Remuneration Report

On behalf of the Board, I am pleased to present the Committee’s Report on Remuneration for 2009 for which we will be seeking approval from shareholders at our Annual General Meeting in May 2010.

Remuneration principles

In considering remuneration for our senior executives the Remuneration Committee has developed the following framework of principles. This has also formed the basis for the review of remuneration which began in 2009 and will continue in 2010.

• Incentives will reinforce key business objectives, promote an ownership culture, and align executive and shareholder interests.
• Senior executive remuneration levels will be benchmarked and structured to ensure Centrica’s total remuneration levels (i.e. including all fixed and variable pay components) are competitive.
• The Committee will take into account market practice, best practice and best fit for Centrica when determining the appropriate structure of pay.
• A significant proportion of senior executive remuneration will be delivered through long-term share-based pay.
• Incentive structures will be simple, transparent and robust, and structured to avoid encouraging excessive risk-taking
• Annual and long-term incentives will be based on Group, Business Unit and individual performance. Measures will include leading indicators of sustainable performance with health, safety and environmental objectives.
• Incentive targets may be adjusted at the discretion of the Committee to take account of ‘non-performance items’ outside management control that would otherwise distort the measurement of management performance.

Background and principles for proposed changes

The Committee commenced a review of senior executive remuneration arrangements during 2009, to ensure that our remuneration principles continue to support the business. The review will continue in 2010 and any significant changes will be discussed with shareholders.

The main changes proposed to date are described below:

Rebalancing short-term incentives

Recognising the continued importance of meeting our Health, Safety and Environmental (HS&E) objectives, in 2010 each Executive Director will have an element of their Annual Incentive Scheme determined by the achievement of HS&E objectives.

As a result of the introduction of HS&E objectives, the bonus opportunity for on target performance will remain unchanged at 90% of base salary for the Chief Executive and 75% for the other Executive Directors.

Performance measurement

The measurement of Total Shareholder Return (TSR) under the Long Term Incentive Scheme will be amended going forward so that the Group’s TSR will be measured as a percentage of out-performance of the FTSE 100 index. To provide greater simplicity and transparency in the measurement process, companies which have been de-listed from the London Stock Exchange will be removed from the comparator group in future.

Giving greater flexibility for tax planning.

In order to provide employees with greater flexibility, from 2010 awards made under the Long Term Incentive Scheme, and matching awards made under the Deferred and Matching Share Scheme, will be structured as nil-cost options. This change in structure will not affect any other conditions or the total value of awards made.

Managing the balance of amount and risk

The economic crisis emphasised the need to ensure that the potential amount of remuneration and the stretch of performance targets do not encourage excessive risk-taking. We are satisfied that our proposed structure does not do this.

Aligning pay with the relevant market benchmark

We will continue to benchmark the remuneration of our senior executives against a UK cross-industry comparator group. We will also take into account international comparators within our industry.

Board membership

Chris Weston was promoted to the Board as an Executive Director midway through 2009 and this Report describes his remuneration arrangements in detail for the first time. Paul Walsh was a member of the Committee until he retired from the Board at the Annual General Meeting on 11 May 2009. We thank Paul for his valuable contribution to the Committee’s work during recent years.

The Committee believes that the proposed changes represent a step forward in supporting the future direction of the business, are aligned to our values and are in the best interests of shareholders.

Helen Alexander
Chairman of the Remuneration Committee
25 February 2010

This Report details the Company’s executive remuneration policy and includes information on the remuneration of the Directors for the financial year ended 31 December 2009.

The Report will be presented to the forthcoming Annual General Meeting (AGM) for approval. It explains how the Company has applied the principles of the Combined Code on Corporate Governance (the Code) that relate to Directors’ remuneration during the year. No Director is involved in the determination of, or votes on, any matter relating to his or her own remuneration.

The role of the Committee

The Committee is a committee of the Board and its terms of reference are available from the General Counsel & Company Secretary and are also published on the Company’s website www.centrica.com.

The principal role of the Committee is to determine and make recommendations to the Board on the Company’s framework and broad policy for the remuneration of the Chairman of the Board, the Company’s Executive Directors and other senior executives, and the associated costs.

