Pearson - 20-F annual report

As filed with the Securities and Exchange Commission on June 10, 2002

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 20-F

OR

OR

Commission file number 1-16055

PEARSON PLC
(Exact name of Registrant as specified in its charter)

England and Wales
(Jurisdiction of incorporation or organization)

80 Strand
London, England WC2R 0RL
(Address of principal executive offices)

Securities registered or to be registered pursuant to Section 12(b) of the Act:

*

Not for trading, but only in connection with the registration of American Depositary Shares, pursuant to the requirements of the SEC.

Securities registered or to be registered pursuant to Section 12(g) of the Act: None

Securities for which there is a reporting obligation pursuant to Section 15(d) of the Act: None

        Indicate the number of outstanding shares of each of the issuer's classes of capital or common stock at the close of the period covered by the annual report:

Ordinary Shares, 25p par value 800,589,000

        Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days.

Yes  X          No        

        Indicate by check mark which financial statement item the Registrant has elected to follow:

Item 17               Item 18   X  

TABLE OF CONTENTS

Introduction

        In this Annual Report on Form 20-F (the "Annual Report") references to "Pearson" or the "Group" are references to Pearson plc, its predecessors and its consolidated subsidiaries, except as the context otherwise requires. "Ordinary Shares" refer to the ordinary share capital of Pearson of par value 25p each. "ADSs" refer to American Depositary Shares issuable in respect of Ordinary Shares deposited pursuant to the Deposit Agreement dated March 21, 1995, amended and restated as of August 8, 2000 among Pearson, The Bank of New York as depositary (the "Depositary") and owners and holders of ADSs (the "Deposit Agreement"). ADSs are represented by American Depositary Receipts ("ADRs") delivered by the Depositary under the terms of the Deposit Agreement.

        We have prepared the financial information contained in this Annual Report in accordance with generally accepted accounting principles in the United Kingdom, or UK GAAP, which differs in significant respects from generally accepted accounting principles in the United States, or US GAAP. We describe these differences in "Item 5. Operating and Financial Review and Prospects—Accounting Principles", and in Note 35 to our consolidated financial statements included in this Annual Report. Unless we indicate otherwise, any reference in this Annual Report to our consolidated financial statements is to the consolidated financial statements and the related notes, included elsewhere in this Annual Report.

        We publish our consolidated financial statements in sterling. We have included, however, references to other currencies. In this Annual Report:

•

references to "sterling", "pounds", "pence" or "£" are to the lawful currency of the United Kingdom,



•

references to "euro" or "E" are to the euro, the single currency established by the European Monetary Union, and



•

references to "US dollars", "dollars", "cents" or "$" are to the lawful currency of the United States.

        For convenience and except where we specify otherwise, we have translated some sterling figures into US dollars at the rate of £1.00 = $1.45, the noon buying rate in The City of New York for cable transfers and foreign currencies as certified by the Federal Reserve Bank of New York for customs purposes on December 31, 2001. We do not make any representation that the amounts of sterling have been, could have been or could be converted into dollars at the rates indicated.

Forward-Looking Statements

        You should not rely unduly on forward-looking statements in this Annual Report. This Annual Report, including the sections entitled "Item 3. Key Information—Risk Factors", "Item 4. Information on the Company" and "Item 5. Operating and Financial Review and Prospects", contains forward-looking statements that relate to future events or our future financial performance. In some cases, you can identify forward-looking statements by terms such as "may", "will", "should", "expect", "intend", "plan", "anticipate", "believe", "estimate", "predict", "potential", "continue" or the negative of these terms or other comparable terminology. Examples of these forward-looking statements include, but are not limited to, statements regarding the following:

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operations and prospects,



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growth strategy,



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funding needs and financing resources,



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expected financial position,

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market risk,



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integration of acquired businesses,



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internet strategy,



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debt levels, and



•

general market and economic conditions.

        These forward-looking statements are only predictions. They involve known and unknown risks, uncertainties and other factors that may cause our or our industry's actual results, levels of activity, performance or achievements to be materially different from any future results, levels of activity, performance or achievements expressed or implied by the forward-looking statements. In evaluating them, you should consider various factors, including the risks outlined under "Item 3. Key Information—Risk Factors", which may cause actual events or our or our industry's results to differ materially from those expressed or implied by any forward-looking statement. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements.

Part I

Item 1. Identity of Directors, Senior Management and Advisers

        Not applicable.

Item 2. Offer Statistics and Expected Timetable

        Not applicable.

Item 3. Key Information

Selected Consolidated Financial Data

        The table below shows selected consolidated financial data for each of the years in the five-year period ended December 31, 2001. The selected consolidated profit and loss account data for the years ended December 31, 2001, 2000 and 1999 and the selected consolidated balance sheet data as at December 31, 2001 and 2000 have been derived from our consolidated financial statements included elsewhere in this Annual Report, which have been audited by PricewaterhouseCoopers, independent chartered accountants. The selected consolidated profit and loss account data for the years ended December 31, 1998 and 1997, and the selected consolidated balance sheet data as at December 31, 1999, 1998 and 1997 have been derived from our audited consolidated financial statements for those periods and as of those dates, which are not included in this Annual Report.

        Our consolidated financial statements have been prepared in accordance with UK GAAP, which differs from US GAAP in significant respects. See "Item 5. Operating and Financial Review and Prospects—Accounting Principles" and Note 35 to our consolidated financial statements. The consolidated financial statements contain a reconciliation to US GAAP of profit for the financial year, shareholders' funds and certain other financial data.

        The selected consolidated financial information should be read in conjunction with "Item 5. Operating and Financial Review and Prospects" and our consolidated financial statements and the related notes appearing elsewhere in this Annual Report. The information provided below is not necessarily indicative of the results that may be expected from future operations.

        For convenience, we have translated the 2001 amounts into US dollars at the rate of £1.00 = $1.45, the noon buying rate in The City of New York on December 31, 2001.

(1)

Continuing operations represent those operations carried on by us as at December 31, 2001. Operating profit from continuing operations consists of operating profit—Group, plus our share of operating profit from continuing operations for joint ventures and associates, as disclosed on page F-3 of the consolidated financial statements included in this Annual Report.

(2)

Other items include integration costs in connection with our acquisition of Simon & Schuster's educational, business and professional and reference publishing business (£nil in 2001, £9 million in 2000 and £95 million in 1999 and £120 million in 1998), integration costs of £45 million in 2001 (£27 million in 2000) in connection with our acquisition of Dorling Kindersley Holdings plc, or DK, integration costs of £29 million in 2001 (£4 million in 2000) in connection with our acquisition of National Computer Systems, Inc., or NCS, and year 2000 compliance costs of £5 million in 1999 (£7 million in 1998).

(3)

All the earnings per share figures for 1997 to 1999 have been restated to reflect the rights issue of ordinary shares made during 2000 in order to finance the NCS acquisition.

(4)

Loss/earnings per equity share is based on loss/profit for the financial period and the weighted average number of ordinary shares in issue during the period (as restated per note 3 above).

(5)

Adjusted earnings per equity share is based on adjusted earnings for the financial period and the weighted average number of ordinary shares in issue during the period (as restated per note 3 above). Adjusted earnings excludes profits or losses on the sale or write down of fixed assets and investments, businesses and associates, year 2000 compliance costs, integration costs in respect of the acquisitions of Simon & Schuster, DK and NCS, the accelerated amortization of a financing arrangement fee following the early redemption of a borrowing facility, the premium paid in respect of a forward currency option in connection with the acquisition of NCS and goodwill amortization.

(6)

Diluted loss/earnings per equity share is based on diluted loss/earnings for the financial period and the diluted weighted average number of ordinary shares in issue during the period (as restated per note 3 above). Diluted loss/earnings comprise loss/earnings adjusted for the tax benefit on the conversion of share options by employees and the weighted average number of ordinary shares adjusted for the dilutive effect of share options.

(7)

Long-term obligations are comprised of medium and long-term borrowings plus amounts falling due after more than one year related to obligations under finance leases.

(8)

See Note 35 to the consolidated financial statements included in this Annual Report entitled "Summary of principal differences between United Kingdom and United States of America generally accepted accounting principles".

Dividend Information

        We pay dividends to holders of ordinary shares on dates that are fixed in accordance with the guidelines of the London Stock Exchange. Our board of directors normally declares an interim dividend in July or August of each year to be paid in October or November. Our board of directors normally recommends a final dividend following the end of the fiscal year to which it relates, to be paid in the following June, subject to shareholders' approval at our annual general meeting. At our annual general meeting on April 26, 2002 our shareholders approved a final dividend of 13.6p for the year ended December 31, 2001.

        The table below sets forth the amounts of interim, final and total dividends paid in respect of each fiscal year indicated, and is translated into cents per ordinary share at the noon buying rate in New

York, New York, on each of the respective payment dates for interim and final dividends. The final dividend for the 2001 fiscal year was paid on June 7, 2002.

        Future dividends will be dependent on our future earnings, financial condition and cash flow, as well as other factors affecting us. Historic dividend information has been restated to reflect the rights issue of equity shares in 2000.

Exchange Rate Information

        The following table sets forth, for the periods indicated, information concerning the noon buying rate for sterling, expressed in dollars per sterling. The average rate is calculated by using the average of the noon buying rates in New York, New York, on each day during a monthly period, and on the last day of each month during an annual period. On May 30, 2002, the noon buying rate for sterling was £1.00 = $1.47.

Risk Factors

        You should carefully consider the risk factors described below, as well as the other information included in this Annual Report. Our business, financial condition or results of operation could be materially adversely affected by any or all of these risks, or by other risks that we presently cannot identify.

Our reliance on intellectual property and proprietary rights that may not be adequately protected under current laws in some jurisdictions may adversely affect our results and our ability to grow

        Our products are largely comprised of intellectual property content delivered through a variety of media, including newspapers, books and the internet. We rely on trademark, copyright and other intellectual property laws to establish and protect our proprietary rights in these products. However, we cannot assure you that our proprietary rights will not be challenged, invalidated or circumvented. Our intellectual property rights in jurisdictions such as the United States and the United Kingdom, which are the jurisdictions with the largest proportions of our operations, are well-established. However, we also conduct business in other countries where the extent of effective legal protection for intellectual property rights is uncertain, and this uncertainty could affect our future growth. Moreover, despite trademark and copyright protection, third parties may be able to copy, infringe or otherwise profit from our proprietary rights without our authorization. These unauthorized 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 us in protecting our proprietary rights relating to our online business processes and other digital technology rights.

We operate in a highly competitive environment that is subject to rapid change and we must continue to invest and adapt to remain competitive

        Our education, business information and book publishing businesses operate in highly competitive markets. These markets continue to change in response to technological innovations and other factors. We cannot predict with certainty the changes that may occur and affect the competitiveness of our businesses. In particular, the means of delivering various of our products may be subject to rapid technological change. Although we have undertaken several initiatives to adapt to and benefit from these changes, we cannot predict whether technological innovations will, in the future, make some of our products, particularly those printed in traditional formats, wholly or partially obsolete. If this were to occur, we may be required to take steps to further adapt to the changing competitive environment.

Consolidation in the markets in which we operate could potentially place us at a competitive disadvantage

        Some of the markets in which we operate have experienced significant consolidation. In particular, the combinations of traditional media content companies and new media distribution companies have resulted in new valuation methods, business models and strategies. We cannot predict with certainty the extent to which these types of business combinations may occur or the success that they may achieve. Although we currently have strong positions in each of our market segments, these combinations could potentially place us at a competitive disadvantage with respect to scale, resources and our ability to develop and exploit new media technologies.

We may not be able to achieve continued growth in our operations or strengthen our financial position due to economic and political forces beyond our control

        A variety of factors beyond our control may inhibit the growth of our operations or weaken our financial position. These factors include a significant weakening of the global advertising environment, particularly in financial advertising, US state and federal government spending patterns for educational materials, the slowing of the US economy, heightened political tensions affecting the United Kingdom and the United States, foreign currency exchange rate risks, trade protection measures and regulatory or other economic conditions. In particular, during 2001, the weak advertising environment led to a significant decline in advertising revenue. For additional information about this decline, please see "Operating and Financial Review and Prospects—Results of Operations—Year ended December 31, 2001 compared to year ended December 31, 2000", pages 22-30. Taken together, these factors could have a material adverse impact on our growth and our financial position.

We cannot assure you whether, or when, our substantial investment in our internet initiatives will produce returns

        We have invested significant amounts of capital to develop and promote our internet initiatives. We believe that the success of our internet initiatives will be an important component of our continued growth. We can offer no assurance as to the extent or timing of the revenue streams from our internet initiatives. This is due to a variety of factors, many of which are beyond our control. These factors may include: the ability of our internet initiatives to achieve leadership positions in their respective markets, and competition from comparable and new technologies.

        In addition, as a consequence of our internet and other technological initiatives, we are increasingly dependent on the performance of our data networks and infrastructure.

Item 4. Information on the Company

Pearson

        Pearson is a global media company with its principal operations in the education, business information and consumer publishing markets. We have significant operations in the United States, where we generate more than half our revenues, and in the United Kingdom and continental Europe. We create and manage intellectual property, which we promote and sell to our customers under well-known brand names, to inform, educate and entertain. We deliver our content in a variety of forms and through a variety of channels, including books, newspapers, television programs and internet services.

Overview of Operating Divisions

        Although our businesses increasingly share markets, brands, processes and facilities, they break down into three core segments:

        Pearson Education is a global leader in educational publishing. We are a leading international publisher of textbooks, supplementary materials and electronic education programs for elementary and secondary school, higher education and business and professional markets. We also play a major role in the testing and certification of school students and professionals in the US.

        The FT Group consists of our international newspaper, print and online financial information, business magazine and professional publishing interests. Our flagship product is the Financial Times, known internationally for its premium editorial content and international scope both in newspaper and internet formats.

        The Penguin Group is one of the premier English language publishers in the world, with brand imprints such as Penguin, Putnam, Viking and DK. We publish an extensive portfolio of fiction, non-fiction, reference and illustrated works. We publish the works of many authors, including Maeve Binchy, Tom Clancy, Patricia Cornwell, Nick Hornby, Jamie Oliver and Amy Tan.

        Pearson was incorporated and registered in 1897 under the laws of England and Wales as a limited company and re-registered as a public limited company in 1981. We conduct our operations primarily through our subsidiaries and other affiliates. Our principal executive offices are located at 80 Strand, London WC2R 0RL, United Kingdom (telephone: +44 (0) 20 7010 2000).

Our Strategy

        Focus on attractive, growing media markets where we have leadership positions and can build on common customers, brands, skills and values. Over the past four years we have reshaped the group by divesting a range of interests and investing over $7 billion in education, consumer publishing and business information.

        Build on our position as a leading content company and embed content in applications and services, integrating the internet and other digital technologies.

        Sustain a performance culture based on clearly understood, widespread goals—sales growth, trading margin improvement and converting profits into cash.

Operating Divisions

Pearson Education

        Pearson Education is one of the world's largest publishers of textbooks and paper and online teaching materials based on published sales figures and independent estimates of sales. Pearson Education serves the growing demands of teachers, students, parents and professionals throughout the world for stimulating effective education programs. With federal and state governments under pressure to measure academic progress against clear objective standards, the market for educational testing services in the United States has grown significantly. NCS Pearson enables us to combine testing and assessment with our traditional educational curriculum services and products to form one of the world's leading integrated education companies. NCS Pearson provides the entire spectrum of educational services—from educational curriculum to testing and assessment to data management. NCS Pearson's testing and assessment operations are being integrated into each of our US School, US College, US Professional and International educational subdivisions.

        We report Pearson Education's performance along the lines of the four markets it serves: US School, US College, US Professional and International, i.e. markets outside the United States. In 2001, Pearson Education had sales of £2,604 million or 62% of Pearson's total Group sales (54% in 2000). The business makes approximately two thirds of its sales, and all of its profits, in the second half of the year.

US School

        Pearson Education is a leading US school publisher for kindergarten through 12th grade, with a comprehensive range of textbooks, supplementary materials and electronic education programs. We believe that our market share in this sector is approximately 25%. Pearson Education's premier elementary school imprint, Scott Foresman, and premier secondary school imprint, Prentice Hall publish high quality programs covering subjects such as reading, literature, math, science and social studies. We also publish supplementary teaching aids for both elementary and secondary schools and teacher-written activity books. We are a leading publisher in online assessment and digital courseware through NCS Learn and the Waterford Early Reading Program. Towards the end of 2001 we began the integration of our educational internet business, Learning Network, with our K-12 publishing business.

        NCS Pearson's operations make us a leading player in the markets for test processing and scoring and the provision of enterprise software solutions to schools. We score and process some 40 million student tests across America every year.

        With over 90% of education spending for kindergarten through 12th grade in the United States financed at the state or local level, the US School division's major customers are state education boards and local school districts. In the United States, 20 states, which account for over 50% of the total kindergarten through 12th grade US school population of some 52 million students, buy educational programs by means of periodic statewide "adoptions". These adoptions cover programs in the core subject areas. Typically, a state committee selects a short-list of education programs from which the school districts then make individual choices. We actively seek to keep as many of our offerings as possible on the approved list in each state, and we market directly to the school districts. In the 30 states without adoptions, or "open territories", local school districts choose education programs from the extensive range available. We actively market to school districts in open territories as well. Our revenues are currently split evenly between adoption states and open territory states.

US College

        Pearson Education is the United States' largest publisher of educational textbooks and related materials for colleges and universities based on sales. We believe that our market share in this sector is approximately 34%. We publish across all of the main fields of study with imprints such as Prentice Hall, Addison Wesley and Allyn & Bacon. We market primarily to college professors who choose the texts to be purchased by their students. Over 1,200 of Pearson Education's college textbooks have an interactive companion website with online study guides to reinforce text concepts, chat rooms and bulletin boards to facilitate interaction between students and faculty. An increasing number of our programs incorporate online course management systems that provide a powerful set of easy-to-use tools that allow professors to create sophisticated web-based courses.

US Professional

        We publish textbooks and reference books for industry professionals, with a particular strength in computers and information technology. Our imprints in this area include Macmillan USA, Pearson Professional Technical Reference, Prentice Hall, Addison Wesley and Adobe Press. Three NCS Pearson units serve the professional markets. We manage significant commercial contracts to process qualifying tests for individual professions, including IT professionals and nurses. Our Government Solutions group manages and processes student grant applications on behalf of the US Department of Education and has a number of education-related contracts with various government departments, most notably the Department of Defense. We also provide a range of data management services, including the sale of scanners, to a wide range of customers.

