ROLLS-ROYCE GROUP plc 2010 FULL-YEAR REPORT. Order book remains strong at 59.2bn ( bn), having booked 12.3bn in new orders in 2010.

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1 February 10, 2011 Group Highlights: ROLLS-ROYCE GROUP plc 2010 FULL-YEAR REPORT Order book remains strong at 59.2bn ( bn), having booked 12.3bn in new orders in Group revenues increased to 11,085m ( ,414m). Revenues on an underlying basis* increased by seven per cent to 10,866m. Services revenues increased by 13 per cent to 5,544m on an underlying basis. Profit before financing was 1,134m (2009 1,172m). Underlying profit before taxation* increased by four per cent to 955m ( m). The Group s financial position has been further strengthened: o Average net cash for the period improved by 325m to 960m. o Robust balance sheet with net cash of 1,533m at the period-end (2009 1,275m) after a cash inflow in the period of 258m. Final payment to shareholders increased 6.7 per cent to 9.60 pence per share, making pence per share for the full year. * see note 2 on page 26 Sir John Rose, Chief Executive, said: Rolls-Royce has delivered a strong performance in 2010 with record underlying revenues and profits. This reflects our global customer base and the balanced portfolio of products and services that we offer. It is a measure of progress that the Civil, Defence and Marine businesses now each generate underlying profits of more than three hundred million pounds. During 2011 the Group expects good profit growth and a modest cash inflow. At the end of March I will retire as Chief Executive of Rolls-Royce after fifteen years. It has been an extraordinary privilege to work with so many outstanding people and to contribute to the development of a business that has been at the forefront of engineering and technology for over 100 years. John Rishton will take over from me as Chief Executive. I wish him and all the team at Rolls-Royce continued success. 1

2 Group Overview: Rolls-Royce performed well in The order book grew in the period to a record 59.2bn. Underlying revenues rose to 10.9bn, underlying profit increased to 955m and average net cash to 960m. This robust performance was achieved despite significant challenges. These results demonstrate the Group s resilience. The breadth and balance of our portfolio and the Group s strong position in global markets have made the business more flexible and better able to deal with economic shocks and unexpected events. This has allowed Rolls-Royce to maintain progress throughout the global financial crisis and subsequent disruption to the world economy which began in During this three year period the business has grown underlying revenues by 39%, profits by 19% and average net cash by 610m whilst increasing payments to shareholders by 23%. We have continued to invest for the long-term, spending more than 4bn since 2007 in facilities, plant, IT, training and product development. These investments are funding world class facilities in all major geographies, providing capacity for future growth, contributing to improved productivity and delivering products with operational lives most of which are expected to extend to thirty years and more. Recovery in the global economy remains uneven, with growth subdued in a number of developed countries. This makes it particularly important that Rolls-Royce has the ability to access those markets where demand remains strong for the complex integrated power systems and services that we supply and which others cannot easily replicate because of high barriers to entry. During 2010 the Group has made good progress with a number of the key development programmes which underpin our future growth. These include the Trent 1000 for the Boeing 787, the Airbus A400M, where the TP400 engine has now accumulated more than three thousand hours of flying time, and the Gulfstream G650, on which the BR725 successfully met all project milestones during the year. The engine for the Airbus A350 XWB, which is due to enter service in 2013, ran for the first time in June. The submarine HMS Astute was accepted into service by the Royal Navy, with a second submarine, HMS Ambush launched recently. The Type 45 destroyer, HMS Daring successfully completed its programme of sea trials during the year. The first Rolls-Royce powered Littoral Combat Ship (LCS) entered active duty with the US Navy, with a second vessel launched in December. Importantly, in January 2011, the US Navy confirmed an order for propulsion systems for a further ten Rolls- Royce powered Littoral Combat Ships, representing the most valuable naval surface ship order the Group has received. 2

3 In April, the Marine business completed the acquisition of ODIM ASA (ODIM), acquiring the remaining 67 per cent of shares for a cost of 147m, bringing the total cash investment in ODIM to 218m. ODIM adds capability to our strong marine systems portfolio in target markets such as seismic towing, oceanographic survey and subsea and deep-water installation systems. An uncontained disc release occurred on a Trent 900 engine on board a Qantas operated Airbus A380 in November This regrettable incident attracted widespread attention. Uncontained disc failures happen with a frequency of about once a year on the world s large civil aircraft fleet. However this was the first time an event of this nature had occurred on a large civil Rolls-Royce engine since The safety of our products is our highest priority, and each time a serious incident happens, Rolls-Royce and the aviation industry learn lessons. These are embedded in the rigorous certification requirements, safety procedures and standards of regulation which make flying an extraordinarily safe form of transport. In line with this regime, Rolls-Royce worked closely with the regulators, Airbus and our customers to put in place an effective inspection programme, to identify root cause and to achieve a rapid return of the Trent 900 fleet to normal operation. The bulk of the anticipated costs associated with this event have been recognised in the 2010 results. This is in line with the Interim Management Statement of November A Consistent Strategy for Long-Term Growth: We are building our business through the disciplined application of our long-term strategy. This has afforded Rolls-Royce strong positions in four growth sectors: civil aerospace, defence aerospace, marine and energy. As an example, our success in the wide-body aircraft market means Rolls-Royce expects to more than double the number of Trent engines being delivered by the middle of this decade. This step change in volume, together with growth from the portfolio, requires consistent investment in new facilities and capabilities. In 2010, good progress was made in the construction of major new facilities at Crosspointe in Virginia, USA, which has already started to manufacture components, and at Seletar in Singapore where we will assemble and test large civil engines such as the Trent 900, the Trent 1000 and the Trent XWB. These two state of the art facilities, covering approximately 87,000 square metres, or around four per cent of our current global footprint, will employ at least 850 men and women. Both are making good progress, with full operation at Crosspointe expected later this year and the start of operations at Seletar in Rolls-Royce opened a Mechanical Test and Operations Centre at Dahlewitz in Germany, and a new facility to support the Lockheed Martin Lightning II Joint Strike Fighter (JSF) LiftFan capability in Indianapolis, USA. Rolls-Royce also expanded the Civil aerospace joint venture repair and overhaul facility in Singapore, increasing capacity to 250 large engines per year. In addition we opened a new joint venture icing test facility in Manitoba Canada. 3

