Financial Review 2004

Year ended 30 September 2004

“Dividend increased by 4.8%”

Performance Analysis
Profit and Loss account
Group turnover increased by 0.4% during the year to £31.81 million (2003: £31.68 million). In constant currency, sales at our USA subsidiary, Treatt USA, increased in US Dollars by 41.5%, whilst R. C. Treatt’s sales fell by 5.7%. Earnings before interest, tax, depreciation and amortisation for the year grew by 17.2% to £3.31 million (2003: £2.83 million) and Group profit before tax, before exceptional items, rose by 10.5% to £2.31 million (2003: £2.09 million).

The total dividend for the year has been increased by 4.8% to 8.8p per share, resulting in a dividend cover of 1.9 times earnings.

The increase in profitability was led by the performance at Treatt USA, which would have improved Group results even further had the US Dollar not weakened by almost 10%. The growth in profit at Treatt USA was broadly based, with sales increasing across the product range, especially in TreattaromeTM products which benefited from the popularity of low carbohydrate foods. R. C. Treatt’s profits fell during the year largely due to a weak December/January period coinciding with the implementation of the ERP system and the impact of falling orange prices.

Gross margins of 26.6% were achieved this year (2003: 27.3%) despite the impact of falling orange oil prices, which reduced Group profits by more than £500,000. The further weakening of the US Dollar has also adversely affected Group margins although hedging strategies are in place as explained below. Overall, margins in non-orange manufactured products strengthened whilst aroma chemical margins were maintained.

The Group’s operating costs fell by 5.1% to £6.0 million (2003: £6.4 million). At Treatt USA there was a reduction of £297,000 ($532,000) in operating costs due to the lack of certain expenses incurred last year following the relocation in Florida. Total staff numbers across the Group fell slightly as a result of the increased efficiencies at R. C. Treatt which flowed from the new ERP system. Included as part of the exceptional items for the Group was a profit of £131,000 on the sale of Treatt USA’s former premises at Haines City, Florida and a charge of £70,000 for reorganisation costs at R. C. Treatt following efficiency gains which flowed from the ERP system.

The Group’s net interest payable fell by 41% to £123,000 (2003: £208,000) following a significant reduction in the Group’s debt as all short term debt was eliminated during the year. This leaves the outstanding balance of £2.4 million in relation to the Industrial Development Loan which was used to finance the Lakeland facilities for Treatt USA.

Earnings per share before exceptional items increased by 9.6% to 16.0 pence per share (2003: 14.6 pence). The Earnings per share after exceptional items rose to 16.6 pence per share (2003: 13.6 pence). Both measures have been shown in order to provide a consistent measure of performance over time and excludes those shares which were acquired by the Treatt Employee Share Trust since they do not rank for dividend.

During the year the company reviewed its policy on providing employees with the opportunity to acquire shares in the Group and implemented a rolling programme of annual share saving schemes for staff in the UK and USA. This is the first time this opportunity has been provided to USA employees. As a result, options were granted over 65,000 shares during the year. Alongside these schemes, an Employee Benefit Trust (EBT) has been established to acquire shares on a periodic basis which may be used to satisfy these schemes. The Trust has made an initial purchase of 148,000 ordinary shares.

Cashflow
The Group has seen a decrease in its net borrowings during the year of £2.9 million to £1.6 million. Cash inflow from operating activities was £5.0 million, which represents an increase of £2.7 million over last year, largely due to the predicted reduction in stock balances which totalled £2.6 million. The reduction in the Group’s level of stock holding was primarily a result of orange oil prices falling by two thirds of their previous value.

Upon completion of the new ERP system Group capital expenditure fell, as expected, to £0.9 million (2003: £1.4 million).

As reported last year, Treatt USA signed a conditional agreement a year ago for the lease and subsequent sale of its former site at Haines City. As expected, the sale took place in September 2004 for £270,000 ($483,000), resulting in an exceptional gain of £131,000 ($234,000).

Balance Sheet
Over the year Group shareholders’ funds have grown to £17,325,000 (2003: £17,228,000), with net assets per share increasing to £1.68 (2003: £1.67), an increase of 23% over the last five years. Net current assets represent 61% of shareholders’ funds and the Group’s land and buildings are all held at historical cost. It should be noted, however, that net assets have been reduced by £278,000 as a result of the purchase of shares by the Treatt Employee Share Trust due to the accounting requirements of UITF Abstract 38. This impact will be reversed when these shares are used to satisfy employee share saving schemes.

Group Tax Charge
The Group’s current year tax charge of £680,000 represents an effective tax rate of 29% (2003: 29%). The overall tax charge of £669,000 is higher than the 2003 charge of £545,000 due principally to a far great proportion of the Group’s profit being subject to USA state and federal taxes at a combined marginal rate of approximately 34%. However, this has been offset by some of the foreign exchange losses which are included in the Statement of Recognised Gains and Losses.

Treasury Policies
The Group operates a conservative set of treasury policies to ensure no unnecessary risks are taken with the Group's assets.

No investments other than cash and other short-term deposits are currently permitted. Where appropriate these balances are held in foreign currencies, but only as part of the Group’s overall hedging activity as explained below.

The nature of Treatt’s activities is such that the Group could be affected by movements in certain exchange rates, principally between Sterling and the US Dollar. This risk manifests itself in a number of ways.

Firstly, the value of the foreign currency net assets of Treatt USA can fluctuate with Sterling. Currently these are not hedged, as the risks are not considered to justify the cost of putting the hedge in place.

Secondly, with R.C. Treatt exporting to over 80 countries, fluctuations in Sterling’s value can affect both the gross margin and operating costs. Sales are principally made in four currencies in addition to Sterling, with the US Dollar being by far the most significant. Even if a sale is made in Sterling, its price may be set by reference to its US Dollar denominated commodity price and therefore have an impact on the Sterling gross margin. Raw materials are also mainly purchased in US Dollars and therefore a US Dollar bank account is operated, through which Dollar denominated sales and purchases flow. If there is a mismatch in any one accounting period and the Sterling to US Dollar exchange rate changes, an exchange difference will arise. Hence it is Sterling’s relative strength against the US Dollar that is of prime importance.

As well as affecting the cash value of sales, US Dollar exchange movements can also have a significant effect on the replacement cost of stocks, which affects future profitability and competitiveness.

The Group therefore has a policy of maintaining the majority of cash balances, including the main Group overdraft facilities, in US Dollars as this is the most cost effective means of providing a natural hedge against movements in the US Dollar/Sterling exchange rate. Currency accounts are also run for the other main currencies to which R.C. Treatt is exposed. This policy will protect the Group against the worst of any short-term swings in currencies.

International Accounting Standards
All companies listed on the London Stock Exchange are required to implement International Accounting Standards (IAS) with effect from accounting periods beginning on or after 1 January 2005. Therefore the financial statements for the year ended 30 September 2006 will be the first time the Group’s results will be published using IAS. Work is currently on-going to assess the full impact of IAS on the Group’s balance sheet and profit and loss account, but at this stage the Board believe that the most significant effect will flow from IAS 19: Employee Benefits which will require the surplus or deficit in the defined benefit pension scheme operated by R. C. Treatt to be brought on to the balance sheet using similar calculations as prescribed by FRS17 (see note 21). The deficit of the scheme as at 30 September 2004 was £2.1 million (net of deferred tax).