Annual Report and Accounts 06 Annual Review and Summary Financial Statement and Directors’ Report and Accounts 2006 WorldReginfo - 98675577-a5f8-41aa-ac01-37c1b8bcb2da About this combined Report The format of our reporting has been changed to accommodate the inclusion, for the first time, of an Operating and Financial Review (OFR). In preparing the OFR, we have sought to take into account, where considered appropriate, the best practice set out in the UK Accounting Standards Board’s ‘Reporting Statement: Operating and Financial Review’. We have responded to the spirit of the OFR by offering shareholders a balanced and comprehensive analysis of our current business and describing the significant industry trends that are likely to influence our future prospects. For the first time, we have published our Key Performance Indicators, some other important Business Measures and the Group’s Key Risk Factors. We have also attempted to avoid having too much information in one publication. Our corporate website bat.com has a wealth of material about the Group and, in May 2007, we plan to publish our latest Social Report, detailing progress during 2006 on a range of commitments and actions. We will carefully consider the structure and content of our future reporting in the light of developments in the field and the advice and comments we receive about this publication. The full content of this combined Report is under this flap. Leave it open as a reference to find your way to the different topics covered. Cautionary Statement: the Operating and Financial Review and certain other sections of this document contain forward looking statements which are subject to risk factors associated with, among other things, the economic and business circumstances occurring from time to time in the countries and markets in which the Group operates. It is believed that the expectations reflected in these statements are reasonable but they may be affected by a wide range of variables which could cause actual results to differ materially from those currently anticipated. WorldReginfo - 98675577-a5f8-41aa-ac01-37c1b8bcb2da Annual Report and Accounts 06 Annual Review Directors’ Report and Accounts OPERATING AND FINANCIAL REVIEW BRITISH AMERICAN TOBACCO GROUP Overview 49 Directors’ report 01 An introduction to British American Tobacco 53 Remuneration report 02 Chairman’s statement and financial highlights 67 Corporate governance statement 73 Report of the independent auditors Business and strategic review 74 Group income statement 04 Chief Executive’s industry overview 75 Group statement of changes in total equity 06 Our strategy 76 Group balance sheet (including Key Performance Indicators) 77 Group cash flow statement 10 Our strategy in action 78 Notes on the accounts (including Business Measures) 137 Five year summary Regional and financial review 139 Quarterly analyses of profit 20 Regional review 140 Principal subsidiary undertakings 26 Financial review 142 Principal associate undertakings 26 Profit from operations 26 Interest cover 26 Effective tax rate 27 Adjusted diluted earnings per share BRITISH AMERICAN TOBACCO p.l.c. 27 Dividends per share 143 Report of the independent auditors 28 Cash flow 144 Accounting policies 28 Treasury operations 145 Balance sheet 29 Changes in the Group 146 Notes on the accounts 29 Changes in accounting policies 30 Share buy-back programme ibc Contact information 30 Key Group risk factors SUMMARY CORPORATE GOVERNANCE AND SUMMARY FINANCIAL STATEMENT Summary corporate governance 33 Summary corporate governance 34 Board of Directors 35 Management Board 36 Summary remuneration report Summary financial statement 41 Independent auditors’ statement 42 Group income statement 43 Group balance sheet 44 Group statement of changes in total equity 45 Summary financial statement and notes Additional information 48 Shareholder information WorldReginfo - 98675577-a5f8-41aa-ac01-37c1b8bcb2da IN THIS COMBINED REPORT This year, for the first time, British American Tobacco has produced a combined report which amalgamates in one bound document, the Annual Review and Summary Financial Statement together with the Directors’ Report and Accounts. This combined report is bound together as the ‘Annual Report and Accounts 06’. Please read the explanatory notes below. Part 1 – Annual Review IN THE REVIEW The Annual Review and Summary Financial Statement of British American Tobacco p.l.c. for the year ended 31 December 2006 is intended for investors who do not require the full detail of the Directors’ Report and Accounts, which is produced as Part 2 of this combined report. The Annual Review comprises an Operating and Financial Review and a Summary Corporate Governance Statement, Summary Remuneration Report and Summary Financial Statement. The Operating and Financial Review has been prepared to a standard which fulfils the requirements for a business review in accordance with section 234ZZB of the Companies Act 1985, taking into account, where considered appropriate, the best practice set out in the UK Accounting