International

        Pearson Education has sales, distribution and publishing operations in 35 countries throughout the world. We produce textbooks, English language teaching materials (in which we are a global leader) and professional publications. Our international division also offers translations and imprints of our US College and US Professional publications. NCS Pearson creates, manages and processes tests in countries all around the world, although the majority of its sales continue to come from the United States.

        Our publications are primarily in English and are marketed to the English speaking markets, primarily through our own wholesale distributors, but also through third party distributors and to retailers. In addition to English, we also publish in the local language in a number of countries, including Germany, France, Spain, Italy, Mexico, Colombia, Brazil, the People's Republic of China, Japan and South Korea. In a number of countries, such as Singapore, we are the largest publisher of school materials.

FT Knowledge

        FT Knowledge is a corporate training business with two main activities. The majority of its revenues come from providing, "soft skills" training, on leadership or sales force effectiveness for example. A second unit, FT Knowledge Financial Learning, provides specialist training to the financial services industry.

The FT Group

        The Financial Times Group, one of the world's leading business information companies, aims to provide a broad range of business information, analysis and services to a growing audience of internationally minded business people. In 2001, the FT Group had sales of £801 million, or 19% of Pearson's total Group sales (22% in 2000). The FT Group's business is now global, with an increasing demand for strategic business information—the combination of news, data, comment, analysis and context in which the FT Group excels. In addition to professional and business consumers, individuals

around the world are demanding such strategic business information. We believe that the FT Group is very well positioned to supply information and benefit from these trends.

        We have also developed a pan-European network of leading business newspapers and related online business portals, including Financial Times Deutschland, Les Echos and Expansión, for the German, French and Spanish-speaking markets. Recoletos, the publicly quoted Spanish media group in which we hold a 79% interest, publishes Expansión, as well as a number of specialist publications, including Marca, the leading Spanish sports newspaper. We hold a 50% stake in The Economist, an international weekly current affairs and business magazine. We hold 60% of Interactive Data Corporation, a publicly quoted supplier of electronic database services to US and UK securities professionals. We hold a 34% ownership interest in MarketWatch.com, a publicly quoted company whose web properties, CBS.MarketWatch.com and bigcharts.com, are among the most popular destinations for financial and market news on the web.

        The Financial Times is a leading international daily business newspaper. Its average daily circulation of 501,000 copies in December 2001, as reported by the Audit Bureau of Circulation gives the Financial Times the second largest circulation of any English language business daily in the world. The Financial Times derived approximately three-quarters of its revenue in 2001 from advertising and approximately one-quarter from circulation. The geographic distribution of the Financial Times average daily circulation was:

        TheFinancial Times newspaper is printed in 18 cities around the world and has one of the world's fastest growing international readerships. The Financial Times draws upon an extensive network of international correspondents and its editorial skills to produce unique, informative and timely business information. We believe that we have the largest number of correspondents of any English language daily newspaper in the world. For production and distribution, the Financial Timesuses computer-driven communications and printing technology for timely delivery of the various editions of the newspaper to the appropriate geographic markets. The Financial Times is distributed through independent news agents and direct delivery to homes and institutions.

        FT.com, the newspaper's internet partner, combines agenda-setting editorial with relevant financial data and discussion groups, as well as a broad range of business tools including the largest search function on the internet. The following operating statistics show that, similar to the Financial Times, FT.com has quickly shown an ability to attract a large number of users:

(1)

Users refers to the number of unique visitors to the site during the specified period.

European Business Newspapers & Online Services

        Our pan-European network of national business newspapers and online services includes France's leading business newspaper, Les Echos and lesechos.fr, and Spain's leading business newspaper and website, Expansión and Expansiondirecto.com. In February 2000, we launched in partnership with Gruner + Jahr a new German language newspaper, FT Deutschland, with a fully integrated online business news and data service. By the end of 2001, the newspaper had an audited average daily circulation of 78,000 copies.

Securities and Specialist Financial Information

        Through our controlling interest in Interactive Data Corporation, we are one of the world's leading global providers of financial and business information to institutional and individual investors. Interactive Data Corporation supplies time-sensitive pricing, dividend, corporate action and descriptive information for more than 3.5 million securities traded around the world, including hard-to-value unlisted fixed income instruments. At the core of the business are its extensive database expertise and technology resources. Its products include eSignal, an online real-time quotation service for brokers and active traders.

Business Information

        FT Business produces specialist information on the retail, personal and institutional finance industries. It publishes the UK's premier personal finance magazine, Investors Chronicle, and The Banker, Money Management and Financial Adviser for professional advisers.

        In February 2002, we announced that we had appointed Lazard Brothers to explore strategic alternatives, including sale, for FT Business after we had received a number of unsolicited approaches to buy the business.

Private Investor Information

        We own a 34% interest in MarketWatch.com, whose web properties, bigcharts.com and CBSMarketWatch.com, are among the internet's most popular destinations for financial market news. FTInvestor, a service on FT.com, is based on CBS Marketwatch's technology platform, and offers a similar service for European investors.

Joint Ventures and Associates

        The FT Group also has a number of other associates and joint ventures, including:

        A 50% interest in The Economist Group, which publishes the world's leading weekly business and current affairs journal.

        FTSE International, a joint venture with the London Stock Exchange, which, among other things, publishes the FTSE index.

        Vedomosti, a leading Russian business newspaper and a partnership venture with Dow Jones and Independent Media.

        A 50% interest in Business Day and Financial Mail, publishers of South Africa's leading financial newspaper and magazine.

Recoletos

        We own a 79% stake in Recoletos, a Spanish media group that we built with its Spanish founding shareholders over several years. Recoletos' publishing businesses in Spain and Portugal include Marca, a leading sports newspaper for the region with an average daily circulation of 372,000 in 2001, Expansión, a daily business newspaper, Actualidad Economica, a weekly business magazine, and Telva, a monthly women's magazine. It is also developing its internet activities as it seeks to extend the reach of its print-based products.

The Penguin Group

        Penguin is one of the premier English language publishers in the world. We publish an extensive range of titles, including some of the very best new fiction and non-fiction, literary prize winners and

commercial blockbusters. Our titles range from history and science to essential reference. We are also one of the pre-eminent classics publishers and own some of the most highly prized and enduring brands in children's publishing, featuring popular characters such as Spot, Peter Rabbit and Madeline, as well as the books of Roald Dahl. We rank in the top three consumer publishers based upon sales, in all major English speaking markets—the United States, the United Kingdom, Australia, New Zealand, Canada, India and South Africa.

        In 2001, Penguin's US business placed 139 titles on The New York Times bestseller list, an increase of 30% from 2000. In the United Kingdom, 41 Penguin titles featured on the Booktrack top fifteen bestseller list. The process of integrating DK's operations with the rest of the business was completed, and DK's new frontlist titles began to show strong signs of success. Animal, the first of a new range of illustrated reference books, sold 500,000 copies in 23 countries after its launch in October 2001. In 2001, Penguin had sales of £820 million representing 19% of Pearson's total Group's sales (19% in 2000).

        Revenues are split approximately evenly between frontlist and backlist titles, minimizing Penguin's exposure to volatility in either market. The Penguin Group earns over 90% of its revenues from the sale of hard cover and paperback books. The balance comes from audio books and from the sale and licensing of intellectual property rights, such as the Beatrix Potter series of fictional characters. We also sell a range of titles on CD-ROM and cassette and act as a book distributor for a number of smaller publishing houses.

        We sell directly to bookshops and through wholesalers. Retail bookshops normally maintain relationships with both publishers and wholesalers and use the channel which best serves the specific requirements of an order. In the last few years, we have also seen a significant growth in online purchasing directly by consumers, which currently accounts for approximately 5% of US sales and a growing percentage of UK sales. Online sales are made through third parties such as Amazon.com.

        The Penguin Group's gateway internet site, Penguin.com, provides access to its focused websites in the United States, Canada, United Kingdom and Australia. Websites have also been developed to target certain niche audiences. For example, Penguinclassics.com has an entire online world for the classics, with anthologies, original essays, interviews and discussions and links to other classics sites. In addition, we have developed the award-winning PeterRabbit.com, and we are extending rapidly our range of author websites, live webcasts and subject-specific sites, such as one for readers of romance novels. The Penguin Group aims to use the internet to increase the commercial efficiency of its existing publishing operations and to exploit its popular brands and unique content, and to continue to convert its library into digital formats suitable for e-book delivery, printing on demand and other forms of distribution.

        In 2001 Penguin completed the process of integrating Dorling Kindersley, or DK. Designed to make complicated subjects simple, DK has built a unique and attractive graphic style which is now recognized around the world. Aiming to be a complete "cradle to grave" publisher that families can grow up with, we produce books for children of all ages and books for adults covering a huge variety of subjects including childcare, health, gardening, food and wine, travel, business and sports. Not only does our "lexigraphic" design approach make our books easily translatable across cultures, but it has also formed the basis of our library of 2.5 million wholly-owned digital images which have many applications—in print or online.

Competition

        All of Pearson's businesses operate in highly competitive environments.

        Pearson Education competes with other publishers and creators of educational materials and services. These companies include large international companies, such as McGraw-Hill, Reed Elsevier

(after its acquisition of Harcourt's school business), Vivendi (after its acquisition of Houghton Mifflin)and Thomson. Competition is based on the ability to deliver quality products that address the specified curriculum needs and appeal to the school boards, educators and government officials making purchasing decisions, at competitive prices.

        The FT Group competes with other companies engaged in the publishing of business news, such as The Wall Street Journal. The FT Group competes with other newspapers and information sources for readership by offering timely and expert journalism, and competes for advertisers with other forms of media based on the ability to offer an effective means for advertisers to reach their target audience.

        The Penguin Group competes with other publishers of fiction and non-fiction books. Principal competitors include Random House and Harper Collins. Publishers compete by developing a portfolio of books that are in demand by continually seeking out and promoting talented writers and by offering their works at competitive prices.

Intellectual Property

        Our principal intellectual property assets consist of our trademarks and other rights in our brand names, particularly Financial Times and Penguin and the various imprints of Pearson Education, and copyrights in our content. We believe we have taken all appropriate available legal steps to protect our intellectual property in all relevant jurisdictions.

Raw Materials

        Paper is the principal raw material used by each of Pearson Education, the FT Group and the Penguin Group. We purchase most of our paper through our central purchasing department located in the United States. We have not experienced and do not anticipate difficulty in obtaining adequate supplies of paper for their operations, with sourcing available from numerous suppliers. While local prices fluctuate depending upon local market conditions, we have not experienced extensive volatility in fulfilling paper requirements. In the event of a sharp increase in paper prices, we have a number of alternatives to minimize the impact on our operating margins, including modifying the grade of paper used in production.

Government Regulation

        The manufacture of certain of our products in various markets is subject to governmental regulation relating to the discharge of materials into the environment. Our operations are also subject to the risks and uncertainties attendant to doing business in numerous countries. Some of the countries in which we conduct these operations maintain controls on the repatriation of earnings and capital and restrict the means available to us for hedging potential currency fluctuation risks. The operations that are affected by these controls, however, are not material to us. Accordingly, these controls have not significantly affected our international operations. Regulatory authorities may have enforcement powers that could have an impact on us. We believe, however, that we have taken and continue to take measures to comply with all applicable laws and governmental regulations in the jurisdictions where we operate so that the risk of these sanctions does not represent a material threat to us.

Licenses, Patents and Contracts

        We are not dependant upon any particular licenses, patents or new manufacturing processes that are material to our business or profitability. Likewise, we are not materially dependant upon any contracts with suppliers or customers, including contracts of an industrial, commercial or financial nature.

Developments in 2001—Disposition of RTL Group ("RTL")

        On December 24, 2001 we announced that we had agreed to sell our 22% holding in RTL to Bertelsmann. The transaction was completed on January 30, 2002, valuing our 34 million shares at E44 per share. The resulting proceeds of E1.5 billion were used to pay down floating rate debt. We originally acquired our 22% interest in RTL when RTL was formed on July 25, 2000 through the combination of Pearson Television and CLT-UFA.

        The sale of our holding in RTL has had a positive impact on the quality of Pearson's cashflow, liquidity and financial flexibility. Cashflow from the 22% interest in RTL was based on a dividend stream, itself highly taxed, and came to less than £10 million in 2001. Given the vulnerability of RTL's business model to the economic cycle, our management believed that there was a risk that cashflow in 2002 would be no better, or perhaps worse.

        After paying down some of our floating rate debt, our average level of indebtedness fell from $2.5 billion to $1.8 billion. The increased level of interest cover that results from reduced interest payments and reduced levels of investment in the internet prompted one of the two rating agencies to move Pearson to BBB+ stable outlook from negative outlook.

Organizational Structure

        Pearson plc is a holding company which conducts its business primarily through subsidiaries and other affiliates. We have interests in subsidiaries and other entities throughout the world. Below is a list of our significant subsidiaries, including name, country of incorporation or residence, proportion of ownership interest and, if different, proportion of voting power held.

Property, Plant and Equipment

        Our headquarters is located at leasehold premises in London, England. We own or lease approximately 280 properties in 24 countries worldwide, the majority of which are located in the United Kingdom and the United States.

        All of the properties owned and leased by us are suitable for their respective purposes and are in good operating condition.

        We own the following principal properties:

        We lease the following principal properties:

Item 5. Operating and Financial Review and Prospects

        The following discussion and analysis is based on and should be read in conjunction with the consolidated financial statements, including the related notes, appearing elsewhere in this Annual Report. The financial statements have been prepared in accordance with UK GAAP, which differs in significant respects from US GAAP. Note 35 to our consolidated financial statements provides a description of the significant differences between UK GAAP and US GAAP as they relate to our business and provides a reconciliation to US GAAP.

General Overview

Introduction

        In 2001, sales from continuing operations increased 15% from £3,689 million to £4,225 million and operating profit from continuing operations before goodwill amortization and exceptional items increased 3% from £414 million to £426 million. The 2001 figures include the first full-year contribution from DK and NCS. Losses from our internet enterprises declined by 30% to £137 million from £196 million. Profits from newspaper and television advertising-related operations suffered in the toughest advertising market for a decade.

        A £438 million loss before taxation in 2001 compares to a profit before taxation of £284 million in 2000. The decrease includes the effect of increased goodwill amortization charges of £143 million, write downs relating to acquisitions and equity investments, including our DK acquisition, which accounted

for £50 million of these write downs, and losses of £123 million relating to businesses closed or sold in 2001. The sale of businesses in 2000 produced a profit of £254 million.

        The disposal of our 22% stake in the RTL Group, our television business, was announced on December 24, 2001 and the sale was completed on January 30, 2002 for E1.5 billion. Further information on this disposal is included in "Item 4. Information on the Company—Developments in 2001" on page 17. The results of the television business have been included in discontinued operations in these financial statements.

        With the sale of our stake in the television business, Pearson is now built around three complementary businesses, each of which we believe occupies a powerful, sustainable position in its market. The proceeds of the RTL Group sale will lead to a stronger balance sheet in 2002 which will also see the full benefit from the integration of NCS and DK into Pearson.

Sales information by operating division

        The following table shows sales information for each of the past three years by operating division:

(1)

The Pearson Education operating division included sales of £592 million in 2001 and £146 million in 2000 in respect of NCS, and the Penguin Group operating division included sales of £146 million in 2001 and £125 million in 2000 in respect of DK. Both NCS and DK were acquired during 2000.

(2)

Discontinued operations relate to our withdrawal from the Television business following the disposal of our 22% interest in RTL completed on January 30, 2002. Prior to the contribution of Pearson Television to RTL in July 2000, Television was a separate operating division of Pearson. Following the contribution we began accounting for Television as an associate investment rather than as a wholly-owned operating division and thus we no longer consolidated the sales of Television.

Sales information by geographic market supplied

        The following table shows sales information for each of the past three years by geographic region:

Internet Enterprises

        We refer to our discrete internet operations as our internet enterprises. These are significant internet ventures within Pearson Education and the FT Group whose activities and results we are able to identify separately from their print-based counterparts. For a description of our internet enterprises, see "Item 4. Information on the Company—Operating Divisions—Pearson Education" and "—The FT Group." In 1999, we began reporting revenues, operating profit and earnings per equity share before and after internet enterprises, as well as before goodwill amortization and other items. As our internet enterprises are increasingly integrated with their related businesses, the identification of internet revenues and costs is becoming more difficult. For 2001 we are reporting on these measures on both a pre-internet and post-internet basis, but from 2002 we shall be reporting all figures after the inclusion of results from internet enterprises.

Exchange Rate Fluctuations

        We earn a significant proportion of our sales and profits in overseas currencies, principally the US dollar, and, to a lesser extent, the euro. Sales and profits are translated into sterling in the consolidated financial statements using average rates. The average rate used for the US dollar was $1.44 in 2001, $1.51 in 2000 and $1.61 in 1999. Fluctuations in exchange rates can have a significant impact on our reported sales and profits. See "Item 11. Quantitative and Qualitative Disclosures About Market Risk" for more information.

Critical Accounting Policies

        Our accounting policies are set out in Note 1 to the financial statements. These policies are stated in accordance with UK GAAP which differs in significant respects from US GAAP. The policies below are considered to be critical accounting policies due to the extent and nature of management's estimates involved. The potential impact on the results from changes to judgements applied and estimation techniques used could have a material effect on the financial statements and in particular our operating profit.

Revenue recognition

        Revenue from the sale of books is recognized when the goods are shipped. A provision for sales returns is made so as to allocate these returns to the same period as the original sales are recorded. The returns provision is an estimate based on historical return rates. If these estimates do not reflect

actual returns in future periods then revenues could be under or over stated for a particular period. Revenue from long term contracts, such as contracts to process qualifying tests for individual professions and government departments, is recognized over the contract term based on the percentage of services provided during the period compared to the total estimated services to be provided over the entire contract. Losses on contracts are recognized in the period in which the loss first becomes probable and reasonably estimable. Contract losses are determined to be the amount by which estimated direct and indirect costs of the contract exceed the estimated total revenues that will be generated by the contract. Changes in conditions may result in revisions to estimated costs and earnings during the course of the contract and are reflected in the accounting period in which the facts that require the revision became known.

