Helping people make measurable progress in their lives through learning ANNUAL REPORT AND ACCOUNTS 2013 OUR TRANSFORMATION To find out more about how we are transforming our business go to page 09 EFFICACY To find out more about our focus on efficacy go to page 14 OUR PERFORMANCE For an in-depth analysis of our performance in 2013 go to page 19 Pearson is the world’s leading learning company, with 40,000 employees in more than 80 countries working to help people of all ages to make measurable progress in their lives through learning. We provide learning materials, technologies, assessments and services to teachers and students in order to help people everywhere aim higher and fulfil their true potential. We put the learner at the centre of everything we do. READ OUR REPORT ONLINE Learn more www.pearson.com/ar2013.html/ar2013.html To stay up to date wwithith PPearsonearson throughout the year,r, visit ouourr blog at blog.pearson.comn.com and follow us on Twitteritter – @pearsonplc 01 Heading one OVERVIEW Overview 02 Financial highlights A summary of who we are and what 04 Chairman’s introduction 1 we do, including performance highlights, 06 Our business models our business strategy and key areas of 09 Chief executive’s strategic overview investment and focus. 14 Pearson’s commitment to efficacy OUR PERFORMANCE OUR Our performance 19 Our performance An in-depth analysis of how we 20 Outlook 2014 2 performed in 2013, the outlook 23 Education: North America, International, Professional for 2014 and the principal risks and 32 Financial Times Group uncertainties affecting our businesses. 34 Penguin Random House 37 Other financial information Strategic reportStrategic 41 Principal risks and uncertainties RESPONSIBLE BUSINESS RESPONSIBLE Responsible business 47 Introduction 48 Transforming our company Directors’ reportDirectors’ Explains Pearson’s approach to – supporting our people through change 3 corporate responsibility, giving a 49 Partnering and investing to extend summary of our work in 2013 and access to learning our plans for 2014. 50 Our communities 51 Environment: climate change and avoiding deforestation 53 External benchmarks 53 Our values, principles and behaviour GOVERNANCE Governance 55 Board of directors Provides details of the board, its policies 57 Chairman’s letter 4 and procedures and the report on 58 Board governance directors’ remuneration. 78 Report on directors’ remuneration FINANCIAL STATEMENTS FINANCIAL Financial statements 115 Financial statements: contents Detailed financial statements for both 116 Independent auditors’ report 5 the Group and the parent company, 123 Group accounts including an analysis of the key measures 195 Parent company accounts used by the Group in its management 204 Principal subsidiaries of the business. 205 Five-year summary 207 Corporate and operating measures 210 Shareholder information 212 Principal offices 02 Pearson plc Annual report and accounts 2013 Financial highlights In financial terms, Pearson’s goal is to achieve 2013 SALES sustainable growth on three key financial goals – earnings, cash and return on invested capital, £5.2bn and reliable cash returns to our investors through healthy and growing dividends. In 2013 trading was tough in many of our biggest and most established markets. At the same time we are now in a more intensive phase of +2% investment, investing much more, both in building the technology and related infrastructure, and in the next generation of products and services. We also continue to finance the one-off costs of the biggest restructuring in Pearson’s recent history. Headline earnings and cash were again lower than the previous year and our return on invested capital fell to 5.4% from 9.1% in 2013. We are proposing a 7% dividend increase. 2013 2012 HEADLINE CER UNDERLYING 2013 ADJUSTED OPERATING PROFIT £m £m GROWTH GROWTH GROWTH Before net restructuring charges Business performance Sales 5,177 5,059 2% 2% 1% Adjusted operating profit before net £871m restructuring charges 871 932 (7)% (6)% (9)% Adjusted operating profit 736 932 (21)% (21)% (23)% Adjusted earnings per share 70.1p 82.6p (15)% -6% Operating cash flow 588 788 (25)% Free cash flow 269 657 (59)% Free cash flow per share 33.3p 81.7p (59)% Return on invested capital 5.4% 9.1% – Net debt 1,379 918 (50)% OUR FIVE-YEAR RECORD Average annual growth in Statutory results headline terms 2008–2013 Sales 5,069 4,959 2% Adjusted earnings per share Operating profit 458 487 (6)% Profit before tax 382 391 (2)% +4% Basic earnings per share 66.6p 38.7p 72% Operating cash flow Cash generated from operations 684 916 (25)% -6% Dividend per share 48.0p 45.0p 7% Note a) Growth rates are stated on a constant exchange rate (CER) basis unless otherwise stated. Dividend Where quoted underlying growth rates exclude both currency movements and portfolio changes. Unless otherwise stated, sales exclude Penguin while operating profits include both Penguin and our share of Penguin Random House (PRH). Continuing operations exclude both Penguin and +7% Mergermarket but include our share