Okay, I think we're ready to kick off. Thank you very much, and good morning, ladies and gentlemen, and welcome to the London Stock Exchange. My name is John Dawson. I am the head of investor relations at Rolls-Royce. It is my pleasure to welcome you to our 2016 full year results presentation, both to those of you joining us here, also joining us online. The agenda for today's presentation is as follows. Warren will kick off and give you some highlights of 2016. David will take you through the financial results in a little bit more detail. Warren will come back with some closing remarks, looking to the future. The presentation should last around 45 minutes. We have got plenty of time at the end for questions. We expect to finish at about 10:15.
We will take questions online as well. If you are joining us through the web and you wish to submit a question, please do. A member of the investor relations team will read it out if it has not already been asked already. Finally, before we kick off, could I ask everybody just to turn off their mobile phones or put them on silent, just to make sure they do not disturb the presentation over the next hour and a quarter. Thank you. I will now hand you over to Warren.
Thank you, John. Good morning, everybody. I will not bother doing the introduction that John has just done. Let us kick off. Recent news flow around Rolls-Royce has been dominated by the announcement that we made in conjunction with the Serious Fraud Office a couple of weeks ago. We wanted to get this out and address this upfront in the discussion. I think the best way of describing it is actually summarized in these two quotes. A quote from me, talking about the business, what we think of what has happened. There is another quote from me elsewhere, about how Rolls-Royce is a completely different business. It is all very well for me to say that. I think it is much better to refer to the quote from the judge who actually said that.
With that, I am not going to talk anymore in this presentation about those events which have dominated the news flow over the last few weeks. I want you all to be under no doubt whatsoever that it is front and center in our minds as a management team and making sure that such things do not happen again is very much a priority. Now a quick snapshot of the results. David is going to talk about these in a lot more detail. Basically, revenues approximately in line with what we and everybody else expected. People across the business have worked very hard during 2016. The net outcome is that cash and profit is a lot better than expected. Yes, indeed, there are some one-offs behind some of those numbers. By the way, there are one-offs in both directions.
We encountered quite a lot of operational challenges, some of which you read about in the newspapers during the year. The fact is that underlying all that, there's some sustained improvement, which means that when those one-offs go in both directions, then we still come in better than expected, and David will go into a bit more depth on that. A reminder of what I said 12 months ago, when standing here in terms of setting some goals for 2016. Three goals, one about focusing on engineering and operational excellence and making sure that we allow our business model to really work leveraging the installed base. Two, make sure we got off to a really good start with our transformation program. Three, understanding that we have a job in hand to rebuild trust and confidence in this business.
Those were the goals that we set out, and now I'm going to step through a few scorecards to illustrate how we've got on in 2016 addressing those objectives. Referring to the first goal about focusing on engineering excellence, operational excellence in aftermarket. In terms of R&D, record expenditure in R&D in 2016. Even though times are tough, we recognize this is an engineering and technology-led business. It's very important that we spend that money, because that money is going into new products that we're bringing to market. We are readying, during this year now, three large engines for our civil business for entry into service very soon. It's very important that we bring those products to market for our future.
It's also important if we're spending all that money on engineering, that we spend it wisely, and we keep getting better at how we spend it. Some examples on the right-hand side of the slide there about the impact of some of those efficiency improvements that we're making. EMO, yes, as far as that digital product definition example is concerned, it will take a few years for the full benefit of this to show through in the results. The underlying improvements have been initiated and actually, a lot of work has taken place. Switching to operational excellence because it's all very well to engineer some great products, but we need to make some money out of delivering them.
That also doesn't come for free, about a third of our CapEx in 2016 spent on new capital equipment to make sure that we can make these things as effectively and competitively as possible. The payback, however, for that capital investment, on the left-hand side of the slide, is that we will achieve increased volume in a reduced footprint, and we will be able to do more with less. During the year, we've communicated a bit and we've highlighted some of the improvements, and there are some improvements on the right-hand side of the slide. I'd like to stress, it's not just about how we spend the money, it's about how we actually do the work that leads to significant improvements in things like assembly lead time. It's also important to say that this isn't just a Civil Aerospace activity.
Yes, we're making some fantastic improvements in how we build our large engines for airplanes, but we're also addressing some other really significant opportunities to make a big difference in other parts of our business. The third part of the focus is about leveraging the business model and making the aftermarket work for us. The important thing is that this is a big chunk of our revenues, and as we look forward, it's a very significant driver of profit and cash. It's very important that we keep that asset base working out in the field. As we look at our fleet of large engines, we do have a young fleet. The flip side of being a young fleet is it's getting older.
As it gets older, the transitions which are natural between the first owner and second owner of these things become much more normal. Because we want to keep those assets operational as much as possible, it's important that we're able to minimize that transition time. We have introduced a dedicated transition team. That dedicated transition team has managed twice as many transitions in 2016 as in 2015 as we seek to minimize the transition time. Also numerous other examples of what we're doing to leverage our installed base. Our second goal was to get off to a really good start on the transformation program. I am pleased that we're announcing this morning that the in-year savings for 2016 were GBP 60 million against our original estimate of GBP 30 million-GBP 50 million. That's a very good start.
More importantly, some of the activities and changes that we undertook during 2016 feed into 2017, which is why we're confident that we can deliver an annualized run rate at the very top end of those GBP 150 million-GBP 200 million expectations for run rates at the end of 2017. As we go into 2018, there'll be a little bit of continued momentum in those activities that we've already done so far. I'm quickly going to step through what's been going on around the business, using some scorecards here. In Civil Aerospace, which is 50% of our business, or thereabout, we overcame some pretty clear headwinds. These were the headwinds that were identified as early as 18 months ago, when I joined the business. They did indeed come to pass, and we overcame some other challenges as well.
In terms of numbers, David will go through the numbers shortly, results slightly ahead of expectations, but pretty much where we expected them to be. A lot of that is caused by the transition from older engines into newer engines. You can see the effect of that is happening both at the OE stage, but also at the aftermarket end as well, where we have new engines growing, but actually the aftermarket revenue from those new engines not really coming through and completely dominating, but being held back a little by the older engines with high margin spares type activity falling off. It's important that we recognize that we've got a big step up to do in 2017. I'll come onto that in a moment.
Our new product introduction's going quite well. It's important that we keep looking at that engineering pipeline and making sure it's in good shape. Two examples. It's worth dwelling a little bit on our Civil Aerospace business, because that is half of the total. The two key drivers of cash over the next 10 years are probably the XWB and the Trent 700. These are at very different stages in their life cycles. We'll look at XWB first and then at Trent 700. On XWB, deliveries in 2016 more or less doubled. At the bottom of the slide there on the bottom left you'll see, however, we've still got this big step up to do in 2017.
It's absolutely essential that in 2016 we achieved the essential improvements in things like lead time to make that volume step up in 2017 possible. We clearly have some more work to do on cost. We will in time benefit from better pricing as we move away from the launch pricing in this engine. Switching to the installed base, obviously from a standing start, more or less, massive change in the size of the installed base for XWB in 2016. I think the important things to note are the 6x increase in installed base by the time we get to 2020. If we look at the backlog of future orders, we've got eight times the current installed base out there in the backlog. This is clearly going to be a very important product for us. Trent 700 is the other big generator.
