Final Results

February 10 2011 ROLLS-ROYCE GROUP plc 2010 FULL-YEAR REPORT Group Highlights: - Order book remains strong at Â£59.2bn (2009 Â£58.3bn), having booked Â£12.3bn in new orders in 2010. - Group revenues increased to Â£11,085m (2009 Â£10,414m). Revenues on an underlying basis* increased by seven per cent to Â£10,866m. Services revenues increased by 13 per cent to Â£5,544m on an underlying basis. - Profit before financing was Â£1,134m (2009 Â£1,172m). - Underlying profit before taxation* increased by four per cent to Â£955m (2009 Â£915m). - The Group's financial position has been further strengthened: - Average net cash for the period improved by Â£325m to Â£960m. - Robust balance sheet with net cash of Â£1,533m at the period-end (2009 Â£1,275m) after a cash inflow in the period of Â£258m. - Final payment to shareholders increased 6.7 per cent to 9.60 pence per share, making 16.00 pence per share for the full year. * see note 2 on page 26 Sir John Rose, Chief Executive, said: "Rolls-Royce has delivered a strong performance in 2010 with record underlying revenues and profits. This reflects our global customer base and the balanced portfolio of products and services that we offer. It is a measure of progress that the Civil, Defence and Marine businesses now each generate underlying profits of more than three hundred million pounds. During 2011 the Group expects good profit growth and a modest cash inflow. "At the end of March I will retire as Chief Executive of Rolls-Royce after fifteen years. It has been an extraordinary privilege to work with so many outstanding people and to contribute to the development of a business that has been at the forefront of engineering and technology for over 100 years. "John Rishton will take over from me as Chief Executive. I wish him and all the team at Rolls-Royce continued success." Group Overview: Rolls-Royce performed well in 2010. The order book grew in the period to a record Â£59.2bn. Underlying revenues rose to Â£10.9bn, underlying profit increased to Â£955m and average net cash to Â£960m. This robust performance was achieved despite significant challenges. These results demonstrate the Groupâ€™s resilience. The breadth and balance of our portfolio and the Groupâ€™s strong position in global markets have made the business more flexible and better able to deal with economic shocks and unexpected events. This has allowed Rolls-Royce to maintain progress throughout the global financial crisis and subsequent disruption to the world economy which began in 2007. During this three year period the business has grown underlying revenues by 39%, profits by 19% and average net cash by Â£610m whilst increasing payments to shareholders by 23%. We have continued to invest for the long-term, spending more than Â£4bn since 2007 in facilities, plant, IT, training and product development. These investments are funding world class facilities in all major geographies, providing capacity for future growth, contributing to improved productivity and delivering products with operational lives most of which are expected to extend to thirty years and more. Recovery in the global economy remains uneven, with growth subdued in a number of developed countries. This makes it particularly important that Rolls-Royce has the ability to access those markets where demand remains strong for the complex integrated power systems and services that we supply and which others cannot easily replicate because of high barriers to entry. During 2010 the Group has made good progress with a number of the key development programmes which underpin our future growth. These include the Trent 1000 for the Boeing 787, the Airbus A400M, where the TP400 engine has now accumulated more than three thousand hours of flying time, and the Gulfstream G650, on which the BR725 successfully met all project milestones during the year. The engine for the Airbus A350 XWB, which is due to enter service in 2013, ran for the first time in June. The submarine HMS Astute was accepted into service by the Royal Navy, with a second submarine, HMS Ambush launched recently. The Type 45 destroyer, HMS Daring successfully completed its programme of sea trials during the year. The first Rolls-Royce powered Littoral Combat Ship (LCS) entered active duty with the US Navy, with a second vessel launched in December. Importantly, in January 2011, the US Navy confirmed an order for propulsion systems for a further ten Rolls-Royce powered Littoral Combat Ships, representing the most valuable naval surface ship order the Group has received. In April, the Marine business completed the acquisition of ODIM ASA (ODIM), acquiring the remaining 67 per cent of shares for a cost of Â£147m, bringing the total cash investment in ODIM to Â£218m. ODIM adds capability to our strong marine systems portfolio in target markets such as seismic towing, oceanographic survey and subsea and deep-water installation systems. An uncontained disc release occurred on a Trent 900 engine on board a Qantas operated Airbus A380 in November 2010. This regrettable incident attracted widespread attention. Uncontained disc failures happen with a frequency of about once a year on the worldâ€™s large civil aircraft fleet. However this was the first time an event of this nature had occurred on a large civil Rolls-Royce engine since 1994. The safety of our products is our highest priority, and each time a serious incident happens, Rolls-Royce and the aviation industry learn lessons. These are embedded in the rigorous certification requirements, safety procedures and standards of regulation which make flying an extraordinarily safe form of transport. In line with this regime, Rolls-Royce worked closely with the regulators, Airbus and our customers to put in place an effective inspection programme, to identify root cause and to achieve a rapid return of the Trent 900 fleet to normal operation. The bulk of the anticipated costs associated with this event have been recognised in the 2010 results. This is in line with the Interim Management Statement of November 2010. A Consistent Strategy for Long-Term Growth: We are building our business through the disciplined application of our long-term strategy. This has afforded Rolls-Royce strong positions in four growth sectors: civil aerospace, defence aerospace, marine and energy. As an example, our success in the wide-body aircraft market means Rolls-Royce expects to more than double the number of Trent engines being delivered by the middle of this decade. This step change in volume, together with growth from the portfolio, requires consistent investment in new facilities and capabilities. In 2010, good progress was made in the construction of major new facilities at Crosspointe in Virginia, USA, which has already started to manufacture components, and at Seletar in Singapore where we will assemble and test large civil engines such as the Trent 900, the Trent 1000 and the Trent XWB. These two state of the art facilities, covering approximately 87,000 square metres, or around four per cent of our current global footprint, will employ at least 850 men and women. Both are making good progress, with full operation at Crosspointe expected later this year and the start of operations at Seletar in 2012. Rolls-Royce opened a Mechanical Test and Operations Centre at Dahlewitz in Germany, and a new facility to support the Lockheed Martin Lightning II Joint Strike Fighter (JSF) LiftFan capability in Indianapolis, USA. Rolls-Royce also expanded the Civil aerospace joint venture repair and overhaul facility in Singapore, increasing capacity to 250 large engines per year. In addition we opened a new joint venture icing test facility in Manitoba Canada. We continue to develop our UK footprint with good progress on a new nuclear manufacturing facility for both naval and civil nuclear capability. In addition, we are supporting the development of six advanced manufacturing research centres, four of which will be based in the UK, to improve manufacturing performance across the supply chain. We continue to expand our activities in civil nuclear power generation. Our capabilities in nuclear technology, developed over 50 years, position us well in this fast growing sector. During 2010 we secured contracts to provide nuclear instrumentation and control safety systems in Slovakia and in China. We have also deepened our understanding and relationships with reactor vendors and utilities in the UK and around the world. Our consistent strategy has created a portfolio which we believe will double revenues in the next decade through organic growth alone. Our confidence in the long-term growth prospects of the Group is reflected in the decision to recommend a final payment to shareholders of 9.60 pence per share â€“ bringing the full year payment to 16.00 pence per share, an increase of 6.7 per cent for 2010. Strong financial position: The Group's financial position was further strengthened in 2010. Average net cash balances for the year were Â£960m, an improvement of Â£325m over the same period in 2009, with period-end cash balances improving Â£258m to more than Â£1.5bn. The Group's debt maturities are well spread, with the debt credit ratings assessed by all major rating agencies as strong with a stable outlook. Following the maturity of the â‚¬750m Eurobond in the first half of 2011, the Group's funding costs are expected to be reduced in 2011 by around Â£10m compared to 2010. There have been no major changes in the position of the Group's UK pension funds over the year. Two smaller UK funds completed their triennial actuarial valuations, with no significant changes in the Group's net deficit position or ongoing cash funding requirements. The availability of finance for our customers in the wholesale markets has improved over the course of 2010. As a result, the level of financial or contingent support remains modest. Trading Summary: Good access to global markets and a broad range of product and service offerings helped secure orders worth Â£12.3bn in 2010, ensuring that the Group's order book increased to a record Â£59.2bn at the period end. Approximately Â£18.1bn of the order book relates to long-term service contracts. There were significant wins in all divisions. Civil Aerospace secured orders for more than 300 Trent engines. More than Â£2.1bn of new activity in Defence included substantial services contract awards to support US, Canadian and UK transport and combat fleets. In the Marine business there are encouraging signs of increasing demand in the offshore and commercial marine markets, and in 2010, the first order for the new Wave-Piercing design was signed. The Energy division continued to make good progress with overall orders in the oil and gas and power generation sectors similar to 2009; within civil nuclear there was healthy demand for instrumentation and control equipment and services. Group revenues increased by six per cent to Â£11.1bn. Underlying revenues improved by seven per cent. There was good growth in underlying service revenues which increased by 13 per cent with double digit growth coming from the Civil Aerospace, Marine and Energy businesses. The Group maintained its policy of managing foreign exchange risk through its long-term hedging programme in the period. The hedge book increased to $21bn at 31 December 2010 at an average rate of $1.60. Underlying profits in the period benefited by Â£74m. This included Â£72m from a nine cent improvement in the USD achieved rate, principally through the utilisation of the hedge book, and a further net Â£2m from translation benefits on overseas businesses, mainly NOK and USD effects. For 2011, USD achieved rates are expected to improve again by between six and nine cents contributing a further Â£50m to Â£75m to underlying profit. Investment in research and development was Â£923m (2009 Â£864m), of