Good morning to everyone. Welcome to the 2018 interim results. I'll start with the operational and strategic updates for the half year. Pete, as usual, will cover the detailed financials, and we'll take your questions at the end of the presentation. It's been a busy six months pursuing new business opportunities. The significant wins on the Australian SEA 5000 and U.S. Amphibious Combat Vehicle programs, combined with the launch of the U.K. Combat Air Strategy, are great news for the group. These will give us a strengthened position on a number of our major programs and provide good momentum going into the second half and beyond. We've continued to increase our focus on operational excellence, competitiveness, and technology. During the year, we've taken steps to improve performance in some parts of the business by strengthening management and improving our focus on program execution.
In this transition earnings year, our full year group guidance is maintained. In our key markets, the outlook is positive. The recently announced U.K. Combat Air Strategy is a significant milestone for the air sector. It sends a strong signal of intent about the U.K.'s commitment to retaining a leading position in combat air. This strategy enables long-term planning in a key strategic part of the business. The U.K. government and industry, excuse me, will jointly invest in cutting-edge, next-generation combat air systems, giving our air sector clear direction and focus. The first phase of the U.K.'s modernizing defense program was announced in July. It sets the context and the direction of travel for further work the MOD will do in follow-on phases, and importantly, it re-emphasizes the U.K.'s commitment to strong defense and security.
Our U.K. business is, of course, centered around our long-term contracted positions in air and maritime. We continue to execute on these while working with our customers to address their affordability challenges. In the U.S., the Department of Defense Fiscal Year 2018 budget and the President's proposal for 2019 maintain the positive momentum in support of military readiness and modernization. The group's U.S. portfolio remains very well aligned with customer priorities and growth areas, and it provides greater certainty to our medium-term planning assumptions. In our international markets, defense and security remains high on national agendas, with a number of countries responding to an increasingly uncertain security environment. Execution on our three strategic priorities is key to the successful delivery of our order backlog, to deliver future growth, and in evolving the business to become stronger, smarter, and sharper.
A year into the role, you will have heard me say that operational excellence must be at the forefront of everything we do. There's been some notably strong performances in our Electronic Systems and air sectors, but also a few disappointments. I can assure you we're taking the necessary steps to tidy up some issues on certain longstanding programs. In the U.S. Platforms & Services business, the issues on the commercial ship build program have meant we've now moved the last ship to our Jacksonville yard for completion. The lessons have been learned, and we have not, and have no intention of contracting for any such further work. At our Radford Munitions facility, challenges with a subcontractor have led to the business taking a charge in the first half. As the rest of the sector enters a period of growth, we strengthen management to help address these issues.
In U.K. shipbuilding, legacy programs are completing, and the business is ramping up production on Type 26. Operational performance has been below expectation on the Offshore Patrol Vessels, with a GBP 15 million charge taken in the period. As we approach the end of the U.K. carrier program, expected cost outturn now means we'll trade profit at a more conservative level than previously planned. Management has again been strengthened, including Andrew Wolstenholme , appointed as Group MD, Maritime and Land. Andrew has a clear remit to improve operational performance, bringing, as he does, a strong track record of delivering large capital projects. Our Applied Intelligence business achieved a much improved first-half performance. The restructuring actions are returning the business to profitability. More broadly, the streamlined structure in place from the start of the year is driving focus and performance in each of our three key priority areas.
Within procurement, global and national category managers are now in place, and we're obtaining efficiencies through supply chain rationalization and enhanced data analytics. Importantly, we're also starting to see the benefits of increasing collaboration across the group. Winning the Australian SEA 5000, now Hunter class, is an obvious success. Through the Chief Technology Officer, the group is driving greater collaboration across the business and with our customers, partners, and academia. We now have technology plans in place that support the sector strategies. These provide the structure to increase research and development spend over the longer term and to work with our customers in developing technologies for use today and into the future. We'll achieve this through a blend of self and jointly funded customer programs and a pipeline of investment opportunities and targeted bolt-on acquisitions. These are the same charts that we put up during the prelims.
They outline the strength and medium-term outlook of our key franchises and contracted programs. We've strengthened these positions in the past six months through contract wins and progress made on a number of our major opportunities. Pulling out the key updates. In Electronic Systems, as demonstrated at the Investor Day, demand for our products is growing, and the portfolio is well-aligned with U.S. defense requirements. The ACV contract win has strengthened our already robust outlook in combat vehicles, and the U.S. ship repair business continues to be well-supported by the U.S. budget outlook. Typhoon production is expected to be stable based on the current order book and anticipated finalization of the Qatar order. We continue to pursue further opportunities, and as I've said before, the potential pipeline for Typhoon looks as positive as it has in quite some time.
