Babcock International Group Plc (OTCPK:BCKIF) Q2 2016 Earnings Conference Call November 22, 2016 4:00 AM ET
Archie Bethel - Chief Executive
Franco Martinelli - Group Finance Director
Andrew Farnell - Morgan Stanley
Robert Plant - JP Morgan Chase & Co.
Joel Spungin - Bank of America Merrill Lynch
Ed Steele - Citigroup
Karl Green - Credit Suisse
Sylvia Foteva - Deutsche Bank
Allen Wells - Exane BNP Paribas
Okay, well, good morning. Welcome and thank you very much for joining us this morning, we appreciate it. I guess, since we presented a full-year's results back in May, I mean I guess as you all know, a lot has happened, probably, that would be a bit of an understatement and Brexit, new Prime Minister, new President across in the United States, the one that we didn't expect. So we've had the change, and I guess now we're going to have to live with the uncertainty. Probably, not what we really wanted.
And, of course, closer to home we've had a change at Babcock, a new Chief Executive. And, hopefully, our change hasn't added to that uncertainty. You'll be pleased to hear that Peter didn't leave me any envelopes in the desk, no secret files in the filing cabinet, and the only piece of [pattern], he, basically, gave me was don't screw up. So, I'm going to do my best not to screw up.
And during all of this change, I mean I think, from Babcock it is really about concentrating on our business. It's been about keeping focused on delivering to our customers, as we always do. And the distraction could be a major threat to us, but we're determined that’s not going to be the case. And I think our concentration on performance has resulted in, I think a pretty good first half year for us.
Following my introduction, Franco is going to go through the first half year results in detail. And then I'll take a quick look forward to the rest of the year and into next year. And then we'll give you the opportunity to ask questions. And the new Executive Team although they’re pretty old really, are here to support me and I won't hesitate to field any difficult questions to them.
So overall, I think it's been a really good start to the year. Pretty steady, it’s where we thought it would be. So across the Group, we’ve continued to perform and all of our major contacts. And that is pleasing to see the order intake continues to be strong around £2 billion of new contracts and I’m replenishing the order book, so maintaining our highly visible, forward-looking and order book of a £20 billion level.
And the pipeline of opportunities has actually started in the period to edge up slightly and has nudged up to £10.8 billion and encouragingly we are seeing new opportunities to go after across the whole Group. And in particularly I am pleased to see the international pipeline we’ll start to see that growing very strongly. I mean we've continued to focus on creating shareholder value and during the period we achieved an 8% increase in earnings per share and 8% increase in free cash flow and the interim dividend has been increased by 7%.
In many ways I think Babcock a pretty unique business. We’ve got strategy built around long-term relationships and long-term contracts with key customers. A strategy evolves over time, and it has served us well for a number of years, we don't chase topline growth, we concentrate on growing profits that drive earnings growth, free cash flow and investment and these are the measures that the management reward structures are also focused on.
We value very much long-term customer relationships and we are always prepared to go the extra mile to make sure we deliver to their expectations. But we always do this within governance environment that ensures we only take on contracts where there is an appropriate balance of risk and reward and where risk can clearly be defined and managed.
We manage, develop and operate complex infrastructure for our customers to provide through-life engineering and operating support for complex platforms, systems and equipment and we provide integrated innovative training in support of our customers operations. We have co-capabilities that we deploy across the whole Group in aviation services and marine, land and vehicles, infrastructure and training and we deploy these in our UK markets and increasingly we are deploying these around the world and our international operations. And we continue to develop and strengthen these capabilities.
By investing in the skills and development of our people throughout the company from apprentices, to graduates to professional specialists and to senior managers and this plays a key role in reinforcing our position as the UK’s leading engineering support services company.
We are neither an original equipment manufacturer, an OEM, nor creators of new technologies. In fact, we are equipment agnostic and I believe that is one of our key strengths. But we do have a deep understanding of the platforms, the systems and equipment that we do operate and support on our customer's behalf.
So, we seek out technology and process solutions that we can apply to enhance the performance, the reliability, and the availability of their key assets and their new infrastructure. And we are increasingly applying updated digital technologies to extend the life and enhance the performance of legacy systems and equipment. And this ongoing investment on people and the technology innovation plays a fundamental role and our ability to maintain these high contract win rates and contract renewal rates.
The executive team, management teams it’s a new team, but it’s highly experienced and has worked together now for many years. As the slide points out 70 years of Babcock experience between us, 60 for me and two each for them. So I believe we have a very good steady first half year, when everything’s taken into account. And I am now going to hand over to Franco to take you through the details and highlights of these results. Franco?
Thank you, Archie. So forcing me to do the financial and operational review, I’m going to start with the Group financial highlights. So headline 6% growth in revenue, 7% growth in operating profit. Organically, at constant exchange rates, 4% growth in revenue, a little lower than we had expected due to phasing in South Africa and I will come back to that when I get to the divisions.
