Meggitt PLC (LON: MGGT), a leading international engineering company specialising in high performance components and sub-systems for the aerospace, defence and selected energy markets, today announced unaudited interim results for the six months ended 30 June 2019.
Group headlines
| £m | H1 2019 | H1 2018 | Change | ||
| Reported | Organic1 | ||||
| Orders | 1,193 | 1,087 | 10% | 7% | |
| Revenue | 1,071 | 952 | 12% | 9% | |
| Underlying2 | |||||
| EBITDA3 | 212 | 197 | 8% | 2% | |
| Operating profit | 161 | 151 | 7% | 2% | |
| Profit before tax | 145 | 136 | 7% | 2% | |
| Earnings per share (p) | 14.7 | 13.9 | 6% | ||
| Statutory | |||||
| Operating profit | 91 | 124 | -26% | ||
| Profit before tax | 73 | 105 | -31% | ||
| Earnings per share (p) | 7.3 | 11.7 | -38% | ||
| Free cash flow | 49 | 27 | 80% | ||
| Net borrowings | 1,018 | 1,032 | -1% | ||
| Dividend (p) | 5.55 | 5.3 | 5% |
· Organic revenue growth of 9% reflects strong trading performance in civil OE and defence. Reported revenues increased by 12% due to organic growth and currency, partly offset by non-core divestments.
· Full year organic revenue growth guidance increased to 4 to 6% following better than anticipated trading in H1 and strong order intake with organic book to bill of 1.13x.
· Underlying operating profit increased by 7% to £161m. Underlying operating margin reduced to 15.0% reflecting additional investment in Engine Composites and the growth in our installed base which was partly offset by the growing financial contribution from strategic initiatives.
· Statutory operating profit decreased by 26% to £91m, principally as a result of lower gains from disposal of businesses compared to the prior period.
· Free cash flow increased by 80% to £49m inclusive of the sale of land and buildings associated with our move to the Ansty Park site.
· Strong progress on key strategic initiatives:
o Continued investment in differentiated technologies with good progress made in priority areas such as thermal systems, optical sensing, fire protection and braking systems;
o Factory consolidation and expansion activity ahead of plan; three sites exited since the beginning of the year with footprint reduced by 25% compared to the 2016 baseline;
o Good momentum in reducing purchased costs sustained, with 2% purchased cost decrease achieved in the first half; and
o Completed two further non-core divestments to focus the portfolio, with 75% of revenue now in attractive growth markets where Meggitt has a strong competitive position.
· Interim dividend up 5% to 5.55p reflecting our continued confidence in the prospects for the Group.
1 Organic numbers exclude the impact of acquisitions, disposals and foreign exchange.
2 Underlying profit and EPS are used by the Board to measure the trading performance of the Group as set out in notes 4 and 9.
3 Underlying EBITDA represents underlying operating profit adjusted to add back depreciation, amortisation and impairment losses
Tony Wood, Chief Executive, commented:
“Trading in the first half was strong, with robust growth in both civil original equipment and defence and good performance in our civil aftermarket business, despite an easing in air traffic growth and lower demand for initial provisioning spares following the grounding of the 737 MAX. As a result, we have increased our full year organic revenue growth guidance to 4 to 6% and remain on track to deliver a margin improvement of between 0 and 50 basis points in 2019.
“We continue to make good progress in the operational transformation of the Group, including our centre-led approach to purchasing, footprint rationalisation programme and driving improved operational performance at our Engine Composites product group. We have strengthened and focused our portfolio, with further investment in priority technology areas such as thermal systems, optical sensing, fire protection and braking systems and the completion of two non-core divestments.
“The acceleration in growth and our continuing confidence in the prospects for the Group underpins our interim dividend increase of 5% to 5.55p.”
GROUP OVERVIEW
Meggitt is a global engineering company specialising in high-performance components and sub-systems for aerospace, defence and selected energy markets. We have a broad-based and well-balanced portfolio, with equipment on approximately 71,000 aircraft and many ground vehicles and energy applications worldwide. This significant and expanding installed base provides us with an aftermarket revenue stream stretching out for decades. Good customer relationships and high levels of embedded intellectual property span a broad range of products and capabilities. This has enabled us to increase our content by up to 250% on the new civil aerospace programmes which have entered service in the last five years.