Further orders would drive growth back into this highly capable platform as we move into the next decade. The U.K.'s Future Combat Air System is designed to be highly interoperable. It will work alongside Typhoon and F-35. Investment in Typhoon will continue as we introduce evolving technologies that will feature in a new combat air system. This will ensure Typhoon continues to advance, remaining the backbone of European air defense for decades to come. On F-35, the ramp in production over the next three years is on track, and we continue to work on long-term support solutions with our industrial partners and customers. In Australia, the SEA 5000 win will drive strong growth into that business. In maritime, contracting for Astute Boat 7 and receipt of further Dreadnought funding underlined our long-term contracted positions in this sector. In cyber, Applied Intelligence is on track to achieve improved returns.
An overview for the first half. The significant business wins and the launch of the U.K. Combat Air Strategy will give us a strengthened position on a number of our major programs. This provides good momentum into the second half of the year and beyond. I'll say again that this is a transition earnings year. We're driving the strategic priorities hard and taking the necessary steps to address the operational issues on some longstanding programs. Our clear and consistent strategy and capital allocation policy is delivering results. We have a large order backlog, and with a positive outlook for defense budgets in a number of markets, the group has a strong foundation to deliver growth and sustainable cash flow. I'll now hand over to Pete to run through the half-year financials. Over to you, Pete.
Thank you, Charles, and good morning, everybody. As Charles has mentioned, whilst there has been some mixed performance in the first half, and I'll highlight that as we go through the numbers, I do want to reiterate the point here that the group is maintaining its earnings guidance for the year. These results and the 2017 comparatives are now under our new sector structure, and they are prepared under the new IFRS 15 accounting standard. There has been the headwind of a weaker U.S. dollar, and for reference, the U.S. dollar rate averaged 138 in the first half year, compared to 126 last. The headline numbers and compared to the first half of 2017, sales reduced to GBP 8.8 billion. That's down 3% on a constant currency basis, and as expected, that's due to the reduced level of Typhoon production activity.
Underlying EBITA of GBP 874 million was 6% lower than last year on a constant currency basis. Underlying finance costs in the first half reduced to GBP 101 million, and that's primarily for lower charges arising from our share of equity accounted investments and on the weaker dollar. Underlying earnings per share were at GBP 0.198, and that's with an effective first half tax rate of 17%. Our full-year planning rate remains at 18%. We put a bridge chart highlighting the major movements in EPS from the first half of 2017 into the presentation materials. There was an operating cash outflow in the first half of GBP 436 million, and net debt at June the 30th stood at GBP 1.9 billion, and I'll cover the cash position on subsequent charts. Order backlog has increased over the last six months to GBP 39.7 billion.
The GBP 5 billion Qatar Typhoon and Hawk contract and initial SEA 5000 award have yet to be booked. Finally, the interim dividend has been increased to GBP 0.09 per share. That's up 2% on last year's interim. There were a limited number of items impacting the balance sheet in the first half year and two particular points on working capital. Firstly, as you recall, at the end of last year, there was an operating cash flow benefit from accelerated receipts and timing of VAT payments totaling some GBP 400 million. All of that has reversed, as expected, in the first half. Secondly, there was a ramp-up in activity ahead of production deliveries in the second half, particularly in the U.S. businesses. On pensions, the accounting deficit at the half year is reduced to GBP 3 billion.
Discount rates have increased by 20 basis points in the U.K. and by 50 basis points in the U.S. U.K. inflation and mortality assumptions have further improved. As you all know, this has no impact on the funding position of our pension schemes. What we have done, though, is append a chart to the presentation which sets out the accounting assumptions made and the movements in deficit over the last six months. One last point on the balance sheet. The Williamstown and Mobile shipyards are now shown as assets held for sale. Moving on to cash, this slide sets out the movement from our net debt position of GBP 752 million at the beginning of the year. The operating business cash outflow was GBP 436 million. Interest and tax payments were GBP 227 million. 2017's final dividend, paid in June, was GBP 415 million.
All the other cash flow movements, primarily for exchange translation, totaled GBP 91 million. We closed at June 30th with gross debt of GBP 4 billion, cash of GBP 2.1 billion, and net debt of GBP 1.9 billion. The cash flow performance of the five sectors is shown here. I'll turn to this when I cover the results of each of the sectors. Just to note, the cash outflow for pension deficit funding in the period, reported through the head office numbers, was GBP 138 million. Now moving on to the sectors. I'll cover the year-to-date performance here and move to the full-year outlook a little later. The first of those sectors is Electronic Systems, and the numbers here in U.S. dollars. Sector sales of $2.5 billion are up 9% over last year.
Growth in the defense businesses was at 11%, as the F-35 and APKWS programs ramp up and classified activity expands. The return on sales achieved was at 14.3%. Cash conversion of EBITDA in the first half reflects the usual second half bias. We therefore expect an improved cash conversion level over the full year. Order backlog grew again to $7.1 billion, following awards for 17,500 APKWS units and F-35 LRIP funding. Sorry, F-35 LRIP 13 funding. The Cyber & Intelligence sector comprises the U.S. intelligence and security business, together with BAE Systems Applied Intelligence. Again, the numbers here in U.S. dollars. In aggregate, sales of $1.12 billion were down 6% on a constant currency basis. Sales in the U.S. business were down 4%, the customer's decision to end the desktop environment services contract having had an impact.
