UKGI00006108
UKGI00006108
Shareholder
Executive
HM Government
Post Office Limited (“POL”)
Quarterly Review
October 2015
OFFICIAL — POLICY & COMMERCIAL
UKGI00006108
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OFFICIAL — POLICY & COMMERCIAL
Contents
6 Quarterly Update
Update on ShEx Team’s Priorities for 2015/16
Performance to PS
Board and Management Update
Priorities for the Next Period
Traffic Light Analysis
ShEx Team’s Priorities for 2015/16
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HM Gos
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OFFICIAL — POLICY & COMMERCIAL
@ Quarterly Update — Updates Since May Quarterly Review
Current Trading to P5
= Trading conditions in POL’s markets have remained challenging in 2015/16 and year-to-date revenue is behind target by c.£6m and
operating profit is behind by c.£2m. Both revenue and operating profit are however stronger compared to 2014/15
— Management are committed to 2015/16 targets, although this is starting to look increasingly ambitious. There are no obvious
triggers for an improvement in revenue performance, and costs are benefiting from a number of one-off and timing benefits
= Management are due to complete a full reforecast before the end of the year which could see a move away from budget
— While growth on prior year creates a positive external narrative, underperforming budget does raise some concerns (e.g. growth is
critical for POL to reduce its future reliance on subsidy, as costs cannot be cut forever and the business cannot keep transforming)
— From a funding perspective the priority for POL is however to maintain a strong cash position. Given delays / discretion regarding
investment activities there is considered to be a low risk of this, even if earnings underperform
Strategy Assurance
= ShEx has commissioned KPMG to prepare an assurance report on POL’s refreshed 3-year strategy, as a follow-up to the work
undertaken by the same team in 2013 on POL’s original plan. This plan formed the basis for the current 3-year funding deal
— KPMG’s work is expected to be completed in the coming weeks and while we do not believe it will raise any material concerns it has
taken longer than expected. This is partly due to unfocused engagement from POL and partly due to information not being available
— The final report is likely to highlight a number of areas of risk in the plan, including in relation to revenue growth, key relationships,
structural change that is underway in selected areas of the business and in relation to planned transformation initiatives
= We expect to sit down with POL once this report has been finalised. This will allow us to highlight areas in which POL can improve its
planning processes and, potentially, make future assurance undertaken by ShEx (e.g. in 2016) more streamlined
Shareholder
Executive
HM Government
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OFFICIAL — POLICY & COMMERCIAL
@ Quarterly Update — Updates Since May Quarterly Review (cond)
Future Funding and the Spending Review
= Paula Vennells recently wrote to Mark Russell to flag risks to POL post-2018 when funding for the post office network has not yet been
secured (i.e. POL’s existing funding agreement expires in March 2018)
— BIS’s Spending Review bid is aligned to the indicative funding set out by POL in 2013 (i.e. £60m in 2018/19 and £50m in each year
thereafter). While this should be sufficient, there are significant risks linked to uncertainties in POL’s future trading performance
— It will be critical that any settlement letter between BIS and HM Treasury includes reference to the fact that POL funding after
March 2018 is uncertain and that this might need to be revisited in 2016. Critically this approach has the support of Ministers and
the SoS
Project Sparrow
= wl
—[e]
Industrial Relations
= Over the coming months POL will be engaging with the CWU and CMA on 5 areas of proposed change to employment terms, staffing
and pay. Discussions have commenced in respect of 2 of these matters
— Based on prior experience, one or more of these could trigger a hostile response from the unions. Combined with the current
backdrop of the Trade Union Bill there is therefore a very high chance that the unions will mobilise support against POL’s proposals
— After a period of relative quiet in its relationships with the unions, and despite improvements in the way the two sides interact, this
