Risk factors

continued

The Group, in common with other service providers that include third party services which the Group retails, relies on intellectual property and proprietary rights, including in respect of programming content, which may not be adequately protected under current laws or which may be subject to unauthorised use.

The Group’s services largely comprise content in which it owns, or has licensed, the intellectual property rights, delivered through a variety of media, including broadcast programming, interactive television services, and the internet. The Group relies on trademark, copyright and other intellectual property laws to establish and protect its rights over this content. However, the Group cannot be certain that its rights will not be challenged, invalidated or circumvented or that it will successfully renew its rights. Third parties may be able to copy, infringe or otherwise profit from the Group’s rights or content which it owns or licenses, without the Group’s, or the rights holder’s, authorisation. These unauthorised activities may be more easily facilitated by the internet. In addition, the lack of internet-specific legislation relating to trademark and copyright protection creates an additional challenge for the Group in protecting its rights relating to its online businesses and other digital technology rights.

The Group generates wholesale revenue from a limited number of customers.

The Group’s wholesale customers, to whom it offers certain of the Sky Channels and from whom it derives its wholesale revenue, have comprised principally ntl and Telewest which merged in 2006 and have been rebranded as Virgin Media. Since 28 February 2007, Virgin Media has not carried the Sky Basic Channels but continues to carry all of the Sky Premium Channels on its digital networks (and offers Sky Sports 1 and Sky Sports 2 to its remaining analogue cable subscribers). Economic or market factors, regulatory intervention, or a change in strategy relating to the distribution of the Group’s channels, may adversely influence the Group’s wholesale revenue and other revenue which the Group receives from Virgin Media in connection with supply of the Sky Premium Channels which may negatively affect the Group’s business.

The Group is subject to a number of medium and long-term obligations.

The Group is party to a number of medium and long-term agreements and other arrangements (including in respect of programming and transmission, for example, its transponder agreements) which impose financial and other obligations upon the Group. If the Group is unable to perform any of its obligations under these agreements and/or arrangements, it could have a material adverse effect on the Group’s business.

Government regulation

Regulatory Update

European Commission Investigation – Football Association Premier League

The European Commission’s investigation into the Football Association Premier League’s (‘‘FAPL’’) joint selling of exclusive broadcast rights to football matches concluded with the European Commission’s adoption, in March 2006, of a decision making commitments offered by the FAPL legally enforceable. These commitments (a non-confidential version of which has been made available to third parties) are to remain in force until June 2013 and thus applied to the FAPL’s auction of media rights for the 2007/08 to 2009/10 seasons and will apply to subsequent auctions of rights during this period. Among other things, the commitments provide for the FAPL to sell a number of packages of media rights, showcasing the League as a whole throughout each season. They provide for live TV rights to be sold in six balanced packages, with no one bidder being allowed to buy all six packages and packages being sold to the highest standalone bidder. The commitments also create more evenly balanced packages of rights and increase the availability of rights to broadcast via mobile phones.

The Group has been awarded four of the six packages of rights to show live coverage of FAPL football matches in the UK for the 2007/08 to 2009/10 seasons.

The decision is binding on the FAPL for the duration of the commitments, but does not bind national competition authorities or national courts. The Commission’s decision does not address competition issues which may arise from contracts for rights in relation to

Introduction

The following discussion and analysis is based on, and should be read in conjunction with, the “Condensed consolidated interim financial statements”. The interim financial statements have been prepared in accordance with IAS 34, as issued by the IASB and as adopted by the EU.

Overview and recent developments

During the half year ended 31 December 2007 (“the current period”), total revenue increased by 11% to £2,458 million, compared to the half year ended 31 December 2006 (“the prior period”). Operating profit for the current period was £295 million, resulting in an operating profit margin of 12%, compared to 18% in the prior period. Loss for the current period was £112 million, generating a basic loss per share of 6.4 pence, compared to earnings per share of 14.0 pence in the prior period.