In the Applied Intelligence business, sales declined by 10% as top-line pursuit has been stepped back and refocused in order to enhance the bottom line. The aggregate margin for the sector was improved to 5.9%. The U.S. business delivered a strong 9% margin in the first half. As expected, Applied Intelligence reduced reported losses from GBP 23 million in the first half of last year to GBP 4 million this year. The business remains on track for a break-even position by year-end. Cash flow conversion remains strong. Order backlog reduced to $2.6 billion. As I mentioned in the U.S. intel and security sector, order backlog has been adjusted for that closed-out services contract. In the Platforms & Services U.S. sector, sales were broadly unchanged at $1.9 billion.
As expected, there's a significant second-half sales bias with combat vehicle production ramp up, particularly on Paladin M109 and ACV, as well as on M777 for India. Margin performance for the first half year was at 4.1%. A contractual dispute with a subcontractor on the Radford facilities construction program and further slippage on the final ship under the commercial ship build contracts have both required charges in the first half. Other than for those two items, margin performance would have been in line with the previous half year. First half cash flow reflects the utilization of the provisions created against the U.S. commercial ship programs and inventory build ahead of the stronger second half deliveries. Order backlog has increased to $6 billion, primarily on awards for the Amphibious Combat Vehicle contract for the U.S. Marine Corps, Paladin full-rate production long-lead items, and Bradley. Moving to the air sector.
Sales were down 11% at GBP 3.3 billion. As expected, production activity on Typhoon for the European, Saudi, and Oman contracts has largely completed. The F-35 program is ramping up to plan, and Middle East support volumes continue to grow. As we all know, the adoption of IFRS 15 has introduced a change in the method of revenue recognition. Sales now being linked to cost and activity rather than customer deliveries. However, profit or margin is continuing to be recognized progressively based on the mitigation and retirement of risk. The high return on sales of 13.9% is largely reflective of this new IFRS 15 approach, with some profit trading coming through on contracts with minimal sales. A sustainable margin expectation for the air sector remains as per our guidance.
The GBP 167 million of cash outflow in the period reflects full consumption of the GBP 300 million of early receipts seen in 2017 on the KSA support program and utilization of advances on the residual Typhoon export contracts. Order backlog stands at GBP 18.9 billion, marginally down on trading of the long-term Typhoon support contracts for the U.K., Saudi Arabia, and Oman. Sales in the maritime businesses for the first six months of GBP 1.45 billion are little change from 2017. Whilst activity levels on the carrier program are reducing, that is largely offset by increases on the submarine programs. EBITA in the first half was disappointing at GBP 93 million, with a return on sales of 6.4% against our guidance range of 8%-9%.
As outlined by Charles, we have taken a charge of GBP 15 million against the five-ship Offshore Patrol Vessels contract, and we are now trading the carrier program at a more conservative level than planned. There was an operating cash outflow of GBP 196 million, and that includes the reversal of the GBP 100 million VAT timing benefit seen last year, and annual funding of the U.K. munition supply contract is scheduled for December. Order backlog has increased to GBP 9.5 billion, following the awards for Astute Boat 7 pricing and further funding under the Dreadnought program. There is, for reference, a chart providing the summary of the trading performance of all five sectors in sterling, and the numbers for HQ appended to the presentation posted on the web.
This penultimate chart is the same chart that is presented back in February, which sets out our guidance for each of the sectors through to the end of the year. Whilst we expect no changes to the overall group earnings guidance, we do expect to see the execution issues encountered in the first half year to be covered primarily by higher earnings in the Electronic Systems business and the Cyber & Intelligence sector. As we advised in February, our U.S. dollar planning rate for the year was at 140, and we have now amended that to 135. In aggregate, we continue to expect the group's 2018 underlying earnings per share to be in line with our 2017 performance, as restated under IFRS 15, and with a small incremental benefit from exchange translation. This final chart highlights the cash utilization we expect in 2018.
The first column shows the position at the half year. The second column provides the full year guidance. In respect of operating cash flow, we continue to expect capital expenditure to be above depreciation levels, including investments in expanded production facilities in our U.S. Electronic Systems and combat vehicles businesses. On advances in the first half year, the GBP 300 million of timing benefits seen in 2017 from those accelerated receipts has reversed. Advances on the Typhoon export contract have been utilized. For the full year, we do expect the usual annual funding for U.K. munition supply. We are assuming a small down payment on the Qatar contract. Clearly, conclusion of the financing arrangements on that contract will determine the outcome here.
On other working capital, the 2017 VAT timing benefit has reversed, as expected in the first half. There has been working capital build-up, particularly in the U.S. businesses, which we expect to reverse in the second half. The final operating cash flow item is the year's pension deficit funding, which will now be around $0.4 billion. That has slightly increased, as to be tax efficient, we are accelerating one year of U.S. deficit contributions from 2019 into 2018. Moving on to the non-operating cash flow items, outflows for interest and tax are expected to total around GBP 400 million. Dividend payments to shareholders will be around GBP 700 million. Overall, 2018 is expected to see little change to the 2017 net debt level. On that point, I will turn it back to you, Charles.
