Annual Report and Accounts 2010

Remuneration report

This detailed remuneration report seeks to give full consideration to the principles set out in the Combined Code on Corporate Governance 2008.

Remuneration committee

“Our long-term objective is to ensure that the Group attracts and retains the best quality management skills necessary to achieve a high level of corporate performance, in line with the interests of shareholders, and to maintain a remuneration policy and framework for executive directors to achieve this.”

Philip Rowley, Committee Chairman 2011

As part of the process to refresh the board and its committees, Philip Rowley joined the remuneration committee on 25 January 2011 and took over as Chairman in place of Jeremy Scudamore on 31 January 2011, Larry Hirst joined the committee and Kathleen O’Donovan stepped down as a member on 25 January 2011. In addition, John Scarisbrick retired from the committee on 16 December 2010 and Andy Green joined the committee on 25 February 2011. The current membership of the committee is Philip Rowley (Chairman), Young Sohn, Larry Hirst and Andy Green.

During the year, the activities of the committee included a review of potential advisers, after which Towers Watson were appointed by the committee and undertook a review of executive remuneration.

The committee’s other responsibilities include:

• •determining and agreeing with the board, within agreed terms of reference, the Group’s policy for the remuneration of the executive directors and the individual remuneration packages for each executive director. This includes basic salary, annual bonus, the level and terms of conditional awards under the Long Term Incentive Plan and the terms of performance conditions that apply to such benefits, pension rights and any compensation payments;
• •making recommendations in relation to the remuneration of senior management including members of the executive committee; and
• •liaising with the board in relation to the preparation of the board’s annual report to shareholders on the Group’s policy on the remuneration of executive directors and in particular the directors’ remuneration report, as required by the Companies Act 2006, the Combined Code on Corporate Governance 2008 and the Listing Rules of the Financial Services Authority.

The committee’s terms of reference are published on the corporate website at www.arm.com. Given their diverse business experience, the independent non-executive directors who made up the committee in 2010 and the new members who joined the committee in 2011 offer a balanced view and international expertise in relation to remuneration matters for the Group.

Remuneration Review 2010

The committee has access to independent professional advice from external advisers in the furtherance of its duties and makes use of such advice.

During 2010 after a review of potential advisers, Towers Watson were appointed by the committee and undertook a review of executive remuneration, including a detailed comparison of the composition of the remuneration packages for the executive directors and key senior managers against those offered by appropriate peer companies. Their main conclusion was that the base salaries were below median relative to other companies of similar market capitalisation. The amount of leverage was normal and total reward was constrained by the level of base salaries. The maximum bonus under the Deferred Annual Bonus Plan (DAB) was below the market norm and it was recommended that this be increased from 125% to 150%. This change was approved by the remuneration committee in December 2010 to apply to bonuses earned in relation to the 2011 financial year onwards. This will bring maximum bonus for executive directors and executive committee members in line with the maximum bonus that can be achieved by the next level of management, who can also achieve a maximum bonus of 150% .

Base salary increase for 2010

For 2010 the average increase in base salaries for the executive directors was 3.3% and the average increase for the workforce as a whole was 3.58%.

Remuneration policy

The remuneration committee, in its deliberations on remuneration policy for the Group’s executive directors, seeks to give full consideration to the principles set out in the Combined Code on Corporate Governance 2008. The committee is able to consider corporate performance on environmental, social and corporate governance issues when setting the remuneration of executive directors. The committee also monitors developments in accounting for equity-based remuneration on an ongoing basis.

The Group operates a remuneration policy and framework for executive directors designed to ensure that it attracts and retains the best high quality management skills necessary to achieve a high level of corporate performance, in line with the best interests of shareholders. This policy seeks to provide rewards and incentives for the remuneration of executive directors that reflect their performance and align with the objectives of the Group. These comprise a mix of performance- related and non-performance-related remuneration. The committee believes that a director’s total remuneration should seek to recognise their worth in the external market and, to this end, obtains information from independently published remuneration surveys, benchmarks the total remuneration package and applies the following principles: • base salaries are set by reference to the market median, as part of a total remuneration package which

• •base salaries are set by reference to the market median, as part of a total remuneration package which has the potential to be upper quartile;
• • a significant amount (i.e. more than 50%) of total potential remuneration is performance-related;
• •a significant element of performance-related remuneration is provided in the form of shares;
• •elements of performance-related variable remuneration are subject to deferral; and
• • the performance of divisional general managers is measured both at division and Group level.

