������������������������������������������������������������������������������������������������������������������������������������������ 28 February 2020

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ROLLS-ROYCE HOLDINGS PLC - 2019 Full Year Results

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Warren East, Chief Executive commented: "After a challenging first half, we had a good end to 2019, delivering 25% growth in full year underlying operating profit and an encouraging level of free cash flow. Our restructuring efforts gained momentum, with run-rate cost savings of �269m. Civil Aerospace improved its underlying profit significantly, with record engine deliveries, good aftermarket performance and improved OE unit losses. We made further progress on the Trent 1000; cash costs are in line with guidance. We remain on target to reduce aircraft on ground to single digits by the end of Q2 2020.

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We continued to invest significantly in R&D and took important steps towards becoming a leader in low carbon technologies. We grew our electrical capabilities with the acquisitions of Siemens' eAircraft business and a majority stake in Qinous, as well as developing new in-house hybrid-electric solutions."

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�������� Good end to 2019: strong Civil Aerospace aftermarket; better Power Systems trading in Q4

�������� Underlying core operating profit up 25% to �810m; reported group operating loss �(852)m

�������� Core FCF �911m led by higher profit and reflecting �173m Trent 1000 insurance receipts

�������� �0.5bn improvement in net cash* position to �1.4bn; gross debt reduced by �1.1bn

�������� Trent 1000 in-service cash costs �578m; �1.4bn exceptional charge in 2019 results

�������� Trent 1000 guidance unchanged from November trading update

�������� Record widebody engine deliveries; 14% lower OE unit loss; 64% share of new orders

�������� Defence: record �5.3bn order intake driving 26% order book growth and healthy cash flow

�������� Power Systems: revenue up 4% & operating margin +90bps despite market challenges

�� � � � 2020: underlying operating profit up ~15%; at least��1bn FCF; excl. any material COVID-19 impact

�������� Remain confident in mid-term target of at least �1 per share of FCF (>�1.9bn FCF)

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*Net cash is presented excluding lease liabilities **2019 underlying EPS ~18p before the impact of IFRS 16

Footnotes to the tables can be found with the Financial Highlights

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Financial:

�������� Both Group and core underlying operating profit increased 25% to �808m and �810m respectively; led by a �195m organic improvement in Civil Aerospace underlying operating profit to �44m and underlying profit growth in Power Systems of 15% following better Q4 trading

�������� Strong Group free cash flow (FCF) of �873m (2018: �568m) and core FCF �911m (2018: �648m), driven by improved underlying operating profit and Civil aftermarket cash margin; �578m Trent 1000 in-service cash costs partly offset by �173m insurance receipt

�������� FCF before working capital movement (inventory, receivables & payables), insurance receipts and Trent 1000 costs was �747m, 79% higher than the prior year (2018: �418m)

�������� Trent 1000 exceptional programme charge of �1,361m consistent with our November trading statement, driving reported operating loss of �(852)m (2018: �(1,161)m)

�������� Core R&D cash spend increased modestly to �1,108m; good progress on electrical strategy including acquisition of Siemens' eAircraft business and�strengthening of hybrid capabilities in Power Systems; small modular reactor (SMR) development progressing following UK Government matched funding; investment in future opportunities in Defence (Tempest, Future Vertical Lift, B-52)

�������� Net cash excluding lease liabilities improved to �1,361m (2018: �840m); gross debt �1.1bn lower

Operational:

�������� Civil Aerospace: record 510 widebody engines delivered; further progress in reducing average widebody OE loss, down 14% to �1.2m; 6% growth in large engine installed fleet to 5,029 with engine flying hour growth of 7%. Widebody market share of 64% achieved on new orders in 2019

�������� Power Systems: revenues up 4%; strong power generation growth and market share gains in Asia; increased services penetration; underlying operating profit margin up 90bps to 10.1%

�������� Defence: excellent performance in 2019 on both orders and cash flow; record order intake of �5.3bn and book-to-bill ratio of 1.6x driving healthy cash flow; 499 aero engines delivered

�������� ITP Aero: good underlying revenue growth of 21% and strong profit growth to �111m

�������� Restructuring plan on track; 2,900 cumulative headcount reduction with run rate cost savings of �269m achieved since the programme commenced in June 2018

Civil Aerospace in-service performance:

�������� Trent XWB now our second largest installed fleet; leading engines now in their fifth year in service. Fleet leader has flown over 22,000 hours without a shop visit; Trent XWB-84 OE deficit reduced by over 20% in 2019 and remains on track to reach breakeven by the end of 2020

�������� Trent 1000: roll-out of technical fixes progressing well, further actions underway to reduce customer disruption; in-service cash costs unchanged at �2.4bn across 2017-23. AOG reduction to single-digit by end of Q2 2020, unchanged since November update

�������� Design progressing on track for the improved Trent 1000 TEN high pressure turbine (HPT) blade, the last major issue to resolve; certification of this component still expected in the first half of 2021

Market environment: mid-term ambition of �1 FCF per share remains supported

�������� Updated widebody engine delivery expectations of 450 in 2020 and 400-450 per year over the mid-term, following previously announced airframer build rate reductions

�������� Despite challenges in certain Power Systems end markets, growth expected to continue led by mission-critical power generation, rising services penetration and further geographical expansion

�������� Defence targeting a number of attractive mid-term growth opportunities, particularly in the US where we are well positioned

�������� The outbreak of COVID-19 represents a macro risk and is likely to have an impact on air traffic growth in the near term; however long term growth trends remain intact �

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Percentage or absolute change figures in this document are on an organic basis⁴ unless otherwise stated.

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¹ Underlying: for definition see Note 2

²�Core includes Civil Aerospace, Power Systems, Defence and ITP Aero. Non-core includes Commercial Marine sold on 1 April 2019, Rolls-Royce Power Development sold on 15 April 2019, Civil Nuclear North America Service business and other smaller non-core businesses.

³�The prior period has been restated to reflect the treatment of our Civil Nuclear North America Services business as non-core (disposal announced in September 2019). See Note 1 for details

⁴ Organic change at constant translational currency ('constant currency') by applying FY 2018 average rates to 2019 and 2018 numbers excluding M&A. All commentary is provided on an organic basis unless otherwise stated

⁵ Free cash flow is defined as operating cash after capital expenditure, pensions and taxes, before payments to shareholders, payments to investigating authorities and M&A. Excludes cash costs of 2018 restructuring plan. The derivation of free cash flow is shown in Note 24

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Commenting on the outlook for 2020, Warren East added: "The changes we have been implementing over the past two years are creating a tangible and sustainable cultural and performance shift. The momentum we gained in 2019 underpins our confidence for the year ahead. We will continue to make progress against our key drivers of improving OE losses, growing aftermarket cash flow, and controlling our indirect costs, while investing significantly in R&D to enable our future growth.

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There are macro risks to navigate in 2020, notably the outbreak of COVID-19. The situation is still evolving, and as such our guidance for 2020 excludes any material impact. We are monitoring developments, taking mitigating actions, and will update the market as appropriate. Core operating profit growth is expected to be around 15%, with at least �1bn of FCF in 2020, as we drive towards our ambition to exceed �1 per share of FCF - or at least �1.9bn - in the mid-term.