Thanks, Pete. In conclusion, we are maintaining group-level guidance. Taking actions to address issues on some long-standing programs. We are making good progress in strengthening the order outlook. We have achieved significant business wins. We have got an evolving pipeline of opportunities. Increasing strategic clarity around U.K. combat air. The group is diverse, resilient. Has an exceptionally well-placed portfolio, especially in the growing U.S. market. Our balance sheet is strong. The pension position is stable and well-managed. Our strategy is clear. We have got the right focus areas, which we are driving hard. This strong foundation and order backlog provides the basis to deliver growth and sustainable cash flow. Thank you. Pete and I will now take your questions.
First question from Jaime Rowbotham from Deutsche Bank. Please go ahead.
Morning, gentlemen. Two questions, please. Both essentially clarifications. The first is just on the margins in air. If I understand correctly, on delivering two Omani Typhoons in the first half, you've fully retired risk and booked profit on those aircraft as you always would have, but under IFRS 15, the revenues that you would have typically booked alongside these profits has effectively been reallocated to the past and matched with historic costs incurred, hence a better margin. Presumably, we should therefore expect more of the same in the second half of 2018 when you deliver the other two aircraft to Oman, but then margins back to normal, if you like, from 2019, as it's going to be a number of years before you're delivering Typhoons again to export customers as prime contractor. Second, just going back to that bridge on cash, Pete, if we may.
You've kept your guidance in the bridge for both advances and working cap. Just to make sure I've understood, on advances, after a GBP 500 million outflow in the first half, I think you said we should expect the U.K. munitions funding together with new advances from the likes of Qatar to bring you back into the flat to down GBP 300 million range. On working cap, after GBP 400 out in the first half, presumably it's better cash conversion in Platforms & Services, U.S. as you absorb inventories, ramp up combat vehicle production, ship repair work, to get you back to down GBP 100 in the full year. Perhaps you could just clarify. Thanks.
Well, thanks, Jaime. I'm glad you've been on the IFRS 15 course. You're absolutely right on the margin issue there on IFRS 15 and it's two contracts, actually. It's the Oman contract for Typhoon, and it's also on the Tornado attack contract. Clearly with IFRS 15 now, it's not about when you deliver, it's about when you incur costs and activity. We've had sales on Oman booked effectively in prior years. What we're now seeing is we deliver the last two aircraft, the last two Sorry, of the 12, there were two delivered in the first half, and the last two have actually been delivered in July. The risk retirement, as we end that contract, you've seen the benefit of that coming through in the margin in the first half.
If you look at that margin, which was 13.9%, if you were to try and normalize to a pre-IFRS 15, then that's basically about 150 basis points of benefit. You'd be at around a 12.5% margin, which is why I say, the sustainable range of margin for Air remains in our 11%-13% guidance range. Very strong return on sales in the first half, but the profit is exactly as we would have expected. It is a bit of a strange one on IFRS 15, but your understanding is spot on. In terms of the bridge on cash, if you look at what happened in advances in the first half, as expected, we had that GBP 300 million reversal on the Saudi support contracts. We have utilized the last of the advances on Oman, and some on the Kuwait subcontract that we've got.
That gives you the half a billion of outflow in the first half. Moving into the second half, we do get the annual funding we get on land munition supply, which is around GBP 100 million. That comes in in December. There'll be some other small movements, and then it comes down to Qatar. We give a range of 0-0.3. Clearly, depending upon the size of the down payment on Qatar, it will determine whereabouts we fall in that 0-0.3 position. If it's a good down payment, it could be better than that. We'll be able to give you clarity on that in the coming weeks, hopefully. On working capital, yes, you've seen a working capital adverse movement of GBP 400 million in the first half, GBP 100 million of that, again, was the VAT timing issue from last year.
The other GBP 300 million, most of that is in the U.S. businesses, in Electronic Systems, and also in the combat vehicles businesses. As we see production deliveries and that inventory effectively turn into cash, then we'd expect to see that working capital movement reverse in the second half, which is why we're still looking for the same sort of guidance for our cash as we did back in February. The only real difference, is what I talked about on U.S. pension. We're moving $80 million of cash flow out of 2019 into 2018. The big driver at the end of the day then will be Qatar.
Got it.
Yeah.
Thanks. Thanks, Steve.
Okay. Thanks, Jaime.
Thank you. We will now take our next question from Nick Cunningham, Agency Partners. Please go ahead. Your line is open.