Pre-publication costs

        Pre-publication costs represent direct costs incurred in the development of titles prior to their publication. These costs are carried forward in stock where the title has a useful life in excess of one year. The costs are then amortized over estimated useful lives of five years or less, commencing upon publication of the title, with a higher proportion of the amortization taken in the earlier years to match the sales profile of the products. The assessment of useful life and the calculation of amortization involve a significant amount of estimation and management judgment. The overstatement of useful lives could result in amounts being carried forward in stock that would otherwise have been written off to the profit and loss account in an earlier period.

Royalty advances

        Advances of royalties to authors are included within debtors when the advance is paid less any provision required to bring the amount down to its net realizable value. The royalty advance is expensed at the contracted royalty rate as the related revenues are earned. The realizable value of royalty advances held within debtors is regularly reviewed by reference to anticipated future sales of books or subsidiary publishing rights but still relies on a degree of management judgment in determining the profitability of individual author contracts. If the estimated realizable value of author contracts is over stated then this will have an adverse effect on operating profits.

Amortization and impairment of Goodwill

        Capitalized goodwill is amortized over its estimated useful life, not exceeding 20 years. Estimated useful life is determined after taking into account such factors as the nature and age of the business and the stability of the industry in which the acquired business operates as well as typical life spans of the acquired products to which the goodwill attaches. Currently the estimated useful lives ascribed to goodwill range from 3 to 20 years. Goodwill relating to acquisitions in the more established book publishing businesses is typically written off over 20 years whilst goodwill relating to less established businesses, such as internet-related businesses that were more recently acquired, where there is no consistent record of profitability, are being written off over 3 years. The charge for goodwill amortization is a significant item in arriving at our operating profit in the financial statements and the estimation of useful life can therefore have a material effect on the results. The carrying value of goodwill is subject to an impairment review at the end of the first full year following an acquisition and at any other time if events or changes in circumstances indicate that the carrying value may not be recoverable. Reviews are based upon our projections of anticipated future cash flows. The assumptions underlying these projections are consistent with management's operating budgets and plans for these businesses but it is recognized that even relatively small changes to assumptions could result in a materially different valuation.

UK GAAP and US GAAP

        We prepare our financial statements in accordance with UK GAAP, which differs in significant respects from US GAAP. Our loss for the financial year ended December 31, 2001 under UK GAAP was £391 million compared with a loss of £1,500 million under US GAAP for the same year. The profit for the financial year ended December 31, 2000 under UK GAAP was £179 million, compared with profit of £1,362 million under US GAAP for the same year. The profit for the financial year ended December 31, 1999 under UK GAAP was £294 million compared with profit of £198 million under US GAAP for the same year.

        Equity shareholders' funds at December 31, 2001 under UK GAAP were £3,588 million compared with £4,155 million under US GAAP. Equity shareholders' funds at December 31, 2000 under UK GAAP were £4,044 million compared with £6,018 million under US GAAP. Equity shareholders' funds at December 31, 1999 under UK GAAP were £1,321 million compared with £2,615 million under US GAAP.

        The main differences between UK GAAP and US GAAP relate to goodwill and intangible assets, deferred taxation, acquisition and disposal adjustments, derivatives, pensions and stock based compensation, and are discussed in further detail under "—Accounting Principles."

Results of Operations

Year ended December 31, 2001 compared to year ended December 31, 2000

Consolidated Results of Operations

Sales

        Our total sales increased by £351 million to £4,225 million in 2001, from £3,874 million in 2000. Sales from continuing operations increased by £536 million, or 15%, when sales from the television business of £185 million in 2000 are excluded. The Television division has been accounted for as an associate since the contribution of Pearson Television to RTL in July 2000 and sales have therefore not been consolidated subsequent to that date. The increase is due mainly to the inclusion of a full year contribution from NCS Pearson in 2001 and underlying growth from the Pearson Education and Penguin businesses. The increase has been partly offset by a decline in revenues from the FT Group principally due to a fall in advertising revenues. Sales benefitted from the weakening of sterling against the US dollar. We estimate that had the 2000 average rates prevailed in 2001, sales would have been lower by £79 million.

        Pearson Education, our largest business sector, accounted for 62% of our sales from continuing operations in 2001, compared to 57% in 2000. North America continued to be the most significant source of our sales, accounting for 70% of our sales from continuing operations in 2001, compared to 66% in 2000.

Cost of Sales and Net Operating Expenses

        The following table summarizes our cost of sales and net operating expenses:

(1)

Cost of sales in 2000 includes £114 million attributable to discontinued businesses

(2)

Net operating expenses in 2000 includes £43 million attributable to discontinued businesses

        Cost of Sales.    Cost of sales consists of costs for raw materials, primarily paper, production costs and royalty charges. Our cost of sales increased by £261 million, or 16%, to £1,902 million in 2001, from £1,641 million in 2000. The increase was mainly a reflection of the increase in sales over the period, although there was a deterioration in overall gross margins as cost of sales as a percentage of sales increased to 45% in 2001 from 41% from continuing operations in 2000. Gross margins were slightly lower in 2001 at Education, FT Group and Penguin with the overall gross margin also being affected by the mix of sales. FT Group, with the highest margins, contributed a lower percentage of total sales in 2001 than in 2000. In 2000, cost of sales included an exceptional charge of £8 million in respect of the costs of the integration of DK. Excluding this charge, the decline in gross margins would have been slightly higher.

        Distribution Costs.    Distribution costs consist primarily of shipping costs, postage and packing. Our distribution costs increased by £20 million, or 11%, to £200 million in 2001, from £180 million in 2000 in line with the growth in sales. Distribution costs remained at 5% of sales in both 2001 and 2000.

        Administration and Other Expenses.    Our administration and other expenses increased by £263 million, or 14%, to £2,176 million in 2001, from £1,913 million in 2000. Administration and other expenses as a percentage of sales increased to 52% in 2001, from 49% in 2000. Administration and other expenses in 2001 included an exceptional charge of £74 million in respect of the costs of the integration of DK and NCS, goodwill amortization of £299 million and a charge for goodwill impairment of £58 million. In 2000, administration and other expenses included an exceptional charge of £32 million in respect of the integration of DK, NCS and the businesses acquired from Simon & Schuster and goodwill amortization of £188 million. Goodwill amortization, impairment and integration costs are described further in the following paragraphs. Excluding the exceptional charges and goodwill amortization in 2001 and 2000, administration and other expenses remained relatively consistent at 44% of sales in 2001 compared to 46% in 2000.

        Goodwill Amortization.    Goodwill amortization, including goodwill amortization relating to associates (£83 million in 2001; £51 million in 2000), increased by £143 million to £382 million in 2001, from £239 million in 2000. The main reason for the increase over last year is that we incurred full year amortization charges in respect of NCS and DK for the first time in 2001. There were also full year

charges following the Interactive Data Corporation, Family Education Network and RTL Group transactions in 2000. Goodwill is amortized over its estimated useful life, not exceeding 20 years, and thus this charge is expected to continue for the foreseeable future.

        Goodwill Impairment.    A charge of £61 million was incurred in 2001 in respect of impairments following a review of the recoverability of the carrying value of goodwill. DK accounted for £50 million of this charge. DK was purchased in May 2000 for a price of £318 million plus embedded net debt of £49 million. Although DK adds value to both Penguin and our education businesses, the integration has taken longer to achieve than we initially anticipated and we have also reduced the revenue base by eliminating unprofitable publishing. Taken together with a difficult economic environment, which has affected DK's travel guides in particular, we have written down the value of DK on the basis of revised cash flow forecasts. A further £11 million of goodwill impairments was taken in various other businesses, the largest of which was a Latin American subsidiary. There were no goodwill impairments recorded in 2000.

        Integration Costs.    Integration costs included within administration and other expenses are primarily the costs for consolidation of property and systems and redundancy programs relating to significant recent acquisitions. In 2001 the total integration cost was £74 million of which £45 million related to DK and £29 million to NCS. In 2000 these costs totaled £32 million of which £19 million related to DK, £4 million to NCS and £9 million to the businesses acquired from Simon & Schuster.

        Other Operating Income.    Other operating income decreased to £66 million in 2001 from £82 million in 2000 due primarily to reduced rights and royalty income at Television as a result of it being accounted for as an associate investment subsequent to the completion of the RTL transaction in July 2000.

Operating (Loss)/Profit

        The total operating loss in 2001 of £54 million compares to a profit of £211 million in 2000. This decrease was due to full year goodwill amortization charges in respect of NCS and DK, the DK goodwill impairment and NCS and DK integration costs. However, our operating profit from continuing operations before goodwill amortization and other items increased by £12 million, or 3%, to £426 million in 2001, from £414 million in 2000. This increase was primarily due to reduced internet losses at Pearson Education and the FT Group and a full year profit contribution from NCS. Offsetting these rises was a decline in profit from the FT Group primarily due to reduced advertising revenue. Operating profit benefitted from the weakening of sterling against the US dollar. We estimate that had the 2000 average rates prevailed in 2001, operating losses would have been £16 million greater.

        Operating profit before internet enterprises, goodwill amortization and other items attributable to Pearson Education increased by £31 million, or 10%, to £351 million in 2001, from £320 million in 2000, primarily due to the full year contribution from NCS of £63 million in 2001 compared to operating profit of £15 million contributed in 2000 for the period from September 2000.

        Operating profit before internet enterprises, goodwill amortization and other items attributable to the FT Group decreased by £79 million, or 37%, to £132 million in 2001, from £211 million in 2000. The decline was largely due to a fall in advertising-related profits following tough conditions in the advertising market and was partially offset by the strong performance of Interactive Data Corporation business.

        Operating profit before internet enterprises, goodwill amortization and other items attributable to the Penguin Group increased by £1 million, or 1%, to £80 million in 2001, from £79 million in 2000. Operating profits in 2001 included a loss of £7 million for DK compared to a break-even position for the seven months of ownership in 2000.

        Our trading margin, which measures the ratio of our trading profit, which is operating profit excluding income from investments, joint ventures and associates and losses from internet enterprises, to our sales, decreased to 13.6% in 2001, from 16.5% in 2000. This was primarily due to a decline in sales at the FT Group where margins have typically been higher than the overall Group margin.

        In 2001, as it became clear that sales would fall short of expectations, we took action to reduce first our variable costs, such as marketing and investment in new projects, and then our infrastructure costs, including our salary bill. This inevitably meant a reduction in numbers of people employed although we achieved this wherever possible without recourse to compulsory redundancy programs. These cost initiatives mitigated the impact on trading margin of the shortfall in sales, although margins still came under pressure.

Non-operating Items

        Losses before taxation on the sale of fixed assets, investments, businesses and associates was £123 million in 2001 compared to profits of £254 million in 2000. In 2001, the most significant items were £36 million for our share of the loss on sale of the Journal of Commerce by the Economist Group, a loss on the sale of iForum, an internet-based trading company of £27 million, £17 million for our share of the net loss on disposals by the RTL Group and the disposal or closure of various smaller businesses totaling £43 million. In 2001 we also sold FT Energy and received net cash proceeds of £43 million, although there was no significant profit and loss impact as the proceeds were equivalent to the carrying value of the business sold. In 2000, the most significant items were a profit of £231 million on the sale of our interest in the Lazard banking houses, a profit of £86 million on the sale of 20% of our interest in Recoletos and a loss of £63 million on the sale of a number of small businesses.

Amounts Written Off Investments

        In 2001 we wrote off £92 million of our fixed asset investments. There were no such write-offs in 2000. The 2001 charge followed a thorough review of our fixed asset investments, principally in the internet and new media arenas as a result of general economic conditions and stock market declines. We provided £55 million against these investments reflecting the higher of net realizable value and value in use. The biggest items were £17 million for Business.com and £10 million for TimeCruiser. We also reviewed the carrying value of Pearson shares held to secure employee share option plans created at the time of more buoyant stock markets. Following a decline in our share price, we determined that the most appropriate course of action was to write down our investment in own shares to the market price on December 31, 2001 resulting in a charge of £37 million.

Net Finance Costs

        Net finance costs consist primarily of our net interest expense related to our borrowings. Our total net interest payable increased by £12 million, or 8%, to £169 million in 2001, from £157 million in 2000. Our average net debt increased by £375 million from £2,264 million in 2000 to £2,639 million in 2001, while our year end indebtedness increased to £2,379 million in 2001 compared to £2,301 million in 2000. The increase in average net borrowing more than offset the effect of a decrease in our net interest rates during 2001. The weighted average three month LIBOR rate, reflecting our borrowings in US dollars, euro and sterling, fell by 230 basis points, or 2.3%. This decrease was offset by our existing portfolio of interest rate swaps, which converted over half of our variable rate commercial paper and bank debt to a fixed rate basis. As a result, our net interest rate payable averaged approximately 6.4% in 2001, falling only 0.5% from 2000. For a more detailed discussion of our borrowings and interest expenses see "—Liquidity and Capital Resources—Capital Resources" and "—Borrowing" and "Item 11. Quantitative and Qualitative Disclosures About Market Risk".

        Other net finance costs in 2000 included a charge of £16 million in respect of the acceleration of the amortization of an arrangement fee relating to a borrowing facility which was redeemed early and a charge of £8 million in respect of a premium which was paid relating to a forward currency option in connection with the acquisition of NCS. There were no similar items in 2001.

Taxation

        The overall taxation benefit was £67 million in 2001, compared to a charge of £106 million in 2000. In 2001 the Group recorded a total pre-tax loss of £438 million and the tax benefit of £67 million represents an effective rate of 15%. This compares to an effective rate of 37% in 2000. In both 2001 and 2000 only limited taxation relief was available on goodwill amortization and only limited taxation relief was recognized on integration costs and losses from internet enterprises. In 2001, taken together, these items were more significant than they had been in 2000 and there was little or no tax relief available on goodwill impairments and amounts written off investments. The overall taxation on the sale of fixed assets, investments, businesses and associates was a £148 million benefit in 2001 compared to a charge of £48 million in 2000. Included in the tax benefit in 2001 was £143 million attributable to settlement during the year of the tax position on the BSkyB and Tussauds disposals which occurred in 1995 and 1998 respectively. The settlement resulted in the reversal of previously established reserves. The most significant item in 2000 was a profit of £231 million on the sale of our interest in the Lazard banking houses which yielded a relatively low effective taxation rate.

        The effective taxation rate on adjusted earnings, as defined below under "—Earnings Per Ordinary Share", increased from 23% to 24% before internet enterprises and from 26% to 31% after internet enterprises. The increase was mainly attributable to the increase in the overall tax on profits (including those of associates) arising outside the United Kingdom and United States. As in previous years, the main reason for the tax rate on adjusted earnings being lower than might be expected from the UK and US statutory rates, is the continued availability of losses in the US consolidated tax group.

Minority Interests

        Minority interests consist of the public's 21% interest in Recoletos following its initial public offering in September 2000, and the public's 40% interest in Interactive Data Corporation following the combination of our FT Interactive Data business with Interactive Data Corporation in February 2000.

Loss for the Financial Year

        The loss for the financial year after taxation and equity minority interests in 2001 was £391 million compared to a profit in 2000 of £179 million. The decrease of £570 million was in spite of an increase in operating profit from continuing operations before goodwill and integration costs of £12 million. The difference is primarily due to the increase in goodwill amortization in respect of our acquisitions of NCS and DK, the charge for goodwill impairment relating to DK and amounts written off investments and losses on the sale of fixed assets, investments, businesses and associates in 2001 compared to profits in 2000.

Loss Per Ordinary Share

        The loss per ordinary share, which reflect the loss divided by the weighted average number of shares in issue, was 49.2 pence in 2001 compared to earnings per share of 24.6 pence in 2000 based on a weighted average number of shares in issue of 795.4 million in 2001 and 727.7 million in 2000. This decrease in earnings per ordinary share was primarily due to the increase in goodwill amortization in respect of our acquisitions of NCS and DK, the charge for goodwill impairment relating to DK and amounts written off investments and losses on the sale of fixed assets, investments, businesses and associates in 2001 compared to profits on disposal in 2000 partially offset by the effect of the increase in the weighted average number of shares.

        Adjusted earnings per ordinary share decreased to 22.5 pence in 2001 from 31.9 pence in 2000. Adjusted earnings exclude the profits or losses on the sale of fixed assets and investments, businesses and associates, integration costs and goodwill amortization and impairment. Also excluded in 2000 were the accelerated amortization of a financing arrangement fee following the early redemption of a borrowing facility and the premium paid in respect of a forward currency option in connection with the acquisition of NCS.

        Adjusted earnings before internet enterprises per ordinary share decreased to 39.2 pence in 2001 from 54.6 pence in 2000. Adjusted earnings before internet enterprises excludes the above-mentioned items and also excludes the losses arising on internet enterprises.

        In 2001, as the Group made a loss for the financial year, the effect of share options is anti-dilutive and a diluted loss per share is therefore not shown. The diluted earnings per ordinary share was 24.0 pence in 2000. Earnings dilution included the tax benefit on the conversion of certain share options by employees and, after taking into account the effect of dilutive share options, the weighted average number of ordinary shares outstanding was 803.2 million in 2001 and 736.1 million in 2000.

Exchange Rate Fluctuations

        The weakening of sterling against the US dollar on an average basis had a positive impact on reported sales and profits in 2001 compared to 2000. We estimate that if the 2000 average rates had prevailed in 2001, sales would have been lower by £79 million and operating profit would have been lower by £16 million. See "Item 11. Quantitative and Qualitative Disclosures About Market Risk" for a discussion regarding our management of exchange rate risks.

Operating Profit by Division

        The following table summarizes our operating profit by division:

(1)

Discontinued operations contributed £37 million to operating profit before internet enterprises, goodwill amortization, impairment and other items in 2001 and £2 million after those items in 2001. The equivalent figures in 2000 were £76 million and £61 million.

(2)

Percentages not meaningful given the mixture of profits and losses.

Pearson Education

        Pearson Education's sales before internet enterprises increased by £509 million, or 24%, to £2,596 million in 2001 from £2,087 million in 2000, principally due to the full year contribution from NCS of £592 million in 2001 compared to sales of £146 million contributed in 2000 for the period from acquisition in September 2000. Pearson Education's 2001 sales comprised 62% of our total sales,

excluding internet enterprises. Internet enterprises contributed an additional £8 million to Pearson Education's sales in 2001, compared to £3 million for 2000.

        The US School business increased sales by £246 million, or 34%, to £978 million in 2001, from £732 million in 2000. This increase includes assessment and testing revenues from NCS for a full year but also includes increases at Scott Foresman, our elementary school publisher and Prentice Hall School, our secondary school publisher.

