets 12,606 12,300 13,143 -------- -------- -------- Current assets Inventories 2,362 2,331 2,274 Income tax receivable 26 32 81 Trade and other receivables 1,635 1,440 1,577 Available-for-sale investments 127 109 96 Derivative financial instruments 134 124 86 Cash and cash equivalents 1,926 1,860 1,790 -------- -------- -------- 6,210 5,896 5,904 Assets classified as held for sale 69 -------- -------- -------- Total current assets 6,279 5,896 5,904 -------- -------- -------- -------- -------- -------- Total assets 18,885 18,196 19,047 ======== ======== ======== See notes on pages 15 to 23. Page 10 GROUP BALANCE SHEET - unaudited 30.6.06 30.6.05 31.12.05 restated £m £m £m Capital and reserves Shareholders' funds 6,373 5,996 6,630 after deducting ------------------------------------------- - cost of own shares held in Employee Share Ownership Trusts (212) (193) (182) ------------------------------------------- Minority interests 233 225 247 -------- -------- -------- Total equity 6,606 6,221 6,877 -------- -------- -------- Liabilities Non-current liabilities Borrowings 5,988 5,728 5,054 Retirement benefit liabilities 482 516 543 Deferred tax liabilities 257 236 277 Other provisions for liabilities and charges 165 121 261 Trade and other payables 165 162 180 Derivative financial instruments 29 46 19 -------- -------- -------- Total non-current liabilities 7,086 6,809 6,334 -------- -------- -------- Current liabilities Borrowings 1,895 1,838 2,202 Income tax payable 269 318 374 Other provisions for liabilities and charges 267 248 234 Trade and other payables 2,695 2,642 2,883 Derivative financial instruments 63 120 143 -------- -------- -------- 5,189 5,166 5,836 Liabilities directly associated with assets classified as held for 4 sale -------- -------- -------- Total current liabilities 5,193 5,166 5,836 -------- -------- -------- -------- -------- -------- Total equity and liabilities 18,885 18,196 19,047 ======== ======== ======== See notes on pages 15 to 23. Page 11 GROUP CASH FLOW STATEMENT - unaudited 6 months to Year to 30.6.06 30.6.05 31.12.05 £m £m £m Cash generated from operations 1,078 1,190 2,893 Dividends received from associates 86 63 193 Tax paid (378) (373) (762) -------- -------- -------- Net cash from operating activities 786 880 2,324 -------- -------- -------- Interest and dividends received 62 67 110 Purchases of property, plant and equipment (166) (122) (381) Proceeds on disposal of property, plant and equipment 13 5 41 Purchases and disposals of intangible assets (14) 70 36 Purchases and disposals of investments (25) 9 22 Purchases and disposals of subsidiaries (1) 11 (25) Purchases of associates (95) -------- -------- -------- Net cash from investing activities (131) 40 (292) -------- -------- -------- Interest paid (176) (172) (371) Finance lease rental payments (11) (14) (45) Proceeds from issue of shares and exercise of options 20 23 30 Proceeds from increases in and new borrowings 1,642 590 742 Movements relating to derivative financial instruments 51 (28) (33) Purchases of own shares (316) (311) (549) Reductions in and repayments of borrowings (862) (282) (878) Dividends paid (771) (696) (1,043) -------- -------- -------- Net cash from financing activities (423) (890) (2,147) -------- -------- -------- Net cash flows from operating, investing and financing activities 232 30 (115) Differences on exchange (74) 27 49 -------- -------- -------- Increase/(decrease) in net cash and cash equivalents in the period 158 57 (66) Net cash and cash equivalents at 1 January 1,664 1,730 1,730 -------- -------- -------- Net cash and cash equivalents at period end 1,822 1,787 1,664 ======== ======== ======== See notes on pages 15 to 23. Page 12 SEGMENTAL ANALYSES OF REVENUE AND PROFIT - unaudited The analyses for the six months are as follows: Revenue 30.6.06 30.6.05 Inter Inter External segment Revenue External segment Revenue £m £m £m £m £m £m Europe 1,712 262 1,974 1,687 271 1,958 Asia-Pacific 854 13 867 776 9 785 Latin America 862 1 863 694 1 695 Africa and Middle East 527 21 548 448 7 455 America-Pacific 556 556 506 506 -------- -------- -------- -------- -------- -------- Revenue 4,511 297 4,808 4,111 288 4,399 ======== ======== ======== ======== ======== ======== The segmental analysis of revenue is based on location of manufacture and figures based on location of sales would be as follows: 30.6.06 30.6.05 £m £m Europe 1,743 1,704 Asia-Pacific 907 826 Latin America 869 701 Africa and Middle East 728 660 America-Pacific 561 508 -------- -------- Revenue 4,808 4,399 ======== ======== Profit from operations 30.6.06 