MTU Aero Engines AG

Michael Roeger - VP, IR Reiner Winkler - CEO Michael Schreyoegg - CPO

Christian Laughlin - Bernstein James Zaremba - Barclays Christophe Menard - Kepler Cheuvreux Harry Breach - Raymond James Norbert Kretlow - Commerzbank Cristian Nedelcu - UBS Alexander Hauenstein - DZ Bank Rami Myerson - Investec Tristan Sanson - Exane BNP Paribas

Good morning, everybody. Welcome to our results call also from my side.

We know that many of you are extremely busy these days, therefore we try to hold the presentation part of the call as quick as possible. I will hand over to Reiner Winkler now to start with the business highlights of Q2 2017.

Yes, hello everybody. We have seen a very encouraging market environment so far in 2017, passenger traffic increased by almost 8% and cargo traffic showed a record growth rate of about 10%.

Therefore IATA raised its passenger traffic outlook for 2017 to growth rate of 7.4%. The continuing low oil price will further stimulate the passenger traffic and gallon [ph] profits are expected to remain on peak levels.

The news from our Geared Turbofan engine, the GTF engine powering the E2 jets and the MRJ both successfully received the type certification. The FFA validation is the major milestone for the engine program as it marks enhanced to the main development phase.

The GTF engine for the A320neo was awarded with 180 minute ETOP certification by EASA this confirms that the aircraft is able to reach the nearest suitable airport within 180 minutes on a single engine operation. In May of this year, the Irkut MS-21 successfully performed its first flight.

Our commercial MRO business segment showed record sales in the seventh consecutive quarter. Michael Schreyoegg will provide you with further details later on.

In June, our Eurobond of €250 million expired. This will reduce our interest payments by more than €7 million per annum.

We are happy to provide you with an improved guidance based on our strong half year results, but let me now talk about the key financials for the first half of the year. The revenues increased by 11% to almost €2.6 billion, mainly driven by a strong aftermarket business.

As a consequence improved EBIT increased by 26% to more than €320 million, resulting in an EBIT margin of 12.6%. Net income increased by 29% to €228 million resulting in earnings per share of €4.43.

And the free cash flow was €84 million showed also a strong performance. Let me now hand over to Michael for details of our OEM and MRO business segments.

Michael please.

Okay, thank you Reiner and good morning to you. Let me start with some update on the Geared Turbofan engine programs.

Since we enter into service in January 2016 now 71 GTF powered aircraft were delivered to 13 corporators. Until now the GTF engines accumulated over 230,000 flight hours.

The dispatch liability has further improved towards 99.9%. The in service performance of the Geared Turbofan engine shows a reduction of fuel burn by about 16% and a reduction of the noise footprint by about 75%.

This is underpinned by the strong order book of more than 8,000 Geared Turbofan engines which were ordered by over 80 airline customers from more than 30 countries around the world. The retrofit program of the improved carbon oil seal configuration was completed in May and we are looking forward to gain now positive experience from this modification.

The shipment of production engines with the new combustor the so called feedstock combustor configuration is scheduled to start in the fourth quarter of this year. But we remain confident to meet the delivery commitments of 350 to 400 Geared Turbofan engines in 2017.

In the first half year we have delivered already 134 engines. Let me now provide you with an overview on the financials of the OEM segment.

The total OEM order book decreased by 13% to €6.3 billion mainly driven by the execution of contracts and U.S. dollar reevaluation.

The OEM revenues decreased slightly by 2% to €1.4 billion. The revenues of our commercial business increased by 3% to €1.2 billion, within that new engine sales in U.S.

dollar were down by a high single-digits percentage mainly due to the decline of the GTF [ph] service on engine deliveries in 2017. GTF engine deliveries are expected to be more backend loaded in to the second half of the year.

The step-up revenues, in U.S. dollar revenues were up by a high single-digit percentage key driver again was V2500 and the increased demand for older engine programs such as the CF6 and PW2000.

Military revenues were down by 28% to €173 million, the main reason were the phasing of the EJ200 deliveries and the delay of one maintenance contract for the Tornado engine RB199. We expect a partial recovery in the second half of the year and then a full recovery by 2018.