Sorry. Hi. Thank you very much. Sorry, I had my mute on. I've got two questions, one more concrete and the other one slightly longer term. You're looking for very strong momentum into the second half because you had that GBP 0.02 of U.S. specifics, of cost impacts in the first half, and you're aiming to recover all of that. Is there any reason why we shouldn't extrapolate that trend into 2019? In other words, you suggest that you have very strong momentum into 2019. Are there any specific negatives we should be aware of that might detract from that? That's one question. The second one, which is slightly more conceptual, if you like, but great frigate win in Australia, looking like good chances in Canada, probably New Zealand behind that. It becomes a Commonwealth frigate, i.e., not European, not U.S., and not solely British.
When we look at Tempest as a program, should we be thinking ex-Europe and ex-U.S. about that? Maybe about Commonwealth participation, Gulf country participation right from the get-go rather than those export customers later on. Thank you.
Maybe do reverse order. I think we've been very clear with Tempest, U.K. government and Secretary of State, when it was announced at Farnborough, that we'd be open-minded with respect to partnerships. It's fair to say we've already received a fair amount of interest from countries outside our traditional European partners. We'll be looking over the next few months with U.K. government as to who those long-term partnerships will be, with an aim to make some decisions by the middle of next year. I think we remain very much open-minded.
Yeah, on the momentum point, Nick, obviously, you know we're not going to give guidance for 2019. Clearly, we do have some parts of the business going very well, particularly Electronic Systems. We've got good growth coming in combat vehicles. We talked before about long-term growth trajectories. It's looking good in the U.S.
We talked of high single digit in both of those businesses previously. We talked about the U.K. being fairly stable. You come into those international growth programs. Clearly, getting that momentum and securing some of those programs in the first half is very helpful. Historically, we have a bit of a first half, second half, and we expect a similar story this year.
Sorry, just to follow up briefly on that latter point, the headwind from lower profit recognition on the carrier program in the U.K., and obviously anything left of the ramp down in Typhoon, those aren't sufficient to the headwind in 2019 to dilute significantly the U.S. growth?
No. Be the simplest answer of the day.
Thank you. Cheers.
Thank you. We will now take our next question from Robert Stallard from Vertical Research. Please go ahead, your line is open.
Thanks much. Good morning. First question, on the U.S. Some of your peers over in America have been noting that the DoD has been pulling forward some of the anticipated demand. Now they have an FY 2018/2019 budget trajectory, or at least one that's been firmed up. Have you been seeing any sign of this in the U.S. business? Then secondly, maybe to follow up from Nick's question, the carrier margin dilution or carrier margin change, should we assume that that continues going forward into 2019 and beyond? Thank you.
I'll maybe just take the Carrier. I think we've taken a prudent position on Carrier, and as we reach the end of the program, I think we'd be disappointed to see further changes beyond that. In fact, we're obviously pushing hard on the schedule. It's a two-ship program and is, in fact, traded as a two-ship program. The emphasis was put on schedule in the first ship, which was the right thing to do, and there were efficiency savings essentially assumed in the second-in-class, the HMS Prince of Wales, which is fair to say have proven harder to achieve than expected, which has caused us to take what I would say now is a more prudent position on the trading of that contract. In the U.S., I think we feel that we've got a very well-positioned portfolio.
We actually have [Gerry] here. I don't know, [Gerry], do you want to just maybe address some of that particular question about bringing forward potentially some budgets?
We're seeing in two particular areas an acceleration. In our Electronic Systems business, we're seeing an acceleration, and the precision-guided munitions, things like APKWS, the THAAD seekers. In the U.S., we anticipate combat vehicles in FY 2019 that the Army will move to fund 1.5 brigade combat teams rather than one combat team per year. We are seeing acceleration a little bit in 2018, a little bit more as we get to combat vehicles in 2019.
Thank you.
Thanks.
That's great. Thanks, [Gerry].
Thank you. We will now take our next question from Christian Larsen from Bernstein. Please go ahead. The line is open.
Thank you. Good morning, everyone. Just a couple questions regarding Saudi potential orders. I was just wondering if you had any sort of update on the timing for finalizing a contract for a 48 Typhoon aircraft, then also if there have been any changes or developments with respect to Saudi ground vehicles, particularly Bradleys and M109s.
Well, I think with respect to Batch II, it's fair to say that we continue to have constructive discussions. We think we've got a very compelling proposition around in-kingdom capability, we're looking to obviously take that forward. I'm not going to give a specific timing here other than to say that we continue to have a constructive dialogue, we feel we have a very attractive proposal on the table. With respect to land vehicles, [Gerry], do you want to take that again?
Sure
movements.
With the elimination of the congressional hold on sales of arms to Saudi, the M109, we are now trading again, price and availability data. We forecast that that will take six to nine months, so that would be FY 2019, and then the Bradley FMS case would follow that probably within a year.
Thank you, [Gerry].
Okay, great. Thanks.
Thank you. We will now take our next question from Andrew Humphrey from Morgan Stanley. Please go ahead. The line is open.