This engine was launched into service 20 years ago. Clearly we are approaching the end as far as getting these engines installed new onto airplanes is concerned. Interesting to note, however, that we are still working on improving things like the lead time and how long it takes us to build one of these things. In 2017, we will actually enjoy a little bit more volume as we move into this installing, effectively the tail end of the Trent 700 program. The big focus looking forward is about how this engine works in the aftermarket, actually in use. After 20 years, of course, the installed base is still growing.
The other point to note is that even though this has been a 20-year program, it's been a much slower rate of installation than XWB. This is still a relatively young fleet with a very, very long way to go. Defence Aerospace, generally a solid year. I think we'll talk a bit more about the factors driving profit. Fundamentally, we saw a product mix putting downward pressure on profit. We saw a reduction in parts sales. Importantly, what we concentrate our effort on in Defence is really getting close to our customers and strengthening the service support, because it's very important with essentially a large installed base that we work that as hard as possible. Our Power Systems business.
This outperformed our competitors. I remember being sat here a year ago, listening to or receiving lots of questions about how we were going to perform in this business during the year when our competitors were forecasting massive drops. It was broadly flat for the year. The answer is broadly what we gave a year ago. Revenue is flat because volumes in some of the growth areas that we're exposed to are higher than the volume downward pressure in some of those areas, particularly in oil, gas, and commodities that our competitors are exposed to. Because of that, there is a product mix effect because the volume came down a little the mix changed, and our profit is down a little. We still outperformed the peer group.
I'm very pleased with the excellent start that our new leader in that part of the business has made. He's really started injecting some pace and energy into the business in the six to eight weeks that he has been with us. I look forward to much more from that business as we go forward. Marine. The offshore market we know is very, very weak. There are laid-up vessels everywhere. That has a knock-on effect into the merchant space as well. There is really very, very little demand. Lots of the overhauls are being deferred, so it's affecting our service business as well. We have been, however, addressing the operation. Gross margin has actually improved, in percentage terms. In absolute terms, it's down because the size of the business is down.
We have seen improvements in gross margin because our cost reduction activities are bearing some fruit. What we're seeking to do, if you look at the graph on the right-hand side, is say, this is a cyclical business. It's always been a cyclical business. We have, over recent years, become a little bit overexposed to offshore. We have become a little bit larger in terms of fixed cost base than we should ideally be. We are resizing the business and positioning it for the trough of the cycle. We are tilting activity towards new technologies and new adjacent applications. We will benefit from the cycle improving. We will continue to win business, as indeed we are winning business today in adjacent applications, particularly around new technologies such as all-electric ships.
Just a measure of the right sizing is there on the bottom where essentially we will have reduced the headcount by about a third and rationalized facilities. In our Nuclear business, it's been a story of a little bit of increased revenue because more submarine work. Submarines are actually a lower margin activity. We have seen the need to invest in operational improvements. Some of you may remember some pretty nasty headlines from about 12 to 14 months ago around that program. I think we've addressed a lot of those issues. Addressing those issues hasn't come free. We've had to invest a little to fix things. We're continuing to invest in new designs for new opportunities. Things like the small modular reactors represent those opportunities. Overall I'd say it's a year of stabilizing. We've made significant progress in simplifying the structure.
We are investing for the future. We have to have an eye on the future in terms of the technologies and the applications. We also have to keep addressing the operational issues. I think as we look to 2017, it's challenging, but we're on track. We are delivering at volume run rates that allow us to achieve the required volumes in 2017. Our new big programs, we're focused on those new engines for entry into service over the next year or so. Longer term, we're talking about transformation towards a better performing, simpler, and a more resilient business. We absolutely need to continue working on that. Briefly summarizing at this point, I think we've done a good job at addressing the goals set for 2016. Both the key goals in terms of strengthening our focus and getting our transformation program off to a good start.
I hope, alongside that, we're doing a reasonable job at rebuilding confidence and trust in the outside world, but that's for you folks to judge, not us. With that, I'll hand over to David to take us through the numbers in a bit more detail.
Thank you, Warren. I'm going to take you now through a review of each business, the group cash flow and balance sheet, and provide our outlook for 2017. Before I do that, let me just summarize the key elements of group performance. Remember, our percentage change comparisons will be on a constant currency basis unless stated otherwise. Starting with group revenue and profit. Underlying group revenue of GBP 13.8 billion was 2% lower in 2016, reflecting declines in both original equipment revenue and services. By business, Civil Aerospace, Defence Aerospace, and Power Systems revenues were steady, while Marine decreased 24% and Nuclear actually increased by 11%. Our underlying profit before financing at GBP 915 million was 45% lower, largely driven by a reduction in Civil Aerospace profit to GBP 367 million, broadly reflecting the headwinds we've previously communicated.
Profit in Defence Aerospace at GBP 384 million was 8% lower, and that was mainly due to TP400 related program support costs. Power Systems was down 14% year-on-year at GBP 191 million, largely as a result of adverse product mix. The Marine loss of GBP 27 million was driven by continuing weakness in offshore markets, but was actually better than we originally expected due to additional cost actions. Nuclear profit was down 37% to GBP 45 million, due to margin mix in submarines, but also a pretty significant non-repeat of the R&D credit we had last year. Turning now to look at the businesses individually and first starting with Civil. If we start with revenue, overall, our underlying original equipment revenue for Civil Aerospace was flat on a constant currency basis.
Revenue from linked and other engine was actually up 2%, with increased volumes of Trent 900s and a higher number of spare Trent XWB engines sold. Of this, sales of spare engines to joint ventures generated a revenue of about GBP 277 million. This was partly offset by lower Trent 700 volume and also the price reductions on those engines ahead of the introduction of the Trent 7000 on the A330neo. Linked revenues increased by 47%, and that was largely obviously led by the higher volumes of Trent XWBs. Business aviation engine sales were 25% down, reflecting both general market weakness and the transition to newer non-Rolls-Royce powered platforms from our BR710 engines. Volumes of our newer BR725 engine, which powers the Gulfstream G650s, were pretty stable. Finally, the V2500 module revenues did decline by about 10% as production slowed, obviously, again, as Airbus transitions to the A320neo.
Turning to aftermarket. In the aftermarket, the overall result was down 1%. Service revenue from large engines would have actually been up by about 2%, but was down 4% after we adjust for contract accounting effects, which were, however, significantly lower than the prior year. Within this, we saw double-digit growth in revenue from our in-production engines, but that was more than offset by a reduction from the older engines. This included the expected lower utilization of Trent 500 and Trent 800. Time and materials revenue also reduced with fewer engine overhauls across the out-of-production fleet. The business aviation aftermarket was slightly down, and regional jets were down 14% as a result of reduced utilization, primarily by North American operators. However, V2500 service revenues are actually 21% higher, and that reflected a combination of price escalation built into contracts on flying hour payments, together with some increased overhaul activity.