Significant increases in our content on new aircraft drove our research and development (‘R&D’) and new product introduction (‘NPI’) costs to record levels in recent years but we are now beyond the peak of spend in both areas. We have completed a major refresh of our in-service portfolio and this investment provides a strong platform for future revenue growth. Having passed the development peak we are now focused on operational execution and have outlined four strategic priorities to accelerate growth and improve return on capital employed. These priorities are: Strategic Portfolio, Customers, Competitiveness and Culture.
Strategic Portfolio
We will focus investment in attractive markets where we have, or can develop, a leading position. This encompasses organic investment in differentiated products and manufacturing technologies; targeted, value enhancing acquisitions; and selective non-core disposals.
More than 70% of revenue is generated from sole-source, life of programme positions underpinned by Meggitt-owned intellectual property. As such the continued strengthening of our technology portfolio remains a critical priority of the Group. In the first half, we have made excellent progress on building upon our differentiated portfolio of products and technologies in focus areas such as thermal systems, optical sensing, fire protection and braking systems. For example, we have secured an exclusive licensing agreement with Luna Innovations for the supply of fibre-optic components to our next-generation Bleed Air Leak Detection systems which will deploy optical sensors in order to provide a far quicker, more accurate and versatile detection of fires or overheat.
As the industry continues to focus on achieving a step-change reduction in fuel consumption and greenhouse gas emissions, there is an increasing trend towards the development of hybrid propulsion. We are well placed to provide some of the critical technologies and components needed to enable future sustainable aviation, such as radically improved thermal systems including advanced manufacturing technologies, such as diffusion bonding and additive manufacturing.
We have also further strengthened our portfolio with the sale of two non-core businesses. In April 2019, we completed the sale of the trade and assets of Meggitt France SAS, a provider of ignition systems and in August 2019, we completed the sale of our non-aerospace test and measurement sensing business.
Customers
Organic book to bill of 1.13x reflects good progress in growing our relationships with key customers, including new contract awards announced today for the Embraer Praetor 500/600 braking system valued at $500m over the life of the aircraft. We have also finalised terms to provide the Dassault Falcon 6X braking and tyre pressure monitoring system worth $1.2bn over the life of programme.
In civil aerospace, our continued success in moving from a transactional approach to building long term relationships with our customers in the aftermarket, extends our visibility of near term customer requirements and enables us to better support the demand for spare parts and maintenance, repair and overhaul (‘MRO’). During the first six months, we have secured seven new contracts based on our Smart Support™ proposition which enables customers to tailor the service we provide to them across the breadth of Meggitt capabilities, with fixed prices, parts availability and exchange pools as required. These new contracts in aggregate, secure £23m per annum in revenue, and include customers such as Pratt & Whitney, Air China, Delta, Lufthansa Technic and Collins Aerospace.
Order growth in defence has been particularly strong, with organic book to bill of 1.33x in the first half. This included the previously announced ten year long term agreement with Pratt & Whitney to provide a range of high temperature engine composites on the F-135 engine, together with more recent awards with Lockheed Martin, Boeing and the Defense Logistics Agency.
Competitiveness
We remain focused on making our operational performance a key competitive strength.
Our increasingly centre-led approach to procurement continues to enable the Group to reduce net purchased costs by 2% p.a. We continue to work closely with a smaller number of preferred suppliers in areas including electronics, fasteners, castings, machining and factory consumables, where we have been able to simplify our supply chain whilst better leveraging our scale to reduce cost.
We have also made further progress in our programme to consolidate our footprint. We have exited three sites in Angouleme, France; Miami, Florida; and in Sunnyvale, California; reducing our overall footprint to 42 sites. This represents an overall reduction of 25%, ahead of our original target to reduce our estate by 20% by 2021 compared to the 2016 baseline. We continue to target further rationalisation, with seven site consolidations currently in progress and due to complete over the next three years. The key footprint project is the construction of a state of the art manufacturing campus at Ansty Park, which will become home to our braking systems and thermal systems product groups; and headquarters for the Group and both Airframe Systems and Services & Support divisions. The Ansty Park project has made excellent progress, with the exterior of the building largely complete. It remains on track for initial occupation in 2020.
Inventory turns during the first half are flat at 2.7x (December 2018: 2.7x) after the continued investment in buffer stocks to support our ongoing site consolidation plans and as part of our contingency planning for a no-deal Brexit, together with investment in spare parts to serve our growing number of Smart Support™ contracts in the aftermarket. We are making good progress at many of our sites and we continue to target inventory turns of 4.0x by 2021.