Advisers

In addition to the appointment of Towers Watson, other advisers who provided services during 2010 were:

• •KPMG who provided general advice on remuneration and benefits, including tax advice for employees who are seconded overseas and they also worked on royalty audits;
• •Linklaters who provided legal services in relation to equity plans and corporate matters;
• •Monks who provided salary survey data;
• •Deloitte who provided salary survey data, royalty audit services and tax training; and
• • Kepler Associates who provided independent verification of TSR calculations for the Long Term Incentive Plan.

Advisers are generally appointed by Bill Parsons, the EVP, Human Resources and are subject to review by the committee. The EVP, Human Resources also provided advice to the committee and to the Group in 2010. Monks is an associate of the Group’s external auditor and these services were approved by the audit committee in accordance with the procedure described in the Corporate Governance report. The Chief Executive Officer and the EVP, Human Resources, normally attend for part of remuneration committee meetings. No director is involved in deciding his or her own remuneration.

Shareholding guideline

A shareholding guideline is in place for executive directors and certain senior managers, who are required to build up a holding of shares in the Company over a period of five years. The shareholdings may include shares received through earlier grants under the Company’s share option schemes and/or the Long Term Incentive Plan and/or the Deferred Annual Bonus Plan and, in the case of executive directors and members of the executive committee, the required holding is 100% of basic salary.

Incentive arrangements

The remuneration committee aims to ensure that individuals are fairly rewarded for their contribution to the success of the Group. There are four key incentive schemes in operation within the Group. These are the Deferred Annual Bonus Plan (DAB) and Long Term Incentive Plan (LTIP) for executive directors and senior managers and the Employee Equity Plan and Annual Bonus Plan for all other employees. These plans provide alignment between remuneration and the financial performance of the Group and strengthen retention of key employees through deferment of bonus. Option grants to executive directors ceased in 2006 (although the facility to grant options exists in exceptional circumstances) and the move away from options to restricted shares for all employees reduces potential dilution and has simplified remuneration arrangements. Since 2007, variable remuneration for executive directors and certain senior managers has consisted of two performance-related elements: annual bonus and a conditional award under the Long Term Incentive Plan.

Deferred Annual Bonus Plan (DAB)

There is a strong variable element to executive directors’ remuneration and for 2010 a bonus of up to a maximum of 125% of base salary (after application of a personal performance multiplier which flexes the payment by 0.75 to 1.25) could be earned through the DAB if all targets were met.

The strong performance of the Group in 2010 resulted in both of the two bonus targets being achieved, each of which was capable of triggering 50% of total bonus. For 2010 the US dollar revenue target was $548.7 million against which revenue of $631.3 million was achieved. The normalised operating profit (NOP) target range was from zero payout at £89.5 million up to 25% at £112.4 million and 50% at £120.0 million, all at the budget exchange rate of £1:US$1.65. Actual currency adjusted NOP was £150.1 million. These targets were set by the remuneration committee in December 2009/January 2010 against the background of the extremely difficult trading conditions that prevailed in 2009 and the considerable uncertainty that existed in relation to global economic conditions and trading prospects for the semiconductor industry as a whole. It is to the credit of the executive team and all employees that these targets were exceeded in such a potentially difficult year. The bonuses payable to each executive director in respect of performance during 2010 are shown later in this report and are all at 125% of base salary, half of which was compulsorily deferred into shares for three years. Shares representing the deferred element of bonus earned in 2007 and awarded in 2008 vested in February 2011, with the maximum 2:1 ratio of matching shares being triggered.

The personal performance multiplier depends on the achievement of pre-determined objectives which are reviewed and approved by the committee each year. These include key strategic objectives related to each director’s role and responsibilities including compliance with the Management Charter which is designed to foster employee development, understanding of the overall vision and strategy of the Group and good governance. There is compulsory deferral into shares of 50% of the bonus earned and an opportunity to earn an equity match of up to 2:1, subject to achievement of an EPS performance condition. At the end of the three year deferral period the shares and any matching shares earned are satisfied first from treasury shares and then by newly issued shares.

