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Edited Transcript of MGGT.L earnings conference call or presentation 6-Aug-19 10:00am GMT

Half Year 2019 Meggitt PLC Earnings Presentation

London Aug 9, 2019 (Thomson StreetEvents) -- Edited Transcript of Meggitt PLC earnings conference call or presentation Tuesday, August 6, 2019 at 10:00:00am GMT

TEXT version of Transcript


Corporate Participants


* Anthony Wood

Meggitt PLC - CEO & Director

* Louisa S. Burdett

Meggitt PLC - CFO & Executive Director


Conference Call Participants


* Andrew Paul Gollan

Joh. Berenberg, Gossler & Co. KG, Research Division - Senior Analyst

* Charlotte Anne Keyworth

Barclays Bank PLC, Research Division - Analyst

* Harry William Freeman Breach

MainFirst Bank AG, Research Division - Research Analyst

* Sash Tusa

Agency Partners LLP - Research Analyst




Anthony Wood, Meggitt PLC - CEO & Director [1]


Good morning, everybody, and thank you very much for joining us this morning. And you didn't know you were being invited to a premiere, but that is the first time that video has been shown to a public audience, and we trialed it with a few internal customers at the Paris Air Show.

So welcome to the 2019 interim results for Meggitt, where over the course of this morning's presentation, we'll provide an overview of our performance across the first half and share the progress that we continue to make across the business. I'll introduce the results before Louisa, on my right here, talks through the numbers in more detail, and then I'll take you through our end markets and provide more information on the progress we're making in executing our strategy. And finally, as always, we'll open it up for questions at the end. But first, please note the following cautionary statement.

So onto the first half results. Trading has been encouraging in the first half with the strong growth we saw throughout 2018 continuing. As a result, we have upgraded our full year guidance for organic revenue growth from 3% to 5% to 4% to 6%, and we're maintaining our outlook for margin improvement of between 0 and 50 basis points.

Organic orders are up 7%, with book-to-bill at 1.13x, and organic revenue growth grew by 9%, reflecting strong performance in growing markets, particularly civil OE and defense, which increased by 11% and 13%, respectively.

Operating profit grew by 7% thanks to the momentum that's building in the operational transformation of the group. We continue to make good progress in reducing purchase costs and driving factory-level efficiencies through the deployment of the Meggitt Production System.

A margin of 15% reflects both the continued investment in our installed base and the additional costs that we had anticipated in our engine composites business. We've turned a corner and expect improving financial performance in this product group to underpin our full year margin guidance.

Cash performance has also been strong, with free cash flow up 80% to GBP 49 million, inclusive of the GBP 21 million receipt from the sale of our land at Coventry ahead of our move to the new site in Ansty Park. And consistent with our dividend policy, the interim dividend will increase by 5% to 5.55p per share, reflecting our continued confidence in the prospects for the group as a whole.

As you all know, it's only been a few months since we met at our Capital Markets Day, but I'm delighted with the progress that we continue to make in building the business for the long term through the execution of our 4 key strategic priorities as shown on this slide from left to right: We've strengthened our strategic portfolio, prioritizing investment in differentiated technology and increasing our focus with 2 further noncore disposals in the first half. And we've expanded our relationships with customers and grown our installed base further with new positions on civil and defense platforms and a series of new SMART Support deals.

In competitiveness, our footprint rationalization scheme continues to gather pace. With the construction of Ansty Park, our centralized purchasing continues to deliver 2% cost down per annum, and the continued deployment of MPS remains very much the backbone of our operational improvement journey.

And also in culture, we're still very much in the early days of our new customer-aligned organization, and I'm pleased with the changes that we've made. We've had some very good feedback from our customers, particularly during the recent announcing at the Paris Air Show, and we're seeing a number of our new divisions start to work extremely well together across this new structure. And I'm going to talk a little bit more about each area later.

But for now, I'd like to hand you back to Louisa to talk through the numbers in a little more detail.


Louisa S. Burdett, Meggitt PLC - CFO & Executive Director [2]


Good morning, everyone. As Tony has highlighted, trading has been encouraging in the first half, and we are pleased to present a strong set of numbers today. As usual, I'm going to focus on the underlying organic numbers, which we show on this slide, but a reconciliation to the statutory numbers is contained in our press release, with the nature of the adjustments consistent with prior years.

So organic orders increased by 7% in the half, with good performance in our defense business, including the 10-year LTA that we secured with Pratt & Whitney earlier this year to supply composites on the F135 engine from our new facility in San Diego.

On a reported basis, revenue was up 12% and after the effects of currency and divestments increased organically by 9%. Underlying operating profit of $161 million increased by 7% on a reported basis, resulting in operating margin of 15%. I know you will all be focused on the moving pieces within the margin, and I will go into more detail on that shortly.