7% growth in operating profit echoes what Archie said we would chase profit through profitable growth. Cash, very pleased with the cash performance, 8% growth in free cash flow, cash conversion above 100% again and cash conversion around 80% post CapEx, gives us an EPS growth of 8% and an interim dividend of 7%. Net debt stable at two times EBITDA.
If we go through the division, if we go through the P&L, Defense and Security, Marine and Technology good growth in the first half slightly better than expected in both and Support Services and International stable. Included within the organic growth calculations and FX effect on revenue of £38 million and operating profit of 7%. Margin stable at 10.8%, Marine and Technology improving through contract performance, Support Services stable and International, Defense and Security slightly lower and I'll come back to all of those again when we get through the divisional breakdown.
Profit before tax increased by 7%, the JV interest went up as expected and signposted at the year end. Profit after tax increased by 7%, but the tax rate now at 17.3% slightly higher than we thought that's because the weighting of the overseas profits in the make up so it’s 17.3%. EPS increased 8%. If we’d have done that at constant FX it’s a 6% increase in EPS.
Let me now go into Marine and Technology, first half, 7% excellent revenue 6% of that organic at constant exchange rates, 15% growth in operating profit. As I said driven by contract performance to the margins and in contract pickup particularly in the JV in Australia, where we had a very good end of contract there.
In terms of the rest of the contracts, we started on the Vanguard Class life extensions which we’ve signposted all going very well and exhibiting the growth that we would expect it to do. Type 23, we now have two Type 23s are going through life extensions, again performing pretty much as expected. You would have seen an announcement earlier this month we've got the next phase of the UK, U.S. missile tube contract, that’s a £1 billion program which we’re engaged in and have opportunities to win further.
We have won some new MoD equipment support packages. They started a little bit later and we expect that they are now ramping up and starting to phase in. We won an Irish OPV. We are now building an Irish OPV that’s the fourth boat that we are now building for them and we won some more transmission stuff and offshore wind transmission for Siemens. We have said previously the ANZAC Class Ship Alliance started on the July 1.
So looking forward to the rest of 2017, ongoing progress despite perhaps slightly lower QEC volumes in the second half. Defense and Security 16% revenue growth in the first half, 9% operating profit, the margin is slightly down is down because of the impact of the DSG procurement work which is lower margin compared to the average for this division. We started £1 billion worth of contracts in the last six months, Flight Training contracts, Rear Crew extension, Fixed Wing and Rotary Wing.
DSG procurement work is going very well and we now just started 12 demonstration vehicles for the Warrior Capability Sustainment Programme that’s exactly how we hope DSG works. We are in a great position. We are looking to do work and they give it to us. That’s exactly where – those of you that came to the capability in DSG that’s what we have been talking about and this is an example of it.
Phoenix II implementation of the new fleet management system is going very well. Strong performance on the Hawk support, British Forces Germany, contract extended for two years. We’ve renewed a number of army training and maintenance contracts some of those unopposed. Army delivered the final AirTanker on schedule in September which means that the dividends can start flowing a year from then so next year.
So again, good continued performance in the second half for France year 2017 from UKMFTS and DSG. DSG started halfway through last year. Okay. Support Services, flat revenue and operating profit, stable margin and last year did have a £7.5 million gain from the sale of the Lewisham. This year has got a margin pickup from Magnox in the first half.
So steady progress across the division. The NDA is expected to formally agree the Magnox scope growth in 2017. The Met Police contract that we are now forecasting the Bradwell and that will start from financial year 2018, beginning of financial year 2018 that has been delayed one of the phasing issues I referred to earlier about the phasing so a little bit longer than we’ve hoped to get backed in the growth.
High activities in our network engineering business, major service is going very well and post business is going very well and it's a big driver for growth and help to support the Alitalia and the Qantas contracts in the international division. We have seen some weakness in training, delays in nuclear projects business and the mining construction which is flat, but most of that is phasing. So growth for the full-year impacted by the H2 weighted scheduled reduction in Magnox/Dounreay, but that will be offset by our businesses that we can see coming forward.
International, 6% revenue growth, minus 1% organic revenue, MCS up 3%, so that’s very much driven by the weakness in South Africa and I will come back to that. MCS has won 31 contracts in the period, strong performance in Air Ambulance. We started of Ambulance Victoria in Northern Ireland and Southern France, so good growth there. UK wind farms full contract won a new market for us. Some weakness in firefighting which started a little bit late and a decline in civil protection work.
H225 grounding in the first half has affected the first half of oil and gas, but we have won two new oil and gas contracts as we said we would, so we are still predicting the same sort of outline for the year, but it would be second half weighted. Qantas is starting well, but the real revenue picks up next year and Alitalia performing well.