At 31 December 2007, the total number of DTH subscribers in the UK and Ireland was 8,832,000, representing a net increase of 250,000 subscribers in the current period. At 31 December 2007, the total number of Sky+ subscribers was 3,131,000, representing 35% of total DTH subscribers. This represents growth in Sky+ subscribers of 32% in the current period. The number of Multiroom subscribers also continued to grow strongly, increasing by 188,000 in the current period to 1,531,000, representing 17% penetration of total DTH subscribers. The Group launched HD on 22 May 2006, and in the current period the total number of Sky HD subscribers grew by 130,000 to 422,000, representing 5% of total DTH subscribers.

DTH churn (annualised) for the current period was 10.6% (2007: half year: 11.8%). We define DTH churn as the number of DTH subscribers over a given period that terminate their subscription in its entirety, net of former subscribers who reinstate their subscription in that period (where such reinstatement is within a twelve month period of the termination of their original subscription). The decrease on the prior period reflected the benefit of additional product penetration and the decision made during the prior year not to renew viewing package discounts and improved price transparency.

Cable subscribers to the Group’s channels decreased to 1,308,000 compared to 4,002,000 in the prior period. This reflects both a further reduction in the number of cable television subscribers to Sky’s Premium Channels and the effect of Virgin Media, the cable retailer, ceasing to carry Sky’s basic channels on its platform, following the expiry of an agreement at the end of February 2007.

On 17 July 2006, the Group launched a broadband service for its DTH subscribers. Sky Broadband continues to grow strongly, increasing by 483,000 customers in the current period to 1,199,000. By the end of the current period, we had unbundled 1,169 telephone exchanges (representing 71% network coverage). The number of Sky Talk customers reached 915,000, representing an increase of 389,000 customers in the current period.

On 17 November 2006, we acquired 696 million shares in ITV, representing 17.9% of the issued share capital of ITV, at a price of 135 pence per share. The total consideration paid amounted to £946 million. At 31 December 2007, the Group recorded an impairment loss of £343 million in the carrying value of its available-for-sale investment in ITV. The fair value of the investment in ITV was determined with reference to its equity share price at the balance sheet date. In accordance with International Accounting Standard 39 “Financial Instruments: Recognition and measurement” (“IAS 39”) the effect of any further decline in the value of the equity share price of ITV will be recognised in the Group’s income statement. This investment has been the subject of a review by the CC and the SoS (see “Government regulation – Regulatory Update” for further details) and the Group is currently considering its right to appeal the decisions of the SoS and/or the CC.

On 5 September 2007, we announced that all the conditions of our offer for the entire issued share capital of Amstrad had been satisfied or waived, and accordingly the offer was declared unconditional in all respects. The total consideration paid amounted to approximately £127 million resulting in provisional goodwill of £97 million, and was principally funded from a loan note alternative and our existing cash balances. The acquisition of Amstrad is intended to provide the Group with an in-house product design and development capability, an ability to accelerate the development of new and more innovative products for customers, greater control over product design and technical specification and a reduction in supply chain procurement costs.

Introduction

continued

from third party licensors; (iv) the production and commissioning of original programming; and (v) the rights to retail the Sky Distributed Channels.

Under our pay television agreements with the US major movie studios, we generally pay a US dollar-denominated licence fee per movie calculated on a per movie subscriber basis, subject to minimum guarantees, which were exceeded some time ago. During the period, we managed our US dollar/pound sterling exchange risk primarily by the purchase of forward foreign exchange contracts and currency options (collars) for up to five years ahead (see “Quantitative and qualitative disclosures about market risk – Foreign exchange risk”). The Group offered multiplexed versions of our movie channels on the DTH platform and on digital cable which incurred no additional variable rights fees.

Under the DTH distribution agreements for the Sky Distributed Channels, we generally pay a monthly fee per subscriber for each channel, the fee in some cases being subject to periodic increases, or we pay a fixed fee or no such fee at all. A number of our distribution agreements are subject to minimum guarantees, which are linked to the proportion of the total number of subscribers receiving specific packages. Our costs for carriage of the Sky Distributed Channels will (where a monthly per subscriber fee is payable) continue to be dependent on changes in the subscriber base, contractual rates and/or the number of channels distributed.