Turning now to gross margins. Overall gross margins for Civil Aerospace were GBP 1.1 billion, or about 16.8% of revenue, which was down GBP 397 million from 2015. Within that, trading margin was down GBP 248 million, with the main revenue and margin headwinds, as I've just highlighted, being as we forecast at the start of the year. We also saw some additional program charges of around GBP 30 million incurred for engines still in development. The lower margin was partially offset by releases of accruals related to the termination in prior years of intermediary services, which totaled about GBP 53 million. Remember, 2015 also benefited from a couple of things, a one-off GBP 65 million release of Trent 1000 CARS impairment write-back and provision release. As you can see from the slide, the in-year net benefit when we look at all of the long-term contract accounting adjustments totaled GBP 90 million.
That was down from GBP 222 million in 2015, a reduction of GBP 132 million. Remember that last year we had that GBP 189 million benefit from the risk methodology adjustment. Technical costs for large engines were GBP 74 million high at an absolute of GBP 98 million, and that included Trent 900 costs and upgrades to the Trent 700 engine management system. This was offset by a GBP 77 million higher contribution from life cycle cost improvements, an absolute of GBP 217 million for the year, compared to GBP 140 million in 2015. As we discussed at the half year, we also recognized the $35 million benefit from a change to our long-term US dollar planning rate. Turning to the rest of the profit waterfall, costs below gross margin were GBP 89 million higher than the previous year. Underlying C&A costs were GBP 43 million higher, and that was primarily due to higher employee incentive costs.
Net R&D charges were GBP 34 million higher, reflecting higher spend on key programs, particularly the Trent 7000. Development cost contributions were also lower, but those were partly offset by some increased R&D capitalization on the Dash 10, Trent 1000. Overall profit before financing and tax was GBP 326 million and GBP 367 million after positive FX. Turning now to Civil trading cash flow. Civil trading cash flow of GBP 43 million positive actually compares to break even in 2015. Within that trading cash flow and before working capital movements, the main change year-over-year was obviously the GBP 445 million reduction in underlying profit. We saw CARS additions at GBP 208 million, which was up GBP 47 million from the prior year.
There was an incremental GBP 237 million spent on PPE and intangibles, primarily certification costs on the XWB-97K and also, as I've mentioned, the R&D capitalization on the Trent 1000. Net long-term contract debtor additions were GBP 160 million lower than in the previous year, and that reflected in part the lower profits on Trent 700 and the lower net long-term accounting adjustments. Overall trading cash flow also benefited from better than expected working capital improvements of GBP 345 million. That was really principally around customer collections and deposits. I'd say that that was really the outperformance that you saw both in Civil and at group level, that outperformance on working capital. Turning now just a little bit into the detail of TCA and CARS. TotalCare net assets actually increased by GBP 230 million to GBP 2.44 billion.
This reflects both linked profits and cash losses on the new engine sales, plus the catch-up adjustments, offset in part by the cumulative amortization charge. To preempt any questions, that's slightly different from the GBP 230 you see in Sorry, from the GBP 246 in the trading cash flow, and that's simply an FX difference within the TotalCare balance. New linked engines of GBP 432 million and contract accounting adjustments of GBP 90 were offset by cash inflows and other net adjustments of GBP 292 million. We ended up, as I said, at GBP 2.44 billion at the end of the year, and we still expect this to peak at our previously guided range of between GBP 2.5 billion and GBP 2.7 billion. The CARS balance increased by GBP 169 million, reflecting higher sales of unlinked Trent XWBs. Turning now to Defence. Starting again with revenue.
Underlying revenue of GBP 2.2 billion was slightly up on the prior year on a constant currency basis. OE revenues were helped by higher volumes of both the TP400 and also increased Adour engine deliveries. Service revenues were stable, with lower demand for spare parts offset by some increased revenues from Typhoon and C-130J contracts. In terms of the gross margin, the gross margin actually declined by GBP 49 million to GBP 530 million, and that reflected a combination of some of those volume effects and adverse product mix, together with the GBP 26 million additional costs we booked for the TP400. Long-term contract releases at GBP 82 million were down GBP 5 million from the previous year, but actually higher than we had expected earlier in the year.
That was principally due to the benefit of locking in some significant cost savings on the U.K. Typhoon contract, which is now in its last couple of years, including a cost-saving incentive award. Outside of gross margin for Defence profit, R&D and restructuring costs were lower than the prior year, and that was mainly due on restructuring due to lower severance costs around the Indianapolis program. Overall profit before financing of GBP 384 million was 8% lower than 2015, driven primarily by the lower gross margin I've discussed. Moving on now to Power Systems. Underlying revenue of GBP 2.7 billion was slightly down, excluding FX, and I think that was a pretty good result given the market conditions.
OE revenue declined by only 1%, and we saw growth in power generation and industrial sales, which partially offset the weaker commodity related markets and some reduced activity in our Marine business. Service revenue was 2% lower, and that largely affected, again, some of the fleet utilization issues we're seeing in the Marine medium speed market. Power Systems gross margin reduced by 28% in absolute terms to GBP 628 million, primarily mix effects there, adverse mix. It did include some good progression on cost reduction, which offset some of the volume and mix effects. On overall profit, underlying profit declined GBP 27 million, that's 14%, and that was led by the reduction in gross margin. I have to say, RRPS are starting to get some benefits from product streamlining as well. Turning now to Marine. Just got a single slide here.
Underlying revenue of GBP 1.1 billion was 24% lower, with some continued weakness in offshore, also seen in a declining order book. Gross margin was therefore GBP 44 million lower as a result, but actually 170 basis points higher in percentage terms, partly through our cost reduction activities and also some lower warranty and contract charges. The resulting net loss was GBP 27 million. The December announcement of further organizational changes and headcount reduction led to an additional GBP 5 million restructuring charge, with the remainder due to be taken in 2017. We also took a GBP 200 million impairment charge against goodwill, reflecting the ongoing tough conditions and reshaping of the business. Finally, to Nuclear. Our underlying revenue for Nuclear increased by 11%, largely within the submarine programs. Volume on key civil programs in both France and Finland were also strong.
Our gross margin was lower by 80 basis points, and that really reflected a greater weighting in the overall mix towards the lower margin submarine programs. Below gross margin, we took some additional costs to support the higher volumes and to improve delivery performance in submarines. We're also investing modestly on the initial design phase for small modular reactors. We had in the year a GBP 7 million R&D credit, no repeat of the 2015 catch-up that we saw. We expect the GBP 7 million credit to decline to near zero in 2017. As a result, underlying profit before financing was GBP 45 million, or GBP 38 million if you exclude the R&D credit. Turning that back now to the group as a whole again. Net finance charges in our underlying result were GBP 102 million, tax was GBP 261 million, reflecting an underlying tax charge of 32%.
As a result, underlying earnings were GBP 552 or GBP 0.301 per share. The underlying tax rate rise was higher. It was due to a combination of a decision to derecognize deferred tax assets on our losses in Norway, and a greater proportion of our profits coming from higher corporate tax countries. To look at the reconciliation to our reported result, there are clearly a number of very key differences I'd like to highlight this year. As I've already mentioned, we had impaired goodwill associated with a number of the acquisitions, but principally that GBP 200 million within Marine. In addition, we recognized the GBP 671 million charge related to the agreements reached recently on the legacy investigations. Exceptional restructuring totaled GBP 129 million for the year, up around GBP 80, and the majority of that was for the transformation program.