Members of the Committee during 2009

Throughout 2009 Helen Alexander was Chairman of the Committee and Roger Carr, Mary Francis, Andrew Mackenzie and Paul Rayner were members of the Committee. Paul Walsh was a member of the Committee until he retired from the Board at the AGM on 11 May 2009. The Board has determined that each of the Non-Executive Directors who are members of the Committee is independent.

Advice provided to the Committee

During 2009, the Committee had access to the advice and views of:

• the Group Director, Human Resources;
• the Group Director, Reward;
• the Chief Executive;
• the Head of Audit and Risk;
• the General Counsel & Company Secretary;
• Kepler Associates (Kepler) who acted as independent external adviser to the Committee; and
• Towers Watson who were consulted but not formally appointed as advisers to the Committee.

Neither Kepler nor Towers Watson provided any other advice to the Company.

The Committee’s activities during 2009

The Committee under its terms of reference usually meets at least four times a year. In 2009 the Committee met six times and some of the key items which were considered are described in the table below.

Key matters considered by the Committee during 2009

How reward is aligned to our strategy

The Committee believes alignment between Centrica’s business strategy and the remuneration of its Executive Directors and senior executives to be essential.

• The fixed elements of our remuneration packages are competitive, but not excessive, against the markets in which we compete for talent. This avoids building unnecessary current and future costs into the business.
• A significant proportion of the total remuneration opportunity depends upon delivering business performance. Total remuneration will increase with strong performance and go down if the business performs poorly.
• Short-term incentives are focused on the delivery of strategically aligned performance measures, determined on a role-by-role basis. These include demanding financial and business-related objectives.
• Longer-term incentives reward the creation of shareholder value over a three-year period. Performance is measured using a combination of earnings per share (EPS) growth, relative Total Shareholder Return (TSR) performance and Group Economic Profit (EP).

Remuneration policy

The remuneration policy aims to deliver a remuneration package:

• that will attract and retain Executive Directors and other senior executives in a challenging business environment that is competitive in both commercial and human resource terms;
• that delivers an appropriate balance between fixed and variable compensation for each executive;
• in which a significant proportion depends on the attainment of demanding performance objectives, both short and long term;
• that provides a strong alignment with the achievement of strategic objectives and the delivery of value to shareholders; and
• that seeks to avoid creating excessive risks in the achievement of performance targets.

Remuneration framework

The remuneration framework reflects current best practice, including the provisions on the design of performance related remuneration as set out in Schedule A to the Code, while meeting the Group’s particular business needs:

• the Committee reviews the packages and varies individual elements when appropriate from year to year;
• in agreeing the level of base salaries and the performance-related elements of the remuneration package, the Committee considers the potential maximum remuneration that executives could receive;
• the AIS is designed to incentivise and reward the achievement of demanding financial and business-related objectives; and
• long-term share-based incentives are designed to align the interests of Executive Directors and other senior executives with the longer-term interests of Centrica’s shareholders by rewarding them for delivering sustained, increased shareholder value.

Remuneration mix

In 2009, the total remuneration package of the Executive Directors comprised elements in the following proportions:

Relative proportions of the components of each Executive Director’s remuneration (%) in 2009

•  Salary
•  Bonus
•  Benefits and other cash
•  DMSS & LTIS
•  Pension
•  Cash payments in lieu of pension

Note: Salary and benefits are the actual amounts received during 2009, in the case of Chris Weston from 1 July 2009, the date of his appointment to the Board.

Shareholding guidelines

A minimum shareholding policy requires the retention of a value of shares as follows:

• Chief Executive – 2 times his base salary;
• other Executive Directors – 1.25 times their base salary; and
• executives immediately below Board level – 1 times their base salary.

Pension and other benefits

Executive Directors, with the exception of Phil Bentley and Chris Weston, are entitled under the terms of their contracts of employment to receive a salary supplement in lieu of pension provision. The salary supplements are paid in cash, with the exception of part of the supplement for Sam Laidlaw which is paid directly into his personal pension plan. The cash amounts paid in the year are disclosed within the Directors’ emoluments table and related footnotes below.