Hello. Thanks very much. A couple from me. Charles, you mentioned in prepared remarks that you are working on development of Typhoon capabilities through the continuing life of the aircraft. I wonder, is that an allusion to developing nuclear capabilities that might inform a German decision on Tranche 4? Can you give us some milestones and a potential timeline for that? The second one is on Electronic Systems. If I look back at the first half 2017 results, adoption of IFRS 15, it looks like you have a more even sort of first half, second half seasonal profile in Electronic Systems last year. I wonder, could you talk about how that develops in terms of seasonality in FY 2018, given that you have clearly got some pretty strong momentum in the business?
Finally, could you just give us a rundown of how you sit today in terms of order book coverage for the second half in the various divisions?
I will take the first one on Typhoon. What I was really referring to in the prepared remarks was development of capability on the Typhoon platform that will segue into the Combat Air Strategy as we see it. Things like avionics improvements, radar improvements, the general fit-out of the aircraft. Those are the kind of things that we will continue to develop as the Typhoon platform, weapons capabilities, a lot of things that we are putting on, as you see already, in the Project Centurion program for the RAF. Beyond that, there is a number of upgrades planned. I think the point to make is the Typhoon platform is already a very capable platform and will just get better in the years to come, and those developments will obviously see their way over onto the new Future Combat Air System. That is really what I was referring to there.
On Electronic Systems, first half, second half, do you want to take that one, Pete?
I mean, IFRS naturally does give a bit of a smoothing in effect because it's no longer linked to deliveries. I think, if you look at the increasing backlog we have in ES, and therefore the execution of it, if you're growing backlog, you should be growing sales. If we grew the backlog in the first half, you'd expect to see second half sales higher than the first half. In terms of the backlog coverage, fortunately, I've been going through my notes here, and I've got some of that for each of the sectors. In terms of how much sales coverage we've got in backlog today for each of the sectors, on ES, we're 93% covered. PNS in the U.S., we're at 94%, Air 95%, and Maritime 98%.
Even in the more shorter-term services business, in the intelligence and security sector in the U.S., we're at 90%, and Applied Intelligence, we're 87%. Overall, this is all about execution in the second half. We're not reliant on big order wins to get the sales that we've got in this guidance.
Very good. Thanks, Pete.
Thank you. Ladies and gentlemen, if you would like to ask a question, you can do so now by pressing Star + 1. That's Star + 1, as a reminder, to ask a question. We will now take our next question from Rami Myerson from Investec. Please go ahead. The line is open.
Good morning, gentlemen.
Morning.
Morning, Rami.
A couple of questions. Just on the Qatar agreement, we are already halfway through Q3. Do you still expect to sign that by the end of Q3? The second question on Combat Air Strategy, have you received any funding, and are you starting to trade any revenues from the CAS strategy?
On Qatar, I think we're still confident around the timeframe that we gave before. I think that remains our position. On the Combat Air Strategy, at this point, it's been a very small amount of trading. It's fair to say that there is a number of programs that we're already working on as U.K. programs that form part of the Combat Air, they all sort of segue in under the overall Combat Air Strategy. At this point, it's pretty small.
Yeah. There was an initial order placed on the day of the announcement, which gave us funding through to the end of March next year. I think it was about GBP 90 million, from memory.
Yeah.
Thank you. Maybe just another quick one. There were some comments from the Airbus CEO during the air show about potentially merging Airbus's fighter aircraft business with BAE. Appreciate your thoughts on that.
Yeah, we have a great deal of respect for Tom at Airbus. I think he was reflecting over the course of the show, Some of the missed opportunities from his time. Frankly, I think some of those comments were taken out of context Some assumptions made on them. I think he subsequently clarified his position in further announcements.
Thank you very much.
Thank you. We will now take our next question from Sandy Morris from Jefferies. Please go ahead. The line is open.
Oh, thank you. Morning, everyone. Really tedious on cash. There isn't a build in inventories. Whatever sales we think we're going to trade in the U.S. in the second half aren't in inventories. They're in this trade other and contract receivables, I assume, which is why.
I'll answer that one now, Sandy.
This year. Okay.
Sandy, this again is IFRS 15. As you incur cost, that's inventory, you actually have to take that sale as an unbilled receivable, to use American language here. That still turns to cash when you actually then make a contractual delivery to a customer. If you went round the shop floor and saw stuff around, you call it inventory. IFRS 15 calls it unbilled receivables. If that helps.
Right. Good. Yep. That's all tickety-boo. Here comes the nasty side of me. Does that mean therefore, that actually we were taking profit in the first half on the stuff we've built up? That in actual fact, the incremental acceleration in the second half in the U.S. businesses won't be that marked.
No, we continue to trade profit as and when we retire risk on programs. If we've just, for example, goods come through the door, they hit the shop floor, we are obliged to recognize that as sales. Do we take margin on that? Absolutely not, because we've not done anything with it. We are going to get this difference between when we take sales and when we take margin. We had a margin in the first half of 14.3%. Our guidance is 14%-16%, and as we get volume of scale and we retire risk in the second half, we'll see that margin improve. Certainly, what we target the business is to do. I know it's an accounting complexity, we just have to live with it.
