Life Healthcare Group

Fair value

Other non-current liabilities and other current liabilities as presented in the statement of financial position, include contingent consideration liabilities of R642 million (2019: R543 million) and derivative financial instrument liabilities of R53 million (2019:: R30 million) at fair value (through profit or loss).

The largest contingent consideration payable (R629 million) relates to a potential amount payable to the previous owners of Life Molecular Imaging (LMI), acquired during June 2018. The contingent consideration will become payable when the acquired business is generating a positive cash contribution, measured on a cumulative basis from the date of acquisition. The contingent consideration is a 50% share of pre-tax cash generated for a period of 10 years post-acquisition or a maximum amount payable of USD200 million. The amount included is the calculated payment, based on long-term forecasts adjusted for probabilities associated with the success of the product developed, discounted to present value using a discount rate of 13.25%.

The fair value of interest rate swaps is calculated as the mark-to-market valuation, which represents the mid-market value of the instrument as determined by the financial institution at 30 September 2020.

The fair values of quoted investments are based on current bid prices. If the market for a financial asset is not active and for unlisted securities, the Group establishes fair value by using valuation techniques. These include the use of recent arm's length transactions, reference to other instruments that are substantially the same, discounted cash flow analysis and option pricing models, making maximum use of market inputs and relying as little as possible on entity-specific inputs.

The Group's financial instruments held at fair value, are measured subsequent to their initial recognition and are grouped into levels 1 to 3 based on the extent to which the fair values are observable. All of the resulting fair value estimates for the derivative financial instruments used for hedging are included in level 2. The contingent considerations are included in level 3.

There were no transfers between levels 1, 2 and 3 during the year.

The Group adopted IFRS 16 from 1 October 2019, and changed its accounting policies accordingly. The Group has elected the modified retrospective approach, with no restatement to comparative years.

On adoption of IFRS 16, the Group recognised lease liabilities in relation to leases which had previously been classified as 'operating leases' under the principles of IAS 17 Leases. These liabilities were measured at the present value of the remaining lease payments, discounted using the lessee's incremental borrowing rate, as of 1 October 2019.

For leases previously classified as finance leases the Group recognised the carrying amount of the lease asset and lease liability immediately before transition as the carrying amount of the right-of-use asset and the lease liability at the date of initial application. The measurement principles of IFRS 16 are only applied after that date.

The associated right-of-use assets for all lease classes were recognised at an amount equal to the lease liabilities on 1 October 2019, adjusted by the amount of any prepaid or accrued lease payments relating to that lease recognised on the balance sheet as at 30 September 2019. There were no onerous lease contracts that would have required an adjustment to the right-of-use assets at the date of initial application.

The recognised right-of-use assets relate to the following types of assets:

The change in accounting policy affected the following items in the statement of financial position on 1 October 2019:

• Right-of-use assets included under property, plant and equipment – increased by R1.2 billion
• Prepayments included under other liabilities – decreased by R86 million
• Lease liabilities included as part of interest-bearing borrowings – increased by R1.3 billion

There was no impact on retained earnings on 1 October 2019.

Practical expedients applied

In applying IFRS 16 for the first time, the Group has used the following practical expedients permitted by the standard:

• The use of a single discount rate to a portfolio of leases with reasonably similar characteristics
• Reliance on previous assessments on whether leases are onerous
• The accounting for operating leases with a remaining lease term of less than 12 months as at 1 October 2019 as short-term leases
• The exclusion of initial direct costs for the measurement of the right-of-use asset at the date of initial application
• The use of hindsight in determining the lease term where the contract contains options to extend or terminate the lease

The Group elected not to reassess whether a contract is or contains a lease at the date of initial application. Instead, for contracts entered into before the transition date the Group relied on its initial assessment made by applying IAS 17 and IFRIC 4 Determining whether an Arrangement contains a Lease.

Leasing activities and how these are accounted for

The Group leases various properties, medical equipment (including scanning equipment, blood gas machines and renal dialysis units), motor vehicles, IT equipment and gym equipment. Rental contracts are typically entered into for fixed periods of between 1 to 25 years but may have extension options as described below. Lease terms are negotiated on an individual basis and contain a wide range of different terms and conditions. The lease agreements do not impose any covenants, but leased assets may not be used as security for bank borrowing purposes.

Until FY2019, leases of property, plant and equipment were classified as either finance or operating leases. Payments made under operating leases (net of any incentives received from the lessor) were charged to profit or loss on a straight-line basis over the period of the lease.

From 1 October 2019, leases are recognised as a right-of-use asset and a corresponding liability at the date at which the leased asset is available for use by the Group. Each lease payment is allocated between the liability and finance cost. The finance cost is charged to profit or loss over the lease period so as to produce a constant periodic rate of interest on the remaining balance of the liability for each period. The right-of-use asset is depreciated over the shorter of the asset's useful life and the lease term on a straight-line basis.

Assets and liabilities arising from a lease are initially measured at present value. Lease liabilities include the net present value of the following lease payments:

• Fixed payments (including in-substance fixed payments), less any lease incentives receivable
• Variable lease payments that are based on consumer price index, the Polish inflation rate or Warsaw Interbank Offer Rate
• Amounts expected to be payable by the lessee under residual value guarantees (only in our Polish operations)
• The exercise price of a purchase option if the lessee is reasonably certain to exercise that option
• Payments of penalties for terminating the lease, if the lease term reflects the lessee exercising that option

Payments associated with short-term leases and leases of low-value assets are recognised on a straight-line basis as an expense in profit or loss. Short-term leases are leases with a lease term of 12 months or less. Low-value assets (defined as assets with a value of less than R60 000 for our southern Africa business and
GBP5 000 for our international business) comprise IT equipment and contracts for general business services.

