Cobham Regulatory News (COB)

16 February 2017

Update on KC-46, 2016 Results and 2017 Guidance

On 11 January 2017, Cobham plc ('Cobham' or 'the Group') announced that, at the time, there was significant uncertainty surrounding the outcome of the KC-46 tanker programme and that the year end audit and a balance sheet and contract review was ongoing. The Group is today providing an update on the KC-46 Tanker Programme, and is taking the opportunity to provide an update on its expected results for the year ended 31 December 2016 and its early view of the year ended 31 December 2017.

KC-46 Tanker Programme

Over the last few weeks, there have been many meetings between Cobham and The Boeing Company to incorporate a wide range of changes into the KC-46 schedule that provides a solid baseline for completion of the programme. This has been enabled by new ways of working between the companies and an unprecedented level of co-operation which resolved long standing technical and conformance issues.

The schedule remains challenging and is being executed against the ongoing backdrop of an onerous commercial arrangement.

Through the commercial negotiations associated with the changes, it became clear that the costs to complete the development schedule would fall largely to Cobham's account. As a result, the Group has taken a charge of £150m, which fully bounds historic liabilities and appropriately funds the remaining work, after taking into account historic performance.

Mike Wareing, Chairman of Cobham plc, said:

"Great progress has been achieved operationally and commercially in the last few weeks, with clarity gained that the costs falling to Cobham's account are far greater than the Board understood last year. Whilst the charge to finish the development phase is hugely disappointing, it is essential and does bound all historic liabilities, as well as appropriately funding the remaining work."

2016 Full Year Result

Cobham is in the final stages of its year-end close process and, although the finalisation of the preliminary results announcement and the completion of the external audit remains ongoing, the Board is announcing the expected outcomes to provide early transparency.

Management has undertaken an extensive balance sheet review - albeit the process has been limited by the time available since the year end. There are a number of adjustments that have arisen from this review across the Group, which have originated from:

· Impairments of goodwill and intangible assets;

· Revisions of the carrying values of other assets;

· Estimates of fixed price contract profitability;

· Assessment of legal and other provisions.

The Board has assessed these adjustments and concluded that whilst the impact on reported results is high, it is appropriate to reset the Group to a more prudent level.

The adjustments that have arisen from the balance sheet review will be categorised as exceptional items in the 2016 financial statements, save for where they are of a recurring nature, or are 2016 trading items, in which case they will be taken against underlying trading profit.

The Board has considered whether any of the identified items above relate to prior years. The conclusion reached is that these adjustments relate to events in 2016 and therefore no prior year adjustment is necessary.

Underlying Trading Profit

Group underlying trading profit is expected to be £225m. This includes £20m of year end adjustments, which have been deducted from the draft management accounts trading profit of £245m, as announced in the 11 January 2017 post-close trading update. The main adjustments since the draft management accounts are:

· £6m of additional amortisation on amounts capitalised in prior years relating to the implementation of Oracle ERP in two sites. This is the annual charge which will continue at a similar level for a further six years;

· £4m relating to the 2016 expenditure on IT security compliance with forthcoming US regulations. Further such expenditure is expected in 2017;

· £2m, being the sum of several year end accruals not booked in the draft management accounts;

· £8m of bad debt charges and other sundry items.

Exceptional Items

There are further amounts that will be recognised as exceptional items and excluded from underlying trading profit. The key components of these adjustments are as follows:

1) Impairments of goodwill and intangible assets:

The Group will recognise a total non-cash impairment of goodwill and other intangible fixed assets of £574m.

The following impairments do not reflect a lack of confidence from the Board that these businesses can create value in the future. They are generated as a result of the lower 2016 outturn, combined with lower growth from this base, and are made up of charges against the following business units:

· £196m against the Wireless business unit within the Communications and Connectivity Sector. 

This unit includes part of the Aeroflex acquisition in 2014 and Axell Wireless acquired in 2013;

· £186m against the Integrated Electronic Solutions business unit, part of the Advanced Electronic Solutions Sector. This unit includes the Lansdale business acquired in 2009, part of the M/A-COM business also acquired in 2009, the Trivec business acquired in 2011 and part of the Aeroflex acquisition in 2014;

· £192m against the Semiconductor Solutions business unit, also within the Advanced Electronic Solutions Sector. This unit includes part of the Aeroflex acquisition in 2014.

2) Revisions of the carrying values of other assets:

A charge of £33m has been taken against other assets in the balance sheet. This includes:

· £20m against the inventory balance reflecting ageing stock and lower demand forecasts;

· £4m against intangible assets no longer planned to be used;

· £4m tangible asset write down against plant and machinery no longer expected to be used;

· £5m provision against aged receivables considered doubtful.

3) Estimates of fixed price contract profitability:

In total a £179m charge, including KC-46, has been taken against certain contracts reflecting increased estimates of costs to complete and, in some cases, lower recovery from customers. The Board recognises that making estimates on complex contracts is inherently judgemental and therefore whilst it has taken a reasonable view of contract positions at present, the final outcome of the contracts could be more or less favourable than the position taken. The charges booked can be broadly categorised as:

· £150m against KC-46 reflecting the position outlined above;

· £19m on other development contracts within the Mission Systems Sector;

· £8m on development contracts within the Advanced Electronic Solutions Sector;

· £2m within the Communications and Connectivity Sector.