Transmission and related functions costs are primarily dependent upon the number and annual cost of the satellite transponders that we use. Our transponder capacity is primarily acquired from the SES Astra and Eutelsat Eurobird satellites. Transmission and related functions costs also include the costs associated with transmission, uplink and telemetry facilities and the costs of operating the Group’s broadband network and Sky Talk product.

Marketing costs include: (i) above-the-line spend (which promotes our brand and range of products and services generally); (ii) below-the-line spend (which relates to the growth and maintenance of the subscriber base, including commissions payable to retailers and other agents for the sale of subscriptions and the costs of our own direct marketing to our existing and potential subscribers); and (iii) the cost of providing and installing digital satellite reception equipment to customers in excess of the relevant amount actually received from customers for such equipment and installation.

Subscriber management costs include customer management costs, supply chain costs and associated depreciation. Customer management costs are those associated with managing new and existing subscribers, including subscriber handling and subscriber bad debt costs. Supply chain costs relate to systems and infrastructure and the installation costs of satellite reception equipment and installation costs of new products purchased by subscribers such as HD, Sky+ and Multiroom set-top boxes, including smartcard costs. Customer management costs and supply chain costs are largely dependent on DTH subscriber levels and additions to subscribers in the period.

Administration costs include depreciation, channel management, facilities, other central operational overheads and the expense recognised for awards granted under our employee share option schemes.

For certain trend information related to our revenue and operating expense, see the “Trends and other information” section below.

Operating expense

The Group’s operating expenses can be analysed as follows:

Within programming expense, Sky Sports channels’ programming costs increased by 12% to £466 million in the current period. This increase was principally a result of the new FAPL agreement for the 2007/8 to 2009/10 seasons. The annual cost of the FAPL rights is fixed over the three year period of the contract. Sky Movies channels’ programming costs of £143 million were in line with the prior period. News and entertainment programming costs increased by 2% to £101 million in the current period, primarily due to continued investment in programming for Sky One.

Included within programming expense for the current period are third party channel costs, which include our costs in relation to the distribution agreements for the Sky Distributed Channels. Third party channel costs increased by £57 million to £148 million in the current period. This increase was a result of a non-recurring £65 million receipt in the prior period, arising from certain contractual rights under one of the Group’s channel distribution agreements, and additional current period costs including an increase in payments made to Setanta Sports Sarl to include their Premier League games in commercial subscriptions and a 5% increase in the average number of DTH subscribers. The increase in current period costs was more than offset by savings generated from the renewal of some of our channel distribution contracts on improved terms.

Transmission and related function costs increased by £73 million in the current period, of which £69 million related to incremental retail broadband network costs.

Marketing costs increased by £30 million in the current period. This increase was driven by new acquisitions and an increased number of upgrading customers taking premium products, higher above the line spend, and the costs of the Sky magazine re-launch, partly offset by supply chain savings following the acquisition of Amstrad and reduced broadband marketing costs reflecting higher launch costs in the prior period.

Subscriber management costs increased by £66 million in the current period due to higher volumes of new and upgrading customers choosing premium priced hardware, including Sky+ and HD PVRs, increased retail broadband and Sky Talk costs and first time costs from Amstrad (acquired in September 2007).

Administration costs increased by £59 million in the current period due to the impact of new business streams in 365 Media and Amstrad, increased legal costs as a result of ongoing regulatory reviews, and increased depreciation following further investment in infrastructure across the business.

Included within administration expense for the period ended 31 December 2007 is £12 million (2007: half year: £6 million) of expense relating to legal costs incurred on the Group’s ongoing claim against EDS (an information and technology solutions provider), which provided services to the Group as part of the Group’s investment in customer management systems software and infrastructure.

Operating profit and operating margin

Operating profit decreased by 25% to £295 million in the current period. This decrease was driven by the increase in operating expense described above, partly offset by the increase in retail subscriptions. As a result, operating margin (calculated as total revenue less all operating expense as a percentage of total revenue) for the current period was 12%, compared to 18% in the prior period.