The targets set by the committee for the DAB each year are intended to be stretching but motivational and average bonus paid to the executive directors over the past five years is 77.8% of salary (with a range from 38.6% payout in 2007 to 125% in 2010) as shown below:

Average % bonus paid over the past five years to executive directors

Following the remuneration review conducted by Towers Watson and taking account of the relatively modest increases in base salary, the committee has taken the decision that the maximum potential bonus for 2011 onwards will increase to 150% of base salary (after application of the personal performance multiplier). This is regarded as fair taking account of the total remuneration packages available to the executive directors and the arrangements in place in peer group companies. For 2011, the committee has decided to adopt the same bonus target arrangement so that 50% of bonus will be dependent on achieving a US dollar revenue target and 50% on achieving a currency adjusted NOP target, which the committee believes have been set at challenging but motivational levels.

At EPS growth equal to the increase in the Consumer Prices Index (CPI) plus 4% per annum, the deferred shares will be matched on a 0.3:1 basis, rising to 2:1 when EPS growth is in excess of CPI plus 12% per annum. These targets are directly related to the Group’s financial results and encourage achievement of the Group’s short-term financial goals, while the deferral and matching elements encourage a longer term view of the success of the Group. The deferred shares can be forfeited in the event of gross misconduct and the matching shares are subject to forfeiture for “bad leavers”.

Long Term Incentive Plan (LTIP)

Annual grants to executive directors are normally made at a level equivalent to base salary. Conditional awards vest to the extent that the performance criteria are satisfied over a three-year performance period from 1 January of the year of award and no re-testing thereafter is possible. The performance conditions are based on the Company’s Total Shareholder Return (TSR) when measured against that of two comparator groups (each testing half of the shares comprised in the award). The first index comprises UK companies across all sectors (FTSE 350) and the second comprises predominantly US companies within the hi-tech sector (FTSE Global Technology Index). The committee approved the replacement of the FTSE Global Technology Index (which ceased to exist at the end of February 2011) with the All World Technology Index for assessing TSR for LTIP awards made in 2009 and subsequently. Towers Watson has confirmed that there is 99% correlation between the performance of the two indices.

The performance criteria provide the link to performance against an appropriate peer group. For each comparator group, the number of shares that may vest may be up to a maximum of 200% of the relevant half of the shares comprised in the conditional award if the Company’s TSR ranks in the upper decile, 50% of the relevant half of the shares will vest in the event of median performance and between median and upper decile performance vesting will increase on a straight-line basis. Additional shares may vest to cover dividends paid by the Company during the performance period. No shares will be received for below-median performance. In addition, no shares will vest unless the committee is satisfied that there has been a sustained improvement in the underlying financial performance of the Group.

Former share option schemes

The option grants to executive directors made up to 2006 remain available for exercise and vesting in accordance with the rules of the relevant schemes. They are subject to performance conditions which led to partial vesting after three years based on real EPS growth and the remainder vests after seven years. Any options issued to executive directors prior to their appointment to the board are not subject to performance conditions. The performance conditions relating to these remaining option grants are set out in more detail in the table later in this report.

Pensions

The Group does not operate its own pension scheme but makes payments into a Group personal pension plan, which is a money purchase scheme. For executive directors, the normal rate of Group contribution is 10% of the executive’s basic salary plus additional amounts in accordance with the Group’s salary sacrifice scheme. Full details of Group contributions are set out in the directors’ emoluments table later in this report. In response to impending changes in legislation, the committee has agreed that, to the extent that contributions cannot be made in a tax efficient way at the 10% of basic salary level, the difference will be paid as an additional cash allowance (and subject to appropriate tax and other deductions).

Service agreements

Executive directors have service contracts that may be terminated by either party on one year’s notice. These agreements provide for each of the directors to provide services to the Group on a full-time basis and contain restrictive covenants for periods of three to six months following termination of employment relating to non-competition, non-solicitation of the Group’s customers, non-dealing with customers and non-solicitation of the Group’s suppliers and employees. In addition, each service contract contains an express obligation of confidentiality in respect of the Group’s trade secrets and confidential information and provides for the Group to own any intellectual property rights created by the directors in the course of their employment.

