Babcock International Group PLC (OTCPK:BCKIF) AGM Trading Update Conference Call July 21, 2016 3:00 AM ET
Franco Martinelli - Group Finance Director
Robert Plant - JPMorgan Chase
George Gregory - Exane BNP
Karl Green - Credit Suisse
Joe Brent - Liberum Capital
Sylvia Foteva - Deutsche Bank
Good morning everybody. I hope you've all had a chance to read our trading statement, so I'll just go through the highlights and then take any questions. Financial year started well. We're trading in line with our expectations for the year. We continue to replenish our £20 billion order book and visibility remains excellent with 85% of revenues for this year now in place and 56% for next year. On our existing contracts, including the Vanguard and Type 23 life extensions, Defense Support Group, the UK military flight training systems, both fixed wing and rotary wing, Phoenix, Magnox and Dounreay decommissioning and Ambulance Victoria are all performing to plan and performing well, we have many opportunities for future scope growth.
We've won a number of contracts during the period, across all our divisions, including £130 million of equipment support packages for the Royal Navy, a new order for a fourth offshore patrol vessel for the Irish Navy. Rosyth has got its third offshore wind farm contract. We signed a four-year extension to our UKMFTS Rear Crew training contract and an extension from British Forces support in Germany. We signed two overhead powerline refurbishment projects and renewed contracts in Sweden and Italy for emergency services for our helicopter business. In addition, we've signed a contract for helicopter support for wind farm contracts in the UK.
Overall, our financial position remains healthy and our £10.5 billion pipeline continues to provide good opportunities for growth. We expect to reach £4 million NDA on significant growth in the Magnox contract later this year. And following on from the success of our Alitalia contract earlier this year we're pursuing a number of international opportunities. In terms of the financials, we're comfortable where consensus sits and we haven't changed guidance. And finally, whilst you all appreciate that it's too early to predict the effects of the wider economy of last month's Brexit vote, the long term fundamentals of this are unchanged and we continue to expect good opportunities for growth both this year and in the medium term.
At that point I would like to end my preamble and take any questions.
[Operator Instructions]. And our first question comes from the line of Rob Plant from JP Morgan. Please go ahead, your line is now open.
You mentioned that Brexit hasn't had any effect so far. Just wondering, politically there's been quite a lot of movements. Has that in any way pushed contract decisions back at all? Thank you.
We haven't actually seen any significant movements on that. The political change Michael Fallon has, as you will know, is the Minister of Defense, Secretary of State and that's good, because we do know him pretty well and Archie and John Howie would know him pretty well. So that's good. In terms of delay, no, I don't think so. I don't think there's been any delays. I think the Defense Fire and Rescue is back three months, but that was back three months before we had any particular vote. And we're not seeing any others, any delays at this point. So we're not expecting any hiatuses as a result of the Brexit stroke changes in the senior government players.
And when would you expect the Defense Fire and Rescue contracts still, towards the end of this year?
Probably first quarter of the following year now.
That's where we're.
Our next question comes from the line of George Gregory from Exane. Please go ahead, your line is now open.
Just one from me please. You call out the impact of currency on the balance sheet, but there's no particular reference to the impact of currency on earnings. Should we expect accordingly positive impact on earnings or is it being absorbed elsewhere, please?
Okay. First thing to say on currency and earnings is we gave our update as to what our guidance was in May at the AGM and in the earnings those rates that we used - my calculations on my spreadsheets say that's about 5% movement to now. Those movements, particularly within South Africa and international. In terms of South Africa, I think I'm still giving 5% guidance, so if you want to say that's been absorbed in it, I will. There is good, positive opportunities there in the generation business.
The mining construction business is still flattish and I mean, I'm absorbing FX into that. So that's where I am with that. I think we could do better but I'm going to - still sticking to my guidance. In terms of international, at the beginning of the year we've got the EC225 issues which we've got there but we've got some good contract wins that we're expecting to get into the second half for the helicopter business. Again, I'm going to keep it at 5%. If you want to be more positive, I'm happy to hear positive from my analysts, but I'm going to put it into that context at this point in time. So I'm going to keep the guidance as is.