EBIT adjusted increased by 28% to €217 million, resulting in an EBIT margin of 15.3%. Let me now switch to the financials of the commercial maintenance business.

The MRO order book increased by 4% to $7.6 billion in the first six months we secured campaign wins at a value of $1.3 billion for our independent MRO business. Beginning of July we secured a new MRO contract of around $800 million, which is up to now disclosed customer.

Therefore currently we have secured campaign wins in the value of around $2 billion. Revenues increased by 32% to €1.2 billion.

Roughly 11% were driven by higher workloads. Further contributors were high material consumptions, product mix and U.S.

dollar effects. Basically all of our engine programs showed an increase, main growth drivers were the V2500 and the CF34 engines, as well as our leasing and asset management business.

EBIT adjusted improved by 23% to €104 million, resulting in an EBIT margin of 8.8%. Let me give you some more details on the strong MRO growth.

So I think that’s one question why do we now see this strong growth in the maintenance division. MTU has the largest engine maintenance portfolio worldwide with around 30 differing engine types.

We have a very strong position in volume programs such as the V2500, CFM56, CF34 and newly also with GE90. We are the number one independent maintenance provider and today’s contract wins already exceeded the record level of the full year of 2016.

We’re also very successful with our highly customized and highly integrated maintenance solutions. Our engine leasing and asset management business ramped up further since 2016.

For 2017 we expect revenues of around €100 million for the segments. This positive development increased our total MRO market share to around 11%.

The second question has been obviously, how do we manage this growth in our maintenance. We are currently adding more than 250 headcounts across of all of our MRO locations and in parallel we are increasing the working hours.

In the future we will need additional capacity for the Geared Turbofan engines. For this purpose, we construct a new facility together with Lufthansa Technique.

This new joint venture will benefit from combining volumes and sharing the investment of around €150 million. The target is to become the global cost leader in the narrow body markets.

All-in-all, we feel extremely well positioned to serve our customers and to further grow on market reach. Thank you very much.

May I now hand over back to Reiner for the outlook of 2017.

Yes, thank you Michael. With these encouraging results so far, we feel confident to update our guidance as follows; we now expect group revenues at around €5.3 billion and within that we expect military revenues to be down mid-teens, U.S.

dollar new engine sales to remain unchanged at a high single-digit growth rate. U.S.

dollar spare part sales improved to be up high single-digits and for the commercial MRO we see the improved number to be up mid to high teens. For EBIT adjusted we now expect €560 million supported by the stronger growth of our aftermarket business.

And the net income is expected to be around €390 million. For free cash flow, we expect a number of around €120 million.

So, thank you very much for your attention, and we are now ready to answer your questions.

Yes hello, three questions please. My first question is how much of a margin drag do you see from higher OE sales in the second half?

My second question is around the mismatch between the 132 GTF units that you delivered and the Airbus A320neo GTF power, which was only 16. So how much of the 134 engine that you delivered in the first half were spare or retrofit engine.

And then my last question is on the level of penalty cost that you accrue on the GTF how much did you pay in the first half and how much is included in the full year guidance? Thank you.

Maybe I start with the first question Melini. I mean we have seen 12.6% in the first half, the margin for the full year is expected to be 10.6% around that and that’s purely driven by the ramp up of the new engine deliveries in the second half so it’s pure mix effect.

Second question was number of?

The mismatch between the 134 that you delivered and the 16 that Airbus I mean 16 A320neo powered by the GTF that Airbus delivery so I mean how much of the 134 were spare or retrofit engine.

I don’t know that number, but I mean we have delivered 134 and they have delivered 16 aircrafts, but I mean the rest of 134 will be delivered shortly in July and August in the coming months. No additional mismatch.

And I think it also includes the Bombardier numbers for the…

Yes, yes no sure. Sure I was just trying to find out I mean how much of this number was actually like retrofit engine versus engine for a new plane.

We cannot disclose this number.

Okay, I was trying. I mean how much penalty cost did you had in H1 and how much is included in the full year guidance?

