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Annual Report & Accounts 2016 - Notes
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99 24. SHARE OPTION SCHEMES CONTINUED 24.3 Valuation of options The fair value of services received in return for share options granted were measured by reference to the fair value of share options granted. The Group engaged a third party valuation specialist to provide a fair value for the options. The 2014 options were valued using a Monte Carlo model due to the performance conditions associated with the options. The 2014 cash-settled options were revalued using a Monte Carlo model at 31 December 2015. During the year, the 2014 cash-settled options and some of the 2014 equity-settled options were cashed out at an exercise price of 422p. The excess of the cash settlement over the fair value of the options at the date of the settlement has been recognised in the Consolidated Income Statement as a cost of share-based payments within exceptional items. Fair value of share options and assumptions: Date of grant Share price at date of grant1 £ Exercise price £ Expected volatility% Exercise multiple Expected dividend yield Risk free rate2 % Fair value at measurement date £ 2 February 2016 - equity-settled 30 months 4.67 4.22 22-30 n/a n/a n/a 0.32-0.47 2 February 2016 - equity-settled 30 months 4.67 4.67 22-30 n/a n/a n/a 0.22-0.28 2 February 2016 - equity-settled 24 months 4.67 4.22 n/a n/a n/a n/a 0.32-0.47 16 December 2016 - equity-settled 30 months 6.48 4.22 30-28 n/a n/a n/a 1.43-1.94 1. This is the bid price, not the mid-market price, at market close, as sourced from Bloomberg. 2. The measurement of the risk-free rate was based on rate of UK sovereign debt prevalent at each grant date over the expected term of the option. For the 2016 LTIP scheme, the expected volatilities have been calculated using historical prices for companies that were constituents of the FTSE 250 at the grant date. These options accrue dividend credits and the yield is assumed to be nil for 2016 and 10% thereafter. As the schemes vest on a staggered basis over a period of up to 30 months, the volatilities have been calculated over each relevant time period. The fair value of each phase of the options has been calculated separately, shown as a range in the table above, and the cost of each phase is allocated across the vesting period for that phase. 25. FINANCIAL INSTRUMENTS AND RISK MANAGEMENT The Group's principal financial instruments as at 31 December 2016 comprise cash and cash equivalents together with loan borrowings. The main purpose of these financial instruments is to finance the Group's operations and fund acquisitions and shareholder dividends. The Group has other financial instruments which mainly comprise receivables and payables, which arise directly from its operations. The Group does not typically use derivative financial instruments, other than foreign exchange contracts, to hedge its exposure to foreign exchange or interest rate risks arising from operational, financing and investment activities. During 2016, the Group did not hold or issue derivative financial instruments for trading purposes. 25.1 Market risk Market risk arises from the Group's use of interest-bearing, tradable and foreign currency financial instruments. It is the risk that the fair value of future cashflows on its long-term debt finance and cash investments through the use of a financial instrument will fluctuate because of changes in interest rates (interest rate risk), foreign exchange rates (currency risk) or other market factors (other price risk). Exposure to market risk arises in the normal course of the Group's business. 25.2 Foreign exchange risk Foreign exchange risk arises from transactions, recognised assets and liabilities and net investments in foreign operations. The Group's general operating policy is that all material transaction and currency liability exposures are economically and fully hedged using foreign exchange contracts and/or by holding cash in the relevant currency. Following the drawdown of the Cerberus loan in February 2016, the Group held a large position in GBP to meet working capital requirements. This resulted in a foreign exchange loss following the devaluation of sterling during 2016. This amount has subsequently been used in 2017 to hedge against significant GBP liabilities which have arisen including the dividend paid in February 2017 and repay the Cerberus loan. The Group uses foreign exchange contracts to hedge its currency risk but as at 31 December 2016 there were no open foreign exchange contracts. The Group is exposed to currency movements in the euro, arising out of changes in the fair value of financial instruments which are held in non-euro currencies. 25.2.1 Foreign exchange risk sensitivity A significant proportion of the Group's financial assets and liabilities are denominated in euros and GBP. Holding the former currency minimises the Group's exposure to currency translation risk. However, its significant holding of GBP net assets means that it is exposed to movements in the fluctuation of this currency. If the value of GBP relative to EUR was to rise by 10% then the value of the Group's net assets would increase by €15.9m whilst a 10% fall in the value of GBP relative to EUR would result in a fall in the Group's net assets of €15.9m. This exposure was reduced after the year end as the Group utilised part of its GBP cash balances in refinancing its long term loan and also to pay the dividend declared in December.