The Audit Committee reviews our annual accounts prior to their submission for approval by the Managing Board. The Audit Committee also monitors accounting policies, considers matters relating to management and internal controls, and receives and appraises reports from the internal and external auditors. Members of the Audit Committee are Patrick B. Paul, M.Y. Wan and Abraham L.H. Shek. This committee is chaired by Patrick B. Paul. The Internal Audit Department reviews the internal controls of all major financial and operational activities and reports to the Audit Committee.

     On January 21, 2003, the former Committee on Senior Executive Remuneration was renamed as the Strategic Human Resource Committee. This Committee reviews and makes recommendations to the Managing Board with respect to the appointment, termination and remuneration of executive directors who are not Members of the Managing Board, and senior executives who report directly to the Chief Executive Officer. It also recommends to the Managing Board the appropriate levels of remuneration for all staff. Members of the Strategic Human Resource Committee are Michael P.S. Tien, Vincent H.C. Cheng, Patrick B. Paul, Abraham L.H. Shek, Sarah S.T. Liao and Frederick S.H. Ma and the expert members are Paula C.M. Ko Wong and Anita M.C. To Yu. This committee is chaired by Mr. Michael P.S. Tien.

6.D      EMPLOYEES

     We employed a total of 5,871 full-time staff as of December 31, 2003. We had 1,470 contract staff, generally with a contract term of two years, hired for West Rail Phase I and the East Rail Extensions, the Kowloon Southern Link and the Sha Tin to Central Link projects. Staffing levels have increased at an accelerated pace during the last three years to meet additional manpower requirements of West Rail Phase I and the East Rail Extensions. We hired 898 new staff in 2003, including 102 for the East Rail Extensions Division. Of a total of 1,983 operating staff, 882 belong to either the Railway Workers Union, carried over from when the Kowloon-Canton Railway was operated by the Government, the Operating Staff Association or the Kowloon-Canton Railway Employees Association. Union membership is not compulsory at KCRC and there has never been any union contract in effect since we were formed. We recognize the three unions for staff relationship purposes only, but do not negotiate with the unions over staff compensation. We have not experienced any organized labor disputes since KCRC was formed. At December 31, 2002 and 2001, we had 5,510 and 5,170 employees, respectively.

     Our Human Resource Division continuously analyzes, improves and synchronizes our human resources planning and practices with our business needs. We emphasize the importance of training and development, and endeavor to promote high levels of competency by encouraging all managerial and non-managerial employees to undergo training to meet our current and anticipated needs. We believe that our relations with our employees are good, and we regularly consult with our employees when formulating staff policies. Employee turnover in 2003 was approximately 9.4%. To address a potential shortage in engineering and maintenance staff for various capital projects when they come into operation, we have commenced a program of early recruitment and intensive training, as well as identifying opportunities for internal promotion among our existing technical staff.

ITEM 7. MAJOR SHAREHOLDERS AND RELATED PARTY TRANSACTIONS

7.A      MAJOR SHAREHOLDER

     The Government is our sole shareholder. As of December 31, 2003, the Financial Secretary Incorporated for and on behalf of the Government owns 391,200 shares of KCRC, which represents 100% of our total shares outstanding.

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     The Government has given us support through close cooperation in our network development and equity injections. Under the KCRC Ordinance, the Government may direct us to declare and pay dividends up to our entire profit, after some allowances, in any given fiscal year.

7.B      RELATED PARTY TRANSACTIONS

East Rail Extensions Project Agreement

     On February 28, 2003, we entered into the subject agreement with the Government for the financing, design, construction and operations of the East Rail Extensions and related services and facilities. Under the terms of the project agreement, we will be responsible for, and will bear and finance the full amount of the capital cost for the construction and operation of the East Rail Extensions, and the costs of the removal and replacement, modification or improvement of existing facilities affected by or required as a consequence of the construction of the East Rail Extensions.

     We received an equity injection of HK$8 billion from the Government for the construction of the Ma On Shan Rail and TST Extension in March 2001. We expect to finance the balance of the cost for the project from commercial financing and internal resources. We expect to design and complete the construction of the TST Extension and Ma On Shan Rail and to bring them into operation by 2004.

