Babcock Regulatory News (BAB)

Babcock International Group PLCfull year results for the year ended 31 March 2019

22 May 2019 

Profit growth and strong cash generation

See page 2 for notes on the adjustments made to derive the underlying results of the Group and for all footnotes referred to in these tables.

Financial highlights

· Underlying revenue of £5.2 billion, in line with guidance given in February 2019. Exits and disposals and lower activity in the short cycle parts of our business impacted revenue while performance across long term contracts remained strong. Organic underlying revenue growth at constant rates was -1.9% (-1.0% excluding exits)

· Underlying operating profit up 0.7% to £588 million

· Margin expansion reflects increased JV contribution, good contract performance and the exit of low margin businesses

· Statutory revenue down 4.0% with statutory operating profit of £197 million impacted by £161 million of exceptional costs:£41 million of operating profit exceptional costs recognised in the second half, mostly related to pensions as flagged in February 2019

· Underlying basic EPS up 1.2% to 84.0p

· Cash performance: underlying operating cash flow of £618m, with net capex of £149 million and cash conversion post capex of 104%. Free cash flow (including pension payments) was £324 million, £74 million higher year on year

· De-gearing: net debt £958 million, down £157 million year-on-year and represents 1.4x EBITDA, in line with our guidance

· Full year dividend: up 1.7% to 30.0p, reflecting our confidence in the prospects of the Group and sustained cash generation

Operational highlights

· Combined order book and pipeline stable at £31 billion

· Continued partnerships working with our customers to drive operational excellence

· Significant UK contract wins in the year: integration of new training technology across naval bases and air stations (MARTASS), Naval Design Partnership, commenced continuous production of submarine missile launch tube assemblies, DSG vehicle transformation additional scope, Dounreay Materials Test Reactor dismantling, new ten year Rail contracts

· Building strong positions in key long term projects: Dreadnought/Columbia Class nuclear submarine programmes, Hinkley Point C new build

· Continue to grow international businesses (now 30% of group revenue): large Marine win in Australia, aerial firefighting in Canada, mobilising aerial medical emergency services in Sweden and Norway

· Taking action: reshaped Oil and Gas business, restructured ahead of the end of Magnox contract, continued to exit non-strategic businesses

Outlook for the year ending 31 March 2020

· As previously highlighted, the year ending 31 March 2020 will be affected by a number of step downs (detailed on page 6). In total, these step downs will reduce revenue by £410 million and reduce operating profit by £63 million

· The Group's guidance reflects these step downs and the current market conditions, including the weakness in short cycle contracts experienced this financial year

· We expect underlying revenue to be around £4.9 billion

· We expect to maintain our underlying margin (incl. JVs) at between 10.7% and 11.0%

· Underlying operating profit is expected to be in the range of £515 million to £535 million

· Free cash flow (post pension payments) is expected to be over £250 million and we expect to continue to reduce net debt

· As with previous years, performance for the group will be weighted to the second half, especially for cash generation

Upcoming investor events

· We will hold a Capital Markets Day in London on 5 June 2019. This will set out the details of the Group's strategy, including the long term growth opportunities available to Babcock from our leadership positions in our three focus markets of defence, aerial emergency services and civil nuclear. We will discuss our strategy in detail, including milestones and medium term financial targets, to deliver for our shareholders. The day will include presentations from our senior executive team

· Our Annual General Meeting will be held on 18 July 2019 and our next trading update will be issued in September 2019

Chief Executive Archie Bethel said:

"We have delivered a robust performance this year, operating profit is in line with our expectations, we have sustained our strong margins and we have improved our cash generation.

More importantly for the delivery of our strategic goals and our future performance, we have sharpened our focus on our three key markets of defence, aerial emergency services and civil nuclear. We have strengthened our position in these areas with some important contract wins that partially offset the upcoming completion of the QEC contract and the loss of the Magnox contract and we have delivered further growth in our international businesses. In addition, we have exited low margin businesses outside of the three focus markets, which do not have synergy with the rest of the Group, and we have reshaped our oil and gas business.

Net debt reduction in the year enhances our balance sheet strength and we have again increased the dividend. 

As we begin the new financial year we do not expect the wider market environment to be any less challenging than we have experienced this past year. However, Babcock's strength continues to be our focus, our position as a trusted partner in critical, complex areas of national importance, in both the UK and internationally, and our knowledge and expertise. The guidance we have issued today for the 2019/20 financial year reflects the market environment we face and the strengths we deploy in these markets.

As in 2018/19, in the coming year we will continue to build a stronger business platform for the future and I want to thank my colleagues across Babcock for their hard work this year and their commitment to the Group in the coming year".

Archie Bethel

Chief Executive

Contact: Babcock International Group PLC

FTI Consulting

Andrew Lorenz / Nick Hasell / Alex Le May

Tel: +44 (0) 203 727 1340

Analysts and investors:

A meeting for investors and analysts will be held on 22 May 2019 at 9.00 am at FTI Consulting, London.

The presentation will be webcast live at www.babcockinternational.com/Investors and subsequently will be available on demand at www.babcockinternational.com/Investors/Results-and-Presentations. A transcript of the presentation and Q&A will also be made available on our website.

Notes

The adjustments described below, collectively, are made to derive the underlying results of the Group. The underlying figures provide a consistent measure of business performance year-to-year, thereby enabling comparison and understanding of Group financial performance. A reconciliation from statutory to underlying is provided within the financial review.

1. Underlying revenue includes the Group's share of joint ventures and associates revenues.

2. Underlying operating profit includes IFRIC 12 investment income and joint ventures' and associates' operating profit but is before amortisation of acquired intangibles. Underlying operating profit excludes exceptional items of £161 million.

3. Underlying profit before tax is inclusive of pre-tax joint ventures and associates income but before amortisation of acquired intangibles and exceptional items.

4. Underlying basic earnings per share is before amortisation of acquired intangibles, and exceptional items, before the related tax effects and before the effect of corporate tax rate changes.

5. Includes pension payments in excess of income statement of £56 million.

6. Group net debt (excluding non-recourse JV debt) divided by underlying EBITDA, which includes our share of EBITDA from joint ventures.

Overview

Progress on our strategy

Our three focus markets are defence, aerial emergency services and civil nuclear. They account for over 70% of our revenue and offer sustainable growth opportunities built on our core strengths and leadership positions. As we focus on these markets, we are exiting a number of non-strategic businesses:

· Last year, we sold our civil infrastructure businesses and started to exit renewables

· In the first half of this year, we exited our North American mining and construction support business, scaled down the powerlines business in South Africa, and we sold our media services business for net proceeds of £26 million

· In the second half, we exited the Surrey Schools education business, UK Cabling, UK Telecoms Infrastructure Support and our South African powerlines business, all of which were in our Land sector. We also sold our 50% stake in the Helidax joint venture for €10 million (c.£9 million) in our Aviation sector

At the half year, we announced the reshaping of our Oil and Gas business to manage the overcapacity which exists in this market, along with changes to further improve the efficiency of the business.

International growth remains a core element of our strategy and our international businesses now represent 30% of Group revenue, compared to 28% last year.

Our focus markets

Our three focus markets have significant long term growth potential however current conditions remain challenging.

Our primary market is UK Defence where we provide critical assets and services to all of the UK's armed forces every day with the Ministry of Defence (MOD). We are the UK's second largest defence supplier and, as part of the Strategic Partnering Programme, we are working with the UK Government and MOD to ensure the needs of our armed forces are met as they grow in size and complexity. While we are well placed for long term growth in the UK defence market, growth each year is partly dependent on the phasing of MOD spend.

International Defence markets offer significant long term potential, both in terms of increased spend in current markets and expansion into new markets. During the year, we won a significant contract to maintain Australia's fleet of amphibious landing ships and in France, our flying training contract is performing well. Our pipeline of work includes many opportunities in international defence markets and we see this part of our business increasing in size and importance over the medium term.

Demand for increasingly complex and technical Aerial Emergency Services continues to grow across the world. As Europe's leading provider, we are well placed for growth and in April 2019 we started aerial firefighting operations in Canada, our first North American presence.