Given weaker sterling to U.S. dollar compared to last year, we did benefit from an FX translation tailwind, and underlying operating profit grew 2% on an organic basis. Finance costs increased by GBP 1 million, reflecting higher U.S. rates and an increase in the sterling value of our debt, which is largely dollar-denominated. And as we've guided previously, our underlying tax charge increased to 22%. So taking all that into account, our underlying EPS increased by 6% to 14.7p per share.

Looking next at revenue. I'm working from left to right on this slide. Firstly, as I've just mentioned, we benefited from an FX tailwind of GBP 51 million primarily from the translation of the results of our overseas businesses. Our largest single exposure is U.S. dollar-sterling, and the average rate for the first half of 2019 was $1.28 compared to $1.36 during the same period last year. The average rate during the second half of last year was $1.28, which means that if rates stay around the half 1 level, which is our planning assumption, we would be broadly FX translation neutral during the second half of this year. More detail on the sensitivity guidance around FX is contained in the appendix to these slides.

The next item on the bridge represents the impact of noncore disposals, and then the final 4 bars demonstrate the performance in each of our end market, which I will break down on this next slide.

So here, I'm going to talk to the left-hand table on our organic performance. Total group orders were up 7%, with strong defense offsetting lower demand in civil aerospace. This is a trend that we anticipated given the strong prior year comparator where civil market orders -- civil aftermarket orders grew by 43%.

Turning to revenue. Civil aerospace increased by 9% in total. And within this, civil OE revenue increased by 11%. The primary growth platforms for us was 787, CFM Leap engine and A220, offset by declining revenue on the older wide-body platforms. And although much smaller segments, we also saw good growth in both regional and business jet OE.

7% growth in civil aftermarket reflects good underlying growth in large jets, which were up 13%, and this is despite the grounding of the 737 MAX, which has muted demand for initial provisioning spares and also despite a strong prior year comparator where you will remember that our growth was enhanced by one-off stocking from a new distributor agreement. Aggregate demand for business and regional jet spares was flat, reflecting continued low utilization.

In defense, revenue grew by 13%, reflecting strong demand across the business, with the key platforms being F-35 type, Typhoon, F-16 and V22. Demand in the first half benefited from one-off stocking from a new distributor agreement, which we signed in December 2018, to accelerate growth, and that's similar to the civil distributor deal that I've just mentioned.

And finally, in energy, although revenue declined by 1%, this was against the tough 2018 comp where Heatric recovery contributed to growth of over 30%.

So reflecting this positive performance and as already mentioned, we are upgrading our revenue guidance today. Tony will take you through that revised guidance at the end of the presentation.

So moving on to operating profit. This next slide shows the bridge of our first half performance against the same period last year. As I've already said, we delivered operating profit of GBP 161 million, equating to a margin of 15%.

But before I take you through the ups and downs on this chart, I want to emphasize 3 takeaway points: First, we continue to invest in engine composites. Good progress is being made, and as previously communicated, we expect progressive margin improvement in the second half of this year. Secondly, through free of charge and a strong OE mix, we continue to invest in the future of our business. And thirdly, our strategic initiatives continue to contribute financially as we deliver against the plans that we highlighted to you at the Capital Markets Day in May. And it's these actions which underpin both our anticipated half 2 performance but also our journey to 19.9% margin in 2021.

So moving from left to right on the slide, the first orange bar reflects the additional costs that we incurred in engine composites as we deliver on our commitments to customers, support a growth rate in excess of 30% and lay the foundations for transferring full rate production of some of our parts to our expanded site in Mexico in the second half. As you'll hear later, while there's still work to do, the progress we're making in hiring and training people, improving ultimate yield and moving to that lower-cost manufacturing location underpins our confidence in delivering second half margin improvement in this product group.

The next 3 orange bars represent the continued investment we're making to expand our installed base: firstly, a 30 basis point impact from depreciation and amortization, which reflects our significant investment in new product development over the recent past; secondly, a 50 basis points movement from an unfavorable revenue mix associated with the rapid growth of civil OE in the first half; and finally, a 30 basis point dilution from free-of-charge content, principally brakes on A220 and business jets, which will drive aftermarket growth for decades to come.

And the large green bar on the right-hand side of the chart shows the financial contributions of our strategic initiatives, which helped to offset some of the headwinds that I've just articulated. These benefits include efficiencies from our sites in the more mature phases of the Meggitt production system, reductions in purchase costs, initial savings from footprint moves and the disposal of margin-dilutive businesses. The net positive contribution from strategic initiatives in the first half of 2019 is, as you can see, 130 basis points.

So in summary, we expect margin in engine composites to improve progressively in the second half. The second half is historically a much stronger period for us, and we remain very pleased with the continued delivery across each of our strategic initiatives. We, therefore, remain on track to deliver our guidance of north to 50 basis points of operating profit growth for the full year, equating to a margin of between 17.7% and 18.2%.

So turning to performance by division, where for the first time, we are reporting under our new customer-aligned segments. You will recall that in December 2018, we published a provisional view of how the first half of 2018 would look in this new structure. And that prior year restatement has been updated in your appendix to reflect business disposals since we issued that restatement in December '18.