     We were granted the property development rights to four sites on the Ma On Shan Rail alignment above the Tai Wai station and Maintenance Center, Che Kung Temple and Wu Kai Sha stations, and to two sites on the East Rail alignment at the Fo Tan station and Ho Tung Lau Maintenance Center. The grant of such property development rights shall be at a premium payable to the Government to be assessed at the date of such grant, together with an annual rent of a specified percentage of the ratable value of the subject of such grant as assessed from time to time. We will be responsible for all works required to construct the proposed property developments. Further, we and the Government have agreed that any property development profits from these sites in excess of a specified amount would be distributed to the Government as extraordinary dividends, subject to certain exemptions.

Entrustment Agreements

     We have entered into entrustment agreements with the Government in respect of certain public infrastructure works and other works along the routes of the West Rail Phase I and the East Rail Extensions, under which we have agreed to carry out works on behalf of the Government in return for periodic reimbursements based on the work completed.

Investments in Debt Securities Issued by the Government

     Since December 15, 2003, we have not held any investments in debt securities issued by the Government and Government-owned entities in Hong Kong. Interest income derived from our investment in these debt securities during 2003 amounted to HK$11 million.

Octopus Cards Limited

     In 2003, we made payments of HK$29 million to Octopus Cards Limited, of which we hold 22.1% of its shares, in respect of fees for the use of the Octopus cards system. These payments were made based on the fare revenue generated from Octopus cards. No other charges were made or incurred by us in respect of the administration of the Octopus cards system. We received HK$7 million from Octopus Cards Limited in ticket loading agent fees for providing add-value amount on Octopus cards.

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Shareholding in and Loan to WRPDL

     On February 24, 2000, we entered into a shareholding agreement with the Government for the establishment of WRPDL, a holding company we formed together with the Government, to undertake all property developments along the West Rail Phase I route. The issued share capital of WRPDL comprises 51 ordinary “A” shares and 49 ordinary “B” shares, which are held by us and the Government respectively. The ordinary “A” shares are not entitled to any distribution by WRPDL other than a return of capital, and the ordinary “B” shares are entitled to all dividends declared by WRPDL and a return of capital.

     All costs incurred or to be incurred in relation to the West Rail property developments are to be funded by loans from us to WRPDL bearing interest at an annual rate of 1% plus our average cost of funds in the preceding year. To the extent that WRPDL is unable to repay the loan, the Government shall seek the necessary authority to reimburse costs incurred by us. The Government has also undertaken to indemnify us against all liabilities properly incurred by us in relation to such property developments.

     Subsidiaries of WRPDL have been formed to implement property developments along the West Rail Phase I route whereby the Government will receive the profits, if any, from each development and we will earn management fees. For a list of these subsidiaries, see “Item 4. Information on the Corporation — Organizational Structure.”

     As of December 31, 2002, included in other receivables as noted in our audited consolidated financial statements are certain costs relating to the property development along the West Rail Phase I route amounting to HK$498 million (US$63.9 million). Pursuant to the terms of the shareholding agreement, the above amount together with the related accrued interest of HK$148 million (US$19.0 million) will be aggregated together with the balance of the outstanding loan granted to WRPDL, pending agreement between KCRC and the Government. The amounts have been included in the balance of loan to WRPDL at December 31, 2003 upon agreement between KCRC and the Government according to the provisions as set out in the Shareholding Agreement. See Notes 19 and 23 to our audited consolidated financial statements.

     No member of the Managing Board or the Senior Management, or any officer of KCRC is or was, during the last three years, indebted to us.

7.C      INTERESTS OF EXPERTS AND COUNSEL

     Not applicable.

ITEM 8. FINANCIAL INFORMATION

8.A      CONSOLIDATED STATEMENTS AND OTHER FINANCIAL INFORMATION

     See “Item 17. Financial Statements” and pages F-1 through F-54.

Legal Proceedings

     As of December 31, 2003, the Group had contingent liabilities arising from certain contractors’ claims in respect of the contracts for the construction of West Rail Phase I and the East Rail Extensions projects for which no provisions have been made in the financial statements as of December 31, 2003. The Group is in the process of resolving these claims and the amounts of the Group’s obligations, if any, cannot be estimated reliably. See Note 42 to our audited consolidated financial statements.

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