        The US College business increased sales by £50 million, or 10%, to £574 million in 2001, from £524 million in 2000. This increase in sales was primarily driven by online investment, with increased revenues generated through bundled textbook and internet programs.

        Sales in the US Professional business increased by £169 million, or 68%, to £417 million in 2001, from £248 million in 2000. This increase in sales was primarily due to the full year contribution from the NCS Pearson data management, government solutions and professional certification operations. Sales from our technology publishing business significantly decreased due to an industry-wide recession.

        The International business increased sales by £28 million, or 5%, to £568 million in 2001, from £540 million in 2000. Growth in our English language training business was offset by a fall in revenues from technology publishing. Our school and college publishing operations in Asia, Europe and South Africa all performed well. In Latin America, particularly in Argentina and Colombia, trading performance was significantly adversely affected by the economic downturn.

        Sales in FT Knowledge increased by £16 million, or 37%, to £59 million in 2001, from £43 million in 2000. This increase in sales was entirely due to the full year contribution from The Forum Corporation following its acquisition in June 2000.

        Pearson Education's operating profit before internet enterprises, goodwill amortization and impairment and other items increased by £31 million, or 10%, to £351 million in 2001, from £320 million in 2000. This increase was due to to the full year contribution from NCS of £63 million in 2001 compared to operating profit of £15 million contributed in 2000 for the period from acquisition in September 2000. As a percentage of sales, Pearson Education's operating profit before internet enterprises, goodwill amortization and impairment and other items decreased to 13.5% in 2001, from 15.3% in 2000. This was due in part to actions we took to write off bad debt and tighten our credit terms in Latin America, as economic conditions in the region worsened. It also reflects the fact that the margins made by NCS Pearson operations were lower than those made by the publishing operations: this is due in part to the investment made during the year in developing a range of new software products.

        Operating profit after internet enterprises, goodwill amortization and impairment and other items decreased by £90 million to a loss of £23 million in 2001, from a £67 million profit in 2000. This decrease was primarily attributable to an increase in goodwill amortization. For a description of our internet enterprises, see "—Internet Enterprises".

FT Group

        Sales in the FT Group before internet enterprises decreased by £52 million, or 6%, to £750 million in 2001, from £802 million in 2000. The decline in sales at the newspaper businesses was principally due to lower advertising revenue. This was partly offset by growth at Interactive Data Corporation where sales were up by £23 million or 12% on 2000 mainly due to increased subscription revenue from asset pricing services. Internet enterprises contributed an additional £51 million to the FT Group's sales in 2001, an increase of £9 million from £42 million of sales in 2000.

        The FT Group's operating profit before internet enterprises, goodwill amortization and other items, decreased by £79 million, or 37%, to £132 million in 2001, from £211 million in 2000, primarily

due to the decrease in advertising revenue following very tough conditions in that market. There were decreases in operating profit at all the FT Group's businesses except Interactive Data Corporation where profits increased by 14%. As a percentage of sales, operating profit before internet enterprises, goodwill amortization and impairment and other items decreased to 17.6% in 2001 from 26.3% in 2000.

        Operating profit after internet enterprises, goodwill amortization and impairment and other items decreased by £43 million, or 96%, to £2 million in 2001 from £45 million in 2000 mainly due to the decrease in operating profit but partially offset by reduced internet losses. As a percentage of sales, operating profit after internet enterprises, goodwill amortization and other items decreased to less than 1% in 2001 from 5.3% in 2000. For a description of our internet enterprises, see "—Internet Enterprises".

        Operating profit before internet enterprises, goodwill amortization and impairment and other items at the Financial Times newspaper decreased by £50 million, or 62%, to £31 million in 2001, from £81 million in 2000. The average daily circulation for the newspaper in December 2001 was 3% higher than the equivalent period in 2000 but the decrease in operating profit was due to the sharp decline in advertising revenues in the later part of 2001. Advertising volumes were down 29% and advertising revenues down by 20%. The effect of the downturn in advertising revenues was only partly offset by a series of measures to cut overhead costs.

        Operating profit before internet enterprises, goodwill amortization and impairment and other items at Interactive Data Corporation increased by £8 million, or 14%, to £67 million in 2001, from £59 million in 2000. The institutional business, which provides asset pricing services to major financial institutions on a subscription basis, accounts for 90% of Interactive Data Corporation revenues and continued to increase sales and profits in 2001.

        Operating profit before internet enterprises, goodwill amortization and impairment and other items at Les Echos Group decreased by £13 million, or 45%, to £16 million in 2001, from £29 million in 2000. This decrease in operating profit was attributable to the decline in advertising revenues as circulation revenues remained consistent in 2001 with 2000.

        Operating profit before internet enterprises, goodwill amortization and impairment and other items at Recoletos decreased by £15 million, or 39%, to £23 million in 2001, from £38 million in 2000. Revenues in 2001 were consistent with 2000 with a decline in advertising revenue being offset by cover price increases and higher circulation revenues. The decrease in operating profit was primarily due to investment by the group in new media channels and new markets in the Spanish-speaking world.

        Operating losses from joint ventures and associates within the FT Group increased by £5 million to an overall loss of £10 million in 2001, from a loss of £5 million in 2000. This decrease in operating profit was primarily due to a reduced contribution from the Economist Group and further losses at Financial Times Deutschland.

The Penguin Group

        Sales at the Penguin Group increased by £65 million, or 9%, to £820 million in 2001, from £755 million in 2000. This increase in sales was partly attributable to the first full year of sales from DK following its acquisition in May 2000. DK sales in 2001 were £146 million compared to £125 million in 2000. Additional sales in 2001 also came from a strong bestseller performance partially offset by a decline in travel books and backlist sales.

        The Penguin Group's operating profit before internet enterprises, goodwill amortization and impairment and other items increased by £1 million, or 1%, to £80 million in 2001, from £79 million in 2000. This increase in operating profit was primarily due to the increase in sales but was offset by losses at DK of £7 million compared to a break-even position for the 7 months of ownership in 2000. Excluding DK, as a percentage of sales, operating profit before internet enterprises, goodwill

amortization and impairment and other items remained roughly consistent in 2001 at 12.9% compared to 12.5% in 2000.

        After internet enterprises, goodwill amortization and impairment and other items, the operating loss for 2001 was £35 million compared to a profit in 2000 of £38 million, due to an increase in goodwill amortization of £6 million, the charge for goodwill impairment of £50 million and an increase in integration costs of £18 million all associated with DK.

        Neither sales nor operating profit at the Penguin Group were affected by our internet enterprises in 2001 or 2000.

Internet Enterprises

        Sales in our internet enterprises increased by £14 million, to £59 million in 2001, from £45 million in 2000. Of the £59 million of sales in 2001, £51 million were in the FT Group and £8 million were in Pearson Education. Internet enterprises sales consist primarily of advertising revenue and expenses consist primarily of marketing costs and salaries. Operating losses in our internet enterprises decreased by £59 million, to £137 million in 2001, from £196 million in 2000. Of the £137 million loss in 2001, £60 million was incurred by the internet enterprises of the FT Group compared to £113 million in 2000, and £77 million was incurred by the internet enterprises of Pearson Education compared to £83 million in 2000. Losses were lower in our internet enterprises as start up costs in 2000 were reduced during 2001 as these enterprises became more fully integrated with their respective businesses. As a result of this increased integration, the identification of internet revenues and costs is becoming more difficult. For 2002 we will be reporting all our results by division after the inclusion of results from internet enterprises.

Discontinued Operations

        On December 24, 2001 we announced our disposal of our 22% stake in RTL. The sale was completed on January 30, 2002 for cash proceeds of E1.5 billion and the results of the Television business have now been shown in discontinued operations. There were no sales for the Television business in 2001 as RTL is included in our results as an associate, rather than a subsidiary. Sales of RTL are not consolidated, rather, only our share of profit before interest, net interest and taxation is reflected in our financial results. In 2000, sales were £185 million due to the contribution from Pearson Television prior to the combination of that business with CLT-UFA to form RTL in July 2000. For more information on this combination, please refer to "Item 4. Information on the Company—Developments in 2001". Television's operating profit before internet enterprises, goodwill amortization and impairment and other items was £37 million in 2001 and £68 million in 2000. The main reason for the decrease in operating profit was the decline in advertising related revenue and profits in 2001. Of the £68 million in operating profit at Television in 2000, £32 million was attributable to the operation of Television prior to the RTL transaction and £36 million was attributable to our share of the RTL operating profit since the RTL transaction. Operating profit after internet enterprises, goodwill amortization and impairment and other items was £2 million in 2001 and £53 million in 2000. The decrease in operating profit resulted from a full year of goodwill amortization related to the RTL transaction as well as the reduced contribution from advertising. Neither sales nor operating profit at Television were affected by our internet enterprises in 2001 or 2000.

        In March 2000, we completed the sale of our interests in the Lazard banking houses group of investment banks to Financière et Industrielle Gaz et Eaux S.A. for £396 million. In addition to this stated purchase price, we received a £40 million dividend. The Lazard banking houses provide corporate finance advice and, to a lesser extent, participate in fee-earning business activities, such as fund management and securities trading. In 2000, our interests in the Lazard banking houses produced an operating profit of £8 million.

Year ended December 31, 2000 compared to year ended December 31, 1999

Consolidated Results of Operations

Sales

        Our total sales increased by £542 million, or 16%, to £3,874 million in 2000, from £3,332 million in 1999. This increase was primarily due to increased sales at each of Pearson Education, the FT Group and the Penguin Group. Acquisitions contributed £354 million to total sales for 2000, the largest of which were DK and NCS. This increase was partially offset by a decrease in sales from the Television division resulting from it being accounted for as an associate investment subsequent to the completion of the RTL transaction in July 2000.

        Pearson Education continued to be our largest business sector in 2000. Sales at Pearson Education accounted for 54% of our total sales in 2000, compared to 52% in 1999. North America continued to be the most significant source of our sales, accounting for 65% of our total sales in 2000, compared to 60% in 1999.

Cost of Sales and Net Operating Expenses

        The following table summarizes our cost of sales and net operating expenses:

(1)

Cost of sales in 2000 includes £211 million attributable to businesses acquired during the year.

(2)

Net operating expenses in 2000 includes £224 million attributable to businesses acquired during the year.

        Cost of Sales.    Cost of sales consists of costs for raw materials, primarily paper, production costs and advances for authors. Our cost of sales increased by £217 million, or 15%, to £1,641 million in 2000, from £1,424 million in 1999. This was in line with our increase in sales over the period, as cost of sales as a percentage of sales was 42% in 2000 and 43% in 1999. In 2000, cost of sales included an exceptional charge of £8 million in respect of the costs of the integration of DK. In 1999, cost of sales included an exceptional charge of £10 million in respect of the costs of the integration of the businesses acquired from Simon & Schuster.

        Distribution Costs.    Distribution costs consist primarily of shipping costs, postage and packing. Our distribution costs increased by £23 million, or 15%, to £180 million in 2000, from £157 million in 1999. Distribution costs were at 5% of sales in both 2000 and 1999.

        Administration and Other Expenses.    Our administration and other expenses increased by £311 million, or 19%, to £1,913 million in 2000, from £1,602 million in 1999. Administration and other

expenses as a percentage of sales increased to 49% in 2000, from 48% in 1999. In 2000, administration and other expenses included an exceptional charge of £32 million in respect of the costs of the integration of DK, NCS and the businesses acquired from Simon & Schuster together with goodwill amortization of £188 million, £118 million of which related to the 1998 acquisition of Simon & Schuster. In 1999, administration and other expenses included an exceptional charge of £85 million in respect of the integration of the businesses acquired from Simon & Schuster, goodwill amortization of £130 million, £116 million of which related to the 1998 acquisition of Simon & Schuster and £5 million related to Year 2000 compliance costs. Excluding the exceptional charges and goodwill amortization in 2000 and 1999, administration and other expenses remained relatively consistent at 44% of sales in 2000 compared to 41% in 1999.

        Goodwill Amortization and Other Items.    Goodwill amortization, including goodwill amortization relating to associates (£51 million in 2000; £1 million in 1999), increased by £108 million to £239 million in 2000, from £131 million in 1999, primarily due to goodwill resulting from the acquisitions of DK, Family Education Network and NCS in 2000, the acquisition of a controlling interest in Interactive Data Corporation in February 2000 and the RTL transaction in July 2000. Goodwill is amortized over its estimated useful life, not exceeding 20 years, and thus this charge is expected to continue for the foreseeable future. Other items decreased by £60 million, or 60%, to £40 million in 2000, from £100 million in 1999. During 2000, other items comprise a £27 million charge in respect of the integration of DK which was acquired in May 2000, a £4 million charge in respect of the integration of NCS which was acquired in September 2000 and a £9 million charge in respect of the integration of the businesses acquired from Simon & Schuster in November 1998. The charge in respect of the Simon & Schuster acquisition decreased by £86 million, or 91%, to £9 million in 2000, from £95 million in 1999. In addition, in 1999 other items included a £5 million charge in respect of Year 2000 compliance costs.

        Other Operating Income.    Other operating income decreased to £82 million in 2000 from £98 million in 1999 due primarily to reduced rights and royalty income at Television as a result of it being accounted for as an associate investment subsequent to the completion of the RTL transaction in July 2000.

Operating Profit

        Our total operating profit decreased by £107 million, or 34%, to £211 million in 2000, from £318 million in 1999. This decrease was due to the increase in the investment in internet enterprises from £39 million in 1999 to £196 million in 2000. However, our operating profit before internet enterprises, goodwill amortization and other items increased by £98 million, or 17%, to £686 million in 2000, from £588 million in 1999. This increase was primarily due to increased profit realized at Pearson Education, the FT Group and the Penguin Group.

        Operating profit before internet enterprises, goodwill amortization and other items attributable to Pearson Education increased by £63 million, or 25%, to £320 million in 2000, from £257 million in 1999, primarily due to increased profit realized in US School, US Higher Education and Professional and International and the acquisition of NCS in September 2000 which contributed operating profit of £15 million.

        Operating profit before internet enterprises, goodwill amortization and other items attributable to the FT Group increased by £61 million, or 41%, to £211 million in 2000, from £150 million in 1999, primarily due to increases in circulation and advertising at the Financial Times and Les Echos newspapers and increases at FT Interactive Data due to its combination with Interactive Data Corporation in February 2000.

        Operating profit before internet enterprises, goodwill amortization and other items attributable to the Penguin Group increased by £14 million, or 22%, to £79 million in 2000, from £65 million in 1999, primarily due to a number of new and established authors reaching the best-seller lists.

        Our trading margin, which measures the ratio of our trading profit, which is operating profit excluding income from investments, joint ventures and associates and losses from internet enterprises, to our sales, increased to 16.5% in 2000, from 15.2% in 1999. This was primarily due to our continued effort to decrease overall costs as a percentage of sales.

Non-operating Items

        Profit before taxation on the sale of fixed assets, investments, businesses and associates was £254 million in 2000 compared to £306 million in 1999. Taxation on these items was £48 million in 2000 and £85 million in 1999. In 2000, the most significant items were a profit of £231 million on the sale of our interest in the Lazard banking houses, a profit of £86 million on the sale of 20% of our interest in Recoletos and a loss of £63 million on the sale of a number of small businesses. In 1999, the most significant items were a profit of £345 million on the sale of our interest in BSB Holdings Ltd and a loss of £19 million on the sale of our Extel research products business.

Net Finance Costs

        Net finance costs consist primarily of our net interest expenses related to borrowings. Our total net interest payable increased by £10 million, or 7%, to £157 million in 2000, from £147 million in 1999. Our average net debt remained largely constant from 1999 to 2000, while our year end indebtedness increased to £2,301 million in 2000 compared to £1,995 million in 1999. The increase in interest expense followed a general rise in interest rates during the year. The weighted three month LIBOR, reflecting our borrowings in US dollars, euro and sterling, rose by 110 basis points, or 1.1%. The effect of these rises was mitigated by our existing portfolio of interest rate swaps, which converted over half of our variable rate commercial paper and bank debt to a fixed rate basis. As a result, our net interest rate payable averaged approximately 6.9%, rising 0.5% from 1999. For a more detailed discussion of our borrowings and interest expenses see "—Liquidity and Capital Resources—Capital Resources" and "—Borrowing" and "Item 11. Quantitative and Qualitative Disclosures About Market Risk".

        Other net finance costs in 2000 include a charge of £16 million in respect of the acceleration of the amortization of an arrangement fee relating to a borrowing facility which was redeemed early and a charge of £8 million in respect of a premium which was paid relating to a forward currency option in connection with the acquisition of NCS.

Taxation

        The taxation charge was £106 million in 2000, compared to £177 million in 1999. The taxation charge was 37.3% of profit before taxation in 2000, compared to 37.1% in 1999. In both 2000 and 1999 only limited taxation relief was available on goodwill amortization and only limited taxation relief was recognized on the DK, NCS and Simon & Schuster integration costs. In addition, in 2000 only limited taxation relief was recognized on the increased losses from internet enterprises. The overall taxation rate on the sale of fixed assets, investments, businesses and associates decreased to 18.9% in 2000, from 27.8% in 1999. The most significant item was a profit of £231 million on the sale of our interest in the Lazard banking houses which yielded a relatively low effective taxation rate.

        The taxation rate on adjusted earnings, as defined below under "—Earnings Per Ordinary Share", fell to 23% in 2000 from 25% in 1999. The difference of 7% between the 30% UK statutory taxation rate in 2000 and the 23% effective taxation rate on adjusted earnings in 2000 was primarily due to the availability of tax losses in the United States. The difference of 5.25% between the 30.25% UK statutory taxation rate in 1999 and the 25% effective taxation rate on adjusted earnings in 1999, was

again primarily due to the availability of tax losses in the United States. The benefit of the US losses in 2000 was slightly offset by higher taxation rates in countries other than the United Kingdom and the United States and by the acquisition of a controlling interest in Interactive Data Corporation in 2000, whose profits are not covered by our tax losses.

Minority Interests

        Minority interests consist of the public's 21% interest in Recoletos following its initial public offering in September 2000, and the public's 40% interest in Interactive Data Corporation following the combination of our FT Interactive Data business with Interactive Data Corporation in February 2000. Minority interests were not significant in 1999.