Civil Nuclear remains a significant long term growth opportunity as ageing power stations come offline and new power stations are built. However, some opportunities in this space have been delayed, for example Horizon stopping work on the Wylfa project. The Magnox decommissioning contract ends in August 2019 as the Nuclear Decommissioning Authority (NDA) takes over the contract and this will have a significant impact on our business as previously flagged.

Across these focus markets, organic revenue growth at constant rates and excluding exits, procurement and QEC was around 3%.

Operational performance

While the current challenging conditions have impacted short cycle work, we continue to make significant progress on our long-term contracts. Highlights in the year:

· Continued work on the UK's aircraft carriers with HMS Prince of Wales now structurally complete and HMS Queen Elizabeth completing her initial sea trials before her first maintenance period at our Rosyth dockyard

· The Type 23 frigate life-extension programme at our Devonport facilities continues at pace with five ships undergoing deep maintenance and structural upgrade work simultaneously

· The largest Revalidation and Assisted Maintenance Period (RAMP) ever undertaken at Devonport on a Trafalgar Class submarine and we are also progressing on the first life extension of the Vanguard Class of submarines

· The US/UK Common Missile Compartment programme has continued with the latest delivery of Babcock built missile tubes dispatched from our Rosyth facility and the contract expanded

· Won the contract to support the largest vessels in the Royal Australian Navy: two flagship Canberra Class Landing Helicopter Docks and their 12 associated amphibious landing crafts

· Won two pieces of additional work within DSG and we continue to support the British Army in support and delivery of training to around 20,000 service personnel

· New integrated IT systems for DSG progressing well to completion

· Awarded a contract in Australia for counter - chemical, biological, radiological, nuclear and explosive (C-CBRNE) asset management

· Selected as preferred bidder for a ten year contract for track and rail systems in Scotland followed by a contract for signalling work

· French military training support contract progressing well with all aircraft and simulators on site at the French Air Force base in Cognac

· Entered the North American aerial emergency services market following the award of a ten year contract for firefighting in Canada

· Commenced the mobilisation of our fixed wing air ambulance service in Norway where the first aircraft are completing medical fit-out

· Received the licence from the Office of Nuclear Regulation (ONR) to put the Bradwell site into care and maintenance

· Silo Maintenance Facility project at Sellafield was completed with an NDA category of 'Excellent'

Order book and pipeline

Our business is supported by a significant order book, based on signed contracts for work. This order book of around £17 billion (March 2018: £18 billion) provides a base level of revenue for the years ahead which is then added to with new business wins, contract growth and short cycle work. Our pipeline represents those bids formally in process, following our rigorous governance process. Our pipeline is currently around£14 billion, an increase of around £1 billion from a year ago following large additions in the year such as Marine training, UK defence fleet vehicles and some significant defence opportunities in Australia.

Dividend

The Board is recommending a final dividend of 22.9 pence (2018: 22.65 pence). If approved by shareholders at the AGM on 18 July 2019, this will give a total dividend for the year of 30.0 pence (2018: 29.5 pence), an increase of 1.7%. The final dividend will be paid on 9 August 2019 to shareholders on the register at 5 July 2019.

Financial performance

Despite revenue behind our initial expectations, a strong margin performance across the Group delivered operating profit growth. This robust margin, combined with improved working capital, led to increased free cash flow which contributed to further debt reduction.

Underlying revenue for the year was 3.8% lower at £5,161 million, representing -1.9% organic revenue growth at constant exchange rates. This is below our expectations set out a year ago with the underperformance mainly coming in the short cycle parts of our business and not in the core long-term contract parts, which continued to perform well. Organic underlying revenue growth at constant rates and excluding exits, procurement and Queen Elizabeth Class (QEC) was 0.5%. The key elements for the lower underlying revenue in the year were:

· The £111 million impact of our programme of exits and disposals and the £38 million translation impact of exchange rates

· Lower activity in our Rail business as we entered the transition period to a replacement contract earlier than expected

· Lower revenue in our South African power business which was caused by delayed scheduled power station outages

· Lower levels of equipment pass-through procurement spend in our Land Defence businesses, where we do not control the level of spend

Our underlying operating profit performance was in line with our expectations at the beginning of the year at £588 million as we grew our underlying margin from 10.9% to 11.4%. This underlying margin expansion primarily reflects an increased profit contribution from joint ventures, resulting from improved contract performances. Group underlying margin (excluding joint ventures) was sustained at 10.1%, helped by better contract performances across the business, particularly in Aviation and Land, further cost savings and the mix impact of exiting lower margin businesses.

We continue to invest in building standardised IT systems and shared service centres for back office functions which, combined with procurement category management, help support our margin.

Net finance costs were £1.6 million lower year on year with a £0.9 million reduction in Group interest costs and a £2.6 million movement in the IAS 19 pension interest charge being offset by a £1.9 million increase in finance costs related to joint ventures. The £0.9 million reduction in Group interest costs reflects the benefit of reduced levels of debt offset by the impact of higher interest rates. If interest rates had been stable year on year, Group interest costs would have reduced by £1.6 million, with the reduction limited by our low marginal interest rate of around 1%.

The increase in Group underlying operating profit, combined with reduced finance costs and stable tax rates, resulted in 1.2% growth in underlying basic earnings per share.

On a statutory basis, revenue was £4,475 million, down 4.0%. The Group made a statutory operating profit of £197 million after the impact of exceptional charges of £161 million. Basic earnings per share (as defined by IAS 33) was 39.5 pence (2018: 66.6 pence) per share.

Our focus on cash generation continues to deliver with underlying operating cash flow of £618 million. This strong performance was led by an improved working capital position, with an inflow of £87 million compared to an outflow of £54 million last year.

Net capital expenditure was £149 million, an increase of £36 million on last year led by the timing of aircraft deposits and deliveries which will reverse in the next financial year as they are converted to operating leases. Operating cash conversion post net capex was 104%.

Free cash flow was £324 million (2018: £250 million), after pension payments in excess of the income statement of £56 million (2018: £47 million) and including dividends from joint ventures of £45 million (2018: £43 million).

The Group generated £158 million of net cash in the year after dividends paid of £153 million. This led to a reduction in net debt for the fourth year in a row to £958 million. Net debt to EBITDA (including our share of joint ventures' EBITDA) reduced to 1.4 times as expected. On a covenant basis, which compares net debt to Group EBITDA (excluding our share of joint ventures' EBITDA) plus joint venture dividends, our gearing reduced from 1.8x to 1.6x. Our share of debt held within joint ventures as at 31 March 2019 was £311 million (31 March 2018: £354 million). This debt mainly relates to the AirTanker joint venture. All JV debt is non-recourse to the Group.

Performance by sector

Marine: underlying revenue declined by 4.6%, mainly as a result of the continuing step down in QEC revenue and the impact of the exit of our renewables business. Organic underlying revenue growth at constant exchange rates excluding this exit and QEC was 0.1%. Underlying operating profit declined in line with underlying revenue with margins held broadly steady.

Land: underlying revenue declined by 12.4% with around half of the decline due to FX, business exits and disposals. Organic underlying revenue growth excluding exits at constant exchange rates was -6.2%. This decline reflects lower defence procurement, lower activity in our Rail business as we transition between control periods and a weak trading environment for our South African power business. Underlying operating profit benefited from improved contract performance year-on-year (in non-defence contracts), cost reduction, a strong contribution from our Holdfast (RSME) joint venture and property disposals.

Aviation: underlying revenue for the year increased by 11.1%, mainly due to aircraft and simulator revenue related to our Fomedec training support contract with the French Air Force. Underlying revenue in the second half of the year was lower year-on-year, partly due to reduced firefighting. The sector margin was maintained in the year, ahead of our expectation, with contract performance and cost reductions better than expected.

Cavendish Nuclear: underlying revenue for the year was down 0.6% with growth across our nuclear services businesses offset by an expected reduction in joint venture revenue. Underlying operating profit declined by 6.7% with a lower margin as we lapped strong contract performance in the previous year.

