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Report of the Remuneration Committee

The awards made annually from 2005 to 2008 were each subject to two performance conditions which operate independently of each other. This meant that meeting either of the conditions would trigger a payment without the need to meet the other performance condition. 50 per cent of each award was subject to a Total Shareholder Return (TSR) performance condition, measured against a group of other airline companies, and the other 50 per cent was subject to an average operating margin performance condition. The use of two separate but complementary performance conditions created an alignment to both the airline industry (via the TSR measure) and also the Company’s internal financial performance measure (via the operating margin measure). Both of these performance conditions were measured over a single three-year performance period which began on April 1 prior to the award date. The awards would not vest until the third anniversary of the date of award as mentioned in directors’ conditional awards. The Remuneration Committee selected these performance conditions because they are challenging and aligned to shareholders’ interests.

TSR measures the financial benefits of holding a company’s shares and is determined by share price performance along with any dividends which are paid. None of the shares that are subject to the TSR performance condition will vest unless the Company’s TSR performance is at the median (50th percentile) of the airline comparator group. If median performance is achieved, 25 per cent of the shares (ie 12.5 per cent of the total award) vest. There is then a sliding scale at the top of which all of the shares vest in full (ie the full 50 per cent of shares which are subject to the TSR performance condition) if the Company’s TSR performance is at or above the upper quintile (top 20 per cent) of the comparator group. The comparator groups of airlines used in the awards from 2005 to 2008 are shown in the table below:

Air Berlin (2008 only) Lufthansa
Air Canada Northwest Airlines
Air France (2005 and 2008 awards only)
Air New Zealand Qantas Airways
Alitalia Ryanair
All Nippon Airlines SAS
American Airlines Singapore Airlines
Cathay Pacific Airways Southwest Airlines
Continental Airlines (2005, 2006 and 2007 awards only)
Delta Airlines United Airlines
(2005 and 2008 awards only) (2006, 2007 and 2008 awards only)
easyJet US Airways
Iberia (2006, 2007 and 2008 awards only)

It is currently intended that the comparator group for awards that are made in 2009 will be broadly the same as that used in 2008 (with the exception of Alitalia which has delisted and Northwest which has merged with Delta).

For the 50 per cent of the shares that were subject to the operating margin performance condition, vesting will be as follows:

    Average annual operating margin over performance period
Award Performance period 0% vests 25% of shares (ie 12.5% of total award)
vest
100% of shares (ie 50% of total award)
vest
2005 award 2005/06 – 2007/08 Less than 7% 7% 10%+
2006 award 2006/07 – 2008/09 Less than 8% 8% 10%+
2007 award 2007/08 – 2009/10 Less than 8% 8% 11%+
2008 award 2008/09 – 2010/11 Less than 5% 5% 10%+

A sliding scale of vesting operates for performance between the minimum and maximum vesting points.

The Committee has given considerable thought to the 2009 PSP awards. As noted above, previous awards have been based 50 per cent on operating margin and 50 per cent on British Airways’ TSR compared to other airlines.

While the Committee believes that it is generally desirable to base part of the award on financial performance, the lack of visibility over the period 2009/10 to 2011/12 and, in particular, the timing and scale of the global economic recovery and the possibility of a merger with Iberia make it very difficult to set financial targets over the next three years.

Therefore, the Committee proposes that the 2009 award should be based 100 per cent on the TSR performance condition. As outlined above and in line with previous practice, TSR will be compared to a basket of other airlines and vesting will occur for rankings between median and upper quintile. The Remuneration Committee proposes to underpin the TSR test with a requirement relating to financial performance. However, the lack of visibility referred to above makes it very difficult to apply a quantifiable target. Therefore, the Committee proposes that irrespective of the outcome on TSR, awards will only vest if the Remuneration Committee is satisfied that the Company’s underlying financial performance has shown an improvement and that this is satisfactory in the circumstances prevailing over the three-year period. The Remuneration Committee has selected this performance condition because it is challenging, aligned to shareholders’ interests and, despite the current circumstances, is a reliable means of comparing management’s performance within its sector.

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