(i) Extension options

Extension options are included in a number of leases across the Group. These terms are used to maximise operational flexibility in terms of managing contracts.
The majority of extension options held are exercisable only by the Group and not by the respective lessor.

Critical judgements in determining the lease term

Consideration of whether extension options should be included in determining the lease term is a critical judgement. In determining the lease term, the Group considers all facts and circumstances that create an economic incentive to exercise an extension option. Extension options are only included in the lease term if the lease is reasonably certain to be extended. The Group has assessed that it is reasonably certain that all extension options on property leases for hospitals will be exercised and therefore has included all renewal periods as part of the lease term as hospital buildings are integral to the Group's operations and cost of relocation would be significant. Due to the medical equipment being highly technical in nature, and the possibility that new technology may be developed, extension options have not been taken into account for medical equipment.

(ii) Discount rate applied to leases

The lease payments are discounted using the incremental borrowing rate, which is the rate that the relevant business unit (lessee) would have to pay to borrow the funds necessary to obtain an asset of similar value in a similar economic environment with similar terms and conditions.

Critical estimates in calculating discount rates

The incremental borrowing rate was calculated using an adjusted Group weighted average cost of capital (WACC) approach by extracting the pre-tax cost of debt element from the WACC rate, which was adjusted for the following:

• Local borrowing rates
• The unsecured/secured nature
• Lessee-specific credit risk
• Lease start date and term

The weighted average incremental borrowing rate applied to the lease liabilities on 1 October 2019 was 9.33% for the Group's leases in southern Africa and 3.35% for the Group's international operations.

Should the discount rate applied at the date of transition change by 0.5%, the impact would be as follows:

• Increase by 0.5%: Right-of-use asset and lease liability decrease by R33 million
• Decrease by 0.5%: Right-of-use asset and lease liability increase by R34 million

Impact on statement of profit or loss

No impact on FY2019.

Impact on earnings per share (EPS)

EPS decreased by 1.2 cps for the year ended 30 September 2020 as a result of the adoption of IFRS 16.

The Group has in November 2020 received an offer to dispose of its Polish operation, Scanmed. The offer is lower than the carrying value of Scanmed. With the receipt of the offer, it is considered prudent and appropriate to impair the carrying value at 30 September 2020 to reflect the value of the offer. The impairment for the year ended 30 September 2020, relating to Scanmed, is R793 million.

The disposal of Scanmed is in line with the Group strategy that has previously been communicated. The Group is in negotiations regarding the offer and is expecting to finalise the disposal of Scanmed after successful conclusion of the related agreements. The disposal will be subject, inter alia, to regulatory approvals in Poland.

Basis of presentation and accounting policies

The preliminary condensed consolidated financial statements are prepared in accordance with the requirements of the JSE Limited (JSE) Listings Requirements for preliminary reports, and the requirements of the South African Companies Act, 71 of 2008 (as amended) applicable to condensed financial statements. The JSE Listings Requirements require preliminary reports to be prepared in accordance with the framework concepts and the measurement and recognition requirements of International Financial Reporting Standards (IFRS) and the South African Institute of Chartered Accountants (SAICA) Financial Reporting Guides as issued by the Accounting Practices Committee and Financial Pronouncements as issued by the Financial Reporting Standards Council and to also, as a minimum, contain the information required by IAS 34 Interim Financial Reporting.

The accounting policies applied in the preparation of the preliminary condensed consolidated financial statements are in terms of IFRS and are consistent with those applied in the prior year consolidated annual financial statements, except for the adoption of the new standard IFRS 16 Leases.

These financial results have been prepared under the supervision of PP van der Westhuizen (CA(SA)), the Group Chief Financial Officer.

Pro forma information

To provide a more meaningful assessment of the Group's performance for the year, pro forma information and non-IFRS measures (normalised EBITDA, EBITA and net debt) have been included. Pro forma information includes H2 FY2020 results, IFRS 16 Leases financial information that represents the impact on FY2020 as if IFRS 16 had not been applied as well as the estimated impact of the COVID-19 pandemic on the Group results for the year under review. The pro forma financial information and non-IFRS measures are the responsibility of the Group's directors. Pro forma financial information is presented for illustrative purposes only. Because of its nature, the pro forma financial information and non-IFRS measures may not fairly present the Group's financial position, results of operations, changes in equity, or cash flows for the year under review.

The pro forma information and non-IFRS measures are not an IFRS requirement. The Group's external auditor, Deloitte & Touche, has reviewed the pro forma information. A copy of independent reporting accountant's assurance report on the compilation of the pro forma financial information is available for inspection at the registered office of the Company.

Report of the independent auditor

Deloitte & Touche has issued an unmodified review conclusion on the preliminary condensed consolidated financial statements. A copy of their review report on the preliminary condensed consolidated financial statements is available for inspection at the Company's registered office and on the Company's website. Any perceived reference to future financial performance included in this announcement has not been audited nor reviewed and reported on by the Group's external auditors and is the responsibility of the directors. The auditor's report does not necessarily report on all of the information contained in this announcement. Shareholders are therefore advised that in order to obtain a full understanding of the nature of the auditor's engagement they should obtain a copy of the auditor's review report together with the accompanying financial information from the Company's website.

The directors take full responsibility for the preparation of the preliminary report.