BT 2010 Annual Report Download - page 39

REVIEW OF THE YEAR OUR RISKS
37BT GROUP PLC ANNUAL REPORT & FORM 20-F
ADDITIONAL INFORMATION FINANCIAL STATEMENTS REPORT OF THE DIRECTORS REVIEW OF THE YEAR OVERVIEW
have to provide services to other CPs. In recent years the effect of
these controls has required us to reduce our prices, although in
some recent cases, prices have been allowed to increase in real
terms. We cannot provide assurance to our shareholders that the
regulatory authorities will not increase the severity of the price
controls, extend the services to which controls apply or extend the
services which we have to provide to other CPs. These controls may
adversely affect our market share, our ability to compete and our
future profitability.
Wholesale customers may also raise disputes with Ofcom, seeking
lower prices on wholesale services which are not subject to direct
price control.
Major contracts
We have a number of complex and high value contracts with
customers. The profitability of these contracts is subject to a number
of factors including: variation in cost and achievement of cost
reductions anticipated in the contract pricing both in scale and time;
delays in delivery or achieving agreed milestones owing to factors
either within or outside of our control; changes in customers’
requirements, budgets, strategies or businesses; the performance of
our suppliers and other factors. Any of these factors could make a
contract less profitable or even loss making.
In 2009 a failure to achieve anticipated cost savings made a
number of our major contracts less profitable or even loss making,
adversely impacting our profits. Contract and financial reviews were
undertaken in BT Global Services, and resulted in our taking a more
cautious view of the recognition of expected and future cost
efficiencies, revenues and other changes in underlying assumptions
and estimates, particularly in light of the economic outlook,
resulting in contract and financial review charges of £1,639m being
recognised.
As detailed on page 22, during 2010 we have taken actions and
implemented a number of improvements to significantly enhance
contract management, risk management and performance.
Independent review teams provide additional assurance on our
most significant contracts. Whilst progress has been made, and no
significant charges in relation to major contracts were incurred in
2010, there is still a risk that further contract charges could arise in
the future due to the impact of any of the factors identified above.
The degree of risk increases generally in proportion to the scope
and life of the contract and is typically higher in the early stages.
Some customer contracts require significant investment in the early
stages, which is expected to be recovered over the life of the
contract. Major contracts often involve the implementation of new
systems and communications networks, transformation of legacy
networks and the development of new technologies. The
recoverability of these capital costs may be adversely impacted by
delays or failure to meet milestones. Substantial performance risk
exists in these contracts, and some or all elements of performance
depend upon successful completion of the transition, development,
transformation and deployment phases. Failure to manage and
meet our commitments under these contracts, as well as changes in
customers’ requirements, budgets, strategies or businesses, during
the contract term, may lead to a reduction in our expected and
future revenue, profitability and cash generation. We may lose
significant customers due to merger or acquisition, change of
customer strategy, business failure or contract expiry. Failure to
replace the revenue and earnings from lost customers could reduce
revenue and profitability.
Security and resilience
BT is critically dependent on the secure operation and resilience of
its information systems, networks and data.
Any significant failure or interruption of such data transfer as a
result of factors outside our control could have a material adverse
effect on the business and our results from operations. We have a
corporate resilience strategy and business continuity plans in place,
designed to deal with such catastrophic events including, for
example, major terrorist action, industrial action, cyber-attacks or
natural disasters. A failure to deliver that strategy may lead to a
reduction in our profitability and there can be no assurance that
material adverse events will not occur.
The scale of our business and global nature of our operations
means we are required to manage significant volumes of personal
and commercially sensitive information. BT stores and transmits
data for its own purposes and on behalf of customers, all of which
needs to be safeguarded from potential exposure, loss or
corruption, and therefore receives a high level of management
attention and security measures. Any material failure could
significantly damage our reputation and could lead to a loss of
revenues, cancellation of contracts, penalties and additional costs
being incurred.
Pensions
We have a significant funding obligation to a defined benefit
pension scheme.
Declining investment returns, longer life expectancy and
regulatory changes may result in the cost of funding BT’s defined
benefit pension scheme (BTPS) becoming a significant burden on
our financial resources.
The triennial funding valuation of the BTPS at 31 December
2008 and associated recovery plan has been agreed with the
Trustee. Under this prudent funding valuation basis the deficit is
£9bn. BT and the Trustee have agreed a 17 year recovery plan with
the first three years’ payments being £525m. The payment in 2013
will be £583m, then increasing by 3% per annum.
Whilst the valuation and the recovery plan have been agreed
with the Trustee, they are currently under review by the Pensions
Regulator. However, the Pensions Regulator’s initial view is that
they have substantial concerns with certain features of the
agreement. The Pensions Regulator has indicated it will discuss its
position with us once they have completed their review.
Accordingly, as matters stand, it is uncertain as to whether the
Pensions Regulator will take any further action. This uncertainty is
outside of our control.
The results of future scheme valuations and associated funding
requirements will be impacted by the future performance of
investment markets, interest and inflation rates and the general
trend towards longer life expectancy, as well as regulatory changes,
all of which are outside our control.