which the Group funded Â£506m, approximately 4.7 per cent of underlying revenues. The charge to the income statement increased by Â£43m to Â£422m. This is a function of higher cash spend and slightly lower net capitalisation in the period. These trends are expected to continue in 2011 as more engineering resource is devoted to early-phase programmes, such as the Trent XWB where spend is charged to the income statement in the period in which it is incurred. As a result, the charge for research and development in the 2011 income statement is expected to be around Â£40m higher than in 2010. The Group's underlying trading result included a number of one-off items including the benefits from a spares distribution and logistics deal with Aviall. These substantially mitigated charges relating to the Trent 900 failure in November 2010 and a provision for retrofit charges in the Energy business. Underlying profit before tax, which excludes the non-cash impact of the hedge book and other financial instruments, increased by four per cent to Â£955m (2009 Â£915m). This profit growth reflected improved revenue mix from services in the period, good cost control, positive FX impact and broadly similar unit costs in the gas turbine activities partly offset by the ongoing headwinds associated with bringing new products to market, higher charges for research and development as well as the one-off items noted above. Despite these challenges, the Group delivered strong trading performances in Defence and Marine where profit grew by more than 20 per cent in each, and in Energy which grew by 13 per cent. This more than offset the reduction in profitability in the Civil business. The Group's reported profit before tax was Â£702m, compared with Â£2,957m in 2009, and included the effects of the "mark-to-market" of its financial instruments, for which hedge accounting is not adopted. The impact of mark-to-market is included within net financing in the income statement (see note 3 on page 29). The underlying tax charge of Â£236m increased Â£49m from 2009 as the effective rate rose to 24.7 per cent for the period, from 20.4 per cent in 2009. The 2009 effective rate benefited from a one-off Â£35m credit following the successful completion of overseas tax audits and changes in legislation. The underlying tax rate is expected to remain at around 25 per cent in 2011. Underlying earnings per share declined by two per cent to 38.73p (2009 39.67p), primarily reflecting a higher effective tax rate in 2010. Basic earnings per share were 29.20p (2009 120.38p), reflecting the mark-to-market adjustments described above. The Group reported a good cash performance. Net cash inflow was Â£258m for the period, reflecting an increase in underlying profitability, improved working capital performance and the receipts of inventory disposals under the Aviall distribution services agreement. Significant outflows during the year included the acquisition of ODIM ASA, increased investments in product development and facilities and higher payments for taxes and to shareholders in the period. Group prospects: Our consistent strategy has created a broad and balanced portfolio, and established a strong financial foundation from which to support investment in technology, capability and capacity. We continue to experience strong demand in emerging economies, which is more than mitigating a subdued recovery in some of our traditional markets. The strong order book and balanced portfolio gives us confidence that the Group will double revenues organically over the next decade. We continue to have the management and financial capacity to accelerate growth through acquisition and partnership. The Group expects underlying revenues to grow modestly in 2011. We anticipate a slowdown in original equipment revenues in the Marine business and to experience the initial impacts of spending cuts by some customers in our Defence business. However, this is expected to be more than compensated for by growth in service activities in the Civil aerospace and Marine businesses. Group underlying profits in 2011 are expected to see good growth benefiting from a strong trading performance in the Civil aerospace business, a better revenue mix, improved achieved foreign exchange rates and a continued focus on cost control. The Marine and Defence aerospace businesses are expected to deliver stable performances despite the current challenges in their markets and the Energy business is expected to deliver good profit growth in the year. Average net cash balances are expected to remain at broadly similar levels to those achieved in 2010 after a modest cash inflow in 2011. Other Matters: Proposed arrangements for the creation of a new holding company: Rolls-Royce Group plc is proposing a change to its corporate structure by means of a Scheme of Arrangement, creating a new non trading listed entity; New Holdco (see page 38). Contingent liabilities and contingent assets: Note 10 on page 32 refers to material litigation between Rolls-Royce and United Technologies Corporation regarding patents for swept fan blade technologies. Enquiries: Investor relations: Mark Alflatt Director of Financial Communications Rolls-Royce plc Tel: +44 (0)20 7227 9237 mark.alflatt@rolls-royce.com Media relations: Josh Rosenstock Head of Corporate Communications Rolls-Royce plc Tel: +44 (0)20 7227 9239 josh.rosenstock@rolls-royce.com www.rolls-royce.com For news desks requiring visual material, photographs are available at www.rolls-royce.com and news broadcasters requiring broadcast-standard video can visit www.thenewsmarket.com/rolls-royce. If you are a first-time user, please take a moment to register. In case you have any questions, please email journalisthelp@thenewsmarket.com. A copy of this report in Portable Document Format (PDF) can be downloaded from the investors section of the website at www.rolls-royce.com. This Results Announcement contains certain forward-looking statements. These forward-looking statements can be identified by the fact that they do not relate only to historical or current facts. In particular, all statements that express forecasts, expectations and projections with respect to future matters, including trends in results of operations, margins, growth rates, overall market trends, the impact of interest or exchange rates, the availability of financing to the Company, anticipated cost savings or synergies and the completion of the Company's strategic transactions, are forward-looking statements. By their nature, these statements and forecasts involve risk and uncertainty because they relate to events and depend on circumstances that may or may not occur in the future. There are a number of factors that could cause actual results or developments to differ materially from those expressed or implied by these forward-looking statements and forecasts. The forward-looking statements reflect the knowledge and information available at the date of preparation of this Results Announcement, and will not be updated during the year. Nothing in this Results Announcement should be construed as a profit forecast. Review by Business segment*1 Civil aerospace 2010 2009 Order book (Â£bn) 48.5 47.0 Engine deliveries 846 844 Underlying revenues (Â£m) 4,919 4,481 Underlying OE revenues (Â£m) 1,892 1,855 Underlying services revenues (Â£m) 3,027 2,626 Underlying profit before financing (Â£m) 392 493 The Civil portfolio benefits from having a large and growing, broad-based, and relatively young fleet of engines. Major milestones were achieved on key flight test programmes in 2010 that will further expand the portfolio and underpin long-term growth. In the wide-body sector, the Trent 1000 has now accumulated more than 2,000 hours of flight time on the Boeing 787 which is due to begin commercial operation in 2011. The Trent XWB ran for the first time in June 2010. Three engines are now included on the test programme with a further four engines expected to come on stream in 2011. In the Corporate and Regional sector, the first Embraer Legacy 65 was delivered to its customer in December. The Gulfstream G650 is expected to enter service in 2012. However, trading conditions remain challenging. The increasing costs of bringing major new programmes to market, higher research and development charges and the net effect of a number of one-off items all contributed to a decline in profitability, largely as had been expected. This decline was partially offset by foreign exchange benefits and improving productivity. The failure of a Trent 900 engine on an Airbus A380 in November 2010 generated considerable scrutiny of the aircraft and engine programme. A rapid and effective response from all stakeholders, including Qantas, Airbus, Rolls-Royce and the regulatory bodies, enabled quick understanding of the cause, issues and remedies and the return to normal service within a matter of weeks. The costs provided for this failure, including incremental service and support costs, un-contracted settlements to all affected customers and the impact on the Group's operational activity totalled Â£56m, and are reflected in the 2010 underlying profit performance. A modest level of additional costs may be incurred in 2011. Orders totalling Â£7.5bn were received during the year, resulting in a record order book at the year end. This included orders for more than 300 Trent and 188 V2500 engines. The Trent 700 continues to lead the Airbus A330 market. It has won more than 90 per cent of orders in 2010, and more than 70 per cent in the last five years. The outlook for the programme remains particularly strong with the Trent 700 order book at record levels, despite having delivered 139 engines in 2010. Orders totalling more than 150 engines were also received for the Trent 1000 and Trent XWB. These two programmes now have over 1,700 engines in the order book, similar to the existing operating civil Trent fleet which began service in 1994. In total, the civil order book includes more than 5,100 engines. This is equivalent to more than 35 per cent of today's installed fleet which was delivered over more than 25 years. The overall level of new engine deliveries remained broadly stable. A record number of V2500 engines for the Airbus A320 family of aircraft was offset by lower deliveries of Trent engines, reflecting the schedule status of major new aircraft programmes. Service revenues grew 15 per cent from 2009 levels including a four per cent benefit from better FX rates and a five per cent benefit from a distribution services agreement with Aviall which will not be replicated in 2011. The costs associated with the early phases of new programmes, changes in revenue mix and increased R&D charges, together with the net impact of a number of one-off items, were the cause of weaker margins. While the airline industry showed some improvement, the impact on services revenues remains modest with around five per cent organic growth in the year. Continued capacity discipline by airlines, the impact of the volcanic ash disruption in April and subdued economic activity in Europe and the USA constrained services revenues growth. Civil aerospace outlook Air travel and air freight are recovering but the extent of the improvement varies by engine programme, customer and region and future trends remain uncertain largely for macroeconomic reasons. There are encouraging signs of the return of much delayed "time and materials" activities on a number of programmes, and overall service growth in 2011 is expected to be in the mid to high single digit range. In addition, continuing launch and programme costs and higher R&D charges will cause headwinds. However, further service revenue growth, better achieved FX rates and improving productivity are expected to more than offset these headwinds, resulting in underlying profits increasing by around 25 per cent in 2011. *1 