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We see a significant opportunity in the years ahead to lead the transition to providing low carbon power and we made significant progress on this strategy in 2019. We will continue to invest in developing increasingly efficient engines, exploiting new technologies, and innovating to become a disruptor in new areas. We are increasingly well placed to realise our long-term aspiration to be the world's leading industrial technology company."

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Detailed 2020 guidance

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*Civil Aerospace profit improvement despite headwind from �100-150m lower capitalisation of R&D in 2020

^For 2020 guidance purposes Power Systems 2019 is shown excluding Bergen, which is included in non-core to reflect treatment from 2020

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¹ Underlying: for definition see Note 2

²�Core includes Civil Aerospace, Power Systems, Defence and ITP Aero. Non-core includes Commercial Marine sold on 1 April 2019, Rolls-Royce Power Development sold on 15 April 2019, Bergen (for 2020 guidance purposes only), Civil Nuclear North America Service business and other smaller non-core businesses.

³�The prior year has been restated to reflect the treatment of our Civil Nuclear North America Services business as non-core (disposal announced in September 2019). See Note 1 for details

⁴ Organic change at constant translational currency ('constant currency') by applying FY 2018 average rates to 2019 and 2018 numbers excluding M&A. All commentary is provided on an organic basis unless otherwise stated

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�������� Net R&D cash spend is expected to be broadly stable at ~�1.1bn

�������� Capitalised R&D should reduce by �100m-�150m reflecting lower capitalisation in Civil Aerospace

�������� Capex (PPE) is expected to be �100m-�150m higher reflecting higher investment in Trent 1000 spare engines as we take further pro-active steps to reduce customer disruption in 2020

�������� Trent 1000 in service cash costs expected to be �450m-�550m

�������� P&L finance costs are expected to be broadly stable (2019: �223m); cash flow finance costs modestly lower reflecting gross debt reduction in 2019 (2019: �73m)

�������� P&L underlying tax rate is expected to be in the low-to-mid 30s in 2020 (2019: 47.9%); Cash tax paid expected to increase to �260m-�290m (2019: �175m), mainly due to the timing of payments in the US and Germany

�������� As part of our ongoing portfolio evaluation to create a simpler, more focused group, we are announcing today that we are carrying out a strategic review of our Bergen medium speed gas and diesel engine business. Bergen will be reported within non-core businesses in 2020 results. For guidance purposes 2019 results are shown on this basis with our 2020 divisional guidance above

�������� All guidance presented for 2020 excludes any material impact from COVID-19

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This announcement has been determined to contain inside information.

Enquiries:

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Photographs and broadcast-standard video are available at www.rolls-royce.com.

A PDF copy of this report can be downloaded from www.rolls-royce.com/investors.

This Full Year Results announcement contains forward-looking statements. Any statements that express forecasts, expectations and projections are not guarantees of future performance and will not be updated. By their nature, these statements involve risk and uncertainty, and a number of factors could cause material differences to the actual results or developments. This report is intended to provide information to shareholders, is not designed to be relied upon by any other party, or for any other purpose and the Company and its directors accept no liability to any other person other than under English law.

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Results presentation

A presentation will be held at 09:00 (GMT) today. Details of how to join the event online are provided below. Downloadable materials will be available on the Investor Relations section of the Rolls-Royce website from the start of the event.

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Online webcast registration details:

To register for the live webcast, including Q&A participation, please visit the following link:

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�https://edge.media-server.com/mmc/p/724ns9b4

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Please use this same link to access the webcast replay which will be made available shortly after the event concludes.

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In 2019, how we got to our destination - strong progress across the Group - gives me increased confidence that the changes we have been implementing over the past two years are creating a tangible and sustainable cultural and performance shift within our business.

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We had a good end to the year including strong Civil Aerospace aftermarket performance, record widebody engine deliveries, and better trading in Power Systems despite tough market conditions. Defence performed well throughout the year with a record order intake and healthy cash performance. As a result, we delivered improved financial results including a 25% increase in underlying operating profit and further strong improvement in Civil Aerospace. This contributed to strong Group free cash flow of �873m, another significant step towards achieving at least �1bn in 2020. We also continued to invest in the new technologies which are so vital to remaining competitive. This was all achieved despite the in-service challenges with the Trent 1000, which could have derailed our progress. The fact that they did not, is thanks to the focus of our people on their roles in delivering for the business.

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I spoke last year of needing to build beyond the breakthrough we could see occurring as we launched our restructuring and adopted our new operating structure. We have generated real momentum during 2019, not least in respect to costs, as we scrutinised our spending with intense rigour and really challenged ourselves to act differently. There is, however, no denying the fact that the durability issues with the Trent 1000 weighed heavily on 2019, in terms of the financial cost of returning the fleet to the levels of service our customers expect and dealing with the unacceptable disruption we have caused them. As a result of the Trent 1000 and as announced in November, we are recognising a net exceptional charge of �1,361m within our financials, contributing to a reported loss of �(852)m.

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We have fixes designed for all but one of the issues identified and are well advanced on certification and rolling them out into the fleet. As the year drew to a close, we carried out a detailed technical re-evaluation of our progress on the final fix, a new high pressure turbine blade for the Trent 1000 TEN. Based upon that work and test activity, we reset our financial and operational expectations for the engine in November, based on a revised estimate of final blade durability, in order to provide certainty for customers and greater clarity for investors. Since then, we have made good progress on the design of this blade, and continue to expect certification of this component in the first half of 2021.

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We believe in the positive transforming potential of technology and have a passion for solving difficult problems. Today, one of our society�s greatest technological challenges is the need for lower carbon power and we have a crucial role to play in decarbonising the sectors in which we operate. Firstly, we are committed to further reducing the environmental impacts of our products and services. We are following up our success as the developer of the world�s most efficient civil large engine in service today, the Trent XWB, with our next generation UltraFan. We are also heavily involved in the drive for alternative sustainable fuels. Secondly, we are committed to developing new low emission technologies. During 2019, we made significant progress, including the acquisition of Siemens� eAircraft business and ground tests of our megawatt generator for the E-Fan X demonstrator with Airbus. Thirdly, we are working to reduce the greenhouse gas emissions from our own operations and facilities to zero by 2030.

Our ability to pioneer the decarbonisation of aviation builds upon the experience of our Power Systems business in hybrid and electrical power across a range of sectors. During the year, we signed customer contracts and framework agreements for hybrid solutions for the rail and yacht markets. In early 2020, we further enhanced our capabilities with the acquisition of a majority holding in power storage specialist Qinous, which will enhance our microgrid development activities.�

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I believe the coming year will mark another important step towards generating significant returns from the market positions Rolls-Royce has spent many years securing. The value embedded within our business, most obviously within our installed base of widebody engines and order book, must be fully unlocked. Our sights are firmly set upon a mid-term ambition to exceed �1 of free cash flow per share, which translates to at least �1.9bn of free cash flow. To secure this in a sustainable way means reinforcing behavioural change across our business, driving pace and simplicity, developing a thirst for continuous improvement and ensuring disciplined investment in the new technologies we require to exploit the opportunities that we can see across all our markets. We will push harder and further in 2020, towards becoming the world's leading industrial technology company.

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Core² Trading Summary

The income statement table below and all commentary relate to the underlying performance of our core business and percentage or absolute change figures in this document are on an organic basis, unless otherwise stated.

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Summary income statement

¹ Underlying: for definition see Note 2

²�Core includes Civil Aerospace, Power Systems, Defence and ITP Aero.