Financial and operating review

continued

the effect of our share buy-back programmes. During the prior period, 38 million shares were repurchased for cancellation.

Balance sheet

Goodwill increased by £104 million from £741 million at 30 June 2007 to £845 million at 31 December 2007, primarily due to the completion of the Amstrad acquisition during the period.

Property, plant and equipment and intangible assets increased by £34 million from £931 million at 30 June 2007 to £965 million at 31 December 2007, due to £154 million of additions in the period, partly offset by depreciation and amortisation of £120 million.

Available-for-sale investments decreased by £186 million from £797 million at 30 June 2007 to £611 million at 31 December 2007 primarily due to the effect of the decrease in the equity share price of ITV. The cumulative unrealised losses recorded in the current and prior periods by the Group in the available-for-sale reserve were transferred to the Group’s income statement.

Investments in joint ventures and associates increased by £72 million from £34 million at 30 June 2007 to £106 million at 31 December 2007, primarily due to the sale of the Group’s 100% stake in BSkyB Nature Limited. As consideration for the disposal, the Group received 21% interests in both NGC Network International LLC and NGC Network Latin America LLC.

Current assets increased by £266 million from £1,363 million at 30 June 2007 to £1,629 million at 31 December 2007, predominantly due to a £280 million increase in inventories. Inventories increased primarily as a result of the timing of invoicing for the FAPL agreement.

Current liabilities increased by £395 million from £1,499 million at 30 June 2007 to £1,894 million at 31 December 2007, predominantly due to a £332 million increase in trade and other payables and an £82 million increase in current borrowings. Trade and other payables increased as a result of the timing of invoicing and payments for the FAPL agreement. Current borrowings mainly increased following the £55 million draw-down on the RCF and the issuance of £37 million of Loan Notes in relation to the purchase of Amstrad, offset by the repayment of £9 million of Loan Notes in relation to the purchase of 365 Media.

Foreign exchange

For details of the impact of foreign currency fluctuations on our financial position and performance, see “Quantitative and qualitative disclosures about market risk – Foreign exchange risk”.

Contingent assets and liabilities

The Group has served a claim for a material amount against EDS (an information and technology solutions provider), which provided services to the Group as part of the Group’s investment in customer management systems software and infrastructure. The amount which may be recovered by the Group will not be finally determined until resolution of the claim.

In April 2007, Virgin Media Communications Limited, Virgin Media Television Limited and Virgin Media Limited issued proceedings in the High Court in England and Wales against British Sky Broadcasting Group plc and British Sky Broadcasting Limited, alleging that the Group has infringed Article 82 EC and the Chapter II prohibition by pursuing an anticompetitive strategy designed to weaken Virgin Media group, which allegedly entailed: (i) a constructive refusal to supply the Group’s basic pay television channels to Virgin Media group for supply via Virgin Media group’s cable network in the UK; (ii) a refusal to pay fair prices for the right to carry Virgin Media group’s television channels as part of the Group’s retail channel offering; and (iii) the Group’s purchase of a significant shareholding in ITV (which purchase was, it is alleged, designed principally to damage Virgin Media group’s ability to compete in the supply of pay television services, by preventing Virgin Media group from obtaining access to attractive programming content). Virgin Media group seeks from the Court a declaration that the Group occupies a dominant market position in specified pay TV retail and purchasing markets in the UK and that the Group has, by its conduct as alleged, abused its dominant position(s)

Guaranteed Notes

At 31 December 2007, the Group had in issue the following publicly-traded Guaranteed Notes:

US$600 million of 6.875% Guaranteed Notes, repayable in February 2009. At the time of issuing these notes, the US dollar proceeds were swapped into pounds sterling (£367 million) at an average fixed rate of 8.200%, payable semi-annually. In July 2003, the Group entered into an interest rate hedging arrangement in respect of £61 million of this swapped debt. The effect of this new hedging arrangement was that, from July 2003 until February 2009, the Group pays floating six months London Inter-Bank Offer Rate (“LIBOR”) plus a margin of 3.490% on £61 million of its swapped debt. However, at each six monthly reset date, the counterparty to this transaction has the right to cancel the transaction with immediate effect. In October 2003, the Group entered into a further hedging arrangement in respect of an additional £61 million of this swapped debt, the effect of which was to reduce the rate payable to 7.950% for the period August 2003 to February 2004. Thereafter, until August 2006, the rate payable is 7.950% plus any margin by which the floating six monthly LIBOR reset rate exceeds the sum of the previous reset rate plus 0.500%. Thereafter, the rate reverts to a fixed 8.180%.In February 2005, the 7.950% interest rate on this swap was renegotiated to 8.020% with all other aspects of the swap remaining unchanged.

£100 million of 7.750% Guaranteed Notes, repayable in July 2009. The fixed coupon is payable annually.

US$650 million of 8.200% Guaranteed Notes, repayable in July 2009. At the time of issuing these notes, the US dollar proceeds were swapped into pounds sterling (£413 million) at an average fixed rate of 7.653% payable semi-annually. In December 2002 the Group entered into further swap arrangements relating to £63.5 million of this debt. These arrangements were subsequently amended in March 2003 and July 2004, the effect of which was to fix the interest rate on £63.5 million at 5.990% until January 2004, after which time it reverted to a floating six months LIBOR plus a margin of 2.460%, except that should LIBOR be less than 2.750% for the period January to July 2004, 2.890% for the period July 2004 to January 2005, or 2.990% thereafter, the effective rate shall be deemed to be 7.653%. After July 2004, the margin over LIBOR increased from 2.460% to 2.840%. In order to incre ase its exposure to floating rates, in July 2003, the Group entered into another interest rate hedging arrangement in respect of a further £63.5 million of the above-mentioned debt. The effect of this arrangement was that, from July 2003 until July 2009, the Group will pay floating six months LIBOR plus a margin of 2.818% on this £63.5 million, except that should LIBOR be less than 2.750% for the period January to July 2004, or less than 2.990% thereafter, the Group shall revert back to 7.653%. At 30 December 2007, none of the floor levels had been breached; therefore, the Group continues to pay the relevant floating rates.

US$750 million of 5.625% Guaranteed Notes, repayable in October 2015, which were issued in October 2005. At the time of issuing these notes, the Group entered into swap transactions to convert the dollar proceeds to pounds sterling (£428 million), which carry interest at an average fixed rate of 5.401% until maturity, payable semi-annually. The Group entered into further interest rate hedging arrangements in respect of £257 million of this swapped debt. The effect of these arrangements was that, from October 2005 until October 2015, the Group will pay an average floating rate of six months LIBOR plus a margin of 0.698% on £257 million of its swapped debt.

£400 million of 5.750% Guaranteed Notes, repayable in October 2017, which were issued in October 2005. The fixed coupon is payable annually. On 14 June 2006, the Group entered into an interest rate hedging arrangement in respect of £20 million of this debt. The effect of this hedging arrangement is that, from October 2006 until October 2009, the Group will pay floating six months LIBOR plus a margin of 0.325% on £20 million of its debt. On the same date, the Group entered into a further interest rate hedging arrangement in respect of £10 million of this debt, to take effect from October 2009 and mature in October 2017. Under the terms of this swap the Group will pay floating six months LIBOR plus a margin of 0.325%. However, at each annual reset date from October 2009 to October 2017, the counterparty to this transaction has the right to cancel the transaction with immediate effect. On 21 June 2007, the Group entered into interest rate hedging arrangements in respect of a further £50 million of debt whereby, from June 2007, the Group will pay floating six months LIBOR minus 0.229%.

Financial and operating review

continued

During the current period, payments for property, plant and equipment and intangible assets were £153 million, compared with £158 million in the prior period, following further progress on a number of capital expenditure and infrastructure projects. A total of £55 million has been invested in the broadband infrastructure, and £14 million was invested to progress the Group’s property and infrastructure projects. We also made payments in the period totalling £8 million to a third party for development of encryption technology, which has been capitalised as an intangible asset. The remaining £76 million was spent on a number of projects including information systems infrastructure, broadcast equipment and the development of new products and services.