Profit for the Financial Year

        Profit for the financial year after taxation and equity minority interests decreased by £115 million, or 39%, to £179 million in 2000, from £294 million in 1999, primarily due to the increase in internet enterprises losses, the increase in goodwill amortization and the decrease in profits on the sale of fixed assets, investments, businesses and associates.

Earnings Per Ordinary Share

        Earnings per ordinary share, which reflect earnings divided by the weighted average number of shares in issue, decreased to 24.6 pence in 2000 from 43.0 pence in 1999 based on a weighted average number of shares of 727.7 million in 2000 and 683.4 million in 1999. The weighted average number of shares in 1999 has been restated to reflect an offering of ordinary shares through a rights issue during 2000 to finance the NCS acquisition. This decrease in earnings per ordinary share was primarily due to the increase in internet enterprises losses, the increase in goodwill amortization and the decrease in profits on the sale of fixed assets, investments, businesses and associates.

        Adjusted earnings per ordinary share decreased to 31.9 pence in 2000 from 43.3 pence in 1999. Adjusted earnings exclude the profits or losses on the sale of fixed assets and investments, businesses and associates. Also excluded are Year 2000 compliance costs, integration costs in respect of the acquisitions of Simon & Schuster, DK and NCS, the accelerated amortization of a financing arrangement fee following the early redemption of a borrowing facility, the premium paid in respect of a forward currency option in connection with the acquisition of NCS and goodwill amortization.

        Adjusted earnings before internet enterprises per ordinary share increased to 54.6 pence in 2000 from 47.6 pence in 1999. Adjusted earnings before internet enterprises excludes the above-mentioned items and also excludes the losses arising on internet enterprises.

        Diluted earnings per ordinary share decreased to 24.0 pence in 2000 from 42.4 pence in 1999 primarily due to the increase in internet enterprises losses, the increase in goodwill amortization and the decrease in profits on the sale of fixed assets, investments, businesses and associates. Earnings dilution included the tax benefit on the conversion of certain share options by employees and, after taking into account the effect of dilutive share options, the weighted average number of ordinary shares applicable was 736.1 million in 2000 and 691.2 million in 1999.

Exchange Rate Fluctuations

        The weakening of sterling against the US dollar on an average basis had a positive impact on reported sales and profits in 2000 compared to 1999. We estimate that if the 1999 average rates had prevailed in 2000, sales would have been lower by £125 million and operating profit would have been lower by £20 million. See "Item 11. Quantitative and Qualitative Disclosures About Market Risk" for a discussion regarding our management of exchange rate risks.

Operating Profit by Division

        The following table summarizes our operating profit by division:

Pearson Education

        Pearson Education's operating profit before internet enterprises, goodwill amortization and other items increased by £63 million, or 25%, to £320 million in 2000, from £257 million in 1999. This increase was primarily due to an increase in sales. As a percentage of sales, Pearson Education's operating profit before internet enterprises, goodwill amortization and other items increased to 15.3% in 2000, from 14.9% in 1999 due to improved operating efficiencies.

        Operating profit after internet enterprises, goodwill amortization and other items increased by £31 million, or 86%, to £67 million in 2000, from £36 million in 1999. This increase was attributable to an increase in sales and lower integration costs, partially offset by an increase in goodwill amortization and internet enterprises costs. Pearson Education's operating profit after internet enterprises, goodwill amortization and other items, as a percentage of sales, increased to 3.2% in 2000, from 2.1% in 1999 due to improved operating efficiencies and lower integration costs, partially offset by an increase in goodwill amortization and internet enterprises costs. For a description of our internet enterprises, see "—Internet Enterprises".

        Pearson Education's sales before internet enterprises increased by £362 million, or 21%, to £2,087 million in 2000 from £1,725 million in 1999, principally due to increases in sales in US School, US Higher Education and Professional and International, together with the acquisition of NCS in September 2000 contributed sales of £146 million. Pearson Education's 2000 sales comprised 55% of our total sales, excluding internet enterprises. Internet enterprises contributed an additional £3 million to Pearson Education's sales in 2000, compared to zero for 1999.

        The US School business increased sales by £136 million, or 23%, to £722 million in 2000, from £586 million in 1999. This increase in sales was primarily due to a gain in market share by the science and reading programs during 2000 as well as the continued success of our math program and the acquisition of NCS in September 2000.

        The US Higher Education and Professional business increased sales by £113 million, or 17%, to £779 million in 2000, from £666 million in 1999. This increase in sales was primarily due to increases in the college publishing operations in math, computer sciences, history and developmental English and the acquisition of NCS in September 2000.

        Sales in the International business increased by £94 million, or 21%, to £540 million in 2000, from £446 million in 1999. This increase in sales was primarily due to increased sales in Latin America and of our English language teaching materials.

        Sales in FT Knowledge increased by £24 million, or 126%, to £43 million in 2000, from £19 million in 1999. This increase in sales was primarily due to the acquisition of The Forum Corporation in June 2000.

FT Group

        Sales in the FT Group before internet enterprises increased by £122 million, or 18%, to £802 million in 2000, from £680 million in 1999. Internet enterprises contributed an additional £42 million to the FT Group's sales in 2000, an increase of £35 million from £7 million of sales in 1999.

        The FT Group's operating profit before internet enterprises, goodwill amortization and other items, increased by £61 million, or 41%, to £211 million in 2000, from £150 million in 1999, primarily due to increased operating profit at the Financial Times and Les Echosnewspapers, and increases at FT Interactive Data due to the inclusion of a full year's results of the Thompson Financial Securities business, which was acquired in July 1999, and FT Interactive Data's combination with Interactive Data Corporation in February 2000. As a percentage of sales, operating profit before internet enterprises, goodwill amortization and other items increased to 26.3% in 2000 from 22.1% in 1999.

        Operating profit after internet enterprises, goodwill amortization and other items decreased by £58 million, or 56%, to £45 million in 2000 from £103 million in 1999. As a percentage of sales, operating profit after internet enterprises, goodwill amortization and other items decreased to 5.3% in 2000 from 15.0% in 1999. For a description of our internet enterprises, see "—Internet Enterprises".

        Operating profit before internet enterprises, goodwill amortization and other items at the Financial Times newspaper increased by £25 million, or 45%, to £81 million in 2000, from £56 million in 1999. This increase in operating profit was partly attributable to an increase in circulation levels. The average daily circulation in December 2000 was 10% higher than the equivalent period in 1999. This increase was also partly attributable to advertising revenues, which increased by 34% in 2000. Advertising volume was generally high in 2000 for business newspapers as a result of the robust economy.

        Operating profit before internet enterprises, goodwill amortization and other items at FT Interactive Data increased by £28 million, or 90%, to £59 million in 2000, from £31 million in 1999. This increase in operating profit was primarily due to the inclusion of a full year's results of the Thompson Financial Securities business, which was acquired in July 1999, and the combination of FT Interactive Data with Interactive Data Corporation in February 2000.

        Operating profit before internet enterprises, goodwill amortization and other items at Les Echos Group increased by £11 million, or 61%, to £29 million in 2000, from £18 million in 1999. This increase in operating profit was partly attributable to a 5% increase in circulation at the newspaper, and partly attributable to a 37% increase in advertising revenues at the newspaper in 2000.

        Operating profit at Recoletos increased by £4 million, or 12%, to £38 million in 2000, from £34 million in 1999. This increase in operating profit was primarily due to a 16% increase in advertising revenues at Marca in 2000.

        Operating profit from joint ventures and associates within the FT Group decreased by £17 million to a loss of £5 million in 2000, from a profit of £12 million in 1999. This decrease in operating profit was primarily due to the start-up costs of Financial Times Deutschland.

The Penguin Group

        Sales at the Penguin Group increased by £190 million, or 34%, to £755 million in 2000, from £565 million in 1999. This increase in sales was partly attributable to the acquisition of DK in May 2000 which contributed sales of £125 million in 2000 and partly attributable to a number of new and established authors reaching the best-seller lists in both the United Kingdom and the United States.

        The Penguin Group's operating profit before internet enterprises, goodwill amortization and other items increased by £14 million, or 22%, to £79 million in 2000, from £65 million in 1999. This increase in operating profit was primarily due to a number of new and established authors reaching the best-seller lists in both the United Kingdom and the United States. Excluding DK, as a percentage of sales, operating profit before internet enterprises, goodwill amortization and other items increased to 12.5% in 2000, from 11.5% in 1999, due to improved operating efficiencies.

        After internet enterprises, goodwill amortization and other items, operating profit decreased to £38 million, or 5.0% of sales, in 2000, from £64 million, or 11.3% of sales, in 1999, due to an increase in goodwill amortization and integration costs, each of which related to the DK acquisition.

        Neither sales nor operating profit at the Penguin Group were affected by our internet enterprises in 2000 or 1999.

Internet Enterprises

        Sales in our internet enterprises increased by £38 million, to £45 million in 2000, from £7 million in 1999. Of the £45 million of sales in 2000, £42 million were in the FT Group and £3 million were in Pearson Education. Internet enterprises sales consist primarily of advertising revenue and expenses consist primarily of marketing costs and salaries. Operating losses in our internet enterprises increased by £157 million, to £196 million in 2000, from £39 million in 1999. Of the £196 million loss in 2000, £113 million was incurred by the internet enterprises of the FT Group compared to £36 million in 1999, and £83 million was incurred by the internet enterprises of Pearson Education compared to £3 million in 1999. We expect Pearson Education's internet enterprises to account for a higher percentage of operating losses resulting from internet enterprises in the future as we continue our investment in the internet enterprises of Pearson Education. We expect our internet enterprises to incur significant operating losses in the foreseeable future as we continue to invest in them. While we cannot predict the magnitude of these operating losses with any specificity, our continued investment in our internet enterprises will result in a decrease in our consolidated operating profit.

Discontinued Operations

        On December 24, 2001 we announced our disposal of our 22% stake in the RTL Group. This sale was completed on January 30, 2002 for cash proceeds of E1.5 billion and the results of the Television business have now been shown in discontinued operations.

        Sales at Television decreased by £170 million, or 48%, to £185 million in 2000, from £355 million in 1999 due to the combination of Pearson Television with CLT-UFA to form RTL in July 2000. Following the completion of this transaction we accounted for our interest in the combined entity as an associate, rather than a subsidiary. Sales of RTL were not consolidated, rather, only our share of profit before interest, net interest and taxation is reflected in our financial results. Television's operating profit before internet enterprises, goodwill amortization and other items was £68 million in each of 2000 and 1999. Of the £68 million in operating profit at Television in 2000, £32 million was attributable to the operation of Television prior to the RTL transaction and £36 million was attributable to our share of the RTL operating profit since the RTL transaction. Operating profit after internet enterprises, goodwill amortization and other items was £53 million in 2000 and £67 million in 1999. The decrease in

operating profit resulted from goodwill amortization related to the RTL transaction. Neither sales nor operating profit at Television were affected by our internet enterprises in 2000 or 1999.

        In March 2000, we completed the sale of our interests in the Lazard banking houses group of investment banks to Financière et Industrielle Gaz et Eaux S.A. for £396 million. In addition to this stated purchase price, we received a £40 million dividend. The Lazard banking houses provide corporate finance advice and, to a lesser extent, participate in fee-earning business activities, such as fund management and securities trading. In 2000, our interests in the Lazard banking houses produced an operating profit of £8 million and in 1999 our interests in the Lazard banking houses produced an operating profit of £48 million.

Liquidity and Capital Resources

Cash flows and financing during 2001

        Net cash inflow from operating activities increased by £129 million, or 36%, to £490 million in 2001, from £361 million in 2000. The main reason for this increase was a decrease in cash required for working capital in 2001 with less cash being invested in inventory levels and a reduction in the level of receivables and a reduction in net cash used in our internet enterprises. The cash outflow from internet enterprises was £116 million in 2001 compared to £198 million in 2000 as the level of investment in these businesses has reduced.

        We generally made capital expenditures to replace or upgrade existing equipment, but our 2001 capital expenditures also included continued costs associated with a warehousing integration program at Pearson Education and the capital costs of consolidating various of our UK offices on one site at the Strand in London. Capital expenditures increased by £26 million, or 19%, to £165 million in 2001, from £139 million in 2000. The purchase of investments accounted for a cash outflow of £35 million in 2001, compared to £132 million in 2000. Of the cash outflow for investments, we paid £11 million for equity shares in Pearson plc compared to £71 million in 2000. These shares are being held to meet obligations under various executive and employee share plans.

        The acquisition of businesses accounted for a cash outflow of £128 million in 2001, compared to £2,276 million in 2000. The principal acquisitions in 2000 were the purchase of DK for £317 million and the purchase of NCS for £1,709 million. There were no sizeable acquisitions in 2001 and the largest cash outflow in 2001 was a £30 million payment of deferred consideration related to our acquisition of Forum in 1999. The sale of businesses contributed a net cash inflow of £41 million in 2001, compared to £158 million in 2000. Virtually all of the proceeds in 2001 relate to FT Energy whilst the primary source of cash inflow from the sale of businesses in 2000 was the disposal of 20% of Recoletos for £170 million. The sale of associates contributed a cash inflow of £1 million in 2001, compared to £392 million in 2000. The primary source of cash inflow from the sale of associates in 2000 was the disposal of the Lazard banking houses for £396 million (before expenses).

        The issue of equity share capital, in connection with the exercise of share options, accounted for a cash inflow of £20 million in 2001, compared to £1,959 million in 2000. The cash inflow in 2000 includes cash from the issue of equity share capital following the rights issue of equity shares to finance the NCS acquisition.

        Net interest paid decreased to £156 million in 2001, from £163 million in 2000, The 2000 cash outflow includes the one off payment in respect of a premium relating to a forward currency option in connection with the acquisition of NCS. Although the average level of debt rose in 2001 this was offset by decreases in interest rates.

Capital Resources

        We believe that available funds and the cash flows expected to be generated from operations will be adequate to satisfy our current and planned operations and needs for at least the next 12 months. Our ability to expand and grow our business in accordance with current plans, and to meet long-term capital requirements beyond this 12-month period will depend on many factors, including the rate, if any, at which our cash flow increases and the availability of public and private debt and equity financing, including our ability to secure bank lines of credit. We cannot be certain that additional financing, if required, will be available on terms favorable to us, if at all.

        At December 31, 2001, our net debt was £2,379 million compared to net debt of £2,301 million at December 31, 2000. Net debt is defined as all short-term, medium-term and long-term borrowing, less all cash and liquid resources. Liquid resources comprise short-term deposits of less than one year and investments that are readily realizable and held on a short-term basis. Short-term, medium-term and long-term borrowing amounted to £2,772 million at December 31, 2001, compared to £2,817 million at December 31, 2000. At December 31, 2001, cash and liquid resources were £393 million, compared to £516 million at December 31, 2000. In April 2001, we issued E250 million of bonds due in 2003 and in June 2001 we issued $500 million of notes due in 2011.

        The following tables summarize the maturity of our borrowings and our obligations under non-cancelable operating leases.

Borrowings

        Our borrowings fluctuate by season due to the effect of the school year on the working capital requirements of the educational book business. Assuming no acquisitions or disposals, our maximum level of net debt normally occurs in July, and our minimum level of net debt normally occurs in December.

        In July 2000, we negotiated a $2.5 billion credit facility with a group of international banks. The credit facility refinanced all existing committed bank debt. The credit facility is a term revolving credit facility which matures in July 2005. At December 31, 2001, approximately $1,700 million was available under this facility. This included allocations to refinance short-term borrowings not directly drawn under the facility. Since December 31, 2001, following the receipt of proceeds from the RTL disposal, the company has cancelled part of the credit facility and the facility is now $1,850 million. The credit facility contains two key covenants measured for each 12 month period ending June 30 and December 31:

        We must maintain the ratio of our profit before interest and tax to our net interest payable at no less than 3:1; and

        We must maintain the ratio of our net debt to our EBITDA, which we explain below, at no more than 4:1.

        The covenants provide for the exclusion from the ratio calculations of specified amounts of internet related expenditures. "EBITDA" refers to earnings before interest, taxes, depreciation and amortization. We are currently in compliance with these covenants.

Treasury Policy

        We hold financial instruments for two principal purposes: to finance our operations and to manage the interest rate and currency risks arising from our operations and from our sources of financing.

        We finance our operations by a mixture of cash flows from operations, short-term borrowings from banks and commercial paper markets, and longer term loans from banks and capital markets. We borrow principally in US dollars, sterling and euro at both floating and fixed rates of interest, using derivatives where appropriate to generate the desired effective currency profile and interest rate basis. The derivatives used for this purpose are principally interest rate swaps, interest rate caps and collars, currency swaps and forward foreign exchange contracts. For a more detailed discussion of our borrowing and use of derivatives, see "Item 11. Quantitative and Qualitative Disclosures About Market Risk".

Related Parties

        There were no significant or unusual related party transactions. Refer to note 31 of the financial statements.

European Monetary Union

        Our businesses in continental Europe have found that the euro has simplified trading, while presenting little or no operational or competitive difficulty. All UK operations have contingency plans in the event that the UK decides to join the euro-zone. The financial costs of preparations for the euro have not been material to us.

Accounting Principles

        The following summarizes the principal differences between UK GAAP and US GAAP in respect of our financial statements. See Note 35 to our consolidated financial statements appearing elsewhere in this Annual Report.

        Prior to January 1, 1998, under UK GAAP, goodwill was written off to the profit and loss reserve in the year of acquisition. Under US GAAP, as well as UK GAAP from January 1, 1998, goodwill is recognized as an asset and amortization expense is recorded over useful lives ranging between 3 and 20 years. Under US GAAP, goodwill arising from acquisitions completed subsequent to 1 July 2001 is no longer amortized, however it is tested for impairment at the reporting unit level at least annually or more frequently when a triggering event occurs. Intangible assets under UK GAAP are recognized only when they may be disposed of without also disposing of the business to which they relate, and for that reason it is rare that intangible assets are separately identified and recorded apart from goodwill. Under US GAAP, there is no similar requirement with respect to intangible assets, and they should be recognized separately from goodwill when they are separately identifiable and measurable. Under US GAAP, intangible assets such as publishing rights, non-compete agreements, software, databases, patents and advertising relationships have been recognized and are being amortized over a range of useful lives between two and 16 years. The difference in goodwill and intangible assets also creates a difference in the gain or loss recognized on the disposal of a business due to amortization expense taken with respect to the goodwill and intangible assets, as UK GAAP requires that goodwill which had

not been capitalized and amortized be removed from the profit and loss reserve upon disposal and factored into the gain or loss on disposal calculation.