³�The financial information for the prior period has been restated to reflect the treatment of our Civil Nuclear North America Services business as non-core. See note 1 for more details

⁴ Organic change at constant translational currency ('constant currency') by applying FY 2018 average rates to 2019 and 2018 numbers excluding M&A. All commentary is provided on an organic basis unless otherwise stated

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Revenue up 6%

Revenue increased by 6% to �15,261m reflecting growth in both OE and services, led by Civil Aerospace and Power Systems. Civil Aerospace delivered OE revenue growth of 4% reflecting higher widebody engine volumes. Services revenue in Civil Aerospace rose 14% with increased shop visit volumes and higher sales of spare parts. Power Systems achieved 4% OE revenue growth due to strength in power generation markets, notably for data centres, and 4% services growth including increased long-term service agreement (LTSA) penetration. Defence revenue was 1% higher led by 4% growth in services driven by increased activity in transport and combat. ITP Aero revenue increased 21% reflecting volume growth largely across its civil programmes.

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Gross profit up 4%

Gross profit was �2,342m, up 4%. Civil Aerospace gross profit improved by 25% reflecting several key factors:

���� increased sales of spare parts and higher LTSA servicing activity

���� a material improvement in the net impact of contract catch-ups to LTSA profits at �33m in 2019 (2018: �(276)m), driven primarily by lower servicing costs in business aviation; and

���� modestly lower LTSA underlying gross margins, reflecting shop visit mix, and around ~�70m of FX related headwind principally reflecting the revaluation of USD creditors and deposits

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Power Systems generated a 6% gross profit improvement with a gross margin of 26% driven by volume growth and improvements in product mix. As expected, Defence gross profit reduced by 6% with margins 160bps lower, reflecting product mix. ITP Aero gross profit increased by 33% with margin improvement of 200bps, driven by higher OE volumes, improved pricing and a ~�25m benefit from the impact of a change made to simplify ITP Aero's trading relationship and contractual terms with Civil Aerospace. This was net neutral at the Group level, with a corresponding increase in eliminations.

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C&A costs down 4%�

C&A costs reduced by 4% to �938m. This reduction was driven by restructuring programme headcount savings and management actions to reduce discretionary spend, partly offset by cost escalation and higher sales-related activities in Power Systems.

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Self-funded R&D cash spend up modestly; charge to profit 5% higher

Gross R&D spend was up �70m. After funding from customers and other third parties, core self-funded cash spend was �3m higher at �1,108m. Investment in Civil Aerospace widebody and new business aviation programmes was lower following the recent entry into service of several new engine programmes. New technology investment increased by 9%, to develop technologies that underpin UltraFan in Civil Aerospace, a range of new programmes in Defence and electrification in Power Systems. R&D capitalisation of �468m was �28m lower. Capitalisation remains at a significant level due to the current development stage of several Civil Aerospace programmes but is expected to reduce in 2020 and over the coming years. The net charge to profit increased by �35m reflecting higher spend and the reduction in capitalisation.

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Profit from joint ventures and associates

Our share of results from joint ventures was �109m, �71m higher than the prior year. This was driven by increased servicing activity in overhaul bases and higher profit on disposal of engines in Rolls-Royce & Partners Finance (our engine financing joint venture).

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Operating profit up 25%

Operating profit improved by �157m on the prior year to �810m, led by the �85m increase in gross profit, higher JV profit and a �37m reduction in C&A costs, partially offset by the higher R&D charge outlined above.

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Financing costs

Financing costs increased from �(148)m in 2018 to �(223)m in 2019. Within financing costs, net interest payable of �(132)m increased by �60m largely due to the adoption of IFRS16. Other financing costs were �(91)m in 2019, modestly higher than the previous year (2018: �(76)m). Other financing costs include charges relating to the factoring of receivables and the discounting of prior year provisions.

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Taxation

The core underlying tax charge was �281m (2018: �153m), an underlying tax rate of 47.9% compared with 31.7% in 2018. This increase in rate was primarily driven by the non-recognition of a deferred tax asset on UK losses arising in 2019.

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Trent 1000

The Trent 1000 is 13% of our widebody engine fleet. We made good progress on resolving the technical issues in 2019; we have now designed eight of the nine component fixes required, seven of which have been certified. The intermediate pressure turbine fix is now fitted to almost 100% of the in-service fleet across all engine variants. The revised intermediate compressor has now been fitted to over 50% of package C engine variants and has now been certified for the Trent 1000 TEN variant with the package B planned for the second half of 2020. Roll-out of the revised high pressure turbine blade has been embodied into almost 50% of package B and C engine variants and design work for the Trent 1000 TEN high pressure turbine blade continues to progress well with certification expected in the first half of 2021.

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We continue to regret the disruption caused to our customers from these issues. We are taking further positive steps in 2020 to increase availability of spare engines and further expand maintenance capacity to reduce the number of aircraft on the ground (AOG) to below ten by the end of Q2 2020. We have seen positive results from our actions in the first two months of 2020 with aircraft on the ground reduced to the mid-30s from the elevated level of 42 in the second half of 2019, which had resulted from the proactive actions taken in autumn to retrofit the small number of remaining Package B intermediate pressure turbine modules.

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In November we announced the outcome of recent testing and a thorough technical and financial review of the Trent 1000 TEN programme following the issues identified during 2019. This resulted in a revised timeline and durability estimate for the improved Trent 1000 TEN HP turbine blade.� As a result we expect total in-service cash costs across all Trent 1000 variants of around �2.4bn across 2017-2023, consistent with the trading update in November. In 2019, �578m of cash costs were incurred, partly offset by a �173m insurance receipt. We continue to expect cash costs of �450-�550m in 2020 and a similar level in 2021, before declining significantly thereafter. These primarily comprise the cost of replacing affected parts as well as customer disruption related compensation.

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Outside of these in-service costs, we are also investing in our engineering function, further expansion of our MRO capacity and our pool of Trent 1000 spare engines. Additionally, the increased costs associated with our revised estimate for HP turbine blade durability on the Trent 1000 TEN has impacted the future margins on our Trent 1000 contracts, including a small number of contracts now becoming loss making (see below).

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As guided in November, an exceptional charge of �1,361m at underlying FX rates was recorded in 2019 on the Trent 1000 (net of �173m insurance receipts). Within this charge, �703m is due to the additional cash costs associated with customer disruption and remediation shop visits. The remaining �658m relates to the margin impact of our updated HP turbine durability expectations on the Trent 1000 TEN, primarily the up-front recognition of future losses on the small number of contracts which are now loss making, as well as related contract accounting adjustments.

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Exceptional restructuring programme

Progress was made in 2019 on our restructuring plan. To date we have achieved a net headcount reduction of around 2,900 with run-rate savings of �269m. Cash costs of �216m were incurred during the year to deliver this plan, which are reported outside of free cash flow. We continue to expect run-rate savings of ~�400m by the end of 2020 and a net headcount reduction of 4,600.

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Strategic review of Bergen

As part of our ongoing efforts to evaluate our portfolio and create a simpler, more efficient Group, today we announce the decision to carry out a strategic review of Bergen, our medium speed gas and diesel engine business. Bergen formed part of Power Systems during 2019, but from 2020 (as a result of this review) it will be reclassified as non-core. Additionally, following a reassessment of the order book, an impairment review has been completed in the second half of the year and a charge of �58m has been recorded outside underlying results in 2019. In 2019 Bergen generated sales of �239m and an underlying operating loss of �(18)m.