Okay. Just one more, if I may, a quick one and again, just slightly splitting hairs here, but the OCF cash conversion of the CapEx was a little above 80% in the year just gone. I mean, your guidance is around 80%. Could we expect it to be - direction of travel to be positive or are there any particular reasons why it should modestly drop back down this year?
I think we're a lumpy business with cash flows that in working capital and CapEx can be quite lumpy and we're happy with the guidance that we're giving as circa 80%. We gave circa 80% as our guidance and that's where I'm staying at this point in time. It's too lumpy to worry about the difference between 80% and 82% or 83%--
Our next question is from the line of Karl Green from Credit Suisse. Please go ahead, your line is now open.
I've got three questions. Just in terms of the new equipment contracts, can you split out what proportion of the £130 million was new versus renewed and what the average contract was of the new contracts? The second question just on Magnox, are you able at this stage to give any broad brush ranges as to what the incremental revenues could look like when they come on stream? Obviously there's going to be some offset from the pre-agreed £100 million step-down.
And then lastly, just if there's any comments around the EC225 groundings as to any incremental costs you've potentially incurred. I understand that a number of offshore workers now having to be moved out to platforms and vessels via boats rather than helicopters, so is that something that you're engaged in or you're maybe even viewing that as an opportunity? Thank you.
Okay, well I would say probably actually about 75% of the packages are new works and the average length of contract is about five years. So that's the answer to that. In terms of the Magnox, I don't think there's going to be any revenue this year in relation to that. By the time we agree it'll be September-ish. I think it's unlikely that's going to create - it might, but I think it's unlikely. I have not given and it will be significant, but we haven't said what the actual size is. We cannot do that at this point in time. It's more likely to affect revenue into next year rather than this. The big part of that conversation is what funds they have available and whether they want to spend it.
And I've said this many times before and forgive me for repeating myself for those listening, but the contract we - the options for the government is whether they - for the MBAs, whether they want to put the spend at the end of the contract or whether they want to spread it over the contract. The best thing would be to spend it all at once. They won't do that. I hope that they will spread it across and that will give us opportunities for revenue growth into next year. It makes no economic sense to put it all at the end.
So they'll do a bit of - the mix of that is to be agreed and that's part of the thing that needs to be agreed, between now and September. So I can't give you guidance other than I would expect it to affect next year rather than this. In terms of EC225, the current update position is it seems to be that it's a design issue. If that were the case then the OEM with that which is Airbus would be liable for any additional costs and actually, that's what we're currently thinking is going to be the position.
So Franco, just to be clear, so you could have some recourse against Airbus for consequential losses? In theory.
In theory there should be some recourse. Exactly where that will be put, I think it's still early days, but that's where the direction of travel currently is. So the investigation is not finished but that's where we're.
Our next question comes from the line of Joe Brent from Liberum, please go ahead your line is now open.
Three questions if I may? Firstly, could you just give us an update on where we're with single source contracts? Secondly, can you give us any indication of movements in the pension, given how far bond yields have fallen? And thirdly, could you just elaborate on the oil and gas market and talk through the capacity in the helicopter market there? I mean, I hear that there's a lot of over Class C.
Okay. So, single source, there is no update - not very much of an update. I mean, the process to consult - consulting has started again this year so that process has started. The SSRO is engaging with a number of industry representatives. Headlines is that they expect to have multiple rates on type of contracts which I don't think would be bad for us. I think that would be good for us. But other than that it's still early days in this year's consultation so I'm going to stop there at that point.
In terms of pensions, we have a bunch of hedging assets, 75% of our assets are hedging assets within our pension scheme. And overall I'd actually just have a quick look at it. We don't expect our liabilities actually to have changed significantly from the £200 million that we quoted at year end, so we don't expect that to have changed significantly. So that's where we're on pensions.