Exceptional costs

We recognised £120 million of net exceptional charges in the first half of this year reflecting the reshaping of our Oil and Gas business, capacity reductions and restructuring across the Group and the costs of our programme of exits and disposals, partly offset by the gain on disposal of our Media business.

We recognised an additional net charge in the second half, including a charge of £3 million related to restructuring costs and a charge of£6 million relating to exits. These costs relate to additional exits and restructuring in our Land and Aviation sectors. An additional charge of £31 million related to an adjustment to our pension liabilities. Of this adjustment, £26 million related to equalising guaranteed minimum pension benefits for men and women and £5 million related to the bulk transfer of £110 million of liabilities to the Primary Civil Service pension scheme. In addition to this, we incurred an exceptional tax charge of £10 million in relation to the restructuring of the Group ahead of the UK exiting the European Union.

The total related net cash cost of all of these charges, excluding pensions, is expected to be around £26 million. This is after tax, disposals and expected helicopter sales. Total expected gross cash costs, excluding pensions, are expected to be around £86 million. The net cash cost this financial year was £11 million. We expect a net cash cost of around £28 million in the next financial year. Cash from expected asset sales is expected to lead to net cash inflows in future years.

Outlook

The next financial year is impacted by a number of significant factors, the combined impact of which is to reduce revenue by £410 million and reduce operating profit by £63 million. These impacts are:

· End of QEC contract: £80 million revenue impact, £2 million operating profit impact

· End of Magnox contract: £256 million revenue impact, £24 million operating profit impact

· Impact of exits and disposals: £74 million revenue impact, £10 million operating profit impact

· Normalisation of Holdfast (RSME) joint venture profit contribution: £17 million operating profit impact

· Brexit-related Aviation restructuring: £10 million operating profit impact

The Group's guidance reflects these step downs and the current market conditions, including the continued weakness in short cycle contracts experienced this financial year. Group guidance for the next financial year takes into account the risks associated with contract rebids, pipeline conversion and the fluctuations in the short cycle parts of the business.

Outlook for the year ending 31 March 2020:

· We expect underlying revenue to be around £4.9 billion

· We expect to maintain our underlying margin (incl. JVs) at between 10.7% and 11.0%

· Underlying operating profit is expected to be in the range of £515 million to £535 million

· Free cash flow (post pension payments)  is expected to be over £250 million and we expect to continue to reduce net debt

· As with previous years, performance for the group will be weighted to the second half, especially for cash generation

This guidance does not take into account the impacts of IFRS 16 which are set out on page 19.

Outlook by sector:

· Marine: we expect good underlying revenue growth excluding the £80 million impact of the end of the QEC contract. We expect underlying margin to be slightly lower, reflecting contract mix and phasing

· Land: we expect slight underlying revenue growth excluding the £65 million impact of exits and disposals. Underlying margin is expected to be maintained excluding the normalisation of the Holdfast (RSME) joint venture profit contribution

· Aviation: we expect slight underlying revenue growth with a stable underlying margin, excluding the £10 million of Brexit-related costs

· Nuclear: we expect slight underlying revenue growth excluding the £256 million impact of the end of the Magnox contract. We expect a higher underlying margin, reflecting the changed business mix

The outlooks by sector are dependent on risks associated with contract rebids, pipeline conversion and the fluctuations in the short cycle parts of the businesses. These risks have been included in guidance for the Group as a whole. Across sectors, higher revenue growth will likely be at a lower margin, reflecting the lower margin in the early phases of new contracts and the lower margin of short cycle work.

Marine

JV revenue is after deducting an appropriate portion of JV revenue to reflect revenue already included in Group revenue

Financial review

Underlying revenue in our Marine sector declined by 4.6%. The decline is the result of the exit of the renewables business in the last financial year and the continued step down in revenue related to the Queen Elizabeth Class (QEC) aircraft carriers of around £60 million. Organic underlying revenue growth at constant exchange rates was -4.5%. Excluding QEC and the renewables exit, organic underlying revenue growth at constant exchange rates was 0.1%.

Underlying revenue was helped by increased activity on UK naval ships, including the life extension of Type 23 frigates and our fleet support services, and continued growth in our technology businesses. Offsetting this was the impact of the completion of building Irish offshore patrol vessels and lower levels of work for the Korean Navy's Jangbogo submarines ahead of the next phase. Underlying revenue was also impacted by changes in the expected phasing of infrastructure and equipment spend related to UK defence programmes, as we flagged in our July Trading Update. These programmes have now started in part.

Underlying operating profit declined by 6.2% with the underlying margin broadly maintained. This reflects the margin benefit of lower QEC and renewables revenue, which have low margins, offset by changes in business and contract mix.

Operational review

UK Defence

Revenue related to serving the UK defence market was lower in the year reflecting the step down in revenue from the QEC aircraft carrier programme. HMS Prince of Wales is now structurally complete and the commissioning of her on-board systems has started ahead of sea trials later this year. HMS Queen Elizabeth became increasingly operational, helped by Babcock providing expertise as part of the Marine Systems Support Partner (MSSP) contract. HMS Queen Elizabeth has since been welcomed back at Rosyth to complete her first dry-dock maintenance, including a hull survey and maintenance of underwater systems.

We continue to perform in line with expectations on our key contract, the Maritime Support Delivery Framework (MSDF), with continued efficiencies and cost reductions on track. We are in discussions with the MOD on the next five year period within our Terms of Business Agreement (TOBA) from 2020 until 2025, and expect to sign this Future Maritime Support Programme (FMSP) contract by the end of the calendar year.

The Type 23 frigate life-extension programme at our Devonport facilities continues at pace with five ships undergoing deep maintenance and structural upgrading work simultaneously. In the first half, we completed the fourth offshore patrol vessel for the Irish Navy at Appledore and have now exited the shipyard. We also completed significant work on the amphibious assault ship HMS Albion and helped prepare HMS Ocean as part of her sale to Brazil.

During the year, we saw growth in the volume of orders from the MOD to support Royal Navy operations for the Type 45 and QEC fleets and we are bidding for the Royal Navy's Type 31e general purpose light frigate programme after the process was restarted. Also in the period, we secured a five year Naval Design Partnership (NDP) contract with the MOD with options for extension. This important long-term contract provides leadership for the industry development of new naval platforms and mission systems on behalf of the MOD.

We had another busy year supporting the UK's submarine fleet. We completed the largest Revalidation and Assisted Maintenance Period (RAMP) ever undertaken at Devonport on a Trafalgar Class submarine and we are progressing on the first life extension of the Vanguard Class. We have now begun work on the infrastructure design for the deep maintenance of the Astute Class of submarines in Devonport in the mid-2020s.

Our work on the next generation of submarines continues with the first weapons handling system modules for the Dreadnought Class submarine programme delivered to the customer and a contract awarded to continue the development of the future support solution. The US/UK Common Missile Compartment programme has continued with the latest delivery of Babcock built complex missile tube assemblies dispatched from our Rosyth facility. The quality of the initial batch has led General Dynamics Electric Boat to extend their order, and our contract to supply missile tube assemblies now exceeds £230 million.

We continued to deliver training to the UK Navy and we have been down-selected as a bidder for Project Selborne, which will bring together multiple legacy contracts into a single arrangement for the training of Royal Navy personnel for the next 10-12 years. This will replace our existing training contract and offers increased scope. During the year, we also secured a five year Maritime Training Systems Through-Life Availability & Support Service (MARTASS) contract with the MOD to manage the integration of new training technology across naval bases and air stations.

International Defence

We support international defence markets from our UK operations and from our businesses in Australia, Canada, New Zealand and Oman.

In Australia, contract performance was strong throughout the year. Naval Ship Management (our 50% joint venture) was appointed to support the largest vessels in the Royal Australian Navy: two flagship Canberra Class Landing Helicopter Docks (LHD) and their 12 associated amphibious landing craft. Work will begin to sustain and support these vessels in July 2019 as part of a 15 year contract (five years plus two extensions) worth around AUD $1.5 billion.