4 We continue to develop our UK footprint with good progress on a new nuclear manufacturing facility for both naval and civil nuclear capability. In addition, we are supporting the development of six advanced manufacturing research centres, four of which will be based in the UK, to improve manufacturing performance across the supply chain. We continue to expand our activities in civil nuclear power generation. Our capabilities in nuclear technology, developed over 50 years, position us well in this fast growing sector. During 2010 we secured contracts to provide nuclear instrumentation and control safety systems in Slovakia and in China. We have also deepened our understanding and relationships with reactor vendors and utilities in the UK and around the world. Our consistent strategy has created a portfolio which we believe will double revenues in the next decade through organic growth alone. Our confidence in the long-term growth prospects of the Group is reflected in the decision to recommend a final payment to shareholders of 9.60 pence per share bringing the full year payment to pence per share, an increase of 6.7 per cent for Strong financial position: The Group s financial position was further strengthened in Average net cash balances for the year were 960m, an improvement of 325m over the same period in 2009, with period-end cash balances improving 258m to more than 1.5bn. The Group s debt maturities are well spread, with the debt credit ratings assessed by all major rating agencies as strong with a stable outlook. Following the maturity of the 750m Eurobond in the first half of 2011, the Group s funding costs are expected to be reduced in 2011 by around 10m compared with There have been no major changes in the position of the Group s UK pension funds over the year. Two smaller UK funds completed their triennial actuarial valuations, with no significant changes in the Group s net deficit position or ongoing cash funding requirements. The availability of finance for our customers in the wholesale markets has improved over the course of As a result, the level of financial or contingent support remains modest. Trading Summary: Good access to global markets and a broad range of product and service offerings helped secure orders worth 12.3bn in 2010, ensuring that the Group s order book increased to a record 59.2bn at the period end. Approximately 18.1bn of the order book relates to long-term service contracts. There were significant wins in all divisions. Civil Aerospace secured orders for more than 300 Trent engines. More than 2.1bn of new activity in Defence included substantial services contract awards to support US, Canadian and UK transport and combat fleets. In the Marine business there are encouraging signs of increasing demand in the offshore and commercial marine markets, and in 2010, the first order for the new Wave-Piercing design was signed. The Energy division continued to make good progress with overall orders in the oil 4

5 and gas and power generation sectors similar to 2009; within civil nuclear there was healthy demand for instrumentation and control equipment and services. Group revenues increased by six per cent to 11.1bn. Underlying revenues improved by seven per cent. There was good growth in underlying service revenues which increased by 13 per cent with double digit growth coming from the Civil Aerospace, Marine and Energy businesses. The Group maintained its policy of managing foreign exchange risk through its longterm hedging programme in the period. The hedge book increased to $21bn at 31 December 2010 at an average rate of $1.60. Underlying profits in the period benefited by 74m. This included 72m from a nine cent improvement in the USD achieved rate, principally through the utilisation of the hedge book, and a further net 2m from translation benefits on overseas businesses, mainly NOK and USD effects. For 2011, USD achieved rates are expected to improve again by between six and nine cents contributing a further 50m to 75m to underlying profit. Investment in research and development was 923m ( m), of which the Group funded 506m, approximately 4.7 per cent of underlying revenues. The charge to the income statement increased by 43m to 422m. This is a function of higher cash spend and slightly lower net capitalisation in the period. These trends are expected to continue in 2011 as more engineering resource is devoted to early-phase programmes, such as the Trent XWB where spend is charged to the income statement in the period in which it is incurred. As a result, the charge for research and development in the 2011 income statement is expected to be around 40m higher than in The Group s underlying trading result included a number of one-off items including the benefits from a spares distribution and logistics deal with Aviall. These substantially mitigated charges relating to the Trent 900 failure in November 2010 and a provision for retrofit charges in the Energy business. Underlying profit before tax, which excludes the non-cash impact of the hedge book and other financial instruments, increased by four per cent to 955m ( m). This profit growth reflected improved revenue mix from services in the period, good cost control, positive FX impact and broadly similar unit costs in the gas turbine activities partly offset by the ongoing headwinds associated with bringing new products to market, higher charges for research and development as well as the oneoff items noted above. Despite these challenges, the Group delivered strong trading performances in Defence and Marine where profit grew by more than 20 per cent in each, and in Energy which grew by 13 per cent. This more than offset the reduction in profitability in the Civil business. The Group s reported profit before tax was 702m, compared with 2,957m in 2009, and included the effects of the mark-to-market of its financial instruments, for which hedge accounting is not adopted. The impact of mark-to-market is included within net financing in the income statement (see note 3 on page 29). The underlying tax charge of 236m increased 49m from 2009 as the effective rate rose to 24.7 per cent for the period, from 20.4 per cent in The 2009 effective 5