In South Africa equipment markets down and we are growing market share, but it's a struggle. We expect that it will be flat for the rest of the year. But the South African power business is going excellent full order book and a good opportunity for the second half. So I've talked about the oil and gas contract sourcing offsetting the H225 impact in the second half and the full order book for the power business for South Africa.
We go to cash, as I said 108% cash conversion, pre-CapEx with our target around 80% post CapEx which is up on last year, working capital is pretty similar as well to last year. There has been a net release of provisions about £4.5 million which I'll talk about a bit more which increases the cash outflow to 16.6, net CapEx, the depreciation of 1.4 times.
If you are looking at outlook still focusing 1.5 times CapEx depreciation, cash conversion above 100%, post CapEx around 80% there's nothing new there. The provision cash outflow for the full-year and we are now forecasting 30, the 25 that we had originally said plus the four that we've released which I referred to earlier and working capital around £25 millions, so pretty much still in line with what we've said previously.
Dividends from JV’s are starting to tick up as we said that we are going to slide on that in a minute. Tax little bit up on cash payments, free cash flow up 8%, pre or post-pension payments, excess pension payments whichever way you want to measure it. I know people will measure it differently, whichever way is at plus 8% and free cash flow yield at 6.1%. Pension contributions for the year expected to be around £40 million in excess of income statement which is more or less where we guided previously.
Net debt, did suffer an FX impact of £65 million from the weakness in Sterling against the Euro and more or less offset exactly what happened to the debt in the period. We did pay the final dividend of £100 million in the first half by far the biggest part of the dividend. Net debt to EBITDA stable at 2 times and still forecasting 1.8 times September exchange rates for the year-end.
Net capital expenditure still running at 1.5 times depreciation we very, very closely manage leverage because it provides us robustness in a changing environment and it allows to take opportunity of things like a corporate bond which we recently issued at 2% for 10-year money which we were very pleased with. So we have a proven track record of successfully deleveraging following acquisitions we expect that to continue.
I just like to talk about accounting and understanding the business we make some underlying adjustments to our numbers. It's important that the investors understand those, I will go through those. I'll talk about JV IFRIC 12 acquired intangibles. Net capital expenditure there's a appendix this year that just shows you where that number is because we keep getting asked to explain what it is. The reason why we refer to net capital expenditures is because in the MCS business we quite often will buy an asset and then convert into an up-lease, and it appears as a purchase and a sale, but it's really one transaction so we show the net CapEx position.
And then I'm going to talk about pensions and provisions. So this is the underlying adjustment. There’s only really three JV’s. JV’s represent 15% of our business to look at Babcock without considering Magnox or AirTanker or Dounreay would not give a fair view of the business. So we put out and split out for you, and we show as part of our revenue. IFRIC 12 is something that relates to UK PFI’s and it's in the customer receipt over time so we include it within operating profit that number is not increasing because PFI’s are more or less dead now. And they'll just have to run off over time.
And then we have the amortization of acquired intangibles. We have a particularly high number for our amortization acquired intangibles because we buy businesses with order books and customer relationships which we have to value long-term order books and relationships so we write those off over the period of the contracts and relationships.
So that's what we do, there's no exceptional items we don't take benefit of the tax rate changes so that’s for our underlying numbers, so it's clear. Joint ventures as I said represents 15% of our underlying revenue and 18% of profit. As I've explained previously we have things called operational JV’s and asset JV’s. The operational JV's of those where it's all basically a partnership where we teamed up with someone to give us capability and say from the percentages there in the operational JV’s those pretty significant percentages, these are partnerships that we have.
And typically the dividends there follow the profit after tax within six to 12 months you'll see that there's a step up in the half year. So you'd expect that to filter through into the next year. So we will have a step up in dividends from that. So we’ll expect that into next year. And then the asset JV’s are those that, as the name suggests have assets in them and borrowing and they typically like behind, but I am pleased to say that we've got our first dividend out of Ascent this year £1.5 million which is the first time we've got it we were predicting next year, we got it this year.
And we now know that we should get the AirTanker one a year from September. So both of those pretty much in line or ahead of where we felt we would be. So that's going to tick up and the dividends will be an excess of £25 million for this year. Pension deficit went up £60 million in - from the year-end, £38 million that was in the main funds and £30 million was in the small funds which we don't actually manage the rail, the local government pension scheme.
That's so the reason it’s only gone up £30 million were 75% hedged. So we are 75% hedged pretty well managed actually asked the actuaries to rerun the numbers as of Friday and we are back down to £200 million deficits? So the number moves around quite a lot, but it’s still relatively not volatile at £260 million so that's where we are. And pretty much as we expected and benefiting from our hedging policy set in place by the previous FD.