In Canada, trading was broadly in line with last year. In the first half of the year, we secured a CAD $400m three year extension to our existing submarine support contract with the Canadian Department of National Defence for its fleet of four Victoria Class submarines. VISSC is the largest naval in service support contract in Canada and includes project management, refits and maintenance, capability upgrades, logistics, configuration/safety records and engineering support.

In our export markets, in addition to supplying missile tubes for the US Columbia Class submarine programme, we delivered the weapons handling system on time for integration into the first of S80 class Spanish submarines and opened an office in Korea to support the weapons handling system programme for the Jangbogo-III submarines. We also completed the capability upgrade on the first of three Estonian Navy minehunter vessels in the period.

Adjacent markets

In our adjacent markets of Energy and Marine, we secured the sale of a further eight of our patented ecoSMRT® systems, bringing the total sold to date to 23. ecoSMRT®, the liquefied natural gas (LNG) single mixed refrigerant (SMR) solution, developed in collaboration with HHI, is now the market leading solution for LNG boil-off gas management, attracting both global ship owners and shipyards.

Our Bernhard Schulte joint venture LNG gas supply vessel, Kairos, is operating successfully in the Baltic Sea region and performed her first ship-to-ship transfer of LNG in early March 2019.

Outlook for the year ending 31 March 2020

We expect good underlying revenue growth excluding the £80 million impact of the end of the QEC contract. The sector's underlying margin is expected to be slightly lower, reflecting contract mix and phasing.

Land

JV revenue is after deducting an appropriate portion of JV revenue to reflect revenue already included in Group revenue. The effect of this is that there is no revenue recognised in relation to our Holdfast (RSME) JV

Financial review

Underlying revenue in our Land sector was 12.4% lower than last year, with an £85.8 million impact from business exits and disposals and a £27.7 million impact from foreign exchange movements. Organic underlying revenue growth at constant exchange rates was -7.6%, or -6.2% adjusting for business exits.

Lower underlying revenues reflect reduced defence procurement activity, lower activity in our Rail business and power generation weakness in South Africa with no scheduled power station outages. JV revenue declined following lower levels of rail electrification work in our ABC joint venture. The profit contribution from ABC was mainly through the subcontract with Babcock and not in the joint venture.

Underlying operating profit increased to £146 million with the increase coming from a higher JV contribution. This mostly reflects cumulative contract profit performance in our Holdfast (RSME) joint venture, which will normalise next year resulting in a step down of £17 million. Underlying operating profit from Group operations was broadly flat despite the revenue decline. This margin expansion was helped by improved contract performances (in non-defence contracts) and continuous cost savings as well as improved profitability in our South African equipment business and a gain on the disposals of property.

Operational review

Defence

Revenue related to serving the UK defence market was lower in the year, mainly reflecting lower levels of procurement spend.

We have continued to provide key support services to the British Army in vehicle fleet management and training. During the year our Defence Support Group (DSG) business has been collaborating with the UK MOD to drive further operational improvements across the workshop and procurement activities and these initiatives, together with our investment in technology, provide a strong platform for further growth in the scope of DSG services. We won two pieces of additional work within DSG via amendments to our existing Service Provision and Transformation Contract in the year. We agreed a £72 million increase in scope to deliver UK and international maintenance to land equipment and cadet weapons in support to the UK 1 Division. From April 2019, we will deliver maintenance, repair and overhaul support to the British Army's protected mobility vehicle fleet.

Our ALC JV continues to perform well and we are bidding for Project MITER, an increased scope replacement which will come into operation in 2021.

We continue to support the British Army in support and delivery of training to around 20,000 service personnel and are engaging with the customer as they develop their Collective Training Transformation Programme. Our Holdfast (RSME) joint venture, which provides training to the Royal School of Military Engineering, continues to drive savings programmes.

Adjacent markets

The Land sector operates a range of contracts across markets adjacent to our key markets, all benefitting from our engineering capabilities.

In our adjacent market of Rail, trading was tough in the year as we experienced lower activity towards the end of a five year contract and there was a lower level of electrification. During the year, we won a £130 million eight year contract with Translink for the provision of rail services in Northern Ireland and we were selected as preferred bidder for the North Alliance (Scotland route) to deliver Network Rail's CP6/CP7 track and rail systems contracts. This ten year contract (initial five years with an option to extend) is worth up to £1 billion over a ten-year period, from August 2019 to 2029. We also won a £100 million framework contract for signalling in Scotland in the period.

The Land sector serves the Land emergency services market. During the year we received an extension to our fleet support contract for the Metropolitan Police Service valued at around £50 million and we have been working closely with the London Fire Brigade to support their effort to modernise its fleet to be low carbon and our training contract has continued to perform well. Our apprentice training business saw lower revenues this year following lower apprentice training volumes across the country. We made good progress across our Airports businesses in delivering a number of major projects at Heathrow and Gatwick to install new hold baggage screening machines. We were unsuccessful in our rebid for British Airways ground support equipment as the customer's business capital model changed.

Our business in South Africa had a mixed year with lower revenue, reflecting the difficult macroeconomic environment and the impact of Eskom difficulties. As previously highlighted, changes at Eskom have resulted in power station outage delays which impacted the business throughout the financial year, with no recovery in the second half. The Volvo equipment business supplying vehicles to the mining and construction industries has continued to perform excellently, gaining market share in a growing market and increasing profits. Our DAF truck franchise is also performing well and gaining market share.

Outlook for the year ending 31 March 2020

We expect slight underlying revenue growth excluding the £65 million impact of exits and disposals. Underlying margin is expected to be maintained excluding the normalisation of the Holdfast (RSME) joint venture profit contribution.

Aviation

JV revenue is after deducting an appropriate portion of JV revenue to reflect revenue already included in Group revenue

Financial review

Strong underlying revenue growth in our Aviation sector mainly relates to aircraft and simulator revenue on our Fomedec training support contract with the French Air Force. This growth was partly offset by lower firefighting activity in Southern Europe and the lapping of higher revenue at the end of last year from the completion of the initial phase of our UK Military Flying Training System subcontract. The phasing of Fomedec revenue combined with lower levels of firefighting resulted in broadly flat underlying revenues in the second half of this year.

Underlying operating profit increased to £161 million mainly due to an increased contribution from joint ventures. Profitability across the sector, both Group and joint ventures, was helped by improved contract performances and cost reduction programmes.

Operational review

UK Defence

Higher revenue this year was driven by our HADES contract, which provides technical support at 17 RAF air bases, becoming fully operational in September 2018 and also increased revenue from our Ascent training joint venture. Offsetting this, we saw lower revenues related to the UK Military Flying Training System (UKMFTS) subcontract following the finalisation of the initial phase last year.

During the period the bidding process for the RAF Air Support to Defence Operational Training (ASDOT) opportunity to provide adversary air combat training was cancelled by the MOD. This opportunity was in our pipeline at around £400 million.

International Defence

Revenue in our international defence markets grew strongly in the year driven by our Fomedec training support contract, with all aircraft and simulation devices on site at the French Air Force base in Cognac and accepted by the customer authority.

In March 2019, we sold our 50% share of Helidax to our joint venture partner for €10 million (£9 million). Our share of the JV net debt was£29 million. This has no impact on our other operations in France.

Expanding our services across international defence markets remains a key part of our strategy and reflects a significant part of our pipeline, including defence flying training opportunities in Canada and France.

Aerial Emergency Services

Revenue across our aerial emergency services markets grew over the year but was impacted by lower levels of firefighting.

Trading in Italy was down slightly, mainly reflecting lower firefighting activity levels. In France, we successfully rebid our largest medical emergency services contract, Samu PACA (Provence-Alpes-Côte d'Azur), while in Portugal, we won key rebids for both firefighting and medical emergency services. In Spain, we won some new bids but lost some rebids in medical emergency services and search and rescue in the second half of the year. In the first half we renewed SASEMAR, our flagship search and rescue contract along the Spanish coastline, for at least four years.