30.6.05 Adjusted Adjusted Segment segment Segment segment result result* result result* £m £m £m £m Europe 344 380 408 379 Asia-Pacific 305 305 259 259 Latin America 303 303 238 239 Africa and Middle East 234 236 200 200 America-Pacific 199 225 204 206 -------- -------- -------- -------- Segmental results 1,385 1,449 1,309 1,283 Unallocated costs (60) (60) (56) (56) -------- -------- -------- -------- Profit from operations 1,325 1,389 1,253 1,227 ======== ======== ======== ======== *Excluding restructuring costs, loss on impairment of a business and gain on disposal of brands as explained on pages 16 and 17. Page 13 Segmental analyses of revenue and profit cont... - unaudited The analyses for the year ended 31 December 2005 are as follows: Revenue Location of manufacture Location of sales Inter External segment Revenue Revenue £m £m £m £m Europe 3,456 569 4,025 3,497 Asia-Pacific 1,646 3 1,649 1,758 Latin America 1,541 4 1,545 1,555 Africa and Middle East 964 34 998 1,405 America-Pacific 1,108 1,108 1,110 -------- -------- -------- -------- Revenue 8,715 610 9,325 9,325 ======== ======== ======== ======== Profit from operations Adjusted Segment result segment result* £m £m Europe 696 784 Asia-Pacific 517 531 Latin America 524 530 Africa and Middle East 425 434 America-Pacific 354 436 -------- -------- Segmental results 2,516 2,715 Unallocated costs (96) (96) -------- -------- Profit from operations 2,420 2,619 ======== ======== *Excluding restructuring costs and gains on disposal of brands and joint venture. The segmental analysis of the Group's share of the post-tax results of associates and joint ventures for the six months is as follows: 30.6.06 30.6.05 31.12.05 Adjusted Adjusted Adjusted Segment segment Segment segment Segment segment result result* result result* result result* restated £m £m £m £m £m £m Europe 20 20 16 16 39 39 Asia-Pacific 48 48 65 39 107 81 Africa and Middle East 1 1 1 1 2 2 America-Pacific 174 157 114 121 244 267 -------- -------- -------- -------- -------- -------- 243 226 196 177 392 389 ======== ======== ======== ======== ======== ======== *Excluding restructuring costs, US Federal tobacco buy-out, brand impairments and exceptional tax credits and other impairments as explained on page 18. Page 14 ACCOUNTING POLICIES AND BASIS OF PREPARATION The financial information comprises the unaudited results for the six months to 30 June 2006 and 30 June 2005, together with the audited results for the year ended 31 December 2005. The annual financial statements for 2005, which represent the statutory accounts for that year, have been filed with the Registrar of Companies. The auditors' report on those statements was unqualified and did not contain any statement concerning accounting records or failure to obtain necessary information and explanations. From 1 January 2005, the Group has prepared its annual consolidated financial statements in accordance with International Financial Reporting Standards (IFRS) as adopted by the European Union (EU) and implemented in the UK. These unaudited Group interim results have been prepared on a basis consistent with the IFRS accounting policies as set out in the Report and Accounts for the year ended 31 December 2005 with the exception of the amendment to IAS21 referred to below. These interim financial statements have been prepared under the historical cost convention, except in respect of certain financial instruments. IAS32 and IAS39 on financial instruments were applied from 1 January 2005 and the changes to the total equity as at 1 January 2005 principally reflect: (a) The measurement of available-for-sale investments at fair value. (b) The measurement of all derivative financial instruments at fair value. (c) Derecognition of deferred losses on derivatives. This resulted in a reduction in total equity of £42 million as at 1 January 2005 which is shown as the impact of the change in accounting policy on page 9. In December 2005, the International Accounting Standards Board issued both a clarification on and an amendment to IAS21 (the effects of changes in foreign exchange rates). The clarification was immediately applicable for reported results. This states that inter company balances between any subsidiary (which may itself be a foreign subsidiary) and a foreign subsidiary may form part of the Group's investment in that foreign subsidiary and therefore, subject to certain other tests, the exchange impact can be taken directly to equity rather than to net finance costs in the income statement. Previously, only balances between certain companies qualified for this