is likely to lead to a heightened risk of industrial action between now and early-2016
— POL has a good track record of managing industrial action, and has demonstrated over the past couple of years that it can keep
branches open and stocked with cash. Longer and / or coordinated action is however likely to be harder to manage
Shareholder
Executive
HM Government
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OFFICIAL — POLICY & COMMERCIAL
@ Quarterly Update — Updates Since May Quarterly Review (cond)
Network Transformation
= POL is tracking 10 per cent. behind targets YTD and so far 621 new branches have been opened against a planned total of 690 for the
first 5 months of 2015/16. This is not presently a concern, as POL is taking action and as full year performance is often H2 weighted
— In 2015/16 POL is taking a slightly altered approach to unengaged branches, to encourage them to volunteer to convert under
Network Transformation. The success of this will be a key factor behind whether full year targets can be met
— This work is ongoing and we are engaging closely with POL. However it is too early to tell whether POL’s plans will have the expected
impact on contract signatures or branch conversions
Network Consultation
= The ShEx team is currently working on the early stages of a network consultation, aimed at soliciting people’s views on the post office
network as a whole and the services made available across it. We are planning to launch this before Christmas Recess
— The consultation updates a previous version completed in 2007. It is expected this will form an important evidence base for policy
development in early 2016, as well as being critical for any future State aid notification
— POL is engaged, which is reassuring. An early conclusion — noting the ambitious timeline — will be useful for POL to support strategy
work in early 2016 (i.e. to support their funding bid due later in the year)
Post Office Policy Development
= The new Government's stated policy for Post Office is currently limited to their manifesto commitment to “secure the future of 3,000
rural post offices”. This is not restrictive, as today there are c.6,000 rural branches in the network
— While detailed areas of policy still need to be developed and agreed, the present direction of travel is based on discussions with
Ministers and existing parameters inherited from the previous Government (e.g. modernisation, reducing reliance on subsidy, etc.)
— We expect to use the YouGov / London Economics study and the Network Consultation to inform work in early 2016 around a
refreshed policy. This has been raised with Ministers and they broadly agree with ShEx’s proposed approach
Shareholder
Executive
HM Government
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OFFICIAL — POLICY & COMMERCIAL
@ Quarterly Update — Actions Highlighted in May
TITLE OVERVIEW ACTIONS TAKEN
Funding Options eta to look at bet! of ls ShEx is working with POL to develop of a variety of funding scenarios, in preparation for any push
Coens parte jrtimelig) back from within BIS or HM Treasury linked to the Spending Review
in the event pressures
emerge, and the impact = Near-term funding should be secure, as there is a legally binding contract between BIS and POL.
of these (i.e. both costs However ShEx is taking a cautious approach to this
and benefits of change).
= Scenarios look at both near-term and medium-term funding. It will be important to understand what
any cuts might mean for the network, recent spending and any other POL / HMG commitments
IT Assurance The team to consider = Given changes to POL’s Board (e.g. a new Chair and ongoing recruitment for 2 NEDs) we have not
Women on Board NEDs actively sought to bring in a dedicated IT assurance capability
re. a digital assurance
role with POL, regarding I“ Once the new Chair has settled and new NEDs have been appointed we will revisit, with POL, to make
its IT transformation. sure POL / the Board is properly resourced and supported
* POL’s IT transformation has already seen delays / risks crystallise. Appropriate oversight and
effective delivery is therefore critical to POL’s strategy and to avoid the risk of future Sparrow-like
challenges
Government The team to explore = While limited progress has been made in this area in recent months, POL has now appointed a new
Relations routes to strengthen
POL’s relationship
management with
Government (i.e.
Government both as
shareholder and client).