        Under UK GAAP, the liability method is used in recording deferred taxation, and consideration is given to whether or not the liability will be realized within the foreseeable future. This can result in the full potential liability not being recognized. Deferred tax assets are rarely recognized under UK GAAP. Under US GAAP, the full provision method is used, meaning that all deferred tax assets and liabilities are recorded. An assessment is then made with respect to whether the deferred tax assets are realizable, and a determination is made as to whether a valuation allowance is necessary with respect to the deferred tax assets. The principal differences we recognize relate to deferred tax assets in the United States.

        In February 2000 we combined our asset valuation business with Interactive Data Corporation, retaining a 60% share in the combined business. Under UK GAAP this was treated as one transaction, resulting in no net gain or loss, while under US GAAP it was treated as a disposal of the asset valuation business in exchange for an interest in Interactive Data Corporation. In July 2000 we combined our television business with CLT-UFA and retained a 22% shareholding in the combined business, RTL. Under UK GAAP this was treated as one transaction, resulting in no net gain or loss, while under US GAAP it was treated as a disposal of the Pearson Television business in exchange for an interest in RTL. This disposal gave rise to a gain under US GAAP of £1.3 billion in 2000 and a corresponding difference in capitalized goodwill compared to the goodwill recognized under UK GAAP. The disposal of our stake in RTL was announced on December 24, 2001 and the sale was completed on January 30, 2002 for E1.5 billion. Under UK GAAP the sale is expected to give rise to a small gain in 2002 and no entries have been booked in the 2001 financial statements relating to the disposal. Under US GAAP the sale will realize a loss of £985 million principally due to the higher value of goodwill capitalized in 2000. This loss has been recognized under US GAAP in 2001.

        Under UK GAAP, there are no specific criteria which must be fulfilled in order to record derivative contracts such as interest rate swaps, currency swaps and forward currency contracts as a hedging instrument. Accordingly, based upon our intention and stated policy with respect to entering into derivative transactions, they have been recorded as hedging instruments for UK GAAP. This means that unrealized gains and losses on these instruments are typically deferred and recognized when realized. We have adopted FAS 133, "Accounting for Derivative Instruments and Hedging Activities". Under US GAAP, our derivative contracts do not meet the prescriptive criteria for hedge accounting, and have been recorded at market value at each period end, with changes in their fair value being recorded in the profit and loss account.

        Under UK GAAP, the cost of providing pension benefits is expensed over the average expected useful service lives of eligible employees, using long-term actuarial assumptions. Under US GAAP, the annual pension costs comprise the estimated cost of benefits accruing in the period, and actuarial assumptions are adjusted annually to reflect current market and economic conditions. Additionally, under US GAAP, part of the surplus, which is the excess of plan assets over plan liabilities, is recognized on the balance sheet. The remainder of the unrecognized surplus is spread over the employees' remaining service lifetimes.

        Under UK GAAP, no compensation costs associated with non-qualified stock option plans are recognized if the value of the option at the date of grant is equal to or greater than the market value on that date. Under US GAAP, we have adopted the fair value method of accounting for options. Compensation expense is determined based upon the fair value at the grant date, and has been estimated using the Black Scholes model. Compensation cost is recognized over the service life of the awards, which is normally equal to the vesting period. Compensation expense is also recognized under US GAAP with respect to UK qualified non-compensatory plans, such as the Save as You Earn option

plan and the Worldwide Save for Shares plan, as these plans offer employees a discount of greater than 15% from market value at the date of grant.

        For a further explanation of the differences between UK GAAP and US GAAP see Note 35 to the consolidated financial statements.

Recent U.S. Accounting pronouncements

        In July 2001, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS") No. 141, "Business Combinations", and SFAS No. 142, "Goodwill and Other Intangible Assets". SFAS No. 141 requires the purchase method of accounting to be used for all business combinations initiated after June 30, 2001 and establishes specific criteria for the recognition of intangible assets separately from goodwill. In the event that we acquire goodwill subsequent to June 30, 2001 it will not be amortized. SFAS No. 142 addresses the initial recognition and measurement of intangible assets acquired outside of a business combination and the accounting for goodwill and other intangible assets subsequent to their acquisition. SFAS No. 142 provides that goodwill and intangible assets, which have indefinite useful lives, will not be amortized but rather will be tested at least annually for impairment. It also provides that intangible assets that have finite useful lives be amortized. Under the provisions of SFAS No. 142, any impairment loss identified upon adoption of this standard is recognized as a cumulative effect of a change in accounting principle. Any impairment loss incurred subsequent to initial adoption of SFAS No. 142 is recorded as a charge to current period earnings. We adopted SFAS No. 142 beginning January 1, 2002 and at that time stopped amortizing goodwill that resulted from business combinations completed prior to the adoption of SFAS No. 141. We are currently evaluating the financial impact of adopting these pronouncements. Goodwill amortization of £350 million, £219 million and £172 million was recorded in 2001, 2000 and 1999 respectively.

        In October 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets." SFAS No. 144 eliminates the requirement for discontinued operations to be measured on a net realizable value basis and future operating losses to be recognized before they occur. Instead, it requires that assets held for sale be valued at the lower of carrying amount or fair value less costs to sell. SFAS 144 extends the reporting requirements for discontinued operations to certain components of an entity. Under the provisions of SFAS No. 144, spin-offs and exchanges of similar productive assets are required to be recorded at the lower of carrying value of fair value and such assets classified as held and used until they are disposed of. Any resultant impairment loss is required to be recognized when asset is disposed of. For assets that are grouped when an entity is developing estimates of future cash flows. SFAS No. 144 requires that the remaining useful life of the "primary asset" be used for the entire group. In addition SFAS No. 144 permits the use of a probability-weighted approach in developing estimates of future cash flows used to test for recoverability and in estimating fair value. We adopted SFAS No. 144 beginning in January 1, 2002 and are currently evaluating the impact of adopting this pronouncement.

        In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement Obligations." SFAS No. 143, which is effective for fiscal years beginning after June 15, 2002, addresses financial accounting and reporting for obligations associated with the retirement of tangible long-lived assets and the associated asset retirement costs. It applies to legal obligations associated with the retirement of long-lived assets that result from the acquisition, construction, development and (or) the normal operation of a long-lived asset, except for certain obligations of lessees. As used in SFAS No. 143, a legal obligation is an obligation that a party is required to settle as a result of an existing or enacted law, statute, ordinance, or written or oral contract or by legal construction of a contract under the doctrine of promissory estoppel. While we are not yet required to adopt SFAS No. 143, we believe the adoption will not have a material effect on our financial condition or results of operations.

        On May 1, 2002 the FASB issued SFAS No. 145, "Recession of FASB Statements No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical corrections". Upon adoption and in accordance with this statement, we will no longer record gains and losses on debt extinguishments as extraordinary items. We will reclassify prior period gains and losses on debt extinguishments, originally recorded as extraordinary items, and future debt extinguishments, if any, as gains or losses in determining income from operations. We intend to adopt SFAS No. 145 for the 2003 financial year.

Recent UK Accounting pronouncements

        In November 2000 the Accounting Standards Board ("ASB") issued Financial Reporting Standard ("FRS") 17, Retirement Benefits. FRS 17 approaches pension cost accounting from a balance sheet perspective with the net surplus or deficit in our defined benefit pension schemes being recognised on the balance sheet. Annual changes in the surplus or deficit flow through the profit and loss account and the statement of recognised gains and losses. In 2001 we adopted the transitional requirements of FRS 17 and have disclosed the effect on the closing balance sheet in note 11 to our consolidated financial statements included in this Annual Report. At the end of 2002 we will disclose the effect on both the profit and loss account and balance sheet in a note to the financial statements. We will fully adopt FRS 17 for the 2003 financial year.

        In December 2000 the ASB issued FRS18 Accounting Policies. FRS 18 requires companies to consider the selection, application and disclosure of appropriate accounting policies. We adopted this standard in 2001 and have consequently carried out a review of all our accounting policies in line with the requirements of the standard. We believe that our policies are the most appropriate and have been consistently applied and our review did not give rise to any amendments that affected the 2001 results.

        In December 2000 the ASB issued FRS19 Deferred Tax. FRS 19 requires deferred tax to be recognised in respect of all timing differences except those which are permanent, which have originated but not reversed at the balance sheet date. It also requires companies to explain, by way of reconciliation, the differences between their effective current tax rates and the standard rate of current tax. Currently the tax benefit of US tax losses is accounted for as the tax losses are utilised. Under FRS 19 this benefit will no longer arise, and hence we expect our effective tax rate to increase. We will adopt FRS 19 in 2002.

Item 6. Directors, Senior Management and Employees

Directors and Senior Management

        We are managed by our board of directors and, under the direction of the board, by the Pearson Management Committee. We refer to the executive director members of the board of directors, the chairman of the board of directors and the chief executives of each of the three operating divisions as our "senior management".

        The following table sets forth information concerning each of our directors and members of senior management, as of May 14, 2002.

(1)

Effective June 1, 2002, John Makinson will replace David Wan as Chief Executive of the Penguin Group and Rona Fairhead will replace John Makinson as Finance Director.

(2)

Effective June 1, 2002, Rona Fairhead and Peter Jovanovich will become Directors.

        Dennis Stevenson has been a non-executive director since 1986 and became executive chairman in 1997. He is a member of our treasury committee. He is also chairman of HBOS plc and a non-executive director of Manpower Inc. in the US.

        Marjorie Scardino joined the board and became chief executive in January 1997. She trained and practiced as a lawyer for nine years from 1976 to 1985, and published a weekly newspaper in the United States for seven years from 1978 to 1985. In 1985, she joined The Economist Group as president of its North American operations and was its chief executive from 1993 until joining us. She is also a non-executive director of Nokia Corporation.

        David Bell became a director in March 1996. He is chairman of the FT Group, having been chief executive of the Financial Times from 1993 to 1998. In July 1998, he was appointed our director for people with responsibility for the recruitment, motivation, development and reward of employees across the Pearson Group. He is also a non-executive director of VITEC Group plc and Zen Research plc and chairman of the Millennium Bridge Trust.

        John Makinson became chairman and chief executive officer of the Penguin Group in June 2002. He served as finance director from March 1996 until June 2002. From 1994 to 1996 he was managing director of the Financial Times, and prior to that he founded and managed the investor relations firm Makinson Cowell. He is also a non-executive director of George Weston Limited in Canada. He is a member of our treasury committee.

        Rona Fairhead became a director and finance director in June 2002. She has served as deputy finance director since October 2001. From 1996 until 2001, she worked at ICI, where she served as executive vice president, group control and strategy, and a member of the executive committee since 1998. Prior to that, she worked for Bombardier Inc in finance, strategy and operational roles.

        Peter Jovanovich became chairman and chief executive of Addison Wesley Longman in 1997. In 1998, following the Simon & Schuster acquisition, he became chief executive of Pearson Education. He also serves on the board of the Association of American Publishers and the board of the Alfred

Harcourt Foundation. Prior to that he was president of McGraw-Hill's Educational and Professional Publishing Group from 1995 to 1997, and its chairman in 1997.

        Terry Burns became a non-executive director in 1999 and currently serves on our audit and personnel committees. He was the UK government's chief economic advisor from 1980 until 1991 and Permanent Secretary of HM Treasury from 1991 until 1998. He is non-executive chairman of Abbey National plc and Glas Cymru Limited and a non-executive director of The British Land Company PLC.

        Patrick Cescau became a non-executive director in April 2002 and was reappointed by the shareholders at the company's Annual General Meeting on April 26, 2002. He joined Unilever in 1973 and served as finance director until January 2001, at which time he was appointed to his current position as Director of Unilever's Foods Division. He is a director of Unilever plc and Unilever NV.

        Reuben Mark became a non-executive director in 1988 and currently serves on our audit and personnel committees. He became chief executive of the Colgate Palmolive Company in 1984, and chairman in 1986. He has held these positions since then. He is also a director of Citigroup Inc. and of AOL Time Warner Inc.

        Vernon Sankey became a non-executive director in 1993 and currently serves as the chair of our audit committee and as a member of our treasury committee. He is non-executive chairman of Gala Group Holdings plc and non-executive deputy chairman of Photo-Me International plc and Beltpacker plc. He is also a non-executive director of Zurich Financial Services AG.

        Rana Talwar became a non-executive director in March 2000 and currently serves on our treasury committee. He served as group chief executive of Standard Chartered plc from 1998 until 2001. He was at Citicorp from 1969 to 1997, where he held a number of senior international management roles.

        Stephen Hill has been chief executive officer of the FT Group since 1998. From 1996 to 1998, he was the chief executive officer of the Financial Times. Prior to that, from June 1995, he was chief executive of Westminster Press.

        David Wan became chief executive officer of the Penguin Group in January 2000 and has announced his intention to resign from his position in June 2002. From 1998 to January 2000, he was chief financial officer of the Penguin Group. From 1989 to 1998, he was President of Simon & Schuster's US school publishing business, which we acquired in 1998.

Compensation of Senior Management

        It is the role of the Personnel Committee to approve the pay and benefits packages of the executive directors, the chief executives of the main operating companies and other members of the Pearson Management Committee.

Base Salary

        The main components of compensation for our senior management are:

•

base salary;



•

annual bonus;



•

annual bonus share matching;



•

equity-based incentives.

        Our aim is that base salaries should be set at levels which are competitive with those of directors and executives in similar positions in comparable companies. We monitor this through the use of independent surveys.

        Although the current salaries of the executive directors are not in all cases in line with those of their competitors, the executive directors (along with their fellow senior managers) decided not to receive an increase in their base salaries with effect from January 1, 2002.

Annual Bonus

        The maximum bonus that can be earned by executive directors, chief executives of the company's main operating companies and other members of the Pearson Management Committee is 100% of annual base salary. Maximum bonus for other senior executives ranges downward from this level. Receiving the maximum requires the achievement of very stretching financial targets set by the Personnel Committee.

        The targets for 2001 related to growth in underlying sales and adjusted earnings per share (on both a pre- and post-internet basis) and trading cash conversion. Performance is measured separately for each item. Although the executive directors were entitled to a bonus of 30% of salary based on the company's trading cash conversion performance, they elected not to receive a bonus this year.

        The committee will continue to review the bonus plans on an annual basis and to revise the bonus limits and targets in the light of the current conditions. The committee does, from time to time, award individual discretionary bonuses but none were awarded for 2001. Bonuses do not form part of pensionable earnings.

Annual Bonus Share Matching

        The annual bonus share matching plan permits executive directors and senior executives around the Group to take up to 50% of any after tax annual bonus in the form of Pearson shares. If these shares are held—and the company's adjusted earnings per share increases in real terms by at least 3% per annum—the company will match them on a gross basis of one share for every two held after three years and another one for two originally held (i.e. a total of one for one) after five years.

        For the award made in 1998, the earnings per share growth target of 16.6% for 1997 to 2000 was met and participants became entitled to the one-for-two match. On the third anniversary of the award, all participants elected to leave their shares in the plan so as to be eligible for the second one-for-two match, subject to the earnings per share target for 1997 to 2002 being met in 2003.

Equity-based Incentives

        Eligible employees are covered by four different equity-based incentive plans:

•

the incentive share plan of 1993;



•

the reward plan of 1999;



•

executive and special share options plans for employees not covered by the reward plan;



•

the long-term incentive plan of 2001.

        On an ongoing basis, the company currently only operates the latter plan. However, we summarise below the outstanding items under all four.

The Incentive Share Plan

        This was introduced in 1993 to award executives of the Group based on the performance of the company over the medium to longer term as measured by total shareholder return relative to the average of the FTSE-100 total return index. In the light of external changes we substituted first the reward plan and now the long-term incentive plan for this. Dennis Stevenson's is the only outstanding award under this plan covering the five-year performance period May 1997 to April 2002. The

committee at the time decided it was appropriate that the Chairman's long-term reward should be on a longer basis than that of the other senior executives whose awards were based on a three-year performance period.

        Full details of any release of shares under this plan will be set out in the committee's report for 2002 being the financial year covering the end of the performance period.

The Reward Plan

        The Pearson Reward Plan had two elements: Pearson Premium Options (PPOs) linked to the rise in the Pearson share price over three to seven years and Pearson shares in the form of Pearson Equity Incentives (PEIs) linked to the three-year cumulative growth in Pearson's free cash flow (being operating cash flow less tax liabilities on operating activities and interest paid). Two awards were made under this plan, one in 1999 and the other in 2000.

        For the different tranches of PPOs to become exercisable, the Pearson share price has to stay above certain thresholds for 20 consecutive days within specified periods as follows:

        The share price targets for the three-year and five-year tranches of PPOs granted in 1999 were met in 2000. In addition, for options to be exercisable, the company's adjusted earnings per share has to increase in real terms by at least 3% per annum over the three-year period prior to exercise.

        In its report for 2000, the committee said that, in relation to the PEIs awarded in 1999, the exceptionally high free cash flow for 1998 arising from a cash conversion performance of 102% made a double digit increase target from the 1998 base unrealistic in the context of the plan. As a consequence, the committee re-calibrated the targets for the 1999 to 2001 performance period based on the free cash flow that would have been derived from a 95% cash conversion, which, in the committee's view, is a good, but more normal, level of performance. On this basis, the threshold for pay out, at which 50% of the shares awarded became payable was a cumulative pre-internet free cash flow per share of 131.0p and the target for 100% pay out was 143.6p. Maximum pay out under the plan is 150% of shares awarded. Actual performance was 142.9p resulting in a pay out of 97.2% of shares awarded.

        The PEIs awarded in 1999 vested on June 8, 2002. Following vesting, the shares remain subject to a two-year retention period and participants may call for their shares at any time until December 8, 2004. Shares may only be sold during the two-year retention period to satisfy any liability to tax or social security contributions that arises on calling for the shares. Any movement in shares for executive directors will be set out in the committee's report for 2002.

        The vesting of PEIs awarded in 2000 is related to performance over the period 2000 to 2002. The committee will set out the targets used in its report for the final year of that period.

        Executive directors and managers covered by the reward plan were not eligible for grants of conventional share options in any year in which they received an award under the reward plan.

Executive and Special Share Options Plans

        Options at market value at the date of grant were granted to eligible employees not covered by the reward plan.