treatment. The quarterly results for the three and six months to 30 June 2005 have been restated accordingly from those originally published last year. This has resulted in a decrease of £2 million in net finance costs for the three months to 31 March 2005 and an increase of £3 million in net finance costs for the six months to 30 June 2005 (page 8), with a compensating adjustment to differences on exchange in the statement of changes in total equity (page 9). The amendment to IAS21 allows inter company balances that form part of a reporting entity's net investment in a foreign operation to be denominated in a currency other than the functional currency of either the ultimate parent or the foreign operation itself. This means that certain exchange differences previously taken to the income statement are instead reflected directly in changes in total equity. As this amendment has been adopted by the EU since the release of the Group's first quarter results to 31 March 2006, the previously published results have been restated accordingly. This has resulted in an increase in net finance costs of £nil million for the three months to 31 March 2006, £4 million for the year ended 31 December 2005 and £2 million and £4 million respectively for the three months to 31 March 2005 and the six months to 30 June 2005. In addition, the balance sheet as at 30 June 2005 as published last year has been restated to reclassify derivatives not designated as hedges as current assets or liabilities, consistent with the classification adopted in the 31 December 2005 financial statements. Page 15 FOREIGN CURRENCIES The results of overseas subsidiaries and associates have been translated to sterling as follows: The income statement has been translated at the average rates for the respective periods. The total equity has been translated at the relevant period end rates. For high inflation countries, the local currency results are adjusted for the impact of inflation prior to translation to sterling at closing exchange rates. The principal exchange rates used were as follows: Average Closing 30.6.06 30.6.05 31.12.05 30.6.06 30.6.05 31.12.05 US dollar 1.791 1.873 1.819 1.850 1.793 1.717 Canadian dollar 2.038 2.314 2.206 2.057 2.195 2.005 Euro 1.455 1.458 1.463 1.447 1.481 1.455 South African rand 11.317 11.633 11.574 13.191 11.962 10.889 CHANGES IN THE GROUP On 29 December 2004 the Group sold Etinera S.p.A., the distribution business of its Italian subsidiary. In the first half of 2005, following the sale, volumes and profits in Italy benefited by 2 billion and £16 million respectively from a change in the terms of trade with Etinera. Around three-fifths of these benefits are expected to reverse over time. On 4 October 2005, the Group announced that it had agreed the sale of its 55 per cent stake in BAR Honda, held through BARH Ltd. (BARH), to Honda and the sale was completed on 20 December 2005. For the period 7 January 2005 to 20 December 2005, BARH was equity accounted, reflecting shared control with Honda. On 21 October 2005, the Group announced the exercise of its pre-emption rights over shares in Skandinavisk Tobakskompagni AS, its Danish associate, and the transaction was completed on 12 December 2005. This increased the Group's holding from 26.6 per cent to 32.3 per cent at a cost of £95 million, resulting in goodwill of £69 million. On 25 November 2005, the Group acquired Restomat AG, the largest operator of cigarette vending machines in Switzerland, at a cost of £25 million, resulting in goodwill of £7 million. On 10 March 2006, the Group's Italian subsidiary signed an agreement to sell its cigar business, Toscano, to Maccaferri for euro 95 million. The sale was subject to regulatory and governmental approval and was completed on 19 July 2006. RESTRUCTURING COSTS During 2003, the Group commenced a detailed review of its manufacturing operations and organisational structure, including the initiative to reduce overheads and indirect costs. The restructuring continued during 2004 and 2005, with major announcements during 2005 which covered the cessation of production in the UK, Ireland and Canada, with production to be transferred elsewhere. The profit from operations for the year ended 31 December 2005 included a charge for restructurings of £271 million. The six months to 30 June 2006 includes a charge of £48 million (2005: £42 million) mainly in respect of further costs for the UK and Canada restructurings. Page 16 LOSSES/GAINS ON IMPAIRMENT OF A BUSINESS AND DISPOSAL OF BRANDS AND JOINT VENTURE The agreement to sell the Italian cigar business described