Head of Government Services who joins the business shortly
= We will engage once he has settled to understand his strategy and also in relation to how he sees
ShEx supporting POL. POL’s new Chair also has ambitions in this area which we will look to explore
= If required we will then take action to support POL in developing a stronger dialogue with
Government. It is however hoped that this will not be required
Shareholder
Executive
HM Government
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OFFICIAL — POLICY & COMMERCIAL
© Update on ShEx Team’s Priorities for 2015/16
ity Commentary
Network Transformation
= POL is currently behind target for the year, which is being monitored closely. The main risk to full-year outturn will be the impact of
POL's work on the unengaged branches and whether the Network Transformation team's proposed strategy delivers expected results
Crown Transformation
= POL is making progress with business-as-usual transformation which is planned to deliver a range of benefits across the owned estate
Transformation (e.g. franchising, hosting, retail efficiency, automation, etc.), helping POL to reach breakeven in the near-term
Business Transformation
* While POL is delivering results in the form of reduced costs, performance is currently mixed. Good progress is being made in some
areas (e.g. redundancies) but it has been slow or delayed in others (e.g. Supply Chain transformation)
= The ShEx team’s primary focus at the moment is in relation to POL’s IT transformation. This is moving into implementation shortly and
a good pace of progress will be critical to establish the foundation other areas of the business need to deliver their long term strategies
Strategic Planning
= KPMG's assurance work on POL's 3-year strategy “refresh” is nearing completion; we do not expect this to raise any significant
concerns with the substance of POL's forecasts but we do expect the team to highlight areas of improvement / lessons to be learned
Network Strategy
= We are engaging well with POL in relation to a refreshed network strategy; we expect to have greater visibility over this in early 2016
once both the YouGov / London Economics work and the upcoming Network Consultation have both been completed
Commercial Strategy
Pre-Election Update on Progress
Mutualisation « There is uncertainty regarding Ministers appetite to press forward with mutualisation options for POL. This is likely to be raised with the
Minister among similar issues after Party Conferences. It might also form part of the upcoming network consultation
= Project Sparrow: [e]
Policy and Stakeholder = Stakeholder Relations: POL’s relationship with the unions and Citizen's Advice continue to present challenges, although progress has
Issues been made recently in other areas (e.g. with the NFSP and the Plunkett Foundation)
= Other Ad-Hoc Activities: No material issues at present
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OFFICIAL — POLICY & COMMERCIAL
© 2015/16 First 5 Months’ Performance — Revenue
After the first 5 months of
2015/16 POL is trading in
line with prior year but is
behind budget...
..While Mails & Retail and
Government Services
performance are both
holding up — which is
reassuring after recent
years’ performance —
revenue in Financial Services
(in particular) and Telephony
is a concern...
..Financial Services is ahead
of prior year but as it is a key
growth driver in POL’s
strategy expectations were
for more significant
expansion. This will be a
focus of the ShEx team in the
second half of the year.
Shareholder
Executive
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Mails & Retail 151.4 149.6 1.2% 153.6 (1.4%)
Financial Services 126.2 130.7 (3.4%) 121.1 4.1%
Government Services 44.6 43.0 3.7% 45.7 (2.3%)
Telephony 20.6 23.5 (12.4%) 20.8 (1.3%)
Other 13.8 15.6 (11.9%) 15.2 (9.3%)
POL Net Income 356.5 362.4 (1.6%) 356.4 0.0%
Mails & Retail
= Currently trading ahead of budget but modestly behind prior year
— Performance versus budget favourable across most product areas, with particular strength in Special Delivery, RM
Signed For and Home Shopping Returns. Other Mails income is under budget due to unspecified new products not
emerging
— Versus prior year, after adjusting for the contractual reduction in the RM Fixed Payment (£2.7m lower YTD), revenue is
up on 2014/15. Mostly driven by performance in Special Delivery, Labels, Home Shopping Returns and Mails Other
Financial Services
= YTD trading in most areas has been broadly in line with budget although Insurance and Foreign Exchange have both traded
behind materially behind expectations. Year-on-year comparables look generally strong
— Insurance has been impacted by weak travel volumes and delays to Project Hawk (i.e. acquisition of Bol’s share in POL’s
General Insurance business), while lower Foreign Exchange is mostly due to customers buying forward and competition
Government Services
= Favourable performance due to stronger than expected performance in ID Assurance, Rod Licenses and other ID Services.