Standards Board’s ‘Reporting Statement: Operating and Financial Review’. The Annual Review does not contain sufficient information to allow for a full understanding of the results of the Group and state of affairs of the Company or of the Group. For further information, reference should be made to the Directors’ Report and Accounts 2006 (see below) which incorporates the full accounts, the Report of the independent auditors on those accounts, the Directors’ Report and the Remuneration Report. The Annual Review is issued to all shareholders. Special feature As part of the OFR, we have produced a special feature on our Brazilian subsidiary, Souza Cruz, to highlight how our strategy is working in a key market. Part 2 – Directors’ Report and Accounts IN THE REPORT The Directors’ Report and Accounts of British American Tobacco p.l.c. for the year ended 31 December 2006 is produced as Part 2 of this combined report. By reference to the Annual Review in Part 1 above, it incorporates the Operating and Financial Review as part of the Directors’ Report on page 49. The Directors’ Report and Accounts is issued, as part of this combined report, to shareholders who elected to receive it together with the Annual Review. WorldReginfo - 98675577-a5f8-41aa-ac01-37c1b8bcb2da Annual Review 2006 British American Tobacco 01 Operating and financial review AN INTRODUCTION TO BRITISH AMERICAN TOBACCO British American Tobacco was ‘born’ international over 100 years ago. We now employ over 55,000 people and are the second largest stockmarket listed tobacco group in the world. OVERVIEW We are also well positioned in all regions of the world, operating in over 180 markets. This geographical balance provides stability, while our presence in markets where volumes and profits are expected to grow gives us confidence for the future. AN INTRODUCTION TO BRITISH AMERICAN TOBACCO We produce and market a wide and diverse range of brands Our vision is to achieve leadership of the global tobacco to suit consumers’ preferences, with a particular focus industry through strategies focused on delivering growth, on our four Global Drive Brands (GDBs) – Dunhill, Kent, improving productivity, demonstrating responsibility and Lucky Strike and Pall Mall. Offering consumers choice and developing a winning organisation. These linked strategies innovation in our brands sets us apart from our competitors are working well, as we continue to build a business that is and is contributing to the continuing growth of our GDBs. sustainable and creates long term value for our shareholders. WorldReginfo - 98675577-a5f8-41aa-ac01-37c1b8bcb2da 02 British American Tobacco Annual Review 2006 Operating and financial review CHAIRMAN’S STATEMENT AND FINANCIAL HIGHLIGHTS “These strong results based on excellent organic growth continue to provide a solid platform for a sustainable business. Our consistent and balanced approach to the four elements of our strategy for creating shareholder value is working well.” Jan du Plessis, Chairman British American Tobacco has had another good year, exceptional items are excluded, reflecting higher profits with 7 per cent growth in our underlying profit from from Reynolds American and ITC. The contribution from operations and a 10 per cent increase in adjusted diluted Reynolds American was £285 million, with the early OVERVIEW earnings per share. The improvement in profit was driven results from the acquisition of the Conwood smokeless by volume growth of 2 per cent and net revenue growth tobacco business being distinctly encouraging. of 5 per cent. The impact of exchange rates for the year The improvement in profit from both subsidiaries and as a whole was not material, although it was significantly associates, together with a lower effective tax rate and negative in the last six months, especially in the last the benefit of the share buy-back programme, more quarter, and has continued into the current year. than offset the impact of higher net finance costs and Our Global Drive Brands were exceptionally successful, minorities. As a result, adjusted diluted earnings per share growing by 17 per cent. They now represent over rose by 10 per cent to 98.12p, just ahead of our long 21 per cent of the Group’s volume from subsidiaries, term goal of achieving, on average, high single figure while international brands as a whole account for some growth in earnings. 40 per cent of the total. By the close of business on 1 March, we expect that Kent volume grew by 16 per cent to 45 billion, while some 35 million shares will have been bought back Dunhill improved by 6 per cent, with encouraging since 1 January 2006 at a cost of £500 million and at performances both in its new and its existing markets. an average price of £14.19 per share. Since 2003, when CHAIRMAN’S STATEMENT AND FINANCIAL HIGHLIGHTS Lucky Strike grew marginally and the star, once again, the buy-back programme started, around 246 million was Pall Mall, up 40 per cent. shares have been repurchased at a cost of £2,191 million, equivalent to an average price of £8.91 per share.