on page 16 resulted in the recognition of an impairment charge of £16 million, which is included in depreciation and amortisation costs in the profit from operations in the six months to 30 June 2006, and the separate classification of the assets and liabilities as held for sale in the Group balance sheet. In April 2005, the Group sold to Gallaher Group plc (Gallaher) its Benson & Hedges and Silk Cut trademarks in Malta and Cyprus, together with the Silk Cut trademark in Lithuania, resulting in a gain on disposal of £68 million included in other operating income in the profit from operations. The transactions are in accordance with contracts of 1993 and 1994, in which Gallaher agreed to acquire these trademarks in European Union states and the accession of Malta, Cyprus and Lithuania necessitated the sale. The transactions in respect of BARH described on page 16 resulted in a gain of £5 million which was included in other operating income in the profit from operations for the year ended 31 December 2005. LIKE-FOR-LIKE INFORMATION The table below shows like-for-like revenue and profit from operations after excluding restructuring costs, loss on impairment of a business and gains on disposal of brands as well as the change in terms of trade in Italy. On this basis, the revenue for the six months to 30 June 2006 of £4,808 million would represent growth of 10 per cent or 6 per cent at comparable rates of exchange, and the profit from operations of £1,389 million would represent growth of 15 per cent or 9 per cent at comparable rates of exchange. Revenue Profit from operations 6 months to 6 months to 30.6.06 30.6.05 30.6.06 30.6.05 £m £m £m £m As reported (page 8) 4,808 4,399 1,325 1,253 Etinera - change in terms of trade (32) (16) Restructuring costs (page 8) 48 42 Losses/(gains) on impairment of a business and disposal of brands (page 8) 16 (68) -------- -------- -------- -------- Like-for-like 4,808 4,367 1,389 1,211 ======== ======== ======== ======== NET FINANCE COSTS Net finance costs comprise: 6 months to 30.6.06 30.6.05 restated £m £m Interest payable (203) (183) Interest and dividend income 63 54 Fair value changes - derivatives 141 (131) Exchange differences (125) 157 -------- -------- 16 26 -------- -------- (124) (103) ======== ======== Net finance costs at £124 million were £21 million higher than last year principally reflecting the impact of derivatives and exchange differences, as well as higher interest rates. Page 17 Net finance costs cont... The £16 million gain (2005: £26 million) of fair value changes and exchange differences reflects a gain of £7 million (2005: £6 million) from the net impact of exchange rate movements and a gain of £9 million (2005: £20 million) principally due to interest related changes in the fair value of derivatives. IFRS requires fair value changes for derivatives, which do not meet the tests for hedge accounting under IAS39, to be included in the income statement. In addition, certain exchange differences are required to be included in the income statement under IFRS and, as they are subject to exchange rate movements in a period, they can be a volatile element of net finance costs. These amounts do not always reflect an economic gain or loss for the Group and, in the quarterly results during 2005, the Group noted that it was reviewing the appropriate treatment of these in the adjusted earnings per share calculations. At the 2005 year end the Group decided that, in calculating the adjusted earnings per share, it is appropriate to exclude certain amounts. The adjustments for the six months results to 30 June 2006 are as follows: (a) £nil million (2005: £7 million gain) relating to derivatives for which hedge accounting was obtained during 2005. (b) £4 million gain (2005: £10 million gain) relating to exchange in net finance costs where there is a compensating exchange amount reflected in differences in exchange taken directly to changes in total equity. The adjusted earnings per share for the six months to 30 June 2005 have been adjusted accordingly from those originally reported last year. Excluding the above items, fair value changes and exchange differences are a net gain of £12 million compared to a net gain of £9 million in 2005. ASSOCIATES The share of post-tax results of associates and joint ventures is after exceptional charges and credits. In the six months to 30 June 2006 Reynolds American benefited from the favourable resolution of tax matters of which the Group's share was £17 million. In the year ended 31 December 2005, Reynolds American incurred restructuring costs and