6 rate benefited from a one-off 35m credit following the successful completion of overseas tax audits and changes in legislation. The underlying tax rate is expected to remain at around 25 per cent in Underlying earnings per share declined by two per cent to 38.73p ( p), primarily reflecting a higher effective tax rate in Basic earnings per share were 29.20p ( p), reflecting the mark-to-market adjustments described above. The Group reported a good cash performance. Net cash inflow was 258m for the period, reflecting an increase in underlying profitability, improved working capital performance and the receipts of inventory disposals under the Aviall distribution services agreement. Significant outflows during the year included the acquisition of ODIM ASA, increased investments in product development and facilities and higher payments for taxes and to shareholders in the period. Group prospects: Our consistent strategy has created a broad and balanced portfolio, and established a strong financial foundation from which to support investment in technology, capability and capacity. We continue to experience strong demand in emerging economies, which is more than mitigating a subdued recovery in some of our traditional markets. The strong order book and balanced portfolio gives us confidence that the Group will double revenues organically over the next decade. We continue to have the management and financial capacity to accelerate growth through acquisition and partnership. The Group expects underlying revenues to grow modestly in We anticipate a slowdown in original equipment revenues in the Marine business and to experience the initial impacts of spending cuts by some customers in our Defence business. However, this is expected to be more than compensated for by growth in service activities in the Civil aerospace and Marine businesses. Group underlying profits in 2011 are expected to see good growth benefiting from a strong trading performance in the Civil aerospace business, a better revenue mix, improved achieved foreign exchange rates and a continued focus on cost control. The Marine and Defence aerospace businesses are expected to deliver stable performances despite the current challenges in their markets and the Energy business is expected to deliver good profit growth in the year. Average net cash balances are expected to remain at broadly similar levels to those achieved in 2010 after a modest cash inflow in

7 Other Matters: Proposed arrangements for the creation of a new holding company: Rolls-Royce Group plc is proposing a change to its corporate structure by means of a Scheme of Arrangement, creating a new non trading listed entity; New Holdco (see page 38). Contingent liabilities and contingent assets: Note 10 on page 32 refers to material litigation between Rolls-Royce and United Technologies Corporation regarding patents for swept fan blade technologies. Enquiries: Investor relations: Media relations: Mark Alflatt Josh Rosenstock Director of Financial Communications Head of Corporate Communications Rolls-Royce plc Rolls-Royce plc Tel: +44 (0) Tel: +44 (0) mark.alflatt@rolls-royce.com josh.rosenstock@rolls-royce.com For news desks requiring visual material, photographs are available at and news broadcasters requiring broadcast-standard video can visit If you are a first-time user, please take a moment to register. In case you have any questions, please journalisthelp@thenewsmarket.com. A copy of this report in Portable Document Format (PDF) can be downloaded from the investors section of the website at This Results Announcement contains certain forward-looking statements. These forward-looking statements can be identified by the fact that they do not relate only to historical or current facts. In particular, all statements that express forecasts, expectations and projections with respect to future matters, including trends in results of operations, margins, growth rates, overall market trends, the impact of interest or exchange rates, the availability of financing to the Company, anticipated cost savings or synergies and the completion of the Company's strategic transactions, are forward-looking statements. By their nature, these statements and forecasts involve risk and uncertainty because they relate to events and depend on circumstances that may or may not occur in the future. There are a number of factors that could cause actual results or developments to differ materially from those expressed or implied by these forward-looking statements and forecasts. The forward-looking statements reflect the knowledge and information available at the date of preparation of this Results Announcement, and will not be updated during the year. Nothing in this Results Announcement should be construed as a profit forecast. 7

8 REVIEW BY BUSINESS SEGMENT 1 Civil aerospace Order book ( bn) Engine deliveries Underlying revenues ( m) 4,919 4,481 Underlying OE revenues ( m) 1,892 1,855 Underlying services revenues ( m) 3,027 2,626 Underlying profit before financing ( m) The Civil portfolio benefits from having a large and growing, broad-based, and relatively young fleet of engines. Major milestones were achieved on key flight test programmes in 2010 that will further expand the portfolio and underpin long-term growth. In the wide-body sector, the Trent 1000 has now accumulated more than 2,000 hours of flight time on the Boeing 787 which is due to begin commercial operation in The Trent XWB ran for the first time in June Three engines are now included on the test programme with a further four engines expected to come on stream in In the Corporate and Regional sector, the first Embraer Legacy 65 was delivered to its customer in December. The Gulfstream G650 is expected to enter service in However, trading conditions remain challenging. The increasing costs of bringing major new programmes to market, higher research and development charges and the net effect of a number of one-off items all contributed to a decline in profitability, largely as had been expected. This decline was partially offset by foreign exchange benefits and improving productivity. The failure of a Trent 900 engine on an Airbus A380 in November 2010 generated considerable scrutiny of the aircraft and engine programme. A rapid and effective response from all stakeholders, including Qantas, Airbus, Rolls-Royce and the regulatory bodies, enabled quick understanding of the cause, issues and remedies and the return to normal service within a matter of weeks. The costs provided for this failure, including incremental service and support costs, un-contracted settlements to all affected customers and the impact on the Group s operational activity totalled 56m, and are reflected in the 2010 underlying profit performance. A modest level of additional costs may be incurred in Orders totalling 7.5bn were received during the year, resulting in a record order book at the year end. This included orders for more than 300 Trent and 188 V2500 engines. The Trent 700 continues to lead the Airbus A330 market. It has won more than 90 per cent of orders in 2010, and more than 70 per cent in the last five years. The outlook for the programme remains particularly strong with the Trent 700 order book at record levels, despite having delivered 139 engines in Orders totalling more than 150 engines were also received for the Trent 1000 and Trent XWB. These two programmes now have over 1,700 engines in the order book, similar to the current operating civil Trent fleet which began service in Commentaries relate to underlying revenues and profits unless specifically noted 8

9 In total, the civil order book includes more than 5,100 engines. This is equivalent to more than 35 per cent of today s installed fleet which was delivered over more than 25 years. The overall level of new engine deliveries remained broadly stable. A record number of V2500 engines for the Airbus A320 family of aircraft was offset by lower deliveries of Trent engines, reflecting the schedule status of major new aircraft programmes. Service revenues grew 15 per cent from 2009 levels including a four per cent benefit from better FX rates and a five per cent benefit from a distribution services agreement with Aviall which will not be replicated in The costs associated with the early phases of new programmes, changes in revenue mix and increased R&D charges, together with the net impact of a number of one-off items, were the cause of weaker margins. While the airline industry showed some improvement, the impact on services revenues remains modest with around five per cent organic growth in the year. Continued capacity discipline by airlines, the impact of the volcanic ash disruption in April and subdued economic activity in Europe and the USA constrained services revenues growth. Civil aerospace outlook Air travel and air freight are recovering but the extent of the improvement varies by engine programme, customer and region and future trends remain uncertain largely for macroeconomic reasons. There are encouraging signs of the return of much delayed time and materials activities on a number of programmes, and overall service growth in 2011 is expected to be in the mid to high single digit range. In addition, continuing launch and programme costs and higher R&D charges will cause headwinds. However, further service revenue growth, better achieved FX rates and improving productivity are expected to more than offset these headwinds, resulting in underlying profits increasing by around 25 per cent in

10 Defence aerospace Order book ( bn) Engine deliveries Underlying revenues ( m) 2,123 2,010 Underlying OE revenues ( m) 1, Underlying services revenues ( m) 1,103 1,046 Underlying profit before financing ( m) The Defence aerospace portfolio is characterised by its large installed fleet of engines, supporting more than 160 customers in 103 countries. There continue to be risks to defence spending in our traditional markets in Europe and the US. However, our broad product portfolio and strong service and support position on many of the new and established global defence aircraft programmes provide protection against these changes. We still see growth opportunities in these traditional markets and, in addition, we are well positioned to secure growth from emerging economies in Asia, India, the Middle East and South America. A significant number of new Rolls-Royce powered helicopter, transport and combat aircraft programmes continue to make good progress. The F-35 Lightning II Joint Strike Fighter (JSF) LiftSystem achieved initial service release. The first flight of an F-35 powered by the F136 is currently planned for There continues to be uncertainty related to the funding of the F136 engine programme. The TP400 engine has achieved more than 3,000 engine flight test hours on the four aircraft involved in the flight test programme and has now completed all certification testing. In 2010, the Launch Nations reconfirmed their commitment to the A400M programme, although the Launch Nations and Airbus remain in final negotiations to modify the existing agreement. Europrop International, the engine consortium in which Rolls-Royce has a 28 per cent interest, and Airbus are simultaneously in negotiations to modify their agreement in support of the A400M. Orders in the period totalled more than 2.1bn, with 1.5bn related to service contracts. These service contracts included the UK s Royal Air Force s fleet of RB199 powered Tornado aircraft and major orders from the US and Canada to support AE 2100 engines for the C-130J transport aircraft. The completion of the Strategic Defence and Security Review (SDSR) in the UK had a modest impact on the portfolio, with some initial effects on combat sector aftermarket revenues from 2011 onwards. Despite this, the order book remains strong at 6.5bn, in line with Trading in the period made good progress. Lower restructuring spend, improving operational performance and mix benefits from the completion of a long-term services arrangement supported good margin and underlying profit improvement for the year. 10

11 Defence aerospace outlook The expansion of the portfolio, strong positions in military transport and access to a global customer base puts the defence business in a good position to access growing markets. Revenues are expected to grow by mid single digits with further significant OE progress and stable service revenues reflecting changes announced with the SDSR in Broadly similar underlying profits to 2010 are expected. 11

12 Marine Order book ( bn) Underlying revenues ( m) 2,591 2,589 Underlying OE revenues ( m) 1,719 1,804 Underlying services revenues ( m) Underlying profit before financing ( m) The Marine business provides complex integrated power systems for a range of applications in the offshore oil and gas, specialist vessel and naval markets. It has more than 2,500 customers including 70 navies, with equipment installed on more than 30,000 vessels worldwide. The Marine business delivered another strong year, despite a sluggish recovery in new shipbuilding activity. Service opportunities increased as a result of the large number of vessels incorporating Rolls-Royce equipment entering the market and our expanding services network. New programmes have achieved a number of important milestones. These included the Littoral Combat Ship (LCS) entering active duty, the launch of the second MT30 powered LCS, USS Fort Worth, and the confirmation in January 2011 of orders for a further 10 Rolls-Royce powered LCS vessels for delivery over the next few years. Sea trials for the nuclear powered Astute class submarine and the Type 45 Destroyer, HMS Daring, progressed well. In commercial marine, the world's largest gas powered ferry powered by Bergen gas engines was commissioned, and the first order was secured for the innovative UT 754 Wave-Piercing vessel. The new Wave-Piercing design improves vessel stability and crew safety, while minimising environmental impact. The completion of the acquisition of ODIM ASA further extends our capabilities within the offshore oil and gas market. It also strengthens our position in growth segments including subsea, well intervention and seismic survey activities. We acquired the remaining 67 per cent of the business in April, an investment of 147m in cash ( 218m including the 2009 investment). The Marine business performed particularly strongly through the year with considerable mix change and operational volatility managed well. There were no cancellations of existing orders in the second half of 2010 and we are starting to observe some encouraging signs of a recovery in demand. Order intake increased to 1.8bn, more than double the 2009 level. However, because of the high rate of deliveries in the year, the order book declined. The original equipment order cycle remains a key factor for the 2011 and 2012 outlook. Investment in the global service capability continued, with new facilities being built in Poland and Germany. New service infrastructure developed and commissioned in the prior three years supported good aftermarket revenue growth of 11 per cent in the period. Mid teens service revenue growth is anticipated for

13 The combination of improving revenue mix, strong operational performance, more favourable contract pricing and the non-recurrence of a number of one-off charges in 2009 more than offset original equipment volatility and contributed to a strong improvement in margins and profitability in Marine outlook Demand for sophisticated offshore oil and gas exploration and production capabilities, and for cleaner more efficient vessels remains encouraging. Revenue in 2011 is expected to be similar to 2010, reflecting weaker original equipment revenues, offset by a full year of contribution from ODIM ASA and further good growth in service revenues. Full-year profits are expected to be similar to those of

14 Energy Order book ( bn) Engine deliveries Underlying revenues ( m) 1,233 1,028 Underlying OE revenues ( m) Underlying services revenues ( m) Underlying profit before financing ( m) The Energy business supplies gas turbines, compressors and diesel power units to customers around the world. The business is a world leader in the supply of power for onshore and offshore oil and gas applications. In addition, we continue to invest in low carbon technologies including fuel cells, tidal power generation and civil nuclear. Revenues in the Energy division grew strongly in the period. We reported growth of 24 per cent in original equipment revenues and 15 per cent service revenue growth in the period total revenues have grown more than 60 per cent over the last two years. However, a 26m one-off charge relating to retrofit costs across the industrial Trent fleet of Dry Low Emissions (DLE) engines reduced underlying profit growth in the year. Order intake of 0.9bn ensured a stable order book which ended the period at 1.2bn. The oil and gas sector continued to move ahead with substantial investment plans, especially in Brazil, West Africa and Asia. It remains too early to judge how the Macondo well incident in the Gulf of Mexico will impact our business, but we have seen no significant changes in customer behaviour to date. The Group continues to focus on improving operating performance. Investments in new assembly facilities and testbeds have helped improve execution whilst managing exceptional load growth. In low carbon technology programmes, the tidal power demonstrator project in the Pentland Firth, Scotland successfully exported electrical power to the UK National Grid. Further trials and an expansion of the unit from 500kW to 1 MW are planned. Ongoing development of the fuel cell technology programme continued, although with investment at a lower level than in prior years. The Group made good progress in the civil nuclear area with the announcement of a memorandum of understanding with Larsen & Toubro in India focusing on light water reactors in India and internationally. A separate memorandum of understanding was signed with the UK consortium (Nuclear Power Delivery) to support the Westinghouse AP1000 nuclear reactor. Orders for instrumentation and controls systems for customers in Slovakia and China were completed. Significant revenue growth in the year, up by 20 per cent overall, lower spend on R&D and modest foreign exchange benefits helped offset one-off industrial Trent retrofit charges in the period. 14

15 Energy outlook Continued original equipment revenue growth and improving operational performance 2010 are expected to support further progress in margins and underlying profits in