The dates of the service contracts of each person who served as an executive director during the financial year are as follows:

Where notice is served to terminate the appointment, whether by the Group or the executive director, the Group in its absolute discretion is entitled to terminate the appointment by paying to the executive director his salary in lieu of any required period of notice.

Non-executive directors

During 2010, the Chairmen of the audit and remuneration committees each received a total fee of £47,500 per annum and the other non-executive directors each received a total fee of £42,000 per annum. These fees were arrived at by reference to fees paid by other companies of similar size and complexity and reflected the amount of time non-executive directors were expected to devote to the Group’s activities during the year. The remuneration of the non-executive directors is set by the executive directors and the term of appointment is three years which can be rolled forward for a further period of three years and is then subject to annual review. Fees paid to non-executive directors are reviewed annually with effect from 1 January.

Non-executive directors do not have service contracts, are not eligible to participate in bonus or share incentive arrangements and their service does not qualify for pension purposes or other benefits. No element of their fees is performance-related.

Performance graphs

A performance graph showing the Company’s total shareholder return (TSR) together with the TSR for the FTSE All-World Technology Index from 31 December 2005 is shown below. The TSR has been calculated in accordance with the Directors’ Remuneration Report Regulations 2002.

The TSR for the Company’s shares was 273% over this period compared with 21% for the FTSE All-World Technology Index for the same period.

ARM total shareholder return performance from 31 December 2005 to 31 December 2010

The directors consider the FTSE All-World Technology Index to be an appropriate choice as the Index contains companies from the US, Asia and Europe and therefore reflects the global environment in which the Group operates. In addition, the Index includes many companies that are currently the Group’s customers, as well as companies which use ARM technology in their end products.

Directors’ shareholdings in the Company

The directors’ beneficial interests in the Company’s ordinary shares of 0.05 pence, which exclude interests under its share option schemes, Long Term Incentive Plan and Deferred Annual Bonus Plan, are set out below.

In addition to the interests disclosed above, the executive directors have interests in dividend shares that could be awarded under the Long Term Incentive Plan and the Deferred Annual Bonus Plan, the amount of which will depend on the extent to which the performance criteria are satisfied and the dividends declared during the performance period. Changes in directors’ interests in the Company’s shares that have taken place in the period from 31 December 2010 to the date of approval of the remuneration report are shown above.

Audited information

The following information has been audited by the Company’s auditors, PricewaterhouseCoopers LLP, as required by the Companies Act 2006.

Interests in share options

Details of discretionary options beneficially held by directors are set out below:

*Denotes share options issued under the Group’s Approved Share Option Scheme.

** Denotes share options issued under the Group’s Unapproved Share Option Scheme with performance conditions attached.

†Denotes share options issued under the Group’s Unapproved Share Option Scheme which are exercisable as follows: 25% maximum from first anniversary, 50% maximum from second anniversary, 75% maximum from third anniversary, 100% maximum on fourth anniversary.

For options granted in 2004 the performance conditions requiring average real EPS growth of at least 33.1% were satisfied and 100% of the options vested on 1 February 2006 and 8 February 2007 respectively. For options granted in 2005 the performance conditions were satisfied to the extent that 89.44% of the options vested on 8 February 2008 and the balance will vest seven years from the date of grant.

For the final grant of options in 2006 the performance conditions were satisfied to the extent that 76.2% of the options vested on 8 February 2009 and the balance will vest seven years from the date of grant. The performance condition was that 50% of the shares under option would vest after three years if the Group achieved average real EPS growth of 12.5% over the performance period. If average real EPS growth of at least 33.1% had been achieved over the performance period, 100% of the shares under option would have vested after three years. For average real EPS growth of between 12.5% and 33.1% over the performance period, the number of shares vested after three years increased on a straight-line basis.

Details of options held by directors under the Group’s Save As You Earn option schemes are set out below:

Options issued under this scheme are issued at a 20% discount to market value.

Details of options exercised by directors during the year are as follows:

Details of options exercised by directors after the year end are as follows:

Long Term Incentive Plan

A Long Term Incentive Plan was approved by shareholders at the 2003 AGM. Conditional share awards held by directors are as follows:

*  The performance conditions applicable to the 2007 conditional awards were satisfied to the extent of 181.6% plus dividend shares.