Moving on enough credit for Bill, half year net releases of £4.4 million we had provisions for us, there's lots of moving parts it's all about contract, gain share, warranty, personnel, taxation, reorganization, properties, assets and we've got a bunch of those coming in and going out. Couple of special cases that came along which meant we had a £4 million release, effectively. And that was we won a tax case on fringe benefit tax, for anybody who wants to know in Australia which we were surprised to do.
And we also had an early cancellation of an onerous operating lease, where someone wanted the asset that we had. So that’s £4 million of profit, still it’s a 1% net charge over the last six years and a 6% cash utilization over that period as an average, so that’s provisions. As I say, provisions are more significant for us than the normal outsourcers, but they're pretty much in line with – and less important than, say, for an engineering company or a manufacturer, so that's where we are and that's what we've got.
So if we look back into order book and pipeline. Order book at £20 billion, £2 billion of order intake as Archie has told you. Organic growth coming through Dounreay and DSG. Good revenue visibility at 93% 2017, 63% for the following year which is ahead of where we were last year.
£10.8 billion pipeline lots of things coming through and £3 billion added in the period. But what I look at quite often is the bidding and the tracking pipeline together and I can tell you that having looked at over the next three years that's looking pretty positive, so we are looking – we can look forward with some confidence. And the Group win rates are over 40% and 90% at the half year which again is a pleasing fact.
So for solid delivery and clear visibility, I’m going to give it back to Archie.
Thank you, Franco. That was very clear. Easy to understand. Thank you. So if I have a quick look forward, I think the number one priority is to continue to deliver a strategy and I think we are making good progress in that. We mentioned in our previous presentations to you the importance of the 2015 strategic defense review of the government that happened at the end of 2015.
And we now really are starting to see the outflows from that kicking in, so examples the Type 23 program is translating into the new Type 26 frigates; the Trafalgar class submarines into the Astute class submarines; the Vanguard class into the new Dreadnought class of deterrent submarines, the Challenger Tank life extension programs and the Warrior armored vehicle fleet being upgraded are all examples of flow-through from the SDSR are now coming through into our business and that's all positive for us.
We've also seen the decision to go forward with Hinkley Point, first new nuclear power station in a generation and again that’s a good news for us and allows us to move forward in our planning and we expect in the next few years to see another one and possibly two nuclear power plants going forward, so again in terms of our strategy very positive. And what we are really pleased does that we are beginning to increasingly leverage these UK reference projects into international markets across areas including the airports, emergency services, fleet management and defense training.
And on our International business that still remains a major push for Babcock has been for the last couple of years. I think it offers an exciting challenge, but it's a big opportunity for us and we are making I think really good progress and we are steadily growing our business from overseas markets over the last few years. So if you go back five years ago it was less than 10% of our business, today it’s over 20% of our business and continues to grow.
But I would point out that – flag up that actually taking that model overseas as a pretty difficult and challenging task. And the process first of all, we’ve got to identify governments and major customers who are receptive through this over transformational models that Babcock are so specialist at. And then, once we’ve convinced them of that type of methodology is not uncommon for them to want to introduce competition. So we have to get through a long process of that.
So we call that this double sale and it does take time, but it's paid off for those in many occasions so if you look at in Canada, the submarine support in Australia, the warships, surface warships sustainment and then move recently this year and the airport side with Alitalia and Rome airport at Qantas in Australia, again are really good examples of us – of why it's worth the effort to do this, and of course yesterday we announced the FOMEDEC project, our success in being selected as a preferred bidder for that project.
And I decided that we’d slip in a slide, just to give you some kind of fresh and submission on that. We are confirmed by the DGA and France as a preferred bidder and this is our long-term contract to provide and maintain training platforms related to the first stage training of pilots for the French Air Force, so for us a major breakthrough and first major contract with the French military and directly.
I mean we are confident that following a short approval process is the preferred bidder will be confirmed and we will be the successful bidder and that shouldn't take too long. The contract will run for around 11 to 12 years and – first stage and as value to Babcock is worth an excess of €400 million.
I'd like to point out this contract was won through a really great team effort between our MCS team locally in France and the rest services team here within Defense and Security Division here in the UK and it's a good example of us taking a model that we have developed the worth the Royal Air Force here in the UK very successfully and taken it into another country another Air Force and I think it's given us a lot of a confidence that that process is likely to work.
So following on from the successes with Alitalia and Qantas I think we believe that to assess further evidence of national opportunities where their unique capabilities and transformational approach will be attractive and to major companies and government departments.
I mentioned about change in the current environment and how that we've really focused and not been distracted with about curiously that because I was anticipating a new stand to read the mains and that is anticipated that these are some areas that you probably have in your mind and impact Babcock so I thought I'd just get these kind of a – as it were.