of PRH. b) The ‘business performance’ measures are non-GAAP measures and reconciliations to the equivalent statutory heading under IFRS are included in notes 2, 7 and 8 to the financial statements. Section 1 Overview 03 OVERVIEW 60% 54% 7% 8% 8% 12% 2013 by region 2013 by business North America £3,087m North America £2,779m Europe £1,062m International £1,539m Asia £638m Professional £410m RoW £390m FT Group £449m OUR PERFORMANCEOUR BUSINESS RESPONSIBLE 21% 30% 70% 57% 10% 8% 5% 8% 2013 by region* 2013 by business* North America £552m North America £455m Europe £118m International £209m 15% Asia £40m Professional £63m RoW £83m FT Group £66m 27% GOVERNANCE *Excludes Penguin/PRH (£78m) Sales £m Adjusted operating profit before net restructuring charges £m 6000 1000 Pearson 5000 800 Pearson 4000 FINANCIAL STATEMENTS FINANCIAL 600 3000 North America North America 400 2000 International Discontinued ex Mergermarket including PRH 200 1000 International Professional FT Group Professional FT Group 0 0809 10 1112 13 0 0809 10 1112 13 04 Pearson plc Annual report and accounts 2013 Chairman’s introduction Dear shareholders, Pearson has always invested time and energy in producing a clear and compelling annual report, but with the new edition of the UK Corporate Governance Code now in place, we have worked particularly hard to ensure that our annual report and accounts is fair, balanced and understandable. At this important time in the company’s history we have focused on providing the information necessary for shareholders to fully assess the company’s business Glen Moreno, Chairman of Pearson model, strategy, development, performance, position and future prospects. 2013 was an extremely significant year for Pearson While the business and the first full year under the leadership of John Fallon as chief executive. Our restructuring environment remains programme – designed to accelerate our shift towards fast-growing economies and digital and challenging, the board is services businesses – is on track and we began 2014 under a new, integrated operating model for a single confident that Pearson is and global education company. well placed with a clear plan As a company we also made a series of unique commitments designed to measure and increase the to deliver future growth company’s impact on learning outcomes around the world, including to commit to report audited learning and create value for our outcomes alongside our financial accounts, covering shareholders. our whole business by 2018. Strengthening the board and executive team John Fallon has strengthened his executive team by promoting our best internal talent and recruiting some exceptional global leaders in their specific fields. We have also focused on the development of the board, which I address in the Governance section of this report. With recent and planned appointments, I am confident that the board reflects the right blend of skills and experience to guide Pearson in the best interests of shareholders. Section 1 Overview 05 SHARE PRICE PERFORMANCE A challenging 2013 OVERVIEW One year % change As CFO Robin Freestone outlines in his report Pearson 12.9% (page 19), our 2013 financial performance was FTSE 100 14.4% challenging. Market conditions continued to be strong FTSE All-Share Media 35.4% in digital, services and emerging markets, but STOXX 600 Media 33.7% remained more difficult in some of our largest textbook publishing markets. Three year % change These challenges were reflected in our share price Pearson 33.0% performance, which underperformed our indices. FTSE 100 14.4% While the business environment remains challenging, OUR PERFORMANCEOUR BUSINESS RESPONSIBLE FTSE All-Share Media 56.1% the board is confident that Pearson is well placed with STOXX 600 Media 40.4% a clear plan to deliver future growth and create value for our shareholders. Longer term, our share price Five year % change and total shareholder return have reflected a 10 year Pearson 109.2% track record of strong business performance. We are FTSE 100 52.2% now focused on establishing a base for similar business FTSE All-Share Media 144.3% growth over the next decade. STOXX 600 Media 88.1% Continued transformation Source: Datastream to 31 December 2013 As I said in last year’s annual report, the basic direction of Pearson’s strategy has not changed but we are accelerating the pace to shift capital and talent more quickly towards our most significant growth opportunities. The restructuring of our global education business, continued investment in TOTAL SHAREHOLDER RETURN technology and focus on operational efficiency are well underway. One year % change I am confident that the global demand for affordable Pearson 16.8% FTSE 100 18.7% and effective learning will continue to grow. As the FTSE All-Share Media 39.6% world’s leading learning company we are in an GOVERNANCE STOXX 600 Media 37.9% increasingly strong position to take advantage of this demand and deliver products and services that Three year % change measurably improve learning outcomes for our customers and learners.