        Under the executive share option plan, awards were within individual and overall limits authorised by shareholders. The exercise of options granted since 1996 is subject to a real increase in the

company's adjusted earnings per share over a three-year period. For options granted in 1998, the target for 1997 to 2000 was growth in our adjusted earnings per share of 13.6% (for the options granted in March 1998) and 16.6% (for the options granted in September and December 1998). These targets were met and, as a consequence, these options became exercisable on March 26, 2001, September 14, 2001 and December 2, 2001 respectively.

        In 2000, Pearson made one-off share option and restricted share awards under a special share programme that the board adopted and introduced on the recommendation of the committee to deal with competitive and employee retention issues in our internet and internet-related businesses at that time. The exercise of share options granted under this programme is not subject to performance conditions. The vesting of restricted shares is subject to a real increase in the company's adjusted earnings per share of at least 3% per annum over the three-year period 1999 to 2002. No new shares will be issued to satisfy awards under this programme and executive directors were not eligible to participate in it.

The Long-term Incentive Plan

        The plan consists of two parts: stock options and restricted stock.

        The aim is to give the committee a range of tools with which to link corporate performance to management's long-term reward in a flexible way. The principles underlying it are as follows:

•

the vesting of restricted stock awards is normally dependent on the satisfaction of a stretching corporate performance target over a three-year period;



•

the committee establishes guidelines that set out the maximum expected value of awards each year using an appropriate methodology for fixing the relative values of both option grants and restricted stock awards;



•

the maximum expected value of awards for executive directors is broadly calculated by bringing expected total compensation to the upper quartile of market practice for a selected group of comparable companies in the United States and the United Kingdom;



•

no more than 10% of Pearson equity will be issued or be capable of being issued under all Pearson's share plans in any ten-year period commencing in January 1997. Within this overall 10% limit no more than 1.5% of new-issue equity may be placed under option under the plan in any year; and



•

awards of restricted stock are satisfied using existing shares.

        The first round of awards in 2001 was as follows:

•

the committee agreed the maximum 1.5% of new-issue equity for option grants under this plan (having satisfied itself that the company had achieved the growth in earnings per share required to allow it to release the options);



•

the vesting of the restricted stock awards made in 2001 is related to performance over the period 2001 to 2003. The committee will set out the targets used in its report for the final year of that period;



•

executive directors and senior executives received a blend of stock options and performance-related restricted stock. Using a simplified version of the "Black Scholes' model, each option was valued at approximately 40% of the market value of the shares at the date of grant. Performance-related restricted stock awards were valued at 80% of the market value of the shares comprised in the award;

•

in line with our policy, the expected values of the awards for executive directors were three times salary for Marjorie Scardino and twice salary for John Makinson and David Bell.

Shareholding Policy

        In line with its policy of encouraging widespread employee ownership, the committee has been keen to encourage executive directors and the chairman to build up a substantial shareholding in the company. In view of the volatility of the stock market, we do not think it is appropriate to specify a particular relationship of shareholding to salary. However, we intend from now to describe separately in this report both the numbers of shares that the executive directors and the chairman hold and the value expressed as a percentage of base salary.

        The current value of holdings based on the middle market value of Pearson shares of £7.70 on March 1, 2002 (being the latest practicable date prior to the announcement of the results for 2001) against current base salary is as follows:

Service Contracts

        All executive directors have agreements that can be terminated by the company on 12 months' notice. In the case of early termination of their contract by the company without cause, these contracts provide for liquidated damages equivalent to 12 months' base salary, benefits and a proportion of bonus. During the year no material changes were made to the service contracts of executive directors. Non-executive directors do not have service contracts.

Non-executive Directors' Remuneration

        Fees for non-executive directors are determined by the full board with regard to market practice and within the restrictions contained in the articles of association. Fees are reviewed annually with the help of outside advice. Non-executive directors receive no other pay or benefits (other than reimbursement for expenses incurred in connection with their directorship of the company) and do not participate in the company's equity-based incentive plans.

        Since January 2000, non-executive directors have received an annual fee of £35,000 each. One overseas-based director is paid a supplement of £7,000 per annum. The non-executive directors who chair the personnel and audit committees each receive an additional fee of £5,000 per annum. £10,000 of the total fee, or all of the fee in the case of Rana Talwar, is payable in the form of Pearson shares which the non-executive directors have committed to retain for the period of their directorships.

Retirement benefits

        The highest paid director, Marjorie Scardino, has pension arrangements comprising defined benefit and defined contribution arrangements in the United States. She participates in the funded, approved Pearson Inc. Pension Plan. This is a non-contributory final salary arrangement providing a lump sum convertible to a pension on retirement. The lump sum currently accrues at 6% of capped compensation. In 2001, the committee undertook a review of Marjorie Scardino's overall remuneration. As a consequence of this review, the company's contribution to the unfunded, unapproved defined contribution arrangement in which she participates was increased. The notional company contribution for 2001 was £431,250. John Makinson and David Bell are members of the defined benefit section of the Pearson Group Pension Plan (the Plan), with a member contribution of 5% of pensionable salary.

        It is anticipated that John Makinson will receive a pension of two-thirds of capped salary at normal retirement date (inclusive of benefits transferred from his previous pension plan). John Makinson is subject to the pensions earnings cap introduced by the Finance Act 1989. He participates in the company's Funded Unapproved Retirement Benefits Scheme (FURBS) arrangements, under which a contribution equivalent to 31.1% of his annual salary was made by the company in 2001 to compensate him for pension benefits that cannot be provided from the Plan because of the pensions cap regulations.

        David Bell is eligible for a pension from the Plan of two-thirds of his final base salary at normal retirement date due to his previous service with the Financial Times.

        Both UK executive directors are also eligible for dependants' pensions and a lump sum payment on death in service.

        In 2001, we accrued or set aside £785,920 for the pension, retirement or similar benefits of senior management.

Remuneration of Senior Management

        Excluding contributions to pension funds and related benefits, senior management remuneration for 2001 was as follows:

(1)

For Marjorie Scardino, David Bell and John Makinson, "other" emoluments includes company car and health care benefits. Also included in "other" for Marjorie Scardino is £35,770 in respect of housing costs.

(2)

Includes the chief executives of the three operating divisions. We are not required to make public disclosure of individual compensation arrangements of non-directors in the United Kingdom and, therefore, do not include individual disclosure of the compensation paid to the chief executives of our three operating divisions in this Annual Report.

Share Options of Senior Management

        This table sets forth for each director, and for members of senior management as a group, the number of share options held as of December 31, 2001 as well as the exercise price and the range of expiration dates of these options. The original exercise price of the options has been adjusted (except

where this was not permitted) to reflect the rights issue of equity shares during 2000, and option prices have been rounded to the nearest whole penny.

(1)

Granted under the Save for shares option plan and exercisable between 2002 and 2009.

(2)

Granted under the executive or long term incentive plan and exercisable between 2002 and 2011.

(3)

Granted under the Pearson reward plan and exercisable between 2002 and 2011.

(4)

Includes the chief executives of the three operating divisions. We are not required to make public disclosure of individual compensation arrangements of non-directors in the United Kingdom and, therefore, do not include individual disclosure of the option information for the chief executives of our three operating divisions in this Annual Report.

Share Ownership of Senior Management

        The table below sets forth the number of ordinary shares held by each of our directors, and by members of senior management as a group, as at December 31, 2001. Additional information with respect to the share options held by, and bonus and incentive awards for, these persons is set out above in "Remuneration of Senior Management" and "Share Options of Senior Management". The total number of ordinary shares held by senior management as of December 31, 2001 was 348,535 representing less than 1% of the issued share capital on December 31, 2001.

(1)

Amounts include shares acquired by individuals under the annual bonus share matching plan.

(2)

Restricted shares shown comprise awards made under the incentive share, reward and long term incentive plans. The number of shares shown represents the maximum number of shares including accumulated share dividends on incentive share plan shares but not on reward or long term incentive plan shares, which may vest, subject to the performance conditions being fulfilled.

(3)

These shares are held in trust and represent the maximum award required to provide our matching contribution of shares in respect of that part of the bonus taken in shares by each director. The shares only vest if the performance and other conditions of the plan are met.

(4)

Includes the chief executives of the three operating divisions. We are not required to make public disclosure of individual compensation arrangements of non-directors in the United Kingdom and, therefore, do not include individual disclosure of the shares and share options held by the chief executives of its three operating divisions in this offering memorandum.

        Our executive directors, as possible beneficiaries, are also deemed to be interested in Pearson Employee Share Trust Limited, the trustee of which held 244,639 of our ordinary shares on December 31, 2001.

Employee Share Ownership Plans

Profit Sharing Plan

        Since 1998, we have operated a profit sharing plan available to all employees who:

        have worked for us for at least six months of the relevant fiscal year, and

        we employ at the time we make payment under the plan.

        All payments made under the plan are determined at the discretion of the board after consideration of our profitability for the year. Payment under the plan may be in the form of cash and/or our ordinary shares. Payment under the plan was 3% of salary plus 15 ordinary shares for fiscal year 1998 and 2% of salary plus 10 ordinary shares for fiscal year 1999. For fiscal year 2000, the payment was 15 ordinary shares and no cash. There is no payment due under the plan in 2001.

Worldwide Save-for-Shares Plan

        In 1998, we introduced a worldwide save-for-shares plan. Under this plan, our employees worldwide have the option to save a portion of their monthly salary over periods of three, five or seven years. At the end of this period, the employee has the option to purchase ordinary shares with the

accumulated funds at a purchase price equal to 80% of the market price prevailing at the commencement of the employee's participation in the plan.

US Employee Stock Purchase Plan

        In the United States we operate a stock purchase plan under Section 423 of the US Internal Revenue Code of 1986. This plan was introduced in 2000 following Pearson's listing on the New York Stock Exchange. Under the plan, participants save a portion of their monthly salary for a period of twelve months. At the end of this period, the employee has the option to purchase ADRs representing ordinary shares with their accumulated funds at a purchase price equal to 85% of the lower of the market price prevailing at the beginning or end of the period.

Board Practices

        Our board of directors currently is comprised of five executive directors, including the chairman, who is a part-time director, and four non-executive directors. Our articles of association provide that at every annual general meeting, one-third of the board of directors, or the number nearest to one-third, shall retire from office. The directors to retire each year are the directors who have been longest in office since their last election or appointment. A retiring director is eligible for re-election. If at any annual general meeting, the place of a retiring director is not filled, the retiring director, if willing to continue, is deemed to have been re-elected, unless at or prior to such meeting it is expressly resolved not to fill the vacated office, or unless a resolution for the re-election of that director has been put to the meeting and lost.

        The board of directors has established the following committees, all of which have written terms of reference setting out their authority and duties:

Audit Committee

        Vernon Sankey chairs this committee and Terry Burns and Reuben Mark are members. The "terms of reference" of the committee require that its members be non-executive directors with financial and accounting experience. The committee provides the board with a vehicle to appraise our financial management and reporting and to assess the integrity of our accounting procedures and financial controls. Our internal and external auditors have direct access to the committee to raise any matter of concern and to report the results of work directed by the committee. The committee reports to the full board of directors.

Personnel Committee

        Terry Burns and Reuben Mark are members of this committee and both are non-executive directors. The committee meets regularly to decide the remuneration and benefits packages of the executive directors and the chief executives of our three operating divisions. The committee also recommends the chairman's remuneration to the board of directors for its decision and reviews our management development and succession plans.

Nomination Committee

        This committee is chaired by Dennis Stevenson and comprises all directors. The committee meets from time to time as necessary to consider the appointment of new directors.

Treasury Committee

        The members of this committee are Dennis Stevenson, John Makinson, Vernon Sankey and Rana Talwar. The committee sets the policies for our treasury department and reviews its procedures on a regular basis.

Employees

        The average numbers of persons employed by us during each of the three fiscal years ended 2001 were as follows:

•

29,027 in fiscal 2001



•

24,688 in fiscal 2000, and



•

20,383 in fiscal 1999.

        The significant increase in the number of our employees in 2000 resulted from the acquisitions of DK in May 2000 and NCS in September 2000.

        We, through our subsidiaries, have entered into collective bargaining agreements with employees in various locations. Our management has no reason to believe that we would not be able to renegotiate any such agreements on satisfactory terms. We encourage employees to contribute actively to the business in the context of their particular job roles and believe that the relations with our employees are generally good. We do not employ a significant number of temporary employees.

        The table set forth below shows for 2001 the average number of persons employed in each of our operating divisions in the United Kingdom, the United States, other locations and in total.

Item 7. Major Shareholders and Related Party Transactions

        To our knowledge, as of December 31, 2001, the only beneficial owners of 3% or more of our issued and outstanding ordinary share capital were The Capital Group Companies Inc. which owned 58,196,705 ordinary shares representing 7.26% of our outstanding ordinary shares, and Telefónica Media SA, which owned 38,853,403 ordinary shares representing 4.85% of our outstanding ordinary shares. On December 31, 2001, recordholders with registered addresses in the United States held 11,400,078 ordinary shares, including those held through ADSs, which represented 1.4% of our outstanding ordinary shares. Because some of these ordinary shares and ADSs are held by nominees, these numbers may not accurately represent the number of beneficial owners in the United States.

Item 8. Financial Information

        The financial statements filed as part of this Annual Report are included on pages F-1 through F-100 hereof.

        Other than those events described in Note 32 of this Form 20-F and fluctuations in borrowings, there has not occurred any significant change to our financial condition or results of operations since December 31, 2001. Our borrowings fluctuate by season due to the effect of the school year on the

working capital requirements of the educational book business. Assuming no acquisitions or disposals, our maximum level of net debt normally occurs in July, and our minimum level of net debt normally occurs in December.

        Our policy with respect to dividend distributions is described in response to "Item 3. Key Information" above.

Legal Proceedings

        We and our subsidiaries are defendants in a number of legal proceedings including, from time to time, government and arbitration proceedings, which are incidental to our and their operations. We do not expect that the outcome of pending proceedings, either individually or in the aggregate, will have a significant effect on our financial position or profitability nor have any such proceedings had any such effect in the recent past. To our knowledge, there are no material proceedings in which any member of senior management or any of our affiliates is a party adverse to us or any of our subsidiaries or in respect of which any of those persons has a material interest adverse to us or any of our subsidiaries.

Item 9. The Offer and Listing

        The principal trading market for our ordinary shares is the London Stock Exchange. Our ordinary shares also trade in the United States in the form of ADSs evidenced by ADRs under a sponsored ADR facility with The Bank of New York as depositary. We established this facility in March 1995 and amended it in August 2000 in connection with our New York Stock Exchange listing. Each ADS represents one ordinary share.

        The ADSs trade on the New York Stock Exchange under the symbol "PSO".

        The following table sets forth the highest and lowest middle market quotations, which represent the average of closing bid and asked prices, for the ordinary shares, as derived from the Daily Official List of the London Stock Exchange and the average daily trading volume on the London Stock Exchange:

•

on an annual basis for our five most recent fiscal years,



•

on a quarterly basis for our most recent quarter and two most recent fiscal years, and



•

on a monthly basis for the six most recent months.

Item 10. Additional Information

Material Contracts

        The following summaries are not intended to be complete and reference is made to the contracts themselves, which are included as exhibits to this annual report. We have entered into the following contracts outside the ordinary course of business during the two year period immediately preceding the date of this annual report:

Acquisition of National Computer Systems, Inc.

        We and a wholly-owned subsidiary entered into an Agreement and Plan of Merger with NCS on July 30, 2000, as amended on August 4, 2000. Under the terms of the merger agreement, our subsidiary made a cash tender offer for all of the issued and outstanding shares of NCS common stock for approximately $2.5 billion, or $73 per share. The tender offer concluded on September 7, and the merger closed on September 19, 2000. Prior to the merger, NCS was a leading testing and educational services company in the United States.

Executive Employment Contracts

        We have entered into agreements with each of our executive directors pursuant to which such executive director is employed by us. These agreements describe the duties of such executive director and the compensation to be paid by us. See "Item 6. Directors, Senior Management and Employees—Compensation of Senior Management". Each agreement may be terminated by us on 12 months' notice or by the executive director on six months' notice. In the event we terminate any executive director without giving the full 12 months' advance notice, the executive director is entitled to receive liquidated damages equal to 12 months base salary, benefits and a pro rata percentage of bonus. During fiscal 2001, no material changes were made to these agreements.

Issuance of $500,000,000 7% Senior Notes due 2011

        We issued US $500 million principal amount of 7% senior notes due 2011 under an indenture dated June 21, 2001 between us and The Bank of New York, as trustee. The first semi-annual interest payment was made on December 15, 2001. We may redeem the notes at any time, in whole or in part, at our option.

        The indenture describes the circumstances that would be considered events of default. If an event of default occurs, other than the bankruptcy of us or a subsidiary, the holders of at least 25% of the principal amount of the then outstanding notes may declare the notes, along with accrued, but unpaid, interest and other amounts described in the indenture, as immediately due and payable.

        The indenture limits our ability to create liens to secure certain types of debt intended to be traded on an exchange.

Exchange Controls

        There are no UK government laws, decrees, regulations or other legislation which restrict or which may affect the import or export of capital, including the availability of cash and cash equivalents for use by us or the remittance of dividends, interest or other payments to nonresident holders of our securities, except as otherwise described under "—Tax Considerations" below.

Tax Considerations

        The following is a discussion of the material US federal income tax considerations and UK tax considerations arising from the acquisition, ownership and disposition of ordinary shares and ADSs by a US holder. A US holder is:

•

an individual citizen or resident of the US,



•

a corporation created or organized in or under the laws of the United States or any of its political subdivisions, or



•

an estate or trust the income of which is subject to US federal income taxation regardless of its source.

        This discussion deals only with ordinary shares and ADSs that are held as capital assets by a US holder, and does not address tax considerations applicable to US holders that may be subject to special tax rules, such as:

•

dealers or traders in securities or currencies,



•

financial institutions or other US holders that treat income in respect of the ordinary shares or ADSs as financial services income,



•

insurance companies,



•

tax-exempt entities,



•

US holders that hold the ordinary shares or ADSs as a part of a straddle or conversion transaction or other arrangement involving more than one position,



•

US holders that own, or are deemed for US tax purposes to own, 10% or more of the total combined voting power of all classes of our voting stock,



•

US holders that have a principal place of business or "tax home" outside the United States, or



•

US holders whose "functional currency" is not the US dollar.

        For US federal income tax purposes, holders of ADSs will be treated as the owners of the ordinary shares represented by those ADSs.