Our efforts to increase competitiveness and reduce cost continue to be underpinned by the Meggitt Production System (‘MPS’), our global approach to continuous improvement. The financial and operational performance improvements at our most advanced facilities continue to demonstrate the potential we can achieve when we move a critical mass of sites to the latter phases of the programme. We now have 13 sites in the bronze phase or later equivalent to over 30% of the Group and have made good progress in our efforts to drive sustainable operational improvements at eight large but early stage sites that constrained overall performance in 2018.
Two of these eight sites are in the Engine Composites product group where we have made good progress in improving operational performance, with yield now over 90% across the majority of key parts, despite continued rapid growth in demand given our strong positions on growth platforms including the F-135, GTF and Leap engines. As anticipated we incurred additional costs in the first half, particularly at our recently expanded factory in Mexico. The replication of capability in Mexico has enabled us to secure the approval we need from our customers to progressively move volume production to the site. This is a critical step and underpins our confidence in improving financial performance in Engine Composites in the second half and beyond.
Culture
We are focused on building and nurturing a high performance culture where our ambitious and diverse teams act with integrity and help us to accelerate the execution of our strategy. In support of this we adopted a new organisational structure on 1 January 2019, built upon four customer-aligned divisions: Airframe Systems; Engine Systems; Energy & Equipment; and Services & Support.
Initial customer feedback on the changes we have made has been very positive, most notably at the successful Paris Air Show where we announced six new orders. Our new customer aligned-structure is making us easier to do business with and enabling us to engage in much more effective technology discussions now that our divisions have responsibility for the full suite of capabilities our airframe or engine customers may require.
The successful transition to this new structure has been underpinned by our high performance culture (‘HPC’) programme which we launched in 2017. We have now rolled out HPC training to over 4,500 employees and it has proven highly effective in helping our teams work productively together to deliver common goals as a more integrated Group.
This morning we are also announcing that after a 25 year career at Meggitt, Philip Green will retire from his position as Executive Director, Commercial & Corporate Affairs and will step down from the Board at the end of December 2019.
HEADLINE FINANCIALS
Orders grew by 10% on a reported basis (and by 7% on an organic basis) to £1,193.2m.
Reported Group revenue of £1,070.9m (2018: £952.2m) increased by 12% as analysed in the table below:
| £m | % impact | |
| H1 2018 revenue | 952.2 | |
| Acquisitions and disposals | (14.2) | (2%) |
| Currency movements | 51.0 | 5% |
| Organic growth | 81.9 | 9% |
| H1 2019 revenue | 1,070.9 | 12% |
Currency movements in the first six months reflect the weakness of Sterling against our trading currencies, principally the US dollar. The more recent weakness in sterling, if sustained at similar levels to the past six months, would result in the Group being broadly currency neutral in the second half. Acquisitions and disposals include the sale of Thomson (completed in March 2018), Precision Micro (completed in April 2018) and Meggitt France SAS (completed in April 2019). Strong organic revenue growth reflects particularly good performance in civil OE (up 11%) and defence (up 13%) end-markets.
The Board’s preferred measure of the Group’s trading performance is underlying profit. Underlying operating profit increased 7% to £161.1m (2018: £150.8m), representing a margin of 15.0% (2018: 15.8%). The margin decline reflects continued investment in our Engine Composites product group during the first half, to support continued high growth and double running costs incurred at our recently expanded facility in Mexico. Investments in the growth of our installed base also diluted margin during the first half with an increase of free of charge components and an unfavourable revenue mix, resulting from particularly strong growth in Civil OE. These headwinds were partially offset by the continued financial benefits from our strategic initiatives, including reductions in purchased costs, efficiencies from the Meggitt Production System.
Underlying net finance costs increased to £15.7m (2018: £14.7m) due principally to higher US interest rates and exchange rate movements increasing the sterling value of our largely US dollar denominated finance costs.
In April, the European Commission ruled that certain aspects of the UK Group Financing Exemption under the Controlled Foreign Corporation (CFC) regime constitute unlawful state aid. The UK Government has applied to the EU courts for annulment of this decision as has the Group. As previously reported, the Group has taken advantage of this regime, generating tax benefits of approximately $22m. The Group has now received a letter from HMRC setting out how it intends to identify the amount of any such aid received. It is currently unclear what proportion of the $22m will be so determined. Any assessed aid is expected to be payable by the Group in H2 2019.
Underlying profit before tax was £145.4m (2018: £136.1m). As previously guided, the underlying tax rate increased to 22% (2018: 21%) reflecting increases in non-US tax exposure related to the Base Erosion and Profit Shifting project in the UK and related initiatives across OECD countries. Underlying earnings per share increased by 6% to 14.7p (2018: 13.9p).
On a statutory basis, operating profit for the period decreased by 26% to £91.4m (2018: £123.8m) and profit before tax decreased by 31% to £72.6m (2018: £105.2m). Statutory profit includes a £1.5m gain (2018: gain of £22.0m) from the disposal of businesses and a £15.3m loss (2018: gain of £2.7m) on the non-cash marking to market of financial instruments. Earnings per share decreased by 38% to 7.3p (2018: 11.7p), driven by the reduction in profit before tax. The adjustments between underlying and statutory profit are consistent with prior periods and are described in notes 4 and 9.
The interim dividend is increased by 5% to 5.55p (2018: 5.30p) reflecting our ongoing confidence in the outlook for the Group and our commitment to a progressive dividend. This will be paid on 4 October 2019 to shareholders on the register on 6 September 2019.
Free cash flow increased 80% to £48.8m (2018: £27.1m), as a result of further reductions in capitalised development costs, lower cash tax and the £21.0m proceeds from the sale of land and buildings relating to our transfer to the Ansty Park site in 2020. This was partly offset by an increase in working capital as we continue to build buffer stocks to support work in progress footprint consolidations, manage any Brexit related disruption and mitigate supply chain risks in areas including forgings and castings. We have also increased inventory in our Services & Support division as we look to accelerate growth through increased availability of stock.
The seasonal net cash outflow of £36.9m (2018: outflow of £35.8m) includes the £6.3m net proceeds from the sale of non-core businesses together with the payment of the 2018 final dividend.
There are two main financial covenants in our financing agreements. The net borrowings:underlying EBITDA ratio, which must not exceed 3.5x, was at 1.8x at 30 June 2019 (June 2018: 1.9x) and interest cover, which must be not less than 3.0x, was 15.0x (June 2018: 14.7x). The Group has, therefore, significant headroom against both key covenant ratios, and net borrowings:underlying EBITDA is well within our target range of 1.5x to 2.5x.
The Group has £358.8m of undrawn headroom against committed credit facilities, after taking account of surplus cash.
TRADING SUMMARY
| Revenue (£m) | Growth (%) | |||
| H1 2019 | H1 2018 | Reported | Organic | |
| Civil OE | 259.6 | 217.7 | 19% | 11% |
| Civil AM | 329.3 | 300.9 | 9% | 7% |
| Total Civil | 588.9 | 518.6 | 14% | 9% |
| Defence | 376.7 | 321.2 | 17% | 13% |
| Energy | 63.1 | 61.8 | 2% | -1% |
| Other | 42.2 | 50.6 | -17% | -14% |
| TOTAL | 1,070.90 | 952.2 | 12% | 9% |
Civil aerospace
Meggitt operates in three main segments of the civil aerospace market: large jets, regional aircraft and business jets. The large jet fleet includes over 23,000 aircraft, the regional aircraft fleet over 6,000 and business jets around 19,000. The Group has products on virtually all these platforms and hence a very large, and growing, installed base. The split of civil revenue, which accounts for 55% of the Group total, is 56% aftermarket and 44% original equipment (OE).
Civil OE revenue grew 11% on an organic basis. Large jet OE, the most significant driver of our OE revenue, grew by 8% with particularly good growth on Boeing 787 and new narrowbody aircraft including Airbus A220 and A320neo family and Boeing 737 MAX. Demand for new parts was also strong in both business jets and regional jets. In business jets, OE revenue grew by 20% with growth across the majority of programmes. In regional jets, OE revenue grew by 37% reflecting good demand on Dash-8, ATR-72 and ARJ21 partly offset by lower demand for E-Jets.
Civil aftermarket revenue grew organically by 7% driven by strong underlying growth in large jet aftermarket where our growing content on new generation aircraft and the improved capabilities within our Services & Support division, have been further enhanced by positive demand drivers. Despite an easing in air traffic growth, the grounding of the 737 MAX aircraft has constrained capacity and increased passenger load factors which has limited aircraft retirements and driven the continued scarcity of Meggitt used surplus material (‘USM’). Good underlying growth in civil aftermarket revenue was more than enough to offset the impact of a prior year comparator which had seen one-off demand associated with distributor agreements signed in late 2017.
Large jet aftermarket revenue increased by 13% organically, reflecting good demand across a broad range of capabilities on the Airbus A330, A320ceo and Boeing 787 aircraft; and brakes on the A220 and DC10, the latter of which was partly offset by lower demand across a broad range of other mature programmes. Initial provisioning grew strongly in the period on both A320neo and 737 MAX aircraft. However, we had anticipated much greater levels of initial provisioning on the 737 MAX at the beginning of the year, prior to its grounding.
Regional jet aftermarket revenue declined by 1% organically, reflecting growth on ATR-72, Dash-8 and E 170/175 aircraft which was offset by declining revenue on Dornier 228/328, BAE 146 and CRJ1000. Business jet aftermarket revenue grew by 3% on an organic basis. Key growth platforms were the Falcon 7X, G-350/450 and G-V which offset declining demand on Hawker 750-900, Falcon 50 and smaller Gulfstream platforms (most notably G-I/II/III and G-IV).
Overall civil aerospace revenues increased by 9% on an organic basis.
Deliveries of large jets by Airbus and Boeing are underpinned by a firm order backlog extending over a number of years, which together with our increased shipset content on these platforms, gives us further confidence in the growth outlook for OE revenues up to the early 2020s when we expect growth of new large jets to plateau. Deliveries of regional aircraft are expected to remain at current rates over that period. Deliveries of business jets are set to grow modestly in the near term.
Air traffic, measured in available seat kilometres (ASKs), is a key driver of demand for spares and repairs on large and regional aircraft. ASKs grew 4.6% globally in the five months to May 2019, reflecting an easing of growth compared to 2018 when traffic grew strongly. Industry forecasts are for air traffic to continue to grow between 4% and 5% over the medium term. Regional jet utilisation (measured in terms of take offs and landings) grew by 3% in the six months to June 2019. With strong positions as the provider of braking systems on the two key current generation regional aircraft (the Embraer E-Jet and Bombardier CRJ families), we would expect to outperform the market over the near term. Business jet utilisation in the US and Europe was flat during the six months to June 2019 and with our higher value content and growing market share in brakes for large cabin business jets, we should continue to drive above market revenue growth over the medium term.
Defence
Defence business accounted for 35% of Group revenues in H1 2019. We have equipment on an installed base of around 22,000 fixed wing and rotary aircraft and a significant number of ground vehicles and training applications. Direct sales to US customers accounted for 72% of defence revenue (June 2018: 72%), with 18% to European customers (June 2018: 19%) and 10% to the rest of the world (June 2018: 9%).
Defence revenue grew 13% on an organic basis, reflecting our strong positions on the fastest growing and hardest worked platforms. Fighter jet revenue increased by 14%, with particularly strong demand on the F‑35, Typhoon, F-15 and F-16 platforms. Helicopters and transport aircraft growth was also strong. Revenue grew across the majority of Meggitt capabilities, most notably in Engine Composites, Defence Systems, Braking Systems, Power & Motion and Fuel Systems. Demand for spares was also enhanced by one-off stocking associated with a new distributor agreement which was signed in December 2018.
Revenue growth was particularly strong in the first quarter, when defence revenue increased by 18%, reflecting the weaker prior year comparator in 2018, when defence grew by 2% in the first three months before accelerating thereafter to double digit growth for the last nine months of the year.
The long term outlook for defence expenditure in the US, our single most important market, continues to look positive over the medium term. The US Department of Defense FY20 budget request of $738bn implies growth of 3% per annum from a higher base and there remains significant opportunity for retrofit and reset activity.
Energy and other
Energy and other revenues (10% of Group total) come from a variety of end markets of which the single most significant is energy (6% of Group total). Our energy capabilities centre on providing valves and condition-monitoring equipment for power generation installations, including ground-based gas and wind turbines, and printed circuit heat exchangers used primarily in the oil and gas market. Other markets (4% of Group total) include the automotive, industrial, test, consumer goods and medical sectors.
As anticipated, energy revenue declined by 1% on an organic basis compared to the prior year, when a recovery in the Heatric business contributed to growth of 31% in energy as a whole. We continue to see good underlying demand for our heat exchangers, valves and sensors in energy markets, with the return of spending in liquid natural gas (‘LNG’) and the growth in renewables increasing volumes of small frame gas turbines. We have also generated good growth in services revenue in the first half, offsetting lower demand for large frame gas turbine OE parts.
The long-term growth expectations for our energy businesses remain good. We have differentiated technology which plays a critical role in the extraction and transport of deep-water offshore gas reserves and good opportunities for use in adjacent markets. The balance of our energy businesses will continue to benefit from synergistic relationships across business divisions and the long-term demand for energy, particularly in emerging markets.