In terms of oil and gas, it's a mixed picture. We've got, as you know, one of our competitors in Chapter 11, another one of our competitors is strapped a little bit financially and we said at the time of the year end that would create some opportunities for us and we're seeing some of that and we expect to get maybe two or three contracts - well, three contracts in the second half. So coming back to your capacity issue.
The other difficulty on it is the use of helicopters between the EC225 which have all been grounded and actually trying to find enough S-92s to do the work it's actually the issue, so I don't recognize the overcapacity question that you've raised. I think the issue is about getting enough S-92s out there to meet the demands that are currently there, is actually what I - is what we're seeing.
Our next question comes from the line of Sylvia Foteva from Deutsche Bank. Please go ahead your line is now open.
Can I ask three questions please? On spot work, so your consultancy, rail businesses. I know you're saying that the UK Brexit vote hasn't had any impact on the long term business but what about some of the more shorter term work? Secondly, on DSG and the new opportunities that are being tendered, could you give us any idea of how material those are? And then finally, just following up on the oil and gas question, does the two or three contracts you reference, are these all contracts you're trying to win from competitors or are any of them new contracts? Thank you.
Okay, taking the short term contracts issue, yes, we've still got to win 2% of our - of this year's numbers and we need to win them. I can't see, at this moment - as I say, the guidance is still the same, but yes, you're right. We need to still go and get those and we'll see how that moves. Rail's doing fine at the moment. Powerline's won two contracts, as you saw, but we need - there's some more to win. So there is still 2% to win for this year.
So that's where we're. In terms of DSG, yes, we're doing some preliminary work on the Warrior now and the work is out there to be tendered and Lockheed Martin and I are in - and I - and us - they're not all discussing it all with me - are having discussions on how that contract will work. So that's progressing well. The Challenger and Protected Mobility's a little bit further out in time frame but those are going well at the moment.
See, that is going the way that we would - we had always hoped, when we got DSG, that we would be in the prime seat to win those contracts and our best wish was that they would just be rolled into the existing DSG contract, rather than any new contracts. So that's progressing well. In terms of the oil and gas - they come from competition, is the answer to your question. They are not new opportunities these. They're from competition and they are from - yes, from both of our competitors, is the answer to that question. So yes, that's what we're seeing.
Thank you. We have a follow up question from the line of George Gregory from Exane. Please go ahead, your line is now open.
Just one follow up from me. Just following up on Joe's question on the pension point. I think in your annual report you call out about a £300 million impact on the liabilities position as a reduction of the discount rate. When we look at double A spreads they're probably down, I don't know, 70 BPS. I mean, how does that - just so we understand, how does that feed through the pension position and is it that you wouldn't reflect the full reduction in the bond yield or -
No, George. Absolutely not. What you have is exactly what you've said which is absolutely right - in isolation. Of course we have hedging assets, so the assets in our gilts have all increased. So the gilt - the yield's gone down. The asset values have gone up. And so for those swaps and those yields that we've got it's hedged against those - against that, they go up and they offset what you've just described. In the accounts what happens is you put that in isolation and that's how we ask you to do it.
But you have to look at what's in our portfolio of assets and that's why it's offset. In addition, our equities have - haven't particularly moved down, so 25% of this stuff is equities stroke growth assets. The other 75% are hedging assets. So the hedging assets offset the decline. That's what they're supposed to do. And so therefore - and we've had some - so that's absolutely where are. So the £200 million that was there, it won't - it - yes, at the moment I'm - the actuaries tell me that it's about the same sort of number.
Okay, so to be clear, the sensitivities in the annual report are not including the hedging arrangements, basically?
They're not including the movement in the assets. You have to show them grow.
Just the liabilities. Got it. Okay. Thanks.
[Operator Instructions]. Okay, as there appears to be no further questions I'll return the conference to you, Franco.
Thank you, everybody, for dialing in this morning. I would just like to leave you with the final message that we've had a good start to the year, in line with our expectations and that we're not changing our view of what consensus should be at this point in time. And thank you very much, everybody, for dialing in. Thank you. Bye, bye.
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