I mean I think first one leaving the European Union clearly a really big deal for the country, but I've got to say we have not identified anything so there's nothing business for the moment, so I could put my finger on it and say that's happened as a result of Brexit. I am not saying that might not happen, I don’t know, but probably think this is much like to be opportunities of the process as there are threats.
So I mean for Babcock it’s not been distracted by to continue focus in our business be ready to face up to any threats that may come through Brexit in the next year or two years, and but obviously be ready to move on any opportunities we see them out as a result of it. Link to the bigger thing is obviously the issue of Scotland and on lately circumstances that the UK government agreed to same referendum and in the equally unlikely circumstances that the people of Scotland vote for independence sustained.
I think the impact on those Babcock’s storage business operations and after five would be pretty minimum. Only the work that we carry out to Naval Base and support the nuclear submarines is likely to be directly impacted the rest of our business as we saw the first referendum which is probably pretty much immune from they were independent or not.
And at Faslane there are basically two fleets of submarines at Faslane there's the Trafalgar-Astute and nuclear power but conventional weapon submarines. Faslane became under threat, the easiest thing to do would be to move these submarines to Devonport. We already support half of the fleet at Devonport and it would be no big deal to simply move these other four submarines down to Devonport.
The other half of it what I would say Clyde we're talking an overall of a £250 million of what that’s not that significant, but half of that what relates to the four Vanguard deterrent boats that are now going to be replaced by the Dreadnought submarines. These four boats would have to be moved, but before doing that a new facility would have to be built somewhere else in the UK. That's a process that would take many years and then – have to happen offer good opportunities because probably Babcock would do most of the work in establishing the new facility and then operating it.
If I move on from that Brexit thing and the SSRO rule we do have – we got our regulator in the defense sector, the single source offers – they are concerned their main rules to look at how single source contracts well there has been competition have been operated. Our business put in a scale again of £2.5 billion work we do with MoD around £600 million to £700 million of a year are placed under single source contracts i.e. with the competition.
But our belief, and our early experience of working with SSRO, is it will be pretty pragmatic you know as a case-by-case basis, this isn't a regulation of utility costs, or water costs, this is about engineering projects and they’re all very unique, they're all very singular and the real answer relies mainly on just what we do at the moment and that is on individual negotiations. They are issuing for the first time guidelines round profit rates, they are issuing guidelines round about incentivization and bonuses.
And all of these factors have already existed in the old regime. So in the new regime they are more transparent, they’re open to people, but the outcome is likely to be pretty much as it was, so we're not forecasting any major significant change and how that operates. And also what I would say is the main thirst of the SSRO is not really about profit rates, it’s about embedding into the single-source contracts, some of our performance improvement and risk sharing elements that an actual fact have been developing between Babcock and the MoD for the last 10 years.
So what we see in the SSRO rules is pretty much the same type of things that we've already signed up to and things like our ToBA and the MSDF contract. So nothing there that I think is particularly different to us. The last one the commodities headwinds where we have you know through oil and gas and through the mining sector, particularly in South Africa we have seen some headwinds there.
It’s a relatively against small amount of a business of £250 million and we have to deal with that, just as everyone else has to deal with that, it seems to kind of stabilize, we've started to see a bit of turnaround in South Africa. But it is something that's just part of that business and you know we don't think it.
So I think in summary what I would say is that I think you know I don't believe that there's anything in this that really specific to us and even in Brexit I think if during the process we do find major disruptions in the economy as a result of it. We are not likely to be impacted to any greater or lesser extent to most of our UK companies.
And so let me just finish up in the summary. We have a robust and tried-and-tested strategy and a business model that we believe will continue to deliver growth. We are increasingly focusing on our core capabilities which we define as marine services, land and vehicles, aviation services and nuclear engineering. And we will continue to tightly align a business model and operate in structure around these core capabilities and we'll continue to support and strengthen them by further investing in training and technology both in the UK and internationally.
I think the long visibility of order book and the opportunity pipeline give us confidence to plan and invest for the longer-term and crucially the markets both in the UK and increasingly international continue to grow. And I’d just finally say that we believe a full-year results overall will be in line with expectations. We believe we’ve had a very good strong first half of the year and we believe the second half will be equally as strong.
So that’s enough from me and I’ll now open to questions.
Q - Andrew Farnell
Thanks. Andrew Farnell from Morgan Stanley. Just, can you talk about the pipeline? I think the last time that we spoke you talked about it being flat for the next 12 to 18 months, and I know it's only a marginal increase, but have you seen anything that would suggest that momentum and activity is going to pick up more materially from here? And then, just secondly, I think, on the last set of results you called out two to three contracts that would come out in MCS, as a result of competitor difficulties. Is that still the case? And is there any change there?