This included the cost for that program, which delivered the in-year benefits of GBP 60 million that Warren has already mentioned. Also, as we've previously announced, in November, Legal & General acquired the assets and liabilities of the Vickers pension scheme, the largest deal of its kind in 2016. The significant pension risk transfer also resulted in us reducing by GBP 300 million our book surplus on pensions, as that effectively transferred to L&G. Of course, we had the GBP 4.4 billion cumulative mark-to-market adjustments during the year of our hedge book. You've heard from me many times before, we've never believed that that mark-to-market valuation adjustment is particularly relevant for the ongoing business, given that those underlying hedge cash flows will provide corresponding benefits in the future. To the profit to cash flow walk.
Our free cash flow of GBP 100 million was GBP 79 million lower than the prior year, but well ahead of our original guided expectations for GBP 100 million to minus GBP 300 million. That overall change reflected the stronger working capital performance in Civil Aerospace than in 2015, which helped offset the lower profit and higher expenditure on PPE and intangibles. This is our usual bridge slide from profit to cash flow. On an absolute basis, we saw a GBP 55 million outflow from net working capital, including GBP 230 million higher TotalCare net assets and higher inventories related to the production ramp, but these were offset by higher payables and deposits. We have GBP 570 million of CapEx that included some payments against 2015 invoices, and GBP 631 million of intangibles, including the GBP 208 million that came from CARS.
The rest of that would've been the higher R&D capitalization, mainly on the Trent 1000, plus higher certification costs on the Trent XWB-97. In 2017, despite the increased investment in installed engines as we increase our large engine production to around 500 units, we should be able to keep some of this working capital performance we saw in 2017. As a result, we're now expecting to be able to deliver another year of slightly better than break even free cash flow, similar to 2016. That is an improvement from what we've been saying over the last year. You know, we value a very robust balance sheet with a healthy investment grade rating. We believe this is commercially important when offering products and support contracts that will be in operation for decades.
After the SFO announcement, you will be aware that Standard & Poor's did update their rating to BBB+ stable from A- negative outlook. Although Moody's have maintained their rating at A3 stable, as have Fitch. We will continue a very close dialogue with the agencies so that they can best see the progress we are making, particularly in terms of transformation and our path to long-term cash generation. During 2016, the group's net debt position did increase to GBP 225 million, but leverage remains at a comfortable level, although clearly we do have some additional cash calls during this year with the DPA. We have no significant refinancing, however, until 2019. Remember that last April, we increased our revolving credit facilities by GBP 500 million to provide additional liquidity. Turning now to payments to shareholders.
Our stated objective in the long term is to progressively rebuild our payment to shareholders to an appropriate level, subject obviously to short-term cash needs. This reflects the board's longstanding confidence in the strong future cash generation of Rolls-Royce. At this stage, however, the investment needs of the business remain high, reflected in the low level of free cash flow in 2016 and again in 2017. In addition, the board sees a need to retain a degree of balance sheet flexibility. As a result, we have decided to keep the final payment to shareholders at the same level as last year. In other words, GBP 0.071 per share. This means that the cash cost of the payments to shareholders during 2017 will be about GBP 215 million, including what we have already paid. Turning now to hedging. As I explained in November, our hedge book has a fairly simple purpose.
We are trying to match our future customer and supplier commitments, which are very long-lasting, thereby mitigating risk to our reported margins over time. In any year, we will take advantage of attractive rates in the market if they are available, but this is not the primary consideration. More importantly is to be sufficiently flexible to keep the rate relatively stable over time, even if our dollar revenue or cost profile changes. The 2016 movement in the average achieved rate was worth about GBP 0.025, and net of some translation effects, that gave us a group benefit of about GBP 20 million. Clearly, market conditions have enabled us to reduce the rate really quite rapidly while expanding the size of the book from $29 billion up to $38 billion at the year-end, with an average rate on that book of 155.
We have delivered, therefore, on the core purpose of this program, smoothing the effective rate, I believe the rate will remain relatively stable over the coming couple of years. After a big increase in 2016 in the size of the book, we are unlikely to be growing the book much further, and we will look to utilize the hedges in a way which keeps the achieved rate relatively steady. Even actually at current rates, replacement hedges will not achieve rapid reduction in the average rate of the hedge book, unless the spot rate sustains at this level for quite a long time. Turning now to outlook. Business by business, our outlook is mixed. For Civil Aerospace, on a constant currency basis, we should see some modest growth in revenue and profit in 2017.
Within this, our large engine business will continue our OE production ramp, which will consume cash, although this will be partially offset by growth in engine flying hours on the new Trents. We'll also capitalize more R&D and continue to take out costs. Business aviation OE demand is expected to weaken further as will demand in the regional aircraft aftermarket. As I said, we need to continue to work both on cost and also on inventory, with further improvements. Overall, we'd expect cash flow to be marginally ahead as well, despite a strong performance at the close of 2016. Our updated five-year revenue out for Civil Aerospace actually has only changed in one respect in the near term. We now see a bit more positive business aviation aftermarket for 2017, so the arrow there is now flat rather than down previously. Switching now to cash flow.
Turning to the outlook, nothing has changed again directionally, we expect 2017 to be broadly the same as 2016. We've also just added a column for 2021 now that we've finished 2016. Looking out further clearly, the important thing is the rollout of the new engines with an exclusive position on the A330neo for the Trent 7000 and on the A350 for the XWB. That will significantly grow our installed base. As we previously said, the resulting installed base is the thing that will deliver strong aftermarket revenues and cash flows for decades to come. Turning now to Defence Aerospace outlook. While revenues should remain relatively steady, we are still expecting margins to come under some pressure.
We saw about a two-point decline last year, we're continuing to make investments, particularly in Indianapolis, as well as the lower contract performance incentives that are available to us on key programs this year. As a result, margins and profits are expected to soften a bit further from recent levels. For Power Systems, the outlook for Power Systems remains steady to positive as we continue the transformation of that business. The business finished last year with a strong order book for several of its key markets. Although some commodity-related markets remain difficult, we expect the business to deliver some modest growth in revenue and profit in 2017. For Marine, overall, the outlook has to remain very cautious, with revenue down further in 2017 and losses at a similar sort of level.
We expect that the market will continue to feel the impact of low oil prices for some time, the general overcapacity in several segments will take time to reach equilibrium. We're continuing to sustain our cost reduction programs focused on manufacturing, supply chain, and overhead costs in order to deliver a more competitive business. Finally, for Nuclear, the long-term outlook remains positive, supported by the confirmation from the U.K. government of its ongoing investment in the Dreadnought-class submarines. With renewed activities in the Civil Aerospace market, particularly in the U.K. and China, there are also some encouraging growth opportunities. However, shorter term, our results will be impacted by a couple of factors: the absence of R&D credits, and also some lower margins on our submarine business and further increases in our investment in SMR technology and other initiatives.