So Airframe Systems grew revenue organically by 6%, with good growth in civil OE and defense, offset by declining brakes aftermarket revenue in business and regional jets. Margin dilution of 80 basis points to 20.7% reflects growth in free of charge and increased costs of some at our least mature MPS sites, which have offset improvements that we've seen elsewhere in the Airframe Systems portfolio.

Engine Systems revenue grew very strongly with organic growth of 21%. We continue to see rapid growth in demand for engine composites, most notably on F135 and Leap engines, and the reduction in operating margin here to 3% primarily reflects the investments in composites that I've just talked about.

Energy & Equipment also grew strongly. Demand for defense systems, particularly thermal management technology, contributed to overall revenue growth of 9% in the half. Margin of 11.2% reflects accretive divestments and increasing efficiencies from the division, which has 2/3 of its sites in MPS green or later.

And finally, in Services & Support. Revenue grew by 9%, with strong performance in civil and defense markets, the latter boosted by one-off distributor stocking. Margin reduced to 14.5%, reflecting a change in mix between civil and defense and also between spares and MRO.

So turning next to cash, where we're pleased to report free cash flow of GBP 49 million versus GBP 27 million last year. The numbers benefited, as Tony has already said, from a GBP 21 million one-off item related to the sale of land at old Coventry site which we received in early January 2019. But even adjusting for this, we are really pleased with the cash performance in a period of growing sales and where we are managing near-term inventory buffers, investing capital in the construction in Ansty Park and expanding our carbon manufacturing capacity.

So moving from the top to the bottom of our cash flow chart. The working capital outflow of GBP 72 million reflects further inventory investment related to 3 items of buffer stock: firstly, to de-risk plan site consolidation activity over the next 6 to 9 months; secondly, to manage the risk of disruption from a no-deal Brexit; and thirdly, to mitigate industry-wide supply chain shortages in areas such as forgings and castings. We have also invested in inventory to improve service levels and accelerate our growth in the aftermarket.

Capitalized development costs continue their recent downward trend and was 6% lower in the first half. And although cash CapEx was flat in the period at GBP 37 million. We expect investment to accelerate in the second half as we fit out the Ansty Park facility.

Skipping a couple of lines to operating exceptionals, you can see that we spent $12 million in the first 6 months, and we anticipate further cost in the second half as we continue to progress our site consolidation program. And as usual, guidance on all of these items is provided in the appendix.

So finally, you can see the GBP 21 million receipt I've just mentioned, and you can also see that our cash tax was lower in the first half as a result of U.S. refunds and U.K. deductions related to the implementation of IFRS 15. Underlying cash tax in H2 will increase as these benefits fall away. And in addition, alongside many U.K. companies, there is potential for cash tax to increase modestly in the second half as a result of the EU decision on the CFC regime. We have generated tax benefits of approximately GBP 17 million or $22 million under these exemptions. It is not clear how much of this will be assessed. But we have provisions to cover our current best estimates, which is in the middle of that range between 0 and $22 million.

So to conclude quickly from me, our usual look at pension liabilities and debt. On the pensions on the left-hand side, H1 has seen an increase in the accounting deficit from GBP 209 million to GBP 261 million principally driven by reductions in gilt yields, which are obviously the basis for setting the discount rate used to calculate scheme liabilities. We finalized our U.K. triennial valuation in the first half, and our deficit payments will remain unchanged at previously-agreed levels and will continue until late 2023.

And then turning to debt. We have considerable headroom on covenant requirements, with net debt at 1.8x, and interest cover at 15x, with headroom of GBP 359 million against existing bank facilities at the 30th of June.

So thank you very much. And now, I'll hand you back to Tony.


Anthony Wood, Meggitt PLC - CEO & Director [3]


Okay. And thank you very much, Louisa. Before I outline the good progress that we're making on executing our strategy, I'll start with a brief overview of the dynamics in our end markets, starting with civil OE.

The grounding of the 737 MAX meant deliveries of large jets declined by 11% in the first half. However, underlying demand remained very strong, with deliveries of non-737 aircraft growing by some 20%. With our growing content on the major new platforms, the outlook is positive, at least until the early 2020s when we expect the growth of new deliveries to peak. In contrast, we expect the market for business and regional jets to be somewhat softer, with aggregate growth of around 1%.

In the aftermarket, we've seen traffic growth ease after a very strong 2018. However, the grounding of the MAX means that capacity is constrained and load factors are running very high. This means that retirements have remained low and underlying demand has been strong. Looking forward, we would expect that our growing installed base and the market share gains we've secured on new large jets will enable us to grow ahead of the market.

In defense, our continuing -- sorry, our key market is the United States, which accounts for 72% of our total defense revenue. DoD outlays have been strong, and the initial 2020 budget also looks positive. We're mindful of the risk of continuing resolution in 2019. But over the next few years, we would expect our positions on the fastest-growing and the hardest-worked military platforms to continue to drive growth.