I think overall in the pipeline. I'm happy to see haven't moved up from the 10 to 10.8, I think looking forward as we do continually it still looks healthy going forward. I wouldn't predict that there's any huge – something that’s going to double it. But I think, across the whole of four main operating areas we are seeing longer-term opportunities. So I’ve no real concerns about maintaining and probably nudging pipeline slightly up again.
Although you do get these short-term, we just won FOMEDEC so there will be some pipeline to order book, sort of pipeline the good thing is the order book jumps up £400 million or £500 million, but the pipeline will go down as well. So the pipeline is a moving, living sort of thing.
Yes, we mentioned on the helicopter side, yes we have picked up a couple helicopter contracts in the first half of the year and we’re bidding a few others. So I think pretty happy. And they are in the oil and gas sector where previously two in Australia, but previously we hadn't been involved, so again success there.
Rob Plant from JP Morgan. Organic growth is 4% had been 6% H2 last year. How much of it was phasing? And in terms of the phasing how does it come back into the second half of next year?
I mean I'll maybe get Franco to say more in a detail, but yes, I mean the 4% - the biggest impact was phasing. We've got a couple of big headwinds in QEC and in Magnox which kind of works against it. But then, in the forecast, we have to forecast when things kick in. So for instance with a Met Police contract we thought it would be in by now it's not going to come in until into the financial year, so you get a push like that.
South Africa, we mentioned the headwinds in South Africa in the first half is started to improve for the second half, but there is a few things and it doesn’t take much to just knock you of 1% or 1.5%. That is mainly – so I mean the phasing thing I'm not too worried about, because if it’s phasing delays it doesn't – it means that I’m still delivering everything to my customer on time.
So there's no contract slippage, but unfortunately we can always get the customer to give us the contract on the day we would really like it and there is nothing to do with – there's nothing exceptional in that phasing that you could put to the external environment at the moment, it's just part of our business. The customers at times take longer than we would like and that's what's going to happen to us at the moment, I don’t know if you want to.
Yes. I mean just in comparison to last year, the Magnox/Dounreay step down is obviously part of that, so that’s a little bit if a headwind. So I wouldn't see it as a step down, really compared to previous years. There was that one-off item if you are comparing to last year, so that would be a fair thing to say. In terms of phasing, he is right, it is the Met Police that’s going into the power business in South Africa in the second half weighted because they've got a bunch of stuff that's just phasing. So I think it will help, it will give us a head start into next year, you're right, but it should edge up from the full from this year to the next year.
Good morning. It’s Joel Spungin from Merrill Lynch. I got three actually. First of all just starting on the marine margin which obviously ticked up in the first half, I know you mentioned there were some contrasts that came to an end there. Can you just give us your feeling for what the full-year margin will look like whether it's going to end up?
I think pretty much in line with last year, we said flat margins for the year and that's fine and that's where it's going to be.
So would that be flat in the second half?
I think it will be slightly lower than it was last year in the second half so the full-year will be flat overall.
And then just in terms of the Group's leverage position; obviously you're saying it’ll be just below two times for the full-year. Can you just give us an update in terms of your thinking on balance sheet? Is there anything substantive in terms of M&A activity that you're currently looking at and at what point would you start to consider upping capital returns to shareholders if the leverage drops?
I mean I would answer that by – I mean we're always scanning the horizon for acquisition as part of our growth scenario. It’s always been part of our growth scenario. What I’d say at the moment we’re not looking at anything specific. We're not pursuing any specific either as a major acquisition or as a bolt-on and that's just simply because where we are I guess in the cycle, we're concentrating on the organic growth, but still concentrating on integrating the MCS and the international operations and so we’ve got no clear, no definite plans to do that.
So as a Company could grow as 5%, 6%, 7%, we should continue this deleveraging and we’ll see the debt coming down. I think we focus more on shareholder value. So I mean I think the point of it would be in the future period enhanced dividends or pay money back to shareholders through some other route. Yes, that will come to play if that sure to be the best way of delivering the best shareholder value, but we've got no strategy specifically related to that.
Just one more. I’m pretty sure this one is for Franco. There’s a couple of accounting changes coming down the line to do with lease accounting and long-term contract accounting. I was just wondering if you had any initial thoughts and why if anything they might mean for the business.
Yes. IFRS 2015 counting were not a business that lends itself to unbundling. If you are doing a nuclear submarine, I always use the best example, obviously, we do nuclear submarine and we’re not going to charge the customer for the galley and not the nuclear reactor, so if we can get the same price we probably would, but unfortunate probably couldn’t.
So I don't see that there's going to be much in effect of an IFRS 15, we are not going to have Rolls-Royce maintenance plate of unbundling that they've identified, so I don't think that's really coming our way. We have to do the work, it’s not coming for a little while, but we don't see any significant movement. In terms of up leases there's about £400 million once you start discounting in the balance sheet last year that would go into the balance sheet with an asset on the other side.