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A380 cessation costs

In our full year 2018 results we took a preliminary view of costs relating to Airbus' decision to close the A380 production line. During the first half of 2019 we had the opportunity to update our impact assessment and as a result recorded an additional exceptional charge of �59m. This charge has been reduced to �48m at the year-end following the release of �11m relating to supplier amounts recorded in 2018.

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IFRS 16

IFRS 16 is effective for the year beginning 1 January 2019. Commitments for operating as well as finance leases are now recognised on the balance sheet. The impact of the standard is as follows:

���� on January 1^st 2019 an additional lease liability of �2,248m and lease assets of �2,213m were recorded on the balance sheet

���� in the income statement rental payments (previously included within operating costs) are now replaced with a depreciation charge on the leased assets. Underlying financing costs on lease liabilities increased from �5m in 2018 to �77m in 2019 due to the new liability

���� there is no impact on free cash flow resulting from the implementation of IFRS 16; and

���� we estimate the overall impact of the adoption of IFRS 16 in 2019 was approximately a 2p reduction in underlying EPS

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Group Trading Summary

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Group results include core and non-core businesses. Group underlying revenues rose 7% to �15,450m, primarily driven by growth in Civil Aerospace, offsetting a (76)% decline in non-core revenue. Group underlying operating profit improved by 25% to �808m as a result of improved gross profit, lower C&A costs and higher profit from joint ventures offsetting an increased R&D charge.

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Group Funds Flow

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Free cash flow

Group free cash flow of �873m improved materially from �568m in 2018. This was driven by strong profit growth across most of our core businesses, increased engine flying hour receipts and spare parts sales in Civil Aerospace, as well as reduced capital expenditure on several capacity and facility modernisation projects which had neared completion in 2018. Trent 1000 in-service cash costs were �578m (2018: �431m), partially offset by receipt of �173m of related insurance proceeds. R&D investments increased modestly.

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In 2019 there was an inflow of �574m (2018: �1,197m) from the movement in receivables and payables, �reflecting higher trade payables due to increased trading activity, actions taken to improve overdue debt collection, together with a number of customer deposits notably in Defence. This was partly offset by a �(43)m increase in inventory (2018: �(616)m).

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We continue to strive to increase transparency around our financial performance and reported results. As part of this effort, additional information is now provided in note 14 on the sale of trade receivables. For many years, the Group has undertaken the sale of trade receivables, without recourse, to help normalise Group cash flows in line with physical delivery volumes. This practice is commonplace in the aerospace industry. Over the last three years this has averaged around �1,037m at the year-end. At 31 December 2019 �1,117m had been drawn under factoring facilities, �95m higher than December 2018, which is reflected within working capital.

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Given the one-off nature of the restructuring announced in 2018, the �(216)m cash costs relating to this restructuring programme (2018: �(70)m) are reported outside of Group free cash flow.

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¹ The derivation of the summary funds flow statement above from the reported cash flow statement is included on note 24

² Disposed entities include Commercial Marine and Power Development in 2019 and both of these plus L'Orange in 2018

³ Non-core businesses include the former Energy businesses not sold to Siemens and Civil Nuclear North America Services business

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Depreciation and amortisation

The �312m increase in depreciation and amortisation to �1,068m was largely due to an additional ~�340m charge relating to right of use assets following the adoption of IFRS 16 from 1 January 2019.

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Lease payments

Lease payments of �(319)m reflect the cash cost of leases in 2019. In 2018, prior to the adoption of IFRS 16, the equivalent lease payments were reflected within underlying operating profit. Under IFRS16 the depreciation charge is recorded in underlying operating profit. �

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Expenditure on intangible assets

Intangible asset expenditure of �(591)m was incurred in 2019. This included �(481)m of R&D capitalisation (2018: �498m) largely reflecting ongoing investment in Civil Aerospace programmes including the Trent 7000, Trent XWB and Pearl engine programmes.

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Capital expenditure on property, plant and equipment

Investment of �(747)m in 2019 reduced by �158m (2018 (�905m)) due to several capacity and modernisation programmes nearing completion in 2018. Spend in 2019 reflects our ongoing investment in manufacturing capability, projects to modernise our facilities, and spare engines to support our growing in-service fleet in Civil Aerospace.

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Change in inventory

Inventory increased by �(43)m (2018: �(616)m) in 2019 due to volume growth in Civil Aerospace and Power Systems, with a significant improvement in the second half following a �(433)m increase in H1. This H1 inventory position was driven by a high level of assembled engines and aftermarket parts held in Civil Aerospace, as well as growth in Power Systems due to programme delays, production relocation projects, and product mix. Higher delivery volumes and greater focus on supply chain management in the second half of the year drove a significant reduction in inventory, with a strong improvement in Civil Aerospace in particular.

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Change in receivables/payables�����������������������������

The change in receivables/payables of �574m in 2019 was significantly reduced year-on-year, and �reflected:

���� higher trade and other payables due to increased trading activity led by Civil Aerospace

���� a number of customer deposits, notably in Defence driven by strong order intake; and

���� an increase in trade and other receivables, which reflected volume-related growth partially offset by actions taken to reduce overdue customer receivables

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Movement in underlying Civil Aerospace net LTSA balance

The net LTSA balance represents deferred revenue and is a core part of our business model where we receive payments from our customers in respect of our long-term service and overhaul agreements. In 2019 the LTSA net balance increased by �754m. This movement included a �100m increase driven by negative contract catch-ups to revenues (2018: �303m). The underlying change net of these catch-ups was �654m. This reflected invoiced engine flying hour receipts in excess of revenue traded together with customer deposits received in the year.

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Movement in provisions

The movement in provisions of �(506)m in 2019 largely included utilisation of the Trent 1000 exceptional provision. The remainder primarily covered cash costs from onerous contracts and restructuring activity.

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Pensions

Cash contributions were in line with the profit and loss charge in 2019. There was a �(68)m year-on-year movement, reflecting the non-recurrence of a 2018 benefit from changing to quarterly payments.

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Taxation

The decrease in cash tax in 2019 from �248m to �(175)m reflected lower payments in Germany compared to 2018, largely due to timing.

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Shareholder payments

Payments to shareholders of �224m in 2019 remained in line with the prior year.

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Acquisitions and disposals

In 2019 we completed the disposals of Commercial Marine and Rolls-Royce Power Development with combined net proceeds of �453m. The �573m cash inflow in 2018 related to the disposal of the L'Orange business, previously within Power Systems. Costs of �43m were incurred in 2019 relating to the acquisition of Siemens' eAircraft business.

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Payment of financial penalties

Following the agreements reached with investigating authorities in January 2017, a payment schedule was established. No payments were due in 2018 and a �102m payment was made in 2019. In 2020 and 2021, �130m and �148m (plus interest) are due respectively. Consistent with prior years this payment is reported outside of free cash flow.

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Balance Sheet

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¹� Net working capital includes inventory, trade receivables and payables and similar assets and liabilities.

²� Net funds includes �243m (2018: �293m) of the fair value of financial instruments which are held to hedge the fair value of borrowings.