4) Legal and other provisions:

£25m of charges have been taken to cover the estimated exposure on a number of legal, environmental, warranty and other regulatory matters across the Group.

The taxation impact of the above items, and other tax positions, are still being considered and will be included within the preliminary results announcement.

Cash conversion and debt

2016 operating cash conversion was approximately 80% of the adjusted underlying trading profit. Whilst still unaudited, the Group's net debt at 31 December 2016 is as announced on 11 January 2017 (£1.03bn). Consistent with the Group's funding agreements, the net debt/EBITDA gearing ratio was 3.0x at the same date, compared to the covenant upper threshold of not to exceed 3.5x.

Early view of 2017

The Board has not yet finished its review of the 2017 budget.

Whilst market uncertainties undoubtedly exist, the ability of the Group to forecast performance is also not as strong as it should be and these factors lead to the early view for 2017 at this stage of the year having a wide range of potential outcomes.

The Group has many operational issues which require attention in addition to reversing the current negative performance trajectory. Some actions to address these have already commenced but are in an early stage. Such actions may also have associated costs. Given these and the issues highlighted above the Board considers that delivery of a similar performance to that of 2016 in 2017 may be challenging.

The balance sheet is clearly not strong enough to properly support the operations of the Group, given the important role it plays in many customer programmes. A strong balance sheet will be an important part of delivering medium term growth. The Board is not sufficiently advanced in the review of the forecast financial position of the Group to be able to give any balance sheet guidance today. This will be provided in the preliminary results announcement on 2 March 2017.

David Lockwood, CEO of Cobham plc said:

"2016 was an incredibly turbulent and disappointing year for Cobham. Execution failure in many businesses led us to miss expectations badly and provides a poor entry point into 2017. The medium term provides significant opportunity with encouraging market dynamics and strong product and programme offerings. The route to realising this potential is strong operational performance and financial control, which will be the relentless focus through 2017. This has commenced and the potential to improve is clear."

Other information

Cobham's preliminary results for the year ended 31 December 2016 will be announced on 2 March 2017.

Investor Briefing and Conference Call at 08.00 on 16 February 2017

David Lockwood and David Mellors, CFO will host a conference call for investors and analysts at 08.00 UK time on Thursday, 16 February.

The call can be accessed by ringing +44 (0)207 192 8000, conference ID 74612193. Please dial in from 07.45 to avoid queuing.

A replay facility will be available until 23 February, by dialling +44 (0)1452 550000, conference ID 74612193.

This document has been determined to contain inside information.

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Enquiries:

Notes:

1. The Group includes within its published statements non-GAAP measures including underlying trading profit and underlying earnings results. Trading profit has been defined as operating profit from continuing operations excluding the impacts of business acquisition and divestment related activity and business restructuring costs as detailed below. Also excluded are changes in the marking to market of non-hedge accounted derivative financial instruments and gains and losses arising on dividend related foreign exchange contracts, impairments of intangible assets and items deemed by the Directors to be of an exceptional nature.

Business acquisition and divestment related items excluded from trading profit and underlying earnings include the amortisation of intangible assets recognised on business combinations, gains or losses arising on business divestments, adjustments to businesses held for sale, the writing off of the pre-acquisition profit element of inventory written up on acquisition and other direct costs associated with business combinations and terminated divestments. Business restructuring costs relate to the restructuring of the Group's portfolio, which are incremental to normal operations.

Exceptional items are excluded from trading profit and underlying earnings in 2016 due to their unusual size and incidence. These arise out of the January 2017 Balance Sheet review and include revisions to the carrying value of assets, additional contract loss provisions and legal and other provisions.

2. This document contains 'forward-looking statements' with respect to the financial condition, results of operations and business of Cobham and to certain of Cobham's plans and objectives with respect to these items.

Forward-looking statements are sometimes but not always identified by their use of a date in the future or such words as 'anticipates', 'aims', 'due', 'could', 'may', 'should', 'expects', 'believes', 'intends', 'plans', 'targets', 'goal', or 'estimates'. By their very nature forward-looking statements are inherently unpredictable, speculative and involve risk and uncertainty because they relate to events and depend on circumstances that may or will occur in the future.

There are various factors that could cause actual results and developments to differ materially from those expressed or implied by these forward-looking statements. These factors include, but are not limited to, changes in the economies, political situations and markets in which the Group operates; changes in government priorities due to programme reviews or revisions to strategic objectives; changes in the regulatory or competition frameworks in which the Group operates; the impact of legal or other proceedings against or which affect the Group; changes to or delays in programmes in which the Group is involved; the completion of acquisitions and divestitures and changes in commodity prices, inflation or exchange rates.

All written or verbal forward-looking statements, made in this document or made subsequently, which are attributable to Cobham or any other member of the Group or persons acting on their behalf, are expressly qualified in their entirety by the factors referred to above. Cobham does not intend to update these forward-looking statements.

3. Cobham is a leading global technology and services innovator, respected for providing solutions to the most challenging problems, from deep space to the depths of the ocean. We employ around 11,000 people primarily in the USA; UK and Europe and Australia. We have customers and partners in over 100 countries, with market leading positions in: wireless, audio, video and data communications, including satellite communications; defence electronics; air-to-air refuelling; aviation services; life support and mission equipment.