Payments for the purchase of subsidiaries amounting to £71 million in the current period were primarily due to the acquisition of Amstrad (for further details of the acquisition in the current period see note 10d of the “Condensed consolidated interim financial statements”). During the prior period, payments for the purchase of subsidiaries amounting to £19 million comprised the acquisitions of You Me TV Limited, News Optimus Limited and Aura Sports Limited.

In the prior period purchases of available-for-sale investments of £975 million comprised the acquisition of shares in ITV on 17 November 2006 for total consideration of £946 million and the acquisition of shares in 365 Media for cash consideration of £29 million, following the announcement of our recommended cash offer.

During the current period the Group received proceeds of £54 million from the draw-down of the RCF, compared to £550 million in the prior period.

On 4 November 2005, the Company’s shareholders approved a resolution at the Annual General Meeting for the Company to purchase up to 92 million Ordinary Shares of the Company. During the prior period, the Company purchased, and subsequently cancelled, 38 million Ordinary Shares at an average price of 555 pence per share, for a consideration of £214 million. This represents 2% of called-up share capital at the beginning of the comparative half year period. The buy-back authority was not renewed at the Company’s Annual General Meeting held on 3 November 2006.

During the current period, interest payments were £86 million, compared to £92 million in the prior period. This decrease in payments reflects timing differences on interest payments for Guaranteed Notes.

During the current period, we made equity dividend payments of £156 million, compared to £117 million in the prior period. We expect that future payments will increase in line with the Board’s expected dividend policy described in the “Trends and other information” section below.

The above cash flows, in addition to other net cash movements of £10 million and non-cash movements of £30 million, resulted in an increase in net debt of £135 million to £1,973 million.

Trends and other information

The significant trends which have a material effect on our financial performance are outlined below.

The number of DTH subscribers increased by 250,000 in the current period to 8,832,000, compared to growth of 265,000 in the prior period. We expect growth in subscriber numbers to continue as a result of the implementation of our current marketing strategy, with the aim of achieving our target of 10 million DTH subscribers in 2010. Sky+ and Multiroom subscribers both increased substantially in the current period – by 32% and 14% respectively – representing a penetration of total DTH subscribers of 35% and 17% respectively. We reached our target of 25% Sky+ penetration in the third quarter of fiscal 2007, three years earlier than we targeted. We expect Multiroom subscriber growth to continue, consistent with achieving our target of 30% Multiroom penetration of DTH subscribers in 2010. On 22 May 2006, we launched our HD service, and at 31 December 2007, there were 422,000 HD subscribers representing a 5% penetration of total DTH subscribers, an increase of 130,000 in the current period. As previously projected, annualised DTH churn has declined in the current period. Annualised DTH churn for the current period was 10.6%, compared to 11.8% in the prior period, reflecting increased product penetration, and the decision made during fiscal 2007 to reduce viewing package discounts and improve price transparency. Over the medium term we expect our DTH churn to remain broadly in line with the current period. We launched our retail broadband service on 18 July 2006, and at 31 December 2007 there were 1,199,000 broadband customers. We expect continued growth in the number of retail broadband connections activated in future periods. The number of Sky Talk subscribers increased by 389,000 in the current period to 915,000. We expect growth in Sky Talk customers to continue. Price increases, the increased number of subscribers to our Multiroom, Sky+ and HD products and the launch of new services are expected to generate increased retail revenue on a per subscriber basis.

The operating margin for the current period was 12%, down from 18% in the prior period. This represents continued development and investment in our broadband services and sports rights. In the short term, we expect our operating margin to continue to be impacted by the ongoing investment in broadband services, the new FAPL contract and the non-carriage of our basic channels on cable.

During the current period, the number of cable homes receiving Sky Channels in the UK and Ireland increased by 49,000 to 1,308,000. Following the expiry of an agreement at the end of February 2007, Sky’s Basic Channels ceased to be carried on Virgin Media’s platform. We currently expect cable subscriber numbers to remain stable in the foreseeable future, although this is dependent on the strategies of the relevant cable companies, as they relate to the distribution of our channels (for further details see "Review of the business – Risk factors”).