Which cost…

Penalty cost on the GTF.

You mean penalty cost planes or…

Yes I mean penalty cost on the GTF engine.

Okay, I think as Albert already mentioned yesterday we will not comment on this issue.

Okay, thank you.

But you tried it.

Hi, good morning gentlemen. Thank you for taking my questions, I have two.

One is related to the GTF, actually it’s a two part question, one specifically around have you found any customers at the operator level that are putting off delivery or receiving delivery of their aircraft with GTF until the new combustor liner available later this year in Q4. And then kind of related to that just in general are you observing or seeing any sort of particular patterns emerging with bottlenecks any particular point of the supply chain.

And then secondly relating to the MRO margin trends, if you could just comment a bit on what drove some of their margin erosion in this period and do you expect a bounce back within MRO in H2 and is it largely mix driven or other factors? Thanks.

Maybe I will start with the second question. I mean the slight reduction of the margin is purely driven by mix effects that means for example, if we have more shop visits with higher labor and material content.

As you know was only a small margin on that, this is the pure effect on that. And going forward what you can see the number will be roughly the same margin for the entire year.

Okay. So it’s related to labor mix versus say program mix.

Yeah it’s more it’s not program mix, it’s more content of the shop visits so higher material and labor content.

Okay.

And for the full year still between 8% and 9% margin.

And Christian on the combustor, I think we did not see any customers were stepping back by accepting the engine in order to wait for the new combustor design in H4. And also on the supply chain as I said I think pretty solid now the shift in the last month towards higher delivery in June, July is really our build to incorporate the latest and also the best configuration for the customers.

So it’s not linked to any supply chain issues.

Okay great, thank you.

Hi, good morning. Yes so I have a question about the advance payments received in relations your flight hour agreements.

The balance for advance payments received for service businesses and it grew by about €9 million in H1 versus by about €56 million in 2016. Can you comment on how we should think about the growth in these advances, as your OE deliveries grow as does the portion of deliveries on the flight hour agreement?

Thank you.

Which number you’ve referring to prepayments of…

Exactly, of advance payments on the flight hour agreements.

Mainly with respect to advance payments from flight hour agreements are included from the OEM agreements are included in liabilities for future shop visits that’s not prepayments what we have in the prepayments there is mainly for the military business and some of the independent MRO agreements where we have received prepayments. So, it’s on a liability side.

Yes, so on the liability side, I think in your annual reports say the advance payments received for service business relates to the flight hour agreement. And this number grew by about €9 million in H1 versus by about €56 million last year?

Maybe we can every clarify that in a follow-up call, James.

Okay, great. Thanks.

Yes, good morning. I had three questions.

The First one is to better understand that issue around the military sales the fact that I mean, I understand in Q1, we had delays we have another delaying in Q2. I mean, I understand from your press release it’s your Eurofighter and Tornado, but could you give us a little bit more details, why is it delayed?

I mean, what are the reasons? And also on Eurofighter just to better understand that is just a phasing impact and just to have more granularity on this.

The second question is on MRO guidance which on the slides I would assume around 15% growth in sales, but even I mean, and your comment for H1 appears to be also positive for MRO. So even if your do 0% in H2, you’ll end up at 16% growth for the full year and more or less.

So is your guidance not so also bit conservative on MRO growth in the full year. And the last question is on the just it’s more candid question about how the penalties work in the consortium, in the Geared Turbofan consortium.

I mean, just assuming function if Pratt & Whitney has to pay penalties to Airbus are you also -- I mean, is it also on the share -- on the risk and revenue agreement i.e. you’ve to pay your share or between 16% or 20% of the penalties or how does it work actually?

I just want to understand this.

Maybe will you start with the military question?

No I would like to start of the third question because that Christophe answered the question already very well. And it’s exactly as you said Christophe I mean it’s a risk and revenue share and therefore we share all the awards of the program, the rewards of the program and every dollar which come in as an income, but we share also every dollar, which is causing costs and penalties on the cost side.

One the Military side, I think on the EJ200 it’s a fewer delivery plan issue when we changed the delivery plan. So it drops out from ‘17 and is moved the deliveries are moved into the ‘18 time frame.

So not a big issue and a bit similar it sit on this maintenance contract with one of our customers where we up to now did not signed the contract. I mean, this customer is the flying the engines, we all know there will for sure need this maintenance.

So, again this also a phasing problem, contract not signed therefore work not performed and therefore no inwards issued up to now. So, it’s something where we also expect a shift into the second half and also into 2018.

And maybe on the MRO, first of all you have to have in mind that already second half of 2016 was very strong. So within ‘16 we saw quarter-by-quarter increasing numbers, the very strong Q3 and Q4.

So, the base for growth for 2017 is already higher, but to be honest yes you’re right, if you take the guidance mid to high-teens it should be more at the end of the year other end of that guidance.

Okay. And just one follow-up on the penalty aspect I was asking because my understanding your specially agreements with Pratt & Whitney on the entry cost.

So you don’t have any specially growing on the penalty or on the cost with Pratt & Whitney on that specifically.

But as we said before already, whatever happens today we have I think enough let's say is included in our guidance already. So we don’t worry about that.

Okay, thank you very much.

Good morning Reiner or Michel can you hear me?

Very well, yes.

Excellent, thank you. I've got three questions; they're all quite simple and sorry if I didn't hear things earlier.

Firstly, could you let us know what the spares growth, commercial OEM spares growth number was in dollars in the second quarter? The next question was and again this is probably just me being a little stupid.

But of the Geared Turbofan deliveries, the 134 in the first half, can you help us to understand, within that number, are you including customer deliveries on wing, customer delivery of spare engine owned by the customer and deliveries of engines that are retained by Pratt to serve as a pool of spare engines to help customers to have EFH agreements and so forth? And then just the final question guys, can you give us some sense of the year-to-date the level of firm orders and other commitments for Geared Turbofan.

The level of new commitment for the engine this year. Thank you.

Maybe I'll start with the first question. So the spare parts was based in Q2 that was similar than in Q1 2016 so in both quarters it was up high single-digits.

And that's also what we expect for the full year.

Second question was in the number of 134 engines, yes you're right. We include the number of spare engines customer owned and owned by our these organizations.

So that's the total deliveries. And the third question firm orders is as expected slow in the first half.

I think we announced it so just after Paris, I think it was around 200 Geared Turbofan engines roughly.

And guys can I just clarify, just because my understanding is very poor. And when I'm thinking about those the 134 engines, and thinking about the engines that are not delivered to customers.

So ones where the customer does not take vital for the engine either is an engine on wing or spare engine. So these are engines that are owned by the leasing organizations, you mentioned or elsewhere within the Pratt & Whitney.

Can you give me some sort of understanding of what proportion of those 134 were choose at that leasing body or kept within Pratt & Whitney to serve as a pool of spares?

We don't have the numbers here, it's a low number, but I would propose that Michael will follow up with you on this after the call. We don't have the numbers here right now.

Great, okay thank you guys. And then yes, and then you said the firm orders were slow, you said was that about 200, does that include commitments that are not yet firm orders in the first half?

Well that's just a firm commitment.

Just that's firm orders with deposit down in signature.

That’s firm orders exactly with POs.

And so there might have been some letters of intent on top that as well you think?

Yes, of course. There is a lot of undecided A320neo customers there is a huge say decision or huge amount with those customers have to decide in the coming years, which engine per model to take, which I call just committed now for the aircraft but not on the engine side.

Okay, I'll stop there. Thank you.

Okay.

Good morning ladies and gentlemen. I had two questions on the spare parts business.

The first would be has there been any change in the mix in Q2 versus say Q1 2017 or also year-over-year. I understand that V2500 should still be the main driver, but have been any mention of mix?

And the second question would be on the margin front, I understand that you do not comment on the margin levels in the spare parts business. But could you give us maybe an indication about the trends in the EBIT margin this year compared to prior year Q2, and also to Q1 2017?

So first of all there is no significant change between Q1 and Q2 this year. So between the different engine types so still V2500 is the growth driver, but the reason why we have increased the outlook for 2017 is that also some of the more mature engines like the CF6 and PW2000 are performing little bit better than originally planned.

Regarding the margin no there is no significant change between the margin. We could achieve this year compared to previous years that’s on the similar level.

Good to know. Thanks.

Hi, hello, thank you very much for taking my questions. Just two from my side, both of them on the GTF.

First of all in terms of the upgrade of the CL bearing that was implemented by UTX in April could you comment a bit on the reliability of those engines that were delivered with a fix? And secondly because I understand this is a temporary fix there would be a permanent fix that will be implemented later on the CL bearing do you have any visibility in terms of that timeline.

And the second one is related to pricing on new GTF engines as well as on long-term aftermarket contracts for the GTF, is it fair to assume that in the context of the reliability issues of the engine until now UTX is offering higher discounts on pricing on both OE and aftermarket going forward? Thank you.

Starting with your second question, I think since we have order book which takes us about eight years into the future, there is no change on pricing yet, I mean, if you order today it get to us and you will get in about six years from now or eight years from now depending on the configuration. So there is no need to make no special pricing arrangements of the future, future customer.

I think it’s a bit premature to speculate about the reliability improvements for the upgraded CLET at this stage because that just has been implemented, two months that we are into the fleet up to now I have to say the experience is very positive. If we continue with this positive experience then we have a solution.

But obviously we are also working on backup solution just as a risk mitigation plan, which we could implement at the later stage of this year.

Thank you very much.

Hello, Alexander Hauenstein. I have one question, coming back to your former statements with regard to the new combustor.

I understood that you mentioned it will start being implemented in Q4, could you give us an idea here how we should think about the incremental movements here over the months? I mean is it right to start from the 1st of October or is it something to start within the mid or maybe even at the end of the quarter, or how should we think here is that to be done in one big lot or is it done gradually?

And remind us after this combustor fix has been implemented what else apart from the final fix of the C bearing is still outstanding, is there anything to come then please remind us? Thanks.

I think after the fix on the bearing number three and now the upcoming combustor fix there is nothing which we should worry. The combustor will be implemented in one of the engine deliveries around middle of Q4 and it’s as you it’s been starting with one engine mid of Q4 for the remaining engines, which need to be delivered we will have this new combustor configuration.

Okay, thank you.

Good morning gentlemen.

Good morning.

Just on the MRO business, can you talk about your visibility into Q3 and potentially into Q4, and what the utilization looks like and you also mentioned that you were adding headcount is that in a particular geography or is that spread across the group? And lastly on the MRO trends you are seeing strong growth, but how is the mix of growth, are you seeing more wide bodies or more narrow body demand at the moment?

Thank you.

To start with the headcount, it’s mainly added in the Hannover facility the majority of that but also some in the Berlin facility and also in our Chinese joint venture. So it's -- but the majorities is an offer to keep with that for the upcoming volumes.

And there is no significant change in the mix. So I would say again the majority of the growth is coming from the V2500 and some of the on the mature engines but I would guess it's mainly V2500 and CF34 as well.

Thank you. And just on visibility?

And your question on utilization for the next quarters, I have to say that we are heavily focused also for rest of 2017 and even we have a good visibility into 2018. So less generics, which means less not sold shop lots compared to previous year.

So we are very confident looking also into ‘18 already.

Thank you.

I'm actually her colleague. I'm wondering that this liability of 99.9%.

How many engines you calculated that number? And how much is that number up since the year end?

So we have previously reported in Q1 we have reported number in the range of 99%. So it's now 99.9%.

And that's based on the engines life.

Yes and how much of it?

Yes in total it's about 56 customer aircraft which are flying day-by-day. And out of this population we calculate and on a daily basis that’s 99.9%.

That's one of the (inaudible) which we obviously follow also on a daily basis just to make sure that our customers can use the asset and that they support them in the right manner.

Okay, thanks very much.

Yes, Reiner and Mike sorry can I just ask you two other ones, there is some comment yesterday from Airbus about the rates of unscheduled engine removals. And now I understand that the unscheduled engine removal rate is not a statistic that goes into many investor presentations.

But can you give us a feel of what a normal number is on a program at an early stage. And some feeling for sort of how different the Geared Turbofan is from that?

And then secondly on a different topic an old topic. Where are we with the European Commission Inquiry, had that been anymore question has?

Can you give us a feel of where we are with that as well? Thank you.

Second question is quite easy in this no further questionnaires. So we haven't received anything there is no update available on that.

So I think no new information on that topic.

I mean on the first question that’s really a hard one to answer Harry. Simply because of the recent this is now a re-engining program on an existing platform with the brand new technology.

While on all the other developments which we have done in the last 30 years we developed new engine for new platform and then what typically happens is that the ramp up issues on the platform delay the entry into service move down the entry into service. And allow a lot of time to at the early stage fix improvement on the engine side.

So there is not a real comparison possible on this very exceptional program I have to say.

Is there any way you can -- is there any light any like because at the moment we have just a comment from Airbus saying that unscheduled engine removals are high. And I'm just trying to get some way of understanding whether in the context of this being a re-engining program.

And perhaps what you know of the unscheduled removal make for the leap. Is it high?

I don't know to be honest rate on the leap side and we are not following up. As we have to concentrate on our customers and so our customers have our technical solutions of spare engines to keep them flying, this is our real mission now.

Okay, thank you, guys.

Yes, good morning everyone. Tristan from Exane, apologize if you already answered that I had to connect a bit late to the call, I just wanted to -- just to clarify a bit again situation on the GTF and the stick that you are delivering [indiscernible] engines, tell me if I am correct you had the fix for the combustor will be available in October and you’ll start production in Q4 under retrofit or the fixing of the one in service will be done through the regular maintenance in -- on it.

So, you don’t need to do specific retrofit on it. And then on the bearing number three issue, you show you’ve a temporary fix that is underway, you’re retrofitting the engines already in service with new engines that are including that fix and you’ll phase in later in the year permanent fix that will require some retrofit as well.

The question I’ve behind that is how many aircraft -- how many engines will you still into retrofit or to repair after the overall or both fix are being phased in between October and November. Thank you.

Hello Tristan it’s Michael again I mean, on bearing three what I said before is that we have retrofit of the fleet with a fix which seems to work now since two months, very good results. And that something which we evaluate further, if this fix works, this is the permanent fix so there is no need for retrofit at all.

So in parallel it is developing alternative solution just as a risk mitigation that they have something in hand once fix number one is not working. So our prime part is to get the bearing fix on a serious solution, which has been implemented two months ago in all the engines.

And on the combust timing you’re fully right it’s a configuration which has been developed and tested as we speak by mid of Q4 we’ll equip first new engine with this combustor configuration and then we’ll continue to fly them. And if the engine comes back with the old configuration to the maintenance shops then we will change the combustor as a part of the normal maintenance operation.

And can I ask what is ruling down the progress of deliveries right now, is it down airline saying we don’t want the engine until both fix are available is it Airbus or is it Pratt & Whitney a news say that we don’t want to have these engines flying until it’s fully under of control.

Not really I think what we said is that we are delivering we have delivered a lot of engines into the backend of the first half like in June and actually also in July and now all those engines need to be installed on wings. So that’s a huge workload also for Airbus to install those engines, to flight them and then to deliver them to the customers now in August and September.

Just it’s just cannibalization of the OE plan by the retrofit market so far? And no airline or no one saying I don’t want the engine yet unit it’s refixed?

Yes, correctly, fully correct.

Okay, thank you. I’m sorry if you already answered that earlier.

Thank you very much for taking my follow-up. Just one question in terms of the moving parts of the free cash flow as we go into 2018, could you provide some color in terms of R&D, CapEx working capital and advance payments, please?

I think, hopefully you understand that for 2018 we will give the guidance at the Capital Market Day but not at the H1 results sorry for that. As in previous year, we do that towards the end of the year during the Capital Market Day which will be in December 12.

Okay, understood, thank you.

So, thank you very much for joining our call. We’re available the full day if you’ve any additional question.

So please give the IR team a moment. Have a good day.

Bye-bye.