Commentaries relate to underlying revenues and profits unless specifically noted Defence aerospace 2010 2009 Order book (Â£bn) 6.5 6.5 Engine deliveries 710 662 Underlying revenues (Â£m) 2,123 2,010 Underlying OE revenues (Â£m) 1,020 964 Underlying services revenues (Â£m) 1,103 1,046 Underlying profit before financing (Â£m) 309 253 The Defence aerospace portfolio is characterised by its large installed fleet of engines, supporting more than 160 customers in 103 countries. There continue to be risks to defence spending in our traditional markets in Europe and the US. However, our broad product portfolio and strong service and support position on many of the new and established global defence aircraft programmes provide protection against these changes. We still see growth opportunities in these traditional markets and, in addition, we are well positioned to secure growth from emerging economies in Asia, India, the Middle East and South America. A significant number of new Rolls-Royce powered helicopter, transport and combat aircraft programmes continue to make good progress. The F-35 Lightning II Joint Strike Fighter (JSF) LiftSystemâ„¢achieved initial service release. The first flight of an F-35 powered by the F136 is currently planned for 2011. There continues to be uncertainty related to the funding of the F136 engine programme. The TP400 engine has achieved more than 3,000 engine flight test hours on the four aircraft involved in the flight test programme and has now completed all certification testing. In 2010, the Launch Nations reconfirmed their commitment to the A400M programme, although the Launch Nations and Airbus remain in final negotiations to modify the existing agreement. Europrop International, the engine consortium in which Rolls-Royce has a 28 per cent interest, and Airbus are simultaneously in negotiations to modify their agreement in support of the A400M. Orders in the period totalled more than Â£2.1bn, with Â£1.5bn related to service contracts. These service contracts included the UK's Royal Air Force's fleet of RB199 powered Tornado aircraft and major orders from the US and Canada to support AE 2100 engines for the C-130J transport aircraft. The completion of the Strategic Defence and Security Review (SDSR) in the UK had a modest impact on the portfolio, with some initial effects on combat sector aftermarket revenues from 2011 onwards. Despite this, the order book remains strong at Â£6.5bn, in line with 2009. Trading in the period made good progress. Lower restructuring spend, improving operational performance and mix benefits from the completion of a long-term services arrangement supported good margin and underlying profit improvement for the year. Defence aerospace outlook The expansion of the portfolio, strong positions in military transport and access to a global customer base puts the defence business in a good position to access growing markets. Revenues are expected to grow by mid single digits with further significant OE progress and stable service revenues reflecting changes announced with the SDSR in 2010. Broadly similar underlying profits to 2010 are expected. Marine 2010 2009 Order book (Â£bn) 3.0 3.5 Underlying revenues (Â£m) 2,591 2,589 Underlying OE revenues (Â£m) 1,719 1,804 Underlying services revenues (Â£m) 872 785 Underlying profit before financing (Â£m) 332 263 The Marine business provides complex integrated power systems for a range of applications in the offshore oil and gas, specialist vessel and naval markets. It has more than 2,500 customers including 70 navies, with equipment installed on more than 30,000 vessels worldwide. The Marine business delivered another strong year, despite a sluggish recovery in new shipbuilding activity. Service opportunities increased as a result of the large number of vessels incorporating Rolls-Royce equipment entering the market and our expanding services network. New programmes have achieved a number of important milestones. These included the Littoral Combat Ship (LCS) entering active duty, the launch of the second MT30 powered LCS, USS Fort Worth, and the confirmation in January 2011 of orders for a further 10 Rolls-Royce powered LCS vessels for delivery over the next few years. Sea trials for the nuclear powered Astute class submarine and the Type 45 Destroyer, HMS Daring, progressed well. In commercial marine, the world's largest gas powered ferry powered by Bergen gas engines was commissioned, and the first order was secured for the innovative UT 790 Wave-Piercing vessel. The new Wave-Piercing design improves vessel stability and crew safety, while minimising environmental impact. The completion of the acquisition of ODIM ASA further extends our capabilities within the offshore oil and gas market. It also strengthens our position in growth segments including subsea, well intervention and seismic survey activities. We acquired the remaining 67 per cent of the business in April, an investment of Â£147m in cash (Â£218m including the 2009 investment). The Marine business performed particularly strongly through the year with considerable mix change and operational volatility managed well. There were no cancellations of existing orders in the second half of 2010 and we are starting to observe some encouraging signs of a recovery in demand. Order intake increased to Â£1.8bn, more than double the 2009 level. However, because of the high rate of deliveries in the year, the order book declined. The original equipment order cycle remains a key factor for the 2011 and 2012 outlook. Investment in the global service capability continued, with new facilities being built in Poland and Germany. New service infrastructure developed and commissioned in the prior three years supported good aftermarket revenue growth of 11 per cent in the period. Mid teens service revenue growth is anticipated for 2011. The combination of improving revenue mix, strong operational performance, more favourable contract pricing and the non-recurrence of a number of one-off charges in 2009 more than offset original equipment volatility and contributed to a strong improvement in margins and profitability in 2010. Marine outlook Demand for sophisticated offshore oil and gas exploration and production capabilities, and for cleaner more efficient vessels remains encouraging. Revenue in 2011 is expected to be similar to 2010, reflecting weaker original equipment revenues, offset by a full year of contribution from ODIM ASA and further good growth in service revenues. Full-year profits are expected to be similar to those of 2010. Energy 2010 2009 Order book (Â£bn) 1.2 1.3 Engine deliveries 95 87 Underlying revenues (Â£m) 1,233 1,028 Underlying OE revenues (Â£m) 691 558 Underlying services revenues (Â£m) 542 470 Underlying profit before financing (Â£m) 27 24 The Energy business supplies gas turbines, compressors and diesel power units to customers around the world. The business is a world leader in the supply of power for onshore and offshore oil and gas applications. In addition, we continue to invest in low carbon technologies including fuel cells, tidal power generation and civil nuclear. Revenues in the Energy division grew strongly in the period. We reported growth of 24 per cent in original equipment revenues and 15 per cent service revenue growth in the period - total revenues have grown more than 60 per cent over the last two years. However, a Â£26m one-off charge relating to retrofit costs across the industrial Trent fleet of Dry Low Emissions (DLE) engines reduced underlying profit growth in the year. Order intake of Â£0.9bn ensured a stable order book which ended the period at Â£1.2bn. The oil and gas sector continued to move ahead with substantial investment plans, especially in Brazil, West Africa and Asia. It remains too early to judge how the Macondo well incident in the Gulf of Mexico will impact our business, but we have seen no significant changes in customer behaviour to date. The Group continues to focus on improving operating performance. Investments in new assembly facilities and testbeds have helped improve execution whilst managing exceptional load growth. In low carbon technology programmes, the tidal power demonstrator project in the Pentland Firth, Scotland successfully exported electrical power to the UK National Grid. Further trials and an expansion of the unit from 500kW to 1 MW are planned. Ongoing development of the fuel cell technology programme continued, although with investment at a lower level than in prior years. The Group made good progress in the civil nuclear area with the announcement of a memorandum of understanding with Larsen & Toubro in India focusing on light water reactors in India and internationally. A separate memorandum of understanding was signed with the UK consortium (Nuclear Power Delivery) to support the Westinghouse AP1000â„¢ nuclear reactor. Orders for instrumentation and controls systems for customers in Slovakia and China were completed. Significant revenue growth in the year, up by 20 per cent overall, lower spend on R&D and modest foreign exchange benefits helped offset one-off industrial Trent retrofit charges in the period. Energy outlook Continued original equipment revenue growth and improving operational performance 2010 are expected to support further progress in margins and underlying profits in 2011. Financial Review - 2010 full year performance Foreign exchange: Currency movements had a material effect on the Group's reported financial performance in 2010, with the GBP exchange rates against the USD, EUR and the NOK having the biggest influence. These movements have affected the reported income statement, the cash flow and the closing net cash position (as set out in the financial statements) in the following ways: 1. Income statement - the most significant impact was the period-end mark-to-market of outstanding financial instruments (foreign exchange contracts, interest rate, commodity and jet fuel swaps). The principal adjustments related to the GBP~USD hedge book. The principal spot rate movements in the period were as follows: Dec 31 2009 Dec 31 2010 GBP ~ USD Â£1~$1.62 Â£1~$1.57 GBP ~ Euro Â£1~â‚¬1.13 Â£1~â‚¬1.17 GBP ~ NOK Â£1~NOK9.33 Â£1~NOK9.10 The average rates throughout the year were: 2009 2010 GBP ~ USD Â£1~$1.57 Â£1~$1.54 GBP ~ Euro Â£1~â‚¬1.12 Â£1~â‚¬1.17 GBP ~ NOK Â£1~NOK9.82 Â£1~NOK9.33 The impact of the period-end mark-to-market on all of the outstanding financial instruments is the principal element included within net financing costs in the income statement of Â£(432)m (2009 Â£1,785m net financing income). This contributed to a published profit before tax of Â£702m (compared to a profit before tax of Â£2,957m in 2009). These adjustments are non-cash accounting adjustments required under IAS 39 and do not, therefore, reflect the underlying trading performance of the Group for the period. Underlying profit before tax of Â£955m included Â£74m of foreign exchange benefits. The achieved rate on selling net USD income was around nine cents better in 2010 than 2009, contributing Â£72m of transactional benefits. 