Chief executive's review The Pearson goals

Chief executive's review
The Pearson goals
Underlying sales growth
Trading margin
Adjusted earnings per share
Cash conversion
Free cash flow
Return on invested capital

The Pearson goals

For the past five years, Pearson's performance measures have been central to the way we manage our business. With our portfolio transformation now largely complete, we have refined our approach.

Our six measures provide clarity, internally and externally, about the most tangible and relevant measures of our financial performance. We use our operating goals - sales growth, margins and cash conversion - to set targets for our businesses and as the basis of incentive plans across Pearson. We use our financial benchmarks - free cash flow, EBITDA and adjusted earnings per share - to align management with the interests of our shareholders. These financial benchmarks, and increasingly our share price itself, form the basis of our senior management incentive plans.

While these performance measures have served us well, with our portfolio transformation largely complete we have taken the opportunity to refine our approach. We think it's important that we continue to look at a range of measures that give a balanced view of our business, rather than an excessive focus on any single one. We also believe that our current operating goals meet our objective of being simple, measurable, stretching and consistent, and that our financial benchmarks do align our actions with the interests of our owners.

However, we are making some modest adjustments to our goals as Pearson enters this new phase in its evolution. A key objective will be to deliver returns above our cost of capital. We are therefore introducing return on invested capital as one of our financial benchmarks in place of EBITDA. (EBITDA is largely covered by our targets on cash conversion and free cash flow. For the record, EBITDA was 615m in 2002, up from 588m in 2001.)

Our operating goals already largely focus on the levers we have to improve ROIC. We will continue to measure our performance against the goals which drive operating profit: sales growth (at constant exchange rates) and operating margins. We are also retaining our cash focus and continue to aim to convert at least 80% of our operating profits into cash in any one year. We are adding a through-the-year measure of capital efficiency - an annual improvement in the average ratio of working capital to sales. We introduced this measure in 2002 at Penguin and Pearson Education, where we currently tie up an average of some 1bn in stock, debtors and creditors. The FT Group is a net contributor of working capital.

Naturally, we alter the weighting of these metrics across our company depending on the nature of the business involved and its operating environment. It is also important to note that the goals set out here do not reflect the full range of measures, both financial and non-financial, that we use to drive performance in our operating companies.

Finally, although we have always striven to communicate our financial performance openly and clearly, the radical changes in our portfolio have not made it easy to compare our performance year-on-year. Many of these complexities - which were explained in the notes to our accounts - will naturally fall away as our portfolio becomes more settled. However, we will seek to provide additional reconciliation in our accounts wherever they aid a better understanding of our business.

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In 2002 we reduced the average working capital tied up in our book publishing businesses by 53m - even as we increased investment in new authors, titles and programmes - by being more efficient with our inventory.

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