a one-off charge related to the stabilisation inventory pool losses associated with the US tobacco quota buy-out programme. The Group's share (net of tax) of these amounted to £13 million (30 June 2005: £7 million) and £12 million respectively. In addition, in the fourth quarter of 2005, Reynolds American benefited from the favourable resolution of tax matters of which the Group's share was £31 million, and also modified the previously anticipated level of support between certain brands and the projected net sales of certain brands, resulting in a brand impairment charge of which the Group's share amounted to £29 million (net of tax). In the six months to 30 June 2005 and the year to 31 December 2005, the contribution from ITC in India included a benefit of £26 million (net of tax), principally related to the write-back of provisions for taxes partly offset by the impairment of a non-current investment. On 25 April 2006, Reynolds American announced an agreement to acquire Conwood, the second largest manufacturer of smokeless tobacco products in the US, for US$3.5 billion, and the acquisition was completed on 31 May 2006. Page 18 TAXATION The tax rate in the income statement of 25.3 per cent for the six months to 30 June 2006 (30 June 2005: 26.2 per cent) is affected by the inclusion of the share of associates' post-tax profit in the Group's pre-tax results. The underlying tax rate for subsidiaries reflected in the adjusted earnings per share shown below, was 30.6 per cent and 32.0 per cent in 2005 and the decrease reflects the inclusion of a tax credit in Canada in respect of prior years and changes in the mix of profits. The charge relates to taxes payable overseas. EARNINGS PER SHARE Basic earnings per share are based on the profit for the period attributable to ordinary shareholders and the average number of ordinary shares in issue during the period (excluding shares held by the Group's Employee Share Ownership Trusts). For the calculation of the diluted earnings per share the average number of shares reflects the potential dilutive effect of employee share schemes. The earnings per share are based on: 30.6.06 30.6.05 31.12.05 Earnings Shares Earnings Shares Earnings Shares restated restated £m m £m m £m m Basic 1,001 2,069 931 2,109 1,767 2,095 Diluted 1,001 2,085 931 2,125 1,767 2,112 The earnings have been distorted by exceptional items, together with certain distortions to net finance costs under IFRS (see page 18), and to illustrate the impact of these distortions, the adjusted diluted earnings per share are shown below: Diluted earnings per share 6 months to Year to 30.6.06 30.6.05 31.12.05 restated restated pence pence pence Unadjusted earnings per share 48.01 43.81 83.66 Effect of restructuring costs 1.61 1.93 10.13 Effect of impairment charge on a business and gain on disposal of brands and joint venture 0.50 (3.20) (3.41) Effect of associates' restructuring costs, US Federal tobacco buy-out, brand impairments and exceptional tax credits and other impairments (0.82) (0.89) (0.14) Net finance costs adjustments (0.19) (0.80) (0.90) -------- -------- -------- Adjusted diluted earnings per share 49.11 40.85 89.34 ======== ======== ======== Adjusted diluted earnings per share are based on: - adjusted earnings (£m) 1,024 868 1,887 - shares (m) 2,085 2,125 2,112 Similar types of adjustments would apply to basic earnings per share. For the six months to 30 June 2006, basic earnings per share on an adjusted basis would be 49.49p (2005: 41.15p) compared to unadjusted amounts of 48.38p (2005: 44.14p). Page 19 CASH FLOW a) The IFRS cash flow includes all transactions affecting cash and cash equivalents, including financing. The alternative cash flow below is presented to illustrate the cash flows before transactions relating to borrowings. 6 months to Year to 30.6.06 30.6.05 31.12.05 £m £m £m Net cash from operating activities before restructuring costs 858 914 2,467 Restructuring costs (72) (34) (143) ------- ------- ------- Net cash from operating activities (page 12) 786 880 2,324 Net interest (140) (129) (231) Net capital expenditure (167) (123) (378) Dividends to minority interests (86) (79) (133) ------- ------- ------- Free cash flow 393 549 1,582 Dividends paid to shareholders (685) (617) (910) Share buy-back (239) (264) (501) Other net flows (51) 71 (49) ------- ------- ------- Net cash flows (582) (261) 122 ======= ======= ======= The Group's net cash flow from operating activities at £786 million was £94 million lower, with the growth in underlying operating performance more than offset by working capital movements