Well, sure, Pete. The big pain in the neck is now under IFRS 15, we just don't have the sort of history that we enjoyed under the old regime. It's going to take us years to build that up again, for old people like myself anyway. The last bit is again, just on whatever signal we're trying to send. I get the U.S. goes well, my instinct is that new work coming through after this transition year will, of course, in air and maritime, generally be at a low level of profit recognition. Then it feels like we ought to be putting R&D up because where we've spent our R&D, it's worked well. I'm just trying to sort of bridle my enthusiasm about profits growth, if you see what I'm getting at.
Well-
R&D
certainly do hope to see profit growth as well. With respect to R&D, we see plenty of opportunities, more fertile ground for further investments in R&D, both ourselves and with our customers. Obviously, the Team Tempest announcement is part of it. Over in the U.S. business, in terms of precision-guided munitions, space resiliency, undersea, there are some areas where we are already increasing our self-funded R&D, and we see further opportunities. I think there'll be very good returns to come from that.
On the margin point, future work, if you think of Maritime, our guidance range there is 89%. If you think a lot of that work comes from a single-source procurement from U.K. MOD and the SSRO profit rate as adjusted for risk, that margin that we're giving there is not inconsistent with those sorts of profit rates. On the air side, it will be all around the execution on long-term programs. It's not just about the original equipment, it's also about the support. We talked before Typhoon, for example, now, I think in the first half year, Typhoon production was down at around GBP 300 million. Support was three times that. It's about execution on those support contracts as much as the risk retirement is on the original equipment.
The key for Maritime is operational excellence and all the things that we're doing to improve that and the management changes that we're making to improve that. I think that'll pay dividends in years to come.
Okay. Have I missed what R&D was in the first half, or is that something we only get at the full year?
You're normally only get it at the full year, but we'll give it to you anyway. It's GBP 95 million of self-funded R&D. That is slightly down against the first half of last year, really in two areas. One, which we deliberately targeted, which was AI, where we've reined back on production, sorry, product development. The other one was on the Advanced Hawk, where we, as you know, we were going through the T-X program. We completed that work in 2017. Clearly, that's not activity we're doing today.
Yeah.
I think to Charles' point, the ramp-up is clearly coming. In particular, coming back to the Future Combat Air Strategy, we will be ramping up our investment there.
There'll be a longer-term trend, but obviously in a period by period, there will be some changes just as certain projects roll in and roll out of it, so.
Yeah. Look, I don't mind R&D going up. This isn't a 2019 story, so I'm not nitpicking.
No, to be fair, Sandy, we agree with you. I think we said that we intend and will be, with this CTO organization, increasing R&D. We have, I think, the full support from the board, and our intention is to do that. It is a great place for us to be investing, in many cases, alongside our customers. There are plenty of good opportunities for us across the group.
Great. Thank you very much.
Thank you. We will now take our next question from David Perry, J.P. Morgan. Please go ahead. Your line is open.
Morning, gentlemen. Just a couple of questions, please. On your slide 19, Pete, your guidance. Nothing's changed, I think I'm correct in saying, from the full year 2017 presentation. In the press release, you do say the mix will come out slightly different, two divisions better, ES and Cyber and Platforms, and Maritime a bit softer. I'm just thinking, you give ranges. Should we just be pushing all of those four divisions to the edge of their ranges, two to the top end, two to the low end, just to give us some flavor there? The second question, please. The aircraft carrier. Maybe bad housekeeping by me, but frankly, I had it as fairly de minimis revenues, GBP 218 with pretty much nothing thereafter. The fact that you've called it out suggests there's probably still some revenue to be traded.
Perhaps you could just give us some color on that. Then just one quick third one. Sorry. You helpfully gave us that GBP 95 million number just now to Sandy. Did you give the previous year? I didn't catch it.
Yeah.
Thank you.
Okay. Do you want to do carrier, I'll do the others?
Guidance, yeah.
Yeah. Okay.
Give me the guidance first.
Guidance, David, you're right. The chart we put up there was deliberately— it is the chart we've had up there before. In terms of the underperformance that you've seen in the first half on P&S U.S. and in Maritime, that'll be covered off by improved top-line Electronic Systems. Don't ramp the margins up, but the top line will be better. We will see improved margins in the Cyber & Intelligence sector, and that's really coming from the U.S. business. As you've seen there, and as I said, we saw a margin of 9% in the first half, versus 8% that I talked to you about in February. We will see some improvement elsewhere. Air will be slightly better. There will be some other improvements in Maritime.
There's a mix of other things, which is why I didn't really want to get— I could have put a brand-new chart up but didn't really see the point. The aim of that chart is really to give some more enduring guidance as years go by. In terms of the R&D number, last year's number was 110. 95 from 110. The two issues are, as I mentioned earlier, one is AI, where we took the numbers down by about GBP 5 million, and then the completion of what we were doing on the Hawk was about GBP 10 million. In terms of carrier activity, I'm surprised you had nothing beyond this year because we've still got another ship to deliver next year.