Advertising revenue decreased by 2% in the current period. If Sky’s basic channels remain off Virgin Media’s platform, we expect that in the short term our share of UK television advertising revenue will decline. The UK television advertising sector is expected to remain challenging in future periods reflecting the continued wider economic uncertainty.

Sky Bet revenue increased by 20% in the current period. We expect Sky Bet revenue to continue to grow, driven by customer acquisitions to the Sky platform and acquired 365 Media content websites, an improved on-line gaming proposition, and continued strong growth of Sky Poker which launched in February 2007. As a result of the Gambling Act of 2005, regulation in the UK passed to the Gambling Commission from 1 September 2007. From this date, Sky Bet operated an on-shore sportsbook, regulated by the Gambling Commission, and operated gaming products off-shore, regulated by the Alderney Gambling Control Commission. Sky Bet continues to operate measures to prevent US residents using our services.

The Group’s programming costs were lower in the prior period due to a £65 million receipt arising in fiscal 2007 from certain contractual rights under one of the Group’s channel distribution agreements. In the current period programming costs have increased as a result of increased investment in sports rights and the non-recurring nature of the £65 million receipt. In the short term we expect that programming costs will increase due to the non-recurring nature of the £65 million receipt, the anticipated intensifying competition for programming, and as a result of our successful bids for three years of live Rugby League and Football League rights from 2009 and the new FAPL agreement for the 2007/8 to 2009/10 season. However, over the long term the Group

Financial and operating review

continued

Quantitative and qualitative disclosures about market risk

Group treasury activity

The Group’s treasury function is responsible for raising finance for the Group’s operations, together with associated liquidity management, and the management of foreign exchange, interest rate and credit risks. Treasury operations are conducted within a framework of policies and guidelines authorised and reviewed by both the Audit Committee and the Board, which receive regular updates of treasury activity. Derivative instruments are transacted for risk management purposes only. It is the Group’s policy that all hedging is to cover known risks and that no speculative trading in financial instruments is undertaken. Regular and frequent reporting to management is required for all transactions and exposures, and the internal control environment is subject to periodic review, both by the Group’s internal audit team and by its Treasury Committee.

The Group’s principal market risks are exposures to changes in interest rates and foreign exchange rates, which arise both from the Group’s sources of finance and from its operations. Following evaluation of those market risks, the Group selectively enters into derivative financial instruments to manage these exposures. The principal instruments currently used are interest rate swaps and options on interest rate swaps (“swaptions”) to hedge interest rate risks, and cross-currency swaps, forward exchange contracts, currency options (collars) and similar financial instruments to hedge transactional and translational currency exposures.

Interest rate risk

The Group has financial exposures to both UK and US interest rates, arising primarily from the Group’s long-term bonds and other borrowings. The Group’s hedging policy requires that between 50% and 75% of borrowings are held at fixed interest rates. This is achieved by issuing fixed rate bonds and then using interest rate swap and swaption agreements to adjust the balance between fixed and floating rate debt. The Group’s bank debt is at floating rates, and, when drawn, means that the mix of fixed and floating rate debt fluctuates and is therefore managed to ensure compliance with the Group’s hedging policy. At 31 December 2007, 74% of borrowings are held at fixed rates after hedging (30 June 2007: 74%). Certain of the swaption agreements can be cancelled prior to the maturity of the bonds to which they apply.

The Group’s US dollar-denominated debt has all been swapped to pounds sterling using a combination of cross-currency and interest rate swap arrangements to convert both the principal amounts of debt, together with interest rate obligations, from US dollars to pounds sterling, at fixed exchange rates. The counterparties have a minimum long-term rating of “A–” or equivalent from Moody’s and Standard & Poor’s. At 31 December 2007, the split of the Group’s aggregate borrowings into their core currencies was US dollar 55% and pounds sterling 45% (30 June 2007: US dollar 57% and pounds sterling 43%).