In the Nordics, mobilisation and operations for the air ambulance contract in Gothenburg, Sweden is proceeding on schedule and we were awarded a five year air ambulance contract in Finland. In Norway, we commenced the mobilisation of our fixed wing air ambulance service and the first aircraft are completing their medical fit-out. We expect to be operational in July 2019.

During the year, we restructured our European operations to comply with AOC ownership and control obligations. We will be reviewing how to make the new structure more efficient on an ongoing basis.

We have now entered the North American aerial emergency services market following the award of a ten year contract for aerial firefighting in Manitoba, Canada. We will manage, maintain and operate Manitoba's fleet of seven firefighting amphibious aircraft and provide three of our own aircraft. This business provides the platform for future aerial emergency services opportunities across North America.

Adjacent markets

Our Aviation business also serves the oil and gas market. Revenue across this market in the period grew slightly, helped by a pick-up in activity in the 'pay as you go' spot market, along with the addition of a new customer which offset the loss of another. Trading continues to be impacted by challenging industry conditions with oversupply and intense competition. We recently lost two contracts on price competition as we continue to ensure the business delivers value.

Outlook for the year ending 31 March 2020

We expect slight underlying revenue growth with a stable underlying margin, excluding the £10 million of Brexit-related costs.

Cavendish Nuclear

JV revenue is after deducting an appropriate portion of JV revenue to reflect revenue already included in Group revenue

Financial review

As expected, Cavendish Nuclear's underlying revenue was broadly flat over the year with lower levels of decommissioning work being offset by good growth across nuclear services.

Underlying operating profit decreased with the margin declining to 9.2% despite a favourable mix impact of lower joint venture revenues. This decline mainly reflects the previous financial year benefiting from strong contract performance.

Operational review

Civil nuclear - decommissioning

Revenue from decommissioning work was lower than last year, reflecting lower levels of customer in-year funding.

Magnox, a joint venture with Fluor in which we have a 65% share, performed well over the year with similar levels of work to last year. We received the licence from the Office of Nuclear Regulation (ONR) to put the Bradwell site into care and maintenance which is a significant milestone as it is the first Magnox site to reach this target. All other key milestones on this twelve site UK-wide decommissioning contract are progressing to plan and we are preparing to hand back control to the NDA in August 2019 as the contract comes to an end. As set out in our half year announcement, we do not see any immediate material opportunities across Magnox sites beyond the end of the contract.

Dounreay, a joint venture with Jacobs and Aecom in which we have a 50% share, continues to deliver on its revised scope with the Waste Removal Project as part of the UK Government's strategy.

Civil nuclear - nuclear services

We saw strong growth across nuclear services this year with increased activity levels across our business offsetting the impact of the completion of the Silo Maintenance Facility project at Sellafield.

We saw good performance across our Sellafield projects, including Pile Fuel Cladding Silo and Design Services Alliance projects. Sellafield continues to be a key customer for our projects business, despite us not winning the Sellafield Programme and Project Partners (PPP) bid in the period, and we expect this to continue to be the case. During the year, the Silo Maintenance Facility project at Sellafield was completed, with an NDA category of 'Excellent'.

We delivered our element of the scheduled outage at the EDF Dungeness site on time and, during the period, we won the contract to carry out the dismantling and demolition of Dounreay's nuclear reactor as part of the final phase of decommissioning the Dounreay Materials Test Reactor.

Civil nuclear - new build

Revenue from services related to new builds is a small part of the sector today. Revenue grew in the year as a result of the expected ramp up of the Hinkley Point C project.

New build opportunities remain significant in the long term but medium term opportunities have been dampened by the decision earlier this year by Horizon to postpone the Wylfa project.

Outlook for the year ending 31 March 2020

We expect slight underlying revenue growth excluding the £256 million impact of the end of the Magnox contract. We expect a higher underlying margin, reflecting the changed business mix.

Financial review

Statutory to underlying reconciliation

Income statement

Statutory performance

Statutory revenue for the year was £4,474.8 million (2018: £4,659.6 million), a decline of 4.0%. There was a statutory operating profit of £196.5 million (2018: £370.6 million) and a statutory profit before tax of £235.2 million (2018: £391.1 million), reflecting the impact of exceptional charges of £160.8 million. Basic earnings per share, as defined by IAS 33, was 39.5 pence (2018: 66.6 pence) per share.

Underlying organic growth

Disposal and exit adjustments remove the impact of business performance for affected businesses.

Underlying revenue performance

Underlying revenue for the year was £5,160.6 million (2018: £5,362.8 million), a decrease of 3.8%. Excluding exits, underlying organic revenue growth at constant exchange rates was -1.0%.

Although below our initial expectations, the underperformance was mainly in the short cycle parts of our business and not in the core long-term contract parts, which continued to perform well. Organic revenue growth at constant rates and excluding exits, procurement and Queen Elizabeth Class (QEC) was 0.5%. The key elements for the lower revenue in the year were:

· The £111 million impact of our programme of exits and disposals and the £38 million translation impact of exchange rates

· Lower activity in our Rail business as we entered the transition period to a replacement contract earlier than expected

· Lower revenue in our South African business which was caused by delayed scheduled power station outages

· Lower levels of equipment pass-through procurement spend in our Land Defence businesses, where we do not control the level of spend

As expected, the Marine sector saw lower revenue due to the step down in QEC revenue and the impact of the exit from our renewables business. Underlying organic revenue growth was -4.5% at constant exchange rates but grew by 0.1% excluding QEC and exits. The Land sector's underlying organic revenue growth at constant exchange rates was -7.6%, reflecting defence procurement activity, lower activity in our Rail business, a weak trading environment in our South African power business with no planned power station outages and an £86 million impact from business exits and disposals.

Aviation's underlying organic revenue growth at constant rates was 11.9%, primarily reflecting strong growth from the Fomedec contract as we delivered aircraft and simulators to the customer. Cavendish Nuclear's underlying organic revenue growth at constant rates was -0.6% with lower levels of decommissioning work offset by good growth across nuclear services.

Underlying revenue in the financial year was broadly spread evenly between the first and second half. For the next financial year, we expect a similar weighting.

Underlying operating profit performance

Despite the small decline in revenue, the Group's underlying operating profit grew by 0.7% to £588.4 million (2018: £584.6 million) with margin improving to 11.4% (2018: 10.9%). The margin expansion reflects the exit of low margin businesses, the increased contribution from joint ventures, and strong contract performances and continuous cost reduction in Land and Aviation. At constant exchange rates, organic growth in Group operating profit was 1.3%.

In the Marine sector, underlying operating profit decreased at a similar pace to revenue with margin remaining broadly flat at 12.9%. This reflects the negative impact of lower QEC and renewables revenue, which have low margins, offset by business mix and lower contract profit. The Land sector achieved higher underlying operating profit due to higher contributions from joint ventures, partly from cumulative contract profit performance pick-up in our Holdfast (RSME) joint venture. Operating profit was also helped by margin expansion in Group operations, helped by improved contract profit (in non-defence contracts), continuous cost savings, improved profitability in our South African equipment business and gains on property disposals.

The Aviation sector's underlying operating profit increased mainly due to an increased contribution from joint ventures. Profitability across the sector, both Group and joint ventures, was helped by improved contract profits. Cavendish Nuclear's underlying operating profit declined by 6.7%, mainly reflecting the previous financial year benefiting from strong contract performance.

Underlying operating profit in the financial year was weighted slightly to the second half. We expect a similar weighting in the next financial year.

Exceptional costs

Following a detailed strategic review, we recognised £120 million of exceptional charges in the first half of this year reflecting the reshaping of our Oil and Gas business, capacity reductions and restructuring across the Group and the costs of our programme of exits and disposals, partly offset by the gain on disposal of our Media business.