And finally, in energy, market conditions are improving, and we expect the potential for a return to large-scale investment in LNG and the growth of renewables to offset the falling demand that we're seeing from large-frame gas turbines.

So turning then to our strategy, where, as you can see, our focus is unchanged. We remain focused on executing our 4 priorities shown on the slide that will enable us to outperform the market over the medium to long term.

So starting with our portfolio strategy, where we continue to make great strides in the introduction and exploitation of new technologies, adding to our extensive portfolio of IP, which underpins more than 70% of our revenue on sole source contracts.

When we met a couple of months ago at the Capital Markets Day, we highlighted that maintaining a portfolio of differentiated technologies is very much the bedrock of our business and this slide shows some of the progress we've made even since May. We've announced a partnership with Luna Innovations to combine their fiber-optic technology with our electronics and sensors to develop a next-generation bleed air leak detector which provides quicker, more accurate and more versatile detection of overheat conditions, enhancing passenger safety. This investment will further expand our safety systems offering, where we also continue to prioritize investment to maintain our market-leading position in fire detection and suppression.

On our all-electric braking system, our NuCarb friction material has now completed over 0.5 million brake landings on the Airbus A220. We expect electric breaking to be commonplace on next-generation aircraft given the weight saving from replacing traditional hydraulic systems. The impressive pedigree we're building in this technology means we are particularly well placed for the future programs as they emerge.

And finally, as the industry continues to develop the next generation of novel and hybrid propulsion, Meggitt is working closely with several customers to provide radically-improved thermal systems using our proprietary design tools and advanced manufacturing technologies, such as diffusion bonding and additive manufacturing we're engineering some of the critical technologies and components that are going to be needed to sustain future aviation.

In addition to the organic investment that we're making to enhance our portfolio through differentiated technology, we've also made excellent progress in sharpening our focus with the disposal of further noncore businesses. We've now made 9 divestments since December 2016 in order to increase our focus on attractive markets where we have strong competitive positions. Since the start of the year, we've sold our mainly industrial test and measurement sensing business and a small noncore ignition supplier based in Southwest France.

You'll recall that in 2017, we set ourselves the goal to have at least 80% of our revenues in the top right-hand quadrant of this portfolio chart by 2021. And as you can see on the slide, we've made excellent progress in a short space of time and now have 75% in attractive growing markets where we have strong competitive positions.

And turning next to customers, where we have a book-to-bill of 1.13x which reassures us of the continued success we are having in expanding our relationships and increasing our market share. This slide shows some recent examples. In some cases, in the middle of the slide there, announced since the Paris Air Show of customer contract awards, a number of which were announced during a successful week at Paris also. It's also been another good half for defense, we've secured further orders to supply fuel tanks for the F-18 and the C-130, and we've also expanded our content further on the F-35 with an order for cockpit equipment building on the 10-year order for engine composites that we announced back in February.

In civil, we were pleased to expand our strong positions in fire protection with an award from Cessna and in business jet brakes, where we've been awarded a sole source position to provide the breaking systems for both the Embraer Praetor, and we were also pleased to have finalized an agreement literally in the last couple of days with Dassault for the Falcon 6X.

And finally, In Energy, we're starting to see some larger orders for our heat exchanges, which includes the contract we secured with JGC to provide systems for the proposed export terminal over in British Columbia in Canada.

The strong progress that's made across all of our end markets demonstrates the success we are now seeing -- now we have in our organization aligned with our customers and increasing the accountability of our divisional leaders for growing market share across all of our key accounts.

In the aftermarket, we've made some excellent progress in our goal to change the nature of Meggitt's relationship with its customers from a short-term transactional approach to much longer-term embedded partnerships. Securing such roots to the aftermarket is critical to protect and grow our addressable aftermarket opportunity. It also provides critical data on the performance of our parts in the field and increases the visibility of future demand, enabling us to plan our operations much more effectively. It's still early days, but our success in this area is built upon the launch of our SMART Support proposition, which we launched last year, which continues to go from strength to strength. And as you can see on the slide, we've made some excellent progress in securing enduring relationships with blue-chip customers, including airlines, MRO integrators and many of our OEM customers.

We now have an aggregate backlog of around GBP 90 million worth of orders, which provides improved visibility of the future growth requirements, enables us to serve our customers much more effectively than before when we were reacting to a very short-term demand signal.

And turning next to competitiveness, where we continue to make excellent progress, particularly with the construction of our Ansty Park campus, which, as you can see on the right-hand side of the slide now is very much becoming a reality. Ansty Park will be a world-class manufacturing facility and home to 2 of our divisional leadership teams together with our PLC headquarters. We're very much looking forward to realizing the full value from this facility when we start to occupy it in the early part of next year.

But this facility is only one part of our global footprint rationalization plan, which continues to track ahead of our original schedule. We're now down to 42 sites, which is enabling us to reduce overheads, attract better talent and is increasing the speed at which we can execute across business strategies, including the deployment of the Meggitt Production System and also our centralized purchasing approach. And as you've heard from Louisa just in the last presentation, this program will consume an elevated amount of CapEx over the next couple of years, and the inventory buffers we are holding to protect deliveries to customers will constrain our working capital a little in 2019. However, it's the right thing to do, and we remain very much on plan.