Phil Bentley and Chris Weston participate in the Centrica Pension Plan (CPP) (a contributory final salary arrangement) and in the Centrica Unapproved Pension Scheme (CUPS).

Emoluments of senior executives below Board level

The total emoluments of the five senior executives immediately below Board level during 2009, calculated on the same basis as the emoluments of the Executive Directors, fell into the following bands:

Bands £000	Number of senior executives
600 – 699	2
500 – 599	1
400 – 499	2

The Committee takes into consideration the remuneration arrangements for the wider employee population in making its decisions on remuneration for senior executives.

Base salary

Reflects the role and the sustained value of the individual in terms of skills, experience and contribution.

The Committee establishes a base salary for each Executive Director and other senior executives. Base salaries are determined by individual performance and having regard to market salary levels for similar positions in comparable companies. Base salaries are reviewed annually.

Changes in 2009

There were no base salary increases for Executive Directors in 2009 other than when a significant change in role took place.

Phil Bentley received a base salary increase when his role increased significantly when he took on responsibility for the UK downstream business. Chris Weston received a base salary increase when he was promoted to the Board on 1 July 2009.

Changes in 2010

It has been decided that base salary increases averaging 5% will be awarded to the Executive Directors in 2010, two of whom have assumed additional responsibilities. This maintains salaries at around median of the market and follows a year of significant delivery including the consolidation of British Gas into one business, the acquisition of Venture Production plc and the completion of the investment in British Energy.

Annual Incentive Scheme (AIS)

The AIS provides a focus on the delivery of the financial targets set out in the operating plan. It rewards the achievement of strategic priorities for the year that position the Group well for strong future performance and also the delivery of personal objectives.

Annual performance measures in 2009

The annual performance metrics used in the AIS in 2009 were designed to reward the delivery of our key strategic priorities for the year. Some examples of performance metrics used in 2009 include: EP; meeting cost reduction targets; project completion and customer satisfaction measured by third party, industry recognised surveys.

In 2009, the primary financial measure was EP. In addition, each Business Unit had a number of business metrics focusing on their key strategic priorities for the year: Business Unit Economic Profit, cost reduction targets, project completion and customer satisfaction levels.

Performance is also assessed against a corporate responsibility scorecard that includes Health, Safety and Environment (HS&E) performance indicators. If overall performance against the corporate responsibility scorecard was not satisfactory, the overall Business Unit metric results for the year would have been reduced.

A bonus will be forfeited if overall performance is deemed to be unsatisfactory.

Annual incentive opportunities in 2009

At the beginning of each year, the Committee reviews the AIS to ensure that the incentive opportunity remains competitive in the marketplace. For 2009, the target and maximum bonus opportunity, together with the relative proportions of the components that made up the target bonus opportunity, were as follows:

Percentage bonus opportunities at target and maximum

•  Financial performance targets
•  Group/business-related targets
•  Stretching personal objectives

Performance for 2009

The annual bonus outcomes of the 2009 AIS were determined by performance against each of the metrics used. Annual bonus levels ranged from 106% to 185% of target for the Executive Directors. Annual bonus awards for Executive Directors were between 79% and 165% of base salary.

Changes for 2010

In 2010, performance against an HS&E metric will replace part of the Business Unit metrics as a core element of the AIS. The bonus opportunity for on target performance will remain unchanged at 90% of base salary for the Chief Executive, and 75% of base salary for the other Executive Directors.

Deferral of annual incentives

Part of an Executive Director’s AIS award is compulsorily deferred and invested in DMSS (see below). 40% of any AIS award for the Chief Executive and 30% for Executive Directors and executives immediately below Board level will be deferred.

Deferred and Matching Share Scheme (DMSS)

Assists with employee retention and incentivises the creation of long-term value for shareholders and delivery of sustained high performance.

Compulsory deferral

Part of the bonus earned under AIS for the previous year is compulsorily deferred into Centrica shares (deferred shares). If these shares are held for three years the deferred shares will be matched to the extent that a long-term performance condition is met.

Voluntary deferral

Executives may make an additional voluntary deferral of AIS into Centrica shares (investment shares). The maximum total deferral that may be made, including the compulsory deferral, is up to 50% of the maximum annual incentive opportunity which may be earned for a year.