** The performance conditions applicable to the 2008 conditional awards were satisfied to the extent of 200% plus dividend shares.

As detailed in the 2009 annual report the performance conditions applicable to the conditional awards granted on 8 February 2007 were satisfied
to the extent of 181.6% plus dividend shares which vested on 8 February 2010, as follows:

The performance conditions applicable to the conditional awards granted on 8 February 2008 were satisfied to the extent of 200% plus dividend shares which vested on 8 February 2011, as follows:

The following conditional awards over ordinary shares were made under the LTIP on 8 February 2011: Warren East 77,741; Tim Score 62,684; Tudor Brown 36,007; Mike Inglis 44,190; Mike Muller 43,372 and Simon Segars 43,863. The midmarket closing price of an ordinary share on 7 February 2011, being the business day prior to the date of these conditional awards, was 611 pence.

Deferred annual bonus plan

As described above, there is a compulsory deferral of 50% of the annual bonus earned by executive directors in the year. The emoluments detailed below include the full bonus earned for 2010, though only half has been settled in cash and the deferred elements will be settled in shares after three years.

The total number of awards under the deferred annual bonus plan held by the directors following the 2011 grant is:

The performance conditions applicable to the matching awards relating to the deferred elements of the annual bonus for 2007 were satisfied to the extent of 200% matching shares plus dividend shares which vested on 8 February 2011, as follows:

The market value of an ARM share on the date of vesting was 595 pence.

Except as described above, there have been no changes in directors’ interests under the Group’s equity schemes since the end of the 2010 financial year up to the date of approval of the remuneration report.

The Company’s register of directors’ interests contains full details of directors’ shareholdings and options to subscribe and conditional awards under the LTIP.

Share prices

The market value of the shares of the Company as at 31 December 2010 was 423.30 pence. The closing mid-price ranged from 183.6 pence to 440.3 pence during the year.

Directors’ emoluments

The emoluments of the executive directors of the Group in respect of services to the Group were paid through its wholly-owned subsidiary, ARM Limited, as were the non-executive directors with the exception of Lucio Lanza and Young Sohn who were paid through ARM Inc., and were as follows:

*All the executive directors receive family healthcare and annual travel insurance as part of their benefits in kind. In addition, Tim Score has the use of a Company car and Warren East, Tudor Brown, Mike Inglis and Mike Muller receive a car and petrol allowance. Simon Segars receives living, transportation and other allowances as part of his placement in the US.

**The bonus payments above represent the full bonus earned during 2010. According to the terms of the DAB, 50% of this bonus is not paid in cash, but is deferred and becomes payable in shares after three years. Details of the awards made in February 2011 in respect of these deferrals are detailed above.

Warren East is the highest paid employee in the Company.

It is the Company’s policy to allow executive directors to hold non-executive positions at other companies and to receive remuneration for their services. The board believes that experience of the operations of other companies and their boards and committees is valuable to the development of the executive directors.

The following information is unaudited.

Details of executive directors’ roles within other companies and their remuneration are as follows:

Warren East is a non-executive director of De La Rue plc and he received remuneration totalling £47,000 up to 31 December 2010 (2009: £45,250). He was also a director of Reciva Limited until 30 June 2010. The options over Reciva shares that were previously awarded lapsed on his resignation and he received no other remuneration. The Group holds less than 1% of the issued share capital of Reciva Limited. Tudor Brown is a non-executive director of ANT plc. In this capacity he received remuneration totalling £22,500 up to 31 December 2010 (2009: £25,625). Mike Inglis is a non- executive director of Pace plc and in this capacity he received remuneration totalling £42,000 up to 31 December 2010 (2009: £33,000). Tim Score is a non-executive director of National Express Group plc and in this capacity he received remuneration totalling £56,000 up to 31 December 2010 (2009: £72,000 including an additional fee for acting as interim chairman for Q1 2009). Simon Segars was a non-executive director of Plastic Logic Limited until 31 December 2010 and in this capacity he received remuneration totalling £15,000 (2009: £15,000). He holds options over 49,400 Plastic Logic shares at a option price of US$0.065 which are exercisable until 2 March 2011.

All the executive directors are accruing benefits under a money purchase pension scheme as a result of their services to the Group, contributions for which were all paid during the year.

Philip Rowley
Chairman of the Remuneration Committee