It would increase operating profit by around £20 million to £25 million depending on what the numbers are in [Asia] an increasing – and so increase it and it would charge on to the interest loan, so you'd have a flip between interest and profit, so that's what would happen so the EPS wouldn’t be very affected.
Good morning. Ed Steele from Citi. Couple of areas I would like to ask about please. First of all kind of coming back to that organic growth impact from phasing, you said in the last I know it’s the previous one that you have £160 million sales headwind this year from Magnox/Dounreay and QE Carrier doesn't look like much of that is impacted first half the two divisions. So do you still stick by that?
Why do you say that?
You said that it’s going to – I mean the JV and Support Services revenue hasn’t really fallen?
No that’s because the JV has increased so it hasn’t fallen that you can’t say it because the rail JV’s activities are.
Okay. How much of the 160 was in the first half please?
I would say it’s probably around 60s to 70s is the actual answer.
60 to 70 and do you still stick with the 160 for the full-year?
So there is more of a drag in the second half.
Do you think that taking under account plus the other things that you mentioned organic growth has upside and downside which sequentially second half versus first half?
I think we are pretty comfortable with the 4% in the second half.
Oh! Okay, got it. Thank you. And then second question is on yesterday's contract obviously great to win in Europe. What's the economic rationale for the French government to ask you to buy the simulators and the other capital equipment rather than to buy it themselves and kind of what sort of turn can you make on that please?
I mean let me talk the rational is simply as an integrated service so the customer there is coming to us and he's looking to buy the whole parts so as the aircraft is a simulator as it's a facilities and then it's the delivery of the trading. So it's an integrated contract much that we will see happening here in the UK.
So the benefits of the integrated contract are what really drive the efficiencies in the cost and quality of the outcome and that’s the answer. I mean on the overall on the contract we will make enormous of the margin part of that would be a margin on the procurement part of it is on the driver of the service, so that will be no real different from any of our contracts.
Absolutely right. I think Archie is exactly right. The integrated delivery which makes all the difference and that's why the customer does it that way and it's pretty short-term financing, it's not long-term financing.
Got it. Okay, thanks very much.
Thanks very much. It’s Karl Green from Credit Suisse. I've also got four questions, I’m afraid. Just firstly in terms of Magnox and the potential extension of that contract, can you give us some sort of rough sense as to the incremental revenues that might come through the timing of that. I think you've alluded to, but just a bit more specific in terms of likely signings and also potentially the impact around margin phasing, so first question is on Magnox.
Second question just in terms of the Scotland issue so to speak. How it’s all that's affecting your thoughts around Naval Dockyard CapEx up in that region. The third question around FOMEDEC just in terms of what swung it for you competitively you’ve already talked about the integrated service, but given to what extent did your package differ from the competition. And then the last question just one for Franco just in terms of where the £4.4 million provision releases were booked to basically to which division or divisions please?
Okay. I missed the second one; can you give me the second one again, because I wrote the other three down?
It was just around the thoughts around Scottish Naval Dockyard CapEx.
What was the first one again Magnox phasing. Yes, Magnox I mean the expansion the base line of it is significant figure I mean I don’t think we can…
We haven’t given the numbers you said it significant.
But as significant in terms of the scale of the contract and it's been very complicated, the timing of completion has slipped quite a bit and as you know that Magnox are pretty much embroiled in the whole case of the placing of this contract and I don’t expect them really to kind of finalize and settle the expansion of the contract until they’ve finished with that part of it.
So we’re now probably looking until financial year 2018 before we see that coming through. Although we're already actually carrying out some of the extended scope, so the whole project is moving forward, but because of the external complications probably that’s going to take a little bit longer before the whole thing is settled.
In Scotland, the CapEx, in the Dockyards, again up in Scotland I only look at – the only one I really think, an independents worth considering is Faslane. And there is a huge investment going on in Faslane at the moment but it's by the ministry itself. So Faslane is undergoing several billion pound investments by the Ministry at the moment which we're going to benefiting from and will continue to benefit from.
So they’re not acting as if they think they're going to have to close it which is a good thing. And at Rosyth we’ve been investing, we've been investing in support of the missile tube assembly contract and the support for the offshore renewable projects that haven’t been particularly significant. And I think we’ll continue at Rosyth to invest on the basis of the projects that we really support and we don't have any real plans to do any sort of a major fundamental capital expenditure anywhere in our Scottish operations.
FORMEDEC, Why did we win?
FORMEDEC, why did we win? Yes I mean I'm pretty sure that our offering would be slightly different you know we very much had as the reference project the United Kingdom. So what you know teams in the air side of Defense and Security have been doing in the UK for many, many years now and on pilot training was the basis of what we took to the French. So it would be quite, I'm pretty sure there would be nobody else with that same approach.