All other areas are broadly trading in line with budget
— Recent developments with HMRC in ID Assurance likely to impact H2 performance significantly, potentially reversing
much of the strong performance seen YTD
= Compared to prior year Motoring Services and POca are both behind, as expected. However Passports, AEI, ID Assurance
and Other Government Services are all performing well
Telephony and Other
= Weak performance in Telephony, mainly driven by lower subscriber numbers and ARPUs, and Supply Chain where expected
external growth has not materialised 8
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OFFICIAL — POLICY & COMMERCIAL
© 2015/16 First 5 Months’ Performance — Income Statement
While revenue performance
YTD has fallen short of
expectations, favourable
overall cost performance has
meant operating profit is
only £2m behind YTD...
... however up to £[e]m of cost
outperformance is due to one-
off benefits and timing
effects which are expected to
unwind as the year
progresses...
..notwithstanding this, ona
year-on-year basis POL is still
making good progress.
Operating profit is >£18m
ahead before accounting for
reduced subsidy...
..there are still concerns
across the P&L though. These
will be monitored closely as
the year progresses.
@ Shareholder
Executive
HM Government
POL Net Income 356.5 362.4 (1.6%) 356.4 0.0%
Staff Costs (98.7) (96.8) 2.0% (106.2) (7.0%)
Agents Costs (175.7) (180.2) (2.5%) (189.3) (7.2%)
Non-Staff Costs (119.7) (121.6) (1.5%) (111.8) 7.1%
Project Operating Costs (6.8) (6.9) (2.4%) (11.9) (42.9%)
POL EBITDAS (44.5) (43.1) 3.1% (62.8) (29.2%)
Financial Services JVs 20.1 20.9 (3.6%) 19.8 1.7%
Total EBITDAS (24.3) (22.2) 9.4% (43.0) (43.4%)
Depreciation (0.2) (0.3) (28.8%) (0.2) (3.5%)
Network Subsidy Payment 55.0 55.0 0.0% 67.7 (18.7%)
Group Operating Profit 30.5 32.5 (6.2%) 24.5 24.3%
Memo: Net Income (incl. NSP) 411.5 417.4 (1.4%) 424.1 (3.0%)
= Although revenue is £5.9m behind target operating profit is only £2.0m short YTD. Mostly due to strong cost performance in
Agents Costs and Non-Staff Costs, partially offset by higher than expected Staff Costs
- Agents Costs are £4.5m favourable due to the impact of lower income and 2014/15 progress under Network Transformation.
Phasing of some payments is also not in line with budget, and is expected to unwind during the second half of the year
— Non-Staff Costs are £1.8m favourable due to a one-off £3.7m compensation payment received from Fujitsu, lower vehicles
costs and a phasing benefit of marketing spend (which will unwind).
0. Partially offset by unhedged Foreign Exchange losses, higher card transaction costs, higher than expected property costs
and unbudgeted RM Segregation Penalty
— Staff Costs are £2m ahead of expectations mostly due to a pension rate adjustment (although notably it is also £7.5m ahead of
prior year due to the savings activities undertaken in 2014/15 and so far this year)
= Although operating profit is behind expectations it is £6m ahead of prior year and, adjusting for the reduction in subsidy between
2014/15 an 2015/16, it is >£18m ahead. This is reassuring progress
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OFFICIAL — POLICY & COMMERCIAL
© Board and Management Update
Quality of management
team is RED in POL’s
traffic light assessment
1. Questions remain
regarding the CEO’s
ability to manage the
business and deliver
POL’s strategy. Early
views of POL’s new
Chair will be of interest
2. Recruitment processes
are ongoing for two key
Board roles. It is critical
that these are
concluded soon
3. The senior team will
continue to be tested
as key strategies move
into more challenging
areas of
implementation later in
the year. This should
expose any shortfalls in
capability
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POL Board
= In October 2015 Tim Parker joined POL as its new Chair
— Although Tim has only been with the business a few days he has made an immediate impact. He met staff at POL’s Finsbury
Street offices in an all-staff event and has spoken at length with each member of POL’s Executive Committee
— Compared to his predecessor, and given his background, we expect Tim to take a far more commercial approach to POL.