Performance measures attaching to the DMSS awards

The performance conditions attaching to DMSS awards made for 2007 to 2009 are shown in the table below.

Share matching

Share matching increases on a straight-line basis from zero matching for no EP growth to a maximum of 2 for 1 matching for three-year EP growth of 25% or more.

For the purposes of matching, the investment shares are grossed up for income tax and employees’ National Insurance contributions. To provide a closer alignment with the interests of Centrica’s shareholders, the number of matching shares that are released will be increased to reflect the dividends that would have been paid during the three-year performance period on the matching shares that vest.

In the event of a change of control the number of matching shares that vest will be subject to time-apportionment in line with best practice.

For awards made from 2010 onwards it is intended that the matched shares will be awarded in the form of nil-cost options.

DMSS awards delayed in 2009

In 2009 the Executive Directors, and a number of senior executives, were subject to dealing restrictions under the Company’s Share Dealing Code. 40% of AIS payable in 2009 to the Chief Executive, and 30% for Executive Directors and executives immediately below Board level, was deferred and automatically invested in deferred shares, in accordance with the normal timetable. Participants were given the opportunity to indicate if they wished to invest in investment shares and the investment took place in May 2009, once the Company had ceased to be in a prohibited period.

In order to restore participants to the position they would have been in had the Company been able to operate the scheme under the normal timetable in 2009, the Committee determined that the three-year performance period will be deemed to have commenced in April 2009. Deferred and investment shares will be matched with shares only to the extent that the performance condition is met (see table above). The performance condition is based on performance over three financial years and is unaffected by the delayed operation of the DMSS.

Long Term Incentive Scheme (LTIS)

Rewards long-term value creation via longer term earnings, share price and dividend growth and the delivery of total returns to shareholders.

Under the LTIS conditional allocations of shares up to a maximum of 200% of base salary may be made to Executive Directors and other senior executives. In 2009, LTIS allocations equal to 200% of base salary were awarded to Executive Directors and, at lower levels, to other senior executives. The performance measures attaching to the LTIS awards made for 2008 and 2009 are shown in the table below.

EPS payout

In assessing the extent to which the performance conditions have been met, the Committee uses data provided by Alithos Limited (an independent third party) for comparative TSR performance and audited results for EPS performance.

The Committee also reviews whether the extent to which the performance conditions have been achieved is a genuine reflection of the Company’s underlying financial performance.

TSR payout

To the extent that the performance condition is met, the number of shares that are released will be increased to reflect the dividends that would have been paid on those shares during the three-year performance period.

For LTIS awards made in 2007 the vesting criteria were largely as above. The TSR element was unchanged. For the 50% of the award for which the performance criteria was EPS growth, the performance criteria was as above for 37.5% of the award. For the remaining 12.5%, if EPS growth does not exceed RPI growth by 20%, there is zero vesting. If EPS growth exceeds RPI growth by 20%, then 25% will vest. If EPS growth exceeds RPI growth by between 20% and 40%, then vesting will increase on a straight-line basis between 25% and 100%. There is full vesting for EPS growth exceeding RPI growth by 40%.

LTIS awards made in 2006 were subject to the same vesting criteria and performance conditions as set out in the table above.

Each year, before making LTIS awards, the Committee considers the performance conditions attaching to them, to ensure that they are aligned with the challenging growth and cost reduction targets inherent in the strategic plan.

Changes for 2010

In respect of LTIS awards in 2010 and in subsequent years, it is intended that these will be structured as nil-cost options.

The measurement of TSR will also be amended going forward such that the Group’s TSR will be measured as a percentage out-performance of the FTSE 100 Index. Vesting will increase on a straight-line basis between 25% and 100% for out-performance of between 0.1% and 7% p.a. To provide greater simplicity and transparency in the measurement process, companies which have been de-listed from the London Stock Exchange will be removed from the comparator group in future.

Executive Share Option Scheme (ESOS)

No grants of options under the ESOS were made during 2009. Details of options granted prior to 2009 and still held by Executive Directors are shown in the Directors' interests in share options table under Statutory Disclosures.