The Group has designated a number of cross-currency swap agreements as cash flow hedges for 81% (30 June 2007: 81%) of the Group’s exposure to US dollar interest rates, on elements of the Group’s US dollar denominated Guaranteed Notes. As such, the effective portion of the gain or loss on the swaps designated and qualifying as cash flow hedging instruments is reported as a component of the hedging reserve, outside of the income statement, and is then reclassified into the income statement in the same period that the forecast transactions affect the income statement (i.e. when the interest expense is incurred and/or gains or losses relating to the retranslation of US dollar denominated debt principal are recognised in the income statement). Any hedge ineffectiveness on the swaps is recognised directly in profit or loss. The ongoing effectiveness testing is performed using the cumulative dollar-offset approach. During the period ended 31 December 2007, there were no instances where the hedge relationship was not highly effective (31 December 2006: no instances).

The Group has designated a number of interest rate swap agreements as fair value hedges of interest rate risk on 14% (30 June 2007: 14%) of the Group’s debt portfolio. Movements in the fair value of the hedged items are taken to the income statement and are offset by movements in the fair value of the hedging instruments, which are also taken to the income statement. Any hedge ineffectiveness on the swaps is recognised directly in profit and loss. Ongoing effectiveness testing is performed using the cumulative dollar-offset approach. During the period ended 31 December 2007, there

ongoing effectiveness testing is performed using the dollar-offset approach. If forecast transactions are no longer expected to occur, any amounts included in the hedging reserve related to that forecast transaction would be recognised directly in the income statement. Certain forward exchange contracts and collars have not been designated as hedges and movements in their values continue to be recorded directly in the income statement.

The Group’s primary euro exposure arises as a result of revenue generated from subscribers in Ireland. Approximately 7% of revenue in the period (2007: half year: 6%) was denominated in euros. The Group’s exposure to euro-denominated revenue is offset to a certain extent by euro-denominated costs, relating mainly to certain transponder rentals, the net position being a euro surplus (30 June 2007: surplus).

During the period 31 million euros were exchanged for US dollars on currency spot markets (2007: half year: 31 million euros), 84 million US dollars were exchanged for pounds sterling on the currency spot markets (2007: half year: 113 million US dollars) and 21 million surplus euros were exchanged for pounds sterling (2007: half year: nil). At 31 December 2007, 46 million euros (£34 million) were retained by the Group (30 June 2007: 61 million euros (£41 million)).

It is the Group’s policy that all anticipated foreign currency exposures are substantially hedged in advance of the fiscal year in which the exposure occurs. The impact on the Group’s profit for the year of a 10% movement in pounds sterling against all currencies in which it has significant transactions is estimated to be a £12 million (2007: half year: £3 million) movement in the income statement, with a strengthening of pounds sterling resulting in a decrease in profits.

Credit risk

The Group is exposed to default risk amounting to invested cash and cash equivalents and short-term deposits, and the positive fair value of derivatives held. However, as financial transactions and instruments are only executed with counterparties that are all ‘A–’ long-term rating or better and the Group’s policy is to ensure that investments are spread across a number of counterparties, these risks are deemed to be low.

Liquidity risk

To ensure continuity of funding, the Group’s policy is to ensure that available funding matures over a period of years. At 31 December 2007, 43% (30 June 2007: 43%) of the Group’s total available funding (including undrawn amounts on our RCF) was due to mature in more than five years. The public bond debt issued in 1999 is repayable in fiscal years 2009 and 2010 and we currently believe that our existing cash resources, combined with RCF availability, will enable us to meet the repayment requirement.

At 31 December 2007, the Group’s RCF was drawn by £55 million (30 June 2007: undrawn). The Group’s undrawn committed bank facilities, subject to covenants, are as follows:

The Group’s RCF matures on 30 July 2010.

On 3 April 2007, the Group established the EMTN Programme. The Programme provides the Group with a standardised documentation platform to allow for senior debt issuance in the Eurobond markets. The maximum potential issuance under the Programme is £1 billion. On 14 May 2007, under the Programme the Group issued £300 million aggregate principal amount of Eurobonds paying 6.000% interest and maturing on 14 May 2027.