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Key drivers of balance sheet movements were:

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Intangible assets

The net increase of �164m includes R&D additions of �481m, primarily related to engine programmes in Civil Aerospace �(426)m, together with further investment in software applications of �101m. These were offset by impairment charges of �54m following the announcement of the strategic review of the Bergen business and the sale of the Civil Nuclear North America Services business in Power Systems. Amortisation for the period was �(318)m.�

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Property, plant and equipment

Following the adoption of IFRS 16, finance leased assets previously held in PPE have been transferred to right of use assets. Capital additions of �767m related to investments in maintenance, repair and overhaul (MRO) capacity in Civil Aerospace and the modernisation of facilities including our Defence facility in Indianapolis.�We also expanded our spare engine lease pool to support our growing in-service widebody engine fleet. These were offset by depreciation of �(491)m.

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Right of use assets

IFRS 16 was adopted effective 1 January 2019 resulting in the recognition of leased assets with a value of �2.2bn. See notes 1 and 25 in the consolidated financial statements for more information.

Investments in joint ventures and associates

There was no material change in our investment in joint ventures and associates year-on-year.

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Contract assets and liabilities

This represents deferred revenue and is a core part of our business model where we receive payments from our customers in respect of our long-term service and overhaul agreements. In 2019 this increased by �(1,671)m, of which �(1,211)m related to the Civil Aerospace LTSA balance. The remainder largely covered advance payments in several businesses. The movement in the Civil Aerospace LTSA balance of �(1,211)m included non-cash items of �557m, primarily related to foreign exchange and the cumulative negative impact of contract catch-ups to LTSA revenue. The change, net of these items, of �(654m) reflected invoiced engine flying hour receipts and customer deposits in excess of underlying revenue traded in the income statement.

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Working capital

Working capital increased by �127m. This reflected a financial penalty payment of �102m related to agreements reached with investigating authorities in January 2017, and a �245m reduction in working capital from the settlement of deferred consideration for the acquisition of ITP Aero. These factors offset the reduction in working capital seen in the funds flow.

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Provisions

Provisions increased by �888m largely driven by the incremental exceptional charge related to Trent 1000 disruption and related onerous contract losses, partly offset by utilisation.

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Net funds

Net funds have moved from a net cash position of �611m in FY 2018 to a net debt position of �(993)m. This was driven by the adoption of IFRS 16 Leases, which increased lease liabilities by �(2,248)m. Excluding lease liabilities, net cash stood at �1,361m at FY 2019. For other movements see funds flow commentary in note 24.

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Net financial assets and liabilities

These items principally relate to the fair value of foreign exchange, commodity and interest rate contracts. The reduction in the net liability of �840m largely reflected settlement of derivative contracts in 2019.

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Net post-retirement scheme deficits

The �(849)m movement was primarily driven by the buy-in agreement with Legal & General Assurance Society Limited, which resulted in a decrease in the surplus of the UK pension plan of around �(600)m. There were also changes in financial and demographic assumptions.

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US$ hedge book

The US hedge book at 31 December 2019 was $37bn. It extends to 2028 on a declining basis and remains sufficient to cover our medium-term requirements.

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Group Reported Results

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The changes resulting from underlying trading are described in the trading summary below.

Consistent with past practice, we provide both reported and underlying figures. As the Group does not generally hedge account for forecast transactions in accordance with IFRS 9 Financial Instruments, we believe underlying figures are more representative of the trading performance by excluding the impact of period-end mark-to-market adjustments. In particular, the USD:GBP hedge book has a significant impact on the reported results. In 2019, the GBP:USD rate rose from 1.28 to 1.32 while the GBP:EUR rose from 1.12 to 1.18. The adjustments between the underlying income statement and the reported income statement are set out in Note 2 to the Condensed Consolidated Financial Statements. This basis of presentation has been applied consistently.

See Note 2 to the Condensed Consolidated Financial Statements for further details

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The most significant items included in the reported income statement, but not in underlying are summarised below.

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1�� Foreign exchange and derivatives included the impact of the following:

���� the impact of measuring revenue and profit before financing at spot rates rather than achieved hedge rates

���� mark-to-market adjustments on the Group's net hedge book of �(7)m (2018: �(2,145)m). At each period end, our foreign exchange hedge book is included in the balance sheet at fair value ('mark-to-market') and the movement in the year included in reported financing costs; and

���� losses on derivatives settled during the period and the impact of valuation of assets and liabilities using the spot exchange rate rather than the exchange rate that is expected to be achieved by the use of the hedge book

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2�� Exceptional programme charges relating to the Trent 1000 of �1,361m and Trent 900 �48m are excluded from the underlying results. These have been explained in note 2.

3�� Included in discount rate changes is �30m relating to Trent 900 and �10m relating to Trent 1000

4�� Exceptional restructuring costs of �136m (2018: �317m). These are costs associated with the substantial closure or exit of a site, facility or activity related to the significant transformation project that the business is currently undertaking. A number of the projects within the transformation programme are for multiple years. Of the 2019 costs, �88m (2018: �223m) relate to the Group restructuring programme announced in June 2018.

5 � The loss before tax of �(32)m (2018: �20m profit) relates to the effects of acquisition accounting �171m (2018: �183m) that principally relate to the amortisation of intangible assets arising on the acquisition of Power Systems in 2013 and ITP Aero in 2017. The Group completed the sale of the Commercial Marine business to KONGSBERG on 1 April 2019 and recognised a profit of �106m in 2019. Rolls Royce Power Development Limited was sold on 15 April 2019 with a gain arising on disposal of �33m. In our 2018 financial statements, we reported an impairment charge of �155m in relation to the Commercial Marine business being disclosed as held for sale and recognised a gain on the sale of L'Orange of �358m. Together with the �183m acquisition accounting effect relating to ITP Aero this resulted in the �20m profit before tax in 2018. Further details can be found in note 23.

6����� On 26 September 2019 the Group announced the sale of the Civil Nuclear North America Services business and recognised an impairment charge and asset write offs of �26m. Following a reassessment of the Bergen order book and subsequent impairment review we have recorded a charge of �58m in 2019. Further details can be found in note 2.

7�� Following a High Court judgement in October 2018, the estimated costs of equalising UK pension benefits for men and women was recognised as a past-service charge. There is no equivalent charge in 2019.

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Tax affecting these adjustments resulted in a tax charge of �143m (2018: tax credit of �715m). The charge in 2019 is due to the non-recognition of deferred tax in respect of UK losses in the year. The 2019 charge also includes �86m relating to the derecognition of UK deferred tax assets on foreign exchange and commodity financial assets and liabilities.� In 2018 deferred tax was recognised on UK losses resulting in an overall credit in that year.

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Overview

Civil Aerospace delivered a record 510 widebody engines in 2019. We have continued to make progress reducing widebody average OE losses, down by 14% year-on-year to �1.2m. Our large engine installed fleet increased to over 5,000 engines in service, driving a 7% growth in widebody engine flying hours and a �0.3bn increase in aftermarket cash margin. 2019 saw strong revenue growth of 10% and further significant improvement in underlying operating profit for the business.

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Financial overview

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Underlying revenue

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Underlying revenue

Underlying revenue increased 10%, reflecting good growth in OE, up 4% to �3,246m and strong growth in services, up 14% to �4,861m. Large engine OE growth of 8% was driven by an increase of 41 in widebody engine delivery volumes to 510. This reflected strong growth in Trent 7000 engines for the A330neo production ramp-up.

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Large engine service revenue increased 20% to �3,205m (2018: �2,666m) driven by higher servicing volumes. Major long-term service agreement (LTSA) shop visits rose 7% to 306 and check and repair visits, led by Trent 1000 activity, increased 16% to 660. Sales of spare parts not covered by LTSAs increased year-on-year. There was also a material reduction in negative contract catch-ups to revenues.�

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In business aviation, OE sales were 5% higher with deliveries broadly stable at 219 engines (2018: 217 engines) reflecting improved mix, while service revenue increased 2%. Regional aviation service revenue increased 19% driven by the AE3007 and Tay-powered fleets. V2500 OE revenue was down 72% due to end-of-life production on the Airbus A320ceo. The 2% reduction in V2500 service revenue reflected a modest reduction in spare parts sales, with the payment from Pratt & Whitney Aero Engines International (PWAEI) relating to engine flying hours remaining stable.

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Underlying operating profit

The underlying operating profit of �44m was an improvement of �195m reflecting higher gross profit, increased profit from joint ventures and lower C&A costs more than offsetting 13% higher R&D charge.

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Gross profit improved by �121m and gross margin by 90bps. This was driven by increased servicing activity, higher spare parts sales, and a material improvement in the net impact of contract catch-ups to LTSA profits. In 2019 catch-ups had a �33m positive impact on profit (2018: �(276)m negative). This was driven by improvements in servicing costs in business aviation, which was partly offset by a reassessment of costs and utilisation across various widebody programmes. Gross profit was negatively affected by a modestly lower LTSA underlying margin due to the mix of shop visits, ~�70m of FX related headwind principally relating to the revaluation of USD creditors and deposits, and a modest impact from higher customer charges. The profit contribution from spare engine sales was relatively stable year-over-year.

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Self-funded R&D cash spend reduced by �18m to �(767)m reflecting lower investment in existing widebody and business aviation programmes and an increase in next generation technology including the UltraFan demonstrator. Net R&D capitalisation was �60m lower, driven by widebody and business aviation development programme maturity. Overall, the R&D charge to profit increased to �(374)m from �(332)m in 2018.�

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Underlying C&A costs were 11% lower year-on-year. Joint venture profit of �102m (2018: �21m) reflected increased servicing activity in overhaul bases and higher profit on disposal of engines in Rolls-Royce & Partners Finance (our engine financing joint venture).

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Trading cash flow

Civil Aerospace trading cash flow improved �201m to �419m, driven by increased flying hour receipts from our growing in-service engine fleet, increased spare parts sales and lower capital expenditure. Cash costs on Trent 1000 in-service issues of �578m (2018:�431m) were partly offset by insurance receipts of �173m.

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Cash inflow from working capital was significantly lower in 2019 notably due to the non-recurrence of a c.�400m benefit from standardisation of supplier payments in 2018. Year-on-year growth in inventory was significantly lower.

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Operational and strategic review

Our top priority in 2019 remained securing the return of the Trent 1000 fleet to full health. We made major steps forward in rolling out fixes, expanding maintenance capacity and providing additional clarity to our customers. Much more work remains to be done in 2020. Importantly, we did not allow the Trent 1000 challenge to derail the much needed transformation of our business; significant progress was also made on near-term operational improvement, and we achieved a number of milestones in our longer term strategy to become a leader in the lower carbon future of aviation.

In 2019 we delivered 510 widebody engines, in line with guidance and a record figure for Rolls-Royce. This included the successful ramp up of the Trent 7000, with 106 engines delivered compared with just 8 engines in 2018. We continued to make progress in reducing our large engine average OE unit losses, which fell by 14% to �1.2m during the year, helped by a 22% improvement on the Trent XWB-84. We continue to expect to deliver our first breakeven Trent XWB-84 by the end of 2020. Thanks to these record engine deliveries, our large engine installed base grew by 6% in 2019 and crossed the 5,000 mark to 5,029 engines.�

Overall, the performance of our fleet continues to be very strong, with invoiced engine flying hours increasing by 7% to 15.3 million. The Trent 700, the largest part of our installed base at 32%, has crossed 55 million flying hours and continues to deliver excellent performance in fuel burn, reliability and durability. The Trent XWB became our second largest Trent programme by volume in 2019, and has now flown over 5 million hours. As we highlighted in November, fleet leading Trent XWB-84 engines have reached our original expectations for time-on-wing. The Trent 7000 has made an excellent entry into service, with 80 engines now flying and a dispatch reliability of 99.9%. The Trent 1000 is 13% of our widebody fleet and we continue to work to improve durability and reduce customer disruption. To this end we announced actions to boost our maintenance capacity and add additional spare engines, with a significant investment in 2020 set to drive a ~50% increase in our Trent 1000 spare engine pool. We also gave greater certainty to customers and clarity to investors following an extensive review of the programme. Our focus is now on executing the clear plan we have to reduce aircraft on ground and return the fleet to the level of service which our customers expect.

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In business aviation, 2019 was a year of milestones. The Bombardier Global 5500 and Global 6500, both powered by our Pearl 15 engine, received EASA and FAA certification. In November, we also announced the new Pearl 700 to power the upcoming Gulfstream G700. The Pearl family now powers two airframer platforms, bolstering our position as the leader in the large cabin, long-range market.

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Our transformation and cost reduction efforts accelerated during the year, and Civil Aerospace made the largest contribution towards the group's 1,600 net headcount reduction in 2019. The removal of roles was enabled by increased use of digital technologies, largely in engineering, simplification of processes and removal of duplication.

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We are determined to seize the opportunity of becoming a leader in the provision of lower carbon air power. This means not only improving our existing gas turbine technology to be more fuel efficient with lower carbon emissions, but also pioneering future technologies that will enable a low carbon future for aviation. We reached an important milestone with design freeze on UltraFan, which will be 25% more efficient than original Trent engines and 10% more efficient than the Trent XWB, the world's most efficient large engine in service today. We also carried out successful tests of the composite fan system, a key technology enabler for UltraFan to reduce weight and increase fuel efficiency.

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On future technologies, we have taken significant steps towards increasing our capabilities in hybrid electric propulsion. During the year we acquired the eAircraft business from Siemens and achieved major milestones in three of our key electric demonstrator programmes:�����

���� In August we began ground tests of our 2.5-megawatt generator in Norway. This forms part of our E-Fan X project with Airbus, the largest hybrid aircraft demonstrator in the world

���� In November we announced a flight demonstrator based on our hybrid M250 propulsion system with APUS and the Brandenburg University of Technology, paving the way for experimental flights after 2021.

���� In December we unveiled the plane which will seek to break the speed record for an all-electric aircraft in 2020 as part of our ACCEL programme

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Outlook

During the year we booked a net widebody order intake of 213 engines. As a result, our widebody backlog at the end of 2019 was 1,978 engines, providing good visibility on our deliveries in the coming years and driving continued growth in our installed base. The long term trends supporting air traffic growth remain intact, though the outbreak of COVID-19 represents a near term macro risk. In 2019, approximately 20% of our invoiced engine flying hours were derived from the greater China region. We have a small number of tier one suppliers in the Greater China region, all of whom have resumed operations. We are in daily communication and are offering support as appropriate.

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Although currently subdued, we expect an improvement in widebody orders driven by a replacement cycle in the coming years as a growing number of aircraft reach retirement age, including Boeing 777s, Boeing 767s and older Airbus A330s. We believe we are well positioned to continue to win a large share of these orders, having captured 64% of gross order intake and 52% of net orders for widebody engines in 2019. The increase in retirements in the coming years represents a challenge for the industry, but we are favourably positioned due to the younger age distribution of our fleet relative to our competitors. The average age of our widebody in-service fleet is less than 8 years, compared to the industry average (ex. Rolls-Royce) of 13 years. As a result, we continue to expect strong growth in our installed base in the coming years, which supports growth in our engine flying hours and the widebody aftermarket cash margin.

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In 2020 we expect stable to low-single-digit sales growth in Civil Aerospace and operating margins 50-100bps higher year-over-year, despite a �100-150m reduction in the level of R&D capitalisation.

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Overview

Power Systems made good progress in 2019, with sales continuing to outgrow global GDP and gross margins improving due to operating leverage and a better product mix. We continued to advance our services strategy, with strong growth in LTSA sales a particular highlight. Order intake was good at �3,415m, a book-to-bill of 1.0x.

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Financial overview^

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^Commentary and figures exclude the Civil Nuclear North America Services business which has been treated as non-core following its disposal in February 2020

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Underlying revenue

Underlying revenue of �3,545 increased by 4%, OE revenue was up 4% driven by strong demand for mission critical power generation products, notably to serve the data centre market. This growth more than offset an expected reduction in demand from the construction & agriculture sectors, following the non-recurrence of the emissions-led pre-buy effect seen in 2018.

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Services revenue rose 4% reflecting higher spare parts sales and 6% growth in LTSAs. We continue our focus on generating greater value from our large installed base, both through a more proactive approach to spare parts sales and a greater emphasis on LTSA sales which now account for ~12% of total service revenues.

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Underlying operating profit

Underlying operating profit rose by 15% to �357m, led by revenue growth. Gross profit was 6% higher at �909m, helped by a 50bps increase in gross margins to 25.6%, due to better product mix. C&A costs of �(374)m were 4% higher year-on-year reflecting cost escalation, additional spend on digital solutions, and higher sales-related activities. The R&D charge reduced by �11m reflecting the timing of key projects, with cash spend modestly higher. In the coming years we expect R&D spend in Power Systems to increase as we ramp up activity on new programme investment and our electrification strategy.

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Operational and strategic review

Conditions across our markets were challenging in 2019. Despite this, our financial performance remained robust, supported by a strong order book. A combination of rising energy demand in developing countries and the expansion of renewable energy sources drove orders for flexible power solutions and products such as microgrids, hybrid and gas engines, electrification and energy storage.

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In 2019 we delivered 6,580 engines (excluding smaller off-highway engines). This compares to 5,976 deliveries in 2018. Our installed base increased to approximately 146,000 engines (from approximately 142,000 in 2018) which will continue to support replacement demand and drive our growing services revenue.

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Power Systems has a key role to play in our drive towards low carbon power across the Group. A number of technologies that will have applications in civil aerospace markets, notably hybrid, electric, and fuel cells, are already being developed and adopted in Power Systems. Significantly, 2019 marked the last year in which Power Systems sold only fossil fuel based power solutions as we reached several important strategic milestones on this journey, including the signing of customer contracts and framework agreements to implement hybrid engine solutions for the rail sector, where we are first to market, and the yacht market, building on our leadership position with the MTU series engines. We anticipate being first to market in both of these applications. Since October, Power Systems has been operating its own microgrid in Friedrichshafen, which provides over 30% of the energy required for the weekly running of the plant. We successfully received the first orders for our new battery container and microgrid solutions, delivering cleaner and decentralised energy. Together with Lab1886, an innovation lab within the Daimler Group, we started a pilot project to test the use of Mercedes-Benz fuel cell technology for backup power and the supply of energy to data centres. This technology will provide safe, sustainable and emission free energy to one of the world's most significant power consuming industries. Power Systems is also researching more sustainable fuels. During the year, we signed an agreement to construct a demonstration plant to produce synthetic fuels in Brandenburg, Germany.

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Continuing our push into life-cycle services, we are placing increased focus on digital services and predictive maintenance. Our digital solutions team was expanded during the year and we established a data and analytics competence centre in Munich, Germany. We also expanded our service network for Yachts in La Spezia, Italy. These actions have helped to drive a steady increase in long-term service agreements, including the signing of a 10-year agreement with Svitzer, a global towage and marine services operator.

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Expanding our geographic footprint is a key driver of our ability to outgrow underlying markets. In 2019 we successfully strengthened our position in China, signing agreements for the delivery of more than 700 MTU engines. These included the largest ever single order of MTU gas gensets to supply over 200 MTU Series 4000s to China's VPower. In India, our Force MTU Power Systems joint venture will begin local assembly of Series 1600 engines in the first half of 2020. This enables us to be closer to our customers and to reduce operating costs. In anticipation of this move we have ceased assembly of MTU Series 1600 engines in �berlingen, Germany.

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Investing in our people is vital if we are to continue to position ourselves for growth in new markets including hybrid power. To meet our need for increased electrical engineering capability, 100 mechanical engineers undertook a course in electrical engineering as part of a new project at Karlsruhe University.

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Outlook

As we enter 2020, the early indication is that conditions in a number of our end markets will remain challenging. However, we aim to outperform our markets, driven by our strategy to increase services sales and the shift towards new technologies and integrated solutions. We are also continuing our efforts to gain market share in Asia, where Power Systems has previously been underexposed. As a result, we expect to deliver low single-digit organic revenue growth in 2020 despite this challenging backdrop. We expect margins to improve again in 2020, increasing by 0-100bps as we take another step towards our medium term target of mid-teens. The outbreak of COVID-19 represents a near term macro risk. In 2019, approximately 10% of Power Systems revenues were derived from the greater China region.

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As part of our ongoing efforts to evaluate our portfolio and create a simpler, more efficient Group, we have taken the decision to carry out a strategic review of Bergen, our medium speed gas and diesel engine business. In 2019 Bergen generated revenues of �239m with an operating loss of �(18)m. From 2020 Bergen will be reported within non-core businesses and has been therefore been excluded from our guidance above.

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Overview

Defence had an excellent year for both order intake and cash flows. Record order intake and a 1.6x book-to-bill ratio helped to drive strong cash flow performance and 26% growth in the order book in 2019. Sales were broadly stable and operating profit margins declined by 110bps, as expected, driven largely by a less profitable OE mix and increased investment in R&D to support a number of major new programme opportunities in the coming years.

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Financial overview

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Underlying revenue

Underlying revenue of �3,250m was up 1% on an organic basis. OE revenue was 2% lower year-on-year driven by fewer deliveries of transport engines due to the phasing of orders, including lower volumes of Trent 700s for Multi-Role Tanker Transport (MRTT) aircraft and AE series engines for the C-130J and V-22. These were partly offset by increased volumes for LiftSystem hardware for the F-35B. Service revenue was up 4%, driven by higher LTSA volume for the AE1107 and AE2100 transport engines, together with increased time and materials (T&M) revenue from EJ200 services.

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Underlying operating profit

Underlying operating profit of �415m was �28m lower than the prior year, in line with expectations. Gross profit of �669m fell 6%, driven by the lower OE volumes in transport, particularly on the Trent 700 MRTTs, and lower LTSA margins due to the non-repeat of one-off customer settlements in the prior year.�

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A modest increase in R&D spend of �4m reflected ongoing investment to support future programmes across our Defence portfolio, with a number of attractive growth opportunities in the coming years. C&A costs were �22m lower year-on-year at �(151)m.