16 Financial Review 2010 full year performance Foreign exchange: Currency movements had a material effect on the Group s reported financial performance in 2010, with the GBP exchange rates against the USD, EUR and the NOK having the biggest influence. These movements have affected the reported income statement, the cash flow and the closing net cash position (as set out in the financial statements) in the following ways: 1. Income statement the most significant impact was the period-end markto-market of outstanding financial instruments (foreign exchange contracts, interest rate, commodity and jet fuel swaps). The principal adjustments related to the GBP~USD hedge book. The principal spot rate movements in the period were as follows: Dec Dec GBP ~ USD 1~$1.62 1~$1.57 GBP ~ Euro 1~ ~ 1.17 GBP ~ NOK 1~NOK9.33 1~NOK9.10 The average rates throughout the year were: GBP ~ USD 1~$1.57 1~$1.54 GBP ~ Euro 1~ ~ 1.17 GBP ~ NOK 1~NOK9.82 1~NOK9.33 The impact of the period-end mark-to-market on all of the outstanding financial instruments is the principal element included within net financing costs in the income statement of (432)m (2009 1,785m net financing income). This contributed to a published profit before tax of 702m (compared to a profit before tax of 2,957m in 2009). These adjustments are non-cash accounting adjustments required under IAS 39 and do not, therefore, reflect the underlying trading performance of the Group for the period. Underlying profit before tax of 955m included 74m of foreign exchange benefits. The achieved rate on selling net USD income was around nine cents better in 2010 than 2009, contributing 72m of transactional benefits. 2. Balance sheet and cash flow The Group maintains a number of currency cash balances which vary throughout the financial year. These were impacted by the movements in exchange rates during the period, causing a small improvement of 17m in the periodic cash flow and hence the closing balance sheet cash position. 16

17 Income statement: The firm and announced order book, at constant exchange rates, was 59.2bn ( bn) after reflecting new order intake of 12.3bn in the period. Aftermarket services included in the order book totalled 18.1bn (2009 year-end 16.5bn). Revenues increased by six per cent compared with 2009 to 11,085m. Revenues on an underlying basis grew by seven per cent. Payments to industrial Risk and Revenue Sharing Partners (RRSP s), charged in cost of sales, amounted to 198m ( m). Gross research and development investment was 923m ( m). Net research and development investment, charged to the income statement, was 422m ( m) after net capitalisation of 84m ( m) on development programmes in the period. Receipts from RRSPs in respect of new programme developments, shown as other operating income, were 95m ( m), as key partners joined major new programmes, primarily the Trent XWB. Receipts are expected to be around 20m lower in 2011 reflecting the phasing of milestones on major programmes Restructuring costs of 46m ( m) were charged, reflecting the ongoing improvement programmes designed to improve future operational performance. The amortisation and depreciation charge in the year was 367m ( m) and is expected to increase by a similar amount in 2011 as the historical investment in programme related costs and new operational facilities come into service. Underlying profit margins before financing fell by approximately 0.4 per cent to 9.3 per cent in the period, reflecting mix changes in revenue, increased research and development charges, provisions relating to the Trent 900 failure and the industrial Trent retrofit charges. These headwinds were partially offset by both transactional and translational foreign exchange benefits of 74m, a number of one-off benefits, improving operational performance and lower restructuring charges. Net financing costs were 432m (2009 1,785m net financing income) including the effects of mark-to-market revaluations. Underlying finance costs were 55m ( m), reflecting reduced financing charges on financial RRSP arrangements which more than offset lower yields on cash deposits. Underlying profit before tax was 955m ( m). Underlying earnings per share reduced by two per cent, to 38.73p ( p) (see note 4 on page 29), after an increase in the effective rate of underlying tax, to 24.7 per cent ( per cent). The income statement tax charge was 159m ( m), reflecting the large mark-to-market adjustment caused by the spot revaluation of various financial instruments at the period-end. The taxation charge on an underlying basis was 236m ( m), representing 24.7 per cent of underlying profit before tax. The 2011 underlying tax rate is expected to be around 25 per cent. 17

18 Balance sheet: Investment in intangibles during the period was 325m ( m) and included 111m ( m) for recoverable engine costs, 111m ( m) for capitalised development costs and a further 57m ( m) for certification costs and participation fees. In addition a total of 211m of goodwill and other intangibles were recognised on the acquisition of ODIM ASA. The continued development and replacement of operational facilities contributed to a total investment in property, plant and equipment of 361m ( m). Overall, 2011 investment in tangible and intangible assets is expected to be slightly above the 2010 level of 686m. The overall net position of assets and liabilities for TotalCare packages on the balance sheet was an asset of 920m ( m). The movements reflect new agreements, timing of overhauls and changes in foreign exchange rates. Provisions were 544m ( m), including increased provisions against warranties and guarantees, reflecting higher volumes. Provisions carried forward in respect of potential customer financing exposure were 78m ( m). Cash flow: Overall working capital was reduced by 366m in the period due to a combination of reduced overdue debtors and higher trade payables and accruals. The cash inflow in the period of 258m (2009 outflow 183m) included a 17m benefit ( m outflow) relating to the period-end revaluation of foreign currency cash balances. Excluding the effects of period-end revaluations, cash flow for the period was 283m better than The improvement from 2009 primarily reflected a better performance on deposits and other financial working capital. Average net cash for the period was 960m ( m). The net cash balance at the period-end was 1,533m (2009 1,275m). There were no material changes to the Group s gross and net contingent liabilities in the period. Contingent liabilities include commitments made to Civil aerospace customers in the form of asset value guarantees (AVGs) and credit guarantees. At the period end, the gross level of commitments on delivered aircraft was $991m ( 633m), comprising $618m for AVGs and $373m for credit guarantees. The net exposure after reflecting the level of security was $190m ( 121m). The proposed final payment to shareholders is equivalent to 9.60 pence per ordinary share ( pence), a 6.7 per cent increase over the 2009 final payment making a total of pence per ordinary share for The payment to shareholders will, as before, be made in the form of redeemable C Shares which shareholders may either choose to retain or redeem for a cash equivalent. The Registrar, on behalf of the Company, operates a C Share Reinvestment Plan (CRIP) and can, on behalf of 18