2. Balance sheet and cash flow - The Group maintains a number of currency cash balances which vary throughout the financial year. These were impacted by the movements in exchange rates during the period, causing a small improvement of Â£17m in the periodic cash flow and hence the closing balance sheet cash position. Income statement: The firm and announced order book, at constant exchange rates, was Â£59.2bn (2009 Â£58.3bn) after reflecting new order intake of Â£12.3bn in the period. Aftermarket services included in the order book totalled Â£18.1bn (2009 year-end Â£16.5bn). Revenues increased by six per cent compared with 2009 to Â£11,085m. Revenues on an underlying basis grew by seven per cent. Payments to industrial Risk and Revenue Sharing Partners (RRSP's), charged in cost of sales, amounted to Â£198m (2009 Â£231m). Gross research and development investment was Â£923m (2009 Â£864m). Net research and development investment, charged to the income statement, was Â£422m (2009 Â£379m) after net capitalisation of Â£84m (2009 Â£92m) on development programmes in the period. Receipts from RRSPs in respect of new programme developments, shown as other operating income, were Â£95m (2009 Â£89m), as key partners joined major new programmes, primarily the Trent XWB. Receipts are expected to be around Â£20m lower in 2011 reflecting the phasing of milestones on major programmes Restructuring costs of Â£46m (2009 Â£55m) were charged, reflecting the ongoing improvement programmes designed to improve future operational performance. The amortisation and depreciation charge in the year was Â£367m (2009 Â£315m) and is expected to increase by a similar amount in 2011 as the historical investment in programme related costs and new operational facilities come into service. Underlying profit margins before financing fell by approximately 0.4 per cent to 9.3 per cent in the period, reflecting mix changes in revenue, increased research and development charges, provisions relating to the Trent 900 failure and the industrial Trent retrofit charges. These headwinds were partially offset by both transactional and translational foreign exchange benefits of Â£74m, a number of one-off benefits, improving operational performance and lower restructuring charges. Net financing costs were Â£432m (2009 Â£1,785m net financing income) including the effects of mark-to-market revaluations. Underlying finance costs were Â£55m (2009 Â£68m), reflecting reduced financing charges on financial RRSP arrangements which more than offset lower yields on cash deposits. Underlying profit before tax was Â£955m (2009 Â£915m). Underlying earnings per share reduced by two per cent, to 38.73p (2009 39.67p) (see note 4 on page 29), after an increase in the effective rate of underlying tax, to 24.7 per cent (2009 20.4 per cent). The income statement tax charge was Â£159m (2009 Â£740m), reflecting the large mark-to-market adjustment caused by the spot revaluation of various financial instruments at the period-end. The taxation charge on an underlying basis was Â£236m (2009 Â£187m), representing 24.7 per cent of underlying profit before tax. The 2011 underlying tax rate is expected to be around 25 per cent. Balance sheet: Investment in intangibles during the period was Â£325m (2009 Â£342m) and included Â£111m (2009 Â£123m) for recoverable engine costs, Â£111m (2009 Â£121m) for capitalised development costs and a further Â£57m (2009 Â£66m) for certification costs and participation fees. In addition a total of Â£211m of goodwill and other intangibles were recognised on the acquisition of ODIM ASA. The continued development and replacement of operational facilities contributed to a total investment in property, plant and equipment of Â£361m (2009 Â£291m). Overall, 2011 investment in tangible and intangible assets is expected to be slightly above the 2010 level of Â£686m. The overall net position of assets and liabilities for TotalCare packages on the balance sheet was an asset of Â£920m (2009 Â£970m). The movements reflect new agreements, timing of overhauls and changes in foreign exchange rates. Provisions were Â£544m (2009 Â£442m), including increased provisions against warranties and guarantees, reflecting higher volumes. Provisions carried forward in respect of potential customer financing exposure were Â£78m (2009 Â£71m). Cash flow: Overall working capital was reduced by Â£366m in the period due to a combination of reduced overdue debtors and higher trade payables and accruals. The cash inflow in the period of Â£258m (2009 outflow Â£183m) included a Â£17m benefit (2009 Â£141m outflow) relating to the period-end revaluation of foreign currency cash balances. Excluding the effects of period-end revaluations, cash flow for the period was Â£283m better than 2009. The improvement from 2009 primarily reflected a better performance on deposits and other financial working capital. Average net cash for the period was Â£960m (2009 Â£635m). The net cash balance at the period-end was Â£1,533m (2009 Â£1,275m). There were no material changes to the Group's gross and net contingent liabilities in the period. Contingent liabilities include commitments made to Civil aerospace customers in the form of asset value guarantees (AVGs) and credit guarantees. At the period end, the gross level of commitments on delivered aircraft was $991m (Â£633m), comprising $618m for AVGs and $373m for credit guarantees. The net exposure after reflecting the level of security was $190m (Â£121m). The proposed final payment to shareholders is equivalent to 9.60 pence per ordinary share (2009 9.00 pence), a 6.7 per cent increase over the 2009 final payment making a total of 16.00 pence per ordinary share for 2010. The payment to shareholders will, as before, be made in the form of redeemable C Shares which shareholders may either choose to retain or redeem for a cash equivalent. The Registrar, on behalf of the Company, operates a C Share Reinvestment Plan (CRIP) and can, on behalf of shareholders, purchase ordinary shares from the market rather than delivering a cash payment. Shareholders wishing to redeem their C Shares or else redeem and participate in the CRIP must ensure that their instructions are lodged with the Registrar, Computershare Investor Services Plc, no later than 5pm on June 6, 2011. The final payment is payable on July 5, 2011 to shareholders on the register on April 26, 2011 and the final day of trading with entitlement to C Shares is April 19, 2011. This final payment will be made by the new listed entity, New Holdco, subject to the Scheme of Arrangement becoming effective. Condensed consolidated income statement For the year ended December 31, 2010 2010 2009 Notes Â£m Â£m Revenue 2 11,085 10,414 Cost of sales (8,885) (8,303) Gross profit 2,200 2,111 Other operating income 95 89 Commercial and administrative costs (836) (740) Research and development costs (422) (379) Share of results of joint ventures and associates 93 93 Operating profit 1,130 1,174 Profit/(loss) on disposal of businesses 4 (2) Profit before financing and taxation 2 1,134 1,172 Financing income 453 2,276 Financing costs (885) (491) Net financing 3 (432) 1,785 Profit before taxation *1 702 2,957 Taxation (159) (740) Profit for the year 543 2,217 Attributable to: Ordinary shareholders 539 2,221 Non-controlling interests 4 (4) Profit for the year 543 2,217 Earnings per ordinary share attributable to shareholders 4 Basic 29.20p 120.38p Diluted 28.82p 119.09p Underlying earnings per ordinary share are shown in note 4. Payments to ordinary shareholders in respect of the year 5 Per share 16.0p 15.0p Total 299 278 *1 Underlying profit before taxation 955 915 Condensed consolidated statement of comprehensive income For the year ended December 31, 2010 2010 2009 Â£m Â£m Profit for the year 543 2,217 Other comprehensive income (OCI) Foreign exchange translation differences on foreign operations 22 (156) Net actuarial gains/(losses) relating to post-employment schemes 157 (1,148) Movement in unrecognised post-retirement surplus (300) 707 Movement in post-retirement minimum funding liability 49 40 Transfers from transition hedging reserve - (27) Share of OCI of joint ventures and associates (16) 20 Related tax movements 29 141 Total comprehensive income for the year 484 1,794 Attributable to: Ordinary shareholders 480 1,799 Non-controlling interests 4 (5) Total comprehensive income for the year 484 1,794 Condensed consolidated balance sheet At December 31, 2010 2010 2009 Notes Â£m Â£m ASSETS Non-current assets Intangible assets 6 2,884 2,472 Property, plant and equipment 2,136 2,009 Investments - joint ventures and associates 393 437 Investments - other 11 58 Other financial assets 7 371 637 Deferred tax assets 451 360 Post-retirement scheme surpluses 9 164 75 6,410 6,048 Current assets Inventories 2,429 2,432 Trade and other receivables 3,943 3,877 Taxation recoverable 6 12 Other financial assets 7 250 80 Short-term investments 328 2 Cash and cash equivalents 2,859 2,962 Assets held for sale 9 9 9,824 9,374 Total assets 16,234 15,422 LIABILITIES Current liabilities Borrowings 8 (717) (126) Other financial liabilities 7 (105) (181) Trade and other payables (5,910) (5,628) Current tax liabilities (170) (167) Provisions for liabilities and charges (276) (210) (7,178) (6,312) Non-current liabilities Borrowings 8 (1,135) (1,787) Other financial liabilities 7 (945) (868) Trade and other payables (1,271) (1,145) Deferred tax liabilities (438) (366) Provisions for liabilities and charges (268) (232) Post-retirement scheme deficits 9 (1,020) (930) (5,077) (5,328) Total liabilities (12,255) (11,640) Net assets 3,979 3,782 EQUITY Equity attributable to ordinary shareholders Called-up share capital 374 371 Share premium account 133 98 Capital redemption reserves 209 191 Hedging reserves (37) (19) Other reserves 527 506 Retained earnings 2,769 2,635 3,975 3,782 Non-controlling interests 4 - Total equity 3,979 3,782 Condensed consolidated cash flow statement For the year ended December 31, 2010 2010 2009 Notes Â£m Â£m Reconciliation of cash flows from operating activities Profit before taxation 702 2,957 Share of results of joint ventures and associates (93) (93) (Profit)/loss on disposal of businesses (4) 2 Profit on disposal of property, plant and equipment (10) (40) Net financing 3 432 (1,785) Taxation paid (168) (119) Amortisation of intangible assets 130 121 Depreciation of property, plant and equipment 237 194 Impairment of investments 3 - Increase in provisions 99 81 Decrease in inventories 41 119 Decrease/(increase) in trade and other receivables 39 (14) Increase/(decrease) in trade and other payables 286 (183) Increase in other financial assets and liabilities (299) (303) Additional cash funding of post-retirement schemes (135) (159) Share-based payments 50 31 Transfers of hedge reserves to income statement - (27) Dividends received from joint ventures and associates 68 77 Net cash inflow from operating activities 1,378 859 Cash flows from investing activities Additions of unlisted investments (1) (2) Disposals of unlisted investments 46 - Additions of intangible assets (321) (339) Disposals of intangible assets - 2 Purchases of property, plant and equipment (354) (258) Disposals of property, plant and equipment 38 82 Acquisitions of businesses (150) (7) Disposals of businesses 2 3 Investments in joint ventures and associates (19) (87) Net cash outflow from investing activities (759) (606) Cash flows from financing activities Repayment of loans (108) (10) Proceeds from increase in loans 68 693 Capital element of finance lease payments - (3) Net cash flow from (decrease)/increase in borrowings (40) 680 Interest received 11 24 Interest paid (65) (66) Interest element of finance lease payments - (1) Increase in short-term investments (326) (1) Issue of ordinary shares 67 18 Purchase of ordinary shares (124) (17) Other transactions in ordinary shares - (3) Redemption of C Shares (266) (250) Net cash (outflow)/inflow from financing activities (743) 384 Net (decrease)/increase in cash and cash equivalents (124) 637 Cash and cash equivalents at January 1 2,958 2,462 Exchange gains/(losses) on cash and cash equivalents 17 (141) Cash and cash equivalents at December 31 2,851 2,958 Reconciliation of movement in cash and cash equivalents to movements in net funds 2010 2009 Â£m Â£m (Decrease)/increase in cash and cash equivalents (124) 637 Net cash flow from decrease/(increase) in borrowings 40 (680) Cash outflow from increase in short-term investments 326 1 Change in net funds resulting from cash flows 242 (42) Net funds (excluding cash and cash equivalents) of businesses (1) - acquired Exchange gains/(losses) on