reflecting timing differences in 2005 and 2006, as well as higher outflows for restructuring costs. After higher net interest, net capital expenditure and dividends paid to minorities, the free cash flow was £393 million, £156 million lower than 2005. Below free cash flow, the cash flows for the first six months of the year include the payment of the prior year final dividend (2006: £685 million - 2005: £617 million). The share buy-back also results in an outflow of £239 million (2005: £264 million). The other net flows of £51 million in 2006 principally reflect the purchase of own shares to be held in Employee Share Ownership Trusts. The other net flows in 2005 were an inflow of £71 million mainly due to the proceeds of the brand sale to Gallaher. The above flows resulted in net cash outflows of £582 million (30 June 2005: £261 million outflow - 31 December 2005: £122 million inflow). After taking account of transactions related to borrowings, especially the net new borrowings, the above flows resulted in a net increase of cash and cash equivalents of £232 million, (30 June 2005: £30 million increase - 31 December 2005: £115 million decrease) as shown in the IFRS cash flow on page 12. These cash flows, after an adverse exchange impact of £74 million, resulted in cash and cash equivalents, net of overdrafts, increasing by £158 million in 2006 (30 June 2005: £57 million increase - 31 December 2005: £66 million decrease). Borrowings, excluding overdrafts but taking into account derivatives relating to borrowings, were £7,713 million compared to £7,113 million at 31 December 2005. The increase in this figure principally reflected the cash outflow noted above and the increase in cash and cash equivalents, partly offset by the impact of exchange. Current available-for-sale investments at 30 June 2006 were £127 million (31 December 2005: £96 million). As a result of the above, borrowings, net of cash, cash equivalents and current available-for-sale investments, were £5,764 million (31 December 2005: £5,353 million). Page 20 Cash flow cont... b) IFRS cash generated from operations (page 12) 6 months to Year to 30.6.06 30.6.05 31.12.05 restated restated £m £m £m Profit before taxation 1,444 1,346 2,584 Share of post-tax results of associates (243) (196) (392) Net finance costs 124 103 228 Gains on disposal of brands and joint ventures (68) (72) Depreciation and impairment of property, plant and equipment 174 175 348 Amortisation and impairment of intangible assets 17 14 35 (Increase) in inventories (202) (158) (28) (Increase) in trade and other receivables (66) (62) (178) (Decrease)/increase in trade and other payables (100) 152 326 (Decrease) in net retirement benefit liabilities (49) (46) (52) (Decrease)/increase in other provisions for liabilities and (49) (82) 61 charges Other 28 12 33 ------- ------- ------- 1,078 1,190 2,893 ======= ======= ======= c) IFRS investing and financing activities The investing and financing activities in the IFRS cash flows on page 12 include the following items: Interest and dividends received include dividends received of £1 million (30 June 2005: £1 million - 31 December 2005: £1 million). Purchases and disposals of intangible assets include £74 million of sales proceeds for the year to 31 December 2005 (30 June 2005: £76 million) mainly from the brands sale explained on page 17. Purchases and disposals of investments (which comprise available-for-sale investments and loans and receivables) include movements on current investments of £27 million outflow for the six months to 30 June 2006 (30 June 2005: £1 million inflow - 31 December 2005: £7 million inflow) and £2 million sales proceeds of non-current investments for the six months to 30 June 2006 (30 June 2005: £8 million - 31 December 2005: £15 million). Purchases and disposals of subsidiaries for the year to 31 December 2005 principally reflect the acquisition of Restomat AG. In the six months to 30 June 2006, euro 1,000 million floating note rates were repaid, while euro 600 million Notes with a maturity of 2014, £325 million Notes with a maturity of 2016 and euro 525 million Notes with a maturity of 2010 were issued. In addition there was a net draw down on the Revolving Credit Facility of £400 million during the six months. During the year to 31 December 2005, a US$400 million Eurobond, euro 300 million floating rate notes and a deutschmark 500 million Eurobond were repaid and a euro 750 million Eurobond with a 2012 maturity was issued. The US$400 million Eurobond and the euro 750 million Eurobond are reflected in the six months to 30 June 