19 shareholders, purchase ordinary shares from the market rather than delivering a cash payment. Shareholders wishing to redeem their C Shares or else redeem and participate in the CRIP must ensure that their instructions are lodged with the Registrar, Computershare Investor Services Plc, no later than 5pm on June 6, The final payment is payable on July 5, 2011 to shareholders on the register on April 26, 2011 and the final day of trading with entitlement to C Shares is April 19, This final payment will be made by the new listed entity, New Holdco, subject to the Scheme of Arrangement becoming effective. 19

20 Condensed consolidated income statement For the year ended December 31, Notes m m Revenue 2 11,085 10,414 Cost of sales (8,885) (8,303) Gross profit 2,200 2,111 Other operating income Commercial and administrative costs (836) (740) Research and development costs (422) (379) Share of results of joint ventures and associates Operating profit 1,130 1,174 Profit/(loss) on disposal of businesses 4 (2) Profit before financing and taxation 2 1,134 1,172 Financing income 453 2,276 Financing costs (885) (491) Net financing 3 (432) 1,785 Profit before taxation ,957 Taxation (159) (740) Profit for the year 543 2,217 Attributable to: Ordinary shareholders 539 2,221 Non-controlling interests 4 (4) Profit for the year 543 2,217 Earnings per ordinary share attributable to shareholders 4 Basic 29.20p p Diluted 28.82p p Underlying earnings per ordinary share are shown in note 4. Payments to ordinary shareholders in respect of the year 5 Per share 16.0p 15.0p Total Underlying profit before taxation Condensed consolidated statement of comprehensive income For the year ended December 31, m m Profit for the year 543 2,217 Other comprehensive income (OCI) Foreign exchange translation differences on foreign operations 22 (156) Net actuarial gains/(losses) relating to post-employment schemes 157 (1,148) Movement in unrecognised post-retirement surplus (300) 707 Movement in post-retirement minimum funding liability Transfers from transition hedging reserve - (27) Share of OCI of joint ventures and associates (16) 20 Related tax movements Total comprehensive income for the year 484 1,794 Attributable to: Ordinary shareholders 480 1,799 Non-controlling interests 4 (5) Total comprehensive income for the year 484 1,794 20

21 Condensed consolidated balance sheet At December 31, Notes m m ASSETS Non-current assets Intangible assets 6 2,884 2,472 Property, plant and equipment 2,136 2,009 Investments - joint ventures and associates Investments - other Other financial assets Deferred tax assets Post-retirement scheme surpluses ,410 6,048 Current assets Inventories 2,429 2,432 Trade and other receivables 3,943 3,877 Taxation recoverable 6 12 Other financial assets Short-term investments Cash and cash equivalents 2,859 2,962 Assets held for sale 9 9 9,824 9,374 Total assets 16,234 15,422 LIABILITIES Current liabilities Borrowings 8 (717) (126) Other financial liabilities 7 (105) (181) Trade and other payables (5,910) (5,628) Current tax liabilities (170) (167) Provisions for liabilities and charges (276) (210) (7,178) (6,312) Non-current liabilities Borrowings 8 (1,135) (1,787) Other financial liabilities 7 (945) (868) Trade and other payables (1,271) (1,145) Deferred tax liabilities (438) (366) Provisions for liabilities and charges (268) (232) Post-retirement scheme deficits 9 (1,020) (930) (5,077) (5,328) Total liabilities (12,255) (11,640) Net assets 3,979 3,782 EQUITY Equity attributable to ordinary shareholders Called-up share capital Share premium account Capital redemption reserves Hedging reserves (37) (19) Other reserves Retained earnings 2,769 2,635 3,975 3,782 Non-controlling interests 4 - Total equity 3,979 3,782 21

22 Condensed consolidated cash flow statement For the year ended December 31, Notes m m Reconciliation of cash flows from operating activities Profit before taxation 702 2,957 Share of results of joint ventures and associates (93) (93) (Profit)/loss on disposal of businesses (4) 2 Profit on disposal of property, plant and equipment (10) (40) Net financing (1,785) Taxation paid (168) (119) Amortisation of intangible assets Depreciation of property, plant and equipment Impairment of investments 3 - Increase in provisions Decrease in inventories Decrease/(increase) in trade and other receivables 39 (14) Increase/(decrease) in trade and other payables 286 (183) Increase in other financial assets and liabilities (299) (303) Additional cash funding of post-retirement schemes (135) (159) Share-based payments Transfers of hedge reserves to income statement - (27) Dividends received from joint ventures and associates Net cash inflow from operating activities 1, Cash flows from investing activities Additions of unlisted investments (1) (2) Disposals of unlisted investments 46 - Additions of intangible assets (321) (339) Disposals of intangible assets - 2 Purchases of property, plant and equipment (354) (258) Disposals of property, plant and equipment Acquisitions of businesses (150) (7) Disposals of businesses 2 3 Investments in joint ventures and associates (19) (87) Net cash outflow from investing activities (759) (606) Cash flows from financing activities Repayment of loans (108) (10) Proceeds from increase in loans Capital element of finance lease payments - (3) Net cash flow from (decrease)/increase in borrowings (40) 680 Interest received Interest paid (65) (66) Interest element of finance lease payments - (1) Increase in short-term investments (326) (1) Issue of ordinary shares Purchase of ordinary shares (124) (17) Other transactions in ordinary shares - (3) Redemption of C Shares (266) (250) Net cash (outflow)/inflow from financing activities (743) 384 Net (decrease)/increase in cash and cash equivalents (124) 637 Cash and cash equivalents at January 1 2,958 2,462 Exchange gains/(losses) on cash and cash equivalents 17 (141) Cash and cash equivalents at December 31 2,851 2,958 22