This is what the business needs, and we (tentatively) expect him to have the support of Ministers in this
— Inthe coming weeks ShEx will engage with Tim, both to understand his early thoughts about the business, its resources,
strategy and how it functions but also to agree a new Chairman’s Letter
— Atthe Minister’s request Tim will also take a fresh look at Project Sparrow. Certain stakeholders in this process will be
interested in his views, and this might trigger renewed external / internal interest in the process later in the year
= After reaching the end of his term and deciding that he did not want to renew, POL’s Senior Independent Director Neil
McCausland has now left the business
— Aprocess to identify a replacement got underway earlier in the Summer and Tim Parker has been involved throughout. We
expect a replacement to be appointed in November
= Earlier in 2015 Alasdair Marnoch also informed POL that he would be stepping down from his role as NED and ARC Chair, to
allow him to focus on his role as CFO of CPA Global
— Arecruitment process for a new NED and ARC Chair is also underway. As with the process to recruit a Senior Independent
Director, Tim Parker is involved in this and we also expect an appointment to be made in November
™ ShEx has faced challenges in respect of both of these NED recruitment processes. While the principle that replacements are
required has not been questioned, broader internal interest and changes to the design of the process has caused difficulties
POL Senior Management
= POL has recently appointed a new Head of Government Services, who arrives late-Summer. ShEx will look to meet him once he
has settled into the business to understand his background and strategy for growing POL’s Government Services franchise
— After a period of softening focus this new appointment marks a renewed interest for POL to work with Government. It is
currently unclear what it might mean on the ground, nor where there might be opportunities to unlock revenues
= ShEx’s concerns regarding the imminent departure of POL’s Head of Corporate Finance remain, and in the coming months we
will continue to challenge the business to make sure corporate memory in key areas is protected
10
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OFFICIAL — POLICY & COMMERCIAL
@ Objectives for the Next Period
= Support POL, including with Ministers and other stakeholders, in making progress towards completing Network
Pi Network
eS Transformation, in particular in respect of the Transitional Locals process and the branches that have so far not engaged with
Transformation
the strategy
Network Consultation and = Complete the YouGov / London Economics work on the social value of the post office network, and take forward the Network
Policy Development Consultation to help establish a solid evidence base for a refreshed network policy. Start developing this with Ministers
= Work alongside POL to encourage progress in respect of its ongoing Supply Chain review and work to strengthen / realign the
Commercial
Bol and RM relationships. Engage with POL’s new Head of Government Services when he arrives
" = Work with POL and Ministers to make sure the process continues to be handled appropriately (e.g. MP and stakeholder
Sparrow interest, Criminal Cases Review Commission interest, etc.). Also continue to make sure communications risks are handled
appropriately
= Finalise recruitment of a new SID and NED / ARC Chair, making sure that the POL Board remains fully and appropriately
resourced
Board
= Agree anew Chairman’s letter with Tim Parker, and also engage with him once he has settled into his role regarding his early
views on POL, its Board and governance, etc.
Note: For more information on the above please see Section 1 and Section 2 of this Quarterly Review
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Executive
HM Government
11
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OFFICIAL — POLICY & COMMERCIAL
@ Traffic Light Analysis
pL onise [06/34] oxas Josras I cor I comments
© POL's new Chair has made a good first impression in the business and albeit early he seems to be
Shareholder (») @ @) O @ responsive to shareholder concerns. There is also a strong relationship with the CEO who appears
Relationship committed to meeting HMG's objectives. POL’s NEDs are challenging management, and this is
expected to be maintained going forward.
Implementation * Generally strong and improving application of a shareholder model, with appropriate monitoring
of Shareholder O @ O O e structures in place. However there is no Chairman's letter in place (due to the timing of his recent
Model arrival) or clear Government policy (which we plan to work with Ministers to develop in early 2016).
* ShEx has questions in respect of POL's management team and whether they are right / capable of
Quality of delivering the strategic plan. The Board are dealing with this, although they have prioritised some
Management O oO O O e recruitment activities over others. Recent arrivals seem to be settling in well, although they have yet
Team & Board to be tested fully (e.g. we are reserving judgement until they start delivering). There are also two
vacant positions on the POL Board, although we expect these to be filled in the coming weeks.
POL's approach to its strategy is aligned to HMG's known objectives although given recent trading /
Strategy O @ @ O O market developments, and the refreshed strategy is certainly more credible than the one done in
2013.
* As expected 2015/16 has been a challenging year so far although POL has still made considerable
Financial O oO e@ oO r ) progress on prior year.POL's financial performance is monitored closely by ShEx on a monthly basis,
Performance however we do have questions in relation to how performance is reported and, linked to this, the
transparency of underlying trading (although this appears to be improving under the new CFO).
* POL has a business plan in place, and it is funded to deliver this strategy (and POL is clearly aware
Balance Sheet & O @ @ O O that additional funding is not possible). However POL is only a going concern due to HMG subsidy,
Risk and it makes losses which means it is unable to pay dividends (both today, and likely in the medium
term).
@ Shareholder
Executive
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OFFICIAL — POLICY & COMMERCIAL
@ ShEx Team’s Priorities for 2015/16
ity Commentary
Network Transformation
= Continue to monitor and help POL manage local / stakeholder concerns. This includes ensuring that credible targets are set (and
met), that implementation is done properly and that POL progresses the “Transitional Leavers” cohort and work on the “Cliff”
Crown Transformation
Transformation = Continue to monitor the programme, with a close focus on areas of high risk (e.g. voluntary redundancy, franchising, relationships with
CWU and Unite), and also on assessing benefits accruing — in the form of reduced losses — from the actions being taken
Business Transformation
= Work closely with POL to ensure appropriate plans are developed, that these have necessary support, and that execution can start.
Also make sure that robust monitoring / evaluation regimes are developed and in place
Strategic Planning
* Make sure POL finalises a refreshed commercial strategy that includes a credible budget for 2015/16, a long term plan for 2016/17 and
2017/18 and a clear vision on Royal Mail / Bol contracts. It will be important to ensure that this is monitorable
Network Strategy
= Make sure POL develops a new Network strategy to support its Business Transformation and Strategic Planning work, in respect of: (i)
network growth; (ii) new technology; (iii) the future of the Crowns; and (iv) key clients relationships
Commercial Strategy
Pre-Election Update on Progress
« Make sure Ministerial expectations are managed in the run-up to the election — including encouraging POL to make further progress
(e.g. developing a mutual culture, embedding POL’s purpose) and that a clear narrative is crafted to express progress made in this
Parliament
Mutualisation
= Project Sparrow: Following developments in December continue to work with POL to make progress in relation to Project Sparrow,
including managing comms / reputational risk and Ministerial interest and concerns
= Stakeholder Relations: Support POL in taking forward work with the NFSP and CWU / Unite to set out a foundation for a long term
Boley and Stabstolcey future with all 3 organisations (e.g. future funding and role of the NFSP, ways-of-working and structure of representation with CWU /
Issues i
Unite)
= Other Ad-Hoc Activities: Work with POL to anticipate, manage and address any other ad-hoc issues as an when they arise (e.g. like
with VOA, POCA, NS&I and other Government Services activities in 2013/14)
ey JSTTdT ST TOTee4
Executive
13
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