If, and to the extent that, performance conditions are satisfied, options normally become exercisable three years after the date of grant and remain so until the tenth anniversary of grant.

Funding of share schemes

It is the Company’s current intention to satisfy the requirements of its share schemes in a method best suited to the interests of the Company, either by acquiring shares in the market or, subject to institutional guidelines, issuing new shares or using shares held in treasury. To satisfy the release of shares under the LTIS and in order to meet the requirements of the ESOS in 2009, newly issued shares were used. Shares were bought in the market and are held in trust to satisfy allocations made under the Special Long Term Incentive Scheme (SLTIS) and Special Executive Share Option Scheme (SESOS) during 2008.

Retirement benefits

Executive Directors, with the exception of Phil Bentley and Chris Weston, are entitled under the terms of their contracts of employment to receive a salary supplement in lieu of pension provision. Mark Hanafin and Sam Laidlaw are each entitled to 40% of base salary, while Nick Luff is entitled to 30% of base salary, increasing to 40% with effect from April 2010.

The salary supplements are paid in cash, with the exception of part of the supplement for Sam Laidlaw which is paid directly into his personal pension plan. The cash amounts paid in the year directly to individuals are disclosed within the Directors’ emoluments table.

Phil Bentley and Chris Weston continue to participate in the Centrica Pension Plan (CPP) (a contributory final salary arrangement), as they were employed in the Group before the plan was closed to new employees on 30 June 2003. They also participate in the Centrica Unapproved Pension Scheme (CUPS). Disclosure of the pension arrangements for the Executive Directors is given under Statutory disclosures.

Other employment benefits

In common with other senior management, Executive Directors are entitled to a range of benefits, including a company car, life assurance premiums, private medical insurance and a financial counselling scheme. During the year, Mark Hanafin and Sam Laidlaw were also provided with a driver for limited personal mileage. Nick Luff is provided with a cash allowance in lieu of a company car. Such benefits are subject to financial limits as set out in appropriate policies.

They are also eligible to participate in the Company’s HMRC-approved Sharesave Scheme and Share Incentive Plan, which are open to all eligible employees on the same basis, providing a long-term savings and investment opportunity.

All taxable benefits arising from employment by the Company have been included in the ‘Benefits and other cash’ column of the Directors' emoluments table.

Service contracts

It is the Company’s policy that the notice period in Executive Directors’ service contracts does not exceed one year. The Executive Directors’ service contracts have no fixed term but provide that either the Director or the Company may terminate the employment by giving one year’s written notice and that the Company may pay compensation in lieu of notice.

On a change of control, conditional awards under DMSS and LTIS will vest to the extent that the performance conditions have been met at the vesting date and pro-rated for the time elapsed since the start of each performance period, until the vesting date, subject to the overriding discretion of the Committee.

In the case of new external appointments to the Board, the Committee retains a level of flexibility, as permitted by the Code, in order to attract and retain suitable candidates. It therefore reserves the right to offer contracts which contain an initial notice period in excess of one year, provided that at the end of the first such period the notice period reduces to one year. The Committee exercised this discretion in respect of the appointment of Sam Laidlaw on 1 July 2006, Nick Luff on 1 March 2007 and Mark Hanafin on 14 July 2008. Each has a service contract that contains a notice period of two years, which reduces to one year on the second anniversary of their respective date of appointment. The contractual notice periods for Sam Laidlaw and Nick Luff reduced to one year in 2008 and 2009 respectively.

External appointments of Executive Directors

The Board believes that experience of other companies’ practices and challenges is valuable both for the personal development of its Executive Directors and for the Company.

It is therefore the Company’s policy to allow each Executive Director to accept one non-executive directorship of another company, although the Board retains the discretion to vary this policy. Fees received in respect of external appointments are retained by the individual Director.

In 2009, Phil Bentley received £68,300 as a non-executive director of Kingfisher plc, Sam Laidlaw received £85,000 as a non-executive director of HSBC Holdings plc and Nick Luff received £47,000 as a non-executive director of QinetiQ Group plc.