net funds 17 (141) Fair value adjustments 26 110 Movement in net funds 284 (73) Net funds at January 1 excluding the fair value of swaps 1,051 1,124 Net funds at December 31 excluding the fair value of swaps 1,335 1,051 Fair value of swaps hedging fixed rate borrowings 198 224 Net funds at December 31 1,533 1,275 The movement in net funds (defined by the Group as including the items shown below) is as follows: At Funds Net funds Exchange Fair value Reclassi- At January flow of differences adjustments fications December 1, 2010 businesses 31, 2010 acquired Â£m Â£m Â£m Â£m Â£m Â£m Â£m Cash at 1,240 384 23 - - 1,647 bank and in hand Overdrafts (4) (4) - - - (8) Short-term 1,722 (504) (6) - - 1,212 deposits Cash and 2,958 (124) 17 - - 2,851 cash equivalents Investments 2 326 - - - - 328 Other (122) 42 - - 59 (688) (709) current borrowings Non-current (1,786) (2) (1) - (33) 688 (1,134) borrowings Finance (1) - - - - - (1) leases 1,051 242 (1) 17 26 - 1,335 Fair value of swaps hedging fixed rate borrowings 224 (26) 198 1,275 242 (1) 17 - - 1,533 Condensed consolidated statement of changes in equity For the year ended December 31, 2010 Attributable to ordinary shareholders Capital Hedging Other Retained Share Share redemption reserves reserves reserves Non-controlling Total capital premium reserves *1 *2 *3 Total interests equity Â£m Â£m Â£m Â£m Â£m Â£m Â£m Â£m Â£m At January 1, 2009 369 82 204 (22) 663 920 2,216 9 2,225 Profit for the year - - - - - 2,221 2,221 (4) 2,217 Foreign exchange translation differences on foreign operations - - - - (155) - (155) (1) (156) Net actuarial losses on post-employment schemes - - - - - (1,148) (1,148) - (1,148) Movement in unrecognised post-retirement surplus - - - - - 707 707 - 707 Movement in post-retirement minimum funding liability - - - - - 40 40 - 40 Transfers from transition hedging reserve - - - (27) - - (27) - (27) Share of OCI of joint ventures and associates*5 - - - 22 (2) - 20 - 20 Related tax movements : deferred tax - - - 8 - 133 141 - 141 Total comprehensive income for the year - - - 3 (157) 1,953 1,799 (5) 1,794 Arising on issues of ordinary shares 2 16 - - - - 18 - 18 Issue of C Shares - - (264) - - 1 (263) - (263) Redemption of C Shares - - 251 - - (251) - - - Ordinary shares purchased - - - - - (17) (17) - (17) Share-based payments: direct to equity*4 - - - - - 28 28 - 28 Transactions with non-controlling interests - - - - - - - (4) (4) Related tax movements: deferred tax - - - - - 1 1 - 1 Other changes in equity in the year 2 16 (13) - - (238) (233) (4) (237) At January 1, 2010 371 98 191 (19) 506 2,635 3,782 - 3,782 Profit for the year - - - - - 539 539 4 543 Foreign exchange translation differences on foreign operations - - - - 22 - 22 - 22 Net actuarial gains on post-employment schemes - - - - - 157 157 - 157 Movement in unrecognised post-retirement surplus - - - - - (300) (300) - (300) Movement in post-retirement minimum funding liability - - - - - 49 49 - 49 Share of OCI of joint ventures and associates - - - (18) 1 1 (16) - (16) Related tax movements: deferred tax - - - - (2) 31 29 - 29 Total comprehensive income for the year - - - (18) 21 477 480 4 484 Arising on issues of ordinary shares 3 64 - - - - 67 - 67 Issue of C Shares - (29) (249) - - 1 (277) - (277) Redemption of C Shares - - 267 - - (267) - - - Ordinary shares purchased - - - - - (124) (124) - (124) Share-based payments: direct to equity*4 - - - - - 42 42 - 42 Related tax movements: deferred tax - - - - - 5 5 - 5 Other changes in equity in the year 3 35 18 - - (343) (287) - (287) At December 31, 2010 374 133 209 (37) 527 2,769 3,975 4 3,979 *1 Hedging reserves include nil (2009 nil) in respect of the transition hedging reserve and Â£(37)m (2009 Â£(19)m) in respect of the cash flow hedging reserve. *2 Other reserves include a merger reserve of Â£3m (2009 Â£3m) and a translation reserve of Â£524m (2009 Â£503m). *3 At December 31, 2010, 28,320,962 ordinary shares with a net book value of Â£125m (2009 7,156,497 ordinary shares with a net book value of Â£25m) were held and included in retained earnings. During the year, 6,586,568 ordinary shares with a net book value of Â£24m (2009 6,766,884 shares with a net book value of Â£25m) vested in share based payment plans. During the year, the Group acquired 27,751,333 ordinary shares through purchases on the London Stock Exchange. *4 The share-based payments - direct to equity is the net of the credit to equity in respect of the share-based payment charge to the income statement and the actual cost of shares vesting, excluding those vesting from own shares. *5 Certain of the Group's joint ventures and associates hold interest rate and inflation swaps for which cash flow hedge accounting has been adopted. 1 Basis of preparation These financial statements have been prepared in accordance with International Financial Reporting Standards (IFRS) adopted for use in the EU (Adopted IFRS) in accordance with EU law (IAS Regulation EC 1606/2002). The financial information set out above does not constitute the Company's statutory accounts for the years ended December 31, 2010 or 2009. Statutory accounts for 2009 have been delivered to the registrar of companies, and those for 2010 will be delivered in due course. The auditors have reported on those accounts; their reports were (i) unqualified, (ii) did not include references to any matters to which the auditors drew attention by way of emphasis without qualifying their reports and (iii) did not contain statements under section 498 (2) or (3) of the Companies Act 2006. In 2010, the Group has adopted Revised IFRS 3 Business Combinations (including Amendments to IFRS 3 in Improvements to IFRS 2009) and amendments to IAS 27 Consolidated and Separate Financial Statements. The acquisition of ODIM ASA (see note 11) has been accounted for in accordance with the requirements of Revised IFRS 3. There was no retrospective impact. No other revisions to Adopted IFRS that became applicable in 2010 have a significant impact on the Group's financial statements. 2 Analysis by business segment The analysis by business segment is presented in accordance with IFRS 8 Operating segments, on the basis of those segments whose operating results are regularly reviewed by the Board (the Chief Operating Decision Maker as defined by IFRS 8). The operating results are prepared on an underlying basis that excludes items considered to be non-underlying in nature. The principles adopted are: Underlying revenues - Where revenues are denominated in a currency other than the functional currency of the Group undertaking, these reflect the achieved exchange rates arising on settled derivative contracts and exclude the release of the foreign exchange transition hedging reserve. There is no inter-segment trading and hence all revenues are from external customers. Underlying profit before financing - Where transactions are denominated in a currency other than the functional currency of the Group undertaking, this reflects the transactions at the achieved exchange rates on settled derivative contracts and excludes the release of the foreign exchange transition hedging reserve. Underlying profit before taxation - In addition to those adjustments in underlying profit before financing: * Includes amounts realised from settled derivative contracts and revaluation of relevant assets and liabilities to exchange rates forecast to be achieved from future settlement of derivative contracts. * Excludes unrealised amounts arising from revaluations required by IAS 39 Financial Instruments: Recognition and Measurement, changes in value of financial RRSP contracts arising from changes in forecast payments and the net impact of financing costs related to post-retirement scheme benefits. This analysis also includes a reconciliation of the underlying results to those reported in the consolidated income statement. 2010 2009 Original Original equipment Aftermarket Total equipment Aftermarket Total Â£m Â£m Â£m Â£m Â£m Â£m Underlying revenues Civil aerospace 1,892 3,027 4,919 1,855 2,626 4,481 Defence aerospace 1,020 1,103 2,123 964 1,046 2,010 Marine 1,719 872 2,591 1,804 785 2,589 Energy 691 542 1,233 558 470 1,028 5,322 5,544 10,866 5,181 4,927 10,108 2010 2009 Â£m Â£m Underlying profit before financing and taxation Civil aerospace 392 493 Defence aerospace 309 253 Marine 332 263 Energy 27 24 Reportable segments 1,060 1,033 Central items (50) (50) 1,010 983 Underlying net financing (55) (68) Underlying profit before taxation 955 915 Underlying taxation (236) (187) Underlying profit for the year 719 728 As noted in the Civil aerospace review on page 8, 2010 profit before financing for civil aerospace includes a charge of Â£56m associated with the Trent 900 failure on an Airbus A380. Net assets/(liabilities) Total assets Total liabilities Net assets 2010 2009 2010 2009 2010 2009 Â£m Â£m Â£m Â£m Â£m Â£m Civil aerospace 8,162 7,612 (5,435) (4,918) 2,727 2,694 Defence aerospace 1,344 1,228 (1,867) (1,573) (523) (345) Marine 2,363 2,379 (1,548) (1,738) 815 641 Energy 1,182 1,025 (748) (492) 434 533 Reportable segments 13,051 12,244 (9,598) (8,721) 3,453 3,523 Eliminations (823) (457) 823 457 - - Net funds/(debt) 3,385 3,188 (1,852) (1,913) 1,533 1,275 Tax assets/liabilities 457 372 (608) (533) (151) (161) Unallocated post-retirement scheme surpluses/deficits 164 75 (1,020) (930) (856) (855) Net assets 16,234 15,422 (12,255) (11,640) 3,979 3,782 Restated* Group employees at year end 2010 2009 Civil aerospace 19,600 19,500 Defence aerospace 7,000 7,100 Marine 9,400 8,300 Energy 3,600 3,400 39,600 38,300 * Following a review of the allocation of employees in functions serving more than one segment, the 2009 figures have been restated. Reconciliation to Total Underlying reported results reportable central Total Underlying segments items underlying adjustments Group Â£m Â£m Â£m Â£m Â£m Year ended December 31, 2010 Revenue from sale of 5,322 - 5,322 112 5,434 original equipment Revenue from 5,544 - 5,544 107 5,651 aftermarket services Total revenue 10,866 - 10,866 219 11,085 Operating profit excluding share of results of joint ventures and associates 963 (50)*1 913 124 1,037 Share of results of 93 - 93 - 93 joint ventures and associates Profit on disposal of 4 - 4 - 4 businesses Profit before financing 1,060 (50) 1,010 124 1,134 and taxation Net financing (55) (55) (377) (432) Profit before taxation (105) 955 (253) 702 Taxation (236) (236) 77 (159) Profit for the year (341) 719 (176) 543 Year ended December 31, 2009 Revenue from sale of original equipment 5,181 - 5,181 128 5,309 Revenue from aftermarket services 4,927 - 4,927 178 5,105 Total revenue 10,108 - 10,108 306 10,414 Operating profit excluding share of results of joint ventures and associates 942 (50)1 892 189 1,081 Share of results of joint ventures and associates 93 - 93 - 93 Loss on disposal of businesses (2) - (2) - (2) Profit before financing and taxation 1,033 (50) 983 189 1,172 Net financing (68) (68) 1,853 1,785 Profit before taxation (118) 915 2,042 2,957 Taxation (187) (187) (553) (740) Profit for the year (305) 728 1,489 2,217 *1 Central corporate costs Underlying adjustments 2010 2009 Profit Profit before Net before Net Revenue financing financing Taxation Revenue financing financing Taxation Â£m Â£m Â£m Â£m Â£m Â£m Â£m Â£m Underlying performance 10,866 1,010 (55) (236) 10,108 983 (68) (187) Release of transition hedging reserve - - - - 27 27 - - Recognise revenue at exchange rate on date of transaction 219 - - - 279 - - - Realised losses /(gains) on settled derivative contracts*1 - 180 (7) - - 274 60 - Net unrealised fair value changes to derivative contracts*2 - - (341) - - 14 1,835 - Effect of currency on contract accounting - (56) - - - (126) - - Revaluation of trading assets and liabilities - - 8 - - - (17) - Financial RRSPs - foreign exchange differences and changes in forecast payments - - (6) - - - 72 - Net post-retirement scheme financing - - (31) - - - (97) - Related tax effect - - - 77 - - - (553) Total underlying adjustments 219 124 (377) 77 306 189 1,853 (553) Reported per consolidated income statement 11,085 1,134 (432) (159) 10,414 1,172 1,785 (740) *1 Realised losses/(gains) on settled derivative contracts included in profit before tax: - includes Â£2m of realised losses (2009 Â£15m) deferred from prior years; - excludes Â£5m of losses (2009 gains of Â£6m) realised in the year on derivative contracts settled in respect of trading cash flows that occurred after the year-end and Â£7m of losses (2009 nil) recognised in prior years in respect of cancelled contracts; - excludes Â£10m of realised gains (2009 nil) in respect of derivatives held in fair value hedges and nil (2009 Â£14m realised losses) in respect of derivatives held in net investment hedges. *2 The adjustment for unrealised fair value changes included in profit before financing includes the reversal of nil (2009 Â£5m unrealised gains) in respect of derivative contracts held by joint venture companies and nil (2009 Â£9m unrealised losses) for which the related trading contracts have been cancelled and consequently the fair value loss has been recognised immediately in underlying profit. The reconciliation of underlying earnings per ordinary share is shown in note 4. 