We're also making very encouraging progress at our engine composites product group. At the beginning of the year, we highlighted that we would incur additional costs in the first half with the financial improvement building throughout the second half as we begin the progressive transfer of production to Mexico, and we're still very much on track to do that.

In the first half, we've continued to see rapid growth in production rates with revenue across engine composites up some 31%. We've also seen notable improvements in ultimate yield, with the majority of our key parts now at 90% or greater. And in the last couple of months, we've seen some of the operational improvements start to translate into meaningful improvements in financial performance.

The investments we're making are significantly increasing both our capacity but also our capability in one of the fastest-growing areas in aerospace, where technical barriers to entry remain very high. We're also reducing the labor intensity and improving manufacturing repeatability through the application of robotics, of adaptive machining and automated cutting and inspection techniques. We've added capacity in areas such as multiaxis compression molding, and we're optimizing flow throughout all of our composites factories.

But critically, and I'm pleased to see this, we've begun to transfer parts to our expanded facility in Mexico such as the composite spinners that you see on the right-hand side of the slide here. This factory and the equipment that you see here did not exist at this time last year. We're replicating capability, which is increasing capacity and significantly reducing risk for our customers, whose support has been key to get us to this point. We're now spooling up to begin full rate production and anticipate shipping our first parts from this site to customers in the third quarter, providing good visibility of the improved margins that we anticipate with engine composites during the second half.

And finally, to culture, where our new organization structure has enabled much greater alignment with our customers, underpinning a successful Paris Air Show a few months ago. The successful transition to this new customer-aligned structure owes much to our high-performance culture journey, which is now in its third year. We've accelerated the deployment of our training program, which has now been delivered to over 4,500 employees, and we can see the results on a day-to-day basis with our teams collaborating more effectively and also the leading indicators of employee engagement starting to improve steadily.

And finally, we've continued to strengthen the Meggitt team. Since the beginning of the year, we've welcomed 2 new nonexecutives to the Board, and we've strengthened our leadership team with the appointment of a new technology -- Chief Technology Officer and also several other critical operations and finance leaders across the business.

And this morning, we've announced that after a 25-year career with Meggitt, that Philip Green will be stepping down from his role as the group Director of Corporate Affairs. On a personal note, I'd like to thank Philip for his significant contribution to the group over a long period of time and wish him very well for a hard-earned retirement. We're delighted to have secured a successor to Philip in Andrew Garard, who will join Meggitt as Group Legal Counsel starting next month.

So turning then to guidance to bring it all together. We're upgrading our outlook for organic revenue in 2019. In civil OE, we continue to expect our share gains on the new large jet programs to enable us to outperform the growth in deliveries, and we've increased our guidance to between 5% and 7% organic growth in 2019.

In the civil aftermarket, the outlook is unchanged, with growth between 3% and 5% expected for the full year, reflecting the easing of our traffic growth, the continued headwind from lower initial provisioning spares for the 737 MAX and our exposure to lower-growth business and regional jet markets.

In the medium term, growth will increase as both our fleet and their traffic growth continue to grow with increased content on the new civil programs benefiting our aftermarket as we get into the early 2020s.

And in defense, strong performance in the first half means we now expect organic growth of between 6% to 8% for the year. Good growth in outlays and the continued focus on fleet readiness has enabled us to grow rapidly in recent years. Looking forward, we expect lower growth in the fourth quarter given the particularly challenging comparator from quarter 4 last year when spares demand grew by over 30% and the risk of uncertainty also that's still out there around the timely appropriation of the FY '20 budget in the United States.

And in energy, the outlook remains for growth to be between 0 and 5%, with growth in oil and gas, increased demand for small-frame gas turbines and for services offsetting the lower demand that we're seeing in the large-frame turbine OE markets.

And in aggregate, this means an increase in the outlook for organic revenue for the group as a whole to between 4% and 6%.

So turning next to margin, where we continue to expect growth of between 0 and 50 basis points, underpinned by the anticipated financial improvement that I've just described at our engine composites business as production moves progressively to Mexico. And given the improving outlook for both OE and defense, we expect the benefit from greater operational leverage to be broadly offset by the less favorable revenue mix that we're seeing.

And over the medium term, we remain confident in meeting our 2021 targets as the accelerating momentum from our operational transformation offsets the near-term investment we're making to grow our installed base.

So in summary, we've made encouraging progress during the first half and have a good line of sight to our upgraded revenue guidance and our margin guidance, which is unchanged at between 0 to 50 basis points in 2019. We continue to make strong progress in the execution of our strategy. We've enhanced our portfolio of differentiated technologies and increased our focus with 2 further noncore disposals. We've also grown our content on new platforms and expanded our long-term partnerships with our aftermarket customers, and we're making excellent progress in the ongoing operational transformation of the group. And our new customer-aligned structure and strengthened team further improves our ability to realize the full value from the long-term annuity that we've invested in significantly over the last few years.