As a result, we believe our profit is likely to be around half that achieved in 2016, reflecting these investments. Turning now to group technical guidance as a whole. I will just focus on a couple of points here. Firstly, changes to the FX environment over the last 12 months clearly have continued to have a benefit to our reported underlying results in 2017. Should rates remain unchanged from where they were at year-end, it would provide us some further translation-related improvement, obviously, as we translate foreign profits and revenues, of about GBP 400 million on revenue and about GBP 50 million on profit before tax, comparing to GBP 725 and GBP 80 last year. Secondly, net R&D spend is expected to be at a similar level in 2016, although the charge to profits will come down because we will have some higher capitalization by about GBP 60 million-GBP 100 million, close to GBP 800 in total.
As I said, that really reflects higher R&D capitalizations for the new engine programs. Finally, free cash flow for 2017 at group level is expected to be at a similar level, this result will clearly. Clearly, any view is vulnerable to relatively small movements on what are extremely large balances at year-end. In conclusion, we have had a good year, end to the year, and delivered on expectations, but there is clearly plenty of work to do with a significant operational execution challenge. The outlook is biased positive across the five businesses, we will still be very focused on our transformation program, delivering cost efficiencies and improving cash flow. Finally, as this is my last results announcement for Rolls-Royce, I did want to thank you for all your patience and support.
When I started as the CFO in November 2014, we faced a pretty challenging and difficult situation, and clearly, we also had to significantly recalibrate expectations about the performance of the business during 2015 and take some difficult decisions around the balance sheet and shareholder payments. After delivering a good set of results this year, and also actually last year, we outperformed expectations as well. I hope that we are also developing some track record and consistency. It is good to have such a track record. Obviously, Warren and the team's commitment is to see further performance improvements in 2017. I am hoping that is going to give you continued confidence in your view about Rolls-Royce's long-term future. Thank you. I would like to hand back to Warren.
Thanks, David. Thank you. Right. Briefly, I am going to conclude the presentation section with a little bit of a look forward. Just over a year ago, I talked about building a new leadership team, and I talked about roughly a third of new people coming onto the team from inside the business with knowledge of the business, a third continuity candidates, and we would get in some people from outside to give some fresh, external perspective. Last November, I said we were a little bit behind in terms of how I had hoped to get that done and the time I hoped to get it done. Now the team is pretty much there and in place and starting to deliver. As I said before David came up, now we can do a little bit of focusing on looking forward.
In November, I put this slide up saying, looking forward, we need to take into account sort of four areas of analysis. Long-term outlook, how we are positioned competitively, and how we can go to continue to improve our operational performance. Importantly, what are our resources available and how do we allocate the capital? Now the new team is in place, we are doing that alongside, as David just said, we've got a lot of work to do on delivering in the meantime and improving the operational performance. I haven't got a big reveal for you this morning. We will talk about how we take the business forward as we go later into the year. Just by way of emerging framework here, how we're starting to think about this. It's fundamentally an engineering and technology led business, and we have some great leadership technologies.
That's where we start, at the top of the slide. We need to go about engineering and think perhaps a little more broadly about the ecosystem in which we operate. Hence the term dynamic engineering, where we think about acquiring technology, we think about developing technology, we think about manufacturing, actually securing the best value way of doing that from our ecosystem, including our own supply chain and the activities in the outside world. Leveraging our university relationships would be one example. Continuing to take very careful account for how we manage our intellectual property and how we map our intellectual property looking forward.
With that great technology and optimal engineering of course, we need to continue to work very closely with our customers and our partners to make sure that we translate that into really compelling offerings that provide solutions for our customers, and that's the bottom gray box. The crucial piece is how we link that to financial performance in the business. That's what we're calling the value bridge. Converting these compelling customer offerings based on leadership technology and sound engineering into money. That's what our transformation program is all about, driving competitive levels of performance so that we can get sensible returns, so that we can generate cash, so that we can make the business sustainable, we can invest in building competitive barriers around our business, and so that we can continue to invest and acquire new technology. That's the sort of emerging framework that we're using.
If I translate that into the priorities for the leadership team in 2017, I'm afraid it's a little bit boring. The left-hand side of the slide is pretty similar to what you saw in 2016. We have to really focus on getting our engineering and operational performance right so we can leverage the amazingly powerful business model that we have. We must keep doing that to keep a simpler, or to develop a simpler and more resilient business. At the same time, on the right-hand side of the slide, we do need to start to tilt a little bit to the future, look ahead to think about new disruptive technologies, and ways in which we can improve the competitiveness of our business from a strategic point of view to disrupt and to win. That's the little glimpse of the future.
My summary, 2016, year of stabilization, meeting expectations. I look at 2017, and it's very clear for me what we have to do in 2017 in terms of operational focus and ramp-up, that translates into some very clear priorities for me and for the team. We do that in an environment where, actually, we're pretty well positioned with growing market share in growing markets, and providing we can concentrate on growing the profitability and the competitiveness of the business, then that's a pretty good outlook for the future. With that, I'll hand over, and we'll take your questions. Right. Let's go. Microphones are coming around. We'll start there, and then next one's going to be over here.
Thank you very much. It's Nick Cunningham from Agency Partners. I hope it's not inappropriate to say thank you to David, actually, for having helped the analysts so much in what actually, for us, has been rather a complicated time. Perhaps go on to ask him for some more help. The question I wanted to raise was around, naturally, I'm afraid, IFRS 15, and a rough idea perhaps of what the delta might have been in 2016, and maybe 2017 relative to your guidance, and how that tapers, if you like, as we go forward over the next, say, 5 years or so. Thank you.
Nick, it's a fair question. We really want to be more precise, though, for 2016, because it will be a comparative year, and we did take the time over 2015. Stephen's going to do that a little bit later in the year. If you remember, I had a chart with some sort of cartoony sort of lines up in November, and I think you can take from that that we don't see the 2016 number being significantly less than the GBP 900 million that we ended up in 2015. I think it might be a bit lower, but I would rather that we did that work and just go through that, but it's going to be in that kind of ballpark, I think, and then will progressively improve. Don't expect it to be significantly different from the GBP 900 million. Sir?
In terms of perhaps some vague indication, if you like, of how the difference diminishes as we go forward.
Sorry, I don't have the chart in front of me, but clearly there's a different timing on aftermarket and OE effects, and we try to sort of lay it out on that line, and the crossover point is sort of somewhere between 2020 and 2025 on that line. I think that's still our best estimate, but we are doing a lot of further work on this. It may not sound like a difficult problem, but it is an intensely hard amount of accounting work that's going on around this at the moment. It's not worth giving you numbers that we're going to change later. We'd rather get the numbers right. Stephen, I know, is committed to come back, as soon as we can, really, to give you an update on that.
Thank you very much.
Okay.
We've got some over at this side of the room. One, two, and then a few rows back.
Great. Thank you. Christian Laughlin from Bernstein. Just a few questions on Civil Aerospace, if I may, Warren. Basically, starting from the back end of 2016 and looking into how things are trending and setting up for 2017, how are unit costs progressing for the XWB-84? As a corollary to that, how do you feel about schedule, in terms of meeting the schedule requirements from Airbus? Still under a lot of pressure, or better than it was, say, H1 last year, et cetera? Some sort of qualitative characterization would be helpful. Secondly, just kind of thinking about your development portfolio, if you could just sort of update where we are on your expectations for meeting the schedule for the Trent 1000 TEN, the XWB-97, and the Trent 7000, in terms of performance and cost expectations and then, of course, schedule.