3 Net financing 2010 2009 Per Per consolidated Underlying consolidated Underlying income financing income financing statement *1 statement *1 Â£m Â£m Â£m Â£m Financing income Interest receivable 23 23 21 21 Fair value gains on foreign currency contracts - - 1,783 - Financial RRSPs - foreign exchange differences and changes in forecast payments - - 72 - Fair value gains on commodity derivatives 29 - 52 - Expected return on post-retirement scheme assets 400 - 305 - Net foreign exchange gains 1 - 43 - 453 23 2,276 21 Financing costs Interest payable (63) (63) (64) (64) Fair value losses on foreign currency contracts (370) - - - Financial RRSPs - foreign exchange differences and changes in forecast payments (6) - - - Financial charge relating to financial RRSPs (13) (13) (25) (25) Interest on post-retirement scheme liabilities (431) - (402) - Other financing charges (2) (2) - - (885) (78) (491) (89) Net financing (432) (55) 1,785 (68) Analysed as: Net interest payable (40) (40) (43) (43) Net post-retirement scheme financing (31) - (97) - Net other financing (361) (15) 1,925 (25) Net financing (432) (55) 1,785 (68) *1 See note 2 4 Earnings per ordinary share (EPS) Basic EPS are calculated by adjusting the weighted average number of ordinary shares in issue during the year for the bonus element of share options Diluted EPS are calculated by dividing the profit attributable to ordinary shareholders by weighted average number of ordinary shares in issue during the year as above, adjusted by the bonus element of share options. 2010 2009 Potentially Potentially dilutive dilutive Basic share options Diluted Basic share options Diluted Profit attributable to ordinary shareholders (Â£m) 539 539 2,221 2,221 Weighted average number of shares (millions) 1,846 24 1,870 1,845 20 1,865 EPS 29.20p (0.38p) 28.82p 120.38p (1.29p) 119.09p The reconciliation between underlying EPS and basic EPS is as follows: 2010 2009 Pence Â£m Pence Â£m Underlying EPS/Underlying profit attributable to 38.73 715 39.67 732 ordinary shareholders Total underlying adjustments to profit before tax (13.70) (253) 110.68 2,042 (note 2) Related tax effects 4.17 77 (29.97) (553) EPS/Profit attributable to ordinary shareholders 29.20 539 120.38 2,221 Diluted underlying EPS 38.24 39.25 5 Payments to shareholders in respect of the year Payments to shareholders in respect of the year represent the value of C Shares to be issued in respect of the results for the year. As noted on page 38, the Company intends to introduce a new holding company in 2011 and the C Shares in respect of the final payment for 2010 will be issued by the new company. Issues of C Shares were declared as follows: 2010 2009 Pence Pence per share Â£m per share Â£m Interim (issued in January) 6.4p 119 6.0p 111 Final (issued in July) 9.6p 180 9.0p 167 16.0p 299 15.0p 278 6 Intangible assets Certification costs and Recoverable Software participation Development engine and Goodwill fees expenditure costs other Total Â£m Â£m Â£m Â£m Â£m Â£m Cost: At January 1, 2010 991 631 751 586 273 3,232 Exchange differences 6 (2) - - (1) 3 Additions - 57 111 111 46 325 Acquisitions of businesses 118 - - - 96 214 Disposals - - - - (1) (1) At December 1,115 686 862 697 413 3,773 31, 2010 Accumulated amortisation: At January 1, 2010 7 177 205 296 75 760 Charge for the year - 13 27 55 35 130 Disposals - - - - (1) (1) At December 31, 2010 7 190 232 351 109 889 Net book value at December 31, 2010 1,108 496 630 346 304 2,884 Net book value at December 31, 2009 984 454 546 290 198 2,472 Certification costs and participation fees, development costs and recoverable engine costs have been reviewed for impairment in accordance with the requirements of IAS 36 Impairment of Assets. Where an impairment test was considered necessary, it has been performed on the following basis: - The carrying values have been assessed by reference to value in use. These have been estimated using cash flows from the most recent forecasts prepared by management, which are consistent with past experience and external sources of information on market conditions over the lives of the respective programmes. - The key assumptions underlying cash flow projections are assumed market share, programme timings, unit cost assumptions, discount rates, and foreign exchange rates. - The pre-tax cash flow projections have been discounted at 11 per cent, based on the Group's weighted average cost of capital. - No impairment is required on this basis. However, a combination of changes in assumptions and adverse movements in variables that are outside the company's control (eg: discount rate, exchange rate and airframe delays) could result in impairment in future years. 7 Other financial assets and liabilities Derivatives Foreign Interest exchange Commodity rate Financial C contracts contracts contracts Total RRSPs Shares Total Â£m Â£m Â£m Â£m Â£m Â£m Â£m At December 31, 2010 Non-current assets 317 18 36 371 - - 371 Current assets 98 10 142 250 - - 250 Current liabilities (38) (5) - (43) (39) (23) (105) Non current liabilities (713) (2) (3) (718) (227) - (945) (336) 21 175 (140) (266) (23) (429) At December 31, 2009 Non-current assets 429 11 197 637 - - 637 Current assets 72 4 4 80 - - 80 Current liabilities (56) (12) - (68) (100) (13) (181) Non current liabilities (589) (14) (2) (605) (263) - (868) (144) (11) 199 44 (363) (13) (332) Foreign exchange and commodity financial instruments Movements in the fair value of foreign exchange and commodity contracts were as follows: 2010 2009 Foreign exchange Commodity Total Total Â£m Â£m Â£m Â£m At January 1 (144) (11) (155) (2,270) Movements in fair value hedges 7 - 7 (33) Movements in net investment hedges - - - (14) Movements in other derivative contracts (370) 29 (341) 1,835 Contracts settled 171 3 174 327 At December 31 (336) 21 (315) (155) Financial risk and revenue sharing partnerships (RRSPs) Movements in the recognised values of financial RRSPs were as follows: 2010 2009 Â£m Â£m At January 1 (363) (455) Cash paid to partners 114 55 Addition - (15) Exchange adjustments included in OCI 2 6 Financing charge*1 (13) (26) Excluded from underlying profit: Exchange adjustments*1 (6) 45 Restructuring of financial RRSP agreements and changes in forecast payments*1 - 27 At December 31 (266) (363) *1 Total charge included within finance in the income statement is Â£19m (2009 credit Â£47m). In 2009, Â£1m of the financing charge was capitalised in intangible assets. 8 Borrowings The Group's borrowing facilities decreased during 2010, following the maturity of a US$187 million US private placement. In addition, â‚¬750m of 4Â½% Notes become payable within one year. 9 Pensions and other post-retirement benefits Movements in the net post-retirement position recognised in the balance sheet were as follows: UK Overseas Total schemes schemes Â£m Â£m Â£m At January 1, 2010 (380) (475) (855) Exchange differences - (11) (11) Current service cost (118) (34) (152) Past service cost - (1) (1) Interest on post-retirement scheme liabilities (375) (56) (431) Expected return on post-retirement scheme assets 374 26 400 Contributions by employer 227 55 282 Net actuarial gains/(losses) 302 (145) 157 Movement in unrecognised surplus*1 (299) (1) (300) Movement on minimum funding liability*2 49 - 49 Curtailment - 6 6 At December 31, 2010 (220) (636) (856) Analysed as: Post-retirement scheme surpluses - included in non-current assets 164 - 164 Post-retirement scheme deficits - included in non-current liabilities (384) (636) (1,020) (220) (636) (856) *1 Where a surplus has arisen on a scheme, in accordance with IAS 19 and IFRIC 14, the surplus is recognised as an asset only if it represents an unconditional economic benefit available to the Group in the future. Any surplus in excess of this benefit is not recognised in the balance sheet. *2 A minimum funding liability arises where the statutory funding requirements require future contributions in respect of past service that will result in a future unrecognisable surplus. 10 Contingent liabilities and contingent assets In connection with the sale of its products the Group will, on some occasions, provide financing support for its customers. The Group's contingent liabilities related to financing arrangements are spread over many years and relate to a number of customers and a broad product portfolio. Contingent liabilities are disclosed on a discounted basis. As the directors consider the likelihood of these contingent liabilities crystallising to be remote, this amount does not represent the value that is expected to crystallise. However, the amounts are discounted at the Group's borrowing rate to reflect better the time span over which these exposures could arise. The contingent liabilities are denominated in US dollars. As the Group does not adopt hedge accounting for forecast foreign currency transactions, this amount is reported, together with the sterling equivalent at the reporting date spot rate. The discounted values of contingent liabilities relating to delivered aircraft and other arrangements where financing is in place, less insurance arrangements and relevant provisions were: 2010 2009 Â£m $m Â£m $m Gross contingent liabilities 633 991 704 1,137 Contingent liabilities net of relevant security*1 121 190 134 217 Contingent liabilities net of relevant security reduced by 20%*2 200 314 233 376 *1 Security includes unrestricted cash collateral of: 68 106 77 124 *2 Although sensitivity calculations are complex, the reduction of the relevant security by 20% illustrates the sensitivity of the contingent liability to changes in this assumption There are also net contingent liabilities in respect of undelivered aircraft, but it is not considered practicable to estimate these as deliveries can be many years in the future, and the relevant financing will only be put in place at the appropriate time. Contingent liabilities exist in respect of guarantees provided by the Group in the ordinary course of business for product delivery, performance and reliability. The Group has, in the normal course of business, entered into arrangements in respect of export finance, performance bonds, countertrade obligations and minor miscellaneous items. Various Group undertakings are parties to legal actions and claims which arise in the ordinary course of business, some of which are for substantial amounts. These include claims, which are yet to be substantiated, received by EPI Europrop International GmbH (EPI) in which the Group is a partner, which is developing the TP400 engine for the Airbus A400M aircraft. As a consequence of the insolvency of an insurer as previously reported, the Group is no longer fully insured against known and potential claims from employees who worked for certain of the Group's UK based businesses for a period prior to the acquisition of those businesses by the Group. While the outcome of some of these matters cannot precisely be foreseen, the directors do not expect any of these arrangements, legal actions or claims, after allowing for provisions already made, to result in significant loss to the Group. In 2010, the Launch Nations reconfirmed their commitment to the A400M programme; however, the Nations and Airbus remain in final negotiations to modify the existing agreement. EPI and Airbus are simultaneously in negotiations to modify their agreement in support of the A400M. The timing and outcome of these negotiations, and their possible impact on EPI and the Group, therefore remain uncertain. In the event that the programme were cancelled, at December 31, 2010, the Group's balance sheet did not include any net assets that would require impairment (2009 Â£17m). In 2010, Rolls-Royce commenced an action in the United States against United Technologies Corporation (UTC), the parent company of Pratt & Whitney, alleging that the GP7200 turbofan engine, UTC's geared turbofan engine, and other UTC turbofan engines infringe Rolls-Royce's swept fan blade patent. A trial is expected be held in late March or early April this year. UTC subsequently commenced proceedings against Rolls-Royce in the United States and in England alleging that Trent 900, Trent 1000 and Trent XWB engines infringe its patent. Judgments in UTC's cases are expected to be handed down between 2012 and 2015. It is not possible to comment at this stage on the amount of any damages which might be awarded in favour of, or against, Rolls-Royce although an award of damages or the financial effect of other remedies could be material. Rolls-Royce is advised that it has a strong claim against UTC and strong defences in the proceedings brought by UTC. 11 Acquisitions of businesses On April 7, 2010, the Group acquired 67 per cent of the issued share capital, and obtained control, of ODIM ASA (ODIM). Together with the 33 per cent of the issued share capital already held, this gave Rolls-Royce control of 100 per cent of ODIM. ODIM is a Norwegian marine technology company which develops and sells advanced automated handling systems for seismic and offshore vessels. ODIM's technology and unique subsea and deepwater capability complement the Group's existing activities. Integrating ODIM's innovative technology and highly skilled people into the Group will optimise the Group's offering and provide the global customer base with a wider range of products and services in this important market segment. ODIM Other Total Â£m Â£m Â£m Intangible assets - software and other 96 - 96 Property, plant and equipment 24 - 24 Inventory 16 - 16 Trade and other receivables 57 - 57 Cash and cash equivalents 12 - 12 Trade and other payables (46) - (46) Current tax liabilities (3) - (3) Borrowings (1) - (1) Deferred tax liabilities (32) - (32) Provisions (2) - (2) Total identifiable assets and liabilities 121 - 121 Goodwill arising 115 3 118 Total consideration 236 3 239 Satisfied by: Cash consideration 159 3 162 Existing 33 per cent shareholding 77 - 77 236 3 239 Net cash outflow arising on acquisition: Cash consideration 162 Less: cash and cash equivalents acquired (12) Cash outflow per cash flow statement 150 Identifiable intangible assets comprise: Technology, patents and licenses 45 Customer relationships 46 Other 5 The fair value of the Group's 33 per cent interest in ODIM before the acquisition was Â£77m. The Group recognised a gain of Â£3m as a result of remeasuring this interest, which is included in the share of profits of joint ventures and associates in the consolidated income statement for the period ended December 31, 2010. The goodwill arising on the acquisition of ODIM amounting to Â£115m (which is not tax-deductible) consists of anticipated synergies and the assembled workforce. The synergies principally arise from: - increases in revenue from the combination of the routes to market; and - cost savings from the combination of the supply chain and central functions. The gross contractual value of trade and other receivables acquired is Â£58m. At the acquisition date it is estimated that contractual cash flows of Â£1m will not be collected. Acquisition related costs (included in commercial and administrative costs) in the consolidated income statement for the period ended December 31, 2010, amounted to Â£2m. The acquisition of the controlling interest in ODIM contributed Â£205m revenue and Â£16m loss before tax (including amortisation of intangible assets arising on acquisition) to the Group's results for the period between the date of acquisition and December 31, 2010. If the acquisition of ODIM had been completed on January 1, 2010, the Group's revenues and profit before tax would have been Â£11,132m and Â£696m respectively. Principal risks and uncertainties The Group has established and implemented a sound risk management structure throughout the business, that supports programme execution, informs decision making and ultimately leads to better business performance. Business environment Environmental impact of products and operations The Group recognises that its products and business operations have an impact on the environment, particularly in relation to climate change. Environmental performance is of great importance to customers and regulators; Rolls-Royce is determined to be part of the solution to these environmental challenges. Failure to respond proactively to the escalating environmental challenge could result in a dilution of reputation, and ultimately loss of market share to competitors. Product lifecycles may also be shortened, with a consequent impact on the business model. Mitigation: - Significant investment in innovative solutions and enhancements for the aviation, marine and energy markets. - Research and development in low carbon technologies such as nuclear power, fuel cells and tidal energy. - Governance structure headed by the Environment Council directs and monitors improvements in the environmental performance of the Group's products. Legislative and regulatory pressures The Group operates in a highly regulated environment and aims to comply with all relevant statutes. Increasing requirements from domestic and international legislation continue to be experienced; examples include anti-bribery, authorisation of chemicals and substances, and financial regulations, specifically relating to 'over-the-counter' derivatives. Non-compliance with applicable legislation and regulations would expose the Group to significant financial fines and penalties and may have a damaging effect on its reputation. Mitigation: - Establishment of a business-wide compliance structure, focusing on anti-bribery and corruption legislation. - Enhanced policies and training on Gifts & Hospitality and Commercial Intermediaries for all employees. - Lobbying to inform and influence the content and implementation of new legislation and regulations. Significant external events Events may occur, externally to the business, that could undermine the basis of its operational and financial forecasts. Such events might include terrorism, political change, global pandemic, natural disaster or continued and deeper economic retrenchment. Such events could lead to a prolonged reduction in demand for transportation, and hence for a proportion of the Group's products and services. There may also be constraints on the Group's ability to conduct its business operations, for example, in the case of disruption to business premises or mobility of personnel. Mitigation: - A balanced business portfolio and diversity of global operations mitigate the impact of events in any one market sector or geographic territory. - A responsive and regularly exercised team for the proactive management of external events ensures that disruptions to the business, and to customers' operations, are minimised. See also 'IT security' risk. Strategic Competitive pressures The markets in which the Group operates are highly competitive and this competition is increasing as a result of global economic uncertainties. The majority of product programmes are long term in nature and access to key customer platforms, most importantly Airbus and Boeing aircraft programmes, is critical to success. This requires sustained investment in technology, capability and infrastructure, all creating high barriers to entry. However, these factors alone do not protect the Group from competition, including pricing and technical advances made by competitors. If Rolls-Royce's products, services and pricing do not remain competitive, this could result in the loss of market share, with attendant impact on long-term financial performance. Mitigation: - Establishment of long-term customer relationships allows the Group to differentiate its products and services and protect margins in the face of competitive pressures. - Steady focus on improvement in operational performance, for example through the modernisation of facilities. - Increased focus on managing the costs of operations and products. - Sustained investment in technology acquisition, and robust protection of intellectual property (see also 'IT security' risk). Export controls Rolls-Royce designs and supplies a number of products and services for the military. Many countries in which the Group conducts its business have legislation controlling the export of specified goods and technology intended or adaptable for military application. Non-compliance with export controls could impact both programme performance and the Group's reputation. Our ability to conduct business in certain jurisdictions could be revoked if we are non-compliant. Mitigation: - Exports Committee, chaired by the Chief Operating Officer, directs strategy and policy on exports. - Export control managers embedded throughout the business. - Export controls awareness training. - Maintenance of the capability to monitor and comply with requirements. Government spending The Group conducts activities as a result of government investments, whether through direct sales or support to technology and other programmes. Such spending could be expected to experience continued pressure during a time of global financial uncertainty and budgetary constraint in Europe and the US in particular. A decrease in governmental spending could have an adverse effect on the Group's future performance. For example, asset usage and/or flying hours could reduce across military fleets impacting aftermarket revenues. Reduction in technology investment programmes could delay product development and introduction. Mitigation: - Development of a diversified portfolio of products and services to various markets and regions. - Proactive lobbying for research and technology funding. - Focus on performance to achieve commitments under current contracts. Global resource capability Rolls-Royce's position at the forefront of technology and innovation, and its commitment to delivering significant volumes of business to its customers, demand that we maintain world class capabilities in all core resource groups, particularly management. Demographic trends, the UK immigration cap and limited supply of appropriately educated and skilled personnel in Science, Technology, Engineering & Mathematics subjects exacerbate this risk. Failure to grow the Group's resource capability to the necessary levels whilst maintaining world-class quality, would adversely impact delivery of customer programmes, threaten our reputation and stifle opportunities for future innovation and growth. Mitigation: - Significant investment in resourcing and capability infrastructure, notably in the transformation of the Human Resources function. - Comprehensive systems in place for the development of individuals' competencies and the objective assessment of performance, linked to reward. - The Group lobbies on the implications of the UK immigration cap, whilst managing the situation under the interim arrangements announced in 2010. Financial Counterparty credit risk Rolls-Royce works with various counterparties including financial institutions, customers, joint venture partners and insurers. Counterparty failure is recognised as a principal risk driven mainly by the economic uncertainties and pressures in the current environment. Cash and profit margins could be impacted in the short term, although the Group has built a strong balance sheet to protect itself from the impact of individual defaults. Mitigation: - Established policy for managing counterparty credit risk. - Common framework to measure, report and control exposures to counterparties across the Group using value-at-risk and fair-value techniques. - Internal credit rating assigned to each counterparty, assessed with reference to publicly available credit information and subject to regular review. Currency risk The Group is exposed to movements in exchange rates for both foreign currency transactions and the translation of net assets and income statements of foreign subsidiaries. The Group regards its interests in overseas subsidiary companies as long-term investments. The Group is exposed to a number of foreign currencies; the most significant being USD to GBP and USD to EUR. Fluctuations in exchange rates to which the Group is exposed could adversely affect operational results or the outcomes of financial transactions. Mitigation: - Hedging policy, using a variety of financial instruments, to minimise the impact of fluctuations in exchange rates on future transactions and cash flows. - Translational exposures managed through the currency matching of assets and liabilities, where applicable. - Risks reviewed regularly, and appropriate risk mitigation performed where material mismatches arise. Credit rating As a long-term business, the Group attaches significant importance to maintaining a sound investment grade credit rating, which it views as necessary for the business to operate effectively. Downgrading of the Group's credit rating would inhibit its ability to secure funding, hedge forward or provide vendor financing, reducing and impacting cash, profit, and reputation. Mitigation: - The Group has developed a strong financial risk profile and continues to improve the business risk profile. Operational Supply chain performance The Group's products and services are delivered through the effective operation of its facilities and key capabilities, including its supply chain. Success in strengthening our market position and our presence on a number of high profile civil and defence aerospace programmes, together with a growing marine business, places increased demands on the performance of the supply chain. There is an ongoing exposure to the price of base metals, arising from business operations. Significant supply chain disruption, and failure to deliver parts on time or to committed costs and quality, would undermine the assumptions within business cases, adversely impacting profit and cash. Consequent damage to reputation could also hinder our ability to win future business. Mitigation: - Investment in developing world-class manufacturing processes in Asia, North America and Europe. - Well-established business continuity management process that focuses on critical facilities, activities, processes, skills and suppliers. Significant progress in dual sourcing in these areas. - Increased focus on understanding and addressing sources of risk arising in the external supply chain, particularly those associated with financial instability. - Comprehensive programme of business interruption insurance. - Policies to hedge the price of selected base metals. Ethics The Group recognises the benefits derived from conducting business in an ethical and socially responsible manner. This approach extends from the sourcing of raw materials and components to the manufacture and delivery of products and services in all of its global locations and markets. It applies to the provision of a safe and healthy place of work and investment in technologies to reduce the environmental impact of our products and operations. Shortcomings in the Group's business conduct would result in significant financial penalties, disruption to our business and/or have a damaging effect on our reputation. Mitigation: - Ethics Committee established to oversee and maintain the highest ethical standards. - Global Code of Business Ethics, in 16 languages, issued to all employees supported by a training and engagement programme to improve awareness of the Group's values. - Global telephone and internet channels are available for employees to report in confidence any concerns regarding potentially unethical behaviours. See also 'Environmental impact of products and operations' risk. Programme portfolio The Group manages complex product programmes with demanding technical and volume requirements against stringent, and sometimes fluctuating, customer schedules. This requires coordication of the engineering function, manufacturing operations, the external supply chain and other partners. Failure to achieve programme goals would have significant financial and reputational implications for the Group, including the risk of impairment of the carrying value of the Group's intangible assets and the impact of potential litigation. Mitigation: - Continuous improvement of all processes and project management controls to ensure both technical and business objectives are achieved. - All major programmes subject to approval and regular review by the Board, with particular focus on the nature and potential impact of emerging risks and the effective mitigation of previously identified threats. IT security The continuing globalisation of the business and advances in technology have resulted in more data being transmitted internationally, posing an increased security risk. A breach of IT security may result in controlled data or intellectual property being lost, corrupted or accessed by non-authorised users. Adverse impacts upon operational effectiveness, compliance with legislation or the reputation of the Group might arise. Mitigation: - Continual upgrading of security equipment and software, and deployment of a multi-layered protection system that includes web gateway filtering, firewalls and intruder detection. - Additional specialist resources committed. - Active sharing of information through industry and government forums. Product Performance The Group strives to deliver world-class products that are safe and reliable, focusing attention on product design, robust quality and processes, pre-service maturity and in-service management. Safety is the Group's highest priority. Deteriorations in product safety could significantly affect the Group's reputation, and ultimately lead to a loss of business. Shortfalls in performance at entry into service or through life could lead to penalties or additional costs in the aftermarket, and would degrade the business cases upon which revenues are forecast. Mitigation: - The Group operates, and will continue to operate, in a 'safety first' culture. - Ongoing actions and activities being driven to improve maturity at entry-into-service. - Continuing engineering focus on improvements to product reliability and service lives. Proposed arrangements for the creation of a new holding company Rolls-Royce Group plc is proposing a change to its corporate structure in order to generate appropriate reserves which will allow it to continue its progressive shareholder payment policy and the Group's practice of providing cash returns to shareholders in the most efficient manner through the issue and redemption of C shares. The restructuring proposals will create a new non-trading Group holding company; New Holdco, which will be incorporated under the laws of England and Wales and have a premium listing on the London Stock Exchange's ("LSE") main market for listed securities. The new corporate structure will be implemented by means of a Scheme of Arrangement (the Scheme) under Part 26 of the Companies Act followed by a reduction of capital of New Holdco. Under the terms of the Scheme, shareholders will exchange ordinary shares in Rolls-Royce Group plc for shares in New Holdco on a one for one basis. The Scheme will provide greater flexibility in the capital structure of the Group and provide distributable reserves to New Holdco. Approval will be sought from shareholders for these proposals at the time of the Group's Annual General Meeting on May 6, 2011 and the Scheme will also require the sanction of the High Court. Further details of the Scheme will be provided in due course. Annual report and financial statements The statements below have been prepared in connection with the Company's full Annual report for the year ended December 31, 2010. Certain parts thereof are not included with this announcement. Going concern The Group's business activities, together with the factors likely to affect its future development, performance and position and a summary of the principal risks affecting the business are set out in the business review. The financial position of the Group, its cash flows, liquidity position, borrowing facilities and financial risks are described in the business review. In addition, the consolidated financial statements include the Group's objectives, policies and processes for financial risk management, details of its cash and cash equivalents, indebtedness and borrowing facilities and its financial instruments, hedging activities and its exposure to counterparty credit risk, liquidity risk, currency risk, interest rate risk and commodity pricing risk. The Group meets its funding requirements through a mixture of shareholders' funds, bank borrowings, bonds, notes and finance leases. The table in the Finance Director's review shows the maturity profile of the Group's outstanding debt facilities; a total of Â£567million is due to expire in 2011. The Group has a further Â£450 million of term funding available that is currently undrawn. The Group's forecasts and projections, taking into account reasonably possible changes in trading performance, show that the Group has sufficient financial resources. As a consequence the directors have a reasonable expectation that the Company and the Group are well placed to manage their business risks and to continue in operational existence for the foreseeable future, despite the current uncertain global economic outlook. Accordingly, the directors continue to adopt the going concern basis in preparing the consolidated financial statements. Responsibility statement Each of the persons who is a director at the date of approval of this report confirms that to the best of his or her knowledge: i) each of the Group and parent company financial statements, prepared in accordance with IFRS and UK Accounting Standards respectively, gives a true and fair view of the assets, liabilities, financial position and profit or loss of the issuer and the undertakings included in the consolidation taken as a whole; and ii)the Directors' report includes a fair review of the development and performance of the business and the position of the Company and the undertakings included in the consolidation taken as a whole, together with a description of the principal risks and uncertainties that they face. By order of the Board Sir John Rose Chief Executive February 9, 2011 Andrew Shilston Finance Director February 9, 2011

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