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Operational and strategic review

2019 was a very successful year for Defence, with record order intake, strong operational execution, and the achievement of significant milestones in our ongoing R&D projects which will position the business to grow in the coming years in both transport and combat markets.

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Our markets remained stable in 2019. The US continues to represent nearly half of the addressable defence spend globally, while the UK and Europe also remain key markets. We expect higher growth in Asia and the Middle East, driven by regional tensions. While the budget backdrop in our markets is relatively stable, we see a number of exciting programme opportunities in the coming years, notably in the Tempest combat programme in the UK and in multiple upcoming campaigns in the US market.

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Defence had a record order intake of �5.3 billion, driving 26% growth in the order book. Book-to-bill in 2019 was 1.6x, taking the cumulative book-to-bill over the last five years to 1.2x. The strength in 2019 was led by services, highlighting the demand driven by our installed base of over 16,000 engines. Key highlights included a five-year contract worth over $1bn to maintain AE1107 engines for the US Marine Corps, which have now reached the service milestone of over one million flying hours. Two UK Ministry of Defence support contracts were signed; one for Spey naval engines, and one for the maintenance of the EJ200. A multi-year spare parts order was additionally confirmed for our Adour engines in India. OE orders grew, including four Dreadnought power-plants in Submarines and a LiftFan OE order for LRIP 12 of the F-35 programme. We continued to leverage our existing installed base with the Series 3.5 upgrade kit for the T56 engine, which secured further orders from the US Air Force. Fewer than 5% of the C-130 aircraft in service with the US Air Force currently have the Series 3.5 upgrade kit fitted, presenting a significant opportunity for future orders.

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We delivered 499 aero engines in 2019. In aerospace, three Bombardier Global 6000s, powered by our BR710 engines, were delivered to the German Special Air Mission Wing and German Air Force. LiftSystem production ramped up to meet F-35B programme demand and the Boeing MQ-25 unmanned aerial refuelling tanker, powered by the AE 3007, completed its maiden flight. In maritime, our 50th MT30 gas turbine came off the production line and we delivered key early components for the first Dreadnought submarine.

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Operationally, our Submarines business implemented a management restructure, reducing complexity and aligning to the needs of the customer. We continued to invest in facilities; the revitalisation of our Indianapolis site is nearing completion while a new 24,000 sqft facility in Walpole, Massachusetts is due to be commissioned in late 2020. These actions to improve efficiency are helping us meet customer demand for cost-effective solutions while minimising the impact on our margins.��

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R&D investment stepped up in 2019 ahead of a period of important upcoming opportunities. We made good progress as part of Team Tempest, for which we are developing a power and propulsion system which will provide fully integrated power and thermal management. We were also awarded a two-year contract by the UK Ministry of Defence to develop hypersonic propulsion systems. LibertyWorks, our dedicated US defence development unit, successfully demonstrated an integrated power and thermal management system for high-power directed energy applications. We announced an agreement with Bell Helicopter to exclusively develop an optimised propulsion system for the V280 Valor. Over 50,000 hours of engineering analysis, including digital engineering, were devoted to refine our offering for the B-52 re-engining competition and early engine tests were successfully completed in Indianapolis.

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Outlook

We expect Defence to deliver stable to low-single-digit sales growth in 2020, with stable operating margins. Longer term, supported by the order intake in 2019 and the pipeline of upcoming new programme opportunities, we expect Defence growth to accelerate. ��

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Overview

ITP Aero had a strong year. Underlying revenue grew 21% year-on-year, driven by increases in both aftermarket and OE sales for civil aerospace, both on Trent and non-Rolls-Royce engine programmes. Operating profit increased materially to �111m, reflecting revenue growth and improved pricing. ITP's Aero's 2019 performance also benefitted from a change made to simplify its trading relationship and contractual terms with Civil Aerospace. This change was net neutral at Group level.

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Financial overview

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Underlying revenue

Underlying revenue was �936m, an increase of 21% over 2018. OE growth of 19% was driven by higher engine volumes on civil programmes, with ITP Aero module deliveries up 20% on Trent engine programmes and 40% higher for non-Rolls-Royce programmes. This was partially offset by a reduction in defence sales. Aftermarket revenue increased by 37% due to higher spare parts sales, largely from Rolls-Royce engine programmes. Revenues also benefitted by ~�50m from a change made to simplify ITP Aero's trading relationship and contractual terms with Civil Aerospace. This was net neutral at the Group level.

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Underlying operating profit

Operating profit increased materially, by 67% to �111m, led by higher gross profit. This increase was driven by higher OE volumes and improved pricing. Profit also benefitted by ~�25m from the change in ITP Aero's trading terms with Civil Aerospace, with a corresponding negative impact in Group eliminations. C&A costs increased by 9% to �(61)m, and R&D rose by 10% to �33m reflecting ongoing investment in aerospace programmes.

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Operational and strategic review

In November, ITP Aero celebrated its 30th anniversary. The business continued to grow, underpinned by strong positions across a range of large commercial aircraft and business jet platforms. In large commercial we delivered a 20% increase in engine module deliveries for Rolls-Royce widebody programmes and a 40% increase in deliveries to other customers. In business aviation, we continued to see growth through our positions on engine programmes including the PW800 and HTF700.

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Good progress was made during the year in the expansion of production facilities to meet rising demand for ITP Aero products. Investment included a new Externals facility in Biscay, Spain, focusing on high technology products, and the extension of the Externals facility in Queretaro, Mexico. Both sites are now open and fully operational. In addition to adding new capacity, these facilities will further improve our manufacturing efficiency, driving cost reduction across civil and defence engine programmes.

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We also achieved important technology milestones in 2019. In June the first aerodynamic tests of the intermediate pressure turbine for UltraFan were successfully carried out. UltraFan will be 25% more efficient than the first generation of Rolls-Royce Trent engines and 10% more efficient than the Trent XWB, the most efficient civil large engine in service globally. Other significant milestones in 2019 included producing the first components designed and manufactured using additive technology. Our new additive manufacturing cell in Zamudio, Spain, manufactured both the low pressure turbine seal segments for the Trent XWB-84 engine and non-structural vanes for the TP400 engine. Additionally, earlier in the year we were certified as only the second provider of servicing globally for the MTR390-E engine for the Tiger helicopter.

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At the end of the year we strengthened our Board and Management, including the promotion of Carlos Alzola to CEO and ITP Aero board member.

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Outlook�

We expect continued demand growth on newer, more fuel-efficient engine programmes in both narrowbody and widebody aircraft. We are well placed with strong positions on newer Rolls-Royce Trent engines, as well as the Pratt & Whitney 1000G engines and other non-Rolls-Royce programmes.� Longer term, we have secured participation in technology projects that will contribute significantly to sustainable aviation and efficient digital transformation of production processes. These include the Investigation and Maturation of Technologies for Hybrid Electric Propulsion (IMOTHEP), within the EU's Horizon 2020 framework, which is focused on assessing the potential of hybrid electric propulsion.

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Following the very strong performance in 2019, we expect to deliver stable sales and margin improvement of 50-100bps in 2020. Longer term the trends outlined above will drive further good growth in profitability and cash flow.