Basically, the Queen Elizabeth is doing very well, performing very well. We'll be heading over to the U.S. second half of the year for flight trials. The second in class is, roughly speaking, running about two years behind. Yeah, I'm surprised that you don't have anything in the plan for that.
What sort of revenue for 2019, 2020? Does it go to 2021?
2019 is when the ship is due to be accepted, obviously, there'll be some trials and things like that. 2020 is the step-down year, 2019 will be around the GBP 250 million mark.
Which we've always said. That's where we see the increases in the ramp-up in the Type 26 program, which is why we've always maintained that at the top level, Maritime UK stays relatively constant, but under it, you've got carrier trading down and Type 26 increasing, the OPVs in the middle.
Thank you very much. Thank you.
Thank you. We will now take our next question from Andrew Gollan from Berenberg. Please go ahead. Your line is open.
Hi. Thanks for taking my questions. Two for me really. Mainly clarification points. Back to Maritime. The GBP 50 million charge recorded in the period. It was on OPVs. My understanding, which is not very deep on naval construction, but OPVs are relatively less complex projects. Maybe you could explain why that has happened. Secondly, to come back to the commercial ship issues in the period, and the charge taken there, I think if we back work out from your comments on margins, Pete, it sounds like kind of GBP several tens of millions in the period. There has been quite a few charges over the years on these programs, and I don't know on this particular program before, but what's your confidence on the risk around that, closing this out? Maybe when does it complete would probably be the best answer.
I will do the OPVs. I think it is fair to say that they are simpler ships. However, our performance, we had traded as a 5-ship program, and our performance to date on the first in class has not been meeting our expectations, but we have taken steps to address that, as I said, with the strength of management team, and we are seeing the improvements as a result of that. I think it is important for us to then learn the lessons and make sure that as we go into the Type 26 program, that we are absolutely match fit to stand up these more complex warships in a very professional way, and I think the steps that we are taking will position us well for that. With respect to commercial ships, do you want to take that one, Pete? On commercial ships, as you know, we originally had contracts for 8 ships.
Seven are done. We are into the last ship. The ship we talked about has been taken from Mobile into Jacksonville for completion. It then has to go to deep sea trials in the next few months. Beyond that, it is then customer accepted. You can never say never, but the deep sea trials, we'd like to think will be successful, and we'll be off this by the end of the year. That is the aim.
Okay, great. Thanks very much.
Thank you. We will now take our next question from Harry Breach from Raymond James. Please go ahead. The line is open.
Yeah. Morning, Charles and Pete. Can you hear me?
Yeah, we can hear you, Harry.
Yep. Perfect. Just three hopefully quick ones. Firstly, just housekeeping. P&S U.S. Is my basic math right in extrapolating a few of your remarks that the total aggregate of the three charges is around $67 million? Take off about $45 million you called out for the ships, leaves you with $22 million. Is that roughly even between Radford and the ship charge? Second, Team Tempest, I think you touched on the $90 million contract award on the day of the announcement at Farnborough. Was that $90 million award to you guys as prime for the rest of Team Tempest too, so there'd be flow through to Leonardo, Rolls, and the rest, or is it reasonable to assume they would've been separately contracted?
Can you give us a feeling on Team Tempest, sort of rough balance of your development work on that, the rough balance of the self-funded component versus customer funded? Very final one, maybe a little bit more for Charles. Charles, Dreadnought. Can you give us your impression on the sort of pace of milestone achievement and execution on the program at the moment?
Right. Shall I start?
Yeah, P&S U.S. Maybe take that one .
P&S U.S. There's only two elements in P&S U.S. in terms of the charge in that underlying EBITDA. One is in respect of Radford, and the other one is in the commercial ships. The Radford issue is around performance on a new build facility involving a subcontractor. We're not going to divulge what the charge is specifically on that, because clearly that would prejudice any discussions we could have with that subcontractor and wouldn't be in the best interest of our shareholder. If you take your aggregate number, you're about right, but we're not going to give you the split between Radford and commercial ships. On Tempest, the $90 million was for the Team Tempest group of companies.
I think going forward, there's a period here now where we define the next phase of it, as a team of consortium with U.K. government. Then the funding. We've not been specific, as you're aware, as to exactly how much each partner is putting into it, other than to say they are substantial funds alongside U.K. government money, and we all see the opportunity here to really develop a future capability that will position the business well for many, many years to come. We're very keen to participate, as I say, alongside government with that. On Dreadnought, as you're aware, it's a very, very complicated program. I think we are making good progress.
In terms of the design phase and the design-to-build transition, the cut steel, we have a very strong management team in Barrow who are diligently working through these early phases of the program. I'm certainly satisfied with the progress that we're making.
Great. Thank you very much.
Thanks, Harry.
Thank you. There are no more questions in the queue at this time. I will turn the call back to your host.
Very good. Well, thanks to everyone for joining us. I look forward to speaking to you again early part of next year, if not before. Thanks very much. Thank you.