Following continuing difficulties in the oil and gas sector and with the continued lack of oil and gas demand for EC225/Super Puma aircraft, the Group initiated a strategic review over the summer of 2018. Competitor and leasing company difficulties, despite an improving oil price, meant the market has not recovered as had been hoped. The strategic review, completed at the time of the half year results announcement, resolved to manage the business for value including our existing asset base. As a result of the review, we took an asset impairment charge of £38 million to reduce owned oil and gas assets to their market value and recognised an onerous lease provision of £42 million against leased assets to reflect the cost of these commitments versus market rates.

In the first half we made some significant changes to surplus capacity across some business areas. In Marine, we announced the exit from the Appledore shipyard following the completion of work on Irish offshore patrol vessels and we rightsized capacity in other Marine facilities. In Land, we reduced surplus capacity in our Rail business ahead of our bid for the new CP6 contract and in Nuclear we restructured our business related to Magnox.

Our programme of business exits have associated costs. In the first half, these costs related to the exit of renewables, North American mining and construction support, media services and our powerlines business in South Africa.

In the second half of the year, we recognised additional charges including a charge of £3 million related to restructuring costs and a charge of £6 million relating to exits. These costs relate to additional exits and restructuring in our Land and Aviation sectors. An additional charge of £31 million related to an adjustment to our pension liabilities. Of this adjustment, £26 million related to equalising guaranteed minimum pension (GMP) benefits for men and women and £5 million related to the bulk transfer of £110 million of liabilities to the Primary Civil Service pension scheme. In addition to this, we incurred an exceptional tax charge of £10 million in relation to the restructuring of the Group ahead of the UK exiting the European Union.

The total related net cash cost of all of these charges, excluding pensions, is expected to be around £26 million. This is after tax, disposals and expected helicopter sales. Total expected gross cash costs, excluding pensions, are expected to be around £86 million. The net cash cost this financial year was £11 million. We expect a net cash cost of around £28 million in the next financial year. Cash from expected asset sales is expected to lead to net cash inflows in future years.

Exceptional costs summary

Finance costs

Total net finance costs reduced to £70.5 million (2018: £72.1 million) with a £0.9 million reduction in Group interest costs and a £2.6 million movement in the IAS 19 pension interest charge being offset by a £1.9 million increase in finance costs related to joint ventures. The £0.9 million reduction in Group interest costs reflects the benefit of reduced levels of debt offset by the impact of higher interest rates. If interest rates had been stable year on year, Group interest costs would have reduced by £1.6 million, with the reduction limited by our low marginal interest rate of around 1%.

Underlying profit before tax

Underlying profit before tax increased by 1.1% to £517.9 million (2018: £512.5 million) reflecting both the increased underlying operating profit and the lower net finance costs.

Tax charge

The underlying tax charge, including the Group's share of joint venture tax of £20.9 million (2018: £17.5 million), totalled £93.2 million (2018: £92.3 million), representing an effective underlying rate of tax of 18.0% (2018: 18.0%). The effective tax rate is calculated by using the Group's underlying profit before tax and therefore excludes the tax effect of amortisation of acquired intangibles, together with the tax credit in respect of exceptional items and the tax effect of changes in tax rates.

Pensions

The Group's net pension deficit moved to £28.0 million (2018: £5.0 million), with the increase in deficit due to a reduction in discount rates, an increase in inflation rates and a £26 million increase in liabilities related to an adjustment to our pension liabilities to equalise guaranteed minimum pension benefits for men and women. In addition, the bulk transfer of £110 million of liabilities to the Primary Civil Service pension scheme increased the deficit by £5 million. The projected pension charge within operating profit for 2019/20 is £43.2 million (2018/19: £42.7 million).

Amortisation of acquired intangibles

Amortisation of acquired intangibles was £95.2 million (2018: £98.1 million). This represents the amortisation of the value attributed on business acquisitions to customer relationships (both contractual and non-contractual) and acquired brands.

Exchange rates

The impact of foreign currency movements over the year resulted in a decrease in underlying revenue of £38.1 million and a corresponding £3.1 million decrease in underlying operating profit. The main currencies that impact our results are the Euro, the South African Rand and the Canadian Dollar:

· A 10% movement in the Euro against Sterling would affect full year underlying revenue by around £53 million and underlying operating profit by around £6 million

· A 10% movement in the South African Rand against Sterling would affect full year underlying revenue by around £33 million and underlying operating profit by around £2 million

· A 10% movement in the Canadian Dollar against Sterling would affect full year underlying revenue by around £14 million and underlying operating profit by around £1 million

Earnings per share

Underlying earnings per share for the year was 84.0 pence (2018: 83.0 pence), an increase of 1.2%. Basic continuing earnings per share, as defined by IAS 33, was 39.5 pence (2018: 66.6 pence).

Cash flow and net debt

The Group achieved its target of delivering pre-capital expenditure cash conversion of over 100% and around 80% post capital expenditure. Our cash generation over the past twelve months delivered a £157 million reduction in net debt to £958 million as of 31 March 2019. This represents a net debt to EBITDA ratio of 1.4 times EBITDA. The analysis below reconciles the management KPI for cash conversion.

Working capital outflow in 2018 includes a £50.4 million outflow in respect of Fomedec, the French air training contract, with an associated inflow in 2019.

The table below provides the reconciliation between the statutory cash flow and trading cash flow table above.

Cash performance

Underlying cash generated from operations was £562.0 million (2018: £447.9 million), from which the Group's operating cash flow calculation is derived. Underlying operating cash flow after movements in working capital was up 24.8% to £617.8 million (2018: £495.2 million), led by an improved working capital performance compared to last year. The Group achieved a conversion rate of underlying operating cash flow after movements in working capital and capital expenditure to underlying operating profit of 104% (2018: 82%).

Working capital

Total working capital cash inflows for the year, excluding excess retirement benefits, were £86.8 million compared to a £54.4 million outflow last year. The key drivers of this strong working capital performance were:

· The expected £50 million unwind of working capital related to our Fomedec contract. The financial year ended 31 March 2018 was impacted by Fomedec working capital outflows of £109.3 million in debtors offset by £58.9 million in creditors, with a net effect of a £50.4 million outflow. This effect unwound in full over this financial year.

· A £28 million reduction in trade receivables

· A £119 million reduction in total unbilled receivables, including the Fomedec reversal and a reduction within our Devonport business, partly offset by an increase in accrued income within DSG which is expected to reverse in the first half of the next financial year

· Trade creditors decreased but this was mostly offset by accruals

· An increase in inventory related to mobilising our Norway contract, Fomedec entering the operational phase, inventory build in South Africa and inventory build across markets in anticipation of the UK's exit from the European Union

We expect working capital for the next financial year to return to an outflow.

Provisions

Underlying operating cash flow includes £28.7 million of provision movements (2018: £27.7 million) relating to contracts, onerous leases, personnel (taxation and reorganisation) and property. The level of non-exceptional provision outflow in 2019/20 is expected to be around£15 million. During the period the net underlying credit to the income statement was £4.0 million.

Capital expenditure

Net capital expenditure during the year was £148.5 million (2018: £112.7 million) with the increase year-on-year led by the timing of aircraft deposits and deliveries which will reverse in the next financial year as they are converted to operating leases. Net capital expenditure comprises purchase of property plant and equipment of £194.3 million plus purchase of intangible assets of £32.7 million less proceeds on disposal of property plant and equipment of £78.5 million.

Capital expenditure for the year was 1.4 times the Group's depreciation and amortisation (excluding acquired intangibles) charge of£108.6 million. For the 2019/20 financial year, capital expenditure as a multiple of depreciation and amortisation is expected to be around 1.0 times.

Cash interest paid

Net Group cash interest paid, excluding that paid by joint ventures, was £47.5 million (2018: £53.6 million).

Pensions

Pension cash outflow in excess of the income statement charge excluding exceptionals was £55.8 million after allowing for contract balances (2018: £47.3 million). The Rosyth scheme negotiations are currently ongoing and will require increased funding. The regulatory environment around pensions remains difficult and this, combined with the uneven distribution of funding deficits between our three large schemes, will result in more volatility in pensions funding over the coming years despite the improved overall funding levels. For the next financial year the cash outflow in excess of the income statement charge is expected to increase. An estimate of the current technical provisions funding basis deficit is around £400 million, reflecting more prudent assumptions compared to IAS 19.