There's still very much work to be done, but we have a clear strategy, and we have a great team in place that Meggitt deliver it. Our performance in the first half of 2019 is another positive step towards delivering on our medium-term targets and on realizing the full potential of the business.

And with that, we'd now like to invite your questions. And as always, if you can wait for a microphone and state your name and the organization that you represent, Louisa and I would be very grateful.


Questions and Answers


Charlotte Anne Keyworth, Barclays Bank PLC, Research Division - Analyst [1]


Charlotte Keyworth from Barclays. Two questions. The first is actually on the profit bridge. Forgive me for saying, but the H1 margin was -- is lower than it's been in probably over a decade. And if we think about the GBP 10 million EBIT growth you've delivered this half and GBP 7 million or GBP 8 million of FX benefit, assuming that we're FX neutral at the full year, it looks like we've got quite a bit to make up in H2, possibly more than 60% of EBIT. And I'm just -- judging by your commentary on charts, it looks like a lot of your confidence is coming from delivering performance on strategic initiatives. Perhaps you could give us a bit more color on how you're expecting to do that, especially on -- I thought things like site consolidation would be dilutive this year. So a bit more information on that would be very helpful.

And then secondly, on composites. Could we just break out the performance of composites from the division? Are we now in loss-making territory? And then also given some of that margin recovery is going to come from work transfer, could you give a bit more detail on the timing of that transfer, when you'd expect it to be completed, the amount of revenue that will be transferred? And would I be right in thinking you're going to get some additional buffer inventory build in H2 from that?


Anthony Wood, Meggitt PLC - CEO & Director [2]


You probably cleaned up a lot of the questions from the back row there as well. So quite a lot of questions. But maybe starting with margin. So in terms of first half versus second half, I would simply state -- say it's similar to what we've seen in previous years. We do have a strong close to the year. It's largely driven by buying patterns of our customers and particularly, in the brakes business. I guess the one thing we're seeing, we're in a period of high growth, and a lot of that growth is clearly coming on the OE side of the business as we built the annuity. So some of that is also factoring in strongly at the moment.

You should have moved then to self-help. I mean that's the clarity that, hopefully, we're providing this morning. We are increasingly confident. It's one thing to have a plan. It's another thing to build a factory, make a part and then get it approved by the customer. And the nice thing is, those were real parts that will fly on aircraft at the end of the day. Some of them will get cut out as part of the usual process of validating our manufacturing processes, but we're getting close. I mean I'm expecting it's going to be around probably late September, early October when we finally get our first composite parts delivered that actually get bolted to engines in Pratt & Whitney and that aircraft up in Bombardier and Airbus.

So that self-help confidence is really driven by the fact that a lot of the sort of waterfall risk items, we've actually delivered those over the course of the first half. So that sort of answers your question on composites as...


Louisa S. Burdett, Meggitt PLC - CFO & Executive Director [3]


It's probably worth adding just a bit of a base point. I mean last year, we moved up to -- we need about 20% margin in the second half to meet our margin guidance for the full year, and we went up to 19% in the second half last year, and we had composites more against us in that half. So we've got the usual, as Tony said, the strong second half, but we've got a fairer wind on composites business to help us through. And then just to reiterate, strat-initiatives, markets where there's -- and I think we feel pretty comfortable about it.


Anthony Wood, Meggitt PLC - CEO & Director [4]


Other questions? There's one at the front here. Andrew?


Andrew Paul Gollan, Joh. Berenberg, Gossler & Co. KG, Research Division - Senior Analyst [5]


Andrew from Berenberg. Three questions, I think. Going back to margins, first one on the full year guidance of 0 to 50 basis points improvement. As you sit here today, you've got a bit more visibility now into the second half. What are the key kind of components that will achieve 0 or 50%? What are we looking out for there?

Longer term, the medium-term margin outlook and the theme is kind of 19.9%. There's no sort of caveat around that in your speech today. We talked about free of charge, variables, I think, at the Capital Markets Day. Is there anything -- is it too soon after Capital Markets Day to give an indication whether the A321 program is progressing well, market share anticipation, that kind of thing? So just a few words on that.

And then lastly, on the defense, the benefit of the -- the one-off benefit that came through, can you just quantify that just to help us?


Anthony Wood, Meggitt PLC - CEO & Director [6]


Yes. Sure. Do you want to pick up that one, Louisa?


Louisa S. Burdett, Meggitt PLC - CFO & Executive Director [7]


So the defense benefit is around 1% of defense revenue in the half that we benefited from. Do you want me to pick up the FoCs as well?


Anthony Wood, Meggitt PLC - CEO & Director [8]


You can maybe as well, yes.