23 Reconciliation of movement in cash and cash equivalents to movements in net funds m m (Decrease)/increase in cash and cash equivalents (124) 637 Net cash flow from decrease/(increase) in borrowings 40 (680) Cash outflow from increase in short-term investments Change in net funds resulting from cash flows 242 (42) Net funds (excluding cash and cash equivalents) of businesses acquired (1) - Exchange gains/(losses) on net funds 17 (141) Fair value adjustments Movement in net funds 284 (73) Net funds at January 1 excluding the fair value of swaps 1,051 1,124 Net funds at December 31 excluding the fair value of swaps 1,335 1,051 Fair value of swaps hedging fixed rate borrowings Net funds at December 31 1,533 1,275 The movement in net funds (defined by the Group as including the items shown below) is as follows: At January 1, 2010 Funds flow Net funds of businesses acquired Exchange differences Fair value adjustments Reclassifications At December 31, 2010 m m m m m m m Cash at bank and in hand 1, ,647 Overdrafts (4) (4) (8) Short-term deposits 1,722 (504) (6) - - 1,212 Cash and cash equivalents 2,958 (124) ,851 Investments Other current borrowings (122) (688) (709) Non-current borrowings (1,786) (2) (1) - (33) 688 (1,134) Finance leases (1) (1) 1, (1) ,335 Fair value of swaps hedging fixed rate borrowings 224 (26) 198 1, (1) ,533 23

24 Condensed consolidated statement of changes in equity For the year ended December 31, 2010 Share capital Share premium Attributable to ordinary shareholders Capital redemption reserves Hedging Other reserves 1 reserves 2 Retained earnings 3 Total Noncontrolling interests m m m m m m m m m At January 1, (22) , ,225 Profit for the year ,221 2,221 (4) 2,217 Foreign exchange translation differences on foreign operations (155) - (155) (1) (156) Net actuarial losses on post-employment schemes (1,148) (1,148) - (1,148) Movement in unrecognised postretirement surplus Movement in post-retirement minimum funding liability Transfers from transition hedging reserve (27) - - (27) - (27) Share of OCI of joint ventures and associates (2) Related tax movements : deferred tax Total comprehensive income for the year (157) 1,953 1,799 (5) 1,794 Arising on issues of ordinary shares Issue of C Shares - - (264) (263) - (263) Redemption of C Shares (251) Ordinary shares purchased (17) (17) - (17) Share-based payments: direct to equity Transactions with non-controlling interests (4) (4) Related tax movements: deferred tax Other changes in equity in the year 2 16 (13) - - (238) (233) (4) (237) At January 1, (19) 506 2,635 3,782-3,782 Profit for the year Foreign exchange translation differences on foreign operations Net actuarial gains on post-employment schemes Movement in unrecognised postretirement surplus (300) (300) - (300) Movement in post-retirement minimum funding liability Share of OCI of joint ventures and associates (18) 1 1 (16) - (16) Related tax movements: deferred tax (2) Total comprehensive income for the year (18) Arising on issues of ordinary shares Issue of C Shares - (29) (249) (277) - (277) Redemption of C Shares (267) Ordinary shares purchased (124) (124) - (124) Share-based payments: direct to equity Related tax movements: deferred tax Other changes in equity in the year (343) (287) - (287) At December 31, (37) 527 2,769 3, , Total equity Hedging reserves include nil (2009 nil) in respect of the transition hedging reserve and (37)m (2009 (19)m) in respect of the cash flow hedging reserve. Other reserves include a merger reserve of 3m (2009 3m) and a translation reserve of 524m ( m). At December 31, 2010, 28,320,962 ordinary shares with a net book value of 125m (2009 7,156,497 ordinary shares with a net book value of 25m) were held and included in retained earnings. During the year, 6,586,568 ordinary shares with a net book value of 24m (2009 6,766,884 shares with a net book value of 25m) vested in share based payment plans. During the year, the Group acquired 27,751,333 ordinary shares through purchases on the London Stock Exchange. The share-based payments direct to equity is the net of the credit to equity in respect of the share-based payment charge to the income statement and the actual cost of shares vesting, excluding those vesting from own shares. Certain of the Group s joint ventures and associates hold interest rate and inflation swaps for which cash flow hedge accounting has been adopted. 24