        The discussion below is based upon current UK law and the provisions of the US Internal Revenue Code of 1986, or the Code, and regulations, rulings and judicial decisions as of the date of this Annual Report; any such authority may be repealed, revoked or modified, perhaps with retroactive effect, so as to result in tax consequences different from those discussed below. This discussion is also based on the current Income Tax Treaty between the United Kingdom and the United States. A new Income Tax Treaty has been agreed between representatives of the United Kingdom and United States governments. However, the new Income Tax Treaty is subject to ratification by both the United Kingdom and United States governments, and thus there can be no assurance as to whether and when the new Income Tax Treaty will come into force, or, if so, as to the impact of any resulting changes in the Income Tax Treaty on the summary tax consequences set forth below. In addition, the following discussion assumes that The Bank of New York will perform its obligations as depositary in accordance with the terms of the depositary agreement and any related agreements.

        Because US and UK tax consequences may differ from one holder to the next, the discussion set out below does not purport to describe all of the tax considerations that may be relevant to you and your particular situation. Accordingly, you are advised to consult your own tax advisor as to the US federal, state and local, UK and other, including foreign, tax consequences of investing in the ordinary shares or ADSs. The statements of US and UK tax law set out below are based on the laws and interpretations in force as of the date of this Annual Report, and are subject to any changes occurring after that date.

UK Income Taxation of Distributions

        Under the Income Tax Treaty, subject to certain exceptions, a US holder who is a resident of the United States (and is not a resident of the United Kingdom) for purposes of the Income Tax Treaty is entitled to receive, in addition to any dividend that we pay, a payment from the Inland Revenue in respect of such dividend equal to the tax credit to which an individual resident in the United Kingdom for tax purposes would have been entitled had he received the dividend (which is currently equal to one-ninth of the dividend received), reduced by a UK withholding tax equal to an amount not exceeding 15% of the sum of the dividend paid and the UK tax credit payment. At current rates the withholding tax entirely eliminates the tax credit payment but no withholding in excess of the tax credit payment is imposed upon the US holder. Thus, for example, a US holder that receives a $100.00 dividend also will be treated as receiving from the Inland Revenue a tax credit payment of $11.11 (one-ninth of the dividend received), but the entire $11.11 payment will be eliminated by UK withholding tax, resulting in a net $100.00 distribution to the US holder.

US Income Taxation of Distributions

        Distributions that we make with respect to the ordinary shares or ADSs, other than distributions in liquidation and distributions in redemption of stock that are treated as exchanges, will be taxed to US holders as ordinary dividend income to the extent that the distributions do not exceed Pearson's current and accumulated earnings and profits. The amount of any distribution will equal the sum of the cash distribution and its associated UK tax credit payment; thus, as described above under "—UK Income Taxation of Distributions," the recipient of a $100.00 cash distribution will be deemed to have received a total distribution of $11.11. Distributions, if any, in excess of our current and accumulated earnings and profits will constitute a nontaxable return of capital to a US holder and will be applied against and reduce the US holder's tax basis in its ordinary shares or ADSs. To the extent that these distributions exceed the tax basis of the US holder in its ordinary shares or ADSs, the excess generally will be treated as capital gain.

        Dividends that we pay will not be eligible for the dividends received deduction generally allowed to US corporations under Section 243 of the Code.

        In computing its US federal income tax liability, a US holder generally may elect for each taxable year to claim a deduction or, subject to the limitations on foreign tax credits generally, a US foreign tax credit for foreign income taxes withheld from any distributions paid on the ordinary shares or ADSs. In the case of US holders and subject to certain limitations, a foreign tax credit may be claimed for the amount of UK withholding taxes deemed to be imposed under the Income Tax Treaty. As discussed above (see "—UK Income Taxation of Distributions"), the amount of UK withholding tax deemed to be imposed is equal to one-ninth of the associated cash distribution, or $11.11 on a $100.00 cash distribution. To qualify for this credit, a US holder must make an election on Form 8833 (Treaty-Based Return Position Disclosure), which must be filed with its tax return for the relevant taxable year, in addition to any other filings that may be required. For US foreign tax credit purposes, dividends that we pay generally will be treated as foreign-source income and as passive income, subject to the separate foreign tax credit limitation for passive income. The availability of foreign tax credits depends on your particular circumstances.

        In the case of distributions in pounds, the amount of the distributions generally will equal the US dollar value of the pounds distributed, determined by reference to the spot currency exchange rate on the date of receipt of the distribution by the US holder in the case of shares or by The Bank of New York in the case of ADSs, regardless of whether the US holder reports income on a cash basis or an accrual basis. The US holder will realize separate foreign currency gain or loss only to the extent that this gain or loss arises on the actual disposition of pounds received. For US holders claiming tax credits on a cash basis, taxes withheld from the distribution are translated into US dollars at the spot rate on the date of the distribution; for US holders claiming tax credits on an accrual basis, taxes withheld from the distribution are translated into US dollars at the average rate for the taxable year.

UK Income Taxation of Capital Gains

        Under the Income Tax Treaty, each country generally may tax capital gains in accordance with the provisions of its domestic law. Under present UK law, a US holder that is not a resident, and, in the case of an individual, not ordinarily resident, in the United Kingdom for UK tax purposes and who does not carry on a trade, profession or vocation in the United Kingdom through a branch or agency to which ordinary shares or ADSs are attributable will not be liable for UK taxation on capital gains or eligible for relief for allowable losses, realized on the sale or other disposal (including redemption) of these ordinary shares or ADSs.

US Income Taxation of Capital Gains

        Upon a sale or exchange of ordinary shares or ADSs to a person other than Pearson, a US holder will recognize gain or loss in an amount equal to the difference between the amount realized on the sale or exchange and the US holder's adjusted tax basis in the ordinary shares or ADSs. Any gain or loss recognized will be capital gain or loss and will be long-term capital gain or loss if the US holder has held the ordinary shares or ADSs for more than one year.

        Gain or loss realized by a US holder on the sale or exchange of ordinary shares or ADSs generally will be treated as US-source gain or loss for US foreign tax credit purposes.

Estate and Gift Tax

        The current Estate and Gift Tax Convention, or the Convention, between the United States and the United Kingdom generally relieves from UK Inheritance Tax (the equivalent of US Estate and Gift Tax) the transfer of ordinary shares or of ADSs where the transferor is domiciled in the United States, for the purposes of the Convention. This relief will not apply if the ordinary shares or ADSs are part of the business property of an individual's permanent establishment in the United Kingdom or pertain to the fixed base in the United Kingdom of a person providing independent personal services. If no relief is given under the Convention, inheritance tax may be charged on the amount by which the value of the transferor's estate is reduced as a result of any transfer made by way of gift or other gratuitous transfer by an individual, in general within seven years of death, or on the death of an individual. In the unusual case where ordinary shares or ADSs are subject to both UK Inheritance Tax and US Estate or Gift Tax, the Convention generally provides for tax paid in the United Kingdom to be credited against tax payable in the United States or for tax paid in the United States to be credited against tax payable in the United Kingdom based on priority rules set forth in the Convention.

Stamp Duty

        No stamp duty or stamp duty reserve tax (SDRT) will be payable in the United Kingdom on the purchase or transfer of an ADS, provided that the ADS, and any separate instrument or written agreement of transfer, remain at all times outside the United Kingdom and that the instrument or written agreement of transfer is not executed in the United Kingdom. Stamp duty or SDRT is, however, generally payable at the rate of 1.5% of the amount or value of the consideration or, in some circumstances, the value of the ordinary shares, where ordinary shares are issued or transferred to a person whose business is or includes issuing depositary receipts, or to a nominee or agent for such a person.

        A transfer for value of the underlying ordinary shares will generally be subject to either stamp duty or SDRT, normally at the rate of 0.5% of the amount or value of the consideration. A transfer of ordinary shares from a nominee to its beneficial owner, including the transfer of underlying ordinary shares from the Depositary to an ADS holder, under which no beneficial interest passes is subject to stamp duty at the fixed rate of £5.00 per instrument of transfer.

Close Company Status

        We believe that the close company provisions of the UK Income and Corporation Taxes Act 1988 do not apply to us.

Documents on Display

        Copies of our Memorandum and Articles of Association, the material contracts described above and filed as exhibits to this Annual Report and certain other documents referred to in this Annual Report are available for inspection at our registered office at 80 Strand, London WC2R 0RL (c/o the Company Secretary), or, in the United States, at the registered office of Pearson Inc. at 1330 Avenue of the Americas, 7th Floor, New York, New York, 10019 (c/o Mr. John Fallon) during usual business hours upon reasonable prior request.

Item 11. Quantitative and Qualitative Disclosures About Market Risk

Introduction

        Our principal market risks are changes in interest rates and currency exchange rates. Following evaluation of these positions, we selectively enter into derivative financial instruments to manage our risk exposure. For this purpose, we primarily use interest rate swaps, interest rate caps and collars,

forward rate agreements, currency swaps and forward foreign exchange contracts. Managing market risks are the responsibility of the group financial director who acts pursuant to policies approved by our board of directors. A treasury committee of the board receives regular reports on our treasury activities, which our outside advisers also review periodically.

        We have a policy of not undertaking any speculative transactions, and we hold the derivative and other financial instruments for purposes other than trading.

        We have formulated our policies for hedging exposures to interest rate and foreign exchange risk, and have used derivatives without regard to existing or future US GAAP requirements on hedge accounting. We are satisfied that the present policies achieve our objectives, and that the near equivalence between the carrying book value and fair value of our financial liabilities and derivative contracts confirms this. However, our existing derivative contracts do not qualify for hedge accounting under US GAAP.

        The following discussion and tables address market risk only and do not present other risks that we face in the normal course of business, including country risk, credit risk and legal risk.

Interest Rates

        Our financial exposures to interest rates arise primarily from our borrowings, particularly those in US dollars. We manage our exposure by borrowing at fixed and variable rates of interest, and by entering into derivative instruments. Objectives approved by our board concerning the proportion of outstanding fixed rate debt govern our use of these financial instruments.

        Our objectives are applied to core net debt, which is year-end borrowings net of year-end cash and liquid funds. Those objectives are that for between 50% and 65% of current core debt, the rate of interest should be fixed or capped for the next two years, and that for between 40% and 60%, the rate of interest should be fixed or capped from two years to a date four years from the present. Within these target ranges the proportion that is hedged is triggered by a formula based on historical interest rate frequencies.

        The principal method to hedge interest rate risk is to enter into an agreement to pay a fixed-rate and receive a variable rate, known as a swap. Under interest rate swaps, we agree with other parties to exchange, at specified intervals, the difference between fixed-rate and variable-rate amounts calculated by reference to an agreed notional principal amount. The majority of these contracts are US dollar denominated, and some of them have deferred start dates, in order to maintain the desired risk profile as other contracts mature. The variable rates received are normally based on three-month LIBOR, and the dates on which these rates are set do not exactly match those of the hedged borrowings. We believe that our portfolio of these types of swaps is an efficient hedge of our portfolio of variable rate borrowings.

        In addition, from time to time we issue bonds or other capital market instruments to refinance existing bank debt. To avoid the rate unduly influencing the interest expense on a single transaction, it is our normal practice to enter into a related derivative contract effectively converting the interest rate profile of the bond transaction to that of the debt which it is refinancing. Most often this is a variable interest rate denominated in US dollars. In several cases, the bond issue was denominated in a different currency than the debt being refinanced and we have entered into a related interest rate and currency swap in order to maintain an unchanged borrowing risk profile.

        The table below lists for each of the years 2002 to 2006 the notional amounts and weighted average interest rates, as of December 31, 2001, for both our borrowings and our currency and interest rate swaps.

(1)

The nominal value of US dollar "variable to fixed" interest rate swaps includes £151 million (£181 million in 2000) of deferred start contracts that do not provide fixed rate cover on the balance sheet date. In addition, £100 million of sterling "fixed to variable" interest rate swaps (£100 million) maturing 2003 are forward starting once the equivalent nominal value in 2002 matures, and £74 million of euro "variable to fixed" interest rate swaps maturing 2005 start in 2003.

(2)

All variable rate legs of the interest rate swaps pay or receive every three months or six months on a margin above or below three month LIBOR. Three month LIBOR rates at December 31, 2001 for the US dollar, euro and sterling were 1.9%, 3.3%, and 4.1% respectively. The six month US dollar LIBOR rate at this date was 2.0%. The average interest rate payable on net debt at December 31, 2001 was 5.8% and averaged 6.4% during the whole year.

(3)

The "variable to fixed" interest rate swaps are used wholly for the hedging of our portfolio of variable rate borrowings. The "fixed to variable" interest rate swaps are used wholly for the conversion of capital market transactions to a floating rate basis.

(4)

The currency swaps convert sterling and euro to US dollars at an average of $1.61 and $1.03 respectively, and euro to sterling at £0.615.

        Our interest bearing financial assets of £393 million in 2001, consisting mainly of floating rate cash and deposits, earn interest based on relevant national equivalents to the London Interbank Depository Rate. In 2000, we held £516 million of interest bearing financial assets. The fair value approximates to the carrying value due to their short maturity periods of less than three months.

Impact of RTL disposal

        On January 30, 2002 we completed our sale of our 22% interest in RTL for E1.5 billion. The proceeds from sale were used to repay borrowings drawn on the revolving credit facility, outstanding commercial paper, the repayment of bonds maturing in February 2002, the repurchase and subsequent cancellation of part of our bonds issued for maturity in 2004 and 2007, and to fund working capital requirements in 2002.

        Following the repayment of predominantly floating rate debt, and in order to rebalance the proportion of fixed rate debt to comply with our Treasury policy, we terminated approximately £700 million of pay fixed/receive floating derivative contracts. This resulted in a cash outflow, estimated at £35 million.

        The receipt of proceeds and subsequent reduction in debt has reduced our requirement for committed funding. As a result, we have reduced our committed revolving credit facility from $2.5 billion to $2.0 billion.

Currency Exchange Rates

        Although we are based in the United Kingdom, we have significant investments in overseas operations. The most significant currency for us is the US dollar, followed by the euro and sterling.

        Our policy is to manage the currency composition of our core borrowings in US dollars, euro and sterling in order to approximate the percentages of those currencies as reflected in our forecast operating profit. We use external borrowings and currency swaps to manage this exposure. This policy aims to dampen the impact of changes in foreign exchange rates on consolidated interest cover and earnings. While long-term core borrowing is now limited to US dollars, euro and sterling, we still borrow small amounts in other currencies, typically for seasonal working capital needs.

        At December 31, 2001 the split of aggregate net borrowings in its core currencies was US dollar 69%, euro 13% and sterling 18%. We are also exposed to currency exchange rates in our cash transactions and our investments in overseas transactions. Cash transactions—typically for purchases, sales, interest or dividends—require cash conversions between currencies. Fluctuations in currency exchange rates affect the cash amounts that we pay or receive.

        Investments in overseas operations are consolidated for accounting purposes by translating values in one currency to another currency, in particular from US dollars to sterling. Fluctuations in currency exchange rates affect the currency values recorded in our accounts, particularly those in sterling, although they do not give rise to any realized gain or loss, nor to any currency cash flows.

Forward Foreign Exchange Contracts

        We use forward foreign exchange contracts where a specific major project or forecasted cash flow, including acquisitions and disposals, arises from a business decision that has used a specific foreign exchange rate. Our policy is to effect transactional conversions between currencies, for example to collect receivables or settle payables at the relevant spot exchange rate.

        Our forward exchange contracts that relate to cash flow conversion are summarized by currency below for 2001 and 2000.

Foreign exchange contracts for cash flow conversion

(1)

The receive sterling/pay euro and receive US dollars/pay euro contracts have a weighted average maturity of one month. These contracts match the forecast cash inflows for receipt of funds regarding the disposal of RTL.

        We seek to offset purchases and sales in the same currency, even if they do not occur simultaneously. In addition, our debt and cash portfolios management gives rise to temporary currency shortfalls and surpluses. Both of these activities require us to use short-dated swaps between currencies. The table below summarizes our 2001 and 2000 position by currency pair.

Foreign exchange contracts due to timing differences

(1)

These contracts, with a maturity of one month, transferred sterling cash balances into US dollars in order to fund a short-term dollar liabilities.

        Although we prepare our consolidated accounts in sterling, we have invested significant sums in overseas assets, particularly in the United States. Therefore, fluctuations in currency exchange rates, particularly between the US dollar and sterling, and also between the euro and sterling, are likely to affect shareholders' funds and other accounting values.

Item 12. Description of Securities Other Than Equity Securities

        Not applicable.

Part II

Item 13. Defaults, Dividend Arrearages and Delinquencies

        None.

Item 14. [Reserved]

Item 15. [Reserved]

Item 16. [Reserved]

Part III

Item 17. Financial Statements

        We have elected to respond to Item 18.

Item 18. Financial Statements

        The financial statements filed as part of this Annual Report are included on pages F-1 through F-103 hereof

Item 19. Exhibits

*

Incorporated by reference to the Registration Statement on Form F-1 (Reg. No. 333-43198), as amended.

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

REPORT OF INDEPENDENT ACCOUNTANTS

        To the Board of Directors and Shareholders of Pearson Plc:

        In our opinion, the accompanying consolidated balance sheets and the related consolidated profit and loss accounts, statements of total recognised gains and losses, reconciliations of movements in equity shareholders' funds, and statements of consolidated cash flows present fairly, in all material respects, the financial position of Pearson Plc and its subsidiaries at 31 December 2001 and 2000, and the results of their operations and cash flows for each of the three years in the period ended 31 December 2001, in conformity with accounting principles generally accepted in the United Kingdom. These financial statements are the responsibility of the Company's management, our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these statements in accordance with auditing standards generally accepted in the United States, which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management and evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for the opinion expressed above.

        Accounting principles generally accepted in the United Kingdom vary in certain significant respects from accounting principles generally accepted in the United States. The application of the latter would have affected the determination of the consolidated profit/(loss) expressed in sterling for each of the three years ended 31 December 2001 and the determination of shareholders' funds and consolidated financial position also expressed in sterling at 31 December 2001 and 2000 to the extent summarised in Note 35 to the consolidated financial statements.

PricewaterhouseCoopers
Chartered Accountants
And Registered Auditors
London, United Kingdom

4 March, 2002
except for the information presented in Note 35
for which the date is 10 June 2002

PEARSON PLC

CONSOLIDATED PROFIT AND LOSS ACCOUNT

FOR THE YEAR ENDED DECEMBER 31, 2001