Yep. Okay. How do I feel about costs on XWB? I think we're in reasonable shape. It is going to take a few years to achieve where we want to get to on cost, but we are absolutely sort of on track with that. In terms of the cash loss per engine, I'd also draw your attention to the fact that particularly as we come into the back half of 2017 and into 2018, we lose the deliveries that are attached to launch pricing. We go up a couple of notches, in terms of achieved pricing. We're actually attacking the cash loss from both ends, from the cost reduction, which is 7% in 2016, and there'll be more to come in 2017. We're on track. Also, we get a little bit of assistance from improved pricing.
How do I feel about that from a delivery point of view compared with, say, 12 months ago and meeting the Airbus schedules? Well, 12 months ago, we weren't in as good a position as we are today. We are in good shape today, but most of the volume ramp in XWB was delivered from us in the second half of the year. That was fortunate as far as we're concerned, because Airbus had some other issues with. At no stage have we actually been the pacing item in terms of delivery of the airplane, and we don't intend to be a pacing item as we look forward. We've already delivered in the first six weeks of this year, and we're absolutely sort of on track with Airbus and their plans. They'll talk about their volumes, I'm sure, when they do their results next week.
As for the three large new ones, the Trent 1000 TEN is flying. We have a 787 flying with two Trent TEN engines. They're going through the extended flight testing ahead of certification now. We are on schedule for that to go into service in the second half of the year. Similarly, similar position on the A350-1000 with the Trent XWB-97 engine, where they have three airplanes now on extended flight testing, and that's sort of scheduled for service entry in the second half of the year. On the new A330 with the 7000 engine, that is about six months behind, but it's on a similar trajectory, and that airplane will fly with its new engine for the first time over the coming months.
Yeah. Great. Thank you.
Yes. Morning. It's Ben Fidler from Deutsche. I had three questions, please. First one, just on FX, just to make sure I've understood the messaging on your slide 42, which you showed to us, David. Yes. Am I right, it now seems that the currency sensitivity, because of the balance sheet movements within Civil Aerospace, is kind of my mistake, but it sounds like it's half to a third of what I previously had assumed is your FX sensitivity once you take into account the balance sheet effects.
Um-
Is that right?
I think the transactional side of it is exactly as you'd expect, because we did also get some movements on the revaluation of foreign currency supplier payables, receivables, whatever. That diluted that a little bit. That's really going to
That's an ongoing effect.
It is. It could be the other way, depending on exactly balance sheet to balance sheet rate changes. It happened to be a slightly dilutive effect this time. Yeah.
And this-
The transactional calculation is still going to be about right.
Related to that is also to that slide. Your comment, again, to check I haven't misinterpreted it, you're saying you don't expect any average effective rate change in 2017, or you also mentioned in 2018, for the next couple of years. Is that the message?
The message is, I don't think we're going to be net increasing that GBP 38 billion. It's more likely that we'll stay at a similar level. We will replace some hedges as they roll off, clearly, with new ones. That's over the whole of the hedge book. What we will continue to try and do is try and keep the average rate year by year fairly flat. We may get some, but I wouldn't bet on a lot of additional benefit in the near term from just that, the rollout. The reason that we've got the bigger benefit over the last year is that actually because we've increased the size of the hedge book as well, it's diluted the average by more. Does that make sense?
Yes, that does. Thank you. My next question was just on the ITP earn out, whether you're able to just let us know and give us an indication of what the ITP earn out was that you received in calendar 2016 embedded in these numbers.
As you know, there's the three areas that we get. The module revenue has obviously come down a little bit and is disappearing. Actually, the license income is about the same, and we saw a bit of an increase in aftermarket revenue, both from pricing and from volume. Overall, I think we probably saw about the same level of total ITP, which I think is about GBP 250, something like that. It's about the same number. I don't think it's changed radically year to year.
Thank you. The third question is, just as I'm trying to understand more about modeling your Civil Aerospace cash flows, how many shop visits did you do in 2016 and the direction of how that compared with 2015?
It's unfortunately something that you have to go a little bit deeper because there are clearly different levels of shop visit, from a major overhaul to a smaller intervention. I think in absolute numbers, actually, the numbers weren't that different in 2016 and 2015, and I don't think we expect it to be that different in 2017. Maybe a modest increase in 2017. We're clearly seeing less activity on some of the legacy programs. That's really why some of the legacy aftermarket, particularly the time and materials, has come down a bit. In absolute terms, the numbers haven't changed very much. What we're really seeing is this mix change continuing to go on between aftermarket legacy programs on both engine flying hours and T&M, and then a pickup on, a stronger double-digit pickup on the engine flying hours on the new stuff.
Okay. Thank you very much.
Thanks. I think we need to go up there first and take these slightly in order. There's one sort of middle to this side, and then we'll come down to the front. I'm looking to see if there's some on that side towards the back.
Thank you very much. It's Tristan Sanson from Exane BNP Paribas. I have two questions. The first one is on large engine aftermarket in 2016. Organic, the large engine aftermarket was down 4%. Can you give us a bit of color on what was the trend between the erosion of time and material on RB211? What is the evolution on the normal Trent engine or TotalCare agreement? What is the impact of engine transition that you may have felt impacting, I don't know, the number of Trent in service and, as a consequence, reflected in that 4%, not in precise number, but to understand the various movements and how these three factors are expected to develop in 2017? That's the first question.
The second one, I'm a bit confused by the fact that in Civil Aerospace, you're releasing profits based on the revaluation of life cycle costs on your engine and the long-term maintenance agreements. At the same time, in 2016, you have GBP 98 million of technical cost that you say are related to a need for increased shop visits in short term for Trent 900 and the upgrade of engine management system for Trent 700. It's more a philosophical question about how predictable do you think are the costs of your engine under long-term maintenance agreements, and so how do you bake this into your assumptions?
This is a very detailed question, and we don't want to take the whole of the morning on this, I have to say. The aftermarket trends are pretty clear. Our older engines, time and materials, these RB211 engines are being retired, and that's what's contributing the downward pressure. Those time and materials contracts are high margin. That's being offset by newer engines, and newer engines tend to be long-term service agreements, and that exerts upward pressure and the net is the net. We can look at the numbers. You asked how the trend is set over the next year or so, and we're going to see a continuation of that. With some of our mid-age transitions, we are seeing a little bit of demand.
Maybe there'll be a little bit of turning some things which have been under a long-term service agreement into one of the new models, so TotalCare Flex and those types of model, which will have slightly different implications. Listening to your question and Ben's question earlier, I think we could probably do with a slide that summarizes it without going into every single detail, but a little bit more than the big plus and minus. Do you want to-
Yeah
chip in on the last bit?
The last bit is actually just a factor of the way that we do the accounting. Eventually those costs will end up in the contract margin, but we book them in the first instance through this technical provision. As we then update the contract packs later on, we'll probably move that money from that provision into the contract packs. It's a bit of a holding place. You're right, that overall, in terms of the absolute level of life cycle cost improvement on Civil, which I said was GBP 217 million, that was better than last year of GBP 148. The GBP 98 of absolute booking into technical things will eventually get into long-term contract margin as well. There's a plus and a minus there.