Taxation

Underlying cash tax payments of £86.9 million (2018: £74.3 million) increased, partly due to the settlement of a tax dispute in Spain relating to pre-acquisition activity.

Free cash flow

Underlying free cash flow, which includes pension payments in excess of the income statement charge, increased by 29.4% to £323.7 million (2018: £250.2 million), led by the strong working capital performance.

Free cash flow generation in the year was weighted to the second half of this financial year and we expect a similar weighting in the next financial year.

Dividends

During the period the Group received £44.6 million in dividends from its joint ventures (2018: £42.9 million). Cash dividends (including to minorities of £2.8 million) paid out in the year totalled £153.3 million (2018: £147.7 million). We expect dividends from joint ventures to be stable in the 2019/20 financial year.

Exceptional cash movement

There was a cash outflow of £10.9 million in the year related to exceptional charges.

Net debt

The Group's net cash inflow was £158.3 million (2018: £92.1 million). Net debt at 31 March 2019 was £958 million, a reduction of £157 million over the last twelve months (2018: £1,115 million). This gives a net debt to EBITDA ratio of 1.4 times (2018: 1.6 times).

Net debt to EBITDA

Interest cover

ROIC and gearing

Return on invested capital (ROIC) is defined as underlying operating profit divided by net debt and shareholder funds excluding retirement deficits or surpluses. Post tax, ROIC for the year was 12.5%, an increase from 11.9% last year. This improvement reflects the underlying operating profit growth, strong cash generation in the year and the asset write downs.

Pensions

The IAS 19 valuation for accounting purposes showed a market value of assets of £4,582.2 million in comparison to a valuation of the liabilities based on AA corporate bond yields of £4,610.2 million. The total accounting deficit, pre-tax, of the Group's combined defined benefit pension schemes showed an increase to £28.0 million (31 March 2018: £5.0 million). As at 31 March 2019, the key assumptions used in valuing pension liabilities were:

Discount rate 2.4% (31 March 2018: 2.6%)Inflation rate (RPI) 3.2% (31 March 2018: 3.1%)

On 26 October, the High Court handed down a judgment involving the Lloyds Banking Group's defined benefit pension schemes. The judgment concluded the schemes should be amended to equalise pension benefits for men and women in relation to guaranteed minimum pension benefits. The issues determined by the judgment arise in relation to many other defined benefit pension schemes. The impact to our pension liabilities was an increase of £26 million.

In addition, the bulk transfer of £110 million of liabilities to the Primary Civil Service pension scheme increased the pension liabilities by £5 million.

IFRS 16

IFRS 16 is effective for the year ending 31 March 2020 and requires almost all operating leases to be capitalised on the balance sheet. Minimum future lease payments will be recognised as a lease liability with a corresponding right-of-use asset depreciated on a straight-line basis over the lease term. The operating lease charge will be replaced by a depreciation charge on the asset and an interest charge on the liability. For the Group, 78% of the operating lease balance relates to aircraft within the Aviation sector where, in the main, operating lease terms are matched to customer contract length.

On 1 April 2019 the Group recognised a lease liability of £606 million and a right-of-use asset of £559 million.

The estimated impact to the year ending 31 March 2020 is:

· Increase in operating profit of c.£25 million

· Increase in interest of c.£25 million

· Minimal impact to earnings per share

· Increase in EBITDA of c.£150 million

· Increases net debt to EBITDA by c.0.5x

Contingent liabilities

The Group's contingent liabilities are set out on page 23.

In February 2019, the Italian Competition Authority (the ICA) notified Babcock Mission Critical Services Italia SpA (BMCS Italia) of its decision to fine a number of companies, which provide helicopter services in Italy for anti-trust violations and are members of the Italian Helicopter Association (the Association). The ICA found that a number of companies, but not BMCS Italia, had engaged in bid-rigging activities in the aerial rotary wing fire-fighting sector, a sector in which BMCS Italia does not operate. At the same time, the ICA, after investigation, found that there was no bid-rigging in the helicopter emergency medical services sector, the sector in which BMCS Italia does operate. However, during the course of its investigation, the ICA became aware of a publicly available "tariff list" produced by the Association since 2001 and, on the basis of the list, decided to fine the members of the Association, including BMCS Italia. The fine for BMCS Italia was €51 million.

BMCS Italia has appealed the ICA's decision and has reasonable grounds to believe the court will either overturn the fine all together or substantially reduce it. Accordingly, no provision for settlement has been made as 31 March 2019 as the directors do not believe any settlement will be material.

Group income statement

1. Revenue does not include the Group's share of revenue from joint ventures and associates of £685.8 million (2018: £703.2 million).

2. Including IFRIC 12 investment income but before exceptional items and amortisation of acquired intangibles.

Group statement of comprehensive income

Group statement of changes in equity

The other reserve relates to the rights issue of new ordinary shares on 7 May 2014 and the capital redemption reserve relates to the issue and redemption of redeemable "B" preference shares in 2001.

Group balance sheet

Group cash flow statement

Notes to the consolidated financial statements

1. Basis of preparation and significant accounting policies

The financial information has been extracted from the Annual Report, including the audited financial statements for the year ended 31 March 2019. They should be read in conjunction with the Annual Report for the year ended 31 March 2018, which has been prepared in accordance with IFRSs as adopted by the European Union. The accounting policies used and presentation of these consolidated financial statements are consistent with those in the Annual Report for the year ended 31 March 2018, except as noted below and to comply with amendments to IFRS, none of which had a material impact on the consolidated results, financial position or cash flows of the Group.

Significant accounting policies

The significant accounting policies adopted by the Group are set out below. They have been applied consistently throughout the year and the comparative period except as specified below.

New and amended standards adopted by the Group

The Group applied the following standards and amendments for the first time for the period beginning on 1 April 2018:

• IFRS 9: 'Financial instruments'

• IFRS 15: 'Revenue from contracts with customers'

The impact of adoption of these standards and the key changes to the accounting policies are disclosed below.

The following standards and amendments to IFRSs became effective for the period beginning on 1 April 2018 and did not have a material impact on the consolidated financial statements:

• IFRIC 22: Foreign Currency Transactions and Advance Consideration;

• Classification and Measurement of Share-Based Payment Transactions - Amendments to IFRS 2;

• Annual Improvements 2014-2016 Cycle; and

• Transfers of Investment Property - Amendments to IAS 40.

(a) IFRS 9

The Group adopted IFRS 9 from 1 April 2018. In accordance with the transition provisions in the Standard, comparatives have not been restated.

IFRS 9 requires the use of two criteria to determine the classification of financial assets: the entity's business model for the financial assets and the contractual cash flow characteristics of the financial assets. The Standard goes on to identify three categories of financial assets - amortised cost; fair value through profit or loss (FVTPL); and fair value through other comprehensive income (FVOCI).

The adoption of IFRS 9 has not impacted the measurement of the Group's financial assets: derivative financial assets continue to be held at FVTPL (except those subject to hedge accounting) and the Group's other financial assets continue to be held at amortised cost.

IFRS 9 introduces an expected credit loss approach to impairment. The Group applies the IFRS 9 simplified approach to measuring expected credit losses, which uses a lifetime expected loss allowance for all trade receivables and contract assets.

No material adjustments to the Group's impairment provisions were made on transition to IFRS 9. The majority of trade receivables are with government, government backed institutions or blue chip corporations and as such credit risk is considered small, and where an appropriate approach was already applied to establish impairment provisions and the inclusion of specific expected credit loss considerations did not have a material impact.

Updated IFRS 9 hedge accounting requirements have not had a material impact on the Group, but additional disclosure requirements have been met.

(b) IFRS 15

The Group adopted IFRS 15: 'Revenue from contracts with customers' from 1 April 2018 using the fully retrospective approach. The accounting policies have been updated to reflect the five-step approach to revenue recognition required by IFRS 15. This resulted in no impact on the cumulative amount of revenue recognised at 1 April 2018 or for the year ended 31 March 2019.