2005. The movement relating to derivative financial instruments is in respect of derivatives taken out to hedge cash and cash equivalents and external borrowings, derivatives taken out to hedge inter company loans and derivatives treated as net investment hedges. Derivatives taken out as cash flow hedges in respect of financing activities are also included in the movement relating to derivative financial instruments, while other such derivatives in respect of operating and investing activities are reflected along with the underlying transactions. Page 21 Cash flow cont... Purchases of own shares include the buy-back programme as described on page 23, together with purchases of shares held in employee share schemes (30 June 2006: £77 million - 30 June 2005: £47 million - 31 December 2005: £48 million). Dividends paid for the six months to 30 June 2006 include £685 million of dividends to Group shareholders and £86 million to minority shareholders (30 June 2005: £617 million and £79 million respectively - 31 December 2005: £910 million and £133 million respectively). d) Net cash and cash equivalents in the Group cash flow statement comprise: 30.6.06 30.6.05 31.12.05 £m £m £m Cash and cash equivalents per balance sheet 1,926 1,860 1,790 Less accrued interest (2) (1) Overdrafts (102) (72) (126) ------- ------- ------- 1,822 1,787 1,664 ======= ======= ======= DIVIDENDS The Directors have declared an interim dividend out of the profit for the six months to 30 June 2006, for payment on 13 September 2006, at the rate of 15.7p per share. This interim dividend amounts to £322 million. The comparative dividend for the six months to 30 June 2005 of 14.0p per share amounted to £293 million. Valid transfers received by the Registrar of the Company up to 4 August 2006 will be in time to rank for payment of the interim dividend. In accordance with IFRS, the interim dividend will be charged in the Group results for the third quarter. The results for the six months to 30 June 2006 include the final dividend paid in respect of the year ended 31 December 2005 of 33.0p per share amounting to £685 million (30 June 2005: 29.2p amounting to £617 million). SHAREHOLDERS' FUNDS 30.6.06 30.6.05 31.12.05 restated restated £m £m £m Share capital 520 529 524 Share premium account 47 42 43 Capital redemption reserves 87 78 83 Merger reserves 3,748 3,748 3,748 Translation reserve 74 98 383 Hedging reserve 13 (2) 10 Available-for-sale reserve 14 15 15 Other reserves 573 573 573 Retained earnings 1,297 915 1,251 --------------------------------------- after deducting - cost of own shares held in Employee Share Ownership Trusts (212) (193) (182) --------------------------------------- ------- ------- ------- Shareholders' funds 6,373 5,996 6,630 ======= ======= ======= Page 22 CONTINGENT LIABILITIES As noted in the Report and Accounts for the year ended 31 December 2005, there are contingent liabilities in respect of litigation, overseas taxes and guarantees in various countries. Group companies, as well as other leading cigarette manufacturers, are defendants in a number of product liability cases. In a number of these cases, the amounts of compensatory and punitive damages sought are significant. At least in the aggregate and despite the quality of defences available to the Group, it is not impossible that the results of operations or cash flows of the Group in particular quarterly or annual periods could be materially affected by this. Having regard to these matters, the Directors (i) do not consider it appropriate to make any provision in respect of any pending litigation and (ii) do not believe that the ultimate outcome of this litigation will significantly impair the financial condition of the Group. SHARE BUY-BACK PROGRAMME The Group initiated an on-market share buy-back programme at the end of February 2003. During the six months to 30 June 2006, 17 million shares were bought at a cost of £239 million (30 June 2005: 25 million shares at a cost of £264 million). During the year to 31 December 2005, 45 million shares were bought at a cost of £501 million. ________________________________________________________________________________ Copies of this Report will be posted to shareholders on 8 August 2006 and may also be obtained during normal business hours from the Company's Registered Office at Globe House, 4 Temple Place, London WC2R 2PG and from our website www.bat.com Alan F Porter Secretary 27 July 2006 Page 23 This information is provided by RNS The company news service from the London Stock Exchange

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