Remuneration policy for Non-Executive Directors

Centrica’s policy on Non-Executive Directors’ fees takes into account the need to attract individuals of the right calibre and experience, their responsibilities and time commitment and the level of fees paid by other companies.

Fees

The annual fees currently payable to the Non-Executive Directors are:

Base fees
Chairman	£450,000
Non-Executive Directors	£60,000
Additional fees
Chairman of Audit Committee	£18,000
Chairman of Remuneration Committee	£12,000
Chairman of Corporate Responsibility Committee	£12,000
Senior Independent Director	£20,000

The fees are usually reviewed every two years and were reviewed in June 2009. In line with our decision to award no base salary increases to Executive Directors in 2009 (except where individuals have had a significant change to their responsibilities), no increases in fees were awarded to Non-Executive Directors. The fee levels will next be reviewed in 2010.

The Non-Executive Directors, including the Chairman, do not participate in any of the Company’s share schemes, incentive plans or pension schemes.

Terms of appointment

Non-Executive Directors, including the Chairman, do not have service contracts. Their appointment is subject to the Articles of Association and the dates they joined the Board are shown in the Directors' emoluments table. Roger Carr’s letter of appointment contains a six-month notice period. The Chairman’s fees are approved by the Remuneration Committee. The fees of the Non-Executive Directors are approved by the Executive Committee, whose current members are: the Executive Directors (Sam Laidlaw, Phil Bentley, Mark Hanafin, Nick Luff and Chris Weston) and three other senior executives (Grant Dawson, Catherine May and Anne Minto).

Promotion to the Board

Chris Weston was appointed to the Board on 1 July 2009. His base salary on appointment was £500,000 per annum. His AIS is subject to 30% deferral and investment as deferred shares under DMSS. His opportunity to participate in LTIS increased on his appointment, in line with our policy. He received an LTIS award of 150% of base salary in April 2009 and a further LTIS award of 50% of salary in September 2009.

Enlargement of roles

Phil Bentley’s role as Managing Director, British Gas, broadened significantly in 2009 as the residential energy, services and business energy activities were combined into a single customer-focused retail operation. In recognition of this change he received an increase in his base salary. In addition, a commitment was made that if he remains with the Group at least until January 2012, the accrued value of his pension under CPP will be increased progressively over time.

Mark Hanafin and Nick Luff assumed responsibilities for the Company’s nuclear investments in 2009.

Rights Issue adjustments

Under the Rights Issue effective 15 December 2008, for every eight existing Centrica plc shares held on 14 November 2008, shareholders received the right to buy three new Centrica plc shares at 160 pence per share. Existing conditional share awards, including DMSS matching shares and LTIS allocations, were adjusted to reflect the dilutive effect of the Rights Issue and were multiplied by a factor of 1.1233.

The performance conditions under the LTIS, ESOS and the DMSS were also reviewed by the Committee and appropriate adjustments were made to reflect the dilutive effect of the Rights Issue. Previously reported EPS was restated in accordance with IAS 33 and dividends per share for the six months ended 30 June 2008, and the preceding five years, were restated to take account of the bonus element of the Rights Issue. TSR was adjusted by a rate of 0.8902, being the agreed Rights Issue adjustment formula determined by dividing the theoretical ex-rights price (238.36 pence) by the closing share price on the last date the shares traded cum-rights (267.75 pence).

Recruitment to the Board

Mark Hanafin was appointed to the Board on 14 July 2008.

A one-off allocation was made to him under the SLTIS to replace awards from his previous employer, in accordance with the terms of his engagement. The SLTIS rules were based on the existing LTIS rules. An allocation of shares was made to vest in two equal tranches on 28 February 2009 and 2010. The first tranche vested in 2009. In accordance with the rules of the SLTIS, there are no performance conditions attaching to the remaining unvested shares other than continued employment with the Company. In the event of a change of control, the number of shares that vest will not be subject to time-apportionment.

A grant of unapproved options was also made under the SESOS to him in 2008 to replace awards from his previous employer, in accordance with the terms of his engagement. The SESOS rules were based on the existing ESOS rules. However, in accordance with the rules of the SESOS, the grant is not subject to any performance conditions, is exercisable immediately and will remain so until the tenth anniversary of grant.