Following adoption of IFRS 15, capitalised contract costs are now presented separately within trade and other receivables. These amounts were previously included within amounts due from customers for contract work.

2. Segmental information

The Group has four reporting segments, determined by reference to the goods and services they provide and the markets they serve.

Marine - through life support of submarines, naval ships and infrastructure in the UK and internationally.

Land - large scale critical vehicle fleet management, equipment support and training for military and civil customers worldwide.

Aviation - critical engineering services to defence and civil customers worldwide, including pilot training, equipment support, airbase management and operation of aviation fleets delivering emergency and offshore services.

Nuclear - complex engineering services in support of major decommissioning programmes and projects, training and operation support, new build programme management and design and installation in the UK and, increasingly, internationally.

The Group chief executive, the chief operating decision maker as defined by IAS 8, monitors the results of these reporting segments and makes decisions about the allocation of resources. The Group's business in South Africa meets the definition of an operating segment, as defined byIAS 8. However the business represents less than 10% of the Group's revenues, profits and assets and, as permitted by IAS 8, the Group therefore includes the business in the Land sector reportable segment on the basis that they have similar economic characteristics (assessed with reference to their operating profit margins) and that the nature of the services provided, the type of customer and the methods used to deliver services are similar to those in the sector in which they are included.

* Before amortisation of acquired intangibles and exceptional items.

* Before amortisation of acquired intangibles and exceptional items.

The analysis of revenue for the year ended 31 March 2019 and at 31 March 2018 is as follows:

The sale of goods at a point in time is mainly in the Land sector. This includes revenue subject to judgement as to whether the Group operates as principal or agent. The sale of goods over time is in the Marine sector. Provision of services over time is across all sectors.

The geographic analysis of revenue by origin of customer for the year ended 31 March 2019 and at 31 March 2018 is as follows:

3. Exceptional items and acquired intangible amortisation

Exceptional items are those items which are exceptional in nature or size.

1. During the period the Oil and Gas business was reshaped to reflect the current market and to allow for the resultant business to optimise future cashflows. Assets and leases were marked to current market value to allow for sale, sub lease or alternate use. The total exceptional charge is £81.1 million and the cash costs are expected to be offset by tax effects and proceeds from the disposal of assets. Property, plant and equipment was written down by £29.3 million. For receivable impairments refer to note 11 for more information, and there are also minor impairments to inventory. Refer to note 14 for the onerous lease provisions.

2. Capacity reduction and restructuring costs reflect the rightsizing, restructuring and closure of businesses across the sectors including Appledore, Rail and Magnox. Refer to note 14 for related provision movements.

3. The Group continued with its strategy of exiting small low margin businesses. The costs of exiting renewables, North American mining and construction, scaling down powerlines (South Africa), mobile telecoms, infrastructure and cabling are reflected within exit costs. Refer to note 11 for related asset write downs.

4. On 26 October, the High Court handed down a judgment involving the Lloyds Banking Group's defined benefit pension schemes. The judgment concluded the schemes should be amended to equalise pension benefits for men and women in relation to guaranteed minimum pension benefits. The issues determined by the judgment arise in relation to many other defined benefit pension schemes. The past service costs totalling £25.9 million reflect our estimate of the extent to which the judgment crystallises additional liabilities for our pension schemes.

The Group also recognised £4.8 million on off cost for settlement of a pension scheme liability (note 25).

5. £88.9 million of the exceptional charge has been charged through cost of revenue and the balance of £71.9 million through administration expenses.

6. The tax credit of £16.7 million on exceptional items includes a charge of £10.0 million as a result of a reorganisation in anticipation of Brexit.

4. Net finance costs

5. Income tax expense

The charge for taxation is after a tax credit of £16.7 million (2018: nil) relating to exceptional items, a tax credit of £20.4 million(2018: £21.1 million) relating to acquired intangible amortisation, of which £0.6 million (2018: £0.6 million) is included in share of profits from joint ventures and associates, and a tax charge of £1.3 million (2018: £1.3 million) relating to rate changes. The charge for taxation gives an underlying effective rate of 18.0% (2018: 18.0%), which is based on the estimated effective rate of tax for the full year ended 31 March 2019, and before the credits in respect of exceptionals, amortisation of acquired intangibles and rate changes.

6. Earnings per share

The calculation of the basic and diluted EPS is based on the following data:

Earnings

7. Dividends

The Directors have proposed a final dividend of 22.9p per 60p ordinary share (2018: 22.65p per 60p ordinary share) and it will be paid on 9 August 2019 to shareholders registered on 5 July 2019, subject to approval at the Annual General Meeting on 18 July 2019. The full year declared dividend per share is 30.0p per 60p ordinary share (2018: 29.5p per 60p ordinary share).

8. Goodwill

During the year, goodwill was tested for impairment in accordance with IAS 36. The recoverable amount of the Group's goodwill was assessed by reference to value-in-use calculations derived from the three year budgeted cash flows, and extrapolated cash flows thereafter based on an estimated growth rate of 3.0% (2018: 3.0%). The process by which the budget is prepared, reviewed and approved benefits from historical experience, visibility of long term work programmes in relation to elements of the work undertaken for the UK government, available government spending information (both UK and overseas) and the Group's order book and bid pipeline.

A pre-tax discount rate in the range 9.5% to 10.5% (2018: 8.5% to 9.8%) was used in the value-in-use calculations. The Group's weighted average cost of capital post-tax is approximately 7.8% to 8.6% (2018: 7.0% to 8.0%).

Goodwill is allocated to the Group's cash-generating units (CGUs) as presented below. These align with the Group's operating segments and represent the lowest level in the Group at which goodwill is monitored.

Key assumptions in relation to the cashflows included in the value in use models are set out below:

The value in use calculations present significant headroom in respect of all the operating segments. Sensitivity analyses were carried out for each of the segments in relation to constraining the rate of growth of the budget cashflows by 28%, reducing the long term growth rate by 1% and increasing the discount rate used in the value in use calculations by 1%. In each case significant headroom remained for each segment. The sensitivities were also applied in the aggregate and in this case a marginal amount of headroom remained for Aviation and significant headroom remained for the other segments.

9. Investment in and loans to joint ventures and associates

Included within investment in joint ventures and associates is goodwill of £1.2 million (2018: £1.2 million).

The total investment in and loans to joint ventures and associates is attributable to the following segments:

Included within joint ventures and associates are:

· Before amortisation of acquired intangibles

Joint ventures and associates revenue excluding Group sub-contract revenue is £685.8 million (2018: £703.2 million).

The joint ventures and associates have no significant contingent liabilities to which the Group is exposed.

None (2018: non) of the joint ventures or associates had material amounts of other comprehensive income or profits from discontinued operations and therefore the total comprehensive income noted in the table above is in line with profits from continuing operations.

Holdfast Training Services Limited and Cavendish Fluor Partnership Limited are equity accounted as unanimous decisions making is required over key decisions which drive the relevant activities of the business. Both the Holdfast Training Services Limited and Cavendish Fluor Partnership Limited joint arrangements are shown as joint ventures as the Group has the right to net assets of the joint arrangement rather than separate rights and obligations to the assets and liabilities of the joint arrangement respectively. Holdfast Training Services Limited and Cavendish Fluor Partnership Limited had other comprehensive income of £nil in the year (2018: £nil).

AirTanker Limited is shown as an associate due to the level of management input and the relative share ownership. AirTanker benefitted from an improved cumulative margin position in the year.

The Cavendish Fluor Partnership Limited is deemed material to the Group. All the assets and liabilities are current. Of the assets shownabove £1.8 million (2018: £6.2 million) was cash and cash equivalents. During the year dividends of £12.9 million (2018: £24.2 million) were received. The retained profit is after income tax expense of £5.5 million (2018: £6.0 million).

10. Inventories

11. Trade and other receivables

Trade and other receivables are stated at amortised cost.

Significant changes in contract assets during the year are as follows: