Doc re. Annual Report

RNS Number : 7506A

BAE SYSTEMS PLC

28 March 2017

 

BAE Systems plc
Annual Report 2016

BAE Systems plc has today published its Annual Report and Accounts for the year ended 31 December 2016 ('Annual Report 2016'). The full document can be viewed on the Company's website at:
www.baesystems.com/investors

Copies of the Annual Report 2016 will be posted to those shareholders who have requested to receive communications from the Company in printed form on 31 March 2017.

In compliance with Section 9.6.1 of the Listing Rules, a copy of the Annual Report 2016 has also been submitted to the National Storage Mechanism and will shortly be available for inspection at: http://www.morningstar.co.uk/uk/NSM

This announcement contains regulated information issued in accordance with Section 6.3 of the Financial Services Authority's Disclosure and Transparency Rules and accordingly contains certain sections of the Annual Report 2016 in unedited full text. Page and chart references within the text of this announcement are references to pages and charts in the Annual Report 2016 that can be viewed as detailed above.

The financial information for the year ended 31 December 2016 contained in this announcement was approved by the Board on 22 February 2017. This announcement does not constitute statutory accounts of the Company within the meaning of Section 435 of the Companies Act 2006, but is derived from those accounts.

Statutory accounts for the year ended 31 December 2015 have been delivered to the Registrar of Companies. Statutory accounts for the year ended 31 December 2016 will be delivered to the Registrar of Companies following the Company's Annual General Meeting.

The auditors have reported on those accounts. Their reports were not qualified, did not include a reference to any matters to which the auditors drew attention by way of emphasis without qualifying their report, and did not contain a statement under Section 498 (2) or (3) of the Companies Act 2006.

The Annual Report 2016 contains the following responsibility statement:

Responsibility statement of the directors in respect of the Annual Report and financial statements

Each of the directors listed below confirms that to the best of their knowledge:

-   the financial statements, prepared in accordance with the applicable set of accounting standards, give a true and fair view of the assets, liabilities, financial position and profit or loss of the Company, and the undertakings included in the consolidation taken as a whole; and

-   the Strategic report and Directors' report, taken together, include a fair review of the development and performance of the business, and the position of the Company and the undertakings included in the consolidation taken as a whole, together with a description of the principal risks and uncertainties that they face.

In addition, each of the directors considers that the Annual Report, taken as a whole, is fair, balanced and understandable, and provides the information necessary for shareholders to assess the Company's position and performance, business model and strategy.

Sir Roger Carr	Chairman
Ian King	Chief Executive
Jerry DeMuro	President and Chief Executive Officer of BAE Systems, Inc.
Peter Lynas	Group Finance Director
Charles Woodburn	Chief Operating Officer
Elizabeth Corley	Non-executive director
Harriet Green	Non-executive director
Chris Grigg	Non-executive director
Paula Rosput Reynolds	Non-executive director
Nick Rose	Non-executive director
Ian Tyler	Non-executive director

On behalf of the Board

Sir Roger Carr
Chairman
22 February 2017

Chief Executive's review

"A good year for BAE Systems."

Ian King Chief Executive

2016 was a good year for BAE Systems. The Company has performed well despite economic and political uncertainties, delivering sales and order backlog growth. Governments in our major markets continue to prioritise defence and security with strong demand for our capabilities.

2016 performance

US

Following the two-year Bipartisan Budget Act signed in 2015, the defence market outlook in the US is improving with encouraging signs of a return to growth in defence budgets. We are also seeing the ramp up of production on a number of the Group's long-term programmes.

Our US electronics business continued to perform well, with strong programme execution and good order intake enhancing positions in the high-technology areas of electronic warfare, electro-optics and Intelligence, Surveillance and Reconnaissance. As a major supplier on the F-35 Lightning II combat aircraft programme, including the electronic warfare system, we are well positioned on the progressive increases in production output planned over the coming years to meet the requirements of US and international customers.

The Eagle Passive Active Warning Survivability System electronic warfare upgrade for US Air Force F-15 aircraft is progressing to its engineering and manufacturing development phase. The Advanced Precision Kill Weapon System (APKWS™) laser-guided rocket is experiencing growing demand and, in October, the US Navy awarded a three-year Indefinite Delivery, Indefinite Quantity contract for Full-Rate Production.

Performance in the commercial electronics business continued to be good and our all-electric and hybrid power and propulsion business delivered growth.

The Group's US-based combat vehicles business is underpinned by the Armored Multi-Purpose Vehicle and M109A7 self‑propelled howitzer contracts. The business is also experiencing US and international demand on amphibious programmes.

The US land business delivered good export order intake in the period on the back of contract awards on Assault Amphibious Vehicles to Japan, BvS10 military vehicles to Austria, CV90 combat vehicle upgrades for Sweden, and M109 and M113 upgrades to Brazil, and our weapon systems business was awarded contracts for gun systems for the Royal Navy Type 26 frigate. The contract for M777 howitzers to India under a US Foreign Military Sale was signed in January 2017.

FNSS, the Turkish land systems business in which BAE Systems holds a 49% interest, secured further domestic and international orders in the year, and the business holds an order book of $1.1bn (£0.9bn).

These long-term contracts, which offer opportunities in international markets, and our strong franchise in tracked vehicles make the land business well placed for a return to growth in the medium term.

BAE Systems is a leading supplier of ship repair services to the US Navy and continues to adjust its workforce and facilities to meet evolving demand. Our San Diego operations are expected to benefit from enhanced Asia-Pacific deployment over the mid-term, mitigating the anticipated reduction in activity in the East Coast facilities. Additional dry dock capacity for the San Diego operations became operational in February 2017.

Our US business's commercial shipbuilding contracts have been challenging in the year, with further charges taken. Six ships have now been accepted and production of the remaining two is maturing well with delivery and customer acceptance expected in 2017. The US business has not contracted for any more commercial ship-build.

Whilst market conditions remain highly competitive and continue to evolve, our US-based Intelligence & Security business has performed well, securing good 2016 order intake including a number of new multi-year service contracts.

UK

Our UK-based business continued to perform well, benefiting from good programme execution and stability in customer requirements following the UK Strategic Defence and Security Review in 2015.

Whilst the result of the 2016 EU referendum in the UK continues to create economic uncertainty, good progress has been achieved in implementing the Strategic Defence and Security Review through long-term contract awards and commitments.

In the air domain, Typhoon aircraft deliveries for the Royal Air Force and Royal Saudi Air Force continued alongside airframe sub‑assembly deliveries to European partner nations. The Oman Typhoon programme is on track to commence deliveries in 2017. The contract to supply 28 Typhoon aircraft sets for the Kuwaiti Air Force is consistent with the medium-term production planning assumptions announced last year. We have received £1bn of order intake on this programme.

Export activity continues to be well supported by the UK government and, although there can be no certainty as to the timing of orders, discussions with current and prospective operators of the Typhoon aircraft continue to support the Group's expectations for additional Typhoon contract awards.

Typhoon's capabilities continue to expand, with the ongoing integration of the Captor E-Scan radar, Storm Shadow, Meteor and Brimstone 2 missiles, and development towards the Royal Air Force Centurion standard. A Typhoon support partnership arrangement, expected to be worth at least £2.1bn over a ten-year period, was signed in July.

UK-based production of rear fuselage assemblies for the F-35 Lightning II aircraft is increasing at the Group's advanced manufacturing facilities with much of the production investment already in place to achieve the higher production volumes.

In November, the F-35 Joint Programme Office announced that it had chosen the UK and Australia as significant repair hubs for the maintenance, repair, overhaul and upgrade of F-35 Lightning II avionics and components. These repair hub assignments will support the growing global fleet until 2025 after which the UK and Australia will undertake repairs for the European and Pacific fleets, respectively. BAE Systems plays a leading role in both the UK and Australia as we bring our strong track record of working alongside our international customers and industry partners to deliver innovative and cost-effective sustainment solutions.

A long-term Hawk support contract in the UK was announced in the year and support was maintained to the Indian Hawk programme with the supply of materiel and engineering services.

The unmanned air systems activity benefited from the announcement by the UK and French governments of a new €2bn (£1.7bn) project to build unmanned combat air system demonstrators following a successful joint feasibility study.

In Turkey, following a pre-contract study phase between BAE Systems and Turkish Aerospace Industries, we have signed a heads of agreement to collaborate on the first design and development phase of an indigenous fifth-generation fighter jet for the Turkish Air Force. When on contract, this will have a value in excess of £100m.

In the maritime domain, submarine activity is increasing with the Astute and Dreadnought Class submarines now both in production. The first three Astute Class submarines are in operational service with the Royal Navy and the remaining four boats in build. 

The UK government's commitment to the Dreadnought programme was endorsed by Parliament during the year. Funding was received for the continued design, initial manufacture of the first boat, material commitment and facilities investment for the major redevelopment of the Barrow site. 

The Ministry of Defence, BAE Systems and Rolls-Royce have signed a heads of terms to set up a Dreadnought Build Alliance documenting the UK government and industry's commitment to the delivery of the Dreadnought Class submarine programme, the replacement for the Royal Navy's Vanguard Class submarine fleet, and setting out an organisational and managerial structure and series of commercial principles necessary to deliver it.

The Queen Elizabeth Class aircraft carrier programme progresses with assembly of the second ship well under way. Preparations for sea trials on the first of class vessel in 2017 are maturing and activity to support entry into service is expanding.

In preparation for the manufacturing phase, an extension to the Type 26 frigate demonstration phase contract was secured in March and, under a heads of terms signed in November, BAE Systems and the Ministry of Defence reached agreement on the intention to build eight Type 26 ships on the Clyde, with a cut-steel date in summer 2017. Two additional River Class Offshore Patrol Vessels were also contracted for in December. Build of the first three Offshore Patrol Vessels is progressing well, with sea trials for the first ship planned in the second quarter of 2017.

International

In the 50th year of its presence in Saudi Arabia, BAE Systems continues to address current and potential new requirements as part of the long-standing agreements between the UK government and the Kingdom. Our In-Kingdom Industrial Participation programme also continues apace.

An agreement has been reached with the Saudi Arabian government for BAE Systems to continue to provide support services to the Royal Saudi Air Force and Royal Saudi Naval Forces under the Saudi British Defence Co-operation Programme for a further five years.

On the Salam Typhoon programme, the remaining four of the contracted 72 aircraft will be delivered in 2017. Deliveries have commenced under the Hawk aircraft contract signed in 2012. The Royal Saudi Air Force has achieved high utilisation and aircraft availability across its Typhoon, Tornado and training aircraft fleets.

In Australia, the business is stable. The rationalisation of the Williamstown shipbuilding facility and cost-reduction actions taken across the wider business in 2015 are complete. Long-term sustainment and upgrade contracts were received for the Anzac Class frigates and F-35 Lightning II aircraft. 

In India, BAE Systems has a long-standing relationship with Hindustan Aeronautics Limited (HAL). Delivery of the second batch of HAL-built Hawk aircraft was completed in the year and an order for a further batch from the Indian Air Force is being negotiated.

In November, the US and Indian governments signed a Letter of Agreement for the Foreign Military Sale of 145 M777 lightweight howitzers and, in January 2017, we received the $542m (£439m) contract from the US government to supply these howitzers to the Indian Army. As previously announced, Mahindra & Mahindra will be our supplier to establish an assembly, integration and test facility in India as further support for the 'Make in India' initiative.

The MBDA joint venture won significant order intake on air, maritime and land platforms in the year, including a number of contracts supporting the UK's complex weapons requirements and significant export awards. Building on its already large order book, good growth in MBDA is expected over the medium term.

Cyber security

Applied Intelligence achieved double-digit order intake and sales growth. Ongoing investment in engineering capabilities, product development and marketing costs, all expensed, continues to support the future growth profile for the business.

Cyber security is becoming an important part of government security and a core element of stewardship for commercial enterprises.

Balance sheet and capital allocation

The Group's balance sheet is managed conservatively in line with its policy to retain its investment grade credit rating and to ensure operating flexibility. Consistent with this approach, the Group expects to continue to meet its pension obligations, invest in research and technology and other organic investment opportunities, and plans to pay dividends in line with its policy of long-term sustainable cover of around two times underlying earnings and to make accelerated returns of capital to shareholders when the balance sheet allows. Investment in value-enhancing acquisitions will be considered where market conditions are right and where they deliver on the Group's strategy.

Pension schemes

The Group's share of the pre-tax accounting net pension deficit has increased by £1.6bn from 31 December 2015 to £6.1bn mainly reflecting an increase in liabilities due to a 1.2 percentage point reduction in the real discount rate to −0.5% in the UK, partly offset by returns on scheme assets.

The next UK triennial funding reviews will commence in April 2017 and, in conjunction with the trustees of the schemes and other stakeholders, the Group will be looking at various options with a focus on the longer-term view.

Responsible business 

We continue to build a culture where our senior leaders and employees are empowered to make the right decisions and to know where to go for help. During 2016, we rolled out further ethics training across the Group to support employees.

The safety of our employees, and anybody who works on, or visits, our sites, remains a key priority. We provide training and tools to employees to help them understand the importance of a safe workplace. There was a 21% reduction in the Recordable Accident Rate in 2016, representing an improvement against target. In addition, there was a 26% reduction in the total number of major injuries recorded in the year as we continued to focus on reducing risk and embedding safety culture to drive improvement.

Attracting and retaining talented employees helps us to sustain our competitive edge. We encourage our employees to reach their full potential within a diverse and inclusive work environment. We have programmes in place across the business to support strategic workforce planning, career development and retention, as well as to improve diversity and inclusion.

Summary

Our business benefits from a large order backlog, with established positions on long-term programmes in the US, UK, Saudi Arabia and Australia. Our clear and well-defined strategy has guided us through a period of difficult market conditions. As the overall business environment in our major markets improves and through execution of our strategy, we are well placed to maximise opportunities, deal with the challenges and continue to generate attractive shareholder returns.

Ian King Chief Executive

Extract from
Chairman's letter

Ensuring we have a continued supply of talent is an essential element of long-term business planning - as is the need to manage organised succession at all levels of the business. In this respect, since becoming Chairman, it has been necessary to plan for the retirement of Ian King who became Chief Executive over eight years ago.

In February 2017, we announced that Ian will retire from the Company on 30 June 2017, after a long and distinguished career of some 40 years in the defence industry. Ian will retire leaving a legacy of disciplined operational and financial performance, ethical behaviour, a burgeoning order book, a track record of delivering shareholder value and a strong leadership team. When the time comes later this year, he will leave with our thanks and best wishes for the future.

The Board also announced that Charles Woodburn, Chief Operating Officer, will succeed Ian as Chief Executive with effect from 1 July 2017. Since joining the Company in May 2016, Charles has made an important contribution, bringing impeccable engineering credentials, broad international experience and fresh perspectives to build on our existing strengths. In his new role, he will build on an enviable inheritance to create an exciting future for the Group.

We were pleased to welcome Elizabeth Corley as a non-executive director on 1 February 2016. Her appointment has further strengthened and deepened the expertise and experience of our board of directors.

In view of the Group's good performance and future prospects, the Board has recommended a final dividend of 12.7p per share for a total of 21.3p per share for the full year, an increase of 2% compared to 2015. Subject to shareholder approval at the May 2017 Annual General Meeting, the dividend will be paid on 1 June 2017 to holders of ordinary shares registered on 21 April 2017.

Financial review

We monitor the underlying financial performance of the Group using the alternative performance measures defined on page 6. These measures are not defined in IFRS¹ and, therefore, are considered to be non‑GAAP² measures. Accordingly, the relevant IFRS¹ measures are also presented where appropriate.

P06-07 Alternative performance measure definitions

Income statement

Financial performance measures as defined by the Group		2016 £m	2015 £m
Sales	KPI	19,020	17,904
Underlying EBITA	KPI	1,905	1,683
Return on sales		10.0%	9.4%

Financial performance measures defined in IFRS1		£m	£m
Revenue		17,790	16,787
Operating profit		1,742	1,502
Return on revenue		9.8%	8.9%

Reconciliation of sales to revenue		£m	£m
Sales	KPI	19,020	17,904
Deduct Share of sales by equity accounted investments		(2,427)	(2,719)
Add Sales to equity accounted investments		1,197	1,602
Revenue		17,790	16,787

Reconciliation of underlying EBITA to operating profit		£m	£m
Underlying EBITA	KPI	1,905	1,683
Non-recurring items		(12)	26
Amortisation of intangible assets		(87)	(108)
Impairment of intangible assets		-	(78)
Financial (expense)/income of equity accounted investments		(28)	3
Taxation expense of equity accounted investments		(36)	(24)
Operating profit		1,742	1,502
Net finance costs		(591)	(412)
Taxation expense		(213)	(147)
Profit for the year		938	943

P128 Note 1 to the Group accounts

Exchange rates 

Average		2016	2015
£/$		1.354	1.528
£/€		1.223	1.377
£/A$		1.823	2.036

Sensitivity analysis
Estimated impact on sales of a ten cent movement in the average exchange rate		£m
$		500
€		60
A$		30

Income statement

Sales increased by £1.1bn to £19.0bn (2015 £17.9bn), almost all of which was due to exchange translation.

Underlying EBITA increased by £222m to £1,905m (2015 £1,683m), giving a return on sales of 10.0% (2015 9.4%). There was an exchange translation benefit of £96m. Growth on a constant currency basis was at 7%.

Revenue increased by £1.0bn to £17.8bn (2015 £16.8bn).

Operating profit increased by £240m to £1,742m (2015 £1,502m), giving a return on revenue of 9.8% (2015 8.9%). There was an exchange translation benefit of £86m.

Non-recurring items represents an impairment in respect of the BAE Systems San Francisco Ship Repair business sold in January 2017. Non-recurring items in 2015 of £26m included research and development expenditure credits relating to 2013 and 2014 (£50m), partly offset by a loss on the disposal of the Group's 75% shareholding in the Land Systems South Africa business (£24m).

Amortisation of intangible assets reduced to £87m (2015 £108m) due to previously acquired intangible assets now fully amortised.

Impairment of intangible assets in 2015 mainly comprised the impairment of goodwill in the US Intelligence & Security business reflecting lower business growth assumptions.

Financial expense of equity accounted investments is £28m (2015 income £3m). There was a large gain in 2015 on the translation of foreign currency assets in Air Astana.

Net finance costs were £591m (2015 £412m). The underlying interest charge, excluding pension accounting, and fair value and foreign exchange adjustments on financial instruments and investments, increased to £245m (2015 £191m) primarily reflecting interest on the bonds issued in December 2015, incremental charges relating to net present value adjustments on the discounting of long-term liability provisions and adverse exchange translation of interest charges on US dollar-denominated borrowings. Net interest expense on the Group's pension deficit was lower at £169m (2015 £192m) mainly reflecting the lower 2015 closing deficit. Fair value and foreign exchange adjustments increased to £177m (2015 £29m) on adverse exchange translation of US dollar-denominated bonds.

Taxation expense, including equity accounted investments, of £249m (2015 £171m) reflects the Group's underlying effective tax rate for the year of 21%. The calculation of the underlying effective tax rate is shown in note 6 to the Group accounts on page 136. The underlying effective tax rate for 2017 is expected to increase slightly from 21% to around 22%, with the final rate dependent on the geographical mix of profits.

Looking beyond 2017, the effective tax rate will depend principally on whether there are any changes in tax legislation in the Group's most significant countries of operation, the geographical mix of profits and the resolution of open issues. With the political change in the US, proposals to significantly reform the corporate tax system are being considered. The Group will actively monitor any developments and evaluate their potential impact. The Group does not expect the future rate to be materially impacted by the changes to the international tax landscape resulting from the package of measures developed under the OECD/G20 Base Erosion and Profit Shifting project and the investigations and proposals of the European Commission. However, the Group will keep these under review.

1.  International Financial Reporting Standards.

2.  Generally Accepted Accounting Principles.

3.  Including share of equity accounted investments.

4. Re‑presented to reclassify interest paid from operating to investing activities.

Earnings per share

Underlying earnings per share for the year was 40.3p (2015 40.2p). The prior year included a 4.3p per share benefit from tax provision releases. The major movements in underlying earnings per share are shown in the bridge chart below.

Basic earnings per share was 28.8p (2015 29.0p).

Earnings per share

Financial performance measures as defined by the Group		2016	2015
Underlying earnings		£1,277m	£1,270m
Underlying earnings per share	KPI	40.3p	40.2p

Financial performance measures defined in IFRS1
Profit for the year attributable to equity shareholders		£913m	£918m
Basic earnings per share		28.8p	29.0p

Reconciliation of underlying earnings to profit for the year attributable to equity shareholders		£m	£m
Underlying earnings		1,277	1,270
Non-recurring items, post tax		(9)	(19)
Amortisation and impairment of intangible assets, post tax		(69)	(88)
Impairment of goodwill		-	(75)
Net interest expense on retirement benefit obligations, post tax		(140)	(158)
Fair value and foreign exchange adjustments on financial instruments and investments, post tax		(146)	(12)
Profit for the year attributable to equity shareholders		913	918
Non-controlling interests		25	25
Profit for the year		938	943

P138 Note 7 to the Group accounts

Cash flow

Financial performance measures as defined by the Group		2016 £m	20153 £m
Operating business cash flow	KPI	1,004	681

Financial performance measures defined in IFRS1		£m	£m
Net cash flow from operating activities		1,229	808

Reconciliation from operating business cash flow to net cash flow from operating activities		£m	£m
Operating business cash flow	KPI	1,004	681
Add back Net capital expenditure and financial investment		450	284
Deduct Dividends received from equity accounted investments		(38)	(41)
Deduct Taxation		(187)	(116)
Net cash flow from operating activities		1,229	808
Net capital expenditure and financial investment		(450)	(284)
Dividends received from equity accounted investments		38	41
Net interest paid		(200)	(173)
Acquisitions and disposals		6	16
Net cash flow from investing activities		(606)	(400)
Net sale of own shares		3	1
Equity dividends paid		(670)	(655)
Dividends paid to non-controlling interests		(24)	(40)
Cash flow from matured derivative financial instruments		480	12
Movement in cash collateral		32	3
Net cash flow from loans		(286)	490
Net cash flow from financing activities		(465)	(189)
Net increase in cash and cash equivalents		158	219
Add back/(deduct) Net cash flow from loans		286	(490)
Deduct Cash classified as held for sale		(2)	-
Foreign exchange translation		(621)	(165)
Other non-cash movements		59	46
Increase in net debt		(120)	(390)
Opening net debt		(1,422)	(1,032)
Net debt	KPI	(1,542)	(1,422)

P167 and P168 Note 23 and 24 to the Group accounts

Cash flow

Operating business cash flow was £1,004m (2015 £681m), which includes cash contributions in respect of pension deficit funding, over and above service costs, for the UK and US schemes totalling £253m (2015 £274m).

Receipts aggregating to approximately £250m, expected in 2017 on the Omani Typhoon programme, Saudi support and MBDA's Qatar contract, were received in 2016.

Major advances received in 2012 on the Omani Typhoon and Hawk order, and the Saudi training aircraft contract, were consumed. Advances were also utilised in the year on European Typhoon production. Costs are being incurred against provisions created in previous years, primarily on the US commercial shipbuilding programmes.

Net cash flow from operating activities was £1,229m (2015 £808m).

Taxation payments increased to £187m (2015 £116m) primarily reflecting higher payments in the US due to higher US taxable profits and timing differences.

Net capital expenditure and financial investment was £450m (2015 £284m) largely reflecting lower proceeds from sale of property, plant and equipment, and investment property of £45m (2015 £136m). Purchases of property, plant and equipment, and investment property were £49m higher primarily reflecting investment in manufacturing facilities at Electronic Systems.

Dividends received from equity accounted investments of £38m (2015 £41m) is primarily receipts from MBDA and FNSS.

Net interest paid was £27m higher at £200m (2015 £173m) primarily for interest on the bonds issued in December 2015 and adverse exchange translation of interest on US dollar-denominated borrowings.

The cash inflow in respect of acquisitions and disposals in 2016 of £6m reflects the sale of a 4.1% shareholding in a subsidiary company in Saudi Arabia. In 2015, the net cash inflow of £16m included £21m received from the sale of the Group's 75% shareholding in the Land Systems South Africa business, less £5m paid for the acquisition of Eclipse Electronic Systems, Inc.

Equity dividends paid in 2016 represents the 2015 final (£397m) and 2016 interim (£273m) dividends.

Dividends paid to non-controlling interests reduced to £24m (2015 £40m). An increased dividend was paid in 2015 by the Group's 75%-owned South African business prior to disposal.

As a consequence of movements in US dollar and euro exchange rates, there was a cash inflow from matured derivative financial instruments of £480m (2015 £12m) from rolling hedges on balances with the Group's subsidiaries and equity accounted investments. The inflow as a result of hedging cash loaned internally, from the US to the UK business, partially offsets the foreign exchange translation on the Group's external US dollar-denominated borrowing (see below).

Net cash flow from loans represents repayment of a $350m (£286m) 3.5% bond at maturity in October. In 2015, BAE Systems issued $1.5bn (£971m) of bonds in the US capital market and repaid a $750m (£481m) 5.2% bond at maturity.

Foreign exchange translation, which primarily arises in respect of the Group's US dollar-denominated borrowing, is partially offset by the cash inflow from matured derivative financial instruments (see above).

Orders

Order intake² increased by £7.5bn to £22,443m (2015 £14,921m). Major awards in the year included £2.1bn on the ten-year UK Typhoon support contract and initial order intake on the five-year Saudi support renewal.

Order backlog² increased by £5.2bn to £42.0bn (2015 £36.8bn). Exchange translation added £2.6bn compared with the prior year. The major movements in order backlog are shown in the bridge chart below.

Orders

Financial performance measures as defined by the Group		2016	2015
Order intake2	KPI	£22,443m	£14,921m
Order backlog2		£42.0bn	£36.8bn

1.  International Financial Reporting Standards.

2.  Including share of equity accounted investments.

3.  Re-presented to reclassify interest paid from operating to investing activities.

Balance sheet

Summarised balance sheet		2016 £m	2015 £m
Intangible assets		11,264	10,117
Property, plant and equipment, and investment property1		1,999	1,772
Equity accounted investments and other investments		305	256
Working capital1		(3,564)	(3,850)
Group's share of the net IAS 19 pension deficit (see below)		(6,054)	(4,501)
Net tax assets and liabilities		935	661
Net other financial assets and liabilities		121	(43)
Net debt	KPI	(1,542)	(1,422)
Net assets held for sale		-	12
Net assets		3,464	3,002

1.  Funding received from the UK government for property, plant and equipment at Barrow-in-Furness, UK, relating to the Dreadnought submarine programme included in working capital in the Consolidated balance sheet is presented here in property, plant and equipment, and investment property.

Net IAS 19 pension deficit		£m	£m
Group's share of the net IAS 19 pension deficit (see above)		6,054	4,501
Add back Amounts allocated to equity accounted investments		516	1,053
Net IAS 19 pension deficit		6,570	5,554

Components of net debt		£m	£m
Cash and cash equivalents		2,769	2,537
Debt-related derivative financial instrument assets		114	53
Loans - non-current		(4,425)	(3,775)
Loans and overdrafts - current		-	(237)
Net debt	KPI	(1,542)	(1,422)

Exchange rates

Year end		2016	2015
£/$		1.236	1.474
£/€		1.172	1.357
£/A$		1.707	2.027

Balance sheet

The £1.2bn increase in intangible assets to £11.3bn (2015 £10.1bn) mainly reflects exchange translation.

Property, plant and equipment, and investment property increased to £2.0bn (2015 £1.8bn), including £167m of exchange translation.

Equity accounted investments and other investments increased to £305m (2015 £256m) reflecting the Group's share of profit for the year (£90m) less dividends received (£38m). Exchange translation was £52m. The increased share of pension deficit was £66m.

The £1.6bn increase in the Group's share of the net IAS 19 pension deficit mainly reflects an increase in liabilities due to a 1.2 percentage point decrease in the real discount rate to −0.5% in the UK, partly offset by returns on scheme assets. The major movements in the net pension deficit are shown in the bridge chart opposite.

On 1 April 2016, a separate Airbus section of the BAE Systems Pension Scheme (Main Scheme) was created, reducing the total net IAS 19, Employee Benefits, deficit, with a corresponding reduction in the allocation to equity accounted investments.

Details of the Group's pension schemes are provided in note 20 to the Group accounts on page 155.

A net deferred tax asset of £1.2bn (2015 £0.9bn) relating to the Group's pension deficit is included within net tax assets and liabilities.

There was a £0.3bn increase in working capital mainly reflecting a net reduction in advance contract funding and utilisation of provisions.

The assets and liabilities of the San Francisco ship repair business sold in January 2017, both totalling £2m, are classified as held for sale at 31 December 2016. The Group no longer expects to complete the disposal of Aircraft Accessories and Components Company and, accordingly, has ceased classifying it as held for sale (2015 £12m).

The Group's net debt at 31 December 2016 is £1,542m, a net increase of £120m from the net debt position of £1,422m at the start of the year. A $350m (£286m) 3.5% bond was repaid at maturity in October. There are no further material debt maturities before 2019. The maturity of the Group's borrowings is shown in the chart opposite. 

Cash and cash equivalents of £2,769m (2015 £2,537m) are held primarily for the repayment of debt securities, pension deficit funding, payment of the 2016 final dividend and management of working capital.

Critical accounting policies

Certain of the Group's significant accounting policies are considered by the directors to be critical because of the level of complexity, judgement or estimation involved in their application and their impact on the consolidated financial statements:

Revenue and profit recognition
Revenue	£17.8bn (year ended 31 December 2016) See note 1 to the Group accounts
Carrying value of intangible assets
Intangible assets	£11.3bn (at 31 December 2016) See note 8 to the Group accounts
Valuation of retirement benefit obligations
Group's share of the net IAS 19 pension deficit	£6.1bn (at 31 December 2016) See note 20 to the Group accounts

In addition to the critical accounting policies, management exercises judgement in applying the Group's accounting policies in respect of tax provisions and deferred tax assets.

P122-123 For more information

Capital

Objectives

Maintain the Group's investment grade credit rating and ensure operating flexibility, whilst:

-   meeting its pension obligations;

-   pursuing organic investment opportunities;

-   paying dividends in line with the Group's policy of long-term sustainable cover of around two times underlying earnings;

-   making accelerated returns of capital to shareholders when the balance sheet allows and when the return from doing so is in excess of the Group's Weighted Average Cost of Capital; and

-   investing in value-enhancing acquisitions, where market conditions are right and where they deliver on the Group's strategy.

Policies

The Group funds its operations through a mixture of equity funding and debt financing, including bank and capital market borrowings.

The capital structure of the Group reflects the judgement of the directors of an appropriate balance of funding required. Three credit rating agencies publish credit ratings for the Group:

Agency	Rating	Outlook	Category
Moody's Investors Service	Baa2	Stable	Investment grade
Standard & Poor's Ratings Services	BBB	Stable	Investment grade
Fitch Ratings	BBB	Stable	Investment grade

P165 Note 22 to the Group accounts

Dividends

As part of the Group's capital allocation policy (see above), the Group plans to pay dividends in line with its policy of long-term sustainable cover of around two times underlying earnings.

The Board has recommended a final dividend of 12.7p per share making a total of 21.3p per share for the year, an increase of 2% over 2015. At this level, the annual dividend is covered 1.9 times. Subject to shareholder approval at the 2017 Annual General Meeting, the dividend will be paid on 1 June 2017 to holders of ordinary shares registered on 21 April 2017. The ex-dividend date is 20 April 2017.

At 31 December 2016, the Company had retained earnings of £1.9bn (2015 £2.0bn), the non-distributable portion of which is £354m (2015 £343m) (see page 180). Total external dividends relating to 2016 are £676m (2015 £663m), including the interim dividend paid during the year of £273m (2015 £266m) and the final dividend proposed of approximately £403m (2015 £397m). On an annual basis, the Company receives dividends from its subsidiaries to increase further its distributable reserves and, accordingly, the Company expects to have sufficient distributable reserves to support its dividend policy.

The Group's dividend policy is underpinned by its viability and going concern statements (see page 71).

Treasury

The Group's treasury activities are overseen by the Treasury Review Management Committee (TRMC). Two executive directors are members of the TRMC, including the Group Finance Director who chairs the Committee. The TRMC also has representatives with legal and tax expertise. The Group operates a centralised treasury department that is accountable to the TRMC for managing treasury activities in accordance with the treasury policies approved by the Board.

Objectives/policies

Net debt

Maintain a balance between the continuity, flexibility and cost of debt funding through the use of borrowings from a range of markets with a range of maturities, currencies and interest rates, reflecting the Group's risk profile.

-   Material borrowings are arranged by the central treasury department and funds raised are lent onward to operating subsidiaries as required.

Interest rates

Manage the exposure to interest rate fluctuations on borrowings through varying the proportion of fixed rate debt relative to floating rate debt with derivative instruments, including interest rate and cross-currency swaps.

-   A minimum of 50% and a maximum of 90% of gross debt is maintained at fixed interest rates.

Liquidity

Maintain adequate undrawn committed borrowing facilities.

-   An undrawn committed Revolving Credit Facility of £2bn contracted to December 2018 and £1.9bn contracted from December 2018 to December 2020 is available to meet expected general corporate funding requirements.

Monitor and control counterparty credit risk and credit limit utilisation.

-   The Group adopts a conservative approach to the investment of its surplus cash. It is deposited with financial institutions with the strongest credit ratings for short periods.

Currency

Reduce the Group's exposure to transactional volatility in earnings and cash flows from movements in foreign currency exchange rates.

-   All material firm transactional exposures are hedged.

-   The Group does not hedge the translation effect of exchange rate movements on the income statements or balance sheets of foreign subsidiaries and equity accounted investments it regards as long-term investments.

P170 Note 26 to the Group accounts

Tax strategy

The Group's tax strategy is to:

-   ensure compliance with all applicable tax laws and regulations; and

-   manage the Group's tax expense in a way that is consistent with its values and its legal obligations in all relevant jurisdictions.

The Group promotes collaborative professional working with tax authorities in order to build open, transparent and trusted relationships. As part of this, the Group engages in open and early dialogue to discuss tax planning, strategy, risks and significant transactions, and discloses any significant uncertainties in relation to tax matters. Queries and information requests by tax authorities are responded to in a timely fashion and the Group ensures that tax authorities are kept informed about how issues are progressing. The Group seeks to resolve issues in real time and before returns are filed where possible. Fair, accurate and timely disclosures are made in tax returns, reports and documents that the Group files with, or submits to, tax authorities. Where disagreements over tax arise, the Group works proactively to seek to resolve all issues by agreement (where possible) and reach reasonable solutions. In the UK, the Group is subject to an annual risk assessment by HM Revenue & Customs and strives to achieve as low a risk rating as can be achieved by a group of BAE Systems' size and complexity.

Whilst the Group aims to maximise the tax efficiency of its business transactions, it does not use structures in its tax planning that are contrary to the intentions of the relevant legislature. The Group interprets relevant tax laws in a reasonable way and ensures that transactions are structured in a way that is consistent with a relationship of co-operative compliance with tax authorities. It also actively considers the implications of any planning for the Group's wider corporate reputation.

The Group is open and transparent with regard to decision-making, governance and tax planning in its business, keeping tax authorities informed of who has responsibility, how decisions are reached, how the business is structured and where different parts of the business are located.

BAE Systems operates internationally and is subject to tax in many different jurisdictions. The Group employs professional tax managers and takes appropriate advice from reputable professional firms. The Group is routinely subject to tax audits and reviews which can take a considerable period of time to conclude. Provision is made for known issues based on management's interpretation of country-specific legislation and the likely outcome of negotiations or litigation. The assessment and management of tax risks are regularly reviewed by the Audit Committee, as is the Group's tax strategy.

Arm's-length principles are applied in the pricing of all intra-group transactions of goods and services in
accordance with Organisation for Economic Co-operation and Development guidelines. Where appropriate,
the Group engages with governments in relation to proposed legislation and tax policy. The Group endorses
the statement of tax principles issued by the Confederation of British Industry in May 2013
(www.cbi.org.uk/cbi-prod/assets/File/pdf/statement-of-tax-principles.pdf).

P135 Note 6 to the Group accounts

Chart, note and page references used above refer to the Annual Report 2016 that can be viewed on the Company's website.

Principal risks

Risks are identified based on the likelihood of occurrence and the potential impact on the Group. The Group's principal risks are identified below, together with a description of how we mitigate those risks.

1. Defence spending The Group is dependent on defence spending.
Description	Impact	Mitigation
In 2016, 91% of the Group's sales were defence-related. Defence spending by governments can fluctuate depending on political considerations, budgetary constraints, specific threats and movements in the international oil price. There have been constraints on government expenditure in a number of the Group's principal markets, in particular in the US and UK. The results of the 2016 elections in the US and EU referendum in the UK have led to a period of uncertainty.	Lower defence spending by the Group's major customers could have a material adverse effect on the Group's future results and financial condition.	The business is geographically spread across US, UK and international defence markets: -   In the US, following the two-year Bipartisan Budget Act signed in 2015, the defence market outlook is improving with encouraging signs of a return to growth in defence budgets.  -   In the UK, the Spending Review in 2015 outlined a 3.1% real-term increase to the defence budget by 2020 as part of the commitment to spend 2% of Gross Domestic Product on defence. -   In Saudi Arabia, regional tensions continue to dictate that defence remains a high priority. The diverse product and services portfolio is marketed across a range of defence markets. BAE Systems benefits from a large order backlog, with established positions on long-term programmes in the US, UK, Saudi Arabia and Australia. BAE Systems has a growing portfolio of commercial businesses, including commercial avionics and the commercial areas of the Applied Intelligence business. Sales in commercial markets represented 9% of the Group's sales in 2016.

2. Government customers

The Group's largest customers are governments.

Description	Impact	Mitigation
The Group has long-standing relationships and security arrangements with a number of its government customers, including its three largest customers, the governments of the US, UK and Saudi Arabia, and their agencies. It is important that these relationships and arrangements are maintained. In the defence and security industries, governments can typically modify contracts for their convenience or terminate them at short notice. Long-term US government contracts, for example, are funded annually and are subject to cancellation if funding appropriations for subsequent periods are not made. Governments also from time to time review their terms of trade and underlying policies and seek to impose such new terms and policies when entering into new contracts. The Group's performance on its contracts with some government customers is subject to financial audits and other reviews which can result in adjustments to prices and costs.	Deterioration in the Group's principal government relationships resulting in the failure to obtain contracts or expected funding appropriations, adverse changes in the terms of its arrangements with those customers or their agencies, or the termination of contracts could have a material adverse effect on the Group's future results and financial condition.	Government customers have sophisticated procurement and security organisations with which the Group can have long-standing relationships with well-established and understood terms of business. In the event of a customer terminating a contract for convenience, the Group would typically be paid for work done and commitments made at the time of termination.

3. International markets

The Group operates in international markets.

Description	Impact	Mitigation
BAE Systems is an international company conducting business in a number of regions, including the US and the Middle East. The risks of operating in some countries include: political changes impacting the business environment; economic downturns, political instability and civil disturbances; changes in government regulations and administrative policies; the imposition of restraints on the movement of capital; the introduction of burdensome taxes or tariffs; and the inability to obtain or maintain the necessary export licences. The Group is exposed to volatility arising from movements in currency exchange rates, particularly in respect of the US dollar, euro, Saudi riyal and Australian dollar. There has been volatility in currency exchange rates in the period since the announcement of the results of the 2016 elections in the US and EU referendum in the UK. Judicial Review proceedings into the process followed by the UK government in granting defence export licences to the Kingdom of Saudi Arabia are under way. A judgment is expected in the near future, which may impact the granting of export licences for the sale of arms to the Kingdom. The conclusion of the proceedings is awaited.	The occurrence of any such events could have a material adverse effect on the Group's future results and financial condition.	The Group has a balanced portfolio of businesses across a number of markets internationally. The Group benefits from a large order backlog, with established positions on long-term programmes in the US, UK, Saudi Arabia and Australia. The Group's policy is to hedge all material firm transactional currency exchange rate exposures. The Group's contracts are often long-term in nature and, consequently, it may be able to mitigate these risks over the terms of those contracts. Political risk insurance is held in respect of export contracts not structured on a government-to-government basis. BAE Systems has a well-established legal and regulatory compliance structure aimed at ensuring adherence to regulatory requirements and identifying restrictions that could adversely impact the Group's activities, including export control requirements.

4. Competition in international markets

The Group's business is subject to significant competition in international markets.

Description	Impact	Mitigation
The Group's business plan depends upon its ability to win and contract for high-quality new programmes, an increasing number of which are expected to be in markets outside the US and UK. The Group is dependent upon US and UK government support in relation to a number of its business opportunities in export markets.	The Group's business and future results may be adversely impacted if it is unable to compete adequately and obtain new business in the markets in which it operates.	The Group has an international, multi-market presence, a balanced portfolio of businesses, leading capabilities and a track record of delivery on its commitments to its customers. The Group continues to invest in research and development, and to reduce its cost base and improve efficiencies, to remain competitive. In the UK, export contracts can be structured on a government-to-government basis and government support can also involve military training, ministerial support for promotional activities and financial support through UK Export Finance. In the US, most of the Group's defence export sales are delivered through the Foreign Military Sales process, under which the importing government contracts with the US government.

5. Laws and regulations

The Group is subject to risk from a failure to comply with laws and regulations.

Description	Impact	Mitigation
The Group operates in a highly-regulated environment across many jurisdictions and is subject, without limitation, to regulations relating to import-export controls, money laundering, false accounting, anti-bribery and anti-boycott provisions. It is important that the Group maintains a culture in which it focuses on embedding responsible business behaviours and that all employees act in accordance with the requirements of the Group's policies, including the Code of Conduct, at all times.  Export restrictions could become more stringent and political factors or changing international circumstances could result in the Group being unable to obtain or maintain necessary export licences.	Failure by the Group, or its sales representatives, marketing advisers or others acting on its behalf, to comply with these regulations could result in fines and penalties and/or the suspension or debarment of the Group from government contracts or the suspension of the Group's export privileges, which could have a material adverse effect on the Group. Reduced access to export markets could have a material adverse effect on the Group's future results and financial condition.	BAE Systems has a well-established legal and regulatory compliance structure aimed at ensuring adherence to regulatory requirements and identifying restrictions that could adversely impact the Group's activities. Internal and external market risk assessments form an important element of ongoing corporate development and training processes. A uniform global policy and process for the appointment of advisers engaged in business development is in effect. The special compliance officer, appointed pursuant to commitments concerning ongoing regulatory compliance made in the course of the 2011 settlement with the US Department of State, concluded his monitorship in May 2014 and, at the invitation of BAE Systems, agreed to remain in a limited capacity for a limited further period of time.

6. Contract risk and execution

The Group has many contracts, including a small number of large contracts and fixed-price contracts.

Description	Impact	Mitigation
In 2016, 49% of the Group's sales were generated by its 15 largest programmes. At 31 December 2016, the Group had five programmes with order backlog in excess of £1bn. A significant portion of the Group's revenue is derived from fixed-price contracts. Actual costs may exceed the projected costs on which the fixed prices are agreed and, since these contracts can extend over many years, it can be difficult to predict the ultimate outturn costs. It is important that the Group maintains a culture in which it delivers on its projects within tight tolerances of quality, time and cost performance in a reliable, predictable and repeatable manner.	The inability of the Group to deliver on its contractual commitments, the loss, expiration, suspension, cancellation or termination of any one of its large contracts or its failure to anticipate technical problems or estimate accurately and control costs on fixed-price contracts could have a material adverse effect on the Group's future results and financial condition.	Contract-related risks and uncertainties are managed under the Group's mandated Lifecycle Management process. A new leadership development programme for project directors is being deployed across the Group, covering the leadership competencies required to manage complex projects containing significant levels of risk and uncertainty. A significant proportion of the Group's largest contracts are with the UK Ministry of Defence. In the UK, development programmes are normally contracted with appropriate levels of risk being initially held by the customer and contract structures are used to mitigate risk on production programmes, including where the customer and contractor share cost savings and overruns against target prices. The Group has a well-balanced spread of programmes and significant order backlog which provides forward visibility. The Group has limited exposure to fixed-price design and development activity which is in general more risk intensive than fixed-price production activity. Robust bid preparation and approvals processes are well established throughout the Group, with decisions required to be taken at the appropriate level in line with clear delegations of authority.

7. Contract cash profiles

The Group is dependent on the award timing and cash profile of its contracts.

Description	Impact	Mitigation
The Group's profits and cash flows are dependent, to a significant extent, on the timing of, or failure to receive, award of defence contracts and the profile of cash receipts on its contracts.	Amounts receivable under the Group's defence contracts can be substantial and, therefore, the timing of, or failure to receive, awards and associated cash advances and milestone payments could materially affect the Group's profits and cash flows for the periods affected, thereby reducing cash available to meet the Group's cash allocation priorities, potentially resulting in the need to arrange external funding and impacting its investment grade credit rating.	The Group's balance sheet continues to be managed conservatively in line with its policy to retain an investment grade credit rating and to ensure operating flexibility. The Group monitors a rolling forecast of its liquidity requirements to ensure that there is sufficient cash to meet its operational needs and maintain adequate headroom.

8. Pension funding

The Group has an aggregate funding deficit in its defined benefit pension schemes.

Description	Impact	Mitigation
In aggregate, there is an actuarial deficit between the value of the projected liabilities of the Group's defined benefit pension schemes and the assets they hold. The deficits may be adversely affected by changes in a number of factors, including investment returns, long-term interest rate and price inflation expectations, and anticipated members' longevity. There has been volatility in US and UK bond yields, in particular in the period since the announcement of the results of the 2016 elections in the US and EU referendum in the UK. The reduction in discount rates in 2016 has increased the Group's share of the accounting net pension deficit.	Increases in pension scheme deficits may require the Group to increase the amount of cash contributions payable to these schemes, thereby reducing cash available to meet the Group's other cash allocation priorities.	In the UK, new employees have been offered membership of defined contribution rather than defined benefit schemes since April 2012 and, in the US, employees have not accrued salary-related benefits in defined benefit schemes since January 2013. In 2014, deficit recovery plans, the longest of which runs until 2026, were agreed with the trustees of the Group's UK pension schemes following triennial funding valuations. The next UK triennial funding valuations will commence in April 2017 and, in conjunction with the trustees of the schemes and other stakeholders, the Group will be looking at various options with a focus on the longer-term view.

9. Information technology security

The Group could be negatively impacted by information technology security threats.

Description	Impact	Mitigation
The security threats faced by the Group include threats to its information technology infrastructure, unlawful attempts to gain access to its proprietary or classified information and the potential for business disruptions associated with information technology failures.	Failure to combat these risks effectively could negatively impact the Group's reputation among its customers and the public, cause disruption to its business operations, and could result in a negative impact on the Group's future results and financial condition.	The Group has a broad range of measures in place, including appropriate tools and techniques, to monitor and mitigate this risk.

10. People

The Group's strategy is dependent on its ability to recruit and retain people with appropriate talent and skills.

Description	Impact	Mitigation
Delivery of the Group's strategy and business plan is dependent on its ability to compete to recruit and retain people with appropriate talent and skills, including those with innovative technological capabilities. The Group's business plan is targeting an increasing level of business in international export markets outside the US and UK. It is important that the Group recruits and retains management with the necessary international skills and experience in the relevant jurisdictions.	The loss of key employees or inability to attract the appropriate people on a timely basis could adversely impact its ability to deliver its strategy, meet the business plan and, accordingly, have a negative impact on the Group's future results and financial condition.	The Group recognises that its employees are key to delivering its strategy and business plan, and focuses on developing the existing workforce and hiring talented people to meet current and future requirements. The Group has well-established graduate recruitment and apprenticeship programmes and, in order to maximise the contribution that its workforce can make to the performance of the business, has an effective through-career capability development programme. In order to seek to maximise its talent pool, the Group is committed to creating a diverse and inclusive environment for its employees. BAE Systems continues to reinforce its ethics programme globally, driving the right behaviours by supporting employees in making ethical decisions and embedding responsible business practices.

Additional risks and uncertainties currently unknown to the Group, or which the Group currently deems immaterial, may also have an adverse effect on the business or financial condition of the Group.

Segmental performance

Electronic Systems

Electronic Systems, with 13,800 employees¹, comprises the US and UK‑based electronics activities, including electronic warfare systems, electro-optical sensors, military and commercial digital engine and flight controls, next-generation military communications systems and data links, persistent surveillance capabilities, and hybrid electric drive systems.

Electronic Combat includes the Electronic Protection, Electronic Warfare and Electronic Attack product lines, and provides a depth of capability in integrated electromagnetic systems for airborne applications, mission planning and battle management solutions, secure networked communications and navigation systems, radio frequency communication and data links.

Survivability, Targeting & Sensing exploits the electro-optical and infrared spectrum to provide leading threat warning and infrared countermeasures systems, precision guidance and seeker solutions, advanced targeting solutions, head-up displays and state‑of‑the‑art tactical imaging systems.

Intelligence, Surveillance & Reconnaissance addresses the market for actionable intelligence through innovative technical solutions for airborne persistent surveillance, identification systems, signals intelligence, underwater and surface warfare solutions, and space products.

Controls & Avionics addresses the military and commercial aircraft electronics markets, including fly-by-wire flight controls, full authority digital engine controls, flight deck systems, cabin management systems and mission computers.

Power & Propulsion Solutions delivers electric propulsion and power management performance, with innovative products and solutions that advance vehicle mobility, efficiency and capability in the transit, military, marine and rail markets.

Operational and strategic highlights

-  Delivered the 250th electronic warfare suite for the F-35 Lightning II combat aircraft programme

-  Initiated our 'Ramp 2 Rate' capital investment strategy to support growth in defence electronics production

-  Awarded a $146m (£118m) engineering and manufacturing development contract for the US Air Force's Eagle Passive Active Warning Survivability System

-  Signed a three-year Indefinite Delivery, Indefinite Quantity contract for Advanced Precision Kill Weapon System (APKWS™) Full-Rate Production Lots 5 to 7, worth up to $600m (£486m)

-  Awarded a $249m (£201m) contract modification on the Common Missile Warning System programme

-  Awarded a contract on the US Army's Family of Weapon Sights - Crew Served programme worth up to $384m (£311m)

-  Integration of the GEOINT-ISR business transferred from Cyber & Intelligence completed

Financial performance

Financial performance measures as defined by the Group

		2016	20153
Sales	KPI	£3,282m	£2,922m
Underlying EBITA	KPI	£494m	£437m
Return on sales		15.1%	15.0%
Operating business cash flow	KPI	£469m	£370m
Order intake1	KPI	£3,322m	£2,799m
Order backlog1		£5.2bn	£4.4bn

Financial performance measures defined in IFRS²

		2016	20153
Revenue		£3,282m	£2,922m
Operating profit		£474m	£419m
Return on revenue		14.4%	14.3%
Cash flow from operating activities		£568m	£445m

-   Sales compared with 2015 were almost unchanged at $4.4bn (£3.3bn). The commercial areas of the business now amount to 24%, having seen sales growth in the year of 11% primarily in HybriDrive® systems. On the defence side, sales were slightly down on timing of production deliveries on the Digital Electronic Warfare System and other electronic warfare programmes.

-   The return on sales achieved of 15.1% (2015 15.0%) was largely from continued strong programme execution and risk retirement.

-   Cash conversion of underlying EBITA for the year was at 97%, excluding pension deficit funding.

-   Order backlog¹ was sustained at $6.5bn (£5.2bn) benefiting from awards for F-35 Lightning II electronic warfare systems, the F-15 Eagle Passive Active Warning Survivability System programme and APKWS™.

1.  Including share of equity accounted investments.

2.  International Financial Reporting Standards.

3.  Re-presented for the transfer of the GEOINT-ISR (Geospatial Intelligence - Intelligence, Surveillance and Reconnaissance) business from Cyber & Intelligence to Electronic Systems.

P06-07 Alternative performance measure definitions

Operational performance

Electronic Combat

BAE Systems has sustained its leadership position in the US electronic warfare and communications and navigation markets. Production is ramping up across a number of programmes. Low-Rate Initial Production hardware deliveries on the F-35 Lightning II programme continue with Lot 9 and 10 deliveries. We have received initial funding for Lot 11 with deliveries expected to commence in 2018.

The business is under contracts, from Boeing and Warner Robins Air Logistics Complex, totalling more than $1.0bn (£0.8bn) to install the Digital Electronic Warfare System on 84 new F-15 aircraft, upgrade 70 existing F-15 aircraft, and provide spare units and modules for an international customer. The programme remains on schedule. 

In 2015, we were selected by Boeing to develop and manufacture the next-generation digital electronic warfare system for the US Air Force's Eagle Passive Active Warning Survivability System programme to upgrade up to 400 F-15 aircraft. In 2016, we received the engineering and manufacturing development contract, worth $146m (£118m), as a follow-on to the technology maturation and risk reduction phase. The programme could be worth more than $1.0bn (£0.8bn) over its life. 

In January 2017, BAE Systems was awarded a $67m (£54m) modification to exercise the option on a previously awarded contract for an electronic warfare system for the US Air Force Special Operations Command's fleet of
C-130J aircraft. The award is currently under protest with the Government Accountability Office.

Due to the sensitive nature of electronic combat systems and technology, many of our programmes are classified. As a world leader in electronic warfare, communications and navigation solutions, the business continues to experience growth in these increasingly important areas.

Survivability, Targeting & Sensing

Our Advanced Precision Kill Weapon System (APKWS™) laser-guided rocket is experiencing growing demand, with deliveries exceeding 8,000 units through 2016. In addition to expanding its use in the US military, the system is generating strong international attention, with 16 nations expressing interest. In October, the US Navy awarded us a three-year Indefinite Delivery, Indefinite Quantity contract for Full-Rate Production Lots 5 to 7 worth up to $600m (£486m) that could increase production to 10,000 units per year.

We continue to perform well on the Terminal High-Altitude Area Defence programme, delivering over 90 seekers in 2016 following the $80m (£65m) contract received for Lots 7 and 8 during the year.

On the Common Missile Warning System programme, the business was awarded a $249m (£201m) Indefinite Delivery, Indefinite Quantity contract modification to fulfil increased demand from our customers, the US Army and allied nations, extending the current five-year contract by two years.

On the Enhanced Night Vision Goggle III and Family of Weapon Sights - Individual programme, we completed the first round of qualification and reliability testing in September under a five-year, $434m (£351m) Indefinite Delivery, Indefinite Quantity contract.

On the US Army's Family of Weapon Sights - Crew Served programme, we were awarded a seven-year contract with a potential value of up to $384m (£311m) in September. The sight is designed to allow soldiers to acquire and engage targets at extended range.

We continue to leverage our technology and engineering capabilities, and the LiteHUD^® head-up display has been selected by critical launch customers for integration on multiple platforms. 

The next-generation Striker^® II helmet-mounted display has completed the second phase of flight trials to integrate the system's technology with the Typhoon combat aircraft.

Intelligence, Surveillance & Reconnaissance 

In 2016, Cyber & Intelligence's Geospatial Intelligence - Intelligence, Surveillance and Reconnaissance (GEOINT-ISR) business transferred to Electronic Systems and was merged with the sector's existing Intelligence, Surveillance & Reconnaissance business. 

Since winning the Geospatial Data Services Foundational GEOINT Content Management programme in 2014, we have been awarded orders valued at $170m (£138m) and the business is meeting all delivery orders to date. The programme assists US intelligence community customers with the development of advanced geospatial intelligence data collection and processing solutions.

We provide signals intelligence capability for the US Army and other US Department of Defense customers and have received incremental funding for additional production and a technical refresh of Tactical Signals Intelligence Payloads for the US Army's Gray Eagle unmanned aircraft, bringing the total contract value to approximately $116m (£94m). 

The business is in Full-Rate Production on the US Navy's P-8A Poseidon maritime surveillance aircraft programme, providing state‑of‑the-art processing capabilities. We delivered 18 mission computer and display systems in 2016, and received a $60m (£49m) contract for Full-Rate Production Lot 4 in December. 

Controls & Avionics

BAE Systems is a major supplier to Boeing for flight controls, and cabin and flight deck systems. Development of the integrated flight control electronics and remote electronic units for Boeing's next-generation 777X aircraft is on schedule, with the Critical Design Reviews for all system components complete and systems integration testing in progress. On the Boeing 737 MAX aircraft, flight testing of our spoiler controls, flight deck systems and utilities is progressing well, with the first production hardware delivered in November. The Bombardier C Series aircraft entered service equipped with BAE Systems' flight control electronics. 

FADEC Alliance, a joint venture between FADEC International (the Group's joint venture with Safran Electronics & Defense) and GE Aviation, is now on contract to provide the full authority digital engine controls (FADEC) for: the Leap engine on the Airbus A320neo, Boeing 737 MAX and Comac C919; the Passport 20 engine on the Bombardier Global 7000/8000; the GE9x engine on the Boeing 777X; and a new generation of advanced turboprop engines.

We completed qualification of an active control side-stick for the Gulfstream G500/G600 aircraft, with testing nearing completion for the Embraer KC-390. The product will be the first civil-certified active control side-stick with application across both commercial and military markets.

On the F-35 Lightning II programme, the business completed Low-Rate Initial Production Lot 9 deliveries of 57 production shipsets, plus spares, of the vehicle management computer and active inceptor system equipment. Both systems are now in production for Lot 10 and we expect to be under contract for Lot 11 in 2017.

Power & Propulsion Solutions

In 2016, the business delivered more than 1,000 hybrid-electric propulsion systems to transit agencies around the world and, in November, achieved the milestone of having 7,000 hybrid-electric propulsion systems in service.

Cities including London, Paris, Seattle and Boston are using our hybrid and electric drive systems to save fuel and prevent CO2 emissions.

We continued to increase our global presence with Solaris Bus & Coach in Poland offering our hybrid-electric system on its buses from September.

Looking forward

In the US, following the two-year Bipartisan Budget Act signed in 2015, there are signs of a return to growth in defence budgets, with the new administration expected to further increase defence and security spending.

Electronic Systems is well positioned to address current and evolving priority programmes from its strong franchise positions in electronic warfare, electro-optics and Intelligence, Surveillance and Reconnaissance. Electronic Systems has a long-standing programme of research and development, and its focus remains on maintaining a diverse portfolio of defence and commercial products and capabilities for US and international customers.

The business expects to benefit from its franchise positions, particularly on the F-35 Lightning II and F-15 upgrade programmes, and its ability to apply innovative technology solutions that meet defence customers' changing requirements. In the commercial aviation market, Electronic Systems' technology innovations are enabling the business to renew long-standing customer positions and to compete for and win new business.

Cyber & Intelligence

Cyber & Intelligence, with 11,800 employees¹, comprises the US‑based Intelligence & Security business and UK‑headquartered Applied Intelligence business, and covers the Group's cyber security, secure government, and commercial and financial security activities.

Intelligence & Security delivers a broad range of services to the US military and government.

Global Analysis & Operations provides innovative, mission-enabling analytic solutions and support to the US government.

Integrated Electronics & Warfare Systems provides systems engineering, integration and through-life support services for US defence and coalition partner customers.

IT Solutions delivers operational secure solutions that enable US national security customers to perform operations and protect their data and networks.

Applied Intelligence provides data intelligence solutions which enable governments and commercial organisations to defend against national-scale threats, protect their networks and data against sophisticated attacks and operate successfully in cyberspace. Its solutions are delivered as licensed technologies, software-as-a-service subscriptions, through outsourced managed services, and via consulting and systems integration projects.

Commercial Solutions provides cyber defence, counter-fraud and financial compliance products to commercial organisations globally.

UK Services delivers cyber security, data analytics, and digital transformation consulting and systems integration services to national security, government and large enterprises in the UK.

International Services & Solutions provides cyber intelligence and defence solutions to international government agencies and communications service providers.

Operational and strategic highlights

Intelligence & Security

-  Established prime positions under a five-year imagery analysis, training and support contract worth an estimated $350m (£283m)

-  Awarded a five-year contract valued at up to $368m (£298m) to integrate weapon systems aboard US and UK submarines

-  Awarded task orders totalling more than $240m (£194m) to provide information technology services to the US government

Applied Intelligence

-  Second year of expanded investment in product development, and sales and marketing driving continued growth in commercial cyber security and counter‑fraud

-  'Business Defence' marketing campaign is generating new leads in the commercial business

-  Continued shift towards multi-year managed services and subscription-based, cloud-delivered products in the commercial sector

-  Good execution of cyber defence and intelligence programmes for UK and international government customers

Financial performance

Financial performance measures as defined by the Group

		2016	20153
Sales	KPI	£1,778m	£1,564m
Underlying EBITA	KPI	£90m	£104m
Return on sales		5.1%	6.6%
Operating business cash flow	KPI	£83m	£46m
Order intake1	KPI	£1,885m	£1,753m
Order backlog1		£2.4bn	£2.2bn

Financial performance measures defined in IFRS²

		2016	20153
Revenue		£1,778m	£1,564m
Operating profit/(loss)		£59m	£(31)m
Return on revenue		3.3%	(2.0)%
Cash flow from operating activities		£106m	£70m

-   In aggregate, sales were marginally higher at $2.4bn (£1.8bn). The Intelligence & Security business saw a 2% increase largely in the area of provision of managed services to the intelligence community. Growth in the Applied Intelligence business was at 11%, benefiting from increases in the Commercial Solutions and UK Services divisions.

-   The return on sales achieved was 5.1% (2015 6.6%). Higher levels of costs expensed in the Applied Intelligence business, together with delays in securing software licence sales, meant that there was a loss recorded in the business of £19m. In the year, the total cost base of the business (labour and overheads) amounted to more than £480m, all of which was expensed through the income statement.

-   There was an operating loss in the prior year due to the impairment of goodwill in the Intelligence & Security business reflecting lower business growth assumptions.

-   Cash conversion of underlying EBITA for the year was in excess of 100%, excluding pension deficit funding.

-   In aggregate, order backlog¹ reduced to $3.0bn (£2.4bn). Order backlog in the Intelligence & Security business was 5% lower on trading out of certain longer-term contracts. In the Applied Intelligence business, order backlog increased by 9% over the year driven mainly by UK government services and commercial awards.

1.  Including share of equity accounted investments.

2.  International Financial Reporting Standards.

3.  Re-presented for the transfer of the GEOINT-ISR (Geospatial Intelligence - Intelligence, Surveillance and Reconnaissance) business from Cyber & Intelligence to Electronic Systems.

P06-07 Alternative performance measure definitions

Operational performance

Intelligence & Security
Global Analysis & Operations

In Full-Motion Video and Intelligence, Surveillance and Reconnaissance analysis, we have more than 500 analysts sustaining mission-critical activities globally. These security-cleared analysts are currently executing on programmes with a combined value of more than $400m (£324m). Re-compete awards for many of these programmes are being awarded under a new Indefinite Delivery, Indefinite Quantity contract. We have established a prime position on two of the three functional areas under this contract, worth an estimated $350m (£283m) over five years, which could enable us to expand our work in motion-imagery analysis, analytic training, multi-media support and research. Award of a third functional area under this contract is expected in 2017. 

We are currently performing under the first year of a five-year contract with an estimated ceiling value of $75m (£61m) to provide the US Army with geospatial intelligence data analysis support services and the business is fulfilling the third year of a five-year contract worth up to $143m (£116m) to provide counter-terrorism analysis services to the US government.

Integrated Electronics & Warfare Systems

We have been awarded a five-year, sole-source contract worth up to $368m (£298m) by the US Navy to assist with system integration and provide test engineering services and special test equipment for weapons systems on board US Ohio and UK Vanguard Class submarines.

Other US Navy awards in the year include: a five-year contract worth up to $86m (£70m) to provide management, engineering, maintenance and IT support services for critical mission equipment and combat services used by Naval Sea Systems Command; a two-year, $73m (£59m) contract from the Naval Air Warfare Center Aircraft Division to provide lifecycle support services for communications and electronics equipment and subsystems; and a five-year, $52m (£42m) contract to provide essential maintenance and testing support for various air traffic control and landing systems.

We continued to support the US Navy's Space and Naval Warfare Systems Center Atlantic, to integrate new C4I (Command, Control, Communications, Computers and Intelligence) equipment on approximately 6,000 Mine Resistant Ambush Protected vehicles over a five-year period, with more than 2,000 vehicles serviced in 2016.

We were awarded a two-year, $16m (£13m) task order by the US Army's Space and Missile Defense Command/Army Strategic Command to continue the development of specialised cyber vulnerability assessment tools to harden and protect space assets. We also secured a two-year, $13m (£11m) task order to build a Cyber Warrior Training Capability in support of the Missile Defense Agency.

Under the US Air Force's Intercontinental Ballistic Missile Integration Support Contractor programme, we were awarded more than $190m (£154m) in additional engineering scope change proposals in 2016, which has resulted in the total contract lifecycle value reaching nearly $900m (£728m) since we began managing the programme in 2013.

IT Solutions

We are executing the first of several task orders to provide IT services to high-priority US government agencies under a ten-year, single-award Indefinite Delivery, Indefinite Quantity contract awarded in 2015 with a potential value of more than $1.0bn (£0.8bn), under which task orders totalling approximately $240m (£194m) have been awarded to date. 

Under the Enhanced Solutions for the Information Technology Enterprise (e-SITE) Indefinite Delivery, Indefinite Quantity contract for the Defense Intelligence Agency, we were awarded a five-year, $58m (£47m) re-compete task order to continue designing, developing, engineering, installing and sustaining information technology resources.

The US Air Force Research Laboratory awarded the business a five-year contract worth up to $49m (£40m) to develop, deploy and maintain cross-domain solutions for safeguarding the sharing of sensitive information between government networks.

Applied Intelligence

The business has continued to invest in commercial cyber security and counter-fraud product development, and sales and marketing to drive revenue growth. A 'Business Defence' marketing campaign, launched initially in the US, is generating new leads in the commercial business. We have continued to build our cyber skills and engineering capabilities internationally. During the year, we opened a 'Nerve Centre' in Malaysia, a state-of-the-art facility that supports our global cyber security, anti-financial crime and threat intelligence capabilities.

Commercial Solutions

The business continues to shift towards more multi-year managed services and subscription-based, cloud-delivered products. During the year, an enhanced Managed Security Services offering to enterprise-class customers was launched in the US, building on the success of our existing mid-market offering. We have seen growth in managed security services through partnerships with regional communications service providers in the UK and North America.

The business continues to sell licensed 'on premise' software products, with awards in the year including a pilot with a major UK financial institution for the CyberReveal™ threat analytics solution, which defends large enterprises against sophisticated cyber-attacks.

We have continued to extend our position in counter-fraud and financial compliance with further sales of multi-year service offerings, including a five-year contract to provide a customised NetReveal™ counter-fraud analytics solution for HM Revenue & Customs in the UK and the extension of the managed fraud detection service for the Insurance Fraud Bureau in the UK to 2020. The business was appointed by SWIFT, the world's leading provider of secure financial messaging services, to join its new Customer Security Intelligence team and has announced an Incident Response partnership with Allianz Global Corporate & Specialty.

UK Services

The business has maintained its position as a key supplier to national security agencies in the UK, with a number of new framework agreements and contract wins, including follow-on work for existing customer programmes.

Demand for cyber security services from large enterprises has continued, with a two-year cyber security support contract in the transport sector and the extension of a team delivering cyber security advisory services for a UK telecommunications operator.

The data and digital transformation business continues to grow, with new contracts covering a team delivering aspects of IT transformational change in HM Revenue & Customs to the final quarter of 2017 and collaboration in the Digital Railway programme helping to develop an industry architecture and capability development framework for the UK rail industry. We have won a number of service integration and management advisory contracts in central government departments.

International Services & Solutions

We have seen continued demand in Asia‑Pacific, Europe and the Middle East for protection against national threats. A pilot advanced cyber threat analytics and investigation solution on a national telecommunications network in Asia was successfully implemented during the year and there has been growth in business with top-tier telecommunications providers in Australia. 

The latest release of the IntelligenceReveal™ all-source analysis solution, which enables customers to view a single, unified intelligence picture, has supported the implementation of a large programme for a strategic law enforcement customer. We have also won a contract to build a technology demonstrator in the UK that allows users to move information between security domains without compromising confidentiality, integrity or availability.

Looking forward

Intelligence & Security

Following a period of market contraction in the US government services sector, the Group believes the outlook is now stable with market conditions remaining highly competitive.

The Intelligence & Security business has continued to reduce costs to address government budget pressures, whilst pursuing growth opportunities, particularly in critical, mission-focused areas.

Applied Intelligence

Investment continues in product development, sales and marketing, and building cyber and engineering capabilities in the UK and international markets.

The business continues to migrate towards a multi-year managed service and subscription-based model, providing enhanced predictability of revenues, and growing further the order backlog and pipeline of opportunities from commercial and government customers in North America, Europe, Asia-Pacific and the Middle East.

Platforms & Services (US)

Platforms & Services (US), with 11,300 employees¹, has operations in the US, UK and Sweden. It produces combat vehicles, weapons and munitions, and delivers services and sustainment activities, including ship repair and the management of government-owned munitions facilities.

US Combat Vehicles focuses on a portfolio of tracked combat vehicles, amphibious vehicles, accessories, protection systems and tactical support services for the US military and international customers.

Weapon Systems and Munition Operations focuses on naval weapons, artillery, advanced weapons, precision munitions, high explosives and propellants for US, UK and international customers.

Services include complex munition site management for the US Army's Holston and Radford facilities.

US Ship Repair and Modernisation is a major provider of non-nuclear ship repair, modernisation, overhaul and conversions to the US Navy, government and commercial maritime customers. It has six operational sites in the US on the Atlantic, Gulf of Mexico and Pacific coasts, as well as in Hawaii.

BAE Systems Hägglunds focuses on the tracked vehicle market for Swedish and international customers.

FNSS, the Turkish land systems business in which BAE Systems holds a 49% interest, produces and upgrades tracked and wheeled military vehicles for domestic and international customers.

Operational and strategic highlights

-  Roll-out of the first prototype Armored Multi-Purpose Vehicle for the US Army and delivery of the first prototype Amphibious Combat Vehicles for the US Marine Corps

-  34 vehicle sets delivered to the US Army under the M109A7 Paladin self-propelled howitzer programme

-  Commenced production of 30 Assault Amphibious Vehicles for Japan under a $160m (£129m) contract

-  £183m contract received in July for the gun system on the UK Type 26 frigate

-  Secured a $542m (£439m) contract to provide 145 M777 lightweight howitzers to India in January 2017

-  Received a $182m (£147m) contract to refurbish and upgrade 262 CV90 Infantry Fighting Vehicles for Sweden

-  FNSS awarded a contract to supply 260 Anti-Tank Vehicles to the Turkish Land Forces worth more than €278m (£237m)

-  The arrival of a new dry dock at the San Diego shipyard to expand capabilities for servicing US Navy ships

Financial performance

Financial performance measures as defined by the Group

		2016	2015
Sales	KPI	£2,874m	£2,779m
Underlying EBITA	KPI	£211m	£177m
Return on sales		7.3%	6.4%
Operating business cash flow		£58m	£100m
Order intake1	KPI	£3,308m	£2,737m
Order backlog1	KPI	£4.6bn	£3.9bn

Financial performance measures defined in IFRS²

		2016	2015
Revenue		£2,783m	£2,678m
Operating profit		£182m	£142m
Return on revenue		6.5%	5.3%
Cash flow from operating activities		£129m	£144m

-   Sales in the year declined by 8% to $3.9bn (£2.9bn). The sales reduction in the naval ship repair business was less than expected, with stronger volumes through our Norfolk yard.

-   The business has delivered an improved return on sales of 7.3% (2015 6.4%). Whilst further charges had to be taken in the year on the commercial shipbuilding programmes, these were partly offset by provision releases, primarily on the Radford munitions contract. The net impact of these charges and releases was 1.3 percentage points on return on sales.

-   Cash conversion of underlying EBITA was impacted by the use of provisions on the commercial shipbuilding programmes and of customer advances on the CV90 Norway contract, along with the investment, now completed, on the new floating dry dock facilities in San Diego.

-   Order backlog¹ was almost unchanged at $5.7bn (£4.6bn). The trading out of the five-year Multi-Ship, Multi-Option contracts in the ship repair business and on the CV90 Norway programme were largely offset by multiple domestic and international land vehicle awards along with the gun contract for the UK's Type 26 frigate. The Indian M777 lightweight howitzer award for $542m (£439m) was not contracted until January 2017.

1.  Including share of equity accounted investments.

2.  International Financial Reporting Standards.

P06-07 Alternative performance measure definitions

Operational performance

US Combat Vehicles

The business continues to hold a number of key franchise programmes, including the long-standing Bradley Infantry Fighting Vehicle, the M109 family of vehicles, the M88 Heavy Recovery Vehicle, the Assault Amphibious Vehicle and the more recent Armored Multi-Purpose Vehicle, with future prospects including the Amphibious Combat Vehicle 1.1 programme.

We have rolled out the first of 29 vehicles under the engineering and manufacturing development phase of the US Army's Armored Multi-Purpose Vehicle programme. The potential contract value for the initial phase of the programme is $1.2bn (£1.0bn), including options for 289 vehicles in Low-Rate Initial Production. Anticipated Full-Rate Production is expected to approach 3,000 vehicles.

We continue to execute on the $670m (£542m) Low-Rate Initial Production phase of the M109A7 Paladin self-propelled howitzer programme to deliver 66 vehicle sets and an additional howitzer. At 31 December, 34 vehicle sets, together with the additional howitzer, had been delivered. The US Army's total acquisition objective through all programme phases is for 581 vehicle sets.

The business is executing a $286m (£231m) Engineering Change Proposal to address the space, weight, power and cooling limitations of the Bradley family of vehicles as well as preparing the vehicle for communication network upgrades. In 2017, the customer's production decision is expected regarding the upgrade of approximately 500 vehicles over a three-year period from 2019. 

In April, we received a contract valued at $110m (£89m) from the US Army to convert 36 M88A1 recovery vehicles to the M88A2 Heavy Equipment Recovery Combat Utility Lift Evacuation Systems (HERCULES) configuration. Deliveries are scheduled to begin in November 2017. 

Along with industry partner Iveco Defence, BAE Systems has begun deliveries of the first of 16 Amphibious Combat Vehicle 1.1 prototypes under a $104m (£84m) contract for the engineering and manufacturing development phase of the programme. Testing by the US Marine Corps will start in the first half of 2017 and final down-selection to a single manufacturer is expected in 2018. 

Leveraging our expertise in amphibious capabilities, we were awarded contracts totalling $160m (£129m) for the production of 30 new Assault Amphibious Vehicles (AAV) and the upgrade of two AAV for the Japanese Ministry of Defence. 

In April, we received a contract valued at $50m (£40m) to deliver 236 M113 upgrade kits and technical support for the Brazilian Army, with contract deliveries scheduled to complete in 2018. In September, the Brazilian government awarded the business a $54m (£44m) contract to provide 32 upgraded M109A5+ self-propelled howitzers.

Weapon Systems and Munition Operations

BAE Systems remains a leading provider of gun systems and precision strike capabilities, and continues work with the US Navy on the development of the Hyper Velocity Projectile and the Electromagnetic Railgun.

In April, we received multiple awards from the US Navy, including a $38m (£31m) contract modification to provide additional missile canisters for the Mk 41 Vertical Launching System and a $72m (£58m) contract to produce and deliver propulsor systems for Block IV Virginia Class submarines.

In August, the US Navy exercised a $50m (£40m) contract option to upgrade four additional Mk 45 gun systems, bringing the total value of the contract to $130m (£105m) for ten systems.

In July, we received a £183m contract from the UK Ministry of Defence to provide the gun system known as the Maritime Indirect Fire System for the Royal Navy's Type 26 frigate. 

Deliveries to the Swedish government of the 24 Archer artillery systems were completed in December. In September, the Swedish government announced its intent to purchase the additional 24 Archer systems originally contracted for Norway. 

In February 2017, we completed the acquisition of IAP Research, an engineering company focused on the development and production of electromagnetic launchers, power electronics and advanced materials.

In the complex infrastructure operations business, we manage the US Army's Radford and Holston munitions facilities. In the year, we were awarded $85m (£69m) in contract modifications at Holston for waste water management, followed by a $146m (£118m) contract in October to construct a nitric acid recovery facility to increase capacity for producing insensitive munitions. In September, we received a $69m (£56m) contract for continued production of MK 90 propellant grain.

In November, the US and Indian governments signed a Letter of Agreement for the Foreign Military Sale of 145 M777 lightweight howitzers and, in January 2017, we received the $542m (£439m) contract from the US government to supply these howitzers to the Indian Army. We have selected Mahindra & Mahindra as our supplier to establish an assembly, integration and test facility in India in support of the Indian Prime Minister's 'Make in India' initiative.

US Ship Repair and Modernisation

We are a leading provider of ship repair and modernisation services. In 2016, we secured firm orders across our US shipyards totalling approximately $1.1bn (£0.9bn) and the business remains well positioned to compete for future contracts in the maritime domain. 

We continue to adjust our workforce and facilities to meet the evolving demand for US Navy ship repair. To support the US Navy's re-balance to the Asia-Pacific region, a new dry dock arrived in our San Diego shipyard in December and became operational in February 2017. The USS New Orleans, an amphibious dock landing ship, will be the first vessel to be serviced in the dry dock under a $37m (£30m) contract received in November. 

In commercial shipbuilding, we continued to experience challenges in the year, taking a $73m (£54m) charge against ongoing contracts. Workforce adjustments continue as these contracts near completion. Six ships have now been accepted by customers, with the remaining two ships expected to complete in 2017. 

In January 2017, we completed the sale of our BAE Systems San Francisco Ship Repair business enabling us to focus on our larger, retained shipyards providing strong capabilities and support to our key maritime customers, including the US Navy.

BAE Systems Hägglunds

Series production continues on the $865m (£700m) contract awarded in 2012 for the supply of CV90 Infantry Fighting Vehicles to Norway.

In addition to production of CV90 vehicles, we have been awarded contracts for refurbishment and upgrade. In March, we were awarded a contract valued at $182m (£147m) to refurbish 262 CV90 vehicles for the Swedish Army and, in September and October, two contracts from the Danish government for sustainment and upgrade of its CV90 fleet. In December, the Swedish government awarded us a $68m (£55m) contract for the integration of Mjölner mortar systems on 40 CV90s, and we received a contract from the Dutch government for testing and verification of Active Protection Systems on CV90s.

In June, we were awarded a contract to produce 32 BvS10 military vehicles for Austria, the fifth nation to acquire the all-terrain vehicle.

FNSS

FNSS, our land systems joint venture based in Turkey, has continued to perform under its $524m (£424m) programme to produce 259 8x8 wheeled armoured vehicles for the Royal Malaysian Army.

Production remains on schedule under a contract to upgrade M113 tracked armoured personnel carriers for the Royal Saudi Land Forces and, in 2016, the business received a contract to integrate mortar systems.

In support of a customer contract awarded in 2015 to supply the PARS Wheeled Armoured Vehicle, work has begun to deliver 8x8 and 6x6 vehicles in a number of configurations.

In June, FNSS was awarded a contract worth more than €278m (£237m) to supply 260 Anti-Tank Vehicles to the Turkish Land Forces. The scope of the project includes both tracked and wheeled vehicles equipped with anti-tank guided missile system turrets. 

In December, FNSS signed an €84m (£72m) contract with ASELSAN, a Turkish defence electronics company, for amphibious tracked armoured vehicles for the Turkish Land Forces.

Looking forward

In the US, following the two-year Bipartisan Budget Act signed in 2015, there are signs of a return to growth in defence budgets, with the new administration expected to further increase defence and security spending.

The business is underpinned by strong positions on key franchise programmes. In the land domain, this includes the US Army's Armored Multi-Purpose Vehicle, Bradley and Paladin programmes and the CV90 and BvS10 export programmes from our BAE Systems Hägglunds business.

FNSS has grown its order book with both domestic and international orders secured during 2016.

These long-term contracts, our strong franchise in tracked vehicles and opportunities in international markets, position the land business for a return to growth in the medium term.

In the maritime domain, the Group has a strong position on naval gun programmes and US Navy ship repair. Additional dry dock ship repair capacity has been established in San Diego to support the US Navy's re-balance to the Asia-Pacific region.

The business continues to pursue a range of domestic and international opportunities in combat and amphibious vehicles, weapons systems and maritime support services.

Platforms & Services (UK)

Platforms & Services (UK), with 30,100 employees¹, comprises the Group's UK‑based air, maritime, land and shared services activities.

Military Air & Information includes programmes for the production of Typhoon combat and Hawk trainer aircraft, F-35 Lightning II manufacture and support, support and upgrades for Typhoon, Tornado and Hawk aircraft, and development of next-generation Unmanned Air Systems and defence information systems.

Maritime programmes include the construction of two Queen Elizabeth Class aircraft carriers, five River Class Offshore Patrol Vessels and seven Astute Class submarines for the Royal Navy, the design and production of the Dreadnought Class submarine and Type 26 frigate, and in-service support, including the five-year contract secured in 2014 for the delivery of services at HM Naval Base, Portsmouth.

Land (UK) provides combat vehicle upgrades and support to the British Army and international customers, and designs, develops and manufactures a comprehensive range of munitions products servicing its main customer, the UK Ministry of Defence, as well as international customers. The business also develops and manufactures cased‑telescoped weapons through its CTA International joint venture.

Operational and strategic highlights

-  £1.0bn of orders for our workshare on 28 Typhoon aircraft for Kuwait

-  Partnership arrangement for support to the UK Typhoon fleet expected to be worth at least £2.1bn over a ten-year period

-  F-35 Lightning II orders worth £637m, including Lot 10 production and construction of engineering and training facilities in the UK, and the UK selected as European regional avionics and component repair hub

-  £472m extension to the Type 26 frigate demonstration phase contract and UK government commitment to manufacture eight ships

-  £287m contract awarded for two additional Offshore Patrol Vessels, including support services for the five-ship programme

-  Reactor core successfully loaded on the fourth Astute Class submarine

-  £1.3bn of funding received for Dreadnought Class submarine design, initial manufacture, materials and facilities investment

-  Down-selected as one of two contenders for the Challenger 2 Life Extension Programme

-  £445m order on the Munitions Acquisition Supply Solution partnering agreement for five years of supply

Financial performance

Financial performance measures as defined by the Group

		2016	2015
Sales	KPI	£7,806m	£7,405m
Underlying EBITA	KPI	£810m	£721m
Return on sales		10.4%	9.7%
Operating business cash flow	KPI	£199m	£220m
Order intake1	KPI	£8,024m	£4,944m
Order backlog1		£17.8bn	£17.8bn

Financial performance measures defined in IFRS²

		2016	2015
Revenue		£7,699m	£7,319m
Operating profit		£780m	£756m
Return on revenue		10.1%	10.3%
Cash flow from operating activities		£385m	£289m

-   The year's sales of £7.8bn were 5% higher than 2015. The increase came from the expected ramp up on F-35 Lightning II deliveries and Saudi trainer aircraft. Activity and milestone performance on the submarine programmes was ahead of plan. There was also a higher level of intercompany activity under the Saudi support contracts which is eliminated at the Group level.

-   The return on sales was 10.4% (2015 9.7%).

-   Cash performance was better than expected, with an operating business cash inflow of £199m (2015 £220m). Consumption of customer advances occurred on the Omani, Saudi and European Typhoon contracts, albeit some early receipts on the Omani contract mitigated that to a limited extent.

-   Order backlog¹ was stable at £17.8bn (2015 £17.8bn). Sales trading on the Typhoon aircraft and aircraft carrier programmes was replaced by the ten-year UK Typhoon support award and Kuwait Typhoon subcontract.

1.  Including share of equity accounted investments.

2.  International Financial Reporting Standards.

P06-07 Alternative performance measure definitions

Operational performance

Military Air & Information

In the year, 16 Typhoon aircraft were delivered from the UK final assembly facility, of which 11 were delivered to Saudi Arabia. Cumulative aircraft deliveries to the UK, Germany, Italy and Spain total 232 of the contracted 236 Tranche 2 aircraft and 33 of the contracted 88 Tranche 3 aircraft. 

The Oman Typhoon and Hawk aircraft programme is on track for commencement of deliveries in 2017. 

Orders totalling £1.0bn have been received via Eurofighter from our Italian Eurofighter partner, Leonardo, for BAE Systems' share of work on the 28 Typhoon aircraft for Kuwait covering airframe manufacture, support, capability upgrade and Electronically Scanned (E-Scan) radar integration work. 

Typhoon's capabilities continue to be enhanced with the ongoing integration of the Captor E-Scan radar and the Storm Shadow, Meteor and Brimstone 2 missiles as part of European capability delivery programmes. Development towards the Royal Air Force Centurion standard continues, which will enable transition of capability from Tornado to Typhoon. 

We have continued to support our UK and European customers' Typhoon and Tornado aircraft and their operational commitments. A ten-year partnership arrangement with the Ministry of Defence to support the UK Typhoon fleet, expected to be worth at least £2.1bn, was signed in July.

On the F-35 Lightning II programme, we completed delivery of 55 aft fuselage assemblies for the Low-Rate Initial Production Lot 9 and 10 contracts. Additional orders were received for Lot 10 during the year, worth £168m, with full contract award expected in 2017 following agreement of the front-end contract between Lockheed Martin and the US government. The proposal for Lot 11 has been submitted to Lockheed Martin in advance of negotiations expected to complete in 2017. A £118m contract to build engineering and training facilities at RAF Marham in Norfolk, UK, has been secured, with work scheduled to be completed in 2018 in readiness for the arrival of the UK's first F-35 Lightning II aircraft. In November, the F-35 Joint Programme Office announced that it had chosen the UK as a major repair hub for the maintenance, repair, overhaul and upgrade of F-35 Lightning II avionics and components, during the period 2021 to 2025 on a global basis and from 2025 onwards for the Europe region.

Support continues to be provided to users of Hawk trainer aircraft around the world. A long-term support contract for the Royal Air Force's UK fleet of Hawk fast jet trainer aircraft was announced in the year and we continue to deliver against all contractual milestones. 

In 2016, the Indian Navy and Air Force received three and ten Hawk aircraft, respectively, completing the delivery of all 57 aircraft built under licence by Hindustan Aeronautics Limited (HAL). Negotiations continue with HAL for the supply of 32 aircraft kit sets which will result in aircraft built under licence by HAL for the Indian Air Force and Indian Navy.

In March, we welcomed the announcement by the UK and French governments of a €2bn (£1.7bn) programme to build operationally representative unmanned combat air system demonstrators. This will secure highly-skilled engineering jobs and the first phase is anticipated to commence in 2018.

The UK technology programme for the air sector continues to progress with a successful set of demonstrations in 2016 and further order intake has been received to develop critical systems and capabilities for future unmanned systems and other aircraft.

In Turkey, following a pre-contract study phase between BAE Systems and Turkish Aerospace Industries, we have signed a heads of agreement to collaborate on the first design and development phase of an indigenous fifth-generation fighter jet for the Turkish Air Force. When on contract, this will have a value in excess of £100m.

Maritime

On the aircraft carrier programme, good progress has been made on commissioning HMS Queen Elizabeth's key systems and the business is working with the Ministry of Defence to prepare the support solution in advance of her expected arrival at HM Naval Base, Portsmouth, in 2017. On HMS Prince of Wales, all of the blocks are now assembled, with large volume installation activities under way. Sea trials on the aircraft carriers are expected to complete in 2017 and 2019, respectively. 

In preparation for the manufacturing contract for the Type 26 frigate, a £472m extension to the demonstration phase contract was secured in March, covering detailed design activities and enabling us to subcontract for key equipment with companies throughout the supply chain. The engineering design programme continues to progress to enable commencement of manufacture of the first ship in 2017. The programme currently employs more than 1,000 staff. 

Under a heads of terms signed in November, BAE Systems and the Ministry of Defence reached agreement in principle on the award of a contract reflecting the government's intention to build eight Type 26 frigates on the Clyde and a further two River Class Offshore Patrol Vessels. The Offshore Patrol Vessels were contracted in December for £287m, including support services for the five-ship programme. 

Progress has been maintained on the manufacture of the first three Offshore Patrol Vessels, FORTH, MEDWAY and TRENT. The programme supports shipbuilding skills and provides a bridge for the business between the aircraft carrier programme and manufacture of the Type 26 frigate. 

Under the Maritime Support Delivery Framework contract, in place until March 2019, we provide services at HM Naval Base, Portsmouth, and support to half of the Royal Navy's surface fleet. Achievement of target cost remains on track. 

BAE Systems manages the support, maintenance and upgrade of the Royal Navy's fleet of Type 45 destroyers.

Progress continues on the £270m Spearfish torpedo upgrade demonstration and manufacture phases, with the demonstration phase currently forecast to complete in 2019.

The first three of seven Astute Class submarines are in operational service with the Royal Navy, with the reactor core load on boat four completed in the second half of the year. Further funding of £228m for the sixth and seventh boats was received in the year. Negotiations for full pricing of the sixth and seventh boats have commenced.

The Ministry of Defence, BAE Systems and Rolls-Royce have signed a heads of terms to set up a Dreadnought Build Alliance documenting the UK government and industry's commitment to the delivery of the Dreadnought Class submarine programme, the replacement for the Royal Navy's Vanguard Class submarine fleet, and setting out an organisational and managerial structure and series of commercial principles necessary to deliver it.

Functional and spatial design continues to advance on the Dreadnought Class submarine. During 2016, £1.3bn of funding was received for continued design, initial manufacture of the first boat, material commitment and facilities investment. Preparations for the manufacture of Dreadnought include a major programme of building works at the Barrow site, with contracts in place totalling more than £300m. The UK government's commitment to the Dreadnought programme was endorsed by Parliament during the year. 

Land (UK)

The business provides ongoing support to previously-supplied armoured vehicles and bridging systems, with orders of £56m received in the year. In the UK, the business has been down-selected as one of two contenders to deliver the first stage of the Challenger 2 Life Extension Programme and, in the overseas market, the business secured a multi-year contract for support and maintenance to the Latvian fleet of Combat Vehicle Reconnaissance (Tracked) vehicles purchased from the UK Ministry of Defence.

The first 29 of 515 40mm cased-telescopic cannons were delivered to the Ministry of Defence by CTA International, a 50% joint venture between BAE Systems and Nexter.

The business continues to provide UK and international customers with a full range of light and heavy munitions. We have concluded pricing negotiations on our 15-year Munitions Acquisition Supply Solution partnering agreement with the Ministry of Defence, worth £445m.

Looking forward

Platforms & Services (UK) has an order backlog of long-term committed programmes and an enduring support business. The Strategic Defence and Security Review announced in November 2015 provided clarity, continuity and stability for the UK contracted business and has been consistently implemented through long-term contract awards and commitments.

In Military Air & Information, sales are underpinned by Typhoon and F-35 Lightning II aircraft production and in-service support. There are opportunities to secure further Typhoon export sales building on the purchase of 28 aircraft by Kuwait.

In Maritime, sales are underpinned by the design and subsequent manufacture of the Type 26 frigate and long-term contracts on Queen Elizabeth Class aircraft carriers, River Class Offshore Patrol Vessels, and Astute and Dreadnought Class submarines. The through-life support of existing and new platforms, together with their associated command and combat systems, provides a sustainable business in technical services and mid-life upgrades.

The Land (UK) business is underpinned by the 15-year Munitions Acquisition Supply Solution partnering agreement with the Ministry of Defence secured in 2008 and continues to pursue upgrade programmes with a focus on the Challenger 2 main battle tank.

Platforms & Services (International)

Platforms & Services (International), with 13,700 employees¹, comprises the Group's businesses in Saudi Arabia, Australia and Oman, together with its 37.5% interest in the pan‑European MBDA joint venture.

In Saudi Arabia, the business provides operational capability support to the country's air and naval forces through UK/Saudi government-to-government programmes. The Saudi British Defence Co‑operation Programme and Salam Typhoon project provide for multi-year contracts between the governments.

In Australia, the business delivers production, upgrade and support programmes for customers in the defence and commercial sectors across the air, maritime and land domains. Services contracts include the provision of sustainment, training solutions and upgrades.

In Oman, the business is developing its position building on a long history of relationships with the Omani armed forces through the provision, support and upgrade of defence platforms and cyber security services. Business generated in Oman is executed through our relevant reporting segments.

MBDA is a leading global prime contractor of missiles and missile systems across the air, maritime and land domains.

Operational and strategic highlights

-  BAE Systems celebrated 50 years in Saudi Arabia

-  11 Typhoon aircraft delivered on the Salam programme in the year

-  Continued provision of support agreed under the Saudi British Defence Co-operation Programme to the Royal Saudi Air Force and Royal Saudi Naval Forces through to 2021, against which we have booked initial order intake in 2016

-  BAE Systems Australia selected to provide maintenance, repair, overhaul and upgrade to support a range of F-35 Lightning II system components

-  Awarded a contract for the Risk Mitigation Activity phase of the Land 400 vehicle competition in Australia

-  Contracts totalling A$430m (£252m) awarded for sustainment and upgrade of Anzac Class frigates under the Warship Asset Management Alliance

-  UK Ministry of Defence awarded MBDA a contract for additional Common Anti-air Modular Missiles

-  MBDA signed two significant contracts in Qatar for naval air defence and coastal battery defence systems

-  MBDA secured weapons package orders with India as part of agreed export contracts for Rafale aircraft

Financial performance

Financial performance measures as defined by the Group

		2016	2015
Sales	KPI	£3,943m	£3,742m
Underlying EBITA	KPI	£400m	£335m
Return on sales		10.1%	9.0%
Operating business cash flow	KPI	£435m	£164m
Order intake1	KPI	£6,175m	£3,046m
Order backlog1		£13.1bn	£10.2bn

Financial performance measures defined in IFRS²

		2016	2015
Revenue		£3,037m	£2,957m
Operating profit		£365m	£299m
Return on revenue		12.0%	10.1%
Cash flow from operating activities		£473m	£193m

-   Sales of £3.9bn were 5% up over 2015. The trading increase comes from the higher levels of support to the Salam Typhoon aircraft now in service and weapon volumes from MBDA.

-   Underlying EBITA of £400m (2015 £335m) has moved the return on sales back above 10% (2015 9.0%). The 2015 result included charges totalling £53m in respect of the impairment and rationalisation taken in the Australian business.

-   Operating business cash flow was strong at £435m (2015 £164m), although accelerated receipts from 2017 on Saudi support and the MBDA Qatar programme were major factors.

-   Order backlog¹ increased to £13.1bn (2015 £10.2bn) as initial order intake was booked for the renewal of the five-year support contract in Saudi Arabia.

1.  Including share of equity accounted investments.

2.  International Financial Reporting Standards.

P06-07 Alternative performance measure definitions

Operational performance

Saudi Arabia

On the Salam Typhoon programme, 68 of the contracted 72 aircraft had been delivered at 31 December. Typhoon capability expansion is progressing to schedule. 

The Typhoon support contracts are operating well, meeting all contractual metrics. 

Through the Saudi British Defence Co-operation Programme, the business continues to support the operational capabilities of the Royal Saudi Air Force and Royal Saudi Naval Forces. The contract for Hawk aircraft signed in 2012 continues on schedule, with 14 aircraft delivered and accepted at 31 December. Manufacturing for the second batch of 22 aircraft, awarded in 2015, is progressing to schedule. Under this contract, we will undertake the final assembly of these aircraft in Saudi Arabia.

Under the Royal Saudi Naval Forces' Minehunter mid-life update programme, acceptance of the second ship was completed in the second half of the year. Work on the third and final ship is progressing to plan, with acceptance expected in the second half of 2017.

Agreement has been reached with the Saudi Arabian government for BAE Systems to continue to provide support services to the Royal Saudi Air Force and Royal Saudi Naval Forces under the Saudi British Defence Co-operation Programme for a further five years, against which we have booked initial order intake in 2016. Discussions with the UK government and the Saudi Arabian customer are under way to define the details of this follow-on contract.

Under the planned reorganisation of our portfolio of interests in a number of industrial companies in Saudi Arabia, Riyadh Wings Aviation Academy LLC has acquired a 4.1% shareholding in a Group subsidiary, Overhaul and Maintenance Company, and is expected to acquire a further interest up to a maximum of 49%. The reorganisation supports our strategy to expand the customer base of our In-Kingdom Industrial Participation programme, promoting training, development and employment opportunities in line with Vision 2030. 

The Saudi Arabian In-Kingdom Industrial Participation programme continues to make progress. During 2016, there has been further capability and knowledge transfer on the Typhoon platform and planning is well advanced for the transfer of other capabilities and work into our In-Kingdom partner companies. All of these activities are aligned with our long-term industrialisation strategy, as well as the Saudi Arabian government's National Transformation Plan and Vision 2030.

Australia

The consolidation of operating divisions announced in 2015, from three to two, was completed during the year.

We have continued to provide in-service support to the Navy's two Landing Helicopter Docks under a four-year support contract awarded in 2014. Final acceptance of these vessels is scheduled in 2017.

The fifth Anzac Class frigate to be modernised under the current Anti-Ship Missile Defence programme, HMAS Parramatta, has completed final sea trials and has been accepted into service by the Commonwealth. Completion of the upgrade programme is expected in 2017.

In April, the Australian government signed an agreement for the sustainment and upgrade of the Anzac Class frigates under the Warship Asset Management Alliance. We are a significant participant and the agreement underpins our engineering and complex project management capabilities. We were awarded contracts totalling A$430m (£252m) in the year.

In April, the Australian government announced that our Type 26 Global Combat Ship had been shortlisted as one of three designs for its SEA 5000 Future Frigate programme and, in August, a contract was signed with the Commonwealth to further refine the design as part of a competitive evaluation process.

In November, BAE Systems was chosen to provide maintenance, repair, overhaul and upgrade services to support a range of system components on the F-35 Lightning II aircraft. Our scope of work involves global sustainment services for life support components and sustainment services for the South Pacific region across avionics and digital mission systems and electrical systems components. This award follows our selection, in 2015, as the Pacific regional prime contractor to undertake airframe maintenance, repair, overhaul and upgrade.

In May, the Royal Australian Air Force celebrated its Hawk aircraft fleet achieving the significant milestone of more than 100,000 flying hours. We support the fleet as the systems integrator, including logistics, maintenance, repair, overhaul and upgrade. From July, our scope of work was expanded to include operational maintenance, a reflection of this successful long-term partnering arrangement.

In 2016, the government announced that we were one of two tenderers successfully down-selected on the Land 400 Phase 2 Combat Reconnaissance Vehicle programme.

We are engaged in discussions with the Australian government regarding the forward delivery schedule for the delayed JP 2008 Phase 3F programme for enhanced satellite communications services to the Australian Defence Force.

Oman

The Oman Typhoon and Hawk aircraft programme, being undertaken by Platforms & Services (UK), is on track for commencement of aircraft deliveries in 2017. Separately, we continue to fulfil our legacy industrial participation obligations in Oman through delivery of an agreed training and knowledge transfer programme.

MBDA

In 2015, the German government announced its intention to acquire a ground-based air defence system based upon the Medium Extended Air Defence System missile defence system being developed by MBDA in partnership with Lockheed Martin. MBDA has now submitted its proposal for the development of this system. 

In a significant development for the Aster surface-to-air missile family, France and Italy have jointly launched development of the Aster 30 Block 1 NT (New Technologies) missile which will provide enhanced capabilities against the ballistic missile threat. 

MBDA is responsible for the delivery of the majority of the UK's complex weapons requirements. During the year, a number of contracts have been awarded to MBDA, including a contract to supply Advanced Short-Range Air-to-Air Missiles (ASRAAM) for F-35 Lightning II aircraft, a development phase contract for SPEAR 3 (a multi-purpose stand‑off strike weapon for the F-35 Lightning II aircraft), and a demonstration and manufacture contract for the supply of the Sea Ceptor air defence weapon system for the Type 26 frigate.

The UK Ministry of Defence awarded MBDA a contract for additional Common Anti-air Modular Missiles to support its land requirements.

The Meteor Beyond Visual Range Air-to-Air Missile achieved its most significant milestone to date during the Farnborough International Airshow in 2016 when it was officially declared in operational service on Swedish Air Force Gripen JAS 39 combat jets. 

Two significant contracts were signed with Qatar, including the supply of Aster/VL Mica air defence systems and the Exocet MM40 Block 3 anti-ship missile for the Naval surface fleet, as well as a Missile Coastal Defence System.

MBDA has secured an aircraft weapons package contract from India and continues to pursue weapons package orders as part of export contracts for Typhoon and other aircraft platforms. 

Looking forward

In the Kingdom of Saudi Arabia, following agreement of the budget for the next five years of the Saudi British Defence Co-operation Programme, we expect to sustain our long-term presence through delivering current programmes, further industrialisation and developing new business in support of the Saudi military forces. We are focused on our ongoing commitment to support the national objectives of local skills and technology, increasing employment and developing an indigenous defence industry, and will structure our business and portfolio of interests in Saudi Arabia to meet this long-term strategy.

In Australia, the business is now structured around long-term sustainment and upgrade activities and we are progressing further opportunities with the Australian government to provide leading defence build and support capabilities.

MBDA has a strong order book that underpins future growth built on the effective partnerships it has established with its domestic customers and recent export success. The business will look to further this domestic and export strategy in the air, maritime and land domains.

Page references used above refer to the Annual Report 2016 that can be viewed on the Company's website.

Consolidated income statement

for the year ended 31 December

		2016			2015
	Notes	£m	Total £m		£m	Total £m
Continuing operations
Sales	1	19,020			17,904
Deduct Share of sales by equity accounted investments	1	(2,427)			(2,719)
Add Sales to equity accounted investments	1	1,197			1,602
Revenue	1		17,790			16,787
Operating costs	2		(16,274)			(15,622)
Other income	4		136			227
Group operating profit			1,652			1,392
Share of results of equity accounted investments	1		90			110
Underlying EBITA	1	1,905			1,683
Non-recurring items	1	(12)			26
EBITA		1,893			1,709
Amortisation of intangible assets	1	(87)			(108)
Impairment of intangible assets	1	-			(78)
Financial (expense)/income of equity accounted investments	5	(28)			3
Taxation expense of equity accounted investments	6	(36)			(24)
Operating profit	1		1,742			1,502
Financial income		713			241
Financial expense		(1,304)			(653)
Net finance costs	5		(591)			(412)
Profit before taxation			1,151			1,090
Taxation expense	6		(213)			(147)
Profit for the year			938			943
Attributable to:
Equity shareholders			913			918
Non-controlling interests			25			25
			938			943
Earnings per share	7
Basic earnings per share			28.8p			29.0p
Diluted earnings per share			28.7p			28.9p

Consolidated statement of comprehensive income

for the year ended 31 December

		2016				20151
	Notes	Other  reserves2 £m	Retained earnings £m	Total £m		Other  reserves2 £m	Retained earnings £m	Total £m
Profit for the year		-	938	938		-	943	943
Other comprehensive income
Items that will not be reclassified to the income statement:
Subsidiaries:
Remeasurements on retirement benefit schemes		-	(1,468)	(1,468)		-	864	864
Tax on items that will not be reclassified to the income statement	6	-	260	260		-	(258)	(258)
Equity accounted investments (net of tax)		-	(53)	(53)		-	18	18
Items that may be reclassified to the income statement:
Subsidiaries:
Currency translation on foreign currency net investments		1,287	-	1,287		260	-	260
Reclassification of cumulative currency translation reserve on disposal		-	-	-		20	-	20
Fair value loss on available-for-sale financial assets		-	-	-		-	(1)	(1)
Amounts credited to hedging reserve		96	-	96		11	-	11
Tax on items that may be reclassified to the income statement	6	(17)	-	(17)		(2)	-	(2)
Equity accounted investments (net of tax)		45	-	45		(74)	-	(74)
Total other comprehensive income for the year (net of tax)		1,411	(1,261)	150		215	623	838
Total comprehensive income for the year		1,411	(323)	1,088		215	1,566	1,781
Attributable to:
Equity shareholders		1,408	(348)	1,060		216	1,541	1,757
Non-controlling interests		3	25	28		(1)	25	24
		1,411	(323)	1,088		215	1,566	1,781

1.  Re-presented in accordance with Amendments to IAS 1: Disclosure Initiative.

2.  An analysis of other reserves is provided in note 22.

Consolidated statement of changes in equity

for the year ended 31 December

	Attributable to equity holders of the parent
	Issued share capital £m	Share premium £m	Other reserves1 £m	Retained earnings £m	Total £m	Non-controlling interests £m	Total equity £m
At 1 January 2016	87	1,249	5,277	(3,624)	2,989	13	3,002
Profit for the year	-	-	-	913	913	25	938
Total other comprehensive income for the year	-	-	1,408	(1,261)	147	3	150
Share-based payments (inclusive of tax)	-	-	-	59	59	-	59
Net sale of own shares	-	-	-	3	3	-	3
Ordinary share dividends	-	-	-	(670)	(670)	(24)	(694)
Partial disposal of shareholding in subsidiary undertaking	-	-	-	(3)	(3)	9	6
At 31 December 2016	87	1,249	6,685	(4,583)	3,438	26	3,464
At 1 January 2015	87	1,249	5,061	(4,555)	1,842	35	1,877
Profit for the year	-	-	-	918	918	25	943
Total other comprehensive income for the year	-	-	216	623	839	(1)	838
Share-based payments	-	-	-	44	44	-	44
Net sale of own shares	-	-	-	1	1	-	1
Ordinary share dividends	-	-	-	(655)	(655)	(40)	(695)
Disposal of non-controlling interest	-	-	-	-	-	(6)	(6)
At 31 December 2015	87	1,249	5,277	(3,624)	2,989	13	3,002

1.  An analysis of other reserves is provided in note 22.

Consolidated balance sheet

as at 31 December

	Notes	2016 £m	2015 £m
Non-current assets
Intangible assets	8	11,264	10,117
Property, plant and equipment	9	2,098	1,698
Investment property	10	110	120
Equity accounted investments	11	299	250
Other investments		6	6
Other receivables	12	351	275
Retirement benefit surpluses	20	223	193
Other financial assets	13	345	107
Deferred tax assets	14	1,251	985
		15,947	13,751
Current assets
Inventories	15	744	726
Trade and other receivables including amounts due from customers for contract work	12	3,305	2,940
Current tax		5	4
Other financial assets	13	204	105
Cash and cash equivalents	16	2,769	2,537
Assets held for sale		2	20
		7,029	6,332
Total assets	17	22,976	20,083
Non-current liabilities
Loans	18	(4,425)	(3,775)
Other payables	19	(1,027)	(1,020)
Retirement benefit obligations	20	(6,277)	(4,694)
Other financial liabilities	13	(102)	(72)
Deferred tax liabilities	14	(10)	(13)
Provisions	21	(372)	(354)
		(12,213)	(9,928)
Current liabilities
Loans and overdrafts	18	-	(237)
Trade and other payables	19	(6,540)	(6,162)
Other financial liabilities	13	(212)	(130)
Current tax		(311)	(315)
Provisions	21	(234)	(301)
Liabilities held for sale		(2)	(8)
		(7,299)	(7,153)
Total liabilities		(19,512)	(17,081)
Net assets		3,464	3,002
Capital and reserves
Issued share capital	22	87	87
Share premium		1,249	1,249
Other reserves	22	6,685	5,277
Retained earnings - deficit		(4,583)	(3,624)
Total equity attributable to equity holders of the parent		3,438	2,989
Non-controlling interests		26	13
Total equity		3,464	3,002

Approved by the Board on 22 February 2017 and signed on its behalf by:

I G King                       P J Lynas

Chief Executive              Group Finance Director

Consolidated cash flow statement

for the year ended 31 December

	Notes	2016 £m	20151 £m
Profit for the year		938	943
Taxation expense	6	213	147
Research and development expenditure credits	4	(22)	(65)
Share of results of equity accounted investments	1	(90)	(110)
Net finance costs	5	591	412
Depreciation, amortisation and impairment	2	345	460
Profit on disposal of property, plant and equipment	2,4	(5)	(28)
Profit on disposal of investment property	2,4	(12)	(41)
Profit on disposal of non-current other investments		-	(1)
Loss on disposal of businesses	2	-	24
Cost of equity-settled employee share schemes		55	44
Movements in provisions		(122)	(139)
Decrease in liabilities for retirement benefit obligations		(214)	(234)
Decrease/(increase) in working capital:
Inventories		95	(6)
Trade and other receivables		(93)	60
Trade and other payables		(263)	(542)
Taxation paid		(187)	(116)
Net cash flow from operating activities		1,229	808
Dividends received from equity accounted investments	11	38	41
Net interest paid		(200)	(173)
Purchase of property, plant and equipment, and investment property		(408)	(359)
Purchase of intangible assets		(82)	(54)
Proceeds from sale of property, plant and equipment, and investment property		45	136
Proceeds from sale of non-current other investments		-	1
Purchase of subsidiary undertakings		-	(5)
Equity accounted investment funding	11	(5)	(8)
Proceeds from sale of subsidiary undertakings		6	34
Cash and cash equivalents disposed of with subsidiary undertakings		-	(13)
Net cash flow from investing activities		(606)	(400)
Net sale of own shares		3	1
Equity dividends paid	22	(670)	(655)
Dividends paid to non-controlling interests		(24)	(40)
Cash inflow from matured derivative financial instruments		480	12
Cash inflow from movement in cash collateral		32	3
Cash inflow from loans		-	1,625
Cash outflow from repayment of loans		(286)	(1,135)
Net cash flow from financing activities		(465)	(189)
Net increase in cash and cash equivalents		158	219
Cash and cash equivalents at 1 January		2,537	2,313
Effect of foreign exchange rate changes on cash and cash equivalents		76	5
Cash and cash equivalents at 31 December	16	2,771	2,537
Comprising:
Cash and cash equivalents		2,769	2,537
Cash classified as held for sale		2	-
Cash and cash equivalents at 31 December	16	2,771	2,537

1.  Re-presented to reclassify interest paid from operating to investing activities.

Notes to the Group accounts

28. Related party transactions

The Group has a related party relationship with its directors and key management personnel (see below), equity accounted investments (note 11) and pension schemes (note 20).

Transactions occur with the equity accounted investments in the normal course of business, are priced on an arm's-length basis and settled on normal trade terms. The more significant transactions are disclosed below: 

	Sales to related party			Purchases from related party			Amounts owed by related party			Amounts owed to related party1			Management recharges1
Related party	2016 £m	2015 £m		2016 £m	2015 £m		2016 £m	2015 £m		2016 £m	2015 £m		2016 £m	2015 £m
Advanced Electronics Company Limited	27	22		95	46		-	-		-	-		-	-
CTA International SAS	6	15		-	-		4	11		-	-		-	-
Eurofighter Jagdflugzeug GmbH	997	1,417		3	-		41	37		126	65		-	-
FADEC International LLC	79	72		-	-		-	-		-	-		-	-
Gripen International KB	-	-		-	-		18	19		16	14		-	-
MBDA SAS2	24	23		199	286		2	6		608	367		16	17
Panavia Aircraft GmbH	64	53		79	47		4	2		-	-		-	-
	1,197	1,602		376	379		69	75		750	446		16	17

1.  Also relates to disclosures under IAS 24, Related Party Disclosures, for the parent company, BAE Systems plc. At 31 December 2016, £631m (2015 £405m) was owed by BAE Systems plc and £119m (2015 £41m) by other Group subsidiaries.

2.  Amounts owed to related party excludes £285m (2015 £217m) included within amounts due to long-term contract customers.

The Group considers key management personnel as defined under IAS 24, Related Party Disclosures, to be the members of the Group's Executive Committee and the Company's non-executive directors. Fuller disclosures on directors' remuneration are set out in the Annual remuneration report on pages 84 to 98. Total emoluments for directors and key management personnel charged to the Consolidated income statement were: 

	2016 £'000	2015 £'000
Short-term employee benefits	19,389	14,831
Post-employment benefits	1,931	2,021
Share-based payments	5,744	4,144
	27,064	20,996

Note and page references used above refer to the Annual Report 2016 that can be viewed on the Company website.

Cautionary statement: All statements other than statements of historical fact included in this document, including, without limitation, those regarding the financial condition, results, operations and businesses of BAE Systems and its strategy, plans and objectives and the markets and economies in which it operates, are forward-looking statements. Such forward-looking statements, which reflect management's assumptions made on the basis of information available to it at this time, involve known and unknown risks, uncertainties and other important factors which could cause the actual results, performance or achievements of BAE Systems or the markets and economies in which BAE Systems operates to be materially different from future results, performance or achievements expressed or implied by such forward-looking statements. BAE Systems plc and its directors accept no liability to third parties in respect of this report save as would arise under English law. Accordingly, any liability to a person who has demonstrated reliance on any untrue or misleading statement or omission shall be determined in accordance with Schedule 10A of the Financial Services and Markets Act 2000. It should be noted that Schedule 10A and Section 463 of the Companies Act 2006 contain limits on the liability of the directors of BAE Systems plc so that their liability is solely to BAE Systems plc.

 

END

 

 

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