So again it's back to this kind of double-sell, I mentioned in my talking the first instance we have to convince, but the convince the DGA that the Babcock we are doing it would deliver them better results of lower cost and then we had to compete with the French competitors to actually you know then confirm that and that's what we do.
On the provisions which is your fourth question it is not really fair to just take out those two examples I gave as a quote because this charges and releases across all the divisions and on average it evens out. So you take the four across the divisions as a whole. Those particular ones may have been in a particular divisions, but they had charges that were that which I have referred to, so you can’t just add back the four. So I think it would be a fair way to say would be to spread it around four divisions really.
Hi, good morning. Sylvia Foteva from Deutsche Bank. Three questions please. Firstly on the pipeline and could you just go again through kind of the biggest items in there and the biggest items in the order book in terms of timing for decisions and for when we're actually going to see the revenue through?
Then secondly on CapEx obviously your kind of operating cash following the provisions was kind of flattish and then the free cash flow was up because the CapEx was a bit kind of lower. Can you just talk a little bit about kind of what's not come through in the first half, what's coming through in the second half kind of how is your ERP going?
And then finally, just obviously people are getting a little bit excited about defense spend in Europe potentially increasing. Is there any pressure on kind of the NATO countries to potentially increase that spend as a proportion of GDP? Do you see any benefit from obviously the UK has already compliance, so I’m not sure if there is anything that you could add on that? Thanks.
I'll start with the first one and then you can.
I mean on the defense spending, yes, that’s from the early announcements from the new President, he has pushed all along his issue that NATO, the NATO countries don't all stand up and pay – committed to spend some in the UK, committed to spend 2% figure back of the SDSR in 2015 and we've seen the move forward in that and confirm that. And yes there is pressure from the U.S. and the new President.
I'm pretty sure that there's a good chance here, we are putting pressure on the rest as it reviews NATO, put pressure on the other NATO countries to do likewise. And if that was the case I think I don't think there's any other country in NATO and Europe who spent 2% of the GDP, so potential there would be a big increase in defense spend that could be opportunities for Babcock not on the paid line, but there was an increase in general and defense spending and I mean that would be good news for all the suppliers of the defense sector.
Right. I will take some of those in order, OCF, operating cash flow, CapEx, it was about – CapEx depreciation was about 1.4 times and slightly expected to be 1.5 times. Last year it was bit higher and then came back in the second half, last year if it’s going to be 1.5 for the full year, so I didn’t see anything there. The ERP’s gone live in the central costs units, and it's going to live in one of the other divisions in January. We believe it’s going to go as a phased rollout, so it’s going to plan.
Going back to the pipeline, yes there are number of opportunities in the biggest ones just to have me signed off for obviously the Magnox sign off which is significant. There are bunch of opportunities within Defense and Security which you would have seen when you came to the Capital Markets Day, Marine has a number of opportunities across Type 45 support et cetera some in Australia, some in Canada. It's spreading around, there's nothing big significant in isolation that would pickup as already been and I think that was it.
Just follow-up actually on Karl’s question that's all right and just in terms of the 4.4, but can you just give us in terms of provision releases or charges which divisions benefit and which didn't I know the net…
Overall will be pretty well spread is what I'm going to say.
Hey, good morning. Allen Wells from Exane. Three very quick ones. In their release you' talked about some delays in nuclear project business due to the Sellafield management change. Is that in relation to the existing work you're carrying out i.e. you’re having to slow that down or is this on the new opportunities coming out was the potential packages come out of that contract?
It's a bit of both. It's a bit of both so that they've got a whole plan that they are going to put together and that hasn't quite come to fruition yet and while they're thinking they just slow down a little bit.
And then can you quantify the monetary impact of the Super Puma grounding, EC225 in profit revenue terms within MCS for the year?
I think the answer to that is I can’t.
Are you going to share it I assume? I mean I've been very funny to talk about obviously the potential for AirTanker to pay divis from next year and how do you expect the phasing of that or should we have it coming through nice and maybe for the rest of the project will it face up on a…
It’s going to be relatively low in the beginning, so it's going be a couple of million in the first year and then it will stay in that ground that’s over 10% for a few years – really pick up until five years out six years out.
One follow-up please. When you bought Avincis, I think the ownership mix of the fleet was 50-50 leased and owned obviously you've been doing quite a lot of sale and lease back subsequent, what's the current mix and where is the target that you sell out at place?
The target is still 50-50 and we're still around sort of 60-40 I think.
60-40, thanks very much.
End of Q&A
Okay. Well, if there are no further questions. I bring this to close by saying thank you very much for joining us this morning. We really appreciate you coming to take the time to ask questions. I hope we’ve answered your questions as you would have hoped and thank you for your support and we'll see you in the next presentation. Thank you.
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