There always will be pluses and minuses because we have, on an ongoing basis, an effort to reduce the cost of servicing these things in the long term, and then we take individual issues as they come. You're always going to see some effect like that. Thank you. I think, who has the microphone down here? We've got one, two, and then I think we need to do a few there. One, two, three.
Gordon Hunting from Fiske. Two quick conceptual questions. The troubles that Toshiba and Westinghouse are having, is this a benefit or a negative? Secondly, have you got to make a big provision for the Type 45 destroyers conking out regularly?
The conceptual question about the nuclear reactors, clearly, Toshiba is a potential partner, a potential customer for our Civil business in Nuclear. If they're not active, if they're pulling out of that, then we'll have to see if that project goes ahead, perhaps with somebody else. The opportunity will still be there. I think if you back off it a little bit and say, actually, these really big nuclear projects are quite challenging, and they're quite challenging to finance. This is one of the reasons why we are keen to promote the small modular alternative. Yes, there's the technology piece, which is a little bit different. The consequence of that, from a commercial point of view, because we can make these things by definition in the factory instead of on site, is that they eventually become more cost effective and, in particular, more bite-size chunks.
You don't get this big volatility around the big decisions. Conceptually, it's an opportunity for us because we can play a larger role there than we can with just our instrumentation and control and waste management systems around the big reactors. As for the Type 45, I'm afraid that's a specific contract, specific issues, and we can't really comment on it other than to say that we are supporting the Navy with their efforts, and we'll continue to support the Navy to make sure that the thing is reliable. One there, we have to go to that side towards the back.
Thank you. Good morning. Zafar Khan from Societe Generale. I've got a couple of questions, please. One's on cash flow and one is on costs. If I can take the costs one first, I'm looking at slide 13 in the supplementary slides that you've kindly provided. You've been talking about transformation, how you're taking out the costs and making good progress on that. But if I look at slide 13, I note that the Commercial and Admin costs in 2016 have gone up from GBP 1,004, or I should say GBP 1,004,000,000 to GBP 1,163. It's a major reversal there. Is there some one-off cost in that line, or what has actually happened there? Could you help me understand that, please?
One of the biggest things is that we're paying a bonus this year, there was no bonus in the 2015 numbers. That will come through C&A. That's one of the biggest charges.
It's 160-
There are other effects.
David, it's GBP 163 million increase.
I know it is on an adjusted basis after you take out currency effects.
Okay. I should be thinking it's FX and not Warren's bonus.
No. There's an element of bonuses. Some of the group bonus goes through C&A, obviously some will go through gross margin and a little bit through engineering.
Did you say 30 by the way, or 13?
13. One three.
Yeah.
You know what I might do? Oh yeah. Got it.
We'll give you a bit more help with that's the biggest performance related issue. The rest will be around economics.
Okay. If I just go to the earlier slide, just one before slide 12, you've kindly given quite good historical data there. I remember, this reinforces this, that the free cash flow, the record I think the group has ever achieved is that GBP 781. Do you see it in 2013? Now, we've got problems on the earnings front because IFRS comes in, it's going to be pretty difficult to understand what happens there. I guess many of us are looking at the promise of cash flow, Warren, I wonder if in your idle time you kind of blue sky these things. When do you think we might get to that kind of GBP 781 again?
I don't-
Is it going to be in my working life, do you think?
Yeah. Well, I certainly hope it's early in my tenure. Let's put it like that. Actually, no change from what we said in November, when we talked about IFRS and we talked about the cash as well, because it was important to do so. This year, obviously we had a slightly better than expected outcome last year. Rather than talking about an improvement this year, we're talking about roughly flat performance. You have to understand the law of relatively small numbers. Cash at the year-end is a little bit volatile, so we are quoting a range. Notwithstanding the better performance in 2016, 2017 is exactly what we thought it was going to be. We talked about getting towards GBP 1 billion plus towards the end of the decade, and it's a reasonably linear sort of journey from here to there.
It's a little bit more back-end loaded than linear. If you sketch that, then I think you can expect it in the next few years.
Is-
That's no change to what we've said before.
Is billion the aspiration or?
No, goodness me. Of course, we can go beyond that based on the size of the opportunity we have. Let's just think about the journey to translate the current business that we have into that cash generating world, and it's in that timeline.
Thank you. Just to supplement you on the A380, Airbus put out a statement suggesting that some of the deliveries on the A380 to Emirates were going to be deferred. It was to do with your agreement with them on the engine. Can you just tell us what's actually happened there? What's going on?
Yeah, well, I-
Does it mean that there's an issue in terms of overhead recovery?
I think there's been enough negotiating in the media around this issue, I don't want to perpetuate that negotiation in the outside world. Suffice to say that we did reach an agreement with Emirates at the end of last year. That is around the service life of the high-pressure turbine blades in our Trent 900 engine. We're pleased with that agreement. They're pleased with that agreement. Airbus is pleased with that agreement. We have a way of working forward. Separately, Emirates have their own issues around how many planes they want to buy and when they want to receive them from Airbus, and that's a matter for Emirates and Airbus between them. I'm afraid you'll have to take that one either to Emirates or to Airbus. I think we have a couple of questions towards the back there. John's got some from online.
Let's have the questions at the back then move to the online.
Hi. Good morning. Céline Fornaro from UBS. My first question would be on the group cash and how, when I think about your long-term incentive plan for 2016, 2017, and 2018, which was about a GBP 350 million cash cumulatively, how does it look like after the better cash flow in 2016 and the guidance that you're giving in 2017? Basically this implies a very small improvement for 2018 as well. How should we think about that? My two other questions would be on the civil divisions. The first one is if you could give us a little bit of color of the in-service behavior of the Trent XWB and the fleet that is out there after two years, and how the engines are performing, how are the shop visits or any changes that you have to make to those engines, if any.
Secondly, if I think about the lead time transfer improvement that you've made on the Trent 1000, which is really good, shall I think for the Trent XWB that this only happens when production flattens, or actually this is something you can also start doing earlier? On the Trent 1000, does the lead times change when we start introducing the Trent 1000 TEN, or we actually keep them?
Thank you.
Okay. As for the cash and the cash in the long-term incentive program, I just drew attention to what I said a moment ago on the general trajectory, and that's exactly the same. During that period, don't forget, we have the law of relatively small numbers and year-end volatility. It's by no means, in terms of the absolute numbers, in the absolute years, there is this variability that we see of plus or minus GBP 100 million to GBP 150 million or so. That's going to be there. When we get into the realm of GBP 781 million and GBP 1 billion, that volatility becomes much less significant and would affect a long-term incentive plan like that a lot less.
Trent XWB in-service behavior. Well, it is early in the life of Trent XWB as a complete fleet, and obviously the fleet's grown a lot in the last 12 months in relative terms. However, the first engine has been in service for over two years now. The early signs from Trent XWB are very good. Yes, we have had a few maintenance issues that are sort of perfectly normal, but we haven't had any serious issues, and we have been pulling these engines in for inspection. Because it's early in its life cycle, we've been pulling them in a little bit more regularly than we will be doing when they're in normal service. If there was anything untoward, I'm sure we would be spotting it. Lead time improvements on Trent 1000.
When we switch over to TEN, I'm sure there in practice, there will be some degradation in lead time for a short period of time. We don't anticipate a big material change. As for whether we have to wait on XWB for those lead time improvements happen, no, we don't. They are happening. When we first started on XWB and supplied a few in 2015, the assembly lead time was quite long, of the order of 40 days. We are targeting getting the thing down to closer to 20 days. The production engineering team are very highly motivated to get there. I think that's it. Was there another question towards the back there? No. In that case, can we go to the online now, and then we'll come back the middle. Online questions.
Thank you, Warren. One of them just been answered actually on FX, I'm not going to pick that one up. Rob Stallard asks, should we expect CapEx and R&D spending to ease in 2018? If so, by what sort of amount? Building on the guidance for 2017, what's the trend into 2018 and beyond? What will be the expected delta?
Yeah. The short answer on that is that we need to continue to invest in R&D. We're going through a little bit of a peak at the moment, I think you will see in the 2017, 2018 period, a significant investment in the Advance in UltraFan engines. Don't forget, I said, Civil is essentially the lion's share of our R&D expenditure. That's going to be the key driver there. As for CapEx, it's going to be flattish over that period. We are investing quite a lot at the moment in modernizing facilities. A lot of those modernization activities will have taken place. There will be some downward pressure in that those factories won't need to be updated in the short term. We will be into the next wave. I'm sure it will be flattish.
We'll actually manage it, by the way, in terms of, we don't just operate with an open checkbook. We'll be managing that capital expenditure and phasing it in the normal project approval process.
One additional question from the online guests. Do you intend to pay for ITP in shares? If so, have you discussed with the vendor what they intend to do with that stock?
Well, as everybody knows, we have an agreement with the vendor that we can pay any one or more of the eight quarterly installments after the transaction closes, in shares rather than cash. As far as the vendor is concerned, that is the option that we have, and that is up to us, and it is our decision. As to what the vendor does with those shares, we don't have an influence over what the vendor does. We will take those decisions as they come on a quarter-by-quarter basis. We have no intent at the moment to drive specifically down the share route or specifically down the cash route. We'll be managing the cash as we go through that period, and we'll be always keeping an eye to other requirements for cash, what's going on with the share price, and long-term shareholder value.
It's a decision that will be taken in the round, and the board will be involved every quarter. David in the middle, yeah.
Rami
Yeah.
Thanks. It's David Perry at JPMorgan. Sort of one high level question in two parts, I think. The strategic review, I'm sure you want to keep some of your powder dry, but maybe it's taking a bit longer than we thought. Just, can I ask, is it going to be more biased to the operational or more biased to portfolio? The second part is related to it. Does the possibility of a border tax adjustment impact the strategic review in your thinking? At this stage, have you got any thoughts of the positives and negatives that might have on Rolls-Royce?
Yeah. To answer the high level piece first. In terms of where we are today, as I said when I was presenting, I would have liked to have been a bit further ahead. It isn't that this is a difficult problem that's taking us longer, it's more a question of getting started. What actually took a little bit longer was to assemble the team. I think we had to make some difficult calls, and it would not have been right for me to have been concentrating on long-term vision while the short-term performance of the business was not improving. Even as we go through 2017, we've got a lot of work to do as a team to make sure that we continue to improve the operational performance of the business. Will it be more operational or will it be more portfolio-oriented?
The answer is that you can't ignore the operational piece. That's got to happen anyway. I think when we talk about strategic review, it'll be more, what does the shape of our business look like out into the future, and what do we need to do in 2017, 2018, 2019, 2020, to get there? It's a given that in that time period, we need to keep improving the operational performance.
I think I assume on border tax, you're referring to the U.S. proposals.
Yeah.
Clearly, maybe you've got more detail than I have. I haven't seen a lot of detail around those proposals yet, I assume that they're going to take a lot of filling out, and we already have enough Brexit duty and custom things to think about as well. I think the key for us, like any sort of company that needs to trade over borders, is to retain flexibility. We have a site in Indianapolis that we are reinvesting in, which is very capable of producing engines or other parts that we have around component facilities. We'll just have to see, David, where all of that comes out. As an international company that trades across borders, we will have to retain flexibility if we see changes in duty or border tax regimes, to make sure that we can keep that as efficient as possible.
We already do a little bit of civil work in that facility. Work can move around the organization as required. I think we need to move to the penultimate question.
Thanks. Rami Myerson from Investec. Three, F-35B, how many modules did you deliver in 2016, and how many do you plan to deliver in 2017? Is that a headwind to profitability, or is that already profitable?
I don't have the answer off the top of my head, I'm afraid, to the number of F-35B modules.
Why don't you ask your second question?
Yeah.
The second one is on SSRO. What is the percentage of revenues of the group that could be subject to SSRO regulation? Understand that the Astute Boat 5 is going to be also, they're going to liaise with the SSRO on that boat. You talked about accelerating UltraFan R&D. Is that for a middle-of-the-market aircraft?
On the SSRO, it's roughly 10% of our business that is potentially exposed. This is an ongoing dialogue at the moment. The SSRO is consulting with companies such as Rolls-Royce, around how they move forward. Sorry, your second, your auxiliary bit, I missed.
Just asking about the middle-of-the-market aircraft.
Middle-of-the-market aircraft. It's a paper airplane at the moment. There is potentially an opportunity for about 5% of the traffic may be to be taken by that sort of airplane. We're a long way away from any sort of decision there. If it makes business sense, and if that airplane goes ahead, then we'll be very keen to power it. Boeing, I'm sure will make a decision based on sound business principles. They understand that if we're going to put an engine on that plane, it has to make business sense for us as well. Sorry.
Yeah, it looks like it was actually pretty flat in 2015, 2016, and will be again in 2017, at about a dozen, something like that.
Was there a final question? There's one final question from up there. This is the last one.
Hi, this is Harry Breach from HSBC. Thank you for taking last question. If you could just tell us what is your relationship with the UK Export Finance, just regarding the press releases saying that they may request some funding or may not support your contracts in the future? The second question, just on the FX hedges, do you expect any cash impact in the medium term as some of the hedges mature, or just continue to roll over the hedge book at the same rate, as you said?
Yeah. Quickly, we actually work really closely with the UKEF on a number of projects each year. I think we have an excellent relationship, and I think they'd say that as well. Clearly, there were a couple of the contracts that were mentioned in the DPA that had financing originally. That was quite a long time ago. They are doing some additional diligence around that. The ongoing relationship is actually really strong, and they're very supportive of the business. On FX Sorry, I've just forgotten the question again.
It is cash impact.
Oh, cash impact. There's absolutely no cash collateralization requirement, if that was your question. In terms of as those mature. Clearly, they will either be positive or negative, the underlying transaction that they're hedging will be positive or negative the other way around. It's basically those hedges give us an effective rate of 155 at the moment, and that's the end result of those transactions.
Okay. That concludes the question and answers. Before we break, I'd just like to- This is David Swanson, I'd like to thank him as well for being a great support