Louisa S. Burdett, Meggitt PLC - CFO & Executive Director [9]


So on your second question, Andrew, around the 19.9%, you specifically mentioned FoCs as a potential variable in that achievement. You'll see in your deck that we had GBP 37 million of FoC in the half, up from GBP 33 million last year. That's a 30 bps margin dilution, as I showed in my chart. For '19, we've tightened our guidance a little bit, and we're on track for a similar full year impact. And to your question about '20 and '21, that puts us on the trajectory of the low range of the FoC guidance that we gave you at the CMD. So at this point, we're managing that within the path to 19.9% and we'll obviously tell you if that changes.


Anthony Wood, Meggitt PLC - CEO & Director [10]


And that takes into account where we just had all of the latest announcements of secured programs like the A220 with another 60 aircraft, as you know, that were ordered only a few days ago.


Louisa S. Burdett, Meggitt PLC - CFO & Executive Director [11]


And then we had a question about risk...


Anthony Wood, Meggitt PLC - CEO & Director [12]


And this one is just about general risk on the margin of 0 to 50%. The best way to characterize it is I'd much rather be sitting here talking to you about things that are within our control rather than things that are sort of the market macro issues that we have little steer over. So our program is very much built around what are we doing in composites and what are we doing in purchasing and what are we doing in MPS in terms of particularly driving those less mature sites up to higher levels of productivity and output performance, which reflects very directly. I mean the one chart we look at internally looks at the relative maturity of MPS and the performance they're getting both operationally but also financially. And the correlation is 1:1. It's very strong. So that's where we put our energy. And those are things that -- obviously, in the first half, we've got another 6 months' worth of experience under our belt. I'm confident as to what we can deliver.

Other questions? There's one here in the front of here.


Sash Tusa, Agency Partners LLP - Research Analyst [13]


Sash Tusa from Agency Partners. I just wondered whether you could elaborate on the headwinds that you had from 737 MAX initial provisioning of spares in the first half and just how we should think about that as and when they -- MAX finally returns to service? Are you effectively -- or is the grounding storing up a large chunk of initial provisioning that would come through as the MAX returns to service? And if that's case, should we expect sort of a double dose of that in, let's say, 2020? Or is it actually very much tied to the entry and service with specific customers?


Anthony Wood, Meggitt PLC - CEO & Director [14]


Yes, that's a very good question. Two parts to it. I guess the first part, rather, would be straightforward, and that is the financial impact at the moment running based on build rates and what we'd expected at about $1 million a month of underlying operating profit shortfall as a result of not delivering those initial provisioning packages. It's quite interesting because we haven't -- since the aircraft stopped delivering back in March, we haven't delivered, really, any initial provisioning spares. I was talking to an airline the other day that had continued to buy even though they haven't yet received their aircraft so I've sent our sales team to go and talk to them because -- but because exactly the point is that we are effectively banking inventory at the moment, ready to deliver those when the aircraft do start to deliver again.

We're following Boeing's advice. Our team are in there every week. At the moment, it's quarter 4, and I'm certainly not going to get ahead of our customer on speculating on that one. But as soon as those new aircraft start to deliver, yes, we have got some of that -- those parts in inventory ready to ship, so that's a good point. The cork is still in the bottle on that one.

Another question from Andrew.


Andrew Paul Gollan, Joh. Berenberg, Gossler & Co. KG, Research Division - Senior Analyst [15]


Right. So another one for me. So you talked a bit about the longer-term support business and this kind of shift to longer-term contracts. Is there anything you can say around the kind of pricing and structure of those contracts? Is there any kind of expected margin or returns benefit over time compared to the way the business has been structured previously? It's just that -- is it kind of a new phenomenon for Meggitt?


Louisa S. Burdett, Meggitt PLC - CFO & Executive Director [16]




Anthony Wood, Meggitt PLC - CEO & Director [17]


Yes. No, again, that's a key part of our strategy. It's something we put a lot of focus on. It's taken a while for us to get clarity and equally to build momentum with our customers on what we are proposing here. The first thing that we're very focused on is increasing our addressable market. So it's one thing to have Meggitt's equipment out there flying on aircraft and engines. We clearly had some holes in the bucket where third parties were coming in and starting to maintain, provide surplus opportunities or other offerings to customers. So signing these sorts of agreements brings us very much into a partnership, gives us certainty and starts to put at least a few plugs in the bucket of business that previously should have been coming to Meggitt but was going to others. So that's the first push-the-revenue line. Once we've got that, the opportunity is then with us to drive cost. And certainty is a huge premium for us because having the data and then the ability to know that, that business is going to come to you for the next 5 years, which is probably the average length of the contracts we're signing at the moment, means we can drive the cost to those parts.

So ultimately, it's a competitive market. Airlines have learned a lot over the last decade about supporting their fleet. There's no margin erosion as a result of what we're offering. We're seeing it actually as, over time, certainly, greater revenue opportunity, protect the margin. And depending on how successful we are on the cost line, which we're in the early days of, but we'll certainly be able to offset market pressure, if not tone this up a little bit.


Louisa S. Burdett, Meggitt PLC - CFO & Executive Director [18]


It's worth mentioning as well we get access to data, which is quite helpful in terms of predictability and, to Tony's point, making our servicing of our customers easier.


Anthony Wood, Meggitt PLC - CEO & Director [19]


Yes, Harry?


Harry William Freeman Breach, MainFirst Bank AG, Research Division - Research Analyst [20]


Harry Breach from MainFirst. Tony and Louisa, just maybe 3 perhaps slightly ignorant questions. Just the revenue growth organically, full year guidance seeming to imply quite a slow second half. I know you walked us through some of the sort of segmental puts and takes there, but can you give us sort of any feeling about whether, I don't know, whether there's more sort of contingency, if you will, in how you're planning organic revenue second half?

Next question was, I know we do -- we hardly mention the phase "surplus parts" anymore, but can you give us any feeling for dynamics out there? Has it just completely dried up and perhaps 737 MAX issues have led to slower retirements and, therefore, the supply of used materials just decreased down?

And then final question, just really about MPS. And I think in the past, we've sort of spoken about progression there in facilities. In terms of how facilities are moving through the various stages, is that sort of holding to your revised plan? I know you've talked to us previously about how that hasn't quite been at the pace you thought it would be looking back 2 or 3 years ago, but are we progressing through now sort of holding to the plan?


Anthony Wood, Meggitt PLC - CEO & Director [21]


Maybe I'll take a few of those. I'm sure Louisa will want to add as well. On revenue growth in terms of -- clearly, it's nice to be sitting here and have the opportunity to upgrade relative to what we thought at the start of the year. And those numbers are quite encouraging to us. There's 3 things, really, that I'd highlight that are still very much on our mind. Firstly, in the defense aftermarket, we had a very strong closeout to the back end of last year. It's unlikely that we're going to trump a sort of 30%-plus growth rate that we saw in quarter 4 last year with something stronger even with a positive dynamic in defense. The MAX is a sort of you-tell-me until we really know when the aircraft is going back into service. Always hard for us to sort of forecast exactly how both OE and obviously that important initial provisioning spares line works.

And then we still got regional and business jet within our portfolio that's still pretty weak, broadly flat. Regional, I think, 2% increase in utilization in the first half. Business jets, pretty flat, actually. And as a result, that sort of feeds through into our expectations. We're not expecting to see any rebound in the second half, if anything, weaker still.

Do you want to add anything at the moment?


Louisa S. Burdett, Meggitt PLC - CFO & Executive Director [22]


No, just to put some numbers on that defense comp that Tony mentioned, we had 8% growth as a comp in the first half, but it increases to 13% in the second half. So that is slightly more tricky.


Anthony Wood, Meggitt PLC - CEO & Director [23]


On surplus -- no, surplus is going to be there. I think the airlines and the aviation industry has learned about using the green time remaining on parts. It's going to be a feature. We have quite a lot of surplus parts on the shelf. It's part of our offering. We are obviously very much in that market now, and we have the opportunity to offer new or used, where we've still got green time on parts.

I don't think we're going to see anything near term, but I think there will be another way, certainly, as new aircraft delivery starts to spool up. I mean even with that strong growth in the first half, it would have been stronger still, clearly, on the OE side if the MAX has been rolling off the lines. So I think we will see it in maybe 2 or 3 years' time. You'll see it starting to raise its head again, but we're prepared. I certainly don't think it's going away.

And then in MPS. We've got very good momentum. The one thing we find is when sites get to green, they tend to be much more self-perpetuating. You've got a level of core knowledge and capability in the site that they're already working the process to be able to get themselves through to bronze and silver and gold. The hardest bit is getting sites up to green, getting all the basic foundations in place: for how do you plan the business; how do you manage your sales and inventory operations, planning activity; how do you then make sure load and capacity stays in balance through the plant. And particularly, in a world where we're growing quickly, I often describe it to some of our plant managers we've got challenges. This is a first-world problem to have, to grow a business at 30%, which is what we're doing in composites as opposed to growing at 5% or 6%, which you can typically do with a bit of overtime and changing shift patterns.

So it's much more structural. And that's where MPS is sort of helping them. If you've got the bedrock and you're through the red and the yellow, that then you're going to be in better shape. And that's where we put the group support. We've got a small group team, and they're very focused on around about 8 of our sites that are in the earlier stages that have got the biggest challenges and opportunities.


Louisa S. Burdett, Meggitt PLC - CFO & Executive Director [24]


Yes, it's worth a shout-out to those teams because we've said that we're pleased with progress, but what we're doing is not easy. And in some cases, we're actually consolidating and moving sites as well as improving them through MPS. So it does take a really good dedicated team to keep these things moving through.


Anthony Wood, Meggitt PLC - CEO & Director [25]


That's code for these general managers who know Louisa extremely well.

Any other question?

Okay. Thank you all very much for coming.


Louisa S. Burdett, Meggitt PLC - CFO & Executive Director [26]


Thank you very much.


Anthony Wood